UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2007
or
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________________ to ______________________
Commission file number: 0-18953
AAON, INC.
(Exact name of registrant as specified in its charter)
Nevada 87-0448736
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(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification No.)
2425 South Yukon, Tulsa, Oklahoma 74107
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (918) 583-2266
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.004
-----------------------------
(Title of Class)
Rights to Purchase Series A Preferred Stock
-------------------------------------------
(Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer,
as defined in Rule 405 of the Securities Act. |_| Yes |X| No
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or 15(d) of the Act. |_| Yes |X| No
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. |X| Yes |_| No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |X|
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer or a non-accelerated filer (as defined in Rule 12b-2 of the
Securities Exchange Act of 1934).
Large accelerated filer |_| Accelerated filer |X| Non-accelerated filer |_|
Indicate by check mark whether the registrant is a shell company (as
defined by Rule 12b-2 of the Act. |_| Yes |X| No
The aggregate market value of the common equity held by non-affiliates
computed by reference to the closing price of registrant's common stock on the
last business day of registrant's most recently completed second quarter (June
30, 2007) was $397.3 million.
As of February 29, 2008, registrant had outstanding a total of 18,061,272
shares of its $.004 par value Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of registrant's definitive Proxy Statement to be filed in
connection with the Annual Meeting of Stockholders to be held May 20, 2008, are
incorporated into Part III.
TABLE OF CONTENTS
Page
Item Number and Caption Number
PART I
1. Business. 1
1A. Risk Factors. 4
1B. Unresolved Staff Comments. 5
2. Properties. 6
3. Legal Proceedings. 6
4. Submission of Matters to a Vote of Security Holders. 6
PART II
5. Market for Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities. 7
6. Selected Financial Data. 9
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations. 10
7A. Quantitative and Qualitative Disclosures About Market Risk. 17
8. Financial Statements and Supplementary Data. 18
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure. 18
9A. Controls and Procedures. 18
9B. Other Information. 20
PART III
10. Directors, Executive Officers and Corporate Governance. 21
11. Executive Compensation. 21
12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters 21
13. Certain Relationships and Related Transactions. 21
14. Principal Accountant Fees and Services. 23
PART IV
15. Exhibits and Financial Statement Schedules. 24
PART I
Item 1. Business.
General Development and Description of Business
AAON, Inc., a Nevada corporation, was incorporated on August 18, 1987.
The Company (including its subsidiaries) is engaged in the manufacture and sale
of air-conditioning and heating equipment consisting of standardized and custom
rooftop units, chillers, air-handling units, make-up air units, heat recovery
units, condensing units, coils and boilers.
Products and Markets
The Company's products serve the commercial and industrial new construction and
replacement markets. To date virtually all of the Company's sales have been to
the domestic market, with foreign sales accounting for less than 5% of its sales
in 2007.
The rooftop and condenser markets consist of units installed on commercial or
industrial structures of generally less than 10 stories in height. Air-handling
units, chillers, coils and boilers are applicable to all sizes of commercial and
industrial buildings.
The size of these markets is determined primarily by the number of commercial
and industrial building completions. The replacement market consists of products
installed to replace existing units/components that are worn or damaged.
Historically, approximately half of the industry's market has consisted of
replacement units.
The commercial and industrial new construction market is subject to cyclical
fluctuations in that it is generally tied to housing starts, but has a lag
factor of 6-18 months. Housing starts, in turn, are affected by such factors as
interest rates, the state of the economy, population growth and the relative age
of the population. When new construction is down, the Company emphasizes the
replacement market.
Based on its 2007 level of sales of $263 million, the Company estimates that it
has a 13% share of the rooftop market and a 1% share of the coil market.
Approximately 55% of the Company's sales now come from new construction and 45%
from renovation/replacements. The percentage of sales for new construction vs.
replacement to particular customers is related to the customer's stage of
development.
The Company purchases certain components, fabricates sheet metal and tubing and
then assembles and tests its finished products. The Company's primary finished
products consist of a single unit system containing heating, cooling and/or heat
recovery components in a self-contained cabinet, referred to in the industry as
"unitary" products. The Company's other finished products are coils consisting
of a sheet metal casing with tubing and fins contained therein, air-handling
units consisting of coils, blowers and filters, condensing units consisting of
coils, fans and compressors, which, with the addition of a refrigerant-to-water
heat exchanger, become chillers, make-up air units, heat recovery units and
boilers consisting of boilers and a sheet metal cabinet.
With regard to its standardized products, the Company currently has five groups
of rooftop units: its HB Series consisting of four cooling sizes ranging from
two to five tons; its RM and RN Series offered in 21 cooling sizes ranging from
two to 70 tons; its RL Series, which is offered in 15 cooling sizes ranging from
40 to 230 tons; and its HA Series, which is a horizontal discharge package for
either rooftop or ground installation, offered in eight sizes ranging from seven
and one-half to 50 tons. The Company also produces customized rooftop products
with direct (MN Series) and indirect (DT Series) heating in sizes as required.
The Company manufactures a Model LL chiller, which is available in both
air-cooled condensing and evaporative cooled configurations.
-1-
The Company's air-handling units consist of the F1 and H/V Series, the modular
(M2 and M3) Series and a customized NJ Series.
The Company's heat recovery option applicable to its RM, RN and RL units, as
well as its M2, M3 and NJ Series air handlers, respond to the U.S. Clean Air Act
mandate to increase fresh air in commercial structures. The Company's products
are designed to compete on the higher quality end of standardized products.
Performance characteristics of its products range in cooling capacity from
28,000-4,320,000 BTU's and in heating capacity from 69,000-6,000,000 BTU's. All
of the Company's products meet the Department of Energy's efficiency standards,
which define the maximum amount of energy to be used in producing a given amount
of cooling.
A typical commercial building installation requires a ton of air-conditioning
for every 300-400 square feet or, for a 100,000 square foot building, 250 tons
of air-conditioning, which can involve multiple units.
The Company has developed and is beginning to market a residential condensing
unit (CB Series) and air handlers (F1 Series) as well as boilers (BL Series).
Major Customers
No customer accounted for 10% of the Company's sales during 2007, 2006 or 2005.
Sources and Availability of Raw Materials
The most important materials purchased by the Company are steel, copper and
aluminum, which are obtained from domestic suppliers. The Company also purchases
from other domestic manufacturers certain components, including compressors,
electric motors and electrical controls used in its products. The Company
endeavors to obtain the lowest possible cost in its purchases of raw materials
and components, consistent with meeting specified quality standards. The Company
is not dependent upon any one source for its raw materials or the major
components of its manufactured products. By having multiple suppliers, the
Company believes that it will have adequate sources of supplies to meet its
manufacturing requirements for the foreseeable future.
The Company attempts to limit the impact of increases in raw materials and
purchased component prices on its profit margins by negotiating with each of its
major suppliers on a term basis from six months to one year. However, in each of
the last three years cost increases in basic commodities, such as steel, copper
and aluminum, negatively impacted profit margins.
Distribution
The Company employs a sales staff of 20 individuals and utilizes approximately
91 independent manufacturer representatives' organizations having 106 offices to
market its products in the United States and Canada. The Company also has one
international sales organization, which utilizes 12 distributors in other
countries. Sales are made directly to the contractor or end user, with shipments
being made from the Company's Tulsa, Oklahoma; Longview, Texas; and Burlington,
Ontario, Canada plants to the job site. Billings are to the contractor or end
user, with a commission paid directly to the manufacturer representative.
The Company's products and sales strategy focus on "niche" markets. The targeted
markets for its equipment are customers seeking products of better quality than
offered, and/or options not offered, by standardized manufacturers.
To support and service its customers and the ultimate consumer, the Company
provides parts availability through its 106 sales offices and has factory
service organizations at each of its plants. Also, a number of the manufacturer
representatives utilized by the Company have their own service organizations,
which, together with the Company, provide the necessary warranty work and/or
normal service to customers.
-2-
The Company's warranty on its products is: for parts only, the earlier of one
year from the date of first use or 18 months from date of shipment; compressors
(if applicable), an additional four years; on gas-fired heat exchangers (if
applicable), 15 years; and on stainless steel heat exchangers (if applicable),
25 years.
Research and Development
All R&D activities of the Company are company-sponsored, rather than
customer-sponsored. R&D has involved the HB, RM, RN, RL, NJ, DT and MN (rooftop
units), F1, H/V, M2, M3 and NJ (air handlers), LL (chillers), CB (condensing
units) and BL (boilers), as well as component evaluation and refinement,
development of control systems and new product development. The Company incurred
research and development expenses of approximately $2,483,000, $1,974,000 and
$1,681,000 in 2007, 2006 and 2005.
Backlog
The Company had a current backlog as of March 1, 2008, of approximately
$51,365,000 compared to $62,798,000 at March 1, 2007. The current backlog
consists of orders considered by management to be firm and substantially all of
which will be filled by August 1, 2008; however, the orders are subject to
cancellation by the customers.
Working Capital Practices
Working capital practices in the industry center on inventories and accounts
receivable. The Company regularly reviews its working capital with a view to
maintaining the lowest level consistent with requirements of anticipated levels
of operation. The Company's greatest needs arise during the months of
July-November, the peak season for inventory (primarily purchased material) and
accounts receivable. The Company's working capital requirements are generally
met by cash flow from operations and a bank revolving credit facility, which
currently permits borrowings up to $15,150,000. The Company believes that it
will have sufficient funds available to meet its working capital needs for the
foreseeable future. The Company expects to renew its revolving credit agreement
in July 2008.
Seasonality
Sales of the Company's products are moderately seasonal with the peak period
being July-November of each year.
Competition
In the standardized market, the Company competes primarily with Trane Company, a
division of Ingersoll-Rand Company Limited, Lennox International, Inc., Mestek
Inc, LSB Industries and Carrier Corporation, a subsidiary of United Technologies
Corporation. All of these competitors are substantially larger and have greater
resources than the Company. In the custom market, the Company competes with many
larger and smaller manufacturers. The Company competes on the basis of total
value, quality, function, serviceability, efficiency, availability of product,
product line recognition and acceptability of sales outlet. However, in new
construction where the contractor is the purchasing decision maker, the Company
often is at a competitive disadvantage on sales of its products because of the
emphasis placed on initial cost; whereas, in the replacement market and other
owner-controlled purchases, the Company has a better chance of getting the
business since quality and long-term cost are generally taken into account.
Employees
As of March 1, 2008, the Company had 1,313 permanent employees and 78 temporary
employees, none of whom is represented by unions. Management considers its
relations with its employees to be good.
-3-
Patents, Trademarks, Licenses and Concessions
The Company does not consider any patents, trademarks, licenses or concessions
held by it to be material to its business operations, other than patents issued
regarding its heat recovery wheel option, blower, gas-fired heat exchanger and
evaporative condenser desuperheater.
Environmental Matters
Laws concerning the environment that affect or could affect the Company's
domestic operations include, among others, the Clean Water Act, the Clean Air
Act, the Resource Conservation and Recovery Act, the Occupational Safety and
Health Act, the National Environmental Policy Act, the Toxic Substances Control
Act, regulations promulgated under these Acts, and any other federal, state or
local laws or regulations governing environmental matters. The Company believes
that it presently complies with these laws and that future compliance will not
materially adversely affect the Company's earnings or competitive position.
Available Information
The Company's Internet website address is http://www.aaon.com. Its annual
reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form
8-K and amendments to those reports filed or furnished pursuant to Section 13(a)
or 15(d) of the Exchange Act of 1934 will be available through the Company's
Internet website as soon as reasonably practical after the Company
electronically files such material with, or furnishes it to, the SEC.
Item 1A. Risk Factors.
The following risks and uncertainties may affect the Company's performance and
results of operations.
Our business can be hurt by an economic downturn.
Our business is affected by a number of economic factors, including the level of
economic activity in the markets in which we operate. A decline in economic
activity in the United States could materially affect our financial condition
and results of operations. Sales in the commercial and industrial new
construction markets correlate closely to the number of new homes and buildings
that are built, which in turn is influenced by cyclical factors such as interest
rates, inflation, consumer spending habits, employment rates and other
macroeconomic factors over which we have no control. In the Heating,
Ventilation, and Air Conditioning ("HVAC") business, a decline in economic
activity as a result of these cyclical or other factors typically results in a
decline in new construction and replacement purchases, which would result in a
decrease in our sales volume and profitability.
We may be adversely affected by problems in the availability, or increases in
the prices, of raw materials and components.
Problems in the availability, or increases in the prices, of raw materials or
components could depress our sales or increase the costs of our products. We are
dependent upon components purchased from third parties, as well as raw materials
such as steel, copper and aluminum. We enter into cancelable contracts on terms
from six months to one year for raw materials and components at fixed prices.
However, if a key supplier is unable or unwilling to meet our supply
requirements, we could experience supply interruptions or cost increases, either
of which could have an adverse effect on our gross profit.
We may not be able to successfully develop and market new products.
Our future success will depend upon our continued investment in research and new
product development and our ability to continue to realize new technological
advances in the HVAC industry. Our inability to continue to successfully develop
and market new products or our inability to achieve technological advances on a
pace consistent with that of our competitors could lead to a material adverse
effect on our business and results of operations.
-4-
We may incur material costs as a result of warranty and product liability claims
that would negatively affect our profitability.
The development, manufacture, sale and use of our products involve a risk of
warranty and product liability claims. Our product liability insurance policies
have limits that, if exceeded, may result in material costs that would have an
adverse effect on our future profitability. In addition, warranty claims are not
covered by our product liability insurance and there may be types of product
liability claims that are also not covered by our product liability insurance.
We may not be able to compete favorably in the highly competitive HVAC business.
Competition in our various markets could cause us to reduce our prices or lose
market share, or could negatively affect our cash flow, which could have an
adverse effect on our future financial results. Substantially all of the markets
in which we participate are highly competitive. The most significant competitive
factors we face are product reliability, product performance, service and price,
with the relative importance of these factors varying among our product line.
Other factors that affect competition in the HVAC market include the development
and application of new technologies and an increasing emphasis on the
development of more efficient HVAC products. Moreover, new product introductions
are an important factor in the market categories in which our products compete.
Several of our competitors have greater financial and other resources than we
have, allowing them to invest in more extensive research and development. We may
not be able to compete successfully against current and future competition and
current and future competitive pressures faced by us may materially adversely
affect our business and results of operations.
The loss of Norman H. Asbjornson could impair the growth of our business.
Norman H. Asbjornson, the founder of AAON, Inc., has served as the President and
Chief Executive Officer of the Company from inception to date. He has provided
the leadership and vision for our growth. Although important responsibilities
and functions have been delegated to other highly experienced and capable
management personnel, our products are technologically advanced and well
positioned for sales into the future and we carry key man insurance on Mr.
Asbjornson, his death, disability or retirement, could impair the growth of our
business. We do not have an employment agreement with Mr. Asbjornson.
Our stockholder rights plan and some provisions in our bylaws and Nevada law
could delay or prevent a change in control.
Our stockholder rights plan and some provisions in our bylaws and Nevada law
could delay or prevent a change in control, which could adversely affect the
price of our common stock.
AAON's business is subject to the risks of interruptions by problems such as
computer viruses.
Despite our company's implementation of network security measures, its services
are vulnerable to computer viruses, break-ins and similar disruptions from
unauthorized tampering with its computer systems. Any such event could have a
material adverse affect on our business.
Exposure to environmental liabilities could adversely affect our results of
operations.
Our future profitability could be adversely affected by current or future
environmental laws. We are subject to extensive and changing federal, state and
local laws and regulations designed to protect the environment in the United
States and in other parts of the world. These laws and regulations could impose
liability for remediation costs and result in civil or criminal penalties in
case of non-compliance. Compliance with environmental laws increases our costs
of doing business. Because these laws are subject to frequent change, we are
unable to predict the future costs resulting from environmental compliance.
Item 1B. Unresolved Staff Comments.
None.
-5-
Item 2. Properties.
The plant and office facilities in Tulsa, Oklahoma, consist of a 337,000 square
foot building (322,000 sq. ft. of manufacturing/warehouse space and 15,000 sq.
ft. of office space) located on a 12-acre tract of land at 2425 South Yukon
Avenue (the "original facility"), and a 563,000 square foot
manufacturing/warehouse building and a 22,000 square foot office building (the
"expansion facility") located on a 40-acre tract of land across the street from
the original facility (2440 South Yukon Avenue). Both plants are of sheet metal
construction.
The original facility's manufacturing area is in a heavy industrial type
building, with total coverage by bridge cranes, containing manufacturing
equipment designed for sheet metal fabrication and metal stamping. The
manufacturing equipment contained in the original facility consists primarily of
automated sheet metal fabrication equipment, supplemented by presses, press
breaks and NC punching equipment. Assembly lines consist of four cart-type
conveyor lines with variable line speed adjustment, three of which are motor
driven. Subassembly areas and production line manning are based upon line speed.
The manufacturing facility is 1,140 feet in length and varies in width from 390
feet to 220 feet. The expansion facility is 39% (228,000 sq. ft.) utilized by
the Company and 61% leased to a third party. The Company uses 22,000 sq. ft. for
office space, 20,000 sq. ft. for warehouse space and 80,000 sq. ft. for two
production lines; an additional 106,000 square feet is utilized for sheet metal
fabrication. The remaining 357,000 sq. ft. (presently leased) will afford the
Company additional plant space for long-term growth.
The Company's operations in Longview, Texas, are conducted in a plant/office
building at 203-207 Gum Springs Road, containing 258,000 sq. ft. on 14 acres.
The manufacturing area (approximately 251,000 sq. ft.) is located in three
120-foot wide sheet metal buildings connected by an adjoining structure. The
facility is built for light industrial manufacturing. An additional, contiguous
15 acres were purchased in 2004 and 2005 for future expansion.
The Company's operations in Burlington, Ontario, Canada, are located at 279
Sumach Drive, consisting of an 82,000 sq. ft. office/manufacturing facility on a
5.6 acre tract of land.
Production at these facilities averaged approximately $21.9 million per month in
2007, which is approximately 62% of the estimated current production capacity.
Management deems its facilities to be nearly ideal for the type of products
being manufactured by the Company.
Item 3. Legal Proceedings.
The Company is not a party to any pending legal proceeding which management
believes is likely to result in a material liability and no such action is
contemplated by or, to the best of its knowledge, has been threatened against
the Company.
Item 4. Submission of Matters to a Vote of Security Holders.
No matter was submitted to a vote of security holders, through solicitation of
proxies or otherwise, during the period from October 1, 2007, through December
31, 2007.
-6-
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.
The Company's Common Stock is traded on the NASDAQ National Market under the
symbol "AAON". The range of closing prices for the Company's Common Stock during
the last two years, as reported by National Association of Securities Dealers,
Inc., was as follows:
Quarter Ended High (1) Low (1)
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March 31, 2006 $15.94 $12.07
June 30, 2006 $19.02 $13.97
September 30, 2006 $17.87 $14.27
December 31, 2006 $19.34 $14.32
March 31, 2007 $19.67 $16.46
June 30, 2007 $21.38 $16.47
September 30, 2007 $23.01 $18.61
December 31, 2007 $21.96 $16.60
-------------------
(1) All prices adjusted to reflect a 3 for 2 stock split effected
August 21, 2007
On February 29, 2008, there were 735 holders of record, and 2,860 beneficial
owners, of the Company's Common Stock.
On February 14, 2006, the Board of Directors voted to initiate a semi-annual
cash dividend of $0.20 per share to the holders of the outstanding Common Stock
of the Company to be declared at dates of the Board's discretion. In 2007,
dividends were declared to shareholders of record at the close of business on
June 11, 2007 and paid on July 2, 2007 and declared to shareholders of record at
the close of business on December 13, 2007 and paid on January 3, 2008.
Following the 3 for 2 stock split in August 2007 (which was effected by means of
a 50% stock dividend), the Board voted to increase the post-split dividend by
20% to $0.16 per share. The Company paid cash dividends of approximately
$4,998,000 and declared dividends payable of approximately $2,943,000 for the
year ended December 31, 2007.
Following repurchases of approximately 12% of its outstanding Common Stock
between September 1999 and September 2001, the Company announced and began
another stock repurchase program on October 17, 2002, targeting repurchases of
up to approximately 1,987,500 shares of its outstanding stock. On February 14,
2006, the Board of Directors approved the suspension of the Company's repurchase
program. Through December 31, 2006, the Company had repurchased a total of
1,886,796 shares under this program for an aggregate price of $22,034,568, or an
average of $11.68 per share. The Company purchased the shares at the current
market price.
On November 6, 2007, the Board authorized a new stock buyback program, targeting
repurchases of up to approximately 10% (1.8 million shares) of the outstanding
stock of the Company from time to time in open market transactions at prevailing
market prices. Between November 6, 2007 and December 31, 2007, the Company
repurchased a total of 690,300 shares under this program for an aggregate price
of $13,012,199, or an average of $18.85 per share.
On July 1, 2005, the Company entered into a stock repurchase arrangement by
which employee-participants in AAON's 401(k) savings and investment plan are
entitled to have shares of AAON stock in their accounts sold to the Company to
provide diversification of their investments. The maximum number of shares to be
repurchased is unknown under the program as the amount is contingent on the
number of shares sold by employees. Through December 31, 2007, the Company
repurchased 501,075 shares for an aggregate price of $7,712,287, or an average
price of $15.39 per share. The Company purchases the shares at the current
market price.
-7-
On November 7, 2006, the Board of Directors authorized the Company to repurchase
shares from certain directors following their exercise of stock options. The
maximum number of shares to be repurchased is unknown under the program as the
amount is contingent on the number of shares sold by directors. Through December
31, 2007, the Company repurchased 260,625 shares for an aggregate price of
$5,232,188, or an average price of $20.08 per share. The Company purchases the
shares at the current market price.
Repurchases during the fourth quarter of 2007 were as follows:
ISSUER PURCHASES OF EQUITY SECURITIES
(d)
(a) (c) Maximum Number (or
Total (b) Total Number of Approximate Dollar
Number of Average Shares (or Units) Value) of Shares (or
Period Shares (or Price Paid Purchased as Part of Units) that May Yet
Units) Per Share Publicly Announced Be Purchased Under
Purchased (or Unit) Plans or Programs the Plans or Programs
---------------------------------- ------------ ----------- ---------------------- -----------------------
Month #1 - October 1-31, 2007 20,303 $18.60 20,303 -
Month #2 - November 1-30, 2007 372,688 $18.50 372,688 -
Month #3 - December 1-31,2007 330,747 $19.27 330,747 -
----------------------------------------------------------------------------------------------------------------------
Total 723,738 $18.85 723,738 -
======================================================================================================================
Stock Performance Graph (1)
The following graph compares the cumulative total shareholder return of the
Company, the NASDAQ Composite and its peer group named below. The graph assumes
a $100 investment at the closing price on January 1, 2002, and reinvestment of
dividends on the date of payment without commissions. This table is not intended
to forecast future performance of the Company's Common Stock.
Comparison of 5 Year Cumulative Total Return
Among AAON, Inc., NASDAQ Composite and Peer Group*
2002 2003 2004 2005 2006 2007
---- ---- ---- ---- ---- ----
AAON INC Return % 5.31 -17.21 11.25 48.10 14.04
Cum $ 100.00 105.31 87.19 96.99 143.64 163.81
NASDAQ Composite Return % 50.79 9.16 2.12 10.39 13.87
- Total Returns Cum $ 100.00 150.79 164.60 168.08 185.55 211.29
Peer Group Return % 52.85 12.66 8.34 14.02 27.88
Cum $ 100.00 152.85 172.19 186.55 212.70 272.01
-8-
* The peer group consists of Trane, Inc.; Lennox International, Inc.; Mestek,
Inc.; LSB Industries, Inc.; and United Technologies Corporation, all of which
are in the business of manufacturing air conditioning and heat exchange
equipment.
(1) Securities and Exchange Commission ("SEC") filings sometimes
"incorporate information by reference." This means the Company is
referring you to information that has previously been filed with the
SEC, and that this information should be considered as part of the
filing you are reading. Unless the Company specifically states
otherwise, this Stock Performance Graph shall not be deemed to be
incorporated by reference and shall not constitute soliciting material
or otherwise be considered filed under the Securities Act of 1933 as
amended, or the Securities Exchange act of 1934, as amended.
Item 6. Selected Financial Data.
The following selected financial data should be read in conjunction with the
financial statements and related notes thereto for the periods indicated which
are included elsewhere in this report.
Year Ended December 31,
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Results of Operations: 2007 2006 2005 2004 2003
---- ---- ---- ---- ----
(in thousands, except per share data)
Net sales $ 262,517 $ 231,460 $ 185,195 $ 171,885 $ 147,890
Net income $ 23,156 $ 17,133 $ 11,462 $ 7,521 $ 14,227
Earnings per share:
Basic $ 1.24 $ 0.93 $ 0.62 $ 0.40 $ 0.75
Diluted $ 1.22 $ 0.90 $ 0.60 $ 0.39 $ 0.72
Cash dividends declared
per common share $ 0.32 $ 0.32 $ - $ - $ -
Weighted average shares
outstanding:
Basic 18,628 18,456 18,510 18,653 19,027
Diluted 18,927 18,968 19,125 19,385 19,877
December 31,
------------------------------------------------------------------------------------------------------------------
Financial Position at End of
Fiscal Year: 2007 2006 2005 2004 2003
---- ---- ---- ---- ----
(in thousands)
Working Capital $ 38,788 $ 36,356 $ 33,372 $ 27,939 $ 35,369
Total assets $ 137,140 $ 130,056 $ 113,606 $ 105,227 $ 102,085
Long-term and Current debt $ 330 $ 59 $ 167 $ 275 $ -
Total stockholders' equity $ 95,420 $ 91,592 $ 79,495 $ 71,171 $ 67,428
Basic earnings per common share were computed by dividing net income by the
weighted average number of shares of common stock outstanding during the
reporting period. Diluted earnings per common share were determined on the
assumed exercise of dilutive options, as determined by applying the treasury
stock method. Effective August 21, 2007, the Company completed a three-for-two
stock split. The shares outstanding and earnings per share disclosures have been
restated to reflect the stock split.
-9-
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Overview
AAON engineers, manufactures and markets air-conditioning and heating equipment
consisting of standardized and custom rooftop units, chillers, air-handling
units, make-up units, heat recovery units, condensing units, coils and boilers.
Custom units are marketed and sold to retail, manufacturing, educational,
medical and other commercial industries. AAON markets units to all 50 states in
the United States and certain provinces in Canada. Foreign sales are less than
5% of the Company's 2007 sales as the majority of all sales are domestic.
AAON sells its products to property owners and contractors through a network of
manufacturers' representatives and its internal sales force. Demand for the
Company's products is influenced by national and regional economic and
demographic factors. The commercial and industrial new construction market is
subject to cyclical fluctuations in that it is generally tied to housing starts,
but has a lag factor of 6-18 months. Housing starts, in turn, are affected by
such factors as interest rates, the state of the economy, population growth and
the relative age of the population. When new construction is down, the Company
emphasizes the replacement market.
The principal components of cost of goods sold are labor, raw materials,
component costs, factory overhead, freight out and engineering expense. The
principal raw materials used in AAON's manufacturing processes are steel, copper
and aluminum. Prices increased by approximately 50% for steel, 75% for aluminum
and 190% for copper from 2005 to 2007. The increases resulted in economic
challenges to AAON. AAON reviewed and adjusted current pricing strategies,
created efficiencies in production, and continued relationships with suppliers
in order to mitigate the economic factors of increasing commodity prices. The
major component costs include compressors, electric motors and electronic
controls, which also increased due to increases in commodities.
Selling, general, and administrative ("SG&A") costs include the Company's
internal sales force, warranty costs, profit sharing and administrative expense.
Warranty expense is estimated based on historical trends and other factors. The
Company's warranty on its products is: for parts only, the earlier of one year
from the date of first use or 18 months from date of shipment; compressors (if
applicable), an additional four years, on gas-fired heat exchangers (if
applicable), 15 years, and on stainless steel heat exchangers (if applicable),
25 years. Warranty charges on heat exchangers do not occur frequently.
The office facilities of AAON, Inc. consist of a 337,000 square foot building
(322,000 sq. ft. of manufacturing/warehouse space and 15,000 sq. ft. of office
space) located at 2425 S. Yukon Avenue, Tulsa, Oklahoma (the "original
facility"), and a 563,000 square foot manufacturing/warehouse building and a
22,000 square foot office building (the "expansion facility") located across the
street from the original facility at 2440 S. Yukon Avenue. The Company utilizes
39% of the expansion facility and the remaining 61% is leased to a third party.
Other operations are conducted in a plant/office building at 203-207 Gum Springs
Road in Longview, Texas, containing 258,000 square feet (251,000 sq. ft. of
manufacturing/warehouse and 7,000 sq. ft. of office space). An additional 15
acres of land was purchased for future expansion in 2004 and 2005 in Longview,
Texas.
The Company's operations in Burlington, Ontario, Canada, are located at 279
Sumach Drive, consisting of an 82,000 sq. ft. office/manufacturing facility on a
5.6 acre tract of land.
-10-
Set forth below is income statement information and as a percentage of sales
with respect to the Company for years 2007, 2006 and 2005:
Year Ended December 31,
2007 2006 2005
---- ---- ----
(in thousands)
Net sales $ 262,517 100.0% $ 231,460 100.0% $ 185,195 100.0%
Cost of sales 205,148 78.1% 187,570 81.0% 149,904 81.0%
--------------- ---------- --------------- ---------- --------------- ----------
Gross profit 57,369 21.9% 43,890 19.0% 35,291 19.0%
Selling, general and
administrative expenses 21,703 8.3% 18,059 7.8% 17,477 9.4%
--------------- ---------- --------------- ---------- --------------- ----------
Income from operations 35,666 13.6% 25,831 11.2% 17,814 9.6%
--------------- ---------- --------------- ---------- --------------- ----------
Interest expense (10) 0.0% (81) 0.0% (16) 0.0%
Interest income 8 0.0% 24 0.0% 67 0.0%
Other income (expense), net (321) (0.1%) 424 0.1% 467 0.3%
--------------- ---------- --------------- ---------- --------------- ----------
Income before income taxes 35,343 13.5% 26,198 11.3% 18,332 9.9%
Income tax provision 12,187 4.7% 9,065 3.9% 6,870 3.7%
--------------- ---------- --------------- ---------- --------------- ----------
Net income $ 23,156 8.8% $ 17,133 7.4% $ 11,462 6.2%
=============== ========== =============== ========== =============== ==========
Results of Operations
Key events impacting AAON's cash balance, financial condition, and results of
operations in 2007 include the following:
o An increase in the volume of sales on all product lines due to
commercial construction growth and market share gains, and effective
moderation of commodity costs with purchase agreements and pricing
strategies affecting gross margin, positively resulted in
significantly higher revenues and net income. The large volume of
sales also lowered the effect of major fixed costs in general and
administrative expenses and occupancy expenses.
o AAON remained the leader in the industry for environmentally-friendly,
energy efficient and quality innovations, utilizing R410A refrigerant
and phasing out pollutant causing R22 refrigerant. The phase out of
R22 began at the beginning of 2004. AAON also utilizes a high
performance composite foam panel to eliminate over half of the heat
transfer from typical fiberglass insulated panels. AAON continues to
utilize sloped condenser coils, and access compartments to filters,
motor, and fans. All of these innovations increase the demand for
AAON's products thus increasing market share.
o In February 2006, the Board of Directors initiated a program of
semi-annual cash dividend payments. Cash payments of $5.0 million were
made in 2007 ($2.5 million paid in January and July 2007,
respectively), and $2.9 million was accrued as a liability for payment
in January 2008.
o Stock repurchases of AAON stock from employee's 401(k) savings and
investments plan was authorized in 2005. Stock repurchases of AAON
stock from directors was authorized in 2006. Stock repurchases of AAON
stock from the open market was authorized and initiated in November
2007. Total repurchases resulted in cash payments of $20.8 million.
This cash outlay is partially offset by cash received from options
exercised by employees as a part of an incentive bonus program. The
cash received in 2007 from options exercised was $2.4 million.
o Borrowings under the line of credit were $12.1 million and
approximately $10,000 in interest expense was paid in 2007. Borrowings
under the line of credit where interest is accrued are relatively
short and generally paid off within the month incurred or the
following month. At the end of 2007 there were no borrowings owed on
the line of credit.
o Purchases of equipment and renovations to manufacturing facilities
remained a priority. AAON's capital expenditures were $10.9 million.
Equipment purchases create significant efficiencies, lower production
costs and allow continued growth in production. The Company currently
estimates to dedicate $7.0 to $10.0 million to capital expenditures in
2008 for continued growth.
-11-
Net Sales
Net sales were $262.5 million, $231.5 million and $185.2 million in 2007, 2006
and 2005. The highest level of sales occurred in 2007. This increase in sales of
$31.0 million or 13.4% was attributable to an increase in volume of product sold
related to the Company's new and redesigned products being favorably received by
its customers, active marketing by sales representatives and pricing strategies
implemented on 90% of the Company's product lines in the second quarter in order
to keep up with increasing raw materials costs. New commercial construction
steadily improved throughout 2007 and 2006, contributing to growth of the
market. The increase in sales in 2006 of $46.3 million or 25% was attributable
to both volume and price increases. The increased sales were offset by computer
and electrical outages that caused the closing of the Tulsa facility for four
days. Management anticipates continued growth throughout 2008.
Gross Profit
Gross margins in 2007, 2006 and 2005 were $57.4 million, $43.9 million and $35.3
million, respectively. As a percentage of sales, gross margins were 21.9%, 19.0%
and 19.0% for the years ended 2007, 2006 and 2005. The increase in gross profit
for 2007, resulted from pricing strategies becoming fully utilized and
production and labor efficiencies, as sales volume increased. The Company saw a
leveling off of raw material increases in the first half of the year, which also
contributed to higher gross profits. The increase in margins was attained
despite increased pricing on certain materials in the last half of the year.
Management anticipates the moderation of commodity costs through relationships
with suppliers and price decreases in certain commodity costs will only enhance
already increased margins. The stable gross profit percentage from 2005 to 2006
resulted from adjusting pricing strategies for continued high material costs for
raw materials and components. Certain labor efficiencies were also experienced
in 2006 adding to the positive gross margin. Due to an increase in the volume of
sales, actual gross profit for 2007 increased by $13.5 million from 2006, and by
$8.6 million from 2005 to 2006.
Steel, copper and aluminum are high volume materials used in the manufacturing
of the Company's products, which are obtained from domestic suppliers. Raw
materials pricing increased approximately 50% for steel, 75% for aluminum and
190% for copper from 2005 to 2007, causing increased inventory costs. The
Company also purchases from other domestic manufacturers certain components,
including compressors, electric motors and electrical controls used in its
products. The suppliers of these components are significantly affected by the
rising raw material costs, as steel, copper and aluminum are used in the
manufacturing of their products; therefore, the Company is also experiencing
price increases from component part suppliers. The Company instituted several
price increases from 2005 to 2007 to customers in an attempt to offset the
continued increases in steel, copper and aluminum. The Company attempts to limit
the impact of price increases on these materials by entering into cancelable
fixed price contracts with its major suppliers for periods of 6-12 months.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were $21.7 million, $18.1 million
and $17.5 million for the years ended 2007, 2006 and 2005. The increase in
selling, general and administrative expenses is due primarily to an increase in
warranty expense caused by increased sales and an increase in profit sharing
resulting from an increase in net income. In 2006, the increase in selling,
general and administrative expenses was caused primarily by an increase in sales
expenditures for an increased sales force and active marketing, increases in
salaries for selling, general and administrative personnel and an increase in
profit sharing. There were additional non-cash compensation costs for the fair
value of stock options granted to employees in accordance with the adoption of
Statement of Financial Accounting Standards ("SFAS") No. 123(R), Share-Based
Payment ("SFAS 123(R)").
Interest Expense
Interest expense was approximately $10,000, $81,000 and $16,000 for the years
ended 2007, 2006 and 2005. The decrease in interest expense of approximately
$71,000 in 2007 was due to less average borrowings under the revolving credit
facility as a result of an increase in net cash provided by operations. The
increase in interest expense of approximately $65,000 in 2006 was due to an
increase in average borrowings under the revolving credit facility and increases
in interest rates. Interest on borrowings is payable monthly at the Wall Street
Journal prime rate less 0.5% or LIBOR plus 1.6%, at the election of the Company
(6.84% at December 31, 2007). Average borrowings under the revolving credit
facility are typically paid in full within the month of borrowing or the
following month.
-12-
Interest Income
Interest income was approximately $8,000, $24,000 and $67,000 in 2007, 2006 and
2005 respectively. The decrease in interest income is due to lower balances in
certificates of deposit and short-term money markets.
Other Income (Expense)
Other expense was approximately $321,000 in 2007. Other income (expense) also
includes foreign currency gains and losses that result from operations in
Canada. The weakened U.S. dollar was the primary reason for the decrease in
other income (expense) in 2007. Other income was approximately $424,000 and
$467,000 in 2006 and 2005, respectively. Other income is attributable primarily
to rental income from the Company's expansion facility. All expenses associated
with the facility that are allocated to the rental portion of the building are
included in other income. The Company plans to continue to monetize the
expansion facility until it is needed for increased capacity.
Analysis of Liquidity and Capital Resources
AAON's working capital and capital expenditure requirements are generally met
through net cash provided by operations and the revolving bank line of credit.
Cash Provided by Operating Activities. Net cash provided from operating
activities has fluctuated from year to year. Net cash provided by operating
activities was $31.2 million, $19.4 million and $12.0 million in fiscal years
2007, 2006 and 2005, respectively. The year-to-year variances are primarily from
results of changes in net income, accounts receivable, inventories held by the
Company, accounts payable and accrued liabilities.
Net income for fiscal year 2007 was $23.2 million, an increase of $6.1 million
from 2006. The increase in net income during fiscal years 2007 and 2006 compared
to fiscal years 2006 and 2005 was primarily due to increased volume of sales,
adjusted pricing strategies to compensate for higher raw materials costs,
innovative and efficient products, as well as strong economic growth of the
commercial construction industry.
Depreciation expense was $9.7 million, $9.1 million and $8.5 million for the
years ended December 31, 2007, 2006 and 2005, respectively. The continued
increase is due to capital expenditure purchases for growth and production
efficiencies. The Company adopted SFAS 123(R) in 2006, which decreased net
income by $0.6 million in 2007 and by $0.5 million in 2006. Share-based
compensation was not applicable in 2005. Both depreciation expense and
share-based compensation expense decreased net income but had no effect on
operating cash.
Accounts receivable balances have continued to increase in 2007, 2006 and 2005
from the increase in sales. Accounts receivable increased by $1.6 million at
December 31, 2007 compared to December 31, 2006. The increase at December 31,
2006 from December 31, 2005 was $4.3 million.
Inventories increased by $2.1 million, $5.8 million and $2.8 million at December
31, 2007, 2006 and 2005, respectively. The leading factor in the increase is
primarily related to the valuation of inventories since 2005 due to higher raw
material and component parts costs. The increase is also attributable to
procurement of inventory to accommodate an increase of sales.
Prepaid expenses increased by $0.2 million as compared to a decrease of $0.8
million at December 31, 2006 and an increase of $0.6 million at December 31,
2005. The increase in 2007 was related to multiple accounts, none of which
experienced a significant increase. The decrease in 2006 was primarily related
to prepaid copper inventory at 2005 pricing for 2006 material requirements that
was included in prepaid expenses at December 31, 2005.
-13-
Accounts payable and accrued liabilities increased by $4.9 million, $4.3 million
and $2.3 million at December 31, 2007, 2006 and 2005. The increase in 2007 is
due to an increase in commissions payable related to the increase in sales,
timing of commissions payable and payments to vendors. The change from December
31, 2006, compared to December 31, 2005, was attributable to timing of
commissions payable and payments to vendors.
Cash Flows Used in Investing Activities. Cash flows used in investing activities
were $10.8 million, $16.8 million and $8.2 million in 2007, 2006 and 2005,
respectively. The decrease in cash flows used in investing activities in 2007
was $6.0 million, and primarily related to a decrease in capital expenditures.
The increase in cash flows used in investing activities in 2006 was primarily
related to capital expenditures of $17.8 million for additions of machinery and
equipment for increased efficiency and a manufacturing addition at the Longview
facility. Cash flows used in investing activities in 2005 consisted primarily of
capital expenditures of $10.1 million for additions of machinery and equipment
and an office renovation for the facility located in Longview. Management
utilizes cash flows provided from operating activities to fund capital
expenditures that are expected to spur growth and create efficiencies. Due to
anticipated production demands, the Company expects to expend approximately $7.0
to $10.0 million in 2008 for equipment requirements, a building renovation and a
building expansion. The Company expects the cash requirements to be provided
from cash flows from operations.
In 2007, the Company did not invest in any certificates of deposits. In 2006,
the Company invested a total of $2 million in certificates of deposit, the
latest one maturing in July 2006. In 2005, the Company invested $1 million in a
certificate of deposit, which matured in the first quarter of 2006. In 2002, the
Company invested $3 million in a certificate of deposit that matured in the
first quarter of 2005.
Cash Flows Used in Financing Activities. Cash flows used in financing activities
were $20.0 million, $3.3 million and $4.2 million in 2007, 2006 and 2005,
respectively. The increase of cash used in financing activities primarily
relates to cash dividends declared and paid and the continued repurchase of the
Company's stock.
The Company utilizes the revolving line of credit as described below in
"General" to meet certain short-term cash demands based on current liquidity at
the time. The Company accessed $12.1 million, and $53.7 million of borrowings
under the line of credit and paid each separate borrowing within the month the
borrowing occurred or the following month, resulting in no net borrowings under
the revolving line of credit at December 31, 2007 and 2006, respectively. The
Company utilized the revolving line of credit in 2005 for short-term cash
demands in the amount of $21.1 million.
The Company received cash from stock options exercised of $2.4 million and $1.3
million and classified the tax benefit of stock options exercised of $3.0
million and $1.9 million in financing activities in 2007 and 2006, respectively.
The Company received cash from stock options exercised for the year ended 2005
of approximately $0.8 million.
The Company repurchased shares of stock under the Board of Directors authorized
stock buyback programs in 2007, 2006 and 2005. The Company repurchased shares of
stock from employees' 401(k) savings and investment plan, Directors, and the
open market in 2007 in the amount of $20.8 million for 1,082,736 shares of
stock. The Company repurchased shares of stock from employees' 401(k) savings
and investment plan and Directors in 2006 in the amount of $3.9 million for
250,500 shares of stock. The Company repurchased shares of stock from employees'
401(k) savings and investment plan in 2005 in the amount of $4.9 million for
274,350 shares of stock.
In February 2006, the Board of Directors authorized a semi-annual cash dividend
payment. Cash dividend payments of $5.0 million were made in 2007, and $2.9
million in dividends were declared and accrued as a liability in December 2007
for payment in January 2008. Cash dividend payments of $2.5 million were made in
2006, and $2.5 million in dividends were declared and accrued as a liability in
December 2006 for payment in January 2007. Board approval is required to
determine the date of declaration for each semi-annual payment. Prior to 2006,
no cash dividends had been declared or paid.
-14-
General
The Company's revolving credit facility provides for maximum borrowings of $15.2
million which is provided by the Bank of Oklahoma, National Association. Under
the line of credit, there is one standby letter of credit totaling $1.3 million.
The letter of credit is a requirement of the Company's workers compensation
insurance and was extended in 2007 and will expire on December 31, 2008.
Interest on borrowings is payable monthly at the Wall Street Journal prime rate
less 0.5% or LIBOR plus 1.6%, at the election of the Company (6.84% at December
31, 2007). No fees are associated with the unused portion of the committed
amount. At December 31, 2007 and 2006, the Company had no borrowings outstanding
under the revolving credit facility. Borrowings available under the revolving
credit facility at December 31, 2007, were $13.9 million. The credit facility
previously required the Company to maintain a certain financial ratio and
prohibited the declaration of cash dividends. On February 14, 2006, the Board of
Directors voted to initiate a semi-annual cash dividend of $0.20 per share to
the holders of the outstanding Common Stock. In conjunction with the Board's
vote on February 14, 2006, the restriction of payments of dividends was waived
by the lender and removed from the covenants with the renewal of the line of
credit on July 30, 2006. At December 31, 2007 and 2006, the Company was in
compliance with its financial ratio covenants. On July 30, 2007, the Company
renewed the line of credit with a maturity date of July 30, 2008.
On July 12, 2007, the Company's Board of Directors approved a three-for-two
stock split of AAON's outstanding stock for shareholders of record as of August
3, 2007. The stock split was treated as a 50% stock dividend which was
distributed on August 21, 2007. As a result of the stock split, the Company
adjusted the dividend paid per share to $0.16. The applicable share and per
share data for all periods included herein has been restated to reflect the
stock split
Management believes the Company's bank revolving credit facility (or comparable
financing), and projected cash flows from operations will provide the necessary
liquidity and capital resources to the Company for fiscal year 2008 and the
foreseeable future. The Company's belief that it will have the necessary
liquidity and capital resources is based upon its knowledge of the HVAC industry
and its place in that industry, its ability to limit the growth of its business
if necessary, its ability to authorize dividend cash payments, and its
relationship with its existing bank lender. For information concerning the
Company's revolving credit facility at December 31, 2007, see Note 4 to the
Consolidated Financial Statements, Revolving Credit Facility.
Commitments and Contractual Agreements
The following table summarizes the Company's long-term debt and other
contractual agreements as of December 31, 2007:
Payments Due By Period
(in thousands)
Less Than 1 1-3 4-5 After 5
Contractual Financial Obligations Total Year Years Years years
--------------- --------------- ----------- ----------- -------------
Long-term debt and capital leases $ 258 $ 91 $ 167 $ - $ -
--------------- --------------- ----------- ----------- -------------
Total contractual obligations $ 258 $ 91 $ 167 $ - $ -
=============== =============== =========== =========== =============
The fixed rate interest on long-term debt includes the amount of interest due on
the Company's fixed rate long-term debt. These amounts do not include interest
on the Company's variable rate obligation related to the Company's revolving
credit facility.
The Company is a party to several short-term, cancelable, fixed price contracts
with major suppliers for the purchase of raw material and component parts.
-15-
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Because these estimates and assumptions require significant
judgment, future actual results could differ from those estimates and could have
a significant impact on the Company's results of operations, financial position
and cash flows. The Company reevaluates its estimates and assumptions on a
monthly basis.
The following accounting policies may involve a higher degree of estimation or
assumption:
Allowance for Doubtful Accounts - The Company's allowance for doubtful accounts
is estimated to cover the risk of loss related to accounts receivable. The
Company establishes an allowance for doubtful accounts based upon factors
surrounding the credit risk of specific customers, historical trends in
collections and write-offs, current customer status, the age of the receivable,
economic conditions and other information. Aged receivables are reviewed on a
monthly basis to determine if the reserve is adequate and adjusted accordingly
at that time. The evaluation of these factors involves complex, subjective
judgments. Thus, changes in these factors or changes in economic circumstances
may significantly impact the Company's Consolidated Financial Statements.
Inventory Reserves - The Company establishes a reserve for inventories based on
the change in inventory requirements due to product line changes, the
feasibility of using obsolete parts for upgraded part substitutions, the
required parts needed for part supply sales, replacement parts and for estimated
shrinkage.
Warranty - A provision is made for estimated warranty costs at the time the
product is shipped and revenue is recognized. The warranty period is: for parts
only, the earlier of one year from the date of first use or 18 months from date
of shipment; compressors (if applicable), an additional four years; on gas-fired
heat exchangers (if applicable), 15 years; and on stainless steel heat
exchangers (if applicable), 25 years. Warranty expense is estimated based on the
Company's warranty period, historical warranty trends and associated costs, and
any known identifiable warranty issue. Warranty charges associated with heat
exchanges do not occur frequently.
Due to the absence of warranty history on new products, an additional provision
may be made for such products. The Company's estimated future warranty cost is
subject to adjustment from time to time depending on changes in actual warranty
trends and cost experience. Should actual claim rates differ from the Company's
estimates, revisions to the estimated product warranty liability would be
required.
Medical Insurance - A provision is made for medical costs associated with the
Company's Medical Employee Benefit Plan, which is primarily a self-funded plan.
A provision is made for estimated medical costs based on historical claims paid
and potential significant future claims. The plan is supplemented by employee
contributions and an excess policy for claims over $100,000 each.
Stock Compensation - The Company adopted SFAS 123(R), effective January 1, 2006.
Applying this standard to value equity-based compensation requires the Company
to use significant judgment and to make estimates, particularly for the
assumptions used in the Black-Scholes valuation model, such as stock price
volatility and expected option lives, as well as for the expected option
forfeiture rates. In accordance with SFAS 123(R) the Company measures the cost
of employee services received in exchange for an award of equity instruments
using the Black-Scholes valuation model to calculate the grant-date fair value
of the award. The compensation cost is recognized over the period of time during
which an employee is required to provide service in exchange for the award,
which will be the vesting period.
Historically, actual results have been within management's expectations.
-16-
New Accounting Pronouncements
In July 2006, the FASB released Financial Interpretation No. 48, Accounting for
Uncertainty in Income Taxes, an Interpretation of SFAS No. 109 ("FIN 48"). FIN
48 clarifies the accounting for uncertain tax positions as described in SFAS No.
109, Accounting for Income Taxes, and requires a company to recognize, in its
financial statements, the impact of a tax position only if that position is
"more likely than not" of being sustained on an audit basis solely on the
technical merits of the position. FIN 48 also requires qualitative and
quantitative disclosures including a discussion of reasonably possible changes
that might occur in the recognized tax benefits over the next twelve months as
well as a roll-forward of all unrecognized tax benefits. FIN 48 is effective for
fiscal years beginning after December 15, 2006. The Company adopted FIN 48 on
January 1, 2007. The adoption of FIN 48 did not have a material impact on the
Company's Consolidated Financial Statements.
In September 2006, the FASB released SFAS No. 157, Fair Value Measurements
("SFAS 157"). SFAS 157 defines fair value and establishes a framework for
measuring fair value in generally accepted accounting principles, and expands
disclosures about fair value measurements. Although SFAS 157 applies to (and
amends) the provisions of existing authoritative literature, it does not, of
itself, require any new fair value measurements or establish valuation
standards. SFAS 157 is effective for financial statements issued for fiscal
years beginning after November 15, 2007, and interim periods within those fiscal
years. Adoption of SFAS 157 is not expected to have a material impact on the
Company's Consolidated Financial Statements.
In February, 2007, the FASB issued FASB Statement No. 159, The Fair Value Option
for Financial Assets and Financial Liabilities ("FAS 159"), which creates an
alternative measurement treatment for certain financial assets and financial
liabilities. SFAS 159 permits fair value to be used for both the initial and
subsequent measurements on an instrument by instrument basis, with changes in
the fair value to be recognized in earnings as those changes occur. This
election is referred to as the fair value option. SFAS 159 also requires
additional disclosures to compensate for the lack of comparability that will
arise from the use of the fair value option. SFAS 159 is effective for fiscal
years beginning after November 15, 2007. Adoption of SFAS 159 did not have a
material impact on the Company's Consolidated Financial Statements.
Forward-Looking Statements
This Annual Report includes "forward-looking statements" within the meaning of
the Private Securities Litigation Reform Act of 1995. Words such as "expects",
"anticipates", "intends", "plans", "believes", "seeks", "estimates", "will", and
variations of such words and similar expressions are intended to identify such
forward-looking statements. These statements are not guarantees of future
performance and involve certain risks, uncertainties and assumptions, which are
difficult to predict. Therefore, actual outcomes and results may differ
materially from what is expressed or forecasted in such forward-looking
statements. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date on which they are
made. The Company undertakes no obligations to update publicly any
forward-looking statements, whether as a result of new information, future
events or otherwise. Important factors that could cause results to differ
materially from those in the forward-looking statements include (1) the timing
and extent of changes in raw material and component prices, (2) the effects of
fluctuations in the commercial/industrial new construction market, (3) the
timing and extent of changes in interest rates, as well as other competitive
factors during the year, and (4) general economic, market or business
conditions.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The Company is subject to interest rate risk on its revolving credit facility,
which bears variable interest based upon a prime or LIBOR rate. The Company had
no outstanding balance as of December 31, 2007.
-17-
Foreign sales accounted for less than approximately 5% of the Company's sales in
2007 and the Company accepts payment for such sales in U.S. and Canadian
dollars; therefore, the Company believes it is not exposed to significant
foreign currency exchange rate risk on these sales. Foreign currency
transactions and financial statements are translated in accordance with SFAS No.
52, Foreign Currency Translation. The Company uses the U.S. dollar as its
functional currency, except for the Company's Canadian subsidiaries, which use
the Canadian dollar. Adjustments arising from translation of the Canadian
subsidiaries' financial statements are reflected in accumulated other
comprehensive income. Transaction gains or losses that arise from exchange rate
fluctuations applicable to transactions denominated in Canadian currency are
included in the results of operations as incurred. The exchange rate of the
Canadian dollar to the United States dollar was $0.862 and $1.019 at December
31, 2006 and 2007, respectively.
Important raw materials purchased by the Company are steel, copper and aluminum,
which are subject to price fluctuations. The Company attempts to limit the
impact of price increases on these materials by entering cancelable fixed price
contracts with its major suppliers for periods of 6 -12 months. However, from
2005 to 2007 cost increases in basic commodities, such as steel, aluminum and
copper, rose by 50%, 75% and 190%, and impacted profit margins.
The Company does not utilize derivative financial instruments to hedge its
interest rate, foreign currency exchange rate or raw materials price risks.
Item 8. Financial Statements and Supplementary Data.
The financial statements and supplementary data are included commencing at page
29.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
Item 9A. Controls and Procedures.
(a) Evaluation of Disclosure Controls and Procedures
At the end of the period covered by this Annual Report on Form 10-K, the
Company's management, under the supervision and with the participation of the
Company's Chief Executive Officer and Chief Financial Officer, has evaluated the
effectiveness of the design and operation of the Company's disclosure controls
and procedures. Based on that evaluation, the Company's Chief Executive Officer
and Chief Financial Officer believe that:
o The Company's disclosure controls and procedures are designed to
ensure that information required to be disclosed by the Company in the
reports it files under the Securities Exchange Act of 1934 is
recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms; and
o The Company's disclosure controls and procedures operate such that
important information flows to appropriate collection and disclosure
points in a timely manner and are effective to ensure that such
information is accumulated and communicated to the Company's
management, and made known to the Company's Chief Executive Officer
and Chief Financial Officer, particularly during the period when this
Annual Report was prepared, as appropriate to allow timely decisions
regarding the required disclosure.
AAON's Chief Executive Officer and Chief Financial Officer have evaluated the
Company's disclosure controls and procedures and concluded that these controls
and procedures were effective as of December 31, 2007.
-18-
(b) Management's Annual Report on Internal Control over Financial
Reporting
The management of AAON, Inc. and its subsidiaries (AAON) is responsible for
establishing and maintaining adequate internal control over financial reporting.
AAON's internal control system was designed to provide reasonable assurance to
the Company's management and Board of Directors regarding the preparation and
fair presentation of published financial statements.
All internal control systems, no matter how well designed, have inherent
limitations. Therefore, even those systems determined to be effective can
provide only reasonable assurance with respect to financial statement
preparation and presentation.
In making its assessment of internal control over financial reporting,
management used the criteria issued by the Committee of Sponsoring Organizations
of the Treadway Commission (COSO) in Internal Control--Integrated Framework.
Based on our assessment, we believe that, as of December 31, 2007, the Company's
internal control over financial reporting is effective based on those criteria.
AAON's independent registered public accounting firm has issued an attestation
report on the Company's internal control over financial reporting.
Date: March 11, 2008 /s/ Norman H. Asbjornson
----------------------------
Norman H. Asbjornson
Chief Executive Officer
/s/ Kathy I. Sheffield
----------------------------
Kathy I. Sheffield
Chief Financial Officer
(c) Report of Independent Registered Public Accounting Firm
Report of Independent Registered Public Accounting Firm
-------------------------------------------------------
Board of Directors and
Stockholders of AAON, Inc.
We have audited AAON, Inc. (a Nevada corporation) and subsidiaries' internal
control over financial reporting as of December 31, 2007, based on criteria
established in Internal Control - Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission (COSO). The Company's
management is responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness of internal
control over financial reporting, included in the accompanying Management's
Annual Report on Internal Control over Financial Reporting. Our responsibility
is to express an opinion on the Company's internal control over financial
reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
-19-
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In our opinion, AAON, Inc. and subsidiaries maintained, in all material
respects, effective internal control over financial reporting as of December 31,
2007, based on criteria established in Internal Control - Integrated Framework
issued by COSO.
We also have audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the consolidated balance sheets of
AAON, Inc. and subsidiaries as of December 31, 2007 and 2006, and the related
consolidated statements of income, stockholders' equity and comprehensive
income, and cash flows for each of the three years in the period ended December
31, 2007 and our report dated March 10, 2008 expressed an unqualified opinion on
those consolidated financial statements.
/s/ GRANT THORNTON LLP
Tulsa, Oklahoma
March 10, 2008
(d) Changes in Internal Control over Financial Reporting
There have been no changes in internal control over financial reporting that
occurred during the fourth quarter of 2007 that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
Item 9B. Other Information.
None.
-20-
PART III
Item 10. Directors, Executive Officers and Corporate Governance.
The information required by Items 401, 405, 406 and 407(c)(3), (d)(4) and (d)(5)
of Regulation S-K is incorporated by reference to the information contained in
the Company's definitive Proxy Statement to be filed with the Securities and
Exchange Commission in connection with the Company's 2008 Annual Meeting of
Stockholders.
Code of Ethics
--------------
The Company has adopted a code of ethics that applies to its principal executive
officer, principal financial officer and principal accounting officer or persons
performing similar functions, as well as its other employees and directors. The
Company undertakes to provide any person without charge, upon request, a copy of
such code of ethics. Requests may be directed to AAON, Inc., 2425 South Yukon
Avenue, Tulsa, Oklahoma 74107, attention Kathy I. Sheffield, or by calling (918)
382-6204.
Item 11. Executive Compensation.
The information required by Items 402 and 407(e)(4) and (e)(5) of Regulation S-K
is incorporated by reference to the information contained in the Company's
definitive Proxy Statement to be filed with the Securities and Exchange
Commission in connection with the Company's 2008 Annual Meeting of Stockholders.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters.
The information required by Item 403 and Item 201(d) of Regulation S-K is
incorporated by reference to the information contained in the Company's
definitive Proxy Statement to be filed with the Securities and Exchange
Commission in connection with the Company's 2008 Annual Meeting of Stockholders.
Item 13. Certain Relationships and Related Transactions.
Transactions with Related Persons
AAON's Code of Conduct guides the Board of Directors in its actions and
deliberations with respect to related party transactions. Under the Code,
conflicts of interest, including any involving the directors or any Named
Officers, are prohibited except under any guidelines approved by the Board of
Directors. Only the Board of Directors may waive a provision of the Code of
Conduct for a director or a Named Officer, and only then in compliance with all
applicable laws and rules and regulations. The Company did not enter into any
new related party transactions and has no preexisting related party transactions
in 2007 or 2006, respectively.
Director Independence
The Board has adopted director independence standards that meets and/or exceed
listing standards set by NASDAQ. NASDAQ has set forth six applicable tests and
requires that a director who fails any of the tests be deemed not independent.
In 2007, the Board affirmatively determined, considering the standards described
more fully below, that Messrs. Naugle, Pantaleoni, Ryan, Short and Stephenson
are independent. Upon the resignations of Messrs. Naugle and Ryan, followed by
the subsequent elections of Messrs. Lackey and McElroy, the Board affirmatively
determined that Messrs. Lackey and McElroy are independent. As a result of his
position as the President of the Company, Mr. Asbjornson does not qualify as
independent under the standards set forth below. The Board has determined that
Mr. Johnson should not be deemed independent, because he is a member of the law
firm that serves as General Counsel to the Company. In addition, each member of
the Audit Committee and the Compensation Committee is independent.
-21-
The Company's director independence standards are as follows:
It is the policy of the Board of Directors that a majority of the members of the
Board consist of directors independent of the Company and of the Company's
management. For a director to be deemed "independent," the Board shall
affirmatively determine that the director has no material relationship with the
Company or its affiliates or any member of the senior management of the Company
or his or her affiliates. In making this determination, the Board applies, at a
minimum and in addition to any other standards for independence established
under applicable statutes and regulations as outlined by the NASDAQ listing
standards Rule 4200, the following standards, which it may amend or supplement
from time to time:
o A director who is, or has been within the last three years, an employee of
the Company, or whose immediate family member is, or has been within the
last three years a Named Officer, of the Company can not be deemed
independent. Employment as an interim Chairman or Chief Executive Officer
will not disqualify a director from being considered independent following
that employment.
o A director who has received, or who has an immediate family member who has
received, during any twelve-month period within the last three years, more
than $60,000 in direct compensation from the Company, other than director
and committee fees and benefits under a tax-qualified retirement plan, or
non-discretionary compensation for prior service (provided such
compensation is not contingent in any way on continued service), can not be
deemed independent. Compensation received by a director for former service
as an interim Chairman or Chief Executive Officer and compensation received
by an immediate family member for service as a non-executive employee of
the Company will not be considered in determining independence under this
test.
o A director who (A) is, or whose immediate family member is, a current
partner of a firm that is the Company's external auditor; (B) is a current
employee of such a firm; or (C) was, or whose immediate family member was,
within the last three years (but is no longer) a partner or employee of
such a firm and personally worked on the Company's audit within that time
can not be deemed independent.
o A director who is, or whose immediate family member is, or has been within
the last three years, employed as an executive officer of another company
where any of the Company's present Named Officers at the time serves or
served on that company's compensation committee can not be deemed
independent.
o A director who is a current employee or general partner, or whose immediate
family member is a current executive officer or general partner, of an
entity that has made payments to, or received payments from, the Company
for property or services in an amount which, in any of the last three
fiscal years, exceeds the greater of $200,000 or 5% of such other entity's
consolidated gross revenues, other than payments arising solely from
investments in the Company's securities or payments under non-discretionary
charitable contribution matching programs, can not be deemed independent.
For purposes of the independence standards set forth above, the terms:
o "affiliate" means any consolidated subsidiary of the Company and any other
Company or entity that controls, is controlled by or is under common
control with the Company;
o "executive officer" means an "officer" within the meaning of Rule 16a-1(f)
under the Securities Exchange Act of 1934, as amended; and
o "immediate family" means spouse, parents, children, siblings, mothers- and
fathers-in-law, sons- and daughters-in-law, brothers- and sisters-in-law
and anyone (other than employees) sharing a person's home, but excluding
any person who is no longer an immediate family member as a result of legal
separation or divorce, death or incapacitation.
The Board undertakes an annual review of the independence of all non-employee
directors. In advance of the meeting at which this review occurs, each
non-employee director is asked to provide the Board with full information
regarding the director's business and other relationships with the Company and
its affiliates and with senior management and their affiliates to enable the
Board to evaluate the director's independence.
-22-
Directors have an affirmative obligation to inform the Board of any material
changes in their circumstances or relationships that may impact their
designation by the Board as "independent." This obligation includes all business
relationships between, on the one hand Directors or members of their immediate
family, and, on the other hand, the Company and its affiliates or members of
senior management and their affiliates, whether or not such business
relationships are subject to any other approval requirements of the Company.
Item 14. Principal Accountant Fees and Services.
Incorporated by reference to the Company's definitive Proxy Statement to be
filed with the Securities and Exchange Commission in connection with the
Company's 2008 Annual Meeting of Stockholders.
-23-
PART IV
Item 15. Exhibits and Financial Statement Schedules.
(a) Financial statements.
See Index to Consolidated Financial Statements on page 27.
(b) Exhibits:
(3) (A) Articles of Incorporation (i)
(A-1) Article Amendments (ii)
(B) Bylaws (i)
(B-1) Amendments of Bylaws (iii)
(4) (A) Third Restated Revolving Credit and Term
Loan Agreement and related documents (iv)
(A-1) Third Amendment to Third Restated Revolving Credit
and Term Loan Agreement (v)
(B) Rights Agreement dated February 19, 1999, as
amended (vi)
(10.1) AAON, Inc. 1992 Stock Option Plan, as amended (vii)
(10.2) AAON, Inc. 2007 Long-Term Incentive Plan, as amended (viii)
(21) List of Subsidiaries (ix)
(23) Consent of Grant Thornton LLP
(31.1) Certification of CEO
(31.2) Certification of CFO
(32.1) Section 1350 Certification - CEO
(32.2) Section 1350 Certification - CFO
----------
(i) Incorporated herein by reference to the exhibits to the
Company's Form S-18 Registration Statement No.
33-18336-LA.
(ii) Incorporated herein by reference to the exhibits to the
Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 1990, and to the Company's
Forms 8-K dated March 21, 1994, March 10, 1997, and
March 17, 2000.
(iii) Incorporated herein by reference to the Company's Forms
8-K dated March 10, 1997, May 27, 1998 and February 25,
1999, or exhibits thereto.
(iv) Incorporated by reference to exhibit to the Company's
Form 8-K dated July 30, 2004.
(v) Incorporated herein by reference to exhibit to the Company's
Form 8-K dated August 7, 2007
-24-
(vi) Incorporated by reference to exhibits to the Company's
Forms 8-K dated February 25, 1999, and August 20, 2002,
and Form 8-A Registration Statement No. 000-18953, as
amended.
(vii) Incorporated herein by reference to exhibits to the
Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 1991, and to the Company's Form
S-8 Registration Statement No. 33-78520, as amended.
(viii) Incorporated herein by reference to Appendix B to the
Company's definitive Proxy Statement for the 2007
Annual Meeting of Stockholders filed April 23, 2007.
(ix) Incorporated herein by reference to exhibits to the
Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 2004.
-25-
SIGNATURES
Pursuant to the requirement of Section 13 or 15(d) of the Securities Exchange
Act of 1934, as amended, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, hereunto duly authorized.
AAON, INC.
Dated: March 11, 2008 By: /s/ Norman H. Asbjornson
-------------------------------------
Norman H. Asbjornson, President
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Dated: March 11 2008 /s/ Norman H. Asbjornson
-------------------------------------
Norman H. Asbjornson
President and Director
(principal executive officer)
Dated: March 11, 2008 /s/ Kathy I. Sheffield
-------------------------------------
Kathy I. Sheffield
Treasurer
(principal financial officer
and principal accounting officer)
Dated: March 11, 2008 /s/ John B. Johnson, Jr.
-------------------------------------
John B. Johnson, Jr.
Director
Dated: March 11, 2008 /s/ Anthony Pantaleoni
-------------------------------------
Anthony Pantaleoni
Director
Dated: March 11, 2008 /s/ Charles C. Stephenson, Jr.
----------------------------------
Charles C. Stephenson, Jr.
Director
Dated: March 11 2008 /s/ Jack E. Short
-------------------------------------
Jack E. Short
Director
Dated: March 11, 2008 /s/ Paul K. Lackey, Jr.
-------------------------------------
Paul K. Lackey, Jr.
Director
Dated: March 11, 2008 /s/ A.H. McElroy II
-------------------------------------
A.H. McElroy II
Director
-26-
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Report of Independent Registered Public Accounting Firm
- Grant Thornton LLP 28
Consolidated Balance Sheets 29
Consolidated Statements of Income 30
Consolidated Statements of Stockholders' Equity and Comprehensive Income 31
Consolidated Statements of Cash Flows 32
Notes to Consolidated Financial Statements 33
-27-
Report of Independent Registered Public Accounting Firm
-------------------------------------------------------
Board of Directors and
Stockholders of AAON, Inc.
We have audited the accompanying consolidated balance sheets of AAON, Inc. (a
Nevada Corporation) and subsidiaries (collectively, the Company) as of December
31, 2007 and 2006, and the related consolidated statements of income,
stockholders' equity and comprehensive income, and cash flows for each of the
three years in the period ended December 31, 2007. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of AAON, Inc. and
subsidiaries as of December 31, 2007 and 2006, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2007 in conformity with accounting principles generally accepted in
the United States of America.
We also have audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), AAON, Inc.'s internal control over
financial reporting as of December 31, 2007, based on criteria established in
Internal Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO) and our report dated March 10,
2008 expressed an unqualified opinion thereon.
/s/ GRANT THORNTON LLP
Tulsa, Oklahoma
March 10, 2008
-28-
AAON, Inc., and Subsidiaries
Consolidated Balance Sheets
December 31,
2007 2006
--------------------------------------
(in thousands, except for
share and per share data)
Assets
Current assets:
Cash and cash equivalents $ 879 $ 288
Accounts receivable, net 38,813 36,748
Inventories, net 31,849 29,502
Prepaid expenses and other 442 267
Deferred tax asset 4,312 3,954
--------------------------------------
Total current assets 76,295 70,759
Property, plant and equipment, net 60,770 59,222
Note receivable, long-term 75 75
--------------------------------------
Total assets $ 137,140 $ 130,056
======================================
Liabilities and Stockholders' Equity
Current liabilities:
Current maturities of long-term debt 91 59
Accounts payable 15,059 15,821
Dividends payable 2,943 2,465
Accrued liabilities 19,414 16,058
--------------------------------------
Total current liabilities 37,507 34,403
Other long-term liabilities 239 -
Deferred tax liability 3,974 4,061
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.001 par value, 7,500,000 shares
authorized, no shares issued* - -
Common stock, $.004 par value, 75,000,000 shares
authorized, 18,054,246 and 18,508,248 issued and
outstanding at December 31, 2007 and 2006, respectively* 73 74
Additional paid in capital - 185
Accumulated other comprehensive income 1,942 667
Retained earnings 93,405 90,666
--------------------------------------
Total stockholders' equity 95,420 91,592
--------------------------------------
Total liabilities and stockholders' equity $ 137,140 $ 130,056
======================================
* Reflects three-for-two stock split effective August 21, 2007.
The accompanying notes are an integral part of these statements.
-29-
AAON, Inc., and Subsidiaries
Consolidated Statements of Income
Year Ending December 31,
2007 2006 2005
---------------------------------------------------
(in thousands, except per share data)
Net sales $ 262,517 $ 231,460 $ 185,195
Cost of sales 205,148 187,570 149,904
---------------------------------------------------
Gross profit 57,369 43,890 35,291
Selling, general and administrative expenses 21,703 18,059 17,477
---------------------------------------------------
Income from operations 35,666 25,831 17,814
Interest expense (10) (81) (16)
Interest income 8 24 67
Other income (expense), net (321) 424 467
---------------------------------------------------
Income before income taxes 35,343 26,198 18,332
Income tax provision 12,187 9,065 6,870
---------------------------------------------------
Net income $ 23,156 $ 17,133 $ 11,462
===================================================
Earnings per share:
Basic * $ 1.24 $ 0.93 $ 0.62
===================================================
Diluted* $ 1.22 $ 0.90 $ 0.60
===================================================
Cash dividends declared per common share* $ 0.32 $ 0.32 $ -
===================================================
Weighted average shares outstanding:
Basic * 18,628 18,456 18,510
===================================================
Diluted* 18,927 18,968 19,125
===================================================
* Reflects three-for-two stock split effective August 21, 2007.
The accompanying notes are an integral part of these statements.
-30-
AAON, Inc., and Subsidiaries
Consolidated Statements of Stockholders' Equity and Comprehensive Income
Accumulated
Other
Common Stock Paid-in Comprehensive Retained
Shares* Amount Capital Income Earnings Total
-------------------------------------------------------------------------------------------
(in thousands)
Balance at December 31, 2004 18,525 $ 74 $ - $ 247 $ 70,850 $ 71,171
Comprehensive income:
Net income - - - - 11,462 11,462
Foreign currency translation
adjustment - - - 266 - 266
------------
Total comprehensive income 11,728
Stock options exercised, including tax
benefits 243 1 1,507 - - 1,508
Stock repurchased and retired (417) (1) (1,507) - (3,404) (4,912)
-------------------------------------------------------------------------------------------
Balance at December 31, 2005 18,351 74 - 513 78,908 79,495
Comprehensive income:
Net income - - - - 17,133 17,133
Foreign currency translation
adjustment - - - 154 - 154
------------
Total comprehensive income 17,287
Stock options exercised, including tax
benefits 408 1 3,107 - - 3,108
Share-based compensation - - 500 - - 500
Stock repurchased and retired (251) (1) (3,422) - (432) (3,855)
Dividends - - - - (4,943) (4,943)
-------------------------------------------------------------------------------------------
Balance at December 31, 2006 18,508 74 185 667 90,666 91,592
-------------------------------------------------------------------------------------------
Adjustment for the adoption of FASB
Interpretation (FIN) No. 48 (396) (396)
Comprehensive income:
Net income - - - - 23,156 23,156
Foreign currency translation
adjustment - - - 1,275 - 1,275
------------
Total comprehensive income 24,431
Stock options exercised, including tax
benefits 613 4 5,420 - - 5,424
Share-based compensation - - 582 - - 582
Stock repurchased and retired (1,067) (5) (6,187) - (14,581) (20,773)
Dividends - - - - (5,440) (5,440)
-------------------------------------------------------------------------------------------
Balance at December 31, 2007 18,054 $ 73 $ - $ 1,942 $ 93,405 $ 95,420
===========================================================================================
* Reflects three-for-two stock split effective August 21, 2007
The accompanying notes are an integral part of these statements.
-31-
AAON, Inc., and Subsidiaries
Consolidated Statements of Cash Flows
Year Ended December 31,
2007 2006 2005
---------------------------------------------------
(in thousands)
Operating Activities
Net income $ 23,156 $ 17,133 $ 11,462
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 9,665 9,146 8,503
Provision for losses on accounts receivable 203 (59) 68
Share-based compensation 582 500 -
Excess tax benefits from stock options exercised (2,998) (1,852) -
(Gain) loss on disposition of assets (108) - 130
Deferred income taxes (124) (510) (1,696)
Changes in assets and liabilities:
Accounts receivable (1,760) (4,197) (5,366)
Inventories, net (2,095) (5,790) (2,840)
Prepaid expenses and other (172) 776 (563)
Accounts payable (1,370) 4,178 (1,269)
Accrued liabilities 6,268 103 3,537
---------------------------------------------------
Net cash provided by operating activities 31,247 19,428 11,966
---------------------------------------------------
Investing Activities
Proceeds from sale of property, plant and equipment 123 - 30
Proceeds from matured certificate of deposit - 3,000 3,000
Investment in certificate of deposit - (2,000) (1,000)
Notes receivable, long-term - - (75)
Capital expenditures (10,874) (17,781) (10,144)
---------------------------------------------------
Net cash used in investing activities (10,751) (16,781) (8,189)
---------------------------------------------------
Financing Activities
Borrowings under revolving credit facility 12,142 53,706 21,143
Payments under revolving credit facility (12,142) (53,706) (21,143)
Borrowings (payments) of long-term debt 271 (108) (108)
Stock options exercised 2,426 1,256 820
Excess tax benefits from stock options exercised 2,998 1,852 -
Repurchase of stock (20,773) (3,855) (4,912)
Cash dividends paid to stockholders (4,958) (2,478) -
---------------------------------------------------
Net cash used in financing activities (20,036) (3,333) (4,200)
---------------------------------------------------
Effects of exchange rate on cash 131 137 266
---------------------------------------------------
Net increase (decrease) in cash and cash equivalents 591 (549) (157)
---------------------------------------------------
Cash and cash equivalents, beginning of year 288 837 994
---------------------------------------------------
Cash and cash equivalents, end of year $ 879 $ 288 $ 837
===================================================
The accompanying notes are an integral part of these statements.
-32-
AAON, Inc., and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2007
1. Business, Summary of Significant Accounting Policies and Other Financial Data
AAON, Inc. (the Company, a Nevada corporation) is engaged in the manufacture and
sale of air conditioning and heating equipment consisting of standardized and
custom rooftop units, chillers, air-handling units, make-up air units, heat
recovery units, condensing units, coils and boilers, through its wholly-owned
subsidiaries, AAON, Inc. (AAON, an Oklahoma corporation), AAON Coil Products,
Inc. (ACP, a Texas corporation), and AAON Canada, Inc., d/b/a Air Wise (AAON
Canada, an Ontario corporation). AAON Properties, Inc., (AAON Properties, an
Ontario corporation) is the lessor of property in Burlington, Ontario, Canada,
to AAON Canada. The Consolidated Financial Statements include the accounts of
the Company and its subsidiaries, AAON, ACP, AAON Canada and AAON Properties.
All significant intercompany accounts and transactions have been eliminated.
Currency
--------
Foreign currency transactions and financial statements are translated in
accordance with Statement of Financial Standards No. 52, Foreign Currency
Translation. The Company uses the U.S. dollar as its functional currency, except
for the Company's Canadian subsidiaries, which use the Canadian dollar.
Adjustments arising from translation of the Canadian subsidiaries' financial
statements are reflected in accumulated other comprehensive income. Transaction
gains or losses that arise from exchange rate fluctuations applicable to
transactions denominated in Canadian currency are included in the results of
operations as incurred.
Use of Estimates
----------------
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Because these estimates and assumptions require significant
judgment, future actual results could differ from those estimates and could have
a significant impact on the Company's results of operations, financial position
and cash flows. The Company reevaluates its estimates and assumptions on a
monthly basis.
The most significant estimates include the allowance for doubtful accounts,
inventory reserves, warranty accrual, medical insurance accrual, and stock-based
compensation. Actual results could differ materially from those estimates.
Revenue Recognition
-------------------
The Company recognizes revenues from sales of products when the products are
shipped and the title and risk of ownership pass to the customer. Selling prices
are fixed based on purchase orders or contractual agreements. Sales allowances
and customer incentive are treated as reductions to sales and are provided for
based on historical experiences and current estimates. For sales initiated by
independent manufacturer representatives, the Company recognizes revenues net of
the representatives' commission. The Company's policy is to record the
collection and payment of sales taxes through a liability account.
-33-
1. Business, Summary of Significant Accounting Policies and Other Financial Data
(continued)
Concentrations
--------------
The Company's customers are concentrated primarily in the domestic commercial
and industrial new construction and replacement markets. To date, virtually all
of the Company's sales have been to the domestic market, with foreign sales
accounting for less than 5% of revenues in 2007. No customer accounted for 10%
of the Company's sales during 2007, 2006 or 2005 or more than 5% of the
Company's accounts receivable balance at December 31, 2007 or 2006.
Cash and Cash Equivalents
-------------------------
Cash and cash equivalents consist of bank deposits and highly liquid,
interest-bearing money market funds with initial maturities of three months or
less.
Accounts Receivable
-------------------
The Company grants credit to its customers and performs ongoing credit
evaluations. The Company generally does not require collateral or charge
interest. The Company establishes an allowance for doubtful accounts based upon
factors surrounding the credit risk of specific customers, historical trends,
economic and market conditions and the age of the receivable. Past due accounts
are generally written off against the allowance for doubtful accounts only after
all collection attempts have been exhausted.
Accounts receivable and the related allowance for doubtful accounts are as
follows:
December 31,
2007 2006
--------------------------------
(in thousands)
Accounts receivable $ 39,220 $ 37,014
Less: Allowance for doubtful accounts (407) (266)
--------------------------------
Total, net $ 38,813 $ 36,748
================================
Year Ended December 31,
2007 2006 2005
-------------------------------------------------
(in thousands)
Allowance for doubtful accounts:
Balance, beginning of period $ 266 $ 685 $ 717
Provision for losses on accounts receivable 625 589 634
Adjustments to provision (422) (648) (566)
Accounts receivable written off, net of
recoveries (62) (360) (100)
-------------------------------------------------
Balance, end of period $ 407 $ 266 $ 685
=================================================
-34-
1. Business, Summary of Significant Accounting Policies and Other Financial Data
(continued)
Inventories
-----------
Inventories are valued at the lower of cost or market. Cost is determined by the
first-in, first-out (FIFO) method. The Company establishes an allowance for
excess and obsolete inventories based on product line changes, the feasibility
of substituting parts and the need for supply and replacement parts. Inventory
balances at December 31, 2007 and 2006, and the related changes in the allowance
for excess and obsolete inventories account for the three years ended December
31, 2007, 2006 and 2005, are as follows:
December 31,
2007 2006
--------------------------------
(in thousands)
Raw materials $ 27,651 $ 25,977
Work in process 1,760 2,226
Finished goods 2,788 1,649
--------------------------------
32,199 29,852
Less: Allowance for excess and obsolete inventories (350) (350)
--------------------------------
Total, net $ 31,849 $ 29,502
================================
Year Ended December 31,
2007 2006 2005
-------------------------------------------------
(in thousands)
Allowance for excess and obsolete inventories:
Balance, beginning of period $ 350 $ 350 $ 1,050
Provision for excess and obsolete inventories - - -
Adjustments to reserve - - (700)
-------------------------------------------------
Balance, end of period $ 350 $ 350 $ 350
=================================================
Property, Plant and Equipment
-----------------------------
Property, plant and equipment are stated at cost. Maintenance and repairs,
including replacement of minor items, are charged to expense as incurred; major
additions to physical properties are capitalized. Property, plant and equipment
are depreciated using the straight-line method over the following estimated
useful lives:
Description Years
--------------------------------------------------------------- ---------------
Buildings 10-40
Machinery and equipment 3-15
Furniture and fixtures 2-5
-35-
1. Business, Summary of Significant Accounting Policies and Other Financial Data
(continued)
Property, Plant and Equipment (continued)
-----------------------------------------
At December 31, property, plant and equipment were comprised of the following:
2007 2006
-------------------------------
(in thousands)
Land $ 2,354 $ 2,196
Buildings 32,211 31,272
Machinery and equipment 82,872 74,053
Furniture and fixtures 6,912 5,883
-------------------------------
124,349 113,404
Less: Accumulated depreciation (63,579) (54,182)
-------------------------------
Total, net $ 60,770 $ 59,222
===============================
Impairment of Long-Lived Assets
-------------------------------
The Company evaluates long-lived assets for impairment when events or changes in
circumstances indicate, in management's judgment, that the carrying value of
such assets may not be recoverable. When an indicator of impairment has
occurred, management's estimate of undiscounted cash flows attributable to the
assets is compared to the carrying value of the assets to determine whether
impairment has occurred. If an impairment of the carrying value has occurred,
the amount of the impairment recognized in the financial statements is
determined by estimating the fair value of the assets and recording a loss for
the amount that the carrying value exceeds the estimated fair value. Management
determined no impairment was required during 2007, 2006 and 2005.
Commitments and Contractual Agreements
--------------------------------------
The Company is a party to several short-term, cancelable, fixed price contracts
with major suppliers for the purchase of raw material and component parts.
Accrued Liabilities
-------------------
At December 31, accrued liabilities were comprised of the following:
2007 2006
-------------------------------
(in thousands)
Warranty $ 6,308 $ 5,572
Commissions 8,851 6,862
Payroll 2,175 1,890
Workers' compensation 1,127 494
Medical self-insurance 608 837
Other 345 403
-------------------------------
Total $ 19,414 $ 16,058
===============================
Warranties
----------
A provision is made for estimated warranty costs at the time the related
products are sold based upon the warranty period, historical trends, new
products and any known identifiable warranty issues. Warranty expense was $4.0
million, $2.4 million and $3.6 million for the years ended December 31, 2007,
2006 and 2005, respectively.
-36-
1. Business, Summary of Significant Accounting Policies and Other Financial Data
(continued)
Warranties (continued)
----------------------
Changes in the Company's warranty accrual during the years ended December 31,
2007, 2006 and 2005 are as follows:
2007 2006 2005
-------------------------------------------------
(in thousands)
Balance, beginning of the year $ 5,572 $ 6,282 $ 6,301
Payments made (3,321) (3,128) (3,641)
Warranties issued 3,757 4,343 3,622
Changes in estimate related to preexisting warranties 300 (1,925) -
-------------------------------------------------
Balance, end of period $ 6,308 $ 5,572 $ 6,282
=================================================
In 2007, the provision for warranties was increased due to an extension in the
warranty period. In 2006, the provision for warranties was decreased due to a
change in estimate related to preexisting warranties occurring in the fourth
quarter of 2006. The change in estimate was due to factors stated above, such as
current information on historical trends and a reduction in identifiable
warranty issues.
Earnings Per Share
------------------
The following table sets forth the computation of basic and diluted earnings per
share:
2007 2006 2005
---------------------------------------------------------
(in thousands, except share and per share data)
---------------------------------------------------------
Numerator:
Net income $ 23,156 $ 17,133 $ 11,462
================ ================ ================
Denominator:
Denominator for basic earnings per share -
Weighted average shares* 18,628,029 18,456,108 18,509,997
Effect of dilutive stock options* 299,015 511,486 614,700
---------------- ---------------- ----------------
Denominator for diluted earnings per share -
Weighted average shares* 18,927,044 18,967,594 19,124,697
================ ================ ================
Earnings per share
Basic* $ 1.24 $ 0.93 $ 0.62
================ ================ ================
Diluted* $ 1.22 $ 0.90 $ 0.60
================ ================ ================
Anti-dilutive shares* 282,100 269,250 172,875
================ ================ ================
Weighted average exercise price* $ 17.81 $ 16.19 $ 12.57
================ ================ ================
* Reflects three-for-two stock split effective August 21, 2007.
-37-
1. Business, Summary of Significant Accounting Policies and Other Financial Data
(continued)
Advertising
-----------
Advertising costs are expensed as incurred. Advertising expense was
approximately $784,000, $549,000 and $506,000 for the years ended December 31,
2007, 2006 and 2005, respectively.
Research and Development
------------------------
Research and development costs are expensed as incurred. Research and
development expense was $2.5 million, $2.0 million and $1.7 million for the
years ended December 31, 2007, 2006 and 2005, respectively.
Shipping and Handling
---------------------
The Company incurs shipping and handling costs in the distribution of products
sold that are recorded in cost of sales. Shipping charges that are billed to the
customer are recorded in revenues.
Profit Sharing Bonus Plan
-------------------------
The Company maintains a discretionary profit sharing bonus plan under which 10%
of pre-tax profit at each subsidiary is paid to eligible employees on a
quarterly basis in order to reward employee productivity. Eligible employees are
regular full-time employees who are actively employed and working on the first
day of the calendar quarter and remain continuously, actively employed and
working on the last day of the quarter and who work at least 80% of the quarter.
Profit sharing expense was $4.2 million, $3.3 million and $2.1 million for the
years ended December 31, 2007, 2006 and 2005, respectively.
Defined Contribution Plan - 401(k)
----------------------------------
The Company sponsors a defined contribution benefit plan ("401(k) Plan").
Eligible employees may make contributions in accordance with the 401(k) Plan and
IRS guidelines. In addition, effective May 30, 2005, the Plan was amended to
provide for automatic enrollment in the Plan and provided for an automatic
increase to the deferral percent at January 1st of each year and each year
thereafter, unless the employee elects to decline the automatic increase and
enrollment. Beginning with pay periods after May 30, 2005, the one year
enrollment waiting period was waived. Administrative expenses paid by the
Company for the plan were approximately $98,000, $85,000 and $69,000 for the
years ended 2007, 2006 and 2005, respectively.
After January 1, 2006, the Company matching increased to 50% of the employee's
salary deferral up to the first 7% of compensation. Prior to January 1, 2006 the
Company matched 100% of the employee's salary deferral up to the first 3% of
compensation. The Company contributes in the form of cash and directs the
investment to shares of AAON Stock. No other purchases of AAON stock are
permitted. Employees are 100% vested in salary deferral contributions and vest
proportionately over 6 years in employer matching contributions. The Company
made matching contributions of $1.3 million, $1.0 million and $0.8 million in
2007, 2006 and 2005, respectively.
New Accounting Pronouncements
-----------------------------
In July 2006, Financial Accounting Standards Board ("FASB") Interpretation No.
48, Accounting for Uncertainty in Income Taxes, an Interpretation of SFAS No.
109 ("FIN 48") was released. FIN 48 clarifies the accounting for uncertain tax
positions as described in SFAS No. 109, Accounting for Income Taxes, and
requires a company to recognize, in its financial statements, the impact of a
tax position only if that position is "more likely than not" of being sustained
on an audit basis solely on the technical merits of the position. FIN 48 also
requires qualitative and quantitative disclosures including a discussion of
reasonably possible changes that might occur in the recognized tax benefits over
the next twelve months as well as a roll-forward of all unrecognized tax
benefits. FIN 48 is effective for fiscal years beginning after December 15,
2006. The Company adopted FIN 48 on January 1, 2007. The adoption of FIN 48 did
not have a material impact on the Company's Consolidated Financial Statements.
-38-
1. Business, Summary of Significant Accounting Policies and Other Financial Data
(continued)
New Accounting Pronouncements (continued)
-----------------------------------------
In September 2006, the FASB released SFAS No. 157, Fair Value Measurements
("SFAS 157"). SFAS 157 defines fair value and establishes a framework for
measuring fair value in generally accepted accounting principles, and expands
disclosures about fair value measurements. Although SFAS 157 applies to (and
amends) the provisions of existing authoritative literature, it does not, of
itself, require any new fair value measurements or establish valuation
standards. SFAS 157 is effective for financial statements issued for fiscal
years beginning after November 15, 2007, and interim periods within those fiscal
years. Adoption of SFAS 157 is not expected to have a material impact on the
Company's Consolidated Financial Statements.
In February, 2007, the FASB issued FASB Statement No. 159, The Fair Value Option
for Financial Assets and Financial Liabilities ("FAS 159"), which creates an
alternative measurement treatment for certain financial assets and financial
liabilities. SFAS 159 permits fair value to be used for both the initial and
subsequent measurements on an instrument by instrument basis, with changes in
the fair value to be recognized in earnings as those changes occur. This
election is referred to as the fair value option. SFAS 159 also requires
additional disclosures to compensate for the lack of comparability that will
arise from the use of the fair value option. SFAS 159 is effective for fiscal
years beginning after November 15, 2007. Adoption of SFAS 159 did not have a
material impact on the Company's Consolidated Financial Statements.
Segments
--------
Management has reviewed its business operations and determined that it operates
in a single homogeneous business segment as defined in SFAS 131, Disclosures
about Segments of an Enterprise and Related Information. The Company sells
similar products with similar economic characteristics to similar classes of
customers. The technologies and operations are highly integrated. Revenues and
costs are reviewed monthly by management on a product line basis as a single
business segment.
2. Supplemental Cash Flow Information
Interest payments of approximately $10,000, $81,000 and $16,000 were made during
the years ended December 31, 2007, 2006 and 2005, respectively. Payments for
income taxes of $10.2 million, $6.5 million and $7.2 million were made during
the years ended December 31, 2007, 2006 and 2005, respectively. Dividends
payable of $2.9 million and $2.5 million were accrued as of December 31, 2007
and 2006 and paid on January 3, 2008 and 2007, respectively.
3. Certificate of Deposit
At December 31, 2007 and 2006 there were no investments in certificate of
deposits. The Company invested $500,000 in a 30-day certificate of deposit at
January 31, 2006 bearing interest at 4.1% per annum. The Company reinvested the
proceeds in April 2006 in a 60-day certificate of deposit bearing interest at
4.7% per annum. At December 31, 2005, the Company had invested $1.0 million in a
30-day certificate of deposit bearing interest at 4% per annum. Proceeds from
the $1.0 million certificate of deposit were reinvested in April 2006 in a
90-day certificate of deposit bearing interest at 4.6% per annum.
4. Revolving Credit Facility
The Company's revolving credit facility provides for maximum borrowings of $15.2
million which is provided by the Bank of Oklahoma, National Association. Under
the line of credit, there is one standby letter of credit totaling $1.3 million.
The letter of credit was a requirement of the Company's workers compensation
insurance and has been renewed and will expire December 31, 2008. Interest on
borrowings is payable monthly at the Wall Street Journal prime rate less 0.5% or
LIBOR plus 1.6%, at the election of the Company (6.84% at December 31, 2007). No
fees are associated with the unused portion of the committed amount. At December
31, 2007 and 2006, the Company had no borrowings outstanding under the revolving
credit facility. Borrowings available under the revolving credit facility at
December 31, 2007, were $13.9 million. The credit facility previously required
the Company to maintain a certain financial ratio and prohibited the declaration
of cash dividends. On February 14, 2006, the Board of Directors voted to
initiate a semi-annual cash dividend of $0.20 per share to the holders of the
outstanding Common Stock. In conjunction with the Board's vote on February 14,
2006, the restriction of payments of dividends was waived by the lender and
removed from the covenants with the renewal of the line of credit July 30, 2006.
At December 31, 2007 and 2006, the Company was in compliance with its financial
ratio covenants. On July 30, 2007, the Company renewed the line of credit with a
maturity date of July 30, 2008.
-39-
5. Debt
Short-term debt at December 31, 2007 and 2006 consisted of notes payable
totaling approximately $91,000 and $59,000 due in 2008 and 2007, respectively.
In 2007, the notes payable are due in monthly installments of $7,588, with an
interest rate of 4.148%. In 2006, the notes payable are due in monthly
installments of $9,004, with an interest rate of 3.53%, related to a computer
capital lease.
6. Income Taxes
The Company follows the liability method of accounting for income taxes, which
provides that deferred tax liabilities and assets are based on the difference
between the financial statement and income tax bases of assets and liabilities
using currently enacted tax rates.
The income tax provision consists of the following:
Year Ending December 31,
2007 2006 2005
--------------------------------------------
(in thousands)
Current $ 12,631 $ 9,556 $ 8,566
Deferred (444) (491) (1,696)
--------------------------------------------
$ 12,187 $ 9,065 $ 6,870
============================================
The reconciliation of the federal statutory income tax rate to the effective
income tax rate is as follows: The "Other" tax rate primarily relates to certain
domestic credits.
Year Ending December 31,
2007 2006 2005
--------------------------------------------
Federal statutory rate 35% 35% 35%
State income taxes, net of
federal benefit 3% 4% 4%
Other (3%) (4%) (2%)
--------------------------------------------
35% 35% 37%
============================================
The tax effect of temporary differences giving rise to the Company's deferred
income taxes at December 31 is as follows:
2007 2006 2005
--------------------------------------------
(in thousands)
Net current deferred assets and (liabilities) relating to:
Valuation reserves $ 295 $ 240 $ 391
Warranty accrual 2,456 2,172 2,284
FIN 48 83 - -
Other accruals 1,430 1,492 1,170
Other, net 48 50 32
--------------------------------------------
$ 4,312 $ 3,954 $ 3,877
============================================
Net long-term deferred (assets) and liabilities relating to:
Depreciation and amortization $ 6,376 $ 5,492 $ 5,027
NOL (2,019) (1,242) (695)
Share-based compensation (383) (189) 142
--------------------------------------------
$ 3,974 $ 4,061 $ 4,474
============================================
-40-
The total net operating loss (NOL) deferred tax asset of approximately $5.5
million relates to AAON Canada. The NOL's originating in 2007 and 2006 will
expire in twenty years. The NOL's originating in 2005 will expire in nine years.
The Company and its subsidiaries file income tax returns in the U.S. federal
jurisdiction, and various state and foreign jurisdictions. Effective January 1,
2007 the Company adopted FIN 48.
The total amount of unrecognized tax benefits is as follows:
(in thousands)
Balance at January 1, 2007 $ 551
Change as a result of tax positions taken during an earlier period -
Change as a result of tax positions taken during the current period -
Change as a result settlements with tax authorities (156)
Change as a result of a lapse of the applicable statue of limitations (142)
------------------
Balance at December 31, 2007 $ 253
==================
The total amount of unrecognized tax benefits that if recognized would impact
the effective tax rate is approximately $190,000.
The Company recognizes accrued interest and penalties related to unrecognized
tax benefits in income tax expense. At December 31, 2007 and 2006, the Company
had accrued approximately $110,000 and $0 for the potential payment of interest
and penalties, respectively.
The total amount of unrecognized tax benefits at December 31, 2007 is
approximately $253,000 related to tax positions for which it is reasonably
possible that the total amounts could significantly decrease during the next
twelve months. This amount represents the unrecognized tax benefits comprised of
items related to determination of state nexus. Resolution of these tax benefits
will occur through a voluntary compliance program, which it is reasonably
possible will be completed during the next twelve months. As of December 31,
2007, the Company is subject to U.S. Federal income tax examinations for the tax
years 2004 through 2007, and to non-U.S. income tax examinations for the tax
years of 2004 through 2007. In addition, the Company is subject to state and
local income tax examinations for the tax years 2001 through 2007.
7. Stock-Based Compensation
The Company maintains a stock option plan for key employees, directors and
consultants. The Company's stock option plan provided for 4.4 million shares of
Common Stock to be issued under the plan. Under the terms of the plan, the
exercise price of shares granted may not be less than 85% of the fair market
value at the date of the grant. Options granted to directors prior to May 25,
2004, vest one year from the date of grant and are exercisable for nine years
thereafter. Options granted to directors on or after May 25, 2004, vest
one-third each after 1-3 years. All other options granted vest at a rate of 20%
per year, commencing one year after date of grant, and are exercisable during
years 2-10. On May 22, 2007, the stockholders of the Company adopted a Long-Term
Incentive Plan which provides an additional 750,000 shares that can be granted
in the form of stock options, stock appreciation rights, restricted stock
awards, performance units and performance awards. Since inception of the Plan,
non-qualified stock options and restricted stock awards have been granted with
the same vesting schedule as the previous plan.
Prior to January 1, 2006, the Company accounted for its nonqualified stock
options under the recognition and measurement principles of APB 25 and related
interpretations. Under APB 25, no stock-based employee compensation cost was
reflected in net income, as all options granted under the plan qualified for
"fixed" plan accounting and had an exercise price equal to the market value of
the underlying common stock on the date of grant. The Company had adopted the
disclosure-only provisions of FAS 123. No stock based compensation cost was
recognized in the Consolidated Statements of Income for the year ended December
31, 2005.
-41-
Effective January 1, 2006, the Company adopted the fair value recognition
provisions of SFAS 123(R) using the modified-prospective transition method.
Under that transition method, compensation cost recognized for the year ended
December 31, 2007 and 2006 includes all share-based payments granted prior to,
but not yet vested as of January 1, 2006, and compensation cost for all
share-based payments granted subsequent to January 1, 2006. The compensation
cost is based on the grant date fair value calculated using a
Black-Scholes-Merton Option Pricing Model in accordance with provisions of SFAS
123(R).
For the year ended December 31, 2007 and 2006, the Company recognized
approximately $526,000 and $500,000 in pre-tax compensation expense in the
Consolidated Statements of Income related to the stock option plan. The total
pre-tax compensation cost related to nonvested stock options not yet recognized
as of December 31, 2007 and 2006, is $1.5 million and $1.9 million,
respectively. The nonvested stock options are expected to be recognized over a
weighted-average period of 2.3 years.
Prior to the adoption of SFAS 123(R), the Company presented all tax benefits
resulting from the exercise of stock options as operating cash flows in the
Consolidated Statements of Cash Flows. FAS 123(R) requires that cash flows from
the exercise of stock options resulting from tax benefits in excess of
recognized cumulative compensation cost (excess tax benefits) be classified as
financing cash flows.
The effect on net income and earnings per share if the Company had applied the
fair value recognition provisions of FAS 123 to stock-based employee
compensation in prior years is as follows:
Year Ended
December 31, 2005
-----------------------
(in thousands except
per share data)
Net income, as reported $ 11,462
Deduct: Total stock-based employee compensation
expense determined under fair value method
for all awards, net of related tax effects (438)
-----------------------
Pro forma net income $ 11,024
=======================
Earnings per share:
Basic, as reported $ 0.62
=======================
Basic, pro forma $ 0.60
=======================
Diluted, as reported $ 0.60
=======================
Diluted, pro forma $ 0.58
=======================
-42-
The following assumptions were used to determine the fair value of the unvested
stock options on the original grant date for expense recognition purposes for
options granted during the years ended December 31, 2007 and 2006 and for pro
forma disclosure purposes for the year ended December 31, 2005:
2007 2006 2005
----------------------------------------
Directors and Officers:
Expected dividend yield N/A 2.05% -
Expected volatility N/A 42.76% 32.15%
Risk-free interest rate N/A 5.05% 4.39%
Expected life N/A 8.0 yrs 8.0 yrs
Forfeiture Rate N/A 0% 0%
Employees:
Expected dividend yield 1.67% 2.05% -
Expected volatility 41.92% 42.33% 32.15%
Risk-free interest rate 4.61% 4.84% 4.39%
Expected life 6.3 yrs 6.3 yrs 8.0 yrs
Forfeiture Rate 28% 28% 0%
The expected term of the options is based on evaluations of historical and
expected future employee exercise behavior. The risk-free interest rate is based
on the U.S. Treasury rates at the date of grant with maturity dates
approximately equal to the expected life at the grant date. Volatility is based
on historical volatility of the Company's stock. The Company had not declared
dividends in prior years, but initiated a dividend payout in 2006. Previously,
the Company used the Board of Director approved semi-annual dividend payout of
$0.20 per share to calculate the expected dividend yield. The Board of Directors
approved future dividend payments of $0.16 per share related to the stock split
effective August 21, 2007 and the table above was adjusted to reflect the
change.
The following is a summary of stock options outstanding as of December 31, 2007:
Options Outstanding Options Exercisable
-------------------------------------------------------------- ------------------------------------
Range of Number Weighted Weighted Aggregate Number Weighted
Exercise Prices Outstanding at Average Average Intrinsic Exercisable at Average
December 31, Remaining Exercise Value December 31, 2007 Exercise
2007 Contractual Price Price
Life
--------------------------------------------------------------------------------------------------------------------------
2.26 - 2.26 21,750 0.04 $ 2.26 $17.56 21,750 $ 2.26
2.67 - 3.85 307,320 1.34 3.20 16.62 307,320 3.20
5.73 - 11.29 241,613 4.84 8.45 11.37 180,413 7.69
11.40 - 12.00 46,500 7.59 11.69 8.13 24,400 11.75
12.68 - 15.55 67,500 7.89 14.34 5.48 23,300 14.18
15.99 - 21.01 244,250 8.81 17.23 2.59 36,450 16.81
-----------------------------------------------------------------------------------------------------
Total 928,933 4.97 $ 9.47 $13.67 593,633 $ 6.15
=====================================================================================================
-43-
A summary of option activity under the plan as of December 31, 2007, is as
follows:
Weighted
Weighted Average Aggregate
Average Remaining Intrinsic Value
Options Shares Exercise Price Contractual Term ($000)
---------------- -------------------- ----------------- ------------------
Outstanding at December 31, 2004 1,739,670 $ 4.09
Granted 199,500 11.09
Exercised (243,600) 3.37
Forfeited or Expired (25,050) 5.58
---------------- --------------------
Outstanding at December 31, 2005 1,670,520 $ 5.01
Granted 269,251 15.93
Exercised (406,950) 3.09
Forfeited or Expired (71,325) 11.11
---------------- --------------------
Outstanding at December 31, 2006 1,461,496 7.33
Granted 139,188 15.98
Exercised (573,374) 4.24
Forfeited or Expired (98,377) 14.80
---------------- --------------------
Outstanding at December 31, 2007 928,933 9.47 4.97 $ 9,617
================ ==================== ================= ==================
Exercisable at December 31, 2007 593,633 $ 6.15 3.07 $ 8,116
================ ==================== ================= ==================
The weighted average grant date fair value of options granted during 2007 and
2006 was $7.07 and $6.70, respectively. The total intrinsic value of options
exercised during the year ended December 31, 2007 and 2006 was $8.7 million and
$5.0 million, respectively. The cash received from options exercised during the
year ended December 31, 2007 and 2006 was $2.4 million and $1.3 million,
respectively. The impact of these cash receipts is included in financing
activities in the accompany Consolidated Statements of Cash Flows.
A summary of the status of the non-vested stock option shares as of December 31,
2007, is as follows:
Weighted Average Grant
Shares Date Fair Value
------------- ------------------------
Nonvested at January 1, 2007 415,980 $ 6.09
Granted 108,250 7.50
Vested
(100,678) 6.10
Forfeited (88,252) 6.68
------------- ------------------------
Nonvested at December 31, 2007 335,300 $ 6.49
============= ========================
The total fair value of shares vested during the year ended December 31, 2007
was approximately $449,000.
The Company also grants restricted stock awards to key employees and directors.
These awards are recorded at their fair value on the date of grant and
compensation cost is recorded using straight-line vesting over the service
period. The weighted average grant date fair value of restricted stock awards
granted during 2007 was $20.85 per share, total grant date fair value of
approximately $811,000. As of December 31, 2007, there was no aggregate
intrinsic value of restricted stock awards. For the year ended December 31,
2007, the Company recognized approximately $56,000 in pre-tax compensation
expense in the Consolidated Statements of Income related to restricted stock
awards. In addition, as of December 31, 2007, unrecognized compensation cost
related to non-vested restricted stock awards was approximately $734,000 which
is expected to be recognized over a weighted average period of 2.0 years.
-44-
A summary of restricted stock activity under the plan as of December 31, 2007,
is as follows:
Weighted
Average
Remaining Aggregate
Contractual Intrinsic Value
Options Shares Term ($000)
---------------- ---------------- -----------------
Outstanding at January 1, 2007 -
Granted 38,900
Exercised -
Forfeited or Expired (1,050)
----------------
Outstanding at December 31, 2007 37,850 9.50 $ -
================ ================ =================
Exercisable at December 31, 2007 - - $ -
================ ================ =================
During 2007, the Compensation Committee of the Board of Directors authorized and
issued restricted stock awards to the key employees and directors of the
Company. The restricted stock award program offers the opportunity to earn
shares of AAON Common Stock over time, rather than options that give the right
to purchase stock at a set price. Restricted stock awarded to directors vest
one-third each year. All other restricted stock awards vests at a rate of 20%
per year. Restricted stock awards are grants that entitle the holder to shares
of Common Stock subject to certain terms. The fair value of option grants is
based on the fair market value of AAON Common Stock on the respective grant
dates, reduced for the present value of dividends.
SFAS 123(R) requires that cash flows from the exercise of stock options
resulting from tax benefits in excess of recognized cumulative compensation
costs (excess tax benefits) be classified as financing cash flows. For the
twelve months ended December 31, 2007 and 2006, $3.0 million and $1.9 million
respectively, of such excess tax benefits from share based payment plans was
classified as financing cash flows.
8. Stockholder Rights Plan
During 1999, the Board of Directors adopted a Stockholder Rights Plan (the
"Plan"), which was amended in 2002. Under the Plan, stockholders of record on
March 1, 1999, received a dividend of one right per share of the Company's
Common Stock. Stock issued after March 1, 1999, contains a notation
incorporating the rights. Each right entitles the holder to purchase one
one-thousandth (1/1,000) of a share of Series A Preferred Stock at an exercise
price of $90. The rights are traded with the Company's Common Stock. The rights
become exercisable after a person has acquired, or a tender offer is made for,
15% or more of the Company's Common Stock. If either of these events occurs,
upon exercise the holder (other than a holder owning more than 15% of the
outstanding stock) will receive the number of shares of the Company's Common
Stock having a market value equal to two times the exercise price.
The rights may be redeemed by the Company for $0.001 per right until a person or
group has acquired 15% of the Company's Common Stock. The rights expire on
August 20, 2012.
9. Stock Repurchase
Following repurchases of approximately 12% of its outstanding Common Stock
between September 1999 and September 2001, the Company announced and began
another stock repurchase program on October 17, 2002, targeting repurchases of
up to approximately 2.0 million shares of its outstanding stock. On February 14,
2006, the Board of Directors approved the suspension of the Company's repurchase
program. Through December 31, 2006, the Company had repurchased a total of
1,886,796 shares under this program for an aggregate price of $22,034,568, or an
average of $11.68 per share. The Company purchased the shares at the current
market price.
On November 6, 2007, the Company began a new stock repurchase program, targeting
repurchases of up to approximately 10% (1.8 million shares) of the outstanding
stock of the Company from time to time in open market transactions at prevailing
market prices. Through December 31, 2007, the Company had repurchased a total of
690,300 shares under this program for an aggregate price of $13,012,199, or an
average price of $18.85 per share.
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On July 1, 2005, the Company entered into a stock repurchase arrangement by
which employee participants in AAON's 401(k) savings and investment plan are
entitled to have shares of AAON stock in their accounts sold to the Company to
provide diversification of their investments. The maximum number of shares to be
repurchased is unknown under the program as the amount is contingent on the
number of shares sold by employees. Through December 31, 2007, the Company
repurchased 501,075 shares for an aggregate price of $7,712,287, or an average
price of $15.39 per share. The Company purchases the shares at the current
market price.
On November 7, 2006, the Board of Directors authorized the Company to repurchase
shares from certain directors following their exercise of stock options. The
maximum number of shares to be repurchased is unknown under the program as the
amount is contingent on the number of shares sold by directors. Through December
31, 2007, the Company repurchased 260,625 shares for an aggregate price of
$5,232,188, or an average price of $20.08 per share. The Company purchases the
shares at the current market price.
10. Dividends
On February 14, 2006, the Board of Directors voted to initiate a semi-annual
cash dividend. Previously, the Company paid Board of Director approved
semi-annual dividend payout of $0.20 per share. The Board of Directors approved
future dividend payments of $0.16 per share related to the stock split effective
August 21, 2007. Dividends were declared to shareholders of record at the close
of business on June 11, 2007 and December 13, 2007 and paid on July 2, 2007 and
January 3, 2008. The company paid cash dividends of $5.0 million ($2.5 million
paid in January and July 2007, respectively) and declared dividends payable of
$2.9 million for the year ended December 31, 2007. The Company paid cash
dividends of $2.5 million and declared dividends payable of $2.5 million for the
year ended December 31, 2006.
11. Contingencies
The Company is subject to claims and legal actions that arise in the ordinary
course of business. Management believes that the ultimate liability, if any,
will not have a material effect on the Company's results of operations or
financial position.
12. Quarterly Results (Unaudited)
The following is a summary of the quarterly results of operations for the years
ending December 31, 2007 and 2006:
Quarter Ended
March 31 June 30 September 30 December 31
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(in thousands, except per share data)
2007
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Net sales $ 58,628 $ 70,835 $ 70,907 $ 62,147
Gross profit 15,722 15,598 13,640 12,409
Net income 6,317 6,877 5,382 4,580
Earnings per share:
Basic 0.34* 0.37* 0.29* 0.25
Diluted 0.33* 0.36* 0.28* 0.24
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Quarter Ended
March 31 June 30 September 30 December 31
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(in thousands, except per share data)
2006
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Net sales $ 53,620 $ 59,137 $ 64,153 $ 54,550
Gross profit 10,384 10,119 13,591 9,796
Net income 3,743 3,455 5,397 4,538
Earnings per share:
Basic 0.20* 0.19* 0.29* 0.25*
Diluted 0.20* 0.18* 0.28* 0.24*
*Reflects three-for-two stock split effective August 21, 2007.
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