UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended November 30, 2003 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 0-619 WSI Industries, Inc. ------------------------------------------------------------------------------- (Exact name of registrant, as specified in its charter) Minnesota 41-0691607 ------------------------------------------------------------------------------- (State or other jurisdiction of (I. R. S. Employer incorporation of organization) Identification No.) Osseo, Minnesota 55369 ------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (763) 428-4308 ------------------------------------------------------------------------------- (Registrant's telephone number, including area code) Wayzata, Minnesota ------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. 2,551,129 Common Shares were outstanding as of December 31, 2003. WSI INDUSTRIES, INC. AND SUBSIDIARIES INDEX Page No. -------- PART I. FINANCIAL INFORMATION: Item 1. Financial Statements Condensed Consolidated Balance Sheets November 30, 2003(Unaudited) and August 31, 2003 3 Condensed Consolidated Statements of Income Thirteen weeks ended November 30, 2003 and November 24, 2002 (Unaudited) 4 Condensed Consolidated Statements of Cash Flows Thirteen weeks ended November 30, 2003 and November 24, 2002 (Unaudited) 5 Notes to Condensed Consolidated Financial Statements (Unaudited) 6, 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8, 9, 10 Item 4. Controls and Procedures 11 PART II. OTHER INFORMATION: Item 6. Exhibits and Reports on Form 8-K 11 Signatures 12 2 Part I. Financial Information Item I. Financial Statements WSI INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS NOVEMBER 30, AUGUST 31, 2003 2003 ------------ ---------- (Unaudited) ASSETS CURRENT ASSETS: Cash and cash equivalents $1,519,476 $ 891,218 Accounts receivable 1,036,138 1,530,811 Inventories 661,668 606,262 Prepaid and other current assets 36,280 75,747 Deferred tax assets 169,387 169,387 ---------- ---------- Total Current Assets 3,422,949 3,273,425 ---------- ---------- Property, Plant and Equipment - Net 1,593,031 1,718,599 ---------- ---------- Deferred tax assets 1,777,409 1,813,270 ---------- ---------- Intangible assets, net 2,368,452 2,368,452 ---------- ---------- $9,161,841 $9,173,746 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Trade accounts payable $ 570,677 $ 403,277 Accrued compensation and employee withholdings 269,021 384,857 Miscellaneous accrued expenses 173,618 150,289 Current portion of long-term debt 199,597 195,720 ---------- ---------- Total Current Liabilities 1,212,913 1,134,143 ---------- ---------- Long term debt, less current portion 596,631 648,008 ---------- ---------- STOCKHOLDERS' EQUITY: Common stock, par value $.10 a share; authorized 10,000,000 shares; issued and outstanding 2,551,129 shares 255,113 255,113 Capital in excess of par value 1,826,901 1,826,901 Retained earnings 5,270,283 5,309,581 ---------- ---------- Total Stockholders' Equity 7,352,297 7,391,595 ---------- ---------- $9,161,841 $9,173,746 ========== ========== See notes to condensed consolidated financial statements 3 WSI INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (Unaudited) 13 weeks ended ----------------------------------- November 30, November 24, 2003 2002 ----------- ----------- Net sales $ 2,806,062 $ 2,434,293 Cost of products sold 2,395,405 1,972,831 ----------- ----------- Gross margin 410,657 461,462 Selling and administrative expense 317,889 378,869 Interest and other income (15,446) (18,974) Interest and other expense 15,983 40,982 ----------- ----------- Earnings from operations before income taxes 92,231 60,585 Income tax expense 35,861 21,935 ----------- ----------- Net earnings $ 56,370 $ 38,650 =========== =========== Basic earnings per share $ .02 $ .02 =========== =========== Diluted earnings per share $ .02 $ .02 =========== =========== Cash dividend per share $ .0375 $ -- =========== =========== Weighted average number of common shares 2,551,129 2,465,229 =========== =========== Weighted average number of common and dilutive potential common shares 2,629,091 2,465,229 =========== =========== See notes to condensed consolidated financial statements. 4 WSI INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) 13 weeks ended ------------------------------------ November 30, November 24, 2003 2002 ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net earnings $ 56,370 $ 38,650 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation 145,033 158,508 Deferred taxes 35,861 21,935 Changes in assets and liabilities: Decrease in accounts receivable 494,673 52,198 Increase in inventories (55,407) (57,861) Decrease in prepaid expenses 39,468 16,859 Increase in accounts payable and accrued expenses 74,893 38,524 ----------- ----------- Net cash provided by operations 790,891 268,813 ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property, plant and equipment (19,465) (9,356) ----------- ----------- Net cash used in investing activities (19,465) (9,356) ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Payments of long-term debt (47,500) (43,917) Dividends paid (95,668) -- ----------- ----------- Net cash used in financing activities (143,168) (43,917) ----------- ----------- NET INCREASE IN CASH AND CASH EQUIVALENTS 628,258 215,540 CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 891,218 1,115,922 ----------- ----------- CASH AND CASH EQUIVALENTS AT END OF REPORTING PERIOD $ 1,519,476 $ 1,331,462 =========== =========== SUPPLEMENTAL CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 15,984 $ 41,217 Income taxes $ -- $ -- See notes to condensed consolidated financial statements. 5 WSI INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS: The condensed consolidated balance sheet as of November 30, 2003, the condensed consolidated statements of income for the thirteen weeks ended November 30, 2003 and November 24, 2002 and the condensed consolidated statements of cash flows for the thirteen weeks then ended, respectively, have been prepared by the Company without audit. In the opinion of management, all adjustments (which include normal recurring adjustments) necessary to present fairly the financial position, results of operations and cash flows for all periods presented have been made. The condensed consolidated balance sheet at August 31, 2003 is derived from the audited consolidated balance sheet as of that date. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. Therefore, these condensed consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in the Company's 2003 annual report to shareholders. The results of operations for interim periods are not necessarily indicative of the operating results for the full year. 2. DEBT AND LINE OF CREDIT: The Company has renewed its revolving credit agreement in the maximum amount of $1 million with its bank. Interest on the renewed agreement is at the bank's prime rate. The revolver was not accessed during the quarter, and correspondingly, no amount was owed at the end of the current quarter. The credit agreement is secured by all assets of the Company and expires December 31, 2004. 3. GOODWILL AND INTANGIBLE ASSETS Under SFAS No. 142, Goodwill and Other Intangible Assets, goodwill and intangible assets are deemed to have indefinite lives and are not amortized but are subjected to annual impairment tests in accordance with the statement. Other intangible assets will continue to be amortized over their useful lives. The Company adopted the new rules on accounting for goodwill and other intangible assets beginning in the first quarter of fiscal 2002. The Company performed its annual impairment test in the fourth quarter of fiscal 2003 and has determined no charge is warranted. 6 Goodwill and other intangible assets resulting from acquisitions of business and the formation of the Company consist of the following: November 30, November 24, 2003 2002 ------------ ------------ Goodwill $2,428,264 $2,428,264 Less accumulated amortization 308,595 308,595 ---------- ---------- $2,119,669 $2,119,669 ========== ========== Other identifiable intangibles: Organization costs $ 285,000 $ 285,000 Less accumulated amortization 36,217 36,217 ---------- ---------- $ 248,783 $ 248,783 ========== ========== 4. EARNINGS PER SHARE: In 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 128 Earnings per Share. Statement 128 replaced the previously reported primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented, and where necessary, restated to conform to the Statement 128 requirements. The following table sets forth the computation of basic and diluted earnings per share: Thirteen weeks ended ---------------------------------- November 30, November 24, 2003 2002 ------------ ------------ Numerator for basic and diluted earnings per share: Net earnings $ 56,370 $ 38,650 ========== ========== Denominator: Denominator for basic earnings per share - weighted average shares 2,551,129 2,465,229 Effect of dilutive securities: Employee and non-employee options 77,962 -- ---------- ---------- Dilutive common shares Denominator for diluted earnings per share 2,629,091 2,465,229 ========== ========== Basic earnings per share $ .02 $ .02 ========== ========== Diluted earnings per share $ .02 $ .02 ========== ========== 7 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION and RESULTS OF OPERATIONS Critical Accounting Policies and Estimates Management's Discussion and Analysis of Financial Condition and Results of Operations discusses our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements, so we consider these to be our critical accounting policies. Because of the uncertainty inherent in these matters, actual results could differ from the estimates we used in applying the critical accounting policies. Within the context of these critical accounting policies, we are not currently aware of any reasonably likely event that would result in materially different amounts being reported. Allowance for Excess and Obsolete Inventory: Inventories, which are composed of raw materials, work in process and finished goods, are valued at the lower of cost or market. On a periodic basis, the Company analyzes the level of inventory on hand, its cost in relation to market value and estimated customer requirements to determine whether write-downs for excess or obsolete inventory are required. Actual customer requirements in any future periods are inherently uncertain and thus may differ from our estimates. If actual or expected requirements were significantly greater or lower than the established reserves, we would record a reduction or increase to the obsolescence allowance in the period in which we made such a determination. Goodwill Impairment: The Company evaluates the valuation of its goodwill according to the provisions of SFAS 142 to determine if the current value of goodwill has been impaired. To do this the Company determines the discounted present value of anticipated cash flows based on anticipated results of operations for the coming years. If we have changes in events or circumstances, including reductions in anticipated cash flows generated by our operations, goodwill could become impaired which would result in a charge to earnings. Deferred Taxes: The Company accounts for income taxes using the liability method. Deferred income taxes are provided for temporary difference between the financial reporting and tax bases of assets and liabilities. A valuation allowance would be set up should the realization of any deferred taxes become less likely than not to occur. The valuation allowance is analyzed periodically by the Company and may result in income tax expense different than statutory rates. 8 Results of Operations: Net sales were $2,806,000 for the quarter ending November 30, 2003, an increase of 15% or $372,000 from the same period of the prior year. The increase was due primarily to higher sales in the Company's recreational vehicle market. Gross margin decreased to 15% for the quarter ending November 30, 2003 versus 19% in the year ago period. The lower gross margin was due in large part to a higher than normal level of supplies and machine repair expense. Selling and administrative expense of $318,000 for the quarter ending November 30, 2003 was $61,000 lower than in the prior year. Prior year selling and administrative expense was negatively affected by $60,000 of costs associated with a proxy contest that the Company was involved in. The proxy contest was resolved with all costs incurred by the end of the first quarter of fiscal 2003. Interest expense in the first quarter of fiscal 2004 was $16,000, which was $25,000 less than the first quarter of fiscal 2003 amount of $41,000. The decrease is attributable to the subordinated promissory note being paid off in fiscal 2003, and thus not having any interest expense being accrued against it in fiscal 2004. The Company recorded income tax expense at an effective tax rate of 39% and 36% for the quarters ended November 30, 2003 and November 24, 2002, respectively. Liquidity and Capital Resources: On November 30, 2003, working capital was $2,210,000 compared to $2,139,000 at August 31, 2003. The ratio of current assets to current liabilities at November 30, 2003 was 2.82 to 1.0 compared to 2.89 to 1.0 at August 31, 2003. The Company's cash balance increased $628,000 during the first quarter, primarily from collections of accounts receivable. As discussed in the Notes to Condensed Consolidated Financial Statements, the Company renewed its $1,000,000 revolving credit facility with its bank subsequent to the end of the fiscal 2004 first quarter. Interest on the new agreement is at prime. No amounts have been borrowed since the closing of the original agreement in December 2002. It is the Company's belief that with its current cash balance, plus future internally generated funds and its line of credit, will be sufficient to enable the Company to meet its working capital requirements through the end of fiscal 2004. Cautionary Statement: Statements included in this Management's Discussion and Analysis of Financial Condition and Results of Operations, in future filings by the Company with the Securities and Exchange Commission, in the Company's press releases and in oral statements made with the approval of an authorized executive officer which are not historical or current facts are "forward-looking statements." These statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and are subject to certain risks and uncertainties that could cause actual results to differ materially from historical earnings and those presently anticipated or projected. The Company wishes to caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. The following important factors, among others, in some cases have affected and in the future could affect the Company's actual results and could cause the Company's actual financial performance to differ materially from that expressed 9 in any forward-looking statement: (i) the Company's ability to obtain additional manufacturing programs and retain current programs; (ii) the loss of significant business from any one of its current customers could have a material adverse effect on the Company; (iii) a significant downturn in the industries in which the Company participates could have an adverse effect on the demand for Company services. The foregoing list should not be construed as exhaustive and the Company disclaims any obligation subsequently to revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. 10 ITEM 4. CONTROLS AND PROCEDURES (a) Evaluation of Disclosure Controls and Procedures. The Company's Chief Executive Officer, Michael J. Pudil, and Chief Financial Officer, Paul D. Sheely, have evaluated the Company's disclosure controls and procedures as of the end of the period covered by this report. Based upon that review, they have concluded that these controls and procedures are effective in ensuring that material information related to the Company is made known to them by others within the Company. (b) Changes in Internal Controls over Financial Reporting. There have been no significant changes in internal control financial reporting that occurred during the fiscal period covered by this report that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. PART II. OTHER INFORMATION: ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K: A. The following exhibits are included herein: Exhibit 10.1 Amendment and Modification of Revolving Line of Credit dated December 31, 2003 between the Company and Excel Bank. Exhibit 31.1 Certification of Chief Executive Officer pursuant to Rules 13a-14 and 15d-14 of the Exchange Act. Exhibit 31.2 Certification of Chief Financial Officer pursuant to Rules 13a-14 and 15d-14 of the Exchange Act. Exhibit 32 Certificate pursuant to 18 U.S.C.ss.1350. B. Reports on Form 8-K: During the quarter, the Company furnished a Current Report on Form 8-K dated October 15, 2003, reporting under Item 12 its results of operations for the fiscal year ended August 31, 2003 and under Item 7, attaching a press release dated October 15, 2003 announcing the 2003 fiscal year results of operations and a dividend. 11 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. WSI INDUSTRIES, INC. Date: January 13, 2004 /s/ Michael J. Pudil ---------------- --------------------------------------- Michael J. Pudil, President & CEO Date: January 13, 2004 /s/ Paul D. Sheely ---------------- --------------------------------------- Paul D. Sheely, Vice President, Finance & CFO 12