Form 10-Q
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


FORM 10-Q

 


 

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

For the quarterly period ended June 30, 2006

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: 1-13782

 


WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

(Exact name of registrant as specified in its charter)

 


 

Delaware   25-1615902
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)

1001 Air Brake Avenue

Wilmerding, PA

  15148
(Address of principal executive offices)   (Zip Code)

 


412-825-1000

(Registrant’s telephone number, including area code)

N/A

(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 a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer  x            Accelerated filer  ¨            Non-accelerated filer  ¨

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at August 2, 2006

[Common Stock, $.01 par value per share]

  48,772,584 shares

 



Table of Contents

WESTINGHOUSE AIR BRAKE

TECHNOLOGIES CORPORATION

June 30, 2006 FORM 10-Q

TABLE OF CONTENTS

 

          Page
  

PART I—FINANCIAL INFORMATION

  

Item 1.

   Financial Statements   
  

Condensed Consolidated Balance Sheets as of June 30, 2006 and December 31, 2005

   3
  

Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2006 and 2005

   4
  

Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2006 and 2005

   5
  

Notes to Condensed Consolidated Financial Statements

   6

Item 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations    26

Item 3.

   Quantitative and Qualitative Disclosures about Market Risk    40

Item 4.

   Controls and Procedures    40
   PART II—OTHER INFORMATION   

Item 1.

   Legal Proceedings    41

Item 1A.

   Risk Factors    41

Item 4.

   Submission of Matters to a Vote of Security Holders    41

Item 6.

   Exhibits    42
   Signatures    43

 

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Table of Contents

PART I—FINANCIAL INFORMATION

 

Item 1. Financial Statements

WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

 

In thousands, except shares and par value

   Unaudited
June 30,
2006
    December 31,
2005
 
Assets             
Current Assets             

Cash and cash equivalents

   $ 238,907     $ 141,365  

Accounts receivable

     162,993       206,891  

Inventories

     139,737       110,873  

Deferred income taxes

     15,612       15,838  

Other current assets

     12,444       7,959  
                

Total current assets

     569,693       482,926  

Property, plant and equipment

     372,344       358,759  

Accumulated depreciation

     (207,848 )     (197,158 )
                

Property, plant and equipment, net

     164,496       161,601  

Other Assets

    

Goodwill

     119,270       118,181  

Other intangibles, net

     38,100       39,129  

Deferred income taxes

     18,526       18,428  

Other noncurrent assets

     10,364       16,092  
                

Total other assets

     185,260       191,830  
                

Total Assets

   $ 920,449     $ 836,357  
                
Liabilities and Shareholders’ Equity     

Current Liabilities

    

Accounts payable

   $ 80,555     $ 93,551  

Accrued income taxes

     11,557       4,427  

Customer deposits

     93,750       71,098  

Accrued compensation

     23,272       25,274  

Accrued warranty

     17,557       16,158  

Other accrued liabilities

     28,754       30,971  
                

Total current liabilities

     255,445       241,479  

Long-term debt

     150,000       150,000  

Reserve for postretirement and pension benefits

     43,347       44,428  

Deferred income taxes

     7,582       7,381  

Other long-term liabilities

     10,230       13,862  
                

Total liabilities

     466,604       457,150  

Shareholders’ Equity

    

Preferred stock, 1,000,000 shares authorized, no shares issued

     —         —    

Common stock, $.01 par value; 100,000,000 shares authorized: 66,174,767 shares issued and 48,659,930 and 48,002,819 outstanding at June 30, 2006 and December 31, 2005, respectively.

     662       662  

Additional paid-in capital

     309,944       294,209  

Treasury stock, at cost, 17,514,837 and 18,171,948 shares, at June 30, 2006 and December 31, 2005, respectively

     (217,253 )     (225,483 )

Retained earnings

     376,974       336,744  

Accumulated other comprehensive loss

     (16,482 )     (26,925 )
                

Total shareholders’ equity

     453,845       379,207  
                

Total Liabilities and Shareholders’ Equity

   $ 920,449     $ 836,357  
                

The accompanying notes are an integral part of these statements.

 

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Table of Contents

WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 

    

Unaudited

Three Months Ended
June 30

   

Unaudited

Six Months Ended

June 30

 

In thousands, except per share data

   2006     2005     2006     2005  

Net sales

   $ 261,902     $ 266,297     $ 524,311     $ 508,097  

Cost of sales

     (185,161 )     (200,122 )     (372,480 )     (384,910 )
                                

Gross profit

     76,741       66,175       151,831       123,187  

Selling, general and administrative expenses

     (32,313 )     (30,623 )     (65,941 )     (59,635 )

Engineering expenses

     (8,023 )     (8,183 )     (16,138 )     (16,853 )

Amortization expense

     (859 )     (1,073 )     (1,726 )     (2,044 )
                                

Total operating expenses

     (41,195 )     (39,879 )     (83,805 )     (78,532 )

Income from operations

     35,546       26,296       68,026       44,655  

Other income and expenses

        

Interest expense, net

     (420 )     (2,165 )     (1,544 )     (4,649 )

Other expense, net

     (1,623 )     (687 )     (1,503 )     (1,836 )
                                

Income from continuing operations before income taxes

     33,503       23,444       64,979       38,170  

Income tax expense

     (11,721 )     (8,511 )     (23,129 )     (13,894 )
                                

Income from continuing operations

     21,782       14,933       41,850       24,276  

Discontinued operations

        

(Loss) income from discontinued operations (net of tax)

     (637 )     218       (659 )     123  
                                

Net income

   $ 21,145     $ 15,151     $ 41,191     $ 24,399  
                                

Earnings Per Common Share

        

Basic

        

Income from continuing operations

   $ 0.45     $ 0.32     $ 0.87     $ 0.52  

(Loss) income from discontinued operations

     (0.01 )     —         (0.02 )     0.01  
                                

Net income

   $ 0.44     $ 0.32     $ 0.85     $ 0.53  
                                

Diluted

        

Income from continuing operations

   $ 0.44     $ 0.31     $ 0.86     $ 0.51  

(Loss) income from discontinued operations

     (0.01 )     0.01       (0.02 )     .01  
                                

Net income

   $ 0.43     $ 0.32     $ 0.84     $ 0.52  
                                

Weighted average shares outstanding

        

Basic

     48,451       46,862       48,210       46,452  

Diluted

     49,092       47,544       48,851       47,157  
                                

The accompanying notes are an integral part of these statements.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

    

Unaudited

Six Months Ended

June 30,

 
     2006     2005  

In thousands

         Revised  

Operating Activities

    

Net income

   $ 41,191     $ 24,399  

Stock-based compensation expense

     5,981       625  

Adjustments to reconcile net income to net cash provided by operations:

    

Discontinued operations

     (1,154 )     (20 )

Depreciation and amortization

     11,859       13,352  

Excess income tax benefits from exercise of stock options

     (4,215 )     —    

Changes in operating assets and liabilities

    

Accounts receivable

     39,876       (18,812 )

Inventories

     (30,989 )     (14,842 )

Accounts payable

     (12,755 )     14,276  

Accrued income taxes

     22,279       10,189  

Accrued liabilities and customer deposits

     (10,977 )     1,559  

Other assets and liabilities

     12,401       (437 )
                

Net cash provided by operating activities

     73,497       30,289  

Investing Activities

    

Purchase of property, plant and equipment

     (8,969 )     (11,452 )

Disposals of property, plant and equipment

     —         975  

Acquisition of business, net of cash received

     —         (36,405 )

Sale of discontinued operations

     3,018       —    

Discontinued operations

     —         (2 )
                

Net cash used for investing activities

     (5,951 )     (46,884 )

Financing Activities

    

Repayments of long term debt

     —         (107 )

Proceeds from the issuance of treasury stock for stock options and other benefit plans

     9,895       16,500  

Excess income tax benefits from exercise of stock options

     4,215       —    

Cash dividends ($0.02 per share for the six months ended June 30, 2006 and 2005)

     (969 )     (932 )
                

Net cash provided by financing activities

     13,141       15,461  

Effect of changes in currency exchange rates

     16,855       (7,271 )
                

(Decrease) increase in cash

     97,542       (8,405 )

Cash, beginning of year

     141,365       95,257  
                

Cash, end of period

   $ 238,907     $ 86,852  
                

The accompanying notes are an integral part of these statements.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

1. BUSINESS

Wabtec is one of the world’s largest providers of value-added, technology-based products and services for the global rail industry. Our products are found on virtually all U.S. locomotives, freight cars and passenger transit vehicles, as well as in more than 80 countries throughout the world. Our products enhance safety, improve productivity and reduce maintenance costs for customers, and many of our core products and services are essential in the safe and efficient operation of freight rail and passenger transit vehicles. Wabtec is a global company with operations in 11 countries. In the first six months of 2006, about 32 percent of the Company’s revenues came from outside the U.S.

2. ACCOUNTING POLICIES

 

Basis of Presentation The unaudited condensed consolidated interim financial statements have been prepared in accordance with generally accepted accounting principles and the rules and regulations of the Securities and Exchange Commission and include the accounts of Wabtec and its majority owned subsidiaries. These condensed interim financial statements do not include all of the information and footnotes required for complete financial statements. In management’s opinion, these financial statements reflect all adjustments of a normal, recurring nature necessary for a fair presentation of the results for the interim periods presented. Results for these interim periods are not necessarily indicative of results to be expected for the full year.

The Company operates on a four-four-five week accounting quarter, and accordingly, the quarters end on or about March 31, June 30, September 30 and December 31.

The notes included herein should be read in conjunction with the audited consolidated financial statements included in Wabtec’s Annual Report on Form 10-K for the year ended December 31, 2005. The December 31, 2005 information has been derived from the Company’s December 31, 2005 Annual Report on Form 10-K.

Revenue Recognition Revenue is recognized in accordance with Staff Accounting Bulletins (SABs) 101, “Revenue Recognition in Financial Statements” and 104, “Revision of Topic 13”. Revenue is recognized when products have been shipped to the respective customers, title has passed and the price for the product has been determined.

The Company recognizes revenues on long-term contracts based on the percentage of completion method of accounting. The units-of-delivery method or other measures, as appropriate, are used to measure the progress toward completion of individual contracts. Contract revenues and cost estimates are reviewed and revised at a minimum quarterly and adjustments are reflected in the accounting period as such amounts are determined. Provisions are made currently for estimated losses on uncompleted contracts.

Certain pre-production costs relating to long-term production and supply contracts have been deferred and will be recognized over the life of the contracts. Deferred pre-production costs were $6.9 million and $4.9 million at June 30, 2006 and December 31, 2005, respectively.

Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the Company to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual amounts could differ from the estimates. On an ongoing basis, management reviews its estimates based on currently available information. Changes in facts and circumstances may result in revised estimates.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Stock-Based Compensation Effective January 1, 2006, Wabtec adopted Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), “Share-Based Payment,” which requires the company to recognize compensation expense for stock-based compensation based on the grant date fair value. This expense must be recognized ratably over the requisite service period following the date of grant. Wabtec has elected the modified prospective transition method for adoption, and prior periods financial statements have not been restated. Prior to January 1, 2006, Wabtec accounted for stock-based compensation in accordance with the provisions of Accounting Principles Board Opinion No. 25 (APB 25), “Accounting for Stock Issued to Employees,” and related interpretations.

Pro Forma Effect Prior to the Adoption of SFAS No. 123(R) Wabtec’s net income and earnings per share for 2005 would have been reduced to the pro forma amounts shown below if compensation expense had been determined based on the fair value at the grant dates in accordance with SFAS No. 123, “Accounting for Stock-Based Compensation,” and SFAS No. 148, “Accounting for Stock-Based Compensation—Transition and Disclosure an amendment of FASB Statement No. 123.”

 

In thousands, except per share

   Three months ended
June 30, 2005
   Six months ended
June 30, 2005

Net income as reported

   $ 15,151    $ 24,399

Stock based compensation expense under FAS123, net of tax of $162 and $348

     283      604
             

Pro forma

   $ 14,868    $ 23,795

Basic earnings per share

     

As reported

   $ 0.32    $ 0.53

Pro forma

     0.32      0.51

Diluted earnings per share

     

As reported

   $ 0.32    $ 0.52

Pro forma

     0.31      0.50
             

Stock-Based Plans Stock options have been granted at not less than market prices on the dates of grant. Generally, the options become exercisable over a three-year vesting period and expire ten years from the date of grant. In January 2006, Wabtec granted 32,000 stock options to certain individuals. The Company has now adopted a non-vested stock plan and issued 200,500 awards to executives in February 2006. The non-vested stock generally vests over four years from the date of grant. In addition, the Company established in 2004, a stock-based incentive plan for eligible employees. The plan provides stock awards which vest upon attainment of certain three year performance targets. Wabtec also sponsors an employee stock purchase plan, whereby participants can purchase the Company’s common stock at a discount of about 15% of the lesser of fair market value on the first or last day of each offering period.

Stock based compensation was $6.0 million and $625,000 for the six months ended June 30, 2006 and 2005, respectively. This included $5 million and $625,000, respectively, related to non-vested stock and the stock awards under the incentive plan, the accounting for which was not impacted significantly by the adoption of SFAS No. 123(R). As a result of adopting SFAS No. 123(R), compensation expense increased by $291,000 and $670,000 for the three and six month periods ended June 30, 2006, respectively, and basic and diluted earnings per share decreased by about $0.01 and $0.01, respectively. At June 30, 2006, unamortized compensation expense related to those stock options, non-vested shares and stock awards expected to vest totaled $15.3 million and will be recognized over a weighted average period of 1.8 years.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Wabtec uses a Black-Scholes pricing model to estimate fair value at grant date for future option grants. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:

 

     Three and six months ended
June 30,
 
     2006     2005  

Dividend yield

   .3 %   .3 %

Risk-free interest rate

   4.27 %   4.6 %

Stock price volatility

   43.4     44.3  

Expected life (years)

   5.0     5.0  

The dividend yield is based on the Company’s dividend rate and the current market price of the underlying common stock at the date of grant. Expected life in years is determined from historical stock option exercise data. Expected volatility is based on the historical volatility of Wabtec stock. The risk-free interest rate is based on the U.S. Treasury bond rates for the expected life of the option.

The following table summarizes the stock option activity and related information for the period indicated:

 

     Options     Weighted
Average
Exercise
Price
  

Weighted Average

Remaining

Contractual Life

  

Aggregate
intrinsic value

(in thousands)

Beginning of year—January 1, 2006

     2,204,065     $ 13.98       $ 28,477

Granted

     32,000       26.66         344

Exercised

     (610,887 )     14.37         12,071

Canceled

     —         —           —  
                          

Year to date—June 30, 2006

     1,625,178     $ 14.08    5.8    $ 37,896
                          

Exercisable

     1,346,156     $ 13.23    5.3    $ 32,535
                          

Weighted average fair value of options granted during 2006

   $ 11.19          
                

The following table summarizes the non-vested stock and stock awards activity and related information for the period indicated:

 

     Non-Vested
Stock
   Stock
Awards
    Weighted
Average FMV

Outstanding at January 1, 2006

   —      518,666     $ 15.83

Granted

   200,500    187,000       34.06

Canceled

   —      (4,000 )     16.11
                 

Outstanding at June 30, 2006

   200,500    701,666     $ 27.75
                 

As of June 30, 2006, stock awards issued under the incentive plan are awarded but not vested. These stock awards will vest based upon the achievement of certain financial goals for each three year periods ending December 31, 2006, 2007 and 2008, respectively. The stock awards included in the table above represent the maximum number of shares that may ultimately vest. As of June 30, 2006, based on the Company’s performance, we estimate that the majority of these stock awards will vest and have recorded compensation expense

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

accordingly. If our estimate of the number of these stock awards expected to vest changes in a future accounting period, compensation expense could be reduced and will be recognized over the remaining vesting period.

Financial Derivatives and Hedging Activities The Company has entered into foreign currency forward contracts to reduce the impact of changes in currency exchange rates. Forward contracts are agreements with counterparty to exchange two distinct currencies at a set exchange rate for delivery on a set date at some point in the future. There is no exchange of funds until the delivery date. At the delivery date the Company can either take delivery of the currency or settle on a net basis. All outstanding forward contracts are for the sale of U.S. Dollars (USD) and the purchase of Canadian Dollars (CAD). As of June 30, 2006, the Company had forward contracts with a notional value of $30.0 million CAD (or $25.2 million U.S.), with an average exchange rate of $.84 USD per $1 CAD, resulting in the recording of a current asset and an increase in comprehensive income of $1.1 million, net of tax.

Foreign Currency Translation Assets and liabilities of foreign subsidiaries, except for the Company’s Mexican operations whose functional currency is the U.S. Dollar, are translated at the rate of exchange in effect on the balance sheet date while income and expenses are translated at the average rates of exchange prevailing during the year. Foreign currency gains and losses resulting from transactions, and the translation of financial statements are recorded in the Company’s consolidated financial statements based upon the provisions of SFAS No. 52, “Foreign Currency Translation.” The effects of currency exchange rate changes on intercompany transactions and balances of a long-term investment nature are accumulated and carried as a component of shareholders’ equity. The effects of currency exchange rate changes on intercompany transactions that are non U.S. dollar denominated amounts are charged or credited to earnings. Foreign exchange loss was $1.3 million and $637,000 for the three months ended June 30, 2006 and 2005, respectively, and $930,000 and $1.6 million for the six months ended June 30, 2006 and 2005, respectively.

Other Comprehensive Income (Loss) Comprehensive income (loss) is defined as net income and all other non-owner changes in shareholders’ equity. The Company’s accumulated other comprehensive income (loss) consists of foreign currency translation adjustments, foreign currency hedges and pension related adjustments. Six month changes in the table below, adjust components of accumulated other comprehensive income (loss). Total comprehensive income was:

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 

In thousands

   2006    2005     2006    2005  

Net income

   $ 21,145    $ 15,151     $ 41,191    $ 24,399  

Foreign currency translation adjustment

     9,928      (5,203 )     10,220      (7,281 )

Unrealized loss on foreign exchange contracts, net of tax

     492      (1,303 )     224      (2,092 )
                              

Total comprehensive income

   $ 31,565    $ 8,645     $ 51,635    $ 15,026  
                              

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

As reflected on the balance sheet as a component of equity, components of accumulated other comprehensive income (loss) consisted of the following:

 

In thousands

   June 30,
2006
    December 31,
2005
 

Foreign currency translation adjustment

   $ 8,744     $ (1,476 )

Unrealized gains on foreign exchange contracts, net of tax

     1,100       877  

Additional minimum pension liability, net of tax

     (26,326 )     (26,326 )
                

Total accumulated comprehensive loss

   $ (16,482 )   $ (26,925 )
                

Reclassifications Certain prior year amounts have been reclassified where necessary, to conform to the current year presentation.

Recent Accounting Pronouncements In July 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in Income Taxes—an Interpretation of FASB Statement No. 109.” FIN 48 prescribes a comprehensive model for how a company should recognize, measure, present, and disclose in its financial statements uncertain tax positions that it has taken or expects to take on a tax return. FIN 48 is effective in the first quarter of 2007. Wabtec is currently evaluating the impact of this statement on the company.

3. ACQUISITIONS AND DISCONTINUED OPERATIONS

On February 1, 2005, the Company completed the acquisition of the assets of Rütgers Rail S.p.A, a business with operations in Italy, Germany, France and Spain. The acquisition was accounted for as a purchase and accordingly, the purchase price was allocated to the respective assets and liabilities based upon their estimated fair values as of the acquisition date. Operating results were included in the consolidated statement of operations from the acquisition date forward. The new company formed to hold the newly purchased assets of Rütgers Rail S.p.A. is named CoFren S.r.l. (“CoFren”). CoFren is one of the leading manufacturers of brake shoes, disc pads and interior trim components for rail applications in Europe. The purchase price was $35.9 million, net of cash received, resulting in additional goodwill of $5.7 million.

For pro forma purposes, this acquisition would only impact the results for the six months ended June 30, 2005, as CoFren was included in its entirety for all periods beginning afterwards. The following unaudited pro forma financial information presents income statement results as if the acquisition had occurred January 1, 2005:

 

In thousands, except per share

   Six months ended
June 30, 2005

Net sales

   $ 513,833

Gross profit

     124,752

Net income

     24,509

Diluted earnings per share

  

As reported

   $ 0.53

Pro forma

     0.52

With the acquisition of Rutgers Rail, S.p.A., the Company decided to offer for sale a non-core product division. As part of the purchase accounting, the net amount of this division had been revalued to its estimated net realizable value and had been classified as assets held for sale, which is included in other noncurrent assets on the balance sheet.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

At March 31, 2006, the sale of this division was completed for approximately $2.0 million in cash, subject to a working capital adjustment which is expected to be finalized with the buyer in the 3rd quarter. The assets sold primarily included transit car interior products and services for customers located in Europe. This sale resulted in a loss of approximately $740,000 subject to the working capital adjustment mentioned earlier. Also, in the fourth quarter of 2005, the Company decided to liquidate its bus door joint venture in China.

In accordance with SFAS 144, “Accounting for Impairment or Disposal of Long-Lived Assets”, the operating results of these businesses have been classified as discontinued operations for all years presented and are summarized as of December 31, as follows:

 

     Three Months
Ended June 30,
   Six Months Ended
June 30,

In thousands

   2006     2005    2006     2005

Net sales

   $ 3     $ 3,251    $ 2,600     $ 6,335

Income/(loss) before income taxes

     (522 )     377      (497 )     253

Income tax expense

     115       159      162       130
                             

Loss from discontinued operations

   $ (637 )   $ 218    $ (659 )   $ 123
                             

4. INVENTORIES

The components of inventory, net of reserves, were:

 

In thousands

   June 30,
2006
   December 31,
2005

Raw materials

   $ 42,751    $ 38,724

Work-in-process

     74,716      54,953

Finished goods

     22,270      17,196
             

Total inventory

   $ 139,737    $ 110,873
             

5. RESTRUCTURING AND IMPAIRMENT CHARGES

In the first six months of 2005, the Company recorded restructuring and asset impairment charges totaling $2.3 million related to consolidating two U.K. facilities into one, relocating a product line from Canada to the U.S., and completion of a data center migration. These charges consisted of severance costs of $593,000 for 43 employees, relocation and other costs of $469,000 and asset write-offs of $1.2 million. All but $475,000 of these costs were paid for in the first six months of 2005.

In the fourth quarter of 2005, the Company recorded restructuring charges related to consolidating facilities of about $800,000. As of June 30, 2006, these costs have not been paid.

On July 19, 2006, the Board of Directors approved a restructuring plan to improve the profitability and efficiency of certain business units. As part of the plan, Wabtec will downsize two of its Canadian plants, in Stoney Creek and Wallaceburg, by moving certain products to lower-cost facilities and outsourcing. The restructuring plan will result in the recognition of $11 million of expenses, pre-tax, primarily for pension-related curtailment and settlement charges and fixed asset write downs for idled assets. These expenses will be recognized in the second half of 2006 and the first half of 2007.

6. INTANGIBLES

Goodwill on the balance sheet is $119.3 million at June 30, 2006 and $118.2 million at December 31, 2005.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

As of June 30, 2006 and December 31, 2005, the Company’s trademarks had a net carrying amount of $20.0 million and $19.9 million, respectively, and the Company believes these intangibles have an indefinite life. Intangible assets of the Company, other than goodwill and trademarks, consist of the following:

 

In thousands

   June 30,
2006
   December 31,
2005

Patents and other, net of accumulated amortization of $26,232 and $22,459

   $ 8,503    $ 9,987

Customer relationships, net of accumulated amortization of $242 and $145

     3,170      3,018

Covenants not to compete, net of accumulated amortization of $8,324 and $8,304

     —        20

Intangible pension asset

     6,457      6,457
             

Total

   $ 18,130    $ 19,182
             

The weighted average useful life of patents was 13 years, customer relationships were 20 years and covenants not to compete was five years. Amortization expense for intangible assets was $675,000 and $1.4 million for the three and six months ended June 30, 2006, and $859,000 and $1.6 million for the three and six months ended June 30, 2005.

The change in the carrying amount of goodwill by segment for the six months ended June 30, 2006 is as follows:

 

In thousands

   Freight
Group
   Transit
Group
   Total

Balance at December 31, 2005

   $ 100,055    $ 18,126    $ 118,181

Foreign currency impact

     579      510      1,089
                    

Balance at June 30, 2006

   $ 100,634    $ 18,636    $ 119,270
                    

7. LONG-TERM DEBT

Long-term debt consisted of the following:

 

In thousands

   June 30,
2006
   December 31,
2005

6.875% Senior Notes

   $ 150,000    $ 150,000
             

Total

   $ 150,000    $ 150,000

Less—current portion

     —        —  
             

Long-term portion

   $ 150,000    $ 150,000
             

Refinancing Credit Agreement

In January 2004, the Company refinanced its existing unsecured revolving credit agreement with a consortium of commercial banks. This “Refinancing Credit Agreement” provided a $175 million five-year revolving credit facility expiring in January 2009. In November 2005, the Company entered into an amendment to the Refinancing Credit Agreement which, among other things, extended the expiration of the agreement until

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

December 2010. At June 30, 2006, the Company had available borrowing capacity, net of $23.9 million of letters of credit, of approximately $151.1 million, subject to certain financial covenant restrictions.

Refinancing Credit Agreement borrowings bear variable interest rates indexed to the indices described below. The Company did not borrow under the Refinancing Credit Agreement during the six months ended June 30, 2006 or during the year ended December 31, 2005.

Under the Refinancing Credit Agreement, the Company may elect a base interest rate or an interest rate based on the London Interbank Offered Rates of Interest (“LIBOR”). The base rate is the greater of LaSalle Bank National Association’s prime rate or the federal funds effective rate plus 0.5% per annum. The LIBOR rate is based on LIBOR plus a margin that ranges from 62.5 to 175 basis points depending on the Company’s consolidated total indebtedness to cash flow ratios. The current margin is 62.5 basis points.

The Refinancing Credit Agreement limits the Company’s ability to declare or pay cash dividends and prohibits the Company from declaring or making other distributions, subject to certain exceptions. The Refinancing Credit Agreement contains various other covenants and restrictions including the following limitations: incurrence of additional indebtedness; mergers, consolidations and sales of assets and acquisitions; additional liens; sale and leasebacks; permissible investments, loans and advances; certain debt payments; capital expenditures; and imposes a minimum interest expense coverage ratio and a maximum debt to cash flow ratio.

The Refinancing Credit Agreement contains customary events of default, including payment defaults, failure of representations or warranties to be true in any material respect, covenant defaults, defaults with respect to other indebtedness of the Company, bankruptcy, certain judgments against the Company, ERISA defaults and “change of control” of the Company. The Refinancing Credit Agreement includes the following covenants: a minimum interest coverage ratio of three, maximum debt to cash flow ratio of 3.25 and a minimum net worth of $180 million plus 50% of consolidated net income since September 30, 2003. The Company is in compliance with these measurements and covenants.

6 7/8% Senior Notes Due August 2013

In August 2003, the Company issued $150 million of Senior Notes due in 2013 (“Notes”). The Notes were issued at par. Interest on the Notes will accrue at a rate of 6.875% per annum and is payable semi-annually on January 31 and July 31 of each year. The proceeds were used to repay debt outstanding under the Company’s existing credit agreement, and for general corporate purposes.

The Notes are senior unsecured obligations of the Company and rank pari passu with all existing and future senior debt and are senior to all our existing and future subordinated indebtedness of the Company. The indenture under which the Notes were issued contains covenants and restrictions which limit among other things, the following: the incurrence of indebtedness, payment of dividends and certain distributions, sale of assets, change in control, mergers and consolidations and the incurrence of liens.

On July 31, 2006, the Board of Directors authorized the repurchase of up to $50 million of the Company’s outstanding shares. The Company intends to purchase these shares on the open market or in negotiated or block trades. No time limit was set for the completion of the program which qualifies under the Refinancing Credit Agreement, as well as the 6 7/8% Senior Notes currently outstanding.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

8. EMPLOYEE BENEFIT PLANS

The Company sponsors defined benefit pension plans that cover certain U.S., Canadian and United Kingdom employees and which provide benefits of stated amounts for each year of service of the employee.

 

     Pension Plans     Postretirement Plan  
     Three months ended
June 30,
    Three months ended
June 30,
 

In thousands, except percentages

   2006     2005     2006     2005  

Net periodic benefit cost

        

Service cost

   $ 1,085     $ 703     $ 325     $ 279  

Interest cost

     1,996       1,939       656       543  

Expected return on plan assets

     (2,169 )     (1,954 )     —         —    

Net amortization/deferrals

     918       886       272       (368 )
                                

Net periodic benefit cost

   $ 1,830     $ 1,574     $ 1,253     $ 454  
                                

Assumptions

        

Discount rate

     5.21 %     5.94 %     5.43 %     6.20 %

Expected long-term rate of return

     6.96 %     7.20 %     NA       NA  

Rate of compensation increase

     3.38 %     4.10 %     NA       NA  
     Pension Plans     Postretirement Plan  
     Six months ended
June 30,
    Six months ended
June 30,
 

In thousands, except percentages

   2006     2005     2006     2005  

Net periodic benefit cost

        

Service cost

   $ 2,153     $ 1,647     $ 648     $ 476  

Interest cost

     3,967       3,903       1,310       1,206  

Expected return on plan assets

     (4,312 )     (3,958 )     —         —    

Net amortization/deferrals

     1,828       1,902       543       482  
                                

Net periodic benefit cost

   $ 3,636     $ 3,494     $ 2,501     $ 2,164  
                                

Assumptions

        

Discount rate

     5.21 %     5.94 %     5.43 %     6.20 %

Expected long-term rate of return

     6.96 %     7.20 %     NA       NA  

Rate of compensation increase

     3.38 %     4.10 %     NA       NA  

The Company’s funding methods are based on governmental requirements and differ from those methods used to recognize pension expense. The Company expects to contribute $9.4 million to the pension plans during 2006 but expects that this level of funding will decrease in future periods. Rebalancing of the asset allocation occurs on a quarterly basis.

In addition to providing pension benefits, the Company has provided certain unfunded postretirement health care and life insurance benefits for a portion of North American employees. The Company is not obligated to pay health care and life insurance benefits to individuals who had retired prior to 1990.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

9. INCOME TAXES

The overall effective income tax rate was 35.0% and 35.6% for the three and six months ended June 30, 2006 and 36.4% and 36.5% for the three and six months ended June 30, 2005, respectively.

10. EARNINGS PER SHARE

The computation of earnings per share is as follows:

 

     Three Months Ended
June 30,

In thousands, except per share

   2006    2005

Basic earnings per share

     

Income from continuing operations applicable to common shareholders

   $ 21,782    $ 14,933

Divided by

     

Weighted average shares outstanding

     48,451      46,862

Basic earnings from continuing operations per share

   $ 0.45    $ 0.32
             

Diluted earnings per share

     

Income from continuing operations applicable to common shareholders

   $ 21,782    $ 14,933

Divided by sum of the

     

Weighted average shares outstanding

     48,451      46,862

Conversion of dilutive stock options

     641      682
             

Diluted shares outstanding

     49,092      47,544

Diluted earnings from continuing operations per share

   $ 0.44    $ 0.31
             

 

     Six Months Ended
June 30,

In thousands, except per share

   2006    2005

Basic earnings per share

     

Income from continuing operations applicable to common shareholders

   $ 41,850    $ 24,276

Divided by

     

Weighted average shares outstanding

     48,210      46,452

Basic earnings from continuing operations per share

   $ 0.87    $ 0.52
             

Diluted earnings per share

     

Income from continuing operations applicable to common shareholders

   $ 41,850    $ 24,276

Divided by sum of the

     

Weighted average shares outstanding

     48,210      46,452

Conversion of dilutive stock options

     641      705
             

Diluted shares outstanding

     48,851      47,157

Diluted earnings from continuing operations per share

   $ 0.86    $ 0.51
             

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

11. WARRANTIES

The following table reconciles the changes in the Company’s product warranty reserve:

 

     Six Months Ended
June 30.
 

In thousands

   2006     2005  

Balance at December 31, 2005 and 2004, respectively

   $ 16,158     $ 17,413  

Warranty provision

     5,376       2,983  

Warranty claim payments

     (3,977 )     (4,739 )
                

Balance at June 30, 2006 and 2005, respectively

   $ 17,557     $ 15,657  
                

12. COMMITMENTS AND CONTINGENCIES

Claims have been filed against the Company and certain of its affiliates in various jurisdictions across the United States by persons alleging bodily injury as a result of exposure to asbestos-containing products. Since 2000, the number of such claims has increased and the resolution of these claims may take a significant period of time. Most of these claims have been made against our wholly owned subsidiary, Railroad Friction Products Corporation (RFPC), and are based on a product sold by RFPC prior to the time that the Company acquired any interest in RFPC. On April 17, 2005, a claim against the Company by a former stockholder of RFPC contending that the Company assumed that entity’s liability for asbestos claims arising from exposure to RFPC’s product was resolved in the Company’s favor.

Most of these claims, including all of the RFPC claims, are submitted to insurance carriers for defense and indemnity or to non-affiliated companies that retain the liabilities for the asbestos-containing products at issue. We cannot, however, assure that all these claims will be fully covered by insurance or that the indemnitors will remain financially viable. Our ultimate legal and financial liability with respect to these claims, as is the case with other pending litigation, cannot be estimated.

It is Management’s belief that the potential range of loss for asbestos-related bodily injury cases is not reasonably determinable at present for a variety of factors, including: (1) the limited asbestos case settlement history of the Company’s wholly owned subsidiary, Railroad Friction Products Corporation (RFPC); (2) the unpredictable nature of personal injury litigation in general; and (3) the uncertainty of asbestos litigation in particular. Despite this uncertainty, and although the results of the Company’s operations and cash flows for any given period could be adversely affected by asbestos-related lawsuits, Management believes that the final resolution of the Company’s asbestos-related cases will not be material to the Company’s overall financial position, results of operations and cash flows. In general, this belief is based upon: (1) Wabtec’s and RFPC’s limited history of settlements and dismissals of asbestos-related cases to date; (2) the inability of many plaintiffs to establish any exposure or causal relationship to RFPC’s product; and (3) the inability of many plaintiffs to demonstrate any identifiable injury or compensable loss.

More specifically, as to RFPC, Management’s belief that any losses due to asbestos-related cases would not be material is also based on the fact that RFPC owns insurance which provides coverage for asbestos-related bodily injury claims. To date, RFPC’s insurers have provided RFPC with defense and indemnity in these actions. As to Wabtec and its divisions, Management’s belief that asbestos-related cases will not have a material impact is also based on its position that it has no legal liability for asbestos-related bodily injury claims, and that the former owners of Wabtec’s assets retained asbestos liabilities for the products at issue. To date, Wabtec has been able to successfully defend itself on this basis, including an arbitration decision and a judicial opinion, both of

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

which confirmed Wabtec’s position that it did not assume any asbestos liabilities from a former owner of a majority of Wabtec’s assets. Although Wabtec has incurred defense and administrative costs in connection with asbestos bodily injury actions, these costs have not been material, and the company has no information that would suggest these costs would become material in the foreseeable future.

The GETS-GS litigation described in the Company’s Annual Report on Form 10-K for the Year Ended December 31, 2005 was settled in April of 2006 for $3.8 million, which had been reserved for in prior years.

In April 2005, Amtrak decided to suspend its Acela Express train service due to cracks in the spokes of some of the cars’ brake discs. Amtrak’s Acela service was resumed on a limited basis in July, 2005, and complete service was resumed in September, 2005. Wabtec did not design or supply the braking system for the Acela cars. The braking system was supplied by Knorr Brake Corporation and the brake discs were designed by Faiveley Transport. Wabtec did provide and machined approximately one-third of the brake discs for the cars and assisted Amtrak and others, including Bombardier Corporation, Alstom Transportation Inc., Knorr and Faiveley, in their evaluation and investigation of the brake disc cracks.

On July 11, 2005 Wabtec received a written notice of a potential claim for damages from Knorr and on March 2, 2006 received a notice from Knorr in which Knorr stated that Amtrak is of the view that it may have warranty claims against Wabtec, Knorr, and Faiveley. Neither Knorr notice specified any amount or range of claims against the Company, although Knorr has indicated that it expects the Company to participate in any financial settlement arising from the alleged defects and failures of the Acela brake discs. Wabtec, in turn, has forwarded Knorr’s notices to Faiveley and has notified Faiveley of potential claims by Wabtec against Faiveley.

Bombardier recently reported to Wabtec and Faiveley that Bombardier and Knorr have incurred approximately $48 million in costs and losses due to the suspension of Amtrak’s Acela service, including the cost of compensating Amtrak. In turn, Wabtec has contacted Faiveley, asserting that Faiveley is fully responsible for the claims of Bombardier and Knorr. Wabtec does not believe that it has any material legal liability with regard to this matter.

In March 2006, management began an internal investigation related to business transactions conducted by a subsidiary, Pioneer Friction Limited (“Pioneer”), in West Bengal, India. Through an internal compliance review, management discovered that disbursements were made which may be in violation of applicable laws and regulations. Pioneer is a fourth-tier subsidiary of Wabtec; two of the intermediate subsidiaries are Australian companies which are, in turn, owned by a U.S. holding company.

While the transactions are inconsequential and not material to the overall operations of Wabtec, they may result in potential penalties. Management has concluded its initial investigation, and has notified Wabtec’s Audit Committee, Board of Directors, and the appropriate authorities of its findings so far. Wabtec has not recorded a reserve related to this matter as of June 30, 2006; because the Company’s potential exposure cannot be estimated based on management’s current assessment of the situation.

The Company is subject to a number of other commitments and contingencies as described in its Annual Report on Form 10-K for the Year Ended December 31, 2005, filed on March 16, 2006. During the first six months of 2006, there were no material changes other than what is discussed above to the information described in Note 18 therein.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

13. SEGMENT INFORMATION

Wabtec has two reportable segments — the Freight Group and the Transit Group. The key factors used to identify these reportable segments are the organization and alignment of the Company’s internal operations, the nature of the products and services, and customer type. The business segments are:

Freight Group manufactures products and provides services geared to the production and operation of freight cars and locomotives, including braking control equipment, on-board electronic components and train coupler equipment. Revenues are derived from OEM sales, aftermarket sales and freight car repairs and services.

Transit Group consists of products for passenger transit vehicles and locomotives (typically subways, commuter rail and buses) that include braking, coupling, monitoring systems, climate control and door equipment engineered to meet individual customer specifications. Revenues are derived from OEM and aftermarket sales as well as from repairs and services.

The Company evaluates its business segments’ operating results based on income from operations. Corporate activities include general corporate expenses, elimination of intersegment transactions, interest income and expense and other unallocated charges. Since certain administrative and other operating expenses and other items have not been allocated to business segments, the results in the following tables are not necessarily a measure computed in accordance with generally accepted accounting principles and may not be comparable to other companies.

Beginning with the first quarter of 2006, the Company transferred certain operations from the Freight to the Transit Group to reflect a shift in the markets and customers served by those operations. For the three month period ended June 30, 2005, this reclassification increased Transit Group sales by about $25 million and income from continuing operations before income taxes by $4.4 million. For the six-month period ended June 30, 2005, this reclassification increased Transit Group sales by about $41 million, and income from continuing operations before income taxes by $5.3 million. Prior period results have been adjusted for comparability purposes.

Segment financial information for the three months ended June 30, 2006 is as follows:

 

In thousands

   Freight
Group
   Transit
Group
   Corporate
Activities
    Total  

Sales to external customers

   $ 187,751    $ 74,151    $ —       $ 261,902  

Intersegment sales/(elimination)

     4,238      145      (4,383 )     —    
                              

Total sales

   $ 191,989    $ 74,296    $ (4,383 )   $ 261,902  
                              

Income (loss) from operations

   $ 41,237    $ 4,291    $ (9,982 )   $ 35,546  

Interest expense and other

     —        —        (2,043 )     (2,043 )
                              

Income (loss) from continuing operations before income taxes

   $ 41,237    $ 4,291    $ (12,025 )   $ 33,503  
                              

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Segment financial information for the three months ended June 30, 2005 is as follows:

 

In thousands

   Freight
Group
   Transit
Group
   Corporate
Activities
    Total  

Sales to external customers

   $ 181,449    $ 84,848    $ —       $ 266,297  

Intersegment sales/(elimination)

     2,169      82      (2,251 )     —    
                              

Total sales

   $ 183,618    $ 84,930    $ (2,251 )   $ 266,297  
                              

Income (loss) from operations

   $ 28,266    $ 7,567    $ (9,537 )   $ 26,296  

Interest expense and other

     —        —        (2,852 )     (2,852 )
                              

Income (loss) from continuing operations before income taxes

   $ 28,266    $ 7,567    $ (12,389 )   $ 23,444  
                              

Segment financial information for the six months ended June 30, 2006 is as follows:

 

In thousands

   Freight
Group
   Transit
Group
   Corporate
Activities
    Total  

Sales to external customers

   $ 376,102    $ 148,209    $ —       $ 524,311  

Intersegment sales/(elimination)

     7,525      262      (7,787 )     —    
                              

Total sales

   $ 383,627    $ 148,471    $ (7,787 )   $ 524,311  
                              

Income (loss) from operations

   $ 82,734    $ 7,057    $ (21,765 )   $ 68,026  

Interest expense and other

     —        —        (3,047 )     (3,047 )
                              

Income (loss) from continuing operations before income taxes

   $ 82,734    $ 7,057    $ (24,812 )   $ 64,979  
                              

Segment financial information for the six months ended June 30, 2005 is as follows:

 

In thousands

   Freight
Group
   Transit
Group
   Corporate
Activities
    Total  

Sales to external customers

   $ 347,239    $ 160,858    $ —       $ 508,097  

Intersegment sales/(elimination)

     4,623      140      (4,763 )     —    
                              

Total sales

   $ 351,862    $ 160,998    $ (4,763 )   $ 508,097  
                              

Income (loss) from operations

   $ 48,262    $ 11,789    $ (15,396 )   $ 44,655  

Interest expense and other

     —        —        (6,485 )     (6,485 )
                              

Income (loss) from continuing operations before income taxes

   $ 48,262    $ 11,789    $ (21,881 )   $ 38,170  
                              

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Sales by Product for the three months ended June 30, is as follows:

 

In thousands

   Three Months Ended
June 30.
     2006    2005

Brake Products

   $ 99,965    $ 93,260

Freight Electronics & Specialty Products

     79,056      84,675

Remanufacturing, Overhaul & Build

     47,637      58,921

Transit Products

     26,725      28,437

Other

     8,519      1,004
             

Total Sales

   $ 261,902    $ 266,297
             

Sales by Product for the six months ended June 30, is as follows:

 

     Six Months Ended
June 30.

In thousands

   2006    2005

Brake Products

   $ 202,160    $ 180,334

Freight Electronics & Specialty Products

     162,533      160,107

Remanufacturing, Overhaul & Build

     90,847      96,357

Transit Products

     54,628      64,446

Other

     14,143      6,853
             

Total Sales

   $ 524,311    $ 508,097
             

14. GUARANTOR SUBSIDIARIES FINANCIAL INFORMATION

Effective August 2003, the Company issued $150 million of Senior Notes due in 2013 (“Notes”). The obligations under the Notes are fully and unconditionally guaranteed by all U.S. subsidiaries as guarantors. In accordance with positions established by the Securities and Exchange Commission, the following shows separate financial information with respect to the parent, the guarantor subsidiaries and the non-guarantor subsidiaries. The principal elimination entries eliminate investment in subsidiaries and certain intercompany balances and transactions.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Balance Sheet as of June 30, 2006:

 

In thousands

   Parent    Guarantors     Non-Guarantors    Elimination     Consolidated

Cash

   $ 166,524    $ (6,492 )   $ 78,875    $ —       $ 238,907

Accounts Receivable

     166      98,309       64,518      —         162,993

Inventories

     —        93,703       46,034      —         139,737

Other Current Assets

     19,390      5,539       3,127      —         28,056
                                    

Total Current Assets

     186,080      191,059       192,554      —         569,693

Net Property, Plant and Equipment

     3,143      95,855       65,498      —         164,496

Goodwill

     8,521      76,729       34,020      —         119,270

Investment in Subsidiaries

     874,971      155,202       24,755      (1,054,928 )     —  

Intangibles

     9,000      24,278       4,822      —         38,100

Other Long Term Assets

     13,353      2,577       12,960      —         28,890
                                    

Total Assets

   $ 1,095,068    $ 545,700     $ 334,609    $ (1,054,928 )   $ 920,449
                                    

Current Liabilities

   $ 16,888    $ 171,588     $ 66,969    $ —       $ 255,445

Intercompany

     232,663      (267,366 )     34,703      —         —  

Long-Term Debt

     150,000      —         —        —         150,000

Other Long Term Liabilities

     241,672      (190,243 )     9,730      —         61,159
                                    

Total Liabilities

     641,223      (286,021 )     111,402      —         466,604

Stockholders’ Equity

     453,845      831,721       223,207      (1,054,928 )     453,845
                                    

Total Liabilities and Stockholders’ Equity

   $ 1,095,068    $ 545,700     $ 334,609    $ (1,054,928 )   $ 920,449
                                    

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Balance Sheet as of December 31, 2005:

 

In thousands

   Parent    Guarantors     Non-Guarantors    Elimination     Consolidated

Cash

   $ 87,899    $ (2,758 )   $ 56,224    $ —       $ 141,365

Accounts Receivable

     145      135,281       71,465      —         206,891

Inventories

     —        73,419       37,454      —         110,873

Other Current Assets

     17,519      2,195       4,083      —         23,797
                                    

Total Current Assets

     105,563      208,137       169,226      —         482,926

Net Property, Plant and Equipment

     3,843      93,108       64,650      —         161,601

Goodwill

     8,521      76,728       32,932      —         118,181

Investment in Subsidiaries

     781,663      155,201       24,755      (961,619 )     —  

Intangibles

     9,396      24,982       4,751      —         39,129

Other Long Term Assets

     13,980      9,806       10,734      —         34,520
                                    

Total Assets

   $ 922,966    $ 567,962     $ 307,048    $ (961,619 )   $ 836,357
                                    

Current Liabilities

   $ 19,287    $ 155,992     $ 66,200    $ —       $ 241,479

Intercompany

     320,568      (348,912 )     28,344      —         —  

Long-Term Debt

     150,000      —         —        —         150,000

Other Long Term Liabilities

     53,904      3,065       8,702      —         65,671
                                    

Total Liabilities

     543,759      (189,855 )     103,246      —         457,150

Stockholders’ Equity

     379,207      757,817       203,802      (961,619 )     379,207
                                    

Total Liabilities and Stockholders’ Equity

   $ 922,966    $ 567,962     $ 307,048    $ (961,619 )   $ 836,357
                                    

Income Statement for the Three Months Ended June 30, 2006:

 

In thousands

   Parent     Guarantors     Non-Guarantors     Elimination(1)     Consolidated  

Net Sales

   $ —       $ 194,416     $ 96,781     $ (29,295 )   $ 261,902  

Cost of Sales

     (449 )     (131,218 )     (78,193 )     24,699       (185,161 )
                                        

Gross Profit (Loss)

     (449 )     63,198       18,588       (4,596 )     76,741  

Operating Expenses

     (12,167 )     (20,613 )     (8,415 )     —         (41,195 )
                                        

Operating Profit (Loss)

     (12,616 )     42,585       10,173       (4,596 )     35,546  

Interest (Expense) Income

     (4,125 )     3,150       555       —         (420 )

Other (Expense) Income

     (34 )     444       (2,033 )     —         (1,623 )

Equity Earnings

     42,569       (2,990 )     —         (39,579 )     —    
                                        

Income (Loss) From Continuing Operations Before Income Taxes

     25,794       43,189       8,695       (44,175 )     33,503  

Income Tax Benefit (Expense)

     (4,925 )     (3,949 )     (2,847 )     —         (11,721 )
                                        

Income (Loss) From Continuing Operations

     20,869       39,240       5,848       (44,175 )     21,782  

Discontinued Operations

     276       27       (940 )     —         (637 )
                                        

Net Income (Loss)

   $ 21,145     $ 39,267     $ 4,908     $ (44,175 )   $ 21,145  
                                        

 

(1) Includes elimination of gross profit realized with certain intercompany transactions between Guarantor and Non-Guarantor subsidiaries.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Income Statement for the Three Months Ended June 30, 2005:

 

In thousands

   Parent     Guarantors     Non-Guarantors     Elimination(1)     Consolidated  

Net Sales

   $ —       $ 191,783     $ 112,481     $ (37,967 )   $ 266,297  

Cost of Sales

     916       (145,518 )     (87,935 )     32,415       (200,122 )
                                        

Gross Profit (Loss)

     916       46,265       24,546       (5,552 )     66,175  

Operating Expenses

     (8,805 )     (21,188 )     (9,886 )     —         (39,879 )
                                        

Operating Profit (Loss)

     (7,889 )     25,077       14,660       (5,552 )     26,296  

Interest (Expense) Income

     (5,004 )     2,826       13       —         (2,165 )

Other (Expense) Income

     (1,730 )     1,812       (769 )     —         (687 )

Equity Earnings

     29,683       3,652       —         (33,335 )     —    
                                        

Income (Loss) From Continuing Operations Before Income Taxes

     15,060       33,367       13,904       (38,887 )     23,444  

Income Tax Benefit (Expense)

     91       (3,823 )     (4,779 )     —         (8,511 )
                                        

Income (Loss) From Continuing Operations

     15,151       29,544       9,125       (38,887 )     14,933  

Discontinued Operations

     —         —         218       —         218  
                                        

Net Income (Loss)

   $ 15,151     $ 29,544     $ 9,343     $ (38,887 )   $ 15,151  
                                        

 

(1) Includes elimination of gross profit realized with certain intercompany transactions between Guarantor and Non-Guarantor subsidiaries.

Income Statement for the Six Months Ended June 30, 2006:

 

In thousands

   Parent     Guarantors     Non-Guarantors     Elimination(1)     Consolidated  

Net Sales

   $ —       $ 394,372     $ 196,274     $ (66,335 )   $ 524,311  

Cost of Sales

     288       (271,234 )     (157,919 )     56,385       (372,480 )
                                        

Gross Profit (Loss)

     288       123,138       38,355       (9,950 )     151,831  

Operating Expenses

     (25,621 )     (40,999 )     (17,185 )     —         (83,805 )
                                        

Operating Profit (Loss)

     (25,333 )     82,139       21,170       (9,950 )     68,026  

Interest (Expense) Income

     (8,667 )     6,122       1,001       —         (1,544 )

Other (Expense) Income

     (380 )     781       (1,904 )     —         (1,503 )

Equity Earnings

     83,569       (5,144 )     —         (78,425 )     —    
                                        

Income (Loss) From Continuing Operations Before Income Taxes

     49,189       83,898       20,267       (88,375 )     64,979  

Income Tax Benefit (Expense)

     (8,274 )     (8,012 )     (6,843 )     —         (23,129 )
                                        

Income (Loss) From Continuing Operations

     40,915       75,886       13,424       (88,375 )     41,850  

Discontinued Operations

     276       —         (935 )     —         (659 )
                                        

Net Income (Loss)

   $ 41,191     $ 75,886     $ 12,489     $ (88,375 )   $ 41,191  
                                        

 

(1) Includes elimination of gross profit realized with certain intercompany transactions between Guarantor and Non-Guarantor subsidiaries.

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Income Statement for the Six Months Ended June 30, 2005:

 

In thousands

   Parent     Guarantors     Non-Guarantors     Elimination(1)     Consolidated  

Net Sales

   $ —       $ 370,467     $ 209,609     $ (71,979 )   $ 508,097  

Cost of Sales

     2,173       (281,186 )     (167,570 )     61,673       (384,910 )
                                        

Gross Profit (Loss)

     2,173       89,281       42,039       (10,306 )     123,187  

Operating Expenses

     (19,104 )     (41,120 )     (18,308 )     —         (78,532 )
                                        

Operating Profit (Loss)

     (16,931 )     48,161       23,731       (10,306 )     44,655  

Interest (Expense) Income

     (9,115 )     4,551       (85 )     —         (4,649 )

Other (Expense) Income

     (2,098 )     2,530       (2,268 )     —         (1,836 )

Equity Earnings

     51,108       5,910       —         (57,018 )     —    
                                        

Income (Loss) From Continuing Operations Before Income Taxes

     22,964       61,152       21,378       (67,324 )     38,170  

Income Tax Benefit (Expense)

     1,435       (7,648 )     (7,681 )     —         (13,894 )
                                        

Income (Loss) From Continuing Operations

     24,399       53,504       13,697       (67,324 )     24,276  

Discontinued Operations

     —         —         123       —         123  
                                        

Net Income (Loss)

   $ 24,399     $ 53,504     $ 13,820     $ (67,324 )   $ 24,399  
                                        

 

(1) Includes elimination of gross profit realized with certain intercompany transactions between Guarantor and Non-Guarantor subsidiaries.

Condensed Statement of Cash Flows for the Six Months Ended June 30, 2006:

 

In thousands

   Parent     Guarantors     Non-Guarantors     Elimination     Consolidated  

Net Cash Provided by (Used in) Operating Activities

   $ 65,817     $ 78,306     $ 17,749     $ (88,375 )   $ 73,497  

Net Cash (Used in) Provided by Investing Activities

     (333 )     (6,154 )     536       —         (5,951 )

Net Cash Provided by (Used in) Financing Activities

     13,141       (75,886 )     (12,489 )     88,375       13,141  

Effect of Changes in Currency Exchange Rates

     —         —         16,855       —         16,855  
                                        

Increase (Decrease) in Cash

     78,625       (3,734 )     22,651       —         97,542  

Cash at Beginning of Period

     87,899       (2,758 )     56,224       —         141,365  
                                        

Cash at End of Period

   $ 166,524     $ (6,492 )   $ 78,875     $ —       $ 238,907  
                                        

 

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WESTINGHOUSE AIR BRAKE TECHNOLOGIES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006 (UNAUDITED)

 

Condensed Statement of Cash Flows for the Six Months Ended June 30, 2005:

 

In thousands

   Parent     Guarantors     Non-Guarantors     Elimination     Consolidated  

Net Cash Provided by (Used in) Operating Activities

   $ 6,008     $ 68,327     $ 23,127     $ (67,324 )   $ 30,138  

Net Cash Used in Investing Activities

     (367 )     (42,523 )     (3,994 )     —         (46,884 )

Net Cash Provided by (Used in) Financing Activities

     15,719       (53,552 )     (13,879 )     67,324       16,651  

Effect of Changes in Currency Exchange Rates

     —         —         (7,271 )     —         (7,271 )
                                        

Increase (Decrease) in Cash

     21,360       (27,748 )     (2,017 )     —         (8,405 )

Cash at Beginning of Period

     41,117       24,849       29,291       —         95,257  
                                        

Cash at End of Period

   $ 62,477     $ (2,899 )   $ 27,274     $ —       $ 86,852  
                                        

15. OTHER EXPENSE

The components of other expense are as follows:

 

     Three Months
Ended June 30,
   Six Months Ended
June 30,

In thousands

   2006    2005    2006    2005

Foreign currency loss

   $ 1,316    $ 637    $ 930    $ 1,613

Other miscellaneous expense

     307      50      573      223
                           

Total other expense

   $ 1,623    $ 687    $ 1,503    $ 1,836
                           

 

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

The following discussion should be read in conjunction with the information in the unaudited condensed consolidated financial statements and notes thereto included herein and Westinghouse Air Brake Technologies Corporation’s Financial Statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in its 2005 Annual Report on Form 10-K, filed March 16, 2006.

OVERVIEW

Wabtec is one of the world’s largest providers of value-added, technology-based products and services for the global rail industry. Our products are found on virtually all U.S. locomotives, freight cars and passenger transit vehicles, as well as in more than 80 countries throughout the world. Our products enhance safety, improve productivity and reduce maintenance costs for customers, and many of our core products and services are essential in the safe and efficient operation of freight rail and passenger transit vehicles. Wabtec is a global company with operations in 11 countries. In the first half of 2006, about 32 percent of the Company’s revenues came from outside the U.S.

Management Review and Outlook

Wabtec’s long-term financial goals are to generate free cash flow in excess of net income, maintain a strong credit profile while minimizing our overall cost of capital, increase margins through strict attention to cost controls, and increase revenues through a focused growth strategy. In addition, management monitors the Company’s short-term operational performance through measures such as quality and on-time delivery.

Freight rail industry statistics, such as carloadings and orders for new freight cars, are continuing to improve in 2006. Deliveries of new freight cars increased to 68,657 in 2005, and orders increased to 80,703. As a result, at year-end the backlog of freight cars ordered was 69,408. This trend continued in the first half of 2006, with orders climbing to 54,181, deliveries of 38,008, and a backlog of 85,692. Sales in our freight segment have benefited from that trend. Following are quarterly freight car statistics for the past three years:

 

     Orders    Deliveries    Backlog*

First quarter 2004

   17,962    10,012    42,242

Second quarter 2004

   19,770    10,071    51,446

Third quarter 2004

   20,315    11,790    61,052

Fourth quarter 2004

   12,244    14,419    58,677
            
   70,291    46,292   
            

First quarter 2005

   17,563    15,781    59,416

Second quarter 2005

   19,132    17,914    60,544

Third quarter 2005

   17,439    16,987    60,986

Fourth quarter 2005

   26,569    17,975    69,408
            
   80,703    68,657   
            

First quarter 2006

   35,991    18,542    86,857

Second quarter 2006

   18,190    19,466    85,692

Deliveries of transit cars were 918 and 819 for the years ended December 31, 2005 and 2004, respectively. Deliveries of locomotives were 1,106 and 1,202 for the years ended December 31, 2005 and 2004, respectively.

Source: Railway Supply Institute and Management Estimates (* Figures that do not rollforward period to period reflect minor adjustments subsequent to that period from figures reported by the Railway Supply Institute.)

 

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Carloadings and Intermodal Units Originated have increased over the past three years reflecting higher rail traffic and ultimately better opportunities for maintenance and aftermarket sales for the Company:

Carloadings Originated (in thousands):

 

     1st Quarter    2nd Quarter    3rd Quarter    4th Quarter    Total

2004

   4,296    4,327    4,267    4,171    17,061

2005

   4,403    4,366    4,309    4,135    17,213

2006

   4,338    4,453    n/a    n/a    n/a

Intermodal Units Originated (in thousands):

 

     1st Quarter    2nd Quarter    3rd Quarter    4th Quarter    Total

2004

   2,585    2,750    2,810    2,849    10,994

2005

   2,781    2,885    2,992    3,036    11,694

2006

   2,937    3,093    n/a    n/a    n/a

Source: Association of American Railroads—Weekly Rail Traffic

In addition to this cyclical rebound in orders and rail traffic, we expect to generate future increases in sales and earnings from executing our four-point growth strategy:

 

    Global and Market Expansion;

 

    Aftermarket Products and Services;

 

    New Products and Technologies; and

 

    Acquisitions.

In 2006 and beyond, we will continue to face many challenges, including increased costs for raw materials, especially steel; higher costs for medical and insurance premiums; and foreign currency fluctuations. In addition, we face general economic risks, as well as the risk that our customers could curtail spending on new and existing equipment. Risks associated with our four-point growth strategy include the level of investment that customers are willing to make in new technologies developed by the industry and the Company, and risks inherent in global expansion. When necessary, we will modify our financial and operating strategies to reflect changes in market conditions and risks.

On July 19, 2006, the Board of Directors approved a restructuring plan to improve the profitability and efficiency of certain business units. As part of the plan, Wabtec will downsize two of its Canadian plants, in Stoney Creek and Wallaceburg, by moving certain products to lower-cost facilities and outsourcing. The restructuring plan will result in the recognition of $11 million in expenses, pre-tax, primarily for pension-related curtailment and settlement charges and fixed asset write downs for idled assets. These expenses will be recognized in the second half of 2006 and the first half of 2007.

 

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RESULTS OF OPERATIONS

The following table shows our Consolidated Statements of Operations for the periods indicated.

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 

In millions

   2006     2005     2006     2005  

Net sales

   $ 261.9     $ 266.3     $ 524.3     $ 508.1  

Cost of sales

     (185.2 )     (200.1 )     (372.5 )     (384.9 )
                                

Gross profit

     76.7       66.2       151.8       123.2  

Selling, general and administrative expenses

     (32.3 )     (30.6 )     (66.0 )     (59.6 )

Engineering expenses

     (8.0 )     (8.2 )     (16.1 )     (16.9 )

Amortization expense

     (0.9 )     (1.1 )     (1.7 )     (2.0 )
                                

Total operating expenses

     (41.2 )     (39.9 )     (83.8 )     (78.5 )

Income from operations

     35.5       26.3       68.0       44.7  

Interest expense, net

     (0.4 )     (2.2 )     (1.5 )     (4.7 )

Other expense, net

     (1.6 )     (0.7 )     (1.5 )     (1.8 )
                                

Income from continuing operations before income taxes

     33.5       23.4       65.0       38.2  

Income tax expense

     (11.7 )     (8.5 )     (23.1 )     (13.9 )
                                

Income from continuing operations

     21.8       14.9       41.9       24.3  

Income (loss) from discontinued operations

     (0.7 )     0.3       (0.7 )     0.1  
                                

Net income

   $ 21.1     $ 15.2     $ 41.2     $ 24.4  
                                

SECOND QUARTER 2006 COMPARED TO SECOND QUARTER 2005

The following table summarizes the results of operations for the period:

 

     Three months ended June 30,  

In thousands

   2006    2005    Percent
Change
 

Net sales

   $ 261,902    $ 266,297    -1.7 %

Income from operations

     33,503      23,444    42.9 %

Net income

     21,145      15,151    39.6 %

Net sales decreased by $4.4 million to $261.9 from $266.3 million for the three months ended June 30, 2006 and 2005, respectively. The decrease is primarily related to 2005 contract sales for the renovation of air conditioning units for transit cars of about $6 million, and modules provided under a locomotive supply contract of about $5 million that were not realized in 2006. However, the Company increased sales of freight components by about $6 million due to strong freight car deliveries and demand for locomotive components. The Company did not realize any significant net sales improvement because of price increases or foreign exchange. Net income for the three months ended June 30, 2006 was $21.1 million or $0.43 per diluted share. Net income for the three months ended June 30, 2005 was $15.1 million or $0.32 per diluted share. This increase in net income was primarily due to improved profitability on the Company’s locomotive modules contract, higher than anticipated steel and other material expenses in 2005 that management was not able to pass on to customers in the way of surcharges, offset by stock based compensation expense recognized under SFAS 123(R).

Net sales Beginning with the first quarter of 2006, the Company transferred certain operations from the Freight to Transit Group to reflect a shift in the markets and customers served by those operations. Prior period results have been adjusted for comparability purposes. For the three-month period ended June 30, 2006, this

 

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reclassification increased Transit Group sales by about $24 million. The following table shows the Company’s net sales by business segment:

 

     Three months ended
June 30,

In thousands

   2006    2005

Freight Group

   $ 187,751    $ 181,449

Transit Group

     74,151      84,848
             

Net sales

   $ 261,902    $ 266,297
             

Net sales for the three months ended June 30, 2006, decreased $4.4 million, or -1.7%, as compared to three months ended June 30, 2005. The Freight Group’s increased sales of $6.3 million reflected higher sales of aftermarket parts of $4.5 million; higher demand for pneumatic air brake components related to increased deliveries of freight cars of $6.5 million; offset by a $5 million decrease in sales from a locomotive module contract. Industry deliveries of new freight cars for the second quarter of 2006 increased to 19,466 units as compared to 17,914 for the 2nd quarter 2005. As long as freight car deliveries and freight car loadings continue to increase, similar positive trends are expected to be realized by the Company. Transit Group sales were lower mostly by $10.7 million due to a contract completed in 2005 to renovate air conditioning systems for transit cars resulting in a decrease in revenue of $6 million, and $4.4 million decline in transit revenue demand while certain large transit car contracts ramp up for 2007. As transit car deliveries for certain large transit authorities begin to increase in late 2006 and 2007, sales volume is expected to increase.

Gross profit Gross profit increased to $76.7 million in the second quarter of 2006 compared to $66.2 million in the same period of 2005. Gross profit is dependent on a number of factors including pricing, sales volume and product mix. In the second quarter of 2006, gross profit, as a percentage of sales, was 29.3% compared to 24.9% in 2005. This increase in gross profit percentage is due to a variety of factors including improved performance of a locomotive module contract which was profitable for the three months ended June 30, 2006, compared to a loss in the prior year same period. For the three months ended June 30, 2006, the locomotive module contract overall improvement was $6.2 million from the losses realized in the prior year. The remaining improvement is due to cost savings realized from sourcing raw materials from lower cost suppliers, reduced labor costs, and continuing improvements in our manufacturing processes.

The provision for warranty expense was $1.8 million higher for the second quarter of 2006 compared to the same period in the prior year, which negatively impacted gross profit. The most significant reason for the increase is due to specific reserves related to certain freight components and electronic products manufactured at our U.S. plants. In general, reserves, which are established based on historical claims as a percentage of revenue, were higher for locomotive manufacture and overhaul business unit. Sales have increased resulting in a higher reserve compared to prior quarter. Overall, our warranty reserve increased at June 30, 2006 compared to June 30, 2005 by $2.0 million as reserves were established before claims were paid related to specific and general provisions discussed above.

Operating expenses The following table shows our operating expenses:

 

     Three months ended June 30,  

In thousands

   2006    2005   

Percent

Change

 

Selling, general and administrative expenses

   $ 32,313    $ 30,623    5.5 %

Engineering expenses

     8,023      8,183    (2.0 )%

Amortization expense

     859      1,073    (19.9 )%
                    

Total operating expenses

   $ 41,195    $ 39,879    3.3 %
                    

 

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Operating expenses increased $1.3 million in the second quarter of 2006 compared to the same period of 2005. These expenses were 15.7% and 15.0% of sales for the quarters ended June 30, 2006 and 2005, respectively. The increase is due to expense recognized in connection with the adoption of SFAS 123(R) and certain other share-based compensation accruals for long-term incentive plans. Stock based compensation was $1.6 million and $474,000 for the three months ended June 30, 2006 and 2005, respectively. The primary reason for the increase in stock based compensation expense between years is the issuance of shares in 2006 under a non-vested stock plan and increased expense under a stock based incentive plan as a result of the improved performance of the Company.

Income from operations Income from operations totaled $33.5 million (or 13.6% of sales) in the second quarter of 2006 compared with $26.3 million (or 9.9% of sales) in the same period of 2005. The increase is due primarily to the improved gross margin on current period sales, offset by increased operating costs specific to the adoption of SFAS 123(R).

Interest expense, net Interest expense, net decreased 80.6% in the second quarter of 2006 compared to the same period of 2005 primarily due to the Company’s overall higher cash balances and rising interest rates, resulting in higher interest income.

Other income (expense), net The Company recorded foreign exchange loss of $1.3 million and $637,000, in the three months ended June 30, 2006 and 2005, respectively, due to the effect of currency exchange rate changes on intercompany transactions that are non U.S. dollar denominated amounts and charged or credited to earnings.

Income taxes The effective income tax rate was 35.0% and 36.4% for the second quarter of 2006 and 2005, respectively.

Net income Net income for the second quarter of 2006 increased $5.9 million, compared with the same period of 2005. The increase due primarily to the improved gross margin on current period sales, decreased interest expense, net, and lower income taxes, offset by increased operating costs specific to the adoption of SFAS 123(R).

FIRST SIX MONTHS OF 2006 COMPARED TO FIRST SIX MONTHS OF 2005

The following table summarizes the results of operations for the period:

 

     Six months ended June 30,  

In thousands

   2006    2005    Percent
Change
 

Net sales

   $ 524,311    $ 508,097    3.2 %

Income from operations

     64,979      38,170    70.2 %

Net income

     41,191      24,399    68.8 %

Net sales increased by 3.2% from $508.1 million in the first six months of 2005 to $524.3 million in the same period in 2006. The increase is due to increased sales of freight components of about $38 million related to strong freight car deliveries and demand for locomotive components, which was offset by decreased contract sales compared to the six month period ended June 30, 2005, for the renovation of air conditioning units for transit cars of about $14 million, and modules provided under a locomotive supply contract of about $8 million. Net income for the first six months of 2006 was $41.2 million or $0.84 per diluted share. Net income for the same period of 2005 was $24.4 million or $0.52 per diluted share. This increase in net income was primarily due to increased sales volume, improved profitability on the Company’s locomotive modules contract, offset by stock based compensation expense recognized under SFAS 123(R).

Net sales Beginning with the first quarter of 2006, the Company transferred certain operations from the Freight to the Transit Group to reflect a shift in the markets and customers served by those operations. Prior

 

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period results have been adjusted for comparability purposes. For the six months ended June 30, 2006, this reclassification increased Transit Group sales by about $41 million. The following table shows the Company’s net sales by business segment:

 

    

Six months ended

June 30,

In thousands

   2006    2005

Freight Group

   $ 376,102    $ 347,239

Transit Group

     148,209      160,858
             

Net sales

   $ 524,311    $ 508,097
             

Net sales for the first six months of 2006 increased $16.2 million, or 3.2%, as compared to the same period of 2005. The Freight Group’s increased sales reflected higher sales of aftermarket parts of $5.9 million; higher demand for pneumatic air brake components related to increased deliveries of freight cars of $31.2 million; offset by a $8 million decrease in sales from a locomotive module contract. Industry deliveries of new freight cars for the first half of 2006 increased to 38,008 units as compared to 33,695 for the first half of 2005. As long as freight car deliveries and freight car loadings continue to increase, similar positive trends are expected to be realized by the Company. Transit Group sales were lower mostly due to a 2005 non-recurring contract to renovate air conditioning systems for transit cars resulting in a decrease in revenue of $14 million, and overall decline in transit revenue demand while certain large transit car contracts ramp up for 2007. As transit car deliveries for certain large transit authorities begin to increase in late 2006 and 2007, sales volume is expected to increase.

Gross profit Gross profit increased to $151.8 million for the first six months of 2006 compared to $123.2 million in the same period of 2005. Gross profit is dependent on a number of factors including pricing, sales volume and product mix. In the first half of 2006, gross profit, as a percentage of sales, was 29.0% compared to 24.2% in 2005. This increase in gross profit percentage is due to a variety of factors including improved performance of a locomotive module contract which was profitable for the six months ended June 30, 2006, compared to a loss in the prior year same period. The locomotive module contract overall improvement was $11 million from the losses realized in the prior year. In the first six months of 2005, the Company recorded $2.3 million in restructuring and asset impairment charges related to consolidating two U.K. facilities into one, relocating a product line from Canada to the U.S., and completion of a data center migration. The remaining improvement is due to costs savings realized from sourcing raw materials from lower cost suppliers, reduced labor costs, and continuing improvements in our manufacturing processes.

The provision for warranty expense was $2.4 million higher for the first half of 2006 compared to the same period in the prior year, which negatively impacted gross profit. The most significant reason for the increase is due to specific reserves related to certain freight components and electronic products manufactured at our U.S. plants. In general, reserves, which are established based on historical claims as a percentage of revenue, were higher for locomotive manufacture and overhaul business unit. Sales have increased resulting in a higher reserve compared to prior quarter. Overall, our warranty reserve increased at June 30, 2006 compared to June 30, 2005 by $2.0 million as reserves were established before claims were paid related to specific provisions discussed above.

Operating expenses The following table shows our operating expenses:

 

     Six months ended June 30,  

In thousands

   2006    2005   

Percent

Change

 

Selling, general and administrative expenses

   $ 65,941    $ 59,635    10.6 %

Engineering expenses

     16,138      16,853    (4.2 )%

Amortization expense

     1,726      2,044    (15.6 )%
                    

Total operating expenses

   $ 83,805    $ 78,532    6.7 %
                    

 

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Operating expenses increased $5.3 million in the first six months of 2006 compared to the same period of 2005. These expenses were 16.0% and 15.5% of sales for the first six months ended June 30, 2006 and 2005, respectively. The increase is due to expense recognized in connection with the adoption of SFAS 123(R) and certain other share-based compensation accruals for long-term incentive plans. During 2005, operating expenses included an information technology asset write-off of $1.1 million. Stock based compensation was $6 million and $625,000 for the six months ended June 30, 2006 and 2005, respectively. The primary reason for the increase in stock based compensation expense between years is the issuance of shares in 2006 under a non-vested stock plan and increased expense under a stock based incentive plan as a result of the improved performance of the Company.

Income from operations Income from operations totaled $68.0 million (or 13.0% of sales) in the first six months of 2006 compared with $44.7 million (or 8.8% of sales) in the same period of 2005. The increase is due primarily to the improved gross margin on current period sales, offset by increased operating costs specific to the adoption of SFAS 123(R).

Interest expense, net Interest expense, net decreased 66.8% in the first six months of 2006 compared to the same period of 2005 primarily due to the Company’s overall higher cash balances and rising interest rates, resulting in higher interest income.

Other income (expense), net The Company recorded foreign exchange loss of $900,000 and $1.6 million in the six months ended June 30, 2006 and 2005, respectively, due to the effect of currency exchange rate changes on intercompany transactions that are non U.S. dollar denominated amounts and charged or credited to earnings.

Income taxes The effective income tax rate was 35.6% and 36.5% for the first six months of 2006 and 2005, respectively.

Net income Net income for the first six months of 2006 increased $16.8 million, compared with the same period of 2005. The increase due primarily to the improved gross margin on current period sales, decreased interest expense, net, and lower income taxes, offset by increased operating costs specific to the adoption of SFAS 123(R).

Liquidity and Capital Resources

Liquidity is provided primarily by operating cash flow and borrowings under the Company’s unsecured credit facility with a consortium of commercial banks. The following is a summary of selected cash flow information and other relevant data.

 

    

Six months ended

June 30,

 

In thousands

   2006     2005  

Cash provided (used) by:

    

Operating activities

   $ 73,497     $ 30,289  

Investing activities

     (5,951 )     (46,884 )

Financing activities

     13,141       15,461  

Net Change in Cash

     97,542       (8,405 )

Operating activities Cash provided by operations in the first six months of 2006 was $73 million as compared to $30 million in the same period of 2005. This $43 million increase was the result of increased earnings as well as certain changes in operating assets and liabilities. Net income for the Company increased $21.8 million primarily as a result of higher gross profit with relatively stable sales levels. Cash provided by accounts receivable improved operating cash flows by $59 million, and was the result of the Company collecting large customer receivables in 2006 for certain locomotive contracts. In particular, customer deposits from certain

 

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locomotive contracts accounted for the majority of the cash provided from operations. Inventory reduced operating cash flows by $15.2 million compared to the first half of 2005. This inventory increase was anticipated since it was related to the same locomotive contracts as the units to be provided are in an initial start-up phase. Accrued income taxes increased operating cash flows by $12 million due to the timing of tax payments. Accounts payable and accrued liabilities were a use of cash by about $39.6 million compared to the prior period as accounts payable and other certain liabilities were reduced based on the timing of certain payments.

Investing activities In the first six months of 2006 and 2005, cash used in investing activities was $6.0 million and $46.9 million, respectively. In 2005, The Company acquired the assets of Rütgers Rail S.p.A. for $35.6 million, net of cash received. Capital expenditures were $9.0 million and $11.5 million in the first six months of 2006 and 2005, respectively. The majority of capital expenditures for these periods relates to upgrades to and replacement of existing equipment.

Financing activities In the first six months of 2006 and 2005, cash provided by financing activities was $13.1 million and $15.6 million, respectively. The cash provided in 2006 included $9.9 million of proceeds from the issuance of treasury stock for stock options and other benefit plans, offset by $970,000 of dividend payments. The cash provided in 2005 included $17.1 million of proceeds from the issuance of treasury stock for stock options and other benefit plans, offset by $932,000 of dividend payments.

The following table shows our outstanding indebtedness at June 30, 2006 and December 31, 2005. The other term loan interest rates are variable and dependent on market conditions.

 

In thousands

  

June 30,

2006

  

December 31,

2005

6.875% Senior notes due 2013

   $ 150,000    $ 150,000
             

Total

   $ 150,000    $ 150,000

Less-current portion

     —        —  
             

Long-term portion

   $ 150,000    $ 150,000
             

Cash balance at June 30, 2006 and December 31, 2005 was $238.9 million and $141.4 million, respectively.

Refinancing Credit Agreement

In January 2004, the Company refinanced its existing unsecured revolving credit agreement with a consortium of commercial banks. This “Refinancing Credit Agreement” provided a $175 million five-year revolving credit facility expiring in January 2009. In November 2005, the Company entered into an amendment to the Refinancing Credit Agreement which, among other things, extended the expiration of the agreement until December 2010. At June 30, 2006, the Company had available bank borrowing capacity, net of $23.9 million of letters of credit, of approximately $151.1 million, subject to certain financial covenant restrictions.

Refinancing Credit Agreement borrowings bear variable interest rates indexed to the indices described below. The Company did not borrow under the Refinancing Credit Agreement during the six months ended June 30, 2006 or during the year ended December 31, 2005.

Under the Refinancing Credit Agreement, the Company may elect a base interest rate or an interest rate based on the London Interbank Offered Rates of Interest (“LIBOR”). The base interest rate is the greater of LaSalle Bank National Association’s prime rate or the federal funds effective rate plus 0.5% per annum. The LIBOR rate is based on LIBOR plus a margin that ranges from 62.5 to 175 basis points depending on the Company’s consolidated total indebtedness to cash flow ratios. The current margin is 62.5 basis points.

 

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The Refinancing Credit Agreement limits the Company’s ability to declare or pay cash dividends and prohibits the Company from declaring or making other distributions, subject to certain exceptions. The Refinancing Credit Agreement contains various other covenants and restrictions including the following limitations: incurrence of additional indebtedness; mergers, consolidations and sales of assets and acquisitions; additional liens; sale and leasebacks; permissible investments, loans and advances; certain debt payments; capital expenditures; and imposes a minimum interest expense coverage ratio and a maximum debt to cash flow ratio.

The Refinancing Credit Agreement contains customary events of default, including payment defaults, failure of representations or warranties to be true in any material respect, covenant defaults, defaults with respect to other indebtedness of the Company, bankruptcy, certain judgments against the Company, ERISA defaults and “change of control” of the Company. The Refinancing Credit Agreement includes the following covenants: a minimum interest coverage ratio of three, maximum debt to cash flow ratio of 3.25 and a minimum net worth of $180 million plus 50% of consolidated net income since September 30, 2003. The Company is in compliance with these measurements and covenants.

6 7/8% Senior Notes Due August 2013

In August 2003, the Company issued $150 million of Senior Notes due in 2013 (the “Notes”). The Notes were issued at par. Interest on the notes accrues at a rate of 6.875% per annum and is payable semi-annually on January 31 and July 31 of each year. The proceeds were used to repay debt outstanding under the Company’s existing credit agreement, and for general corporate purposes.

The Company believes, based on current levels of operations and forecasted earnings, cash flow and liquidity will be sufficient to fund its working capital and capital equipment needs as well as to meet its debt service requirements. If the Company’s sources of funds were to fail to satisfy the Company’s cash requirements, the Company may need to refinance its existing debt or obtain additional financing. There is no assurance that such new financing alternatives would be available, and, in any case, such new financing, if available, would be expected to be more costly and burdensome than the debt agreements currently in place.

On July 31, 2006, the Board of Directors authorized the repurchase of up to $50 million of the Company’s outstanding shares. The Company intends to purchase these shares on the open market or in negotiated or block trades. No time limit was set for the completion of the program which qualifies under the Refinancing Credit Agreement, as well as the 6 7/8% Senior Notes currently outstanding.

Forward Looking Statements

We believe that all statements other than statements of historical facts included in this report, including certain statements under “Business” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” may constitute forward-looking statements. We have based these forward-looking statements on our current expectations and projections about future events. Although we believe that our assumptions made in connection with the forward-looking statements are reasonable, we cannot assure you that our assumptions and expectations are correct.

These forward-looking statements are subject to various risks, uncertainties and assumptions about us, including, among other things:

Economic and industry conditions

 

    materially adverse changes in economic or industry conditions generally or in the markets served by us, including North America, South America, Europe, Australia and Asia;

 

    demand for freight cars, locomotives, passenger transit cars, buses and related products and services;

 

    reliance on major original equipment manufacturer customers;

 

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    original equipment manufacturers’ program delays;

 

    demand for services in the freight and passenger rail industry;

 

    demand for our products and services;

 

    orders either being delayed, cancelled, not returning to historical levels, or reduced or any combination of the foregoing;

 

    consolidations in the rail industry;

 

    continued outsourcing by our customers; industry demand for faster and more efficient braking equipment; or

 

    fluctuations in interest rates and foreign currency exchange rates;

Operating factors

 

    supply disruptions;

 

    technical difficulties;

 

    changes in operating conditions and costs;

 

    increases in raw material costs;

 

    successful introduction of new products;

 

    performance under material long-term contracts;

 

    labor relations;

 

    completion and integration of acquisitions; or

 

    the development and use of new technology;

Competitive factors

 

    the actions of competitors;

Political/governmental factors

 

    political stability in relevant areas of the world;

 

    future regulation/deregulation of our customers and/or the rail industry;

 

    levels of governmental funding on transit projects, including for some of our customers;

 

    political developments and laws and regulations; or

 

    the outcome of our existing or any future legal proceedings, including litigation involving our principal customers and any litigation with respect to environmental, asbestos-related matters and pension liabilities; and

Transaction or commercial factors

 

    the outcome of negotiations with partners, governments, suppliers, customers or others.

Statements in this 10-Q apply only as of the date on which such statements are made, and we undertake no obligation to update any statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events.

Critical Accounting Policies

The preparation of the financial statements in accordance with generally accepted accounting principles requires management to make judgments, estimates and assumptions regarding uncertainties that affect the

 

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reported amounts of assets and liabilities, disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses. Areas of uncertainty that require judgments, estimates and assumptions include the accounting for derivatives, environmental matters, warranty reserves, the testing of goodwill and other intangibles for impairment, proceeds on assets to be sold, pensions and other postretirement benefits, and tax matters. Management uses historical experience and all available information to make these judgments and estimates, and actual results will inevitably differ from those estimates and assumptions that are used to prepare the Company’s financial statements at any given time. Despite these inherent limitations, management believes that Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) and the financial statements and related footnotes provide a meaningful and fair perspective of the Company. A discussion of the judgments and uncertainties associated with accounting for derivatives and environmental matters can be found in the “Notes to Consolidated Financial Statements” included elsewhere in this report.

On January 1, 2006, Wabtec adopted Statement of Financial Accounting Standards (SFAS) No. 123 (revised 2004), “Share-Based Payment,” which requires the company to recognize compensation expense for stock-based compensation based on the fair value of the share-based employee grants. SFAS No. 123(R) revises SFAS No. 123 “Accounting for Stock-Based Compensation” and supersedes Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees.” Wabtec elected the modified prospective application method for adoption, and prior periods financial statements have not been restated.

SFAS No. 123(R) requires Wabtec to recognize compensation expense for stock-based compensation ratably over the requisite service period based on the fair value of the grant. Compensation expense for the Employee Stock Purchase Plan, and Non-Vested Stock awards are based on fair market values determined at the date of award. Prior to the adoption of SFAS No. 123(R), the company accounted for stock-based compensation in accordance with the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations using the intrinsic value method, which resulted in no compensation cost for options granted.

Stock based compensation was $6 million and $625,000 for the six months ended June 30, 2006 and 2005, respectively. The primary reason for the increase in stock based compensation expense between years is the issuance of shares in 2006 under a non-vested stock plan and increased expense under a stock based incentive plan as a result of the improved performance of the Company. The accounting for the non-vested stock and the stock awards under the incentive plan was not impacted significantly by the adoption of FAS 123(R). In addition, compensation expense of $593,000 was recorded for the six months ended June 30, 2006 related to the expensing of stock options in accordance with FAS 123(R).

The Company uses a Black-Scholes pricing model to estimate the fair value of stock options at grant date. Determining the fair value of stock options at grant date requires judgment, including estimates for the dividend yield, the average risk-free interest rate, expected volatility and expected life. The dividend yield is based on the Company’s dividend rate and the current market price of the underlying common stock. The risk-free interest rate is based on the U.S. Treasury bond rate for the expected life of the option. Expected life in years is determined from historical stock option exercise data. Expected volatility is based on the historical volatility of Wabtec stock. If any of these assumptions differ significantly from actual, stock-based compensation expense could be impacted.

Stock awards under the incentive plans vest upon the achievement of certain financial goals for each three year period ending at December 31, 2006, 2007 and 2008, respectively. We estimate that the majority of stock awards granted will vest and have recorded compensation expense accordingly. If our estimate of the number of these stock awards expected to vest changes in a future accounting period, compensation expense could be reduced and will be recognized over the remaining vesting period.

 

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A summary of the Company’s significant accounting policies is included in Note 2 in the “Notes to Consolidated Financial Statements” included elsewhere in this report. Management believes that the application of these policies on a consistent basis enables the Company to provide the users of the financial statements with useful and reliable information about the Company’s operating results and financial condition.

 

Description

  

Judgments and Uncertainties

   Effect if Actual Results Differ From
Assumptions
Accounts Receivable and Allowance for Doubtful Accounts:      
The Company provides an allowance for doubtful accounts to cover anticipated losses on uncollectible accounts receivable.    The allowance for doubtful accounts receivable reflects our best estimate of probable losses inherent in our receivable portfolio determined on the basis of historical experience, specific allowances for known troubled accounts and other currently available evidence.    If our estimates regarding the
collectibility of troubled
accounts, and/or our actual
losses within our receivable
portfolio exceed our historical
experience, we may be exposed
to the expense of increasing our
allowance for doubtful accounts.
Inventories:      
Inventories are stated at the lower of cost or market.    Cost is determined under the first-in, first-out (FIFO) method. Inventory costs include material, labor and overhead.    If the market value of our
products were to decrease due to
changing market conditions, the
Company could be at risk of
incurring the cost of additional
reserves to adjust inventory
value to a market value lower
than stated cost.
Inventory is reviewed to ensure that an adequate provision is recognized for excess, slow moving and obsolete inventories.    The Company compares inventory components to prior year sales history and current backlog and anticipated future requirements. To the extent that inventory parts exceed estimated usage and demand, a reserve is recognized to reduce the carrying value of inventory. Also, specific reserves are established for known inventory obsolescence.    If our estimates regarding sales
and backlog requirements are
inaccurate, we may be exposed
to the expense of increasing our
reserves for slow moving and
obsolete inventory.

 

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Description

  

Judgments and Uncertainties

   Effect if Actual Results Differ From
Assumptions
Goodwill and Indefinite-Lived Intangibles:      
Goodwill and indefinite-lived intangibles are required to be tested for impairment at least annually. The evaluation of impairment involves comparing the current fair value of the business to the recorded value (including goodwill).    We use a combination of a guideline public company market approach and a discounted cash flow model (“DCF model”) to determine the current fair value of the business. A number of significant assumptions and estimates are involved in the application of the DCF model to forecast operating cash flows, including markets and market share, sales volume and pricing, costs to produce and working capital changes.    Management considers
historical experience and all
available information at the time
the fair values of its business are
estimated. However, actual
amounts realized may differ
from those used to evaluate the
impairment of goodwill.

 

If actual results are not
consistent with our assumptions
and judgments used in
estimating future cash flows and
asset fair values, we may be
exposed to additional
impairment losses that could be
material to our results of
operations.

Warranty Reserves:      
The Company provides warranty reserves to cover expected costs from repairing or replacing products with durability, quality or workmanship issues occurring during established warranty periods.    In general, reserves are provided for as a percentage of sales, based on historical experience. In addition, specific reserves are established for known warranty issues and their estimable losses.    If actual results are not
consistent with the assumptions
and judgments used to calculate
our warranty liability, the
Company may be at risk of
realizing material gains or
losses.
Accounting for Pensions and Postretirement Benefits:      
These amounts are determined using actuarial methodologies and incorporate significant assumptions, including the rate used to discount the future estimated liability, the long-term rate of return on plan assets and several assumptions relating to the employee workforce (salary increases, medical costs, retirement age and mortality).   

Significant judgments and estimates are used in determining the liabilities and expenses for pensions and other postretirement benefits.

 

The rate used to discount future estimated liabilities is determined considering the rates available at year-end on debt instruments that could be used to settle the obligations of the plan. The long-term rate of return is estimated by considering historical returns and expected returns on current and projected asset allocations and is generally applied to a five-year average market value of assets.

   If assumptions used in
determining the pension and
other postretirement benefits
change significantly, these costs
can fluctuate materially from
period to period.

 

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Description

  

Judgments and Uncertainties

   Effect if Actual Results Differ From
Assumptions
Income Taxes:      
As a global company, Wabtec records an estimated liability or benefit for income and other taxes based on what it determines will likely be paid in various tax jurisdictions in which it operates.    The estimate of our tax obligations are uncertain because management must use judgment to estimate the exposures associated with our various filing positions.    Management uses its best
judgment in the determination of
these amounts. However, the
liabilities ultimately realized and
paid are dependent on various
matters including the resolution
of the tax audits in the various
affected tax jurisdictions and
may differ from the amounts
recorded.

 

An adjustment to the estimated
liability would be recorded
through income in the period in
which it becomes probable that
the amount of the actual liability
differs from the recorded
amount.

Revenue Recognition:      
Revenue is recognized in accordance with Staff Accounting Bulletins (SABs) 101, “Revenue Recognition in Financial Statements” and 104 “Revision of Topic 13.”    Revenue is recognized when products have been shipped to the respective customers, title has passed and the price for the product has been determined.    Should market conditions and
customer demands dictate
changes to our standard shipping
terms, the Company may be
impacted by longer than typical
revenue recognition cycles.
The Company recognizes revenues on long-term contracts based on the percentage of completion method of accounting. The units-of-delivery method or other measures, as appropriate, are used to measure the progress toward completion of individual contracts. Contract revenues and cost estimates are reviewed and revised at a minimum quarterly and adjustments are reflected in the accounting period as such amounts are determined.    For long-term contracts, revenues and cost estimates are reviewed and revised at a minimum quarterly and adjustments are reflected in the accounting period as such amounts are determined.    Provisions are made currently
for estimated losses on
uncompleted contracts.
Certain pre-production costs relating to long term production and supply contracts have been deferred and will be recognized over the life of the contracts.    Pre-production costs are recognized over the expected life of the contract usually based on the Company’s progress toward the estimated number of units expected to be delivered under the production or supply contract.    A charge to expense for
unrecognized portions of pre-
production costs could be
realized if the Company’s
estimate of the number of units
to be delivered changes or the
underlying contract is cancelled.

 

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Recent Accounting Pronouncements

See Notes 2 and 6 of “Notes to Condensed Consolidated Financial Statements” included elsewhere in this report.

 

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

In the ordinary course of business, Wabtec is exposed to risks that increases in interest rates may adversely affect funding costs associated with its variable-rate debt. There was no outstanding variable-rate debt at June 30, 2006.

Foreign Currency Exchange Risk

The Company occasionally enters into several types of financial instruments for the purpose of managing its exposure to foreign currency exchange rate fluctuations in countries in which the Company has significant operations. As of June 30, 2006, we had several such instruments outstanding to hedge currency rate fluctuation in 2006.

The Company entered into foreign currency forward contracts to reduce the impact of changes in currency exchange rates. Forward contracts are agreements with a counterparty to exchange two distinct currencies at a set exchange rate for delivery on a set date at some point in the future. There is no exchange of funds until the delivery date. At the delivery date we can either take delivery of the currency or settle on a net basis. All outstanding forward contracts and option agreements are for the sale of U.S. Dollars (USD) and the purchase of Canadian Dollars (CAD). As of June 30, 2006, the Company has forward contracts with a notional value of $30.0 million CAD (or $25.2 million U.S.), with an average exchange rate of $0.84 USD per $1 CAD, resulting in the recording of a current asset and an increase in comprehensive income of $1.1 million, net of tax.

Wabtec is also subject to certain risks associated with changes in foreign currency exchange rates to the extent its operations are conducted in currencies other than the U.S. dollar. For the first six months of 2006, approximately 67% of Wabtec’s net sales are in the United States, 12% in Canada, 2% in Mexico, and 19% in other international locations, primarily Europe.

 

Item 4. CONTROLS AND PROCEDURES

Wabtec’s principal executive officer and its principal financial officer have evaluated the effectiveness of Wabtec’s “disclosure controls and procedures,” (as defined in Exchange Act Rule 13a-15(e)) as of June 30, 2006. Based upon their evaluation, the principal executive officer and principal financial officer concluded that Wabtec’s disclosure controls and procedures are effective to provide reasonable assurance that information required to be disclosed by Wabtec in the reports filed or submitted by it under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and to provide reasonable assurance that information required to be disclosed by Wabtec in such reports is accumulated and communicated to Wabtec’s management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

There was no change in Wabtec’s “internal control over financial reporting” (as defined in Rule 13a-15(f) under the Exchange Act) that occurred during the quarter ended June 30, 2006, that has materially affected, or is reasonably likely to materially affect, Wabtec’s internal control over financial reporting.

 

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Table of Contents

PART II – OTHER INFORMATION

 

Item 1. LEGAL PROCEEDINGS AND COMMITMENTS AND CONTINGENCIES

Except as disclosed in Note 12 of the Company’s Notes to Condensed Consolidated Financial Statements for the Quarterly Period Ended June 30, 2006, there have been no other material changes to report regarding the Company’s commitments and contingencies as described in Note 18 of the Company’s Annual Report on Form 10-K for the Year Ended December 31, 2005.

 

Item 1A. RISK FACTORS

There have been no material changes in our risk factors from those disclosed in our 2005 Annual Report on Form 10-K.

 

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

The Annual Meeting of Stockholders of the Company was held May 19, 2006. Three matters were considered and voted upon at the Annual Meeting: the election of three persons to serve as directors, approval of the Amended and Restated Stock Incentive Plan, and approval of the Amended and Restated Director Plan.

Election of Directors Nominations of Kim G. Davis, Michael W.D. Howell, and Gary C. Valade, to serve as directors for a term expiring in 2009 were considered and each nominee was elected. All three are independent and are not employees of the Company.

The voting was as follows:

 

Nominee

  

Title

   Votes For    Votes Against    Votes Withheld

Kim G. Davis

   Managing Director of Charlesbank Capital Partners, LLC    42,188,428    —      763,033

Michael W. D. Howell

   Chief Executive Officer of Transport Initiatives Edinburgh Limited    40,927,223    —      2,024,238

Gary C. Valade

   Director    40,783,640    —      2,167,821

Robert J. Brooks, Emilio A. Fernandez, Lee B. Foster II, William E. Kassling, James V. Napier and Albert J. Neupaver will serve as directors until their terms expire and until their successors have been duly elected and qualified.

Approval of the Amended and Restated Stock Incentive Plan and Amended and Restated Director Plan On February 16, 2006, the Board approved amendments to and amended and restated the stock incentive plan (the “Amended and Restated Stock Incentive Plan”) to replace the 2000 Stock Incentive Plan. Also on February 16, 2006, the Board approved the amendments to and amended and restated the director plan (the “Amended and Restated Director Plan”) to replace the 1995 Nonemployee Directors’ Fee and Stock Option Plan.

The voting was as follows:

 

Approval for Amendments to

  

Votes For

  

Votes Against

   Abstain    Votes Withheld

Amended and Restated Stock Incentive Plan

   33,544,412    4,772,576    34,279    4,600,194

Amended and Restated Director Plan

   36,219,491    1,828,315    303,462    4,600,193

 

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Table of Contents
Item 6. EXHIBITS

The following exhibits are being filed with this report:

 

3.1    Restated Certificate of Incorporation of the Company dated January 30, 1995, as amended March 30, 1995, filed as an exhibit to the Company’s Registration Statement on Form S-1 (No. 33-90866), and incorporated herein by reference.
3.2    Amended and Restated By-Laws of the Company, dated as of January 6, 2006, filed as an exhibit to Form 8-K filed on January 9, 2006.
31.1    Rule 13a-14(a) Certification of Chief Executive Officer
31.2    Rule 13a-14(a) Certification of Chief Financial Officer
32.1    Section 1350 Certification of Chief Executive Officer and Chief Financial Officer

 

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Table of Contents

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

WESTINGHOUSE AIR BRAKE

TECHNOLOGIES CORPORATION

By:      /S/    ALVARO GARCIA-TUNON        
    

Alvaro Garcia-Tunon,

Senior Vice President,

Chief Financial Officer and Secretary

DATE:     

August 7, 2006

 

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Table of Contents

EXHIBIT INDEX

 

Exhibit
Number
  

Description and Method of Filing

3.1    Restated Certificate of Incorporation of the Company dated January 30, 1995, as amended March 30, 1995, filed as an exhibit to the Company’s Registration Statement on Form S-1 (No. 33-90866), and incorporated herein by reference.
3.2    Amended and Restated By-Laws of the Company, dated as of January 6, 2006, filed as an exhibit to Form 8-K filed on January 9, 2006.
31.1

 

   Rule 13a-14(a) Certification of Chief Executive Officer
31.2

 

  

Rule 13a-14(a) Certification of Chief Financial Officer

 

32.1    Section 1350 Certification of Chief Executive Officer and Chief Financial Officer

 

44

Section 302 CEO Certification

Exhibit 31.1

CERTIFICATION

I, Albert J. Neupaver, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Westinghouse Air Brake Technologies Corporation.

2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this quarterly report based on such evaluation; and

(d) Disclosed in this quarterly report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

Date: August 7, 2006

     /s/    ALBERT J. NEUPAVER        
Name:   Albert J. Neupaver
Title:   President and Chief Executive Officer
Section 302 CFO Certification

Exhibit 31.2

CERTIFICATION

I, Alvaro Garcia-Tunon, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Westinghouse Air Brake Technologies Corporation.

2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this quarterly report based on such evaluation; and

(d) Disclosed in this quarterly report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

 

Date: August 7, 2006

By   /s/    ALVARO GARCIA-TUNON        
  Alvaro Garcia-Tunon,
  Senior Vice President,
  Chief Financial Officer and Secretary
Section 906 CEO and CFO Certification

Exhibit 32.1

CERTIFICATION

Pursuant to 18 U.S.C. § 1350, the undersigned officers of Westinghouse Air Brake Technologies Corporation (the “Company”), hereby certify, to the best of their knowledge, that the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2006, (the “Report”) fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 and that the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

By:   /S/    ALBERT J. NEUPAVER        
 

Albert J. Neupaver

President and Chief Executive Officer

Date: August 7, 2006

 

By:   /S/    ALVARO GARCIA-TUNON        
 

Alvaro Garcia-Tunon,

Senior Vice President,

Chief Financial Officer and Secretary

Date: August 7, 2006