KAMN - 6.29.2012 -10-Q

 

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 29, 2012

Or
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to ______

Commission File Number: 0-1093

KAMAN CORPORATION

(Exact name of registrant as specified in its charter)

Connecticut
06-0613548
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)

1332 Blue Hills Avenue
Bloomfield, Connecticut 06002
(Address of principal executive offices) (Zip Code)
(860) 243-7100
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes           x           No           ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter)
during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes           x             No           ¨
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer x   Accelerated filer ¨    Non-accelerated filer ¨   Smaller reporting company ¨

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

At July 20, 2012, there were 26,425,156 shares of Common Stock outstanding.



PART I
Item 1. Financial Statements
CONDENSED CONSOLIDATED BALANCE SHEETS
KAMAN CORPORATION AND SUBSIDIARIES
(In thousands, except share and per share amounts) (Unaudited)
 
 
June 29,
2012
 
December 31,
2011
Assets
 
 
 
 
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
15,099

 
$
14,985

Accounts receivable, net
 
211,891

 
190,081

Inventories
 
351,777

 
339,846

Deferred income taxes
 
24,926

 
25,018

Income taxes receivable
 
—

 
527

Other current assets
 
23,392

 
29,645

Total current assets
 
627,085

 
600,102

Property, plant and equipment, net of accumulated depreciation of $146,900 and $142,657, respectively
 
113,244

 
111,895

Goodwill
 
153,455

 
153,267

Other intangible assets, net
 
70,705

 
73,816

Deferred income taxes
 
35,645

 
38,434

Other assets
 
16,943

 
18,884

Total assets
 
$
1,017,077

 
$
996,398

Liabilities and Shareholders’ Equity
 
 

 
 

Current liabilities:
 
 

 
 

Notes payable
 
$
3,503

 
$
1,685

Current portion of long-term debt
 
5,000

 
5,000

Accounts payable – trade
 
108,337

 
106,025

Accrued salaries and wages
 
31,288

 
35,766

Current portion of amount due to Commonwealth of Australia
 
6,555

 
6,487

Other accruals and payables
 
49,105

 
62,748

Income taxes payable
 
1,499

 
987

Total current liabilities
 
205,287

 
218,698

Long-term debt, excluding current portion
 
221,780

 
198,522

Deferred income taxes
 
6,703

 
6,827

Underfunded pension
 
131,742

 
135,829

Due to Commonwealth of Australia, excluding current portion
 
—

 
6,566

Other long-term liabilities
 
52,229

 
56,885

Commitments and contingencies
 
—

 
—

Shareholders' equity:
 
 

 
 

Preferred stock, $1 par value, 200,000 shares authorized; none outstanding
 
—

 
—

Common stock, $1 par value, 50,000,000 shares authorized; voting; 26,685,377 and 26,495,828 shares issued, respectively
 
26,685

 
26,496

Additional paid-in capital
 
115,528

 
109,584

Retained earnings
 
378,832

 
361,389

Accumulated other comprehensive income (loss)
 
(114,697
)
 
(117,946
)
Less 269,846 and 258,424 shares of common stock, respectively, held in treasury, at cost
 
(7,012
)
 
(6,452
)
Total shareholders’ equity
 
399,336

 
373,071

Total liabilities and shareholders’ equity
 
$
1,017,077

 
$
996,398

See accompanying notes to condensed consolidated financial statements.

2

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
KAMAN CORPORATION AND SUBSIDIARIES
(In thousands, except per share amounts) (Unaudited)

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
Net sales
 
$
405,480

 
$
385,086

 
$
794,202

 
$
762,909

Cost of sales
 
290,151

 
278,566

 
572,805

 
551,760

Gross profit
 
115,329

 
106,520

 
221,397

 
211,149

Selling, general and administrative expenses
 
86,838

 
82,407

 
175,750

 
162,475

Net (gain)/loss on sale of assets
 
(8
)
 
34

 
(32
)
 
36

Operating income
 
28,499

 
24,079

 
45,679

 
48,638

Interest expense, net
 
2,831

 
2,821

 
5,710

 
5,891

Other (income) expense, net
 
84

 
(25
)
 
(163
)
 
(414
)
Earnings before income taxes
 
25,584

 
21,283

 
40,132

 
43,161

Income tax expense
 
9,105

 
7,256

 
14,250

 
14,942

Net earnings
 
$
16,479

 
$
14,027

 
$
25,882

 
$
28,219

 
 
 
 
 
 
 
 
 
Net earnings per share:
 
 

 
 

 
 
 
 
Basic net earnings per share
 
$
0.62

 
$
0.53

 
$
0.98

 
$
1.08

Diluted net earnings per share
 
$
0.62

 
$
0.53

 
$
0.98

 
$
1.06

Average shares outstanding:
 
 

 
 

 
 
 
 
Basic
 
26,390

 
26,286

 
26,342

 
26,206

Diluted
 
26,534

 
26,673

 
26,498

 
26,514

Dividends declared per share
 
$
0.16

 
$
0.14

 
$
0.32

 
$
0.28


See accompanying notes to condensed consolidated financial statements.



3

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
KAMAN CORPORATION AND SUBSIDIARIES
(In thousands) (Unaudited)


 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
Net earnings
 
$
16,479

 
$
14,027

 
$
25,882

 
$
28,219

Other comprehensive income, net of tax:
 
 
 
 
 
 
 
 
Foreign currency translation adjustments
 
(3,171
)
 
530

 
526

 
4,702

Change in unrealized loss on derivative instruments, for the three months and six months ended, net of tax expense of $0 and $75, and $0 and $150, respectively
 
—

 
122

 
—

 
243

Pension plan adjustments, for the three months and six months ended, net of tax expense of $834 and $238, and $1,669 and $577, respectively
 
1,362

 
388

 
2,723

 
942

Comprehensive income
 
$
14,670

 
$
15,067

 
$
29,131

 
$
34,106


See accompanying notes to condensed consolidated financial statements.


4


CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
KAMAN CORPORATION AND SUBSIDIARIES
(In thousands) (Unaudited)
 
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
Cash flows from operating activities:
 
 
 
 
Net earnings
 
$
25,882

 
$
28,219

Adjustments to reconcile net earnings to net cash provided by (used in) operating activities:
 
 

 
 

Depreciation and amortization
 
13,349

 
10,805

Accretion of convertible notes discount
 
858

 
815

Change in allowance for doubtful accounts
 
(253
)
 
(300
)
Net (gain) loss on sale of assets
 
(32
)
 
36

Change in amount Due to Commonwealth of Australia, net of gain (loss) on derivative instruments
 
(206
)
 
177

Stock compensation expense
 
3,581

 
4,655

Excess tax (expense) benefit from share-based compensation arrangements
 
(381
)
 
(737
)
Deferred income taxes
 
1,045

 
3,481

Changes in assets and liabilities, excluding effects of acquisitions/divestitures:
 
 

Accounts receivable
 
(21,430
)
 
(11,302
)
Inventories
 
(11,725
)
 
(430
)
Income tax receivable
 
527

 
(142
)
Other current assets
 
7,821

 
13,265

Accounts payable - trade
 
(3,168
)
 
(4,615
)
Accrued contract losses
 
(725
)
 
255

Advances on contracts
 
(949
)
 
4,446

Other accrued expenses and payables
 
(19,897
)
 
(30,652
)
Income taxes payable
 
542

 
(301
)
Pension liabilities
 
438

 
(7,642
)
Other long-term liabilities
 
222

 
(3,887
)
Net cash provided by (used in) operating activities
 
(4,501
)
 
6,146

Cash flows from investing activities:
 
 

 
 

Proceeds from sale of assets
 
239

 
232

Expenditures for property, plant & equipment
 
(10,967
)
 
(12,530
)
Acquisition of businesses including earn out adjustments, net of cash received
 
(7,938
)
 
(2,015
)
Other, net
 
(116
)
 
312

Cash provided by (used in) investing activities
 
(18,782
)
 
(14,001
)
Cash flows from financing activities:
 
 

 
 

Net borrowings (repayments) under revolving credit agreements
 
26,702

 
(3,803
)
Debt repayment
 
(2,500
)
 
(2,500
)
Net change in book overdraft
 
5,365

 
5,940

Proceeds from exercise of employee stock awards
 
2,651

 
4,001

Purchase of treasury shares
 
(659
)
 
(858
)
Dividends paid
 
(8,411
)
 
(7,520
)
Debt issuance costs
 
—

 
(715
)
Windfall tax (expense) benefit
 
381

 
737

Other
 
—

 
(453
)
Cash provided by (used in) financing activities
 
23,529

 
(5,171
)
Net increase (decrease) in cash and cash equivalents
 
246

 
(13,026
)
Effect of exchange rate changes on cash and cash equivalents
 
(132
)
 
532

Cash and cash equivalents at beginning of period
 
14,985

 
32,232

Cash and cash equivalents at end of period
 
$
15,099

 
$
19,738


See accompanying notes to condensed consolidated financial statements.

5
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


1. BASIS OF PRESENTATION

The December 31, 2011, condensed consolidated balance sheet amounts have been derived from the previously audited consolidated balance sheet of Kaman Corporation and subsidiaries (collectively, the “Company”), but do not include all disclosures required by accounting principles generally accepted in the United States of America. In the opinion of management, the remainder of the condensed financial information reflects all adjustments necessary for a fair presentation of the Company’s financial position, results of operations and cash flows for the interim periods presented. All such adjustments are of a normal recurring nature, unless otherwise disclosed in this report. Certain amounts in the prior period condensed consolidated financial statements have been reclassified to conform to current presentation. The statements should be read in conjunction with the consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011. The results of operations for the interim periods presented are not necessarily indicative of trends or of results to be expected for the entire year.

The Company has a calendar year-end; however, its first three fiscal quarters follow a 13-week convention, with each quarter ending on a Friday. The second quarter for 2012 and 2011 ended on June 29, 2012 and July 1, 2011, respectively.

Pension Accounting

In 2011 the Company elected to change its method of recognizing pension expense. Previously, for its non-contributory qualified defined benefit pension plan ("Qualified Pension Plan"), the Company used the market-related value of plan assets reflecting changes in the fair value of plan assets amortized over a four-year period. Under the new accounting method, the market-related value of plan assets reflects the actual change in the fair value of plan assets for the year. While the historical policy of recognizing pension expense is considered acceptable under U.S. GAAP, the Company believes that the new policy is preferable as it eliminates the delay in recognition of the change in fair value of plan assets for the calculation of market-related value of plan assets.

The impacts of all adjustments made to the condensed consolidated financial statements are summarized below:

Condensed Consolidated Statements of Operations
 
 
For the Three Months Ended July 1, 2011
In thousands
 
Previously
Reported
 
Revised
 
Effect of
Change
Cost of Sales
 
$
278,917

 
$
278,566

 
$
(351
)
Gross profit
 
$
106,169

 
$
106,520

 
$
351

Selling, general and administrative expenses
 
$
83,033

 
$
82,407

 
$
(626
)
Operating income
 
$
23,102

 
$
24,079

 
$
977

Earnings before income taxes
 
$
20,306

 
$
21,283

 
$
977

Income tax expense
 
$
6,885

 
$
7,256

 
$
371

Net earnings
 
$
13,421

 
$
14,027

 
$
606

Basic net earnings per share
 
$
0.51

 
$
0.53

 
$
0.02

Diluted net earnings per share
 
$
0.50

 
$
0.53

 
$
0.03














6
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


1. BASIS OF PRESENTATION (CONTINUED)

Pension Accounting (Continued)
 
 
For the Six Months Ended July 1, 2011
In thousands
 
Previously
Reported
 
Revised
 
Effect of
Change
Cost of Sales
 
$
552,462

 
$
551,760

 
$
(702
)
Gross profit
 
$
210,447

 
$
211,149

 
$
702

Selling, general and administrative expenses
 
$
163,727

 
$
162,475

 
$
(1,252
)
Operating income
 
$
46,684

 
$
48,638

 
$
1,954

Earnings before income taxes
 
$
41,207

 
$
43,161

 
$
1,954

Income tax expense
 
$
14,200

 
$
14,942

 
$
742

Net earnings
 
$
27,007

 
$
28,219

 
$
1,212

Basic net earnings per share
 
$
1.03

 
$
1.08

 
$
0.05

Diluted net earnings per share
 
$
1.02

 
$
1.06

 
$
0.04


Condensed Consolidated Statements of Comprehensive Income
 
 
For the Three Months Ended July 1, 2011
In thousands
 
Previously
Reported
 
Revised
 
Effect of
Change
Other comprehensive income:
 
 
 
 
 
 
Pension plan adjustments, net of tax
 
$
994

 
$
388

 
$
(606
)

 
 
For the Six Months Ended July 1, 2011
In thousands
 
Previously
Reported
 
Revised
 
Effect of
Change
Other comprehensive income:
 
 
 
 
 
 
Pension plan adjustments, net of tax
 
$
2,154

 
$
942

 
$
(1,212
)


Condensed Consolidated Statements of Cash Flows
 
 
For the Six Months Ended July 1, 2011
In thousands
 
Previously
Reported
 
Revised
 
Effect of
Change
Cash flows from operating activities:
 
 
 
 
 
 
Net earnings
 
$
27,007

 
$
28,219

 
$
1,212

Change in pension liabilities
 
$
(6,430
)
 
$
(7,642
)
 
$
(1,212
)



7
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)

2. RECENT ACCOUNTING STANDARDS

In June 2011, the FASB issued Accounting Standards Update ("ASU") No. 2011-05, “Comprehensive Income (ASC Topic 220) - Presentation of Comprehensive Income.” ASU No. 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of equity and requires an entity to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The amendments are effective retrospectively for fiscal years, and interim periods within those years, beginning after December 15, 2011. The guidance requires changes in presentation only, which the Company adopted during the first quarter of 2012.

3. ACCOUNTS RECEIVABLE, NET

Accounts receivable consist of the following:
 
 
June 29,
2012
 
December 31,
2011
In thousands
 
 
 
 
Trade receivables
 
$
134,045

 
$
123,081

U.S. Government contracts:
 
 

 
 

Billed
 
24,350

 
18,726

Costs and accrued profit – not billed
 
2,873

 
2,494

Commercial and other government contracts:
 
 

 
 

Billed
 
53,188

 
48,023

Costs and accrued profit – not billed
 
478

 
1,051

Less allowance for doubtful accounts
 
(3,043
)
 
(3,294
)
Accounts receivable, net
 
$
211,891

 
$
190,081


Accounts receivable, net includes amounts for matters such as contract changes, negotiated settlements and claims for unanticipated contract costs. These amounts are as follows:
 
 
June 29,
2012
 
December 31,
2011
In thousands
 
 
 
 
Contract changes, negotiated settlements and claims for unanticipated contract costs
 
$
119

 
$
119

Total
 
$
119

 
$
119


4. FAIR VALUE MEASUREMENTS

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date.

The following table presents the carrying value and fair value of financial instruments that are not carried at fair value at June 29, 2012 and December 31, 2011:
 
 
June 29, 2012
 
December 31, 2011
In thousands
 
Carrying Value
 
Fair Value
 
Carrying Value
 
Fair Value
Long-term debt
 
$
226,780

 
$
247,313

 
$
203,522

 
$
218,048


The above fair values were computed based on quoted market prices and discounted future cash flows, as applicable. Differences from carrying values are attributable to interest rate changes subsequent to when the transaction occurred. The fair values of Cash and cash equivalents, Accounts receivable, net, Notes payable, and Accounts payable - trade approximate their carrying amounts due to the short-term maturities of these instruments.


8
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


4. FAIR VALUE MEASUREMENTS (CONTINUED)

The Company uses a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires us to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:
 
•
Level 1 — Quoted prices in active markets for identical assets or liabilities.
•
Level 2 — Observable inputs other than quoted prices included in Level 1, such as quoted prices for markets that are not active or other inputs that are observable or can be corroborated by observable market data.
•
Level 3 — Unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. This includes certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

Recurring Fair Value Measurements

The table below segregates all financial assets and liabilities that are measured at fair value on a recurring basis (at least annually) into the most appropriate level within the fair value hierarchy based on the inputs used to determine their fair value at the measurement date:
 
Total Carrying
Value at
 
Quoted prices in
active markets
(Level 1)
 
Significant other
observable
inputs
(Level 2)
 
Significant
unobservable
inputs
(Level 3)
In thousands
June 29,
2012
 
 
 
Derivative instruments
$
1,289

 
$
—

 
$
1,289

 
$
—

Total Assets
$
1,289

 
$
—

 
$
1,289

 
$
—

 
 
 
 
 
 
 
 
Contingent consideration
$
3,075

 
$
—

 
$
—

 
$
3,075

Total Liabilities
$
3,075

 
$
—

 
$
—

 
$
3,075

 
Total Carrying
Value at
 
Quoted prices in
active markets
(Level 1)
 
Significant other
observable
inputs
(Level 2)
 
Significant
unobservable
inputs
(Level 3)
In thousands
December 31,
2011
 
 
 
Derivative instruments
$
3,518

 
$
—

 
$
3,518

 
$
—

Total Assets
$
3,518

 
$
—

 
$
3,518

 
$
—

 
 
 
 
 
 
 
 
Contingent consideration
$
3,355

 
$
—

 
$
—

 
$
3,355

Total Liabilities
$
3,355

 
$
—

 
$
—

 
$
3,355


The Company’s derivative instruments are foreign exchange contracts that are measured at fair value using observable market inputs such as forward rates and our counterparties’ credit risks. Based on these inputs, the derivative instruments are classified within Level 2 of the valuation hierarchy and have been included in other current assets and other assets on the Condensed Consolidated Balance Sheets at June 29, 2012 and December 31, 2011. Based on the continued ability to trade and enter into forward contracts, we consider the markets for our fair value instruments to be active.

The Company evaluated the credit risk associated with the counterparties to these derivative instruments and determined that as of June 29, 2012, such credit risks have not had an adverse impact on the fair value of these instruments.


9
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


4. FAIR VALUE MEASUREMENTS (CONTINUED)

Recurring Fair Value Measurements - Continued

The Company’s contingent consideration liability, included in Other accruals and payables and Other long-term liabilities on the Condensed Consolidated Balance Sheets, is associated with the 2011 acquisition of Target Electronic Supply ("Target"). This liability was measured at fair value based on the potential payments of the liability associated with the unobservable input of the estimated post-acquisition financial results of Target through 2014 and, therefore, is a Level 3 liability. The table below presents a rollforward of the instruments valued using Level 3 inputs:

In thousands
 
 
Balance at December 31, 2011
 
$
3,355

Reduction of liability released to income
 
(483
)
Accretion of implicit interest expense
 
203

Balance at June 29, 2012
 
$
3,075


5. DERIVATIVE FINANCIAL INSTRUMENTS

Derivatives Overview

The Company is exposed to certain risks relating to its ongoing business operations, including market risks relating to fluctuations in foreign currency exchange rates. Derivative financial instruments are recognized on the consolidated balance sheets as either assets or liabilities and are measured at fair value. Changes in the fair values of derivatives are recorded each period in earnings or accumulated other comprehensive income, depending on whether a derivative is effective as part of a hedged transaction. Gains and losses on derivative instruments reported in accumulated other comprehensive income are subsequently included in earnings in the periods in which earnings are affected by the hedged item. The Company does not use derivative instruments for speculative purposes.

The Company holds forward exchange contracts designed to hedge forecasted transactions denominated in foreign currencies and to minimize the impact of foreign currency fluctuations on the Company’s earnings and cash flows. Some of these contracts were designated as cash flow hedges. The Company will include in earnings amounts currently included in accumulated other comprehensive income upon recognition of cost of sales related to the underlying transaction. During the three and six months ended July 1, 2011, the loss reclassified to earnings from other comprehensive income for derivative instruments formerly designated as cash flow hedges was $0.2 million and $0.4 million, respectively. No amounts were reclassified to income from other comprehensive income for derivative instruments formerly designated as cash flow hedges during the three or six months ended June 29, 2012. Over the next twelve months the income related to cash flow hedges expected to be reclassified from other comprehensive income is $0.1 million.

Derivatives Not Designated as Hedging Instruments

The following table shows the fair value of derivative instruments not designated as hedging instruments:
 
 
 
 
Fair Value
 
 
 
 
Balance Sheet
 
June 29,
 
December 31,
 
Notional
In thousands
 
Location
 
2012
 
2011
 
Amount
Derivative Assets
 
 
 
 
 
 
 
 
Foreign exchange contracts
 
Other current assets /Other assets
 
$
1,222

 
$
3,517

 
$3,408 / $9,816 Australian Dollars
Foreign exchange contracts
 
Other current assets
 
67

 
1

 
$4,854 / $5,481
Total
 
 
 
$
1,289

 
$
3,518

 
 





10
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)

5. DERIVATIVE FINANCIAL INSTRUMENTS (CONTINUED)

Derivatives Not Designated as Hedging Instruments (continued)

On February 12, 2009, the Company dedesignated the forward contract it had entered into to hedge $36.5 million (AUD) of its $39.5 million (AUD) future minimum required payments to the Commonwealth of Australia. At June 29, 2012, the U.S. dollar value of the remaining $3.4 million (AUD) payable was $3.5 million.

The following table shows the location and amount of the gain or (loss) recognized on the Condensed Consolidated Statements of Operations for derivatives not designated as hedge instruments:
 
 
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
Income Statement Location
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
In thousands
 
 
 
 
 
 
 
 
 
 
Derivative Assets
 
 
 
 
 
 
 
 
 
 
Foreign exchange contracts (a)
 
Other expense, net
 
$
15

 
$
475

 
$
283

 
$
725

Foreign exchange contracts
 
Other expense, net
 
(78
)
 
—

 
72

 
—

Total
 
 
 
$
(63
)
 
$
475

 
$
355

 
$
725

Derivative Liabilities
 
 
 
 

 
 

 
 
 
 
Foreign exchange contracts
 
Other expense, net
 
$
—

 
$
—

 
$
—

 
$
(2
)
Total
 
 
 
$
—


$
—

 
$
—

 
$
(2
)
a)
For the three months and six months ended June 29, 2012, the Company recorded income of $0.1 million and expense of $0.1 million, respectively, to other expense related to the change in the value of the previously hedged AUD payable. For the three months and sixth months ended July 1, 2011, the Company recorded income of $0.4 million and $0.3 million, respectively, to other income related to the change in value of the previously hedged AUD payable.

6. INVENTORIES

Inventories consist of the following:
 
 
June 29,
2012
 
December 31,
2011
In thousands
 
 
 
 
Merchandise for resale
 
$
123,044

 
$
129,345

Contracts and other work in process
 
214,139

 
195,299

Finished goods (including certain general stock materials)
 
14,594

 
15,202

Total
 
$
351,777

 
$
339,846


Inventories include amounts associated with matters such as contract changes, negotiated settlements and claims for unanticipated contract costs. These amounts are as follows:
 
 
June 29,
2012
 
December 31,
2011
In thousands
 
 
 
 
Contract changes, negotiated settlements and claims for unanticipated contract costs
 
$
7,322

 
$
7,432

Total
 
$
7,322

 
$
7,432


11
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)

6. INVENTORIES (CONTINUED)

K-MAX® inventory of $18.8 million and $20.3 million as of June 29, 2012, and December 31, 2011, respectively, is included in contracts and other work in process inventory and finished goods. Management believes that a significant portion of this K-MAX® inventory will be sold after June 29, 2013, based upon the anticipation of supporting the fleet for the foreseeable future.

SH-2G(I), formerly SH-2G(A), inventory of $52.7 million at both June 29, 2012 and December 31, 2011, is included in contracts and other work in process inventory. Management believes that a significant portion of this inventory will be sold after June 29, 2013, based upon the time needed to market the aircraft and prepare them for sale. For more information on the SH-2G(I) inventory, see Note 9, Commitments and Contingencies.

7. GOODWILL AND OTHER INTANGIBLE ASSETS, NET

Goodwill

The following table sets forth the change in the carrying amount of goodwill for each reportable segment and for the Company:

 
 
Industrial
Distribution
 
Aerospace
 
Total
In thousands
 
 
 
 
 
 
Gross balance at December 31, 2011
 
$
59,112

 
$
108,336

 
$
167,448

Accumulated impairment
 
—

 
(14,181
)
 
(14,181
)
Net balance at December 31, 2011
 
59,112

 
94,155

 
153,267

Additions
 
—

 
—

 
—

Impairments
 
—

 
—

 
—

Foreign currency translation
 
31

 
157

 
188

Ending balance at June 29, 2012
 
$
59,143

 
$
94,312

 
$
153,455


Other intangible assets consisted of:
 
 
 
 
At June 29,
 
At December 31,
 
 
 
 
2012
 
2011
 
 
Amortization
Period
 
Gross
Amount
 
Accumulated
Amortization
 
Gross
Amount
 
Accumulated
Amortization
In thousands
 
 
 
 
 
 
 
 
 
 
Customer lists / relationships
 
7-21 years
 
$
79,826

 
$
(11,830
)
 
$
79,517

 
$
(9,017
)
Trademarks / trade names
 
3-7 years
 
1,825

 
(888
)
 
1,824

 
(703
)
Non-compete agreements and other
 
1-9 years
 
4,288

 
(2,668
)
 
4,280

 
(2,254
)
Patents
 
17 years
 
636

 
(484
)
 
636

 
(467
)
Total
 
 
 
$
86,575

 
$
(15,870
)
 
$
86,257

 
$
(12,441
)



12
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


8. PENSION PLANS

Components of net pension cost for the Qualified Pension Plan and Supplemental Employees’ Retirement Plan (SERP) are as follows (in thousands):
 
 
For the Three Months Ended
 
 
Qualified Pension Plan
 
SERP
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
In thousands
 
 
 
 
 
 
 
 
Service cost for benefits earned during the year
 
$
3,519

 
$
3,090

 
$
95

 
$
90

Interest cost on projected benefit obligation
 
6,578

 
7,062

 
105

 
129

Expected return on plan assets
 
(9,469
)
 
(9,180
)
 
—

 
—

Amortization of prior service credit (cost)
 
25

 
24

 
—

 
—

Recognized net loss
 
1,960

 
960

 
40

 
38

Net pension benefit cost
 
$
2,613

 
$
1,956

 
$
240

 
$
257


 
 
For the Six Months Ended
 
 
Qualified Pension Plan
 
SERP
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
In thousands
 
 
 
 
 
 
 
 
Service cost for benefits earned during the year
 
$
7,038

 
$
6,040

 
$
191

 
$
180

Interest cost on projected benefit obligation
 
13,156

 
14,162

 
210

 
258

Expected return on plan assets
 
(18,939
)
 
(17,557
)
 
—

 
—

Amortization of prior service credit (cost)
 
50

 
49

 
—

 
—

Recognized net loss
 
3,921

 
1,785

 
79

 
76

Additional amount recognized due to curtailment/settlement
 
—

 
—

 
—

 
560

Net pension benefit cost
 
$
5,226

 
$
4,479

 
$
480

 
$
1,074


The following tables show the amount of the contributions made during each period and the amount of contributions the Company expects to make to the Qualified Pension Plan and SERP:

Contributions paid-to-date:
 
 
Qualified Pension Plan
 
SERP
 
 
As of June 29, 2012
 
As of December 31, 2011
 
As of June 29, 2012
 
As of December 31, 2011
In thousands
 
 
 
 
 
 
 
 
Contributions paid-to-date
 
$
5,000

 
$
19,600

 
$
267

 
$
4,400


Expected Contributions in 2012:
 
 
Qualified Pension Plan
 
SERP
In thousands
 
 
 
 
Expected contributions
 
$
10,000

 
$
500


The remaining $5.0 million of the $10.0 million contribution to the qualified pension plan was contributed in July 2012.

13
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


9. COMMITMENTS AND CONTINGENCIES

Legal Matters

Wichita Subpoena Matter

In 2011, the U.S. District Court for the District of Kansas issued a grand jury subpoena to the Aerospace segment's Wichita facility regarding a government investigation of record keeping associated with the manufacture of certain composite parts. Management is cooperating with the government's investigation and believes that it has fully complied with its legal obligations in connection with the manufacture of the parts in question. At June 29, 2012, the Company had no amount accrued for this matter, as it is unable to estimate the amount of costs, if any, that might be incurred in connection with the resolution of this matter at this time. The Company believes that the likelihood of an adverse outcome to this matter is remote.

40 mm

The Orlando facility is one of five defendants in a qui tam suit under the False Claims Act brought by John D. King, a former employee of one of the other defendants. The case, United States ex rel. King v. DSE, Inc., et al., No. 9:08-cv-02416 (M.D. Fla.), is currently pending in the U.S. District Court for the Middle District of Florida. The United States Department of Justice has declined to intervene in the suit, and the case is being brought by Mr. King. The suit alleges that the Orlando facility knowingly submitted false claims or made false statements in connection with its work on 40 mm grenade programs. Management believes that it has fully complied with its legal obligations in connection with this program. At June 29, 2012, the Company had no amount accrued for this matter, as it is unable to estimate the amount of costs, if any, that might be incurred in connection with the resolution of this matter at this time. The Company believes that the likelihood of an adverse outcome to this matter is remote.

Other Matters

Revenue Sharing Agreement with the Commonwealth of Australia

The Company is actively engaged in efforts to resell the former Australia SH-2G(A) (now designated the SH-2G(I)) aircraft, spare parts and equipment to other potential customers. Pursuant to the terms of its revenue sharing agreement with the Commonwealth of Australia, the Company will share all proceeds from the resale of the aircraft, spare parts, and equipment with the Commonwealth on a predetermined basis, and total payments of at least $39.5 million (AUD) must be made to the Commonwealth regardless of sales. Cumulative payments of $33.1 million (AUD) have been made through June 29, 2012. An additional payment of $6.4 million (AUD) must be paid in March of 2013 to the extent that cumulative payments have not yet reached $39.5 million (AUD) at that date.

To secure these payments, the Company has provided the Commonwealth of Australia with an unconditional letter of credit, which is being reduced as such payments are made. The letter of credit balance at June 29, 2012, was $6.6 million. The letter of credit balance will continue to be reduced as payments are made to the Commonwealth of Australia. As of June 29, 2012, the U.S. dollar value of the remaining $6.4 million (AUD) required payment was $6.6 million, which is due in March 2013. In late 2008, the Company entered into foreign currency exchange contracts that limit the foreign currency risks associated with these required payments. These contracts will enable the Company to purchase $3.4 million (AUD) for $2.2 million. See Note 5, Derivative Financial Instruments, for further discussion of these instruments.

Moosup

This facility is currently being held for disposal. Site characterization of the environmental condition of the property, which began in 2008, is continuing.


14
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)

9. COMMITMENTS AND CONTINGENCIES (CONTINUED)

Other Matters - Continued

Moosup - continued

The total anticipated cost of the environmental remediation activities associated with the Moosup property is $4.3 million, unchanged from the previously reported estimates, all of which has been accrued. The total amount paid to date in connection with these environmental remediation activities is $2.3 million. A portion ($0.1 million) of the accrual related to this property is included in other accruals and payables and the balance is included in other long-term liabilities. The remaining balance of the accrual reflects the total anticipated cost of completing these environmental remediation activities. Although it is reasonably possible that additional costs will be paid in connection with the resolution of this matter, the Company is unable to estimate the amount of such additional costs, if any, at this time.

New Hartford

In connection with the sale of the Company’s Music segment in 2007, the Company assumed responsibility for meeting certain requirements of the Connecticut Transfer Act (the “Transfer Act”) that applied to our transfer of the New Hartford, Connecticut, facility leased by that segment for guitar manufacturing purposes (“Ovation”). Under the Transfer Act, those responsibilities essentially consist of assessing the site's environmental conditions and remediating environmental impairments, if any, caused by Ovation's operations prior to the sale. The site is a multi-tenant industrial park, in which Ovation and other unrelated entities lease space. The environmental assessment process, which began in 2008, is still in process.

The Company's estimate of its portion of the cost to assess the environmental conditions and remediate this site is $2.2 million, unchanged from previously reported estimates, all of which has been accrued. The total amount paid to date in connection with these environmental remediation activities is $0.5 million. A portion ($0.3 million) of the accrual related to this property is included in other accruals and payables and the balance is included in other long-term liabilities. The remaining balance of the accrual reflects the total anticipated cost of completing these environmental remediation activities. Although it is reasonably possible that additional costs will be paid in connection with the resolution of this matter, the Company is unable to estimate the amount of such additional costs, if any, at this time.

Bloomfield

In connection with the Company’s 2008 purchase of the portion of the Bloomfield campus that Kaman Aerospace Corporation had leased from NAVAIR, the Company assumed responsibility for environmental remediation at the facility as may be required under the Transfer Act and continues the effort to define the scope of the remediation that will be required by the CTDEP. The assumed environmental liability of $10.3 million was determined by taking the undiscounted estimated remediation liability of $20.8 million and discounting it at a rate of 8%. This remediation process will take many years to complete. The total amount paid to date in connection with these environmental remediation activities is $4.3 million. A portion ($1.9 million) of the accrual related to this property is included in other accruals and payables, and the balance is included in other long-term liabilities. Although it is reasonably possible that additional costs will be paid in connection with the resolution of this matter, the Company is unable to estimate the amount of such additional costs, if any, at this time.

United Kingdom

In connection with the purchase of U.K. Composites, the Company accrued, at the time of acquisition, £1.6 million for environmental compliance at the facilities. The remaining balance of the accrual at June 29, 2012 was £0.6 million, with £0.8 million having been paid to date in connection with these environmental remediation activities and £0.2 million released to income in 2011. The U.S. dollar equivalent of the remaining environmental compliance liability as of June 29, 2012, is $0.9 million, which is included in other accruals and payables. The Company continues to assess the work that may be required, which may result in a change to this accrual. Although it is reasonably possible that additional costs will be paid in connection with the resolution of this matter, the Company is unable to estimate the amount of such additional costs, if any, at this time.

15
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


10. COMPUTATION OF EARNINGS PER SHARE

The computation of basic earnings per share is based on net earnings divided by the weighted average number of shares of common stock outstanding for each year. The computation of diluted earnings per share includes the common stock equivalency of dilutive options granted to employees under the Stock Incentive Plan.

Excluded from the diluted earnings per share calculation for the three and six months ended June 29, 2012, respectively, are 372,486 and 358,208 shares of equity awards granted to employees that are anti-dilutive based on the average stock price. Excluded from the diluted earnings per share calculation for the three and six months ended July 1, 2011, respectively, are 156,230 and 268,207 shares of equity awards granted to employees that are anti-dilutive based on the average stock price.
   
 
For the Three Months Ended
 
For the Six Months Ended
  
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
In thousands, except per share amounts
 
 
 
 
 
 
 
 
Net earnings
 
$
16,479

 
$
14,027

 
$
25,882

 
$
28,219

 
 
 
 
 
 
 
 
 
Basic:
 
 
 
 
 
 
 
 
Weighted average number of shares outstanding
 
26,390

 
26,286

 
26,342

 
26,206

Net earnings per share
 
$
0.62

 
$
0.53

 
$
0.98

 
$
1.08

Diluted:
 
 

 
 

 
 
 
 
Weighted average number of shares outstanding
 
26,390

 
26,286

 
26,342

 
26,206

Weighted average shares issuable on exercise of dilutive stock options
 
144

 
262

 
156

 
245

Weighted average shares issuable on exercise of convertible notes
 
—

 
125

 
—

 
63

Total
 
26,534

 
26,673

 
26,498

 
26,514

Diluted net earnings per share
 
$
0.62

 
$
0.53

 
$
0.98

 
$
1.06


In November 2010, the Company issued Convertible Notes due on November 15, 2017, in the aggregate principal amount of $115.0 million. Shares issuable under the Convertible Notes were excluded from the diluted earnings per share calculation for the three-month and six-month periods ended June 29, 2012 because the conversion price was greater than the average market price of our stock during those periods. For the three-month period ended July 1, 2011, shares issuable under the Convertible Notes that were dilutive during the period were included in the calculation of earnings per share as the exercise price for the Convertible Notes was less than the average share price. Excluded from the diluted earnings per share calculation for the three and six months ended June 29, 2012 are 3,396,016 and 3,394,841 shares, respectively, issuable under the warrants sold in connection with the Company’s convertible note offering as they would be anti-dilutive. Excluded from the diluted earnings per share calculation for the three and six months ended July 1, 2011, are 3,386,739 shares issuable under the warrants sold in connection with the Company’s convertible note offering as they would be anti-dilutive.

16
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


11. SHARE-BASED ARRANGEMENTS
 
General

The Company accounts for stock options and restricted stock as equity awards whereas the stock appreciation rights and employee stock purchase plan are accounted for as liability awards. Compensation expense for stock options and restricted stock awards is recognized on a straight-line basis over the vesting period of the awards.

The following table summarizes share-based compensation expense recorded during each period presented:
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
In thousands
 
 
 
 
 
 
 
 
Stock options
 
$
417

 
$
360

 
$
1,071

 
$
1,034

Restricted stock awards
 
1,357

 
2,381

 
2,297

 
3,285

Stock appreciation rights
 
—

 
48

 
—

 
179

Employee stock purchase plan
 
110

 
81

 
213

 
157

Total share-based compensation
 
$
1,884

 
$
2,870

 
$
3,581

 
$
4,655


Stock option activity is as follows:
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29, 2012
 
June 29, 2012
 
 
Options
 
Weighted - average
exercise price
 
Options
 
Weighted - average
exercise price
Options outstanding at beginning of period
 
1,106,447

 
$
25.38

 
979,658

 
$
23.35

Granted
 
—

 
—

 
181,620

 
33.59

Exercised
 
(16,243
)
 
20.87

 
(55,431
)
 
17.19

Forfeited or expired
 
—

 
—

 
(15,643
)
 
17.66

Options outstanding at June 29, 2012
 
1,090,204

 
25.45

 
1,090,204

 
25.45

 
The fair value of each option award is estimated on the date of grant using the Black-Scholes option valuation model. The following table indicates the weighted-average assumptions used in estimating fair value:
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
Expected option term (years)
 


 


 
5.4

 
6.5

Expected volatility
 
—
%
 
—
%
 
46.5
%
 
43.9
%
Risk-free interest rate
 
—
%
 
—
%
 
0.9
%
 
2.9
%
Expected dividend yield
 
—
%
 
—
%
 
1.9
%
 
2.2
%
Per share fair value of options granted
 
$
—

 
$
—

 
$
12.00

 
$
12.05


No stock options were granted during the three months ended June 29, 2012 and July 1, 2011.

17
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)

11. SHARE-BASED ARRANGEMENTS (CONTINUED)

Restricted Stock activity is as follows:
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29, 2012
 
June 29, 2012
 
 
Restricted  Stock
Awards
 
Weighted-
average grant
date fair value
 
Restricted  Stock
Awards
 
Weighted-
average grant
date fair value
Restricted Stock outstanding at beginning of period
 
311,517

 
$
27.73

 
309,533

 
$
25.74

Granted
 
18,992

 
33.71

 
94,392

 
33.67

Vested
 
(36,630
)
 
28.65

 
(108,244
)
 
26.65

Forfeited or expired
 
—

 
—

 
(1,802
)
 
23.54

Restricted Stock outstanding at June 29, 2012
 
293,879

 
28.00

 
293,879

 
28.00


12. SEGMENT AND GEOGRAPHIC INFORMATION

The Company is organized based upon the nature of its products and services, and is composed of two operating segments each overseen by a segment manager.  These segments are reflective of how the Company’s Chief Executive Officer, who is its Chief Operating Decision Maker (“CODM”), reviews operating results for the purposes of allocating resources and assessing performance. The Company has not aggregated operating segments for purposes of identifying reportable segments.

The Aerospace segment produces and/or markets widely used proprietary aircraft bearings and components; complex metallic and composite aerostructures for commercial, military and general aviation fixed and rotary wing aircraft; safe and arm solutions for missile and bomb systems for the U.S. and allied militaries; subcontract helicopter work; support for the Company’s SH-2G Super Seasprite maritime helicopters and K-MAX® medium-to-heavy lift helicopters; and engineering services.

The Industrial Distribution segment is the third largest power transmission/motion control industrial distributor in North America. The segment provides products including bearings, mechanical power transmission, electrical, fluid power, motion control, automation, material handling components, and MRO supplies to a broad spectrum of industrial markets throughout North America.
 
Summarized financial information by business segment is as follows:
 
 
For the Three Months Ended
 
For the Six Months Ended
In thousands
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
Net sales:
 
 
 
 
 
 
 
 
Industrial Distribution
 
$
258,116

 
$
239,307

 
$
515,754

 
$
478,177

Aerospace
 
147,364

 
145,779

 
278,448

 
284,732

Net sales
 
$
405,480

 
$
385,086

 
$
794,202

 
$
762,909

Operating income:
 
 

 
 

 
 
 
 
Industrial Distribution
 
$
14,645

 
$
12,636

 
$
27,425

 
$
24,750

Aerospace
 
26,158

 
22,360

 
42,059

 
43,779

Net gain (loss) on sale of assets
 
8

 
(34
)
 
32

 
(36
)
Corporate expense
 
(12,312
)
 
(10,883
)
 
(23,837
)
 
(19,855
)
Operating income
 
28,499

 
24,079

 
45,679

 
48,638

Interest expense, net
 
2,831

 
2,821

 
5,710

 
5,891

Other expense (income), net
 
84

 
(25
)
 
(163
)
 
(414
)
Earnings before income taxes
 
25,584

 
21,283

 
40,132

 
43,161

Income tax expense
 
9,105

 
7,256

 
14,250

 
14,942

Net earnings
 
$
16,479

 
$
14,027

 
$
25,882

 
$
28,219


18
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Continued
For the three months and six months ended June 29, 2012 and July 1, 2011
(Unaudited)


13. SHAREHOLDERS' EQUITY AND ACCUMULATED OTHER COMPREHENSIVE INCOME

Changes in shareholders’ equity for the six months ended June 29, 2012, were as follows (in thousands):
Balance at December 31, 2011
 
$
373,071

Comprehensive income
 
29,131

Dividends declared
 
(8,439
)
Employee stock plans and related tax benefit
 
2,651

Purchase of treasury shares
 
(659
)
Share-based compensation activity
 
3,581

Balance at June 29, 2012
 
$
399,336


The components of accumulated other comprehensive income (loss) are shown below (in thousands):
 
 
As of
 
 
June 29,
2012
 
December 31,
2011
Changes in pension and post-retirement benefit plans
 
$
(93,388
)
 
$
(96,111
)
Foreign currency translation adjustment
 
(20,839
)
 
(21,365
)
Unrealized gain (loss) on derivative instruments
 
(470
)
 
(470
)
Accumulated other comprehensive income (loss)
 
$
(114,697
)
 
$
(117,946
)

No amounts were reclassified from other comprehensive income into net earnings for foreign currency translation adjustments in 2012 and 2011.

14. SUBSEQUENT EVENTS

The Company has evaluated subsequent events through the issuance date of these financial statements. No material subsequent events were identified that required disclosure.


19

Item 2.         Management's Discussion and Analysis of Financial Condition and Results of Operations

Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to provide readers of our condensed consolidated financial statements with the perspectives of management. MD&A presents in narrative form information regarding our financial condition, results of operations, liquidity and certain other factors that may affect our future results. MD&A is designed to enable the readers of this report to obtain a comprehensive understanding of our businesses, strategies, current trends and future prospects. Our MD&A should be read in conjunction with our 2011 Annual Report on Form 10-K.

OVERVIEW OF BUSINESS

Kaman Corporation is composed of two business segments:
•
Industrial Distribution, the third largest power transmission/motion control industrial distributor in North America.
•
Aerospace, a manufacturer and subcontractor in the international, commercial and military aerospace and defense markets.

Financial performance

•
Net sales increased 5.3% and 4.1% for the three months and six months ended June 29, 2012, respectively, compared to the comparable periods in the prior year.
•
Net earnings increased 17.5% for the three months ended June 29, 2012, and decreased 8.3% for the six months ended June 29, 2012, compared to the comparable periods in the prior year.
•
Diluted earnings per share increased to $0.62 for the three months ended June 29, 2012, an increase of $0.09 compared to the comparable period in prior year. Diluted earnings per share decreased to $0.98 for the six months ended June 29, 2012, a decrease of $0.08 compared to the comparable period in the prior year.
•
Cash flows used in operating activities were $4.5 million for the six months ended June 29, 2012, an increase of $10.6 million when compared to the comparable period in the prior year.
•
Achieved record sales and operating profit at our Industrial Distribution segment for the quarter ended June 29, 2012.

Key events

•
In July 2012, we entered into a five year contract with Aircelle to produce composite structures at our UK Composites facility.
•
In June 2012, the U.S. Department of State granted us permission to negotiate a possible sale of SH-2G(I) Super Seasprite Helicopters to the Government of New Zealand.
•
We delivered 5,892 fuzes under our Joint Programmable Fuze ("JPF") program with the U.S. Government during the second quarter of 2012, for a total of 10,314 fuzes in the first half of 2012.
•
On May 30, 2012, we signed a long-term agreement ("LTA") for the next multi-year contract on the Sikorsky BLACK HAWK helicopter cockpit program, which will allow us to continue to perform work under this program through 2017.
•
On May 2, 2012, we announced an agreement in principle entered into by Kaman Aerospace Group and Kineco Private Limited to form a manufacturing company in Goa, India, Kineco Kaman Composites - India, subject to the completion of due diligence. We continue to make progress on our due diligence procedures and have not yet finalized an agreement. The newly formed company will manufacture advanced composite structures for aerospace, medical and other industries.
•
In March 2012 we paid $6.3 million (AUD) to the Commonwealth of Australia in accordance with our settlement agreement related to the SH-2G(A) Helicopters. Through June 29, 2012, we have made cumulative payments of $33.1 million (AUD) with the final guaranteed payment of $6.4 million (AUD) due in March 2013.
•
On February 7, 2012, our common stock began trading on the New York Stock Exchange.


20

Outlook

We are updating our outlook for 2012. We now expect full year sales and operating margins at the low end of the ranges given below. At Aerospace, we have eliminated sales and profit from an Unmanned K-MAX bridge buy from 2012 and expect legacy fuze and composite program deliveries to shift to the right and a reduction in deliveries of BLACK HAWK cockpits. However, we anticipate upside for additional JPF deliveries to offset these reductions. At Industrial Distribution, second half sales and profit will be impacted by lower organic growth, due to slower industrial activity, partially offset by the contribution from the acquisition of Florida Bearings. Additionally, we have reduced our previous expectation for interest expense from $13.5 million to $11.5 million and expect Corporate expenses to be near the high end of the range.

•
Industrial Distribution:
◦
Sales of $1,035 million to $1,055 million
◦
Operating margin between 5.4% and 5.6%
•
Aerospace:
◦
Sales of $605 million to $625 million
◦
Operating margin between 15.7% and 16.0%
•
Corporate expenses in the range of $44 million to $46 million
•
Interest expense of approximately $11.5 million
•
Estimated tax rate of approximately 35%
•
Free cash flow in the range of $30 million to $35 million.


RESULTS OF CONTINUING OPERATIONS

Consolidated Results

Net Sales
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Net Sales
 
$
405,480

 
$
385,086

 
$
794,202

 
$
762,909

$ change
 
20,394

 
67,999

 
31,293

 
169,050

% change
 
5.3
%
 
21.4
%
 
4.1
%
 
28.5
%
The increase in net sales for the three months and six months ended June 29, 2012, versus the comparable periods in 2011 was attributable to an organic increase in sales in our Industrial Distribution segment and the contribution of sales from our 2011 acquisitions. For the six month period these increases were partially offset by a decrease in sales in our Aerospace segment. Foreign currency exchange rates had a $2.4 million and $3.3 million unfavorable impact on sales during the three months and six months ended June 29, 2012, respectively. (See segment discussion below for additional information.)
Gross Profit
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Gross Profit
 
$
115,329

 
$
106,520

 
$
221,397

 
$
211,149

$ change
 
8,809

 
23,260

 
10,248

 
55,134

% change
 
8.3
%
 
27.9
%
 
4.9
%
 
35.3
%
% of net sales
 
28.4
%
 
27.7
%
 
27.9
%
 
27.7
%
Gross profit increased for the three months and six months ended June 29, 2012, versus the comparable periods in 2011 primarily due to organic increases in gross profit at our Industrial Distribution segment, primarily the result of higher sales volume compared to the prior year, the contribution of gross profit from our 2011 acquisitions and, for the three-month period, an increase in organic gross profit in our Aerospace segment. The increases for the six-month period were partially offset by a decrease in organic gross profit in our Aerospace segment.

21


The increase in organic gross profit for the three months ended June 29, 2012 in our Aerospace segment was due to increased volume on our bearing product lines and increased shipments of the JPF to the USG. Partially offsetting these increases were lower direct commercial sales of the JPF to foreign militaries, lower gross profit on our other legacy fuze programs, a lower volume of work on our unmanned K-MAX® aircraft system, and fewer shipments of Sikorsky BLACK HAWK Helicopter Cockpits.

The organic decrease in gross profit for the six months ended June 29, 2012 in our Aerospace segment was due to lower direct commercial sales of the JPF to foreign militaries, lower gross profit on our other legacy fuze programs, a lower volume of work on our unmanned K-MAX® aircraft system, fewer shipments of Sikorsky BLACK HAWK Helicopter Cockpits and the phase-out of joining and installation work under our Sikorsky offload program. These decreases were partially offset by increased volume on our bearing product lines, increased deliveries of the JPF to the USG and increased volume on our helicopter aftermarket work related to the Egypt upgrade program and K-MAX spares and support.

Selling, General & Administrative Expenses (SG&A)

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
SG&A
 
$
86,838

 
$
82,407

 
$
175,750

 
$
162,475

$ change
 
4,431

 
9,299

 
13,275

 
19,436

% change
 
5.4
%
 
12.7
%
 
8.2
%
 
13.6
%
% of net sales
 
21.4
%
 
21.4
%
 
22.1
%
 
21.3
%

SG&A increased for the three months ended June 29, 2012, versus the comparable period in 2011 primarily due to the following:

•
SG&A expenses from our 2011 acquisitions;
•
organic increases in expenses at our Industrial Distribution segment;
•
increases in corporate incentive compensation expenses; and
•
higher acquisition related costs.

SG&A increased for the six months ended June 29, 2012, versus the comparable period in 2011 primarily due to the following:

•
SG&A expenses from our 2011 acquisitions;
•
organic increases in expenses at our Industrial Distribution segment;
•
the absence of the $2.4 million non-recurring benefit received in the first half of 2011 associated with the death of a former executive;
•
increases in corporate incentive compensation expenses; and
•
higher acquisition related costs in 2012, primarily related to an acquisition we chose not to pursue.

The increases for the three months and six months ended June 29, 2012 were partially offset by decreases in organic SG&A expenses at our Aerospace segment primarily due to the absence of the legal fees associated with FMU-143 program litigation matters in 2011.



22

Operating Income

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Operating Income
 
$
28,499

 
$
24,079

 
45,679

 
$
48,638

$ change
 
4,420

 
13,983

 
(2,959
)
 
35,142

% change
 
18.4
%
 
138.5
%
 
(6.1
)%
 
260.4
%
% of net sales
 
7.0
%
 
6.3
%
 
5.8
 %
 
6.4
%

The increase in operating income for the three months ended June 29, 2012, versus the comparable period in 2011 was due to an increase in both our Aerospace segment and Industrial Distribution segment operating income, slightly offset by an increase in corporate expenses. (See segment discussion below for additional information.)

The decrease in operating income for the six months ended June 29, 2012, versus the comparable period in 2011 was due to a decrease in the Aerospace segment operating income and an increase in corporate expenses. (See segment discussion below for additional information.)

Interest Expense, Net

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Interest Expense, net
 
$
2,831

 
$
2,821

 
$
5,710

 
$
5,891


Interest expense, net generally consists of interest charged on the revolving credit facility and other borrowings and the amortization of debt issuance costs, offset by interest income. The decrease in interest expense, net for the six months ended June 29, 2012, versus the comparable period in 2011 was primarily due to a decrease in bank commitment fees and letter of credit fees, offset by higher average borrowings and a higher average interest rate for the period. At June 29, 2012, the interest rate for outstanding amounts on both the Revolving Credit Agreement and Term Loan Agreement was 1.74% compared to 1.56% at July 1, 2011.

Effective Income Tax Rate

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Effective Income Tax Rate
 
35.6
%
 
34.1
%
 
35.5
%
 
34.6
%

The effective income tax rate represents the combined federal, state and foreign tax effects attributable to pretax earnings for the year. We anticipate the annual effective tax rate in 2012 will be approximately 35%. The increase in the effective tax rate for the three months and six months ended June 29, 2012 was due to changes in our liability for uncertain tax positions in the prior year, and for the six-month period the receipt of non-taxable life insurance proceeds in the first quarter of 2011.


23

Industrial Distribution Segment

Results of Operations

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Net Sales
 
$
258,116

 
$
239,307

 
$
515,754

 
$
478,177

$ change
 
18,809

 
28,383

 
37,577

 
87,994

% change
 
7.9
%
 
13.5
%
 
7.9
%
 
22.6
%
 
 
 
 
 
 
 
 
 
Operating Income
 
$
14,645

 
$
12,636

 
$
27,425

 
$
24,750

$ change
 
2,009

 
4,923

 
2,675

 
12,225

% change
 
15.9
%
 
63.8
%
 
10.8
%
 
97.6
%
% of net sales
 
5.7
%
 
5.3
%
 
5.3
%
 
5.2
%

Organic Sales Per Sales Day

 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 29,
2012
 
July 1,
2011
 
June 29,
2012
 
July 1,
2011
 
 
(in thousands)
Net sales
 
$
258,116

 
$
239,307

 
$
515,754

 
$
478,177

Acquisition sales
 
13,769

 
—

 
28,353

 
—

Organic sales
 
$
244,347

 
$
239,307

 
$
487,401

 
$
478,177

Sales days
 
64

 
64

 
128