PSIX

Business Context and Reporting Period

Company: Power Solutions International, Inc. (formerly Format, Inc.)
Reporting Period: Quarter and six months ended June 30, 2011
Business Overview: The Company is a global producer and distributor of high-performance, certified low-emission power systems for industrial original equipment manufacturers (OEMs). Products include diesel and alternative fuel power systems and aftermarket components.
Corporate Structure Change: On April 29, 2011, the Company completed a reverse recapitalization with The W Group, Inc. The W Group is the accounting acquirer. The Company also completed a private placement of Series A Convertible Preferred Stock and warrants, raising $18.0 million in gross proceeds.

Key Financial Metrics

Note: Net income is heavily allocated to Series A Convertible Preferred Stock ($496k for Q2; $1.518M for YTD) due to participating rights. Cash balance is $0 as cash is swept to pay down the revolving line of credit.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 48.6% ($11.6M) for the quarter and 53.6% ($23.3M) for the six months compared to the prior year periods. Growth was driven by increased sales volume to existing customers, expansion into Asia, and new alternative fuel power systems.
• Profitability: Gross margin improved to 18.4% (Q2) and 18.7% (YTD) from 17.2% and 16.5% respectively, due to higher volumes spreading production costs and a broadening product mix.
• Debt Reduction: Total debt decreased significantly from $29.5 million (Dec 31, 2010) to $16.3 million (June 30, 2011). The Company repaid all term loans and the prior revolving line of credit using proceeds from the private placement and a new credit facility with Harris N.A.
• One-Time Expenses: The Company recognized a $485,000 loss on debt extinguishment and $658,000 in other expenses (transaction costs allocated to warrant liability) related to the reverse recapitalization and private placement.
• Tax Rate: The effective tax rate increased to 54.3% (Q2) and 43.5% (YTD) from 18.9% in the prior year, primarily due to non-deductible transaction costs and an increase in the Illinois corporate income tax rate.

Guidance, Outlook, and Risks

• Capital Resources: The Company believes current sources of liquidity (operations and a $35.0M revolving line of credit with $18.4M available) are sufficient for the next 12 months.
• Reverse Split & Merger: A 1-for-32 reverse stock split and a migratory merger to Delaware are pending shareholder approval. Failure to complete these by August 28, 2011, could trigger liquidated damages of approximately $0.3 million per 30-day period.
• Warrant Liability: Private placement warrants are classified as a liability ($2.783M at June 30, 2011) and subject to fair value adjustments, which impacted net income.
• Risks: Key risks include dependence on a few major engine suppliers (Perkins/Caterpillar), global economic conditions, regulatory emission changes, and the potential failure to raise additional capital for growth.

Investor Verification Checklist

• Shareholder Approval: Verify the status of the pending shareholder vote for the reverse split and migratory merger to assess the risk of liquidated damages.
• Preferred Stock Conversion: Confirm the terms and conversion price of the Series A Convertible Preferred Stock, which currently absorbs the majority of undistributed earnings.
• Debt Covenants: Review compliance with the new fixed charge coverage ratio covenant under the Harris N.A. credit agreement.
• Warrant Valuation: Monitor the fair value of the private placement warrant liability, as fluctuations will impact reported net income.
• Customer Concentration: Assess the impact of the Company's reliance on a limited number of industrial OEM customers and engine suppliers.