WAB

Business Context and Reporting Period

Company: Westinghouse Air Brake Technologies Corporation (Wabtec)
Filing Type: Form 10-Q (Unaudited)
Reporting Period: Three months ended March 31, 2002
Business Overview: A leading manufacturer of value-added equipment for locomotives, railway freight cars, and passenger transit vehicles. Operations are divided into two segments: Freight Group and Transit Group. Approximately 52% of sales are to the aftermarket.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Decline: Net sales decreased 17.6% ($38 million) year-over-year. The Freight Group saw a significant drop due to lower industry deliveries of new freight cars (3,855 units vs. 11,070 units in Q1 2001). The Transit Group declined due to lower sales of bus doors and rail air conditioning units.
• Profitability Compression: Operating income fell 57% to $10.5 million. Margins contracted due to lower sales volumes, unfavorable product mix, pricing pressures, and increased warranty costs.
• Cash Flow Reversal: Operating cash flow swung from a $39.6 million inflow in Q1 2001 to a $23.9 million outflow in Q1 2002. This was primarily driven by a $28.7 million payment for income taxes related to the Q4 2001 gain from the sale of assets to GE Transportation Systems.
• Discontinued Operations: Q1 2002 included a $0.4 million net loss from discontinued operations, whereas Q1 2001 included $2.3 million of income from these same operations.
• Interest Expense: Decreased 50.8% to $5.3 million due to a substantial reduction in debt levels compared to the prior year.

Guidance, Outlook, and Risks

• Accounting Changes: The Company adopted SFAS No. 142 effective January 1, 2002, ceasing goodwill amortization. Management anticipates completing the Phase I impairment analysis by the end of May 2002 and expects the process may result in an impairment recognition.
• Liquidity: The Company maintains a $275 million revolving credit facility and a $100 million convertible facility. Available borrowing capacity was approximately $289 million as of March 31, 2002. Management believes cash flow is sufficient to fund working capital and debt service.
• Restructuring: A new restructuring plan for the Transit rail business is expected to yield approximately $3 million in pre-tax cost savings in 2002 and beyond.
• Risks: Key risks include economic downturns affecting rail industry demand, supply disruptions, labor relations, and foreign currency fluctuations (though 75% of sales are in the U.S.). The Company also faces potential asbestos litigation claims, though management believes these are covered by insurance or indemnity and will not be material.

Investor Verification Checklist

• Goodwill Impairment: Verify the outcome of the SFAS 142 Phase I analysis expected by late May 2002, as an impairment charge could significantly impact future earnings.
• Freight Car Cycle: Monitor industry data on new freight car deliveries, as the Freight Group's revenue is highly correlated with this capital replacement cycle.
• Cash Flow Sustainability: Assess whether the large Q1 2002 tax payment was a one-time event or if operating cash flows will remain negative due to lower earnings.
• Debt Covenants: Review the terms of the $275 million credit facility and $175 million senior notes to ensure compliance given the reduced operating income.
• Discontinued Operations: Confirm the finalization of the asset sale to GE Transportation Systems and any remaining adjustments to the $240 million transaction value.