UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

For the transition period from                     to

Commission file number 001-12929

CommScope, Inc.

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)

36-4135495 (I.R.S. Employer Identification No.)

1100 CommScope Place, SE
P.O. Box 339
Hickory, North Carolina

(Address of principal executive offices)

28602

(Zip Code)

(828) 324-2200

(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 o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer (as defined in Exchange Act Rule 12b-2).    Large accelerated filer x       Accelerated filer o      Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o    No x

As of July 28, 2006 there were 58,996,966 shares of Common Stock outstanding.

 

 

CommScope, Inc.
Form 10-Q
June 30, 2006
Table of Contents

Part I—Financial Information (Unaudited):
	Item 1. Condensed Consolidated Financial Statements:
		Condensed Consolidated Statements of Operations
		Condensed Consolidated Balance Sheets
		Condensed Consolidated Statements of Cash Flows
		Condensed Consolidated Statements of Stockholders’ Equity and Comprehensive    Income
		Notes to Condensed Consolidated Financial Statements
	Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3. Quantitative and Qualitative Disclosures About Market Risk
	Item 4. Controls and Procedures
Part II—Other Information:
	Item 1A. Risk Factors
	Item 4. Submission of Matters to a Vote of Security Holders
	Item 6. Exhibits
	Signatures

 

 

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CommScope, Inc.
Condensed Consolidated Statements of Operations
(Unaudited—In thousands, except per share amounts)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2006			2005			2006			2005
Net sales		$	411,881		$	336,711		$	764,135		$	645,765
Operating costs and expenses:
Cost of sales		303,333			248,102			570,848			484,994
Selling, general and administrative		58,253			54,016			112,430			107,898
Research and development		8,205			8,437			15,670			16,207
Restructuring costs		4,004			1,546			7,753			3,575
Total operating costs and expenses		373,795			312,101			706,701			612,674
Operating income		38,086			24,610			57,434			33,091
Other income (expense), net		27			(612		)	665			(669		)
Interest expense		(1,987		)	(2,289		)	(3,972		)	(4,367		)
Interest income		2,343			1,149			4,396			2,148
Income before income taxes and gain on OFS BrightWave note receivable		38,469			22,858			58,523			30,203
Income tax expense before income tax provision on gain on OFS BrightWave note receivable		(10,448		)	(6,554		)	(17,775		)	(8,365		)
Income before gain on OFS BrightWave note receivable		28,021			16,304			40,748			21,838
Gain on OFS BrightWave note receivable, net of tax of $11,175		18,625			—			18,625			—
Net income		$	46,646		$	16,304		$	59,373		$	21,838
Net income per share:
Basic		$	0.80		$	0.30		$	1.03		$	0.40
Assuming dilution		$	0.65		$	0.25		$	0.85		$	0.34
Weighted average shares outstanding:
Basic		58,502			54,561			57,626			54,537
Assuming dilution		72,221			67,065			71,519			67,036

 

See notes to condensed consolidated financial statements.

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CommScope, Inc.
Condensed Consolidated Balance Sheets
(Unaudited—In thousands, except share amounts)

 

		June 30,			December 31,
		2006			2005
Assets
Cash and cash equivalents		$	185,338		$	146,549
Short-term investments		110,781			102,101
Total cash, cash equivalents and short-term investments		296,119			248,650
Accounts receivable, less allowance for doubtful accounts of
$14,226 and $13,644, respectively		217,934			165,608
Inventories		156,199			123,603
Prepaid expenses and other current assets		26,996			26,156
Deferred income taxes		26,872			25,245
Total current assets		724,120			589,262
Property, plant and equipment, net		239,821			252,877
Goodwill		151,371			151,356
Other intangibles, net		69,999			69,297
Deferred income taxes		16,535			24,623
Other assets		22,588			14,766
Total Assets		$	1,224,434		$	1,102,181
Liabilities and Stockholders’ Equity
Accounts payable		$	91,257		$	63,444
Other accrued liabilities		88,204			100,498
Current portion of long-term debt		13,000			13,000
Total current liabilities		192,461			176,942
Long-term debt		277,800			284,300
Pension and postretirement benefit liabilities		92,838			101,989
Other noncurrent liabilities		18,653			16,925
Total Liabilities		581,752			580,156
Commitments and contingencies
Stockholders’ Equity:
Preferred stock, $.01 par value; Authorized shares: 20,000,000;
Issued and outstanding shares: None at June 30, 2006 and
December 31, 2005		—			—
Common stock, $.01 par value; Authorized shares: 300,000,000;
Issued shares, including treasury stock: 69,065,654 at
June 30, 2006 and 66,073,347 at December 31, 2005;
Issued and outstanding shares: 58,865,654 at June 30, 2006
and 55,873,347 at December 31, 2005		691			661
Additional paid-in capital		511,477			462,842
Deferred equity compensation		—			(8,980		)
Retained earnings		276,061			216,688
Accumulated other comprehensive loss		(12		)	(3,651		)
Treasury stock, at cost: 10,200,000 shares at June 30, 2006
and December 31, 2005		(145,535		)	(145,535		)
Total Stockholders’ Equity		642,682			522,025
Total Liabilities and Stockholders’ Equity		$	1,224,434		$	1,102,181

 

See notes to condensed consolidated financial statements.

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CommScope, Inc.
Condensed Consolidated Statements of Cash Flows
(Unaudited—In thousands)

		Six Months Ended
		June 30,
		2006			2005
Operating Activities:
Net income		$	59,373		$	21,838
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Depreciation and amortization		28,409			30,616
Equity based compensation		2,129			—
Deferred income taxes		6,904			(2,521		)
Gain on OFS BrightWave note receivable		(29,800		)	—
Restructuring costs related to fixed asset impairment		—			2,225
Tax benefit from stock option exercises		—			355
Changes in assets and liabilities:
Accounts receivable		(51,446		)	(42,403		)
Inventories		(26,902		)	(2,314		)
Prepaid expenses and other current assets		3,037			2,669
Accounts payable and other accrued liabilities		15,387			16,732
Other noncurrent liabilities		(8,485		)	(334		)
Other		(1,951		)	267
Net cash provided by (used in) operating activities		(3,345		)	27,130
Investing Activities:
Additions to property, plant and equipment		(15,050		)	(13,450		)
Proceeds from OFS BrightWave note receivable		29,800			—
Acquisition of MC2 product line		(13,810		)	—
Acquisition of Connectivity Solutions		—			653
Net proceeds from (purchases of) short-term investments		(8,680		)	11,479
Proceeds from disposal of fixed assets		550			1,576
Net cash provided by (used in) investing activities		(7,190		)	258
Financing Activities:
Principal payments on long-term debt		(6,500		)	(6,500		)
Long-term financing costs		—			(306		)
Proceeds from exercise of stock options		42,035			1,982
Tax benefit from stock option exercises		12,981			—
Net cash provided by (used in) financing activities		48,516			(4,824		)
Effect of exchange rate changes on cash		808			(1,115		)
Change in cash and cash equivalents		38,789			21,449
Cash and cash equivalents, beginning of period		146,549			99,631
Cash and cash equivalents, end of period		$	185,338		$	121,080

 

See notes to condensed consolidated financial statements.

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CommScope, Inc.

Condensed Consolidated Statements of Stockholders’ Equity

and Comprehensive Income

(Unaudited—In thousands, except share amounts)

 

		Six Months Ended
		June 30,
		2006			2005
Number of common shares outstanding:
Balance at beginning of period		55,873,347			54,487,745
Issuance of shares for stock option exercises		2,992,307			175,425
Issuance of shares to nonemployee directors		—			2,000
Balance at end of period		58,865,654			54,665,170
Common stock:
Balance at beginning of period		$	661		$	647
Issuance of shares for stock option exercises		30			2
Balance at end of period		$	691		$	649
Additional paid-in capital:
Balance at beginning of period		$	462,842		$	432,839
Issuance of shares for stock option exercises		42,005			1,980
Tax benefit from stock option exercises		12,981			355
Expiration of registration rights		500			—
Impact of adoption of SFAS No. 123(R)		(8,980		)	—
Equity compensation expense recognized		2,129			—
Issuance of shares to nonemployee directors		—			30
Balance at end of period		$	511,477		$	435,204
Retained earnings:
Balance at beginning of period		$	216,688		$	166,710
Net income		59,373			21,838
Balance at end of period		$	276,061		$	188,548
Accumulated other comprehensive loss:
Balance at beginning of period		$	(3,651	)	$	(5,198	)
Other comprehensive income, net of tax		3,639			1,823
Balance at end of period		$	(12	)	$	(3,375	)
Treasury stock, at cost:
Balance at beginning and end of period		$	(145,535	)	$	(145,535	)
Total stockholders’ equity		$	642,682		$	475,491

 

 

		Three Months Ended						Six Months Ended
		June 30,						June 30,
		2006			2005			2006			2005
Comprehensive income:
Net income		$	46,646		$	16,304		$	59,373		$	21,838
Other comprehensive income, net of tax:
Foreign currency translation gain (loss) - foreign subsidiaries		982			(3,248		)	(379		)	(4,000		)
Foreign currency transaction gain (loss) on long-term
intercompany loans - foreign subsidiaries		321			5,061			4,770			4,682
Gain (loss) on derivative financial instrument
designated as a net investment hedge		(581		)	783			(752		)	1,141
Total other comprehensive income, net of tax		722			2,596			3,639			1,823
Total comprehensive income		$	47,368		$	18,900		$	63,012		$	23,661

 

See notes to condensed consolidated financial statements.

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CommScope, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited—In Thousands, Unless Otherwise Noted)

1.   BACKGROUND AND BASIS OF PRESENTATION

Background

CommScope, Inc., through its wholly owned subsidiaries (CommScope or the Company), is a world leader in the design and manufacture of cable and connectivity solutions for communications networks.  The Company focuses on the ‘last mile’ in communications networks, which is the distribution access, or final link to the customer.  The Company is a global leader in both structured cabling for business enterprise applications and broadband coaxial and fiber optic cables for the cable television industry. The Company also designs, manufactures and markets a broad line of high-performance electronic, coaxial and fiber optic cable products for data networking, Internet access, wireless communication, telephony and other broadband applications. In addition, the Company is a leading provider of environmentally secure enclosures in the United States.

Basis of Presentation

The condensed consolidated balance sheet as of June 30, 2006, the condensed consolidated statements of operations and comprehensive income for the three and six months ended June 30, 2006 and 2005, and the condensed consolidated statements of cash flows and stockholders’ equity for the six months ended June 30, 2006 and 2005 are unaudited and reflect all adjustments of a normal recurring nature that are, in the opinion of management, necessary for a fair presentation of the interim period financial statements. The results of operations for the interim period are not necessarily indicative of the results of operations to be expected for the full year.

The unaudited interim condensed consolidated financial statements of CommScope have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. The significant accounting policies followed by the Company are set forth in Note 2 to the consolidated financial statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005 (the 2005 Form 10-K). There were no changes in the Company’s significant accounting policies during the three or six months ended June 30, 2006 other than the adoption of Statement of Financial Accounting Standards (SFAS) No. 123(R), “Share-Based Payments” (SFAS No. 123(R)) as of January 1, 2006, which is discussed below. In addition, the Company reaffirms the use of estimates in the preparation of the financial statements as set forth in the 2005 Form 10-K. These interim condensed consolidated financial statements should be read in conjunction with the Company’s December 31, 2005 audited consolidated financial statements and notes thereto included in the 2005 Form 10-K.

Concentrations of Risk

Net sales to Anixter International Inc. and its affiliates (Anixter) accounted for approximately 32% and 31% of the Company’s total net sales during the three and six months ended June 30, 2006, respectively, and approximately 35% and 34% of the Company’s total net sales during the three and six months ended June 30, 2005, respectively.  Sales to Anixter primarily originate within the Enterprise segment. No other customer accounted for 10% or more of the Company’s total net sales for the three and six months ended June 30, 2006 and 2005.

Accounts receivable from Anixter represented approximately 35% of net accounts receivable as of June 30, 2006. No other customer accounted for 10% or more of the Company’s net accounts receivable as of June 30, 2006.

Product Warranties

The Company recognizes a liability for the estimated claims that may be paid under its customer warranty agreements to remedy potential deficiencies of quality or performance of the Company’s products. These product warranties extend over periods ranging from one to twenty-five years from the date of sale, depending upon the

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product subject to the warranty. The Company records a provision for estimated future warranty claims as cost of sales based upon the historical relationship of warranty claims to sales and specifically-identified warranty issues. The Company bases its estimates on assumptions that are believed to be reasonable under the circumstances and revises its estimates, as appropriate, when events or changes in circumstances indicate that revisions may be necessary.

Activity in the product warranty accrual, included in other accrued liabilities, for the three and six months ended June 30, 2006 and 2005 consisted of the following:

 

Commitments and Contingencies

CommScope is either a plaintiff or a defendant in pending legal matters in the normal course of business; however, management believes none of these legal matters will have a materially adverse effect on the Company’s financial statements upon final disposition. In addition, CommScope is subject to various federal, state, local and foreign laws and regulations governing the use, discharge, disposal and remediation of hazardous materials. Compliance with current laws and regulations has not had, and is not expected to have, a materially adverse effect on the Company’s financial condition or results of operations.

Net Income Per Share

Basic net income per share is computed by dividing net income by the weighted average number of common shares outstanding during the applicable period. Diluted net income per share is based on net income adjusted for after-tax interest and amortization of debt issuance costs related to convertible debt, if dilutive, divided by the weighted average number of common shares outstanding adjusted for the dilutive effect of stock options, restricted stock, phantom stock, performance units and convertible securities (see Note 9).

Below is a reconciliation of net income and weighted average common shares and potential common shares outstanding for calculating diluted net income per share:

(a)             Options to purchase approximately 0.6 million and 3.3 million common shares were excluded from the computation of net income per share, assuming dilution, for the three months ended June 30, 2006 and 2005, respectively, and options to purchase approximately 0.6 million and 4.5 million common shares were excluded from the computation of net income per share, assuming dilution, for the six months ended June 30, 2006 and 2005, respectively, because they would have been antidilutive.

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Equity-Based Compensation

On January 1, 2006, the Company adopted SFAS No. 123(R) using the modified prospective transition method to account for its equity-based compensation arrangements. The Company previously applied Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations and provided the required pro forma disclosures of SFAS No. 123, “Accounting for Stock-Based Compensation.”  See Note 9 for the pro forma disclosures required for the three and six months ended June 30, 2005.  The adoption of SFAS No. 123(R) did not materially affect the accounting for the equity-based compensation associated with the Company’s previously awarded phantom stock or performance units, which was already based on the market price of the stock at date of grant. Under the modified prospective transition method, new and previously granted but unvested equity awards are recognized as compensation expense in the income statement based on the estimated fair value of the award (net of estimated forfeitures) at the grant date, and prior period results are not restated. The Company estimates the fair value of stock options using the Black-Scholes valuation model. The balance previously reflected as deferred equity compensation (a contra-equity account) was eliminated against additional paid-in capital (APIC) upon adoption of SFAS No. 123(R).

With the adoption of SFAS No. 123(R), the Company changed its method of expense attribution for equity-based compensation for future awards from recognition over the nominal vesting period to recognition over the requisite service period. Compensation expense for equity-based awards granted prior to January 1, 2006 will continue to be recognized over the nominal vesting period. For the three and six months ended June 30, 2006, additional pretax compensation expense of $0.3 million and $0.5 million, respectively, was recognized due to the continued use of the nominal vesting period for awards that were granted prior to January 1, 2006 to retirement-eligible employees.

The Company records deferred tax assets related to compensation expense for awards that are expected to result in future tax deductions for the Company, based on the amount of compensation cost recognized and the Company’s statutory tax rate in the jurisdiction in which it expects to receive a deduction. Differences between the deferred tax assets recognized for financial reporting purposes and actual tax deductions reported on the Company’s income tax return are recorded in APIC (if the tax deduction exceeds the deferred tax asset) or in the Condensed Consolidated Statement of Operations as additional income tax expense (if the deferred tax asset exceeds the tax deduction and no excess APIC exists from previous awards). In determining the amount of excess APIC at the adoption of SFAS No. 123(R), the Company utilized the simplified alternative provided in FASB Staff Position FAS 123(R)-3, “Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards” (FSP FAS 123(R)-3).

Prior to the adoption of SFAS No. 123(R), the Company presented all tax benefits resulting from the exercise of stock options as operating cash inflows in the Condensed Consolidated Statements of Cash Flows. SFAS No. 123(R) requires the benefit of tax deductions in excess of the compensation costs recognized for those options to be classified as financing cash inflows rather than operating cash inflows, on a prospective basis. As a result of utilizing the simplified alternative provided under FSP FAS 123(R)-3, all tax benefits resulting from the exercise of stock options that were vested as of the adoption of SFAS No. 123(R) will be classified as financing cash inflows.

Impact of Newly Issued Accounting Standards

In November 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 151, “Inventory Costs, an Amendment of ARB No. 43, Chapter 4.”  This statement is the result of efforts to converge U.S. accounting standards for inventories with International Accounting Standards. SFAS No. 151 requires that items such as idle

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facility expense, excessive spoilage and rehandling costs be recognized as expenses in the current period. It also requires that allocation of fixed production overhead to the costs of conversion be based on normal capacity of the production facilities. The Company adopted this standard January 1, 2006 and its adoption did not have a material impact on the Company’s financial condition, results of operations or cash flows.

In June 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Tax Positions” (FIN 48) to provide guidance on the recognition and measurement in financial statements of uncertain tax positions taken or expected to be taken on tax returns.  FIN 48 also provides for new disclosures with respect to unrecognized tax benefits.  FIN 48 is effective for 2007 and a cumulative effect adjustment will be recognized in opening retained earnings for the impact of applying the guidance as of January 1, 2007.  The Company is not presently able to determine the impact of applying FIN 48.

2.    ACQUISITIONS

On March 6, 2006, CommScope acquired the assets supporting the trunk and distribution cable television products business of Trilogy Communications, Inc., along with certain other assets. The purchase price of $13.8 million was paid in cash. The products acquired were integrated into the Broadband segment.

The allocation of the purchase price, based on estimated fair values of the assets acquired, is as follows:

 

The weighted average useful life of the intangible assets acquired is 9.3 years.

In conjunction with the Company’s acquisition of substantially all of the assets and assumption of certain liabilities of the Connectivity Solutions business of Avaya Inc. in January 2004, the Company issued approximately 1.8 million shares of CommScope common stock. These unregistered shares included registration rights and the Company established a liability at the time the shares were issued for such registration costs. During the six months ended June 30, 2006, the registration rights expired and the Company reversed the liability that had been established, resulting in an increase to additional paid-in capital of $0.5 million.

3.    BALANCE SHEET DATA

Short-term Investments

At June 30, 2006 and December 31, 2005, the Company’s short-term investments were composed of the following:

 

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At June 30, 2006, the held-to-maturity short-term investments were composed of the following:

 

At December 31, 2005, the held-to-maturity short-term investments were composed of the following:

 

Inventories

 

4.   LONG-TERM DEBT

 

See Note 10 in the Notes to the Consolidated Financial Statements in the 2005 Form 10-K for information on the terms and conditions of the senior secured credit facility. As of June 30, 2006, the Company had availability of approximately $86 million and no outstanding borrowings under the senior secured revolving credit facility. The interest rate on the senior secured term loan was 6.74% and 6.17% at June 30, 2006 and December 31, 2005, respectively. Management believes the Company was in compliance with all of its covenants under this facility as of June 30, 2006.

See Note 10 in the Notes to the Consolidated Financial Statements in the 2005 Form 10-K for information on the terms and conditions of the 1% convertible senior subordinated debentures. The estimated fair value of the Company’s convertible debentures as of June 30, 2006 and December 31, 2005 was $372.2 million and $258.2 million, respectively.

5.   RESTRUCTURING CHARGES

2005 Restructuring Initiatives

In August 2005, the Board of Directors of CommScope adopted global manufacturing initiatives to reduce

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costs by improving manufacturing efficiency and to enhance the Company’s long-term competitive position. Implementation of these initiatives includes shifting significant Enterprise and Broadband segment cable production capacity among CommScope’s global facilities and the expected closing of a Broadband segment manufacturing facility in Scottsboro, Alabama in late 2006. As a result of these initiatives, the Company recognized pretax charges of $34.5 million during 2005 and $4.0 million and $7.8 million during the three and six months ended June 30, 2006, respectively.

The activity within the liability (included in other accrued liabilities) for these restructuring initiatives for the three and six months ended June 30, 2006 was as follows:

 

Employee-related costs include the expected severance costs and related fringe benefits, accrued over the remaining period employees are required to work in order to receive severance benefits. Additional pretax employee-related costs of $0.5 million to $1.0 million are expected to be recognized during the balance of 2006.

Equipment relocation costs relate directly to shifting manufacturing capacity among our global manufacturing facilities and include costs to uninstall, pack, ship and re-install equipment as well as the costs to prepare the receiving facility to accommodate the equipment. These costs are recognized as the expenses are incurred and additional pretax costs of $1.5 million to $2.0 million are expected to be recognized, substantially during the balance of 2006.

Asset impairment charges ($14.0 million, pretax) were incurred during 2005 related to production equipment that was identified as excess, pending consolidation of certain production operations in other facilities. As of June 30, 2006, land, buildings and equipment, with a carrying value of $20.3 million have been classified as held for sale at their estimated selling prices, less cost to sell.  Additional net impairment charges or gains may be incurred upon the disposition of these assets.

2004 Restructuring Initiatives

In October 2004, the Board of Directors of Connectivity Solutions Manufacturing, Inc., a wholly owned subsidiary of the Company, adopted organizational and cost reduction initiatives at its Omaha, Nebraska facility in order to improve its competitive position.

During the three and six months ended June 30, 2005, pretax charges of $1.5 million and $3.6 million, respectively, were recognized in conjunction with these initiatives.  The activity within the liability for these restructuring initiatives during the three and six months ended June 30, 2006 was as follows:

 

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No future charges are anticipated in connection with these initiatives and the remainder of the liability is expected to be substantially paid during the balance of 2006.

6.   OFS BRIGHTWAVE, LLC

On June 30, 2006, CommScope received a payment of $29.8 million plus accrued interest in full satisfaction of the amount owed by OFS BrightWave, LLC (OFS BrightWave) under a $30 million Revolving Credit Agreement (the Agreement) dated November 16, 2001 and the Agreement was terminated.  The carrying value of the Note had previously been reduced to zero as a result of recording CommScope’s equity in losses of OFS BrightWave prior to the sale of CommScope’s equity interest in OFS BrightWave in June 2004 and an impairment charge of $11.1 million at the time of the sale.

The recovery of the OFS BrightWave Note resulted in a pretax gain of $29.8 million ($18.6 million after-tax, or $0.26 per diluted share for the three and six months ended June 30, 2006).

7.   DERIVATIVES AND HEDGING ACTIVITIES

As of June 30, 2006 and 2005, the only derivative financial instrument outstanding was a cross currency swap of U.S. dollars for euros with a notional amount of $14 million. During the three and six months ended June 30, 2005, the swap was designated and documented as a hedge of the Company’s net investment in its Belgian subsidiary to reduce the volatility in stockholders’ equity caused by changes in euro exchange rates. Effective October 1, 2005, a portion of the hedging instrument was designated as a hedge against fluctuations in the fair value of certain of the Company’s euro-denominated assets. Losses of $163 and $211 (pretax) on the portion designated as a fair value hedge are reflected in the Company’s Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2006, respectively. The designations of the hedging instrument were effective as of June 30, 2006 and 2005, and are expected to continue to be effective for the duration of the agreement, resulting in no anticipated hedge ineffectiveness.

The fair value of the derivative instrument, reflected in other noncurrent liabilities, was approximately $7.0 million and $5.8 million as of June 30, 2006 and December 31, 2005, respectively.

There were no material reclassifications from other comprehensive income (loss) to earnings during the three and six months ended June 30, 2006 and 2005.

Activity in the accumulated net loss on derivative instruments included in accumulated other comprehensive loss consisted of the following:

 

During the three months ended June 30, 2006 and 2005, the income tax expense (benefit) related to the gain (loss) on the derivative financial instrument designated as a net investment hedge and reported within other comprehensive income was $(341) and $460, respectively. During the six months ended June 30, 2006 and 2005, the

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income tax expense (benefit) related to the gain (loss) on the derivative financial instrument designated as a net investment hedge and reported within other comprehensive income was $(442) and $670, respectively.

8.    EMPLOYEE BENEFIT PLANS

 

 

The Company contributed approximately $9.4 million and $14.6 million to its pension plans during the three and six months ended June 30, 2006, respectively, and anticipates making additional contributions of approximately $0.4 million to these plans during 2006. The Company contributed approximately $1.0 million and $2.0 million to the postretirement benefit plans during the three and six months ended June 30, 2006, respectively, and anticipates making additional contributions of approximately $2.0 million to these plans during 2006.

9.    EQUITY-BASED COMPENSATION PLANS

On May 5, 2006, the stockholders of the Company approved the 2006 Long Term Incentive Plan (the 2006 Plan), authorizing 2.3 million shares for issuance, of which no more than 1.5 million shares may be full value awards (stock, restricted stock, restricted stock units or performance awards, as defined).  Awards under the 2006 Plan may include stock, stock options, restricted stock, restricted stock units, performance units, performance share units, performance-based restricted stock, stock appreciation rights and dividend equivalent rights for employees and non-employee directors of the Company. Approval of the 2006 Plan canceled all shares authorized but not issued under the Amended and Restated CommScope, Inc. 1997 Long-Term Incentive Plan (the 1997 Plan).  Awards granted prior to May 5, 2006 remain subject to the provisions of the 1997 Plan.

Performance Share Units issued under the 2006 Plan or Performance Units issued under the 1997 Plan (collectively PSUs) are stock awards in which the number of shares ultimately received by the employee depends on Company performance against specified targets.  Such awards vest after three years if the performance targets are met. The fair value of each PSU is determined on the date of grant, based on the Company’s stock price and the likelihood that performance targets will be achieved. Over the performance period, the number of shares of stock that will be issued is adjusted upward or downward based upon the probable achievement of performance targets. The ultimate number of shares issued and the related compensation cost recognized will be based on a comparison of the final performance metrics to the targets specified in the grants.

Restricted Stock Unit Awards issued under the 2006 Plan or Phantom Stock Awards issued under the 1997 Plan (collectively RSUs) entitle the holder to shares of common stock after a three-year vesting period. The fair value of the awards is determined on the grant date based on the Company’s stock price.

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Stock options are awards that allow the employee to purchase shares of the Company’s common stock at a fixed price. Stock options are granted at an exercise price equal to or greater than the Company’s stock price at the date of grant. These awards generally vest one-third per year over the three years following the grant date and have a contractual term of ten years.

The following table sets forth the total pretax equity-based compensation expense resulting from PSUs, RSUs and stock options included in the Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2006 (in thousands):

 

As of June 30, 2006, $9.3 million of total unrecognized compensation costs related to non-vested awards are expected to be recognized over a remaining weighted average period of 2.1 years. There were no significant capitalized equity-based compensation costs at June 30, 2006.

The following table summarizes the stock option activity for the three and six months ended June 30, 2006 (in thousands, except per share data):

		Shares		Weighted Average  Exercise Price Per Share			Weighted Average Grant Date Fair Value Per Share			Aggregate Intrinsic Value
Outstanding, March 31, 2006		6,474		$	16.99					$	80,119
Granted		3		$	29.82		$	13.74
Exercised		(1,023	)	$	14.04					$	16,942
Expired or forfeited		(2	)	$	23.80
Outstanding, June 30, 2006		5,452		$	17.58					$	78,715
Outstanding, December 31, 2005		8,440		$	16.31					$	42,705
Granted		10		$	22.49		$	10.25
Exercised		(2,992	)	$	14.05					$	38,131
Expired or forfeited		(6	)	$	35.59
Outstanding, June 30, 2006		5,452		$	17.58					$	78,715

 

The exercise prices of outstanding options at June 30, 2006 were in the following ranges:

		Options Outstanding							Options Exercisable
Range of Exercise Prices		Shares (in thousands)		Weighted Average Remaining Contractual Life (in years)		Weighted Average Exercise Price Per Share			Shares (in thousands)		Weighted Average Exercise Price Per Share
$7.43 to $10.00		889		6.4		$	7.92		889		$	7.92
$10.01 to $15.50		688		3.1		$	13.82		628		$	13.88
$15.51 to $16.50		1,409		6.2		$	15.93		1,409		$	15.93
$16.51 to $18.00		767		4.7		$	17.16		767		$	17.16
$18.01 to $24.00		1,096		8.3		$	19.13		901		$	18.96
$24.01 to $47.06		603		3.5		$	37.38		600		$	37.45
$7.43 to $47.06		5,452		5.7		$	17.58		5,194		$	17.54

 

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As of June 30, 2006, the aggregate intrinsic value of exercisable stock options was $75.4 million, with a weighted average remaining contractual life of 5.6 years.

The following table summarizes the PSU and RSU activity for the three and six months ended June 30, 2006 (in thousands, except per share data):

		Units		Weighted  Average Grant  Date Fair  Value Per  Share
Outstanding, March 31, 2006		489		$	20.01
Granted		2		$	29.82
Forfeited		(2	)	$	21.95
Outstanding, June 30, 2006		489		$	20.04
Outstanding, December 31, 2005		484		$	19.91
Granted		14		$	24.74
Forfeited		(9	)	$	20.25
Outstanding, June 30, 2006		489		$	20.04

 

The following table summarizes the non-vested stock option, PSU and RSU activity for the three and six months ended June 30, 2006 (in thousands):

		Stock Options		PSUs and RSUs
Non-vested awards, March 31, 2006		283		488
Granted		3		2
Vested		(28	)	(1	)
Forfeited		—		(2	)
Non-vested awards, June 30, 2006		258		487
Non-vested awards, December 31, 2005		293		484
Granted		10		14
Vested		(41	)	(2	)
Forfeited		(4	)	(9	)
Non-vested awards, June 30, 2006		258		487

 

The Company’s pro forma disclosures of net earnings for periods prior to the adoption of SFAS No. 123(R) were determined under a fair value method as prescribed by SFAS No. 123. Key input assumptions used to estimate the fair value of stock options include the grant price of the award, the expected option term, volatility of the Company’s stock, the risk-free rate and the Company’s projected dividend yield. The Company believes that the valuation technique and the approach utilized to develop the underlying assumptions are appropriate in estimating the fair values of CommScope stock options. Estimates of fair value are not intended to predict actual future events or the value ultimately realized by employees who receive equity awards, and subsequent events are not indicative of the reasonableness of the original estimates of fair value made by the Company under SFAS No. 123 or SFAS No. 123(R).

The fair value of stock option awards was estimated using the Black-Scholes model with the following weighted-average assumptions for the three and six months ended June 30, 2006 and 2005:

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Had the Company accounted for equity-based compensation plans using the fair value based accounting method described by SFAS No. 123 for periods prior to 2006, the Company’s basic and diluted net income per share for the three and six months ended June 30, 2005, would have been as follows (in thousands, except per share data):

 

On August 10, 2005, the Compensation Committee of the Company’s Board of Directors amended certain stock option agreements with employees to accelerate the vesting of certain outstanding unvested stock options. Unvested options to purchase 2.1 million shares with an average exercise price of $17.54 per share became exercisable as a result of the vesting acceleration. The intrinsic value of the stock options on the acceleration date was $2.6 million. As a result of the accelerated vesting, the Company recognized no compensation expense associated with these options during the three and six months ended June 30, 2006. Had these options not been accelerated, the Company would have recognized additional pre-tax compensation expense for the three and six months ended June 30, 2006 of $1.6 million and $3.3 million, respectively.

10.   SEGMENTS

The Company’s reportable segments are defined by major product category as follows: Enterprise, Broadband and Carrier.

The Enterprise segment consists mainly of structured cabling systems for business enterprise applications and connectivity solutions for wired and wireless networks within organizations. The segment also includes coaxial cable for various video and data applications that are not related to cable television.

The Broadband segment consists mainly of coaxial cable, fiber optic cable and conduit for cable television system operators. These products support multi-channel video, voice and high-speed data services for residential and commercial customers using Hybrid Fiber Coaxial architecture.

The Carrier segment consists of secure environmental enclosures for electronic devices and equipment, cables and components used by wireless providers to connect antennae to transmitters and structured cabling solutions for telephone central offices .. These products are primarily used by telecommunications service providers or “carriers.”

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The following tables provide summary financial information for these reportable segments as of June 30, 2006 and December 31, 2005 and for the three and six months ended June 30, 2006 and 2005 (in millions):

 

 

11.   SUPPLEMENTAL CASH FLOW INFORMATION

 

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

The following discussion and analysis of our financial condition and results of operations for the three and six months ended June 30, 2006 and 2005 is provided to increase the understanding of, and should be read in conjunction with, the unaudited condensed consolidated financial statements and accompanying notes included in this document as well as the audited consolidated financial statements, related notes thereto and management’s discussion and analysis of financial condition and results of operations, including management’s discussion and analysis about the application of critical accounting policies, included in our 2005 Annual Report on Form 10-K.

Overview

CommScope, Inc. is a world leader in the design and manufacture of cable and connectivity solutions for communications networks. We focus on the ‘last mile’ in communications networks, which is the distribution access, or final link to the customer. We are a global leader in both structured cabling for business enterprise applications and broadband coaxial and fiber optic cables for the cable television industry. We also design, manufacture and market a broad line of high-performance electronic, coaxial and fiber optic cable products for data networking, Internet access, wireless communication, telephony and other broadband applications. In addition, we are a leading provider of environmentally secure enclosures for telecommunication service providers in the United States.

CRITICAL ACCOUNTING POLICIES

There have been no changes in our critical accounting policies or significant accounting estimates as disclosed in our 2005 Annual Report on Form 10-K other than the implementation of SFAS No. 123(R) as of January 1, 2006 on the modified prospective basis (see Notes 1 and 9 in the Notes to the Consolidated Financial Statements included elsewhere in this Form 10-Q).

COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 WITH THE THREE AND SIX MONTHS ENDED JUNE 30, 2005

		Three Months Ended June 30,
		2006					2005
					% of					% of
		$			Net		$			Net		Dollar			%
		(millions)			Sales		(millions)			Sales		Change			Change
Net sales		$	411.9		100.0	%	$	336.7		100.0	%	$	75.2		22.3	%
Gross profit		108.5			26.3		88.6			26.3		19.9			22.5
SG&A expense		58.3			14.1		54.0			16.0		4.2			7.8
R&D expense		8.2			2.0		8.4			2.5		(0.2		)	(2.8	)
Restructuring costs		4.0			1.0		1.5			0.4		2.5			159.0
Gain on OFS BrightWave note receivable		18.6			4.5		—			—		18.6			100.0
Net income		46.6			11.3		16.3			4.8		30.3			186.1
Net income per diluted share		0.65					0.25					0.40			160.0

 

		Six Months Ended June 30,
		2006					2005
					% of					% of
		$			Net		$			Net		Dollar			%
		(millions)			Sales		(millions)			Sales		Change			Change
Net sales		$	764.1		100.0	%	$	645.8		100.0	%	$	118.3		18.3	%
Gross profit		193.3			25.3		160.8			24.9		32.5			20.2
SG&A expense		112.4			14.7		107.9			16.7		4.5			4.2
R&D expense		15.7			2.1		16.2			2.5		(0.5		)	(3.3	)
Restructuring costs		7.8			1.0		3.6			0.6		4.2			116.9
Gain on OFS BrightWave note receivable		18.6			2.4		—			—		18.6			100.0
Net income		59.4			7.8		21.8			3.4		37.6			171.9
Net income per diluted share		0.85					0.34					0.51			150.0

 

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Net sales

The increase in net sales for the three and six months ended June 30, 2006 over the comparable prior year periods is primarily attributed to domestic sales growth in each of our segments and international sales growth in our Enterprise and Broadband segments. These increases are largely the result of higher sales volume levels and price increases implemented in response to higher raw material costs.  For further details by segment, see the section titled “Segment Results” below.

Gross profit (net sales less cost of sales)

Gross profit margin for the three months ended June 30, 2006 was unchanged at 26.3% from the three months ended June 30, 2005. Gross profit margin for the six months ended June 30, 2006 increased to 25.3% from 24.9% for the six months ended June 30, 2005. The unchanged gross profit margin for the three months ended June 30, 2006 and the modest increase for the six months ended June 30, 2006 reflect the impact of substantially higher raw material costs, which were substantially offset by price increases, cost savings achieved as a result of restructuring activities and increased sales volumes.

We expect continued volatility in the costs of certain raw materials, such as copper, aluminum, steel, and plastics and other polymers, which are derived from oil and natural gas.  The inability to achieve higher selling prices, higher sales volume and continued cost efficiencies to offset increases in the cost of raw materials could result in lower gross profit and gross profit margin.

Selling, general and administrative expense

The increase in selling, general and administrative expense (SG&A) for the three and six months ended June 30, 2006 as compared to the same periods in 2005 was primarily due to higher marketing costs associated with the higher level of sales.  The reduction in SG&A expense as a percentage of net sales can be attributed to increased sales.

Research and development

Research and development (R&D) expense decreased by $0.2 million and $0.5 million for the three and six months ended June 30, 2006, respectively, as compared to the same periods in 2005. R&D expense as a percentage of net sales decreased modestly to 2.0% and 2.1% for the three and six months ended June 30, 2006, respectively, as compared to 2.5% for the comparable 2005 three and six month periods. The ongoing R&D activities generally relate to bringing new products to market and to modifying existing products to better serve our customers.

Restructuring Costs

We recognized pretax restructuring costs of $4.0 million and $7.8 million during the three and six months ended June 30, 2006, respectively, compared with $1.5 million and $3.6 million during the comparable periods ended June 30, 2005, respectively. The 2006 costs resulted from the continued implementation of the global manufacturing initiatives which began during the third quarter of 2005.  Included in the costs incurred during the three and six months ended June 30, 2006 were employee-related costs of $2.1 million and $4.0 million, respectively, which consisted of expected severance costs and related fringe benefits, accrued over the remaining period employees are required to work in order to receive benefits, and equipment relocation costs of $2.0 million and $3.8 million, respectively, which consisted of costs directly related to shifting manufacturing capacity among our global manufacturing  facilities, including costs to uninstall, pack, ship and re-install equipment as well as costs to prepare the receiving facility to accommodate the equipment.  During the three and six months ended June 30, 2005, we recognized pretax restructuring costs of $1.5 million and $3.6 million, respectively, related to the continued implementation of the organizational and cost reduction initiatives at the Omaha facility of Connectivity Solutions Manufacturing, Inc., our wholly owned manufacturing subsidiary, which began during the fourth quarter of 2004.

During the three and six months ended June 30, 2006, we recognized $0.1 million of gains on the sale of equipment that had been impaired in conjunction with the global manufacturing initiatives.  As of June 30, 2006, there is $20.3 million of real estate and equipment that, as a result of the global manufacturing initiatives, is considered held for sale.  The sales of these assets are expected to be consummated in the next three to nine months and additional restructuring gains or losses may be realized.

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We anticipate that we will recognize additional pretax employee-related and equipment relocation charges of up to $3 million to complete the implementation of the global manufacturing initiatives.  The majority of these costs are expected to be incurred during the balance of 2006.

Net interest income/expense

We recognized net interest income of $356 and $424 for the three and six months ended June 30, 2006, respectively, compared to net interest expense of $1,140 and $2,219 for the comparable prior year periods.  The changes were due to the impact of significantly higher balances of invested funds (cash, cash equivalents and short-term investments) as well as improved rates of return on invested balances as a result of increases in LIBOR and other short-term interest rates.  Interest expense for the three and six month periods declined slightly from the comparable prior year periods as a result of lower levels of outstanding debt due to scheduled principal repayments and a reduction in the interest rate spreads on our senior secured credit facility due to improvements in our fixed charge coverage ratio, offset by the impact of increases in LIBOR and other short-term interest rates,  Our weighted average effective interest rate on outstanding borrowings, including amortization of associated long-term financing costs, was essentially unchanged at 2.76% as of June 30, 2006 compared to 2.74% as of December 31, 2005

Income taxes

Our effective income tax rate, excluding the impact of the gain on the OFS note receivable (see discussion below), was 27% and 30% for the three and six months ended June 30, 2006, respectively, compared to 29% and 28% for the three and six months ended June 30, 2005, respectively. The reduction in our effective income tax rate for the three months ended June 30, 2006 compared to the prior year was primarily due to benefits realized as a result of favorable outcomes on various matters raised during federal and state income tax audits, partially offset by losses incurred in certain foreign jurisdictions for which no tax benefits have been recognized.  The increase in our effective rate for the six months ended June 30, 2006 compared to the prior year was primarily due to reduced benefits from international activities that are taxed at lower rates due to changes in the mix of earnings among foreign and domestic entities, partially offset by the benefits realized as a result of favorable outcomes on various matters raised during federal and state income tax audits.

Gain on OFS BrightWave note receivable

On June 30, 2006, we received a payment of $29.8 million plus accrued interest in full satisfaction of the amount owed by OFS BrightWave, LLC (OFS BrightWave) under a $30 million Revolving Credit Agreement that was by its terms scheduled to be repaid no later than November 16, 2006.  The carrying value of the note had previously been reduced to zero as a result of recording our equity in losses of OFS BrightWave prior to the sale of our interest in OFS BrightWave in June 2004 and an impairment charge of $11.1 million at the time of the sale.  The Revolving Credit Agreement was terminated on June 30, 2006.

The reported gain on the OFS BrightWave note receivable is net of a tax provision of $11.2 million.

Segment Results

 

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