ITEM 1A. RISK FACTORS (Dollars in Thousands)
This description includes any material changes to and supersedes the description of the risk factors associated with our business previously disclosed in Part I, Item 1A of our Annual Report on Form 10-K for
Fiscal 2012. The following risk factors should be considered carefully before you decide whether to buy, hold or sell our common stock. Additional risks not presently known to us or that we currently deem immaterial may also impair our business,
financial condition, results of operations and stock price. We report our results based on a fiscal year which ends on September 30. References to Fiscal years refer to the twelve months ended or ending September 30 of the Fiscal year
referenced.
We depend on a limited number of customers for most of our sales and the loss of one or more of these customers could
have a material adverse effect on our financial position, results of operations and cash flows.
Most of the perchlorate
chemicals we produce, which accounted for 88% of our revenues in the Specialty Chemicals segment for Fiscal 2012 and approximately 33% of our consolidated revenues for Fiscal 2012, are purchased by two customers. Should our relationship with any of
our major Specialty Chemicals customers change adversely, the resulting loss of business could have a material adverse effect on our financial position, results of operations and cash flows. In addition, if any of our major Specialty Chemicals
customers substantially reduced their volume of purchases from us or otherwise delayed some or all of their purchases from us, it could have a material adverse effect on our financial position, results of operations and cash flows. Should one of our
major Specialty Chemicals customers encounter financial difficulties, the exposure on uncollectible receivables and unusable inventory could have a material adverse effect on our financial position, results of operations and cash flows.
Furthermore, our Fine Chemicals segment’s success is largely dependent upon the manufacturing by AFC of a limited number of active
pharmaceutical ingredients and registered intermediates for a limited number of key customers. One customer of AFC accounted for 31% of our consolidated revenue and the top two customers of AFC accounted for approximately 72% of its revenues, and
43% of our consolidated revenues, in Fiscal 2012. Negative developments in these customer relationships or in either of the customer’s business, or failure to renew or extend certain contracts, may have a material adverse effect on the results
of operations of AFC. Moreover, from time to time key customers have reduced their orders, and one or more of these customers might reduce their orders in the future, or one or more of them may attempt to negotiate lower prices, any of which could
have a similar negative effect on the results of operations of AFC. If the pharmaceutical products that AFC’s customers produce using its compounds experience any problems, including problems related to their safety or efficacy, delays in
filing with or approval by the FDA, or other regulatory agencies, failures in achieving success in the market, expiration or loss of patent/regulatory protection, or competition, including competition from generic drugs, these customers may
substantially reduce or cease to purchase AFC’s compounds, which could have a material adverse effect on the revenues and results of operations of AFC.
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The inherent limitations of our fixed-price or similar contracts may impact our profitability.
A substantial portion of our revenues are derived from our fixed-price or similar contracts. When we enter into fixed-price
contracts, we agree to perform the scope of work specified in the contract for a predetermined price. Many of our fixed-price or similar contracts require us to provide a customized product over a long period at a pre-established price or prices for
such product. For example, when AFC is initially engaged to manufacture a product, we often agree to set the price for such product, and any time-based increases to such price, at the beginning of the contracting period and prior to fully testing
and beginning the customized manufacturing process. Depending on the fixed price negotiated, these contracts may provide us with an opportunity to achieve higher profits based on the relationship between our total estimated contract costs and the
contract’s fixed price. However, we bear the risk that increased or unexpected costs, or external factors that may impact contract costs, fixed prices or profit yields, such as fluctuations in international currency exchange rates, may reduce
our profit or cause us to incur a loss on the contract, which could reduce our net sales and net earnings. Ultimately, fixed-price contracts and similar types of contracts present the inherent risk of un-reimbursed cost overruns and unanticipated
external factors that negatively impact contract costs, fixed prices or profit yields, any of which could have a material adverse effect on our operating results, financial condition, or cash flows. Moreover, to the extent that we do not anticipate
the increase in cost or the effect of external factors over time on the production or pricing of the products which are the subject of our fixed-price contracts, our profitability could be adversely affected.
The numerous and often complex laws and regulations and regulatory oversight to which our operations and properties are subject, the cost of
compliance, and the effect of any failure to comply could reduce our profitability and liquidity.
The nature of our operations
subject us to extensive and often complex and frequently changing federal, state, local and foreign laws and regulations and regulatory oversight, including with respect to emissions to air, discharges to water and waste management as well as with
respect to the sale and, in certain cases, export of controlled products. For example, in our Fine Chemicals segment, modifications, enhancements or changes in manufacturing sites of approved products are subject to complex regulations of the FDA,
and, in many circumstances, such actions may require the express approval of the FDA, which in turn may require a lengthy application process and, ultimately, may not be obtainable. The facilities of AFC are periodically subject to scheduled and
unscheduled inspection by the FDA and other governmental agencies. Operations at these facilities could be interrupted or halted if such inspections are unsatisfactory and we could experience fines and/or other regulatory actions if we are found not
to be in regulatory compliance. AFC’s customers face similarly high regulatory requirements. Before marketing most drug products, AFC’s customers generally are required to obtain approval from the FDA based upon pre-clinical testing,
clinical trials showing safety and efficacy, chemistry and manufacturing control data, and other data and information. The generation of these required data is regulated by the FDA and can be time-consuming and expensive, and the results might not
justify approval. In some cases, approval is required from other regulatory agencies such as the DEA. Even if AFC’s customers are successful in obtaining all required pre-marketing approvals, post-marketing requirements and any failure on
either AFC’s or its customers’ part to comply with other regulations could result in suspension or limitation of approvals or commercial activities pertaining to affected products.
Because we operate in highly regulated industries, we may be affected significantly by legislative and other regulatory actions and developments
concerning or impacting various aspects of our operations and products or our customers. To meet changing licensing and regulatory standards, we may be required to make additional significant site or operational modifications, potentially involving
substantial expenditures or the reduction or suspension of certain operations. For example, in our Fine Chemicals segment, any regulatory changes could impose, on AFC or its customers, changes to manufacturing methods or facilities, pharmaceutical
importation, expanded or different labeling, new approvals, the recall, replacement or discontinuance of certain products, additional record keeping, testing, price or purchase controls or limitations, and expanded documentation of the properties of
certain products and scientific substantiation. AFC’s failure to comply with governmental regulations, in particular those of the FDA and DEA, can result in fines, unanticipated compliance expenditures, recall or seizure of products, delays in,
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or total or partial suspension or withdrawal of, approval of production or distribution, suspension of the FDA’s review of relevant product applications, termination of ongoing research,
disqualification of data for submission to regulatory authorities, enforcement actions, injunctions and criminal prosecution. Under certain circumstances, the FDA also has the authority to revoke previously granted drug approvals. Although we have
instituted internal compliance programs, if regulations or the standards by which they are enforced change and/or compliance is deficient in any significant way, such as a failure to materially comply with the FDA’s current Good Manufacturing
Practices or “cGMP” guidelines, or if a regulatory authority asserts publically or otherwise such a deficiency or takes action against us whether or not the underlying asserted deficiency is ultimately found to be sustainable, it could
have a material adverse effect on us. In our Specialty Chemicals and Fine Chemicals segments, changes in environmental regulations could result in requirements to add or modify emissions control, water treatment, or waste handling equipment,
processes or arrangements, which could impose significant additional costs for equipment at and operation of our facilities.
Moreover,
in other areas of our business, we, like other government and military subcontractors, are subject indirectly in many cases to government contracting regulations and the additional costs, burdens and risks associated with meeting these heightened
contracting requirements. Failure to comply with government contracting regulations may result in contract termination, the potential for substantial civil and criminal penalties, and, under certain circumstances, our suspension and debarment from
future U.S. government contracts for a period of time. For example, these consequences could be imposed for failing to follow procurement integrity and bidding rules, employing improper billing practices or otherwise failing to follow cost
accounting standards, receiving or paying kickbacks or filing false claims. In addition, the U.S. government and its principal prime contractors periodically investigate the U.S. government’s subcontractors, including with respect to financial
viability, as part of the U.S. government’s risk assessment process associated with the award of new contracts. Consequently, for example, if the U.S. government or one or more prime contractors were to determine that we were not financially
viable, our ability to continue to act as a government subcontractor would be impaired. Further, a portion of our business involves the sale of controlled products overseas, such as supplying ammonium perchlorate, or “AP”, to various
foreign defense programs and commercial space programs. Foreign sales subject us to numerous additional complex U.S. and foreign laws and regulations, including laws and regulations governing import-export controls applicable to the sale and export
of munitions and other controlled products and commodities, repatriation of earnings, exchange controls, the Foreign Corrupt Practices Act, and the anti-boycott provisions of the U.S. Export Administration Act. The costs of complying with the
various and often complex and frequently changing laws and regulations and regulatory oversight applicable to us and the businesses in which we engage, and the consequences should we fail to comply, even inadvertently, with such requirements, could
be significant and could reduce our profitability and liquidity.
A significant portion of our business is based on contracts with
contractors or subcontractors to the U.S. government and these contracts are impacted by governmental priorities and are subject to potential fluctuations in funding or early termination, including for convenience, any of which could have a material
adverse effect on our operating results, financial condition or cash flows.
Sales to U.S. government prime contractors and
subcontractors represent a significant portion of our business. We also make sales to the U.S. government from time to time. In Fiscal 2012, our Specialty Chemicals segment generated approximately 30% of consolidated revenues, primarily sales of
rocket-grade AP, from sales to U.S. government prime contractors and subcontractors. Funding of U.S. governmental programs is generally subject to annual congressional appropriations, and congressional priorities are subject to change. In the case
of major programs, U.S. government contracts are usually incrementally funded. In addition, U.S. government expenditures for defense and NASA programs may fluctuate from year to year and specific programs, in connection with which we may receive
significant revenue, may be terminated or curtailed. For example, one significant use of rocket-grade AP historically has been in NASA’s Space Shuttle program. Consequently, with the recent retirement of the Space Shuttle fleet, the long-term
demand for rocket-grade AP may be uncertain. While rocket-grade AP volume increased in Fiscal 2012, supported by the return in Fiscal 2012 of quantities for development motors for the NASA’s Heavy Launch Vehicle (“HLV”) which is part
of the new Space Launch System, the HLV is still
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in the development phase and NASA could shift away from the use of AP as the oxidizing agent for solid propellant rockets or the use of solid propellant rockets in NASA’s space exploration
programs in the future. If the use of AP as the oxidizing agent for solid propellant rockets or the use of solid propellant rockets in NASA’s space exploration programs are discontinued or significantly reduced, it could have a material adverse
effect on our operating results, financial condition, or cash flows.
Recent economic crises, and the U.S. government’s
corresponding actions, may result in cutbacks in major government programs. A decline in government expenditures or any failure by Congress to appropriate additional funds to any program in which we or our customers participate, or any contract
modification as a result of funding changes, could materially delay or terminate the program for us or for our customers. Moreover, the U.S. government may terminate its contracts with its suppliers either for its convenience or in the event of a
default by the supplier. Since a significant portion of our customer base is U.S. government contractors or subcontractors, we may have limited ability to collect fully on our contracts when the U.S. government terminates its contracts. If a
contract is terminated by the U.S. government where we are a subcontractor, the U.S. government contractor may cease purchasing our products if its contracts are terminated. We may have resources applied to specific government-related contracts and,
if any of those contracts were terminated, we may incur substantial costs redeploying these resources. Given the significance to our business of contracts based on U.S. government contracts, fluctuations or reductions in governmental funding for
particular governmental programs and/or termination of existing governmental programs and related contracts may have a material adverse effect on our operating results, financial condition or cash flows.
We may be subject to potentially material costs and liabilities in connection with environmental or health matters.
Some of our operations may create risks of adverse environmental and health effects, any of which might not be covered by insurance. In the past,
we have been required to take remedial action to address particular environmental and health concerns identified by governmental agencies in connection with the production of perchlorate. It is possible that we may be required to take further
remedial action in the future in connection with our production of perchlorate, whether at our former facility in Henderson, Nevada, or at our current production facility in Iron County, Utah, or we may enter voluntary agreements with governmental
agencies to take such actions. Moreover, in connection with other operations, we may become obligated in the future for environmental liabilities if we fail to abide by limitations placed on us by governmental agencies. There can be no assurance
that material costs or liabilities will not be incurred or restrictions will not be placed upon us in order to rectify any past or future occurrences related to environmental or health matters. Such material costs or liabilities, or increases in, or
charges associated with, existing environmental or health-related liabilities, also may have a material adverse effect on our operating results, earnings or financial condition.
Review of Perchlorate Toxicity by the EPA.
Currently, perchlorate is on the EPA’s Contaminant Candidate List 3. In February 2011, the
EPA announced that it had determined to move forward with the development of a regulation for perchlorates in drinking water, reversing its October 2008 preliminary determination not to promulgate such a regulation. Accordingly, the EPA
announced its intention to begin to evaluate the feasibility and affordability of treatment technologies to remove perchlorate and to examine the costs and benefits of potential standards. At the time, the EPA stated that its intention was to
publish a proposed regulation and analyses for public review and comment within 24 months, and, if a regulation is adopted, to promulgate a final regulation within 18 months after publication of its proposal. Regulatory review and anticipated
regulatory actions present general business risk to us, but no regulatory proposal of the EPA or any state in which we operate, to date, has been publicly announced that we believe would have a material effect on our results of operations and
financial position or that would cause us to significantly modify or curtail our business practices, including our remediation activities discussed below.
However, the outcome of the federal EPA action, as well as any similar state regulatory action, will influence the number, if any, of potential sites that may be subject to remediation action, which could, in turn,
cause us to incur material costs. It is possible that federal and, potentially, one or more state or local
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regulatory agencies may change existing, or establish new, standards for perchlorate, which could lead to additional expenditures for environmental remediation in the future, and/or additional,
potentially material costs to defend against new claims resulting from such regulatory agency actions.
Perchlorate Remediation
Project in Henderson, Nevada.
We commercially manufactured perchlorate chemicals at a facility in Henderson, Nevada (the “AMPAC Henderson Site”) from 1958 until the facility was destroyed in May 1988, after which we relocated our
production to a new facility in Iron County, Utah. Legacy production at the AMPAC Henderson Site resulted in perchlorate presence in the groundwater near the vicinity of the former facility.
At the direction of the Nevada Division of Environmental Protection (“NDEP”) and the EPA, we conducted an investigation of remediation
technologies for perchlorate in groundwater with the intention of remediating groundwater near the AMPAC Henderson Site. In 2002, we conducted a pilot test and in Fiscal 2005, we submitted a work plan to NDEP for the construction of a remediation
facility near the AMPAC Henderson Site. The conditional approval of the work plan by NDEP in our third quarter of Fiscal 2005 allowed us to generate estimated costs for the installation and operation of the remediation facility to address
perchlorate at the AMPAC Henderson Site. We commenced construction in July 2005. In December 2006, we began operations of the permanent facility. The location of this facility is several miles, in the direction of groundwater flow, from the AMPAC
Henderson Site.
Late in Fiscal 2009, we gained additional information from groundwater modeling that indicates groundwater emanating
from the AMPAC Henderson Site in certain areas in deeper zones (more than 150 feet below ground surface) is moving toward our existing remediation facility at a much slower pace than previously estimated. As a result of this additional data, related
model interpretations and consultations with NDEP, we re-evaluated our remediation operations and determined that we should be able to improve the effectiveness of the treatment program and significantly reduce the total project time by expanding
the treatment system existing at the time. The expansion includes the installation of additional groundwater extraction wells in the deeper, more concentrated areas, construction of an underground pipeline to move extracted groundwater to our
treatment facility, and the addition of fluidized bed reactor (“FBR”) bioremediation treatment equipment (the “Expansion Project”).
Henderson Site Environmental Remediation Reserve.
During Fiscal 2005 and Fiscal 2006, we recorded aggregate charges of $26,000 representing our estimates at the time of the probable costs of our remediation
efforts at the AMPAC Henderson Site, including the costs for capital equipment and on-going operating and maintenance (“O&M”). Following the receipt of new data regarding groundwater movement late in Fiscal 2009, we added the Expansion
Project to the planned scope of our remediation operations. As a result, we increased our accruals by approximately $13,700.
Through
June 2011, and in cooperation with NDEP, we worked to develop the formal design and engineering of the Expansion Project. Based on data obtained through that date, which was largely comprised of firm quotations, we determined that significant
modifications to our Fiscal 2009 assumptions were required. As a result, in June 2011, we accrued an additional $6,000 for the estimated increase in cost of the capital component of the Expansion Project, offset slightly by reductions in O&M
cost estimates. The estimated capital costs of the Expansion Project increased by approximately $6,400. The increase reflected (i) an increase in the capacity of the FBR bioremediation treatment equipment to accommodate technical requirements
based on the testing of new extraction wells in the fall of 2010, and (ii) higher than initially anticipated cost associated with the installation of the equipment and construction of the pipeline. Our estimate of total O&M costs was
reduced by approximately $400. Due to uncertainties inherent in making estimates, our estimates of capital and O&M costs may later require significant revision as new facts become available and circumstances change.
In September 2012, we commenced initial operation of the Expansion Project. Related system optimization and other start-up activities will continue
in Fiscal 2013. In September 2012, we recorded an additional remediation charge in the amount of $700, which is substantially attributed to the true-up of estimates to the expected final cost of the expansion project. Due to uncertainties inherent
in making
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estimates, our estimates of capital and O&M costs may later require significant revision as new facts become available and circumstances change.
As of March 31, 2013, the aggregate range of anticipated environmental remediation costs was from approximately $10,000 to approximately
$33,900. This range represents a significant estimate and is based on the estimable elements of cost for capital and O&M costs, and an estimated remaining operating life of the project through a range from the years 2017 to 2030. As of
March 31, 2013, the accrued amount was $13,847, based on an estimated remaining life of the project through the year 2019, or the low end of the more likely range of the expected life of the project. Cost estimates are based on our current
assessments of the facility configuration. As we have proceeded with the project, we have, and may in the future, become aware of elements of the facility configuration that must be changed to meet the targeted operational requirements. Certain of
these changes may result in corresponding cost increases. Costs associated with the changes are accrued when a reasonable alternative, or range of alternatives, is identified and the cost of such alternative is estimable. Our estimated reserve for
environmental remediation is based on information currently available to us and may be subject to material adjustment upward or downward in future periods as new facts or circumstances may indicate.
Other Environmental Matters.
As part of our acquisition of the fine chemicals business of GenCorp Inc., AFC leased 241 acres of land on a
Superfund site in Rancho Cordova, California, owned by Aerojet-General Corporation, a wholly-owned subsidiary of GenCorp Inc. The Comprehensive Environmental Response, Compensation, and Liability Act of 1980, or CERCLA, has very strict joint and
several liability provisions that make any “owner or operator” of a “Superfund site” a “potentially responsible party” for remediation activities. AFC could be considered an “operator” for purposes of CERCLA
and, in theory, could be a potentially responsible party for purposes of contribution to the site remediation, although we received a letter from the EPA in November 2005 indicating that the EPA does not intend to pursue any clean up or
enforcement actions under CERCLA against future lessees of the Aerojet property for existing contamination, provided that the lessees do not contribute to or do not exacerbate existing contamination on or under the Superfund site. Additionally,
pursuant to the EPA consent order governing remediation for this site, AFC must abide by certain limitations regarding construction and development of the site which may restrict AFC’s operational flexibility and require additional substantial
capital expenditures that could negatively affect the results of operations for AFC.
Although we have established an
environmental reserve for remediation activities in Henderson, Nevada, given the many uncertainties involved in assessing environmental liabilities, our environmental-related risks may exceed any related reserves.
As of March 31, 2013, we had recorded reserves in connection with the AMPAC Henderson Site of approximately $13,847. However, as of such date,
we had not established any other environmental-related reserves. Given the many uncertainties involved in assessing and estimating environmental liabilities, our environmental-related risks may exceed any related reserves, as we may not have
established reserves with respect to such environmental liabilities, or any reserves we have established may prove to be insufficient. We continually evaluate the adequacy of our reserves on a quarterly basis, and they could change. For example,
during the quarter ended June 30, 2011, we increased our environmental reserves in connection with the AMPAC Henderson Site by approximately $6,000 as a result of an increase in anticipated costs associated with remediation efforts at the site.
In addition, reserves with respect to environmental matters are based only on known sites and the known contamination at those sites. It is possible that additional remediation sites will be identified in the future or that unknown contamination, or
further contamination beyond that which is currently known, at previously identified sites will be discovered. The discovery of additional environmental exposures at sites that we currently own or operate or at which we formerly operated, or at
sites to which we have sent hazardous substances or wastes for treatment, recycling or disposal, could result in us having additional expenditures for environmental remediation in the future and, given the many uncertainties involved in assessing
environmental liabilities, we may not have adequately reserved for such liabilities or any reserves we have established may prove to be insufficient.
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For each of our Specialty Chemicals and Fine Chemicals segments, production is conducted in a
single facility and any significant disruption or delay at a particular facility could have a material adverse effect on our business, financial position and results of operations.
Our Specialty Chemicals segment products are produced at our Iron County, Utah facility and our Fine Chemicals segment products are currently
produced at our Rancho Cordova, California facility. Any of these facilities could be disrupted or damaged by fire, floods, earthquakes, power loss, systems failures or similar or other events. Although we have contingency plans in effect for
natural disasters or other catastrophic events, these events could still disrupt our operations. Even though we carry business interruption insurance, we may suffer losses as a result of business interruptions that exceed the coverage available
under our insurance policies. A significant disruption at one of our facilities, even on a short-term basis, could impair our ability to produce and ship the particular business segment’s products to market on a timely basis, which could have a
material adverse effect on our business, financial position and results of operations.
The release or explosion of dangerous
materials used in our business could disrupt our operations and cause us to incur additional costs and liabilities.
Our
operations involve the handling, production, storage, and disposal of potentially explosive or hazardous materials and other dangerous chemicals, including materials used in rocket propulsion. Despite our use of specialized facilities to handle
dangerous materials and intensive employee training programs, the handling and production of hazardous materials could result in incidents that shut down (on a short-term basis or for longer periods) or otherwise disrupt our manufacturing operations
and could cause production delays. Our manufacturing operations could also be the subject of an external or internal event, such as a terrorist attack or external or internal accident, that, despite our security, safety and other precautions,
results in a disruption or delay in our operations. It is possible that a release of hazardous materials or other dangerous chemicals from one of our facilities or an explosion could result in death or significant injuries to employees and others.
Material property damage to us and third parties could also occur. For example, on May 4, 1988, our former manufacturing and office facilities in Henderson, Nevada were destroyed by a series of massive explosions and associated fires. Extensive
property damage occurred both at our facilities and in immediately adjacent areas, the principal damage occurring within a three-mile radius. Production of AP ceased for a 15-month period following that incident. Significant interruptions were also
experienced in our other businesses, which occupied the same or adjacent sites. There can be no assurance that another incident would not interrupt some or all of the activities carried on at our current AP manufacturing site. The use of our
products in applications by our customers could also result in liability if an explosion, fire or other similarly disruptive event were to occur. Any release or explosion could expose us to adverse publicity or liability for damages or cause
production delays, any of which could have a material adverse effect on our reputation and profitability and could cause us to incur additional costs and liabilities.
Disruptions in the supply of key raw materials and difficulties in the supplier qualification process, as well as increases in prices of raw materials, could adversely impact our operations.
Key raw materials used in our operations include sodium chlorate, graphite, ammonia, sodium metal, nitrous oxide, HCFC-123, and
hydrochloric acid. We closely monitor sources of supply to assure that adequate raw materials and other supplies and components needed in our manufacturing processes are available. In addition, as a supplier to U.S. government contractors or
subcontractors, we are frequently limited to procuring materials and components from sources of supply that can meet rigorous government and/or customer specifications. If a supplier provides us raw materials or other supplies or components that are
deficient or defective or if a supplier fails to provide us such materials, supplies or components in a timely manner or at all, we may have limited ability to find appropriate substitutes or otherwise meet required specifications and deadlines. In
addition, as business conditions, the U.S. defense budget, and congressional allocations change, suppliers of specialty chemicals and materials sometimes consider dropping or in fact drop low volume items from their product lines, which may require,
as it has in the past, qualification of new suppliers for raw materials on key programs. The qualification process may impact our profitability or ability to meet contract deliveries and/or delivery timelines. Moreover, we could
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experience inventory shortages if we are required to use an alternative supplier on short notice, which also could lead to raw materials being purchased on less favorable terms than we have with
our regular suppliers. We are further impacted by the cost of raw materials used in production on fixed-price contracts. The increased cost of natural gas and electricity also has a significant impact on the cost of operating our Specialty Chemicals
segment facility.
AFC uses substantial amounts of raw materials in its production processes, in particular chemicals, including
specialty and bulk chemicals, which include petroleum-based solvents. Increases in the prices of raw materials which AFC purchases from third party suppliers could adversely impact operating results. In certain cases, the customer either provides
some of the raw materials which are used by AFC to produce or manufacture the customer’s products or requires AFC to use a particular or limited number of suppliers for a raw material. Failure to receive raw materials in a timely manner,
whether from a third party supplier or a customer, could cause AFC to fail to meet production schedules and adversely impact revenues and operating results. A delay in the arrival of a shipment of raw materials from a third party supplier could have
a significant impact on AFC’s ability to meet its contractual commitments to customers. Certain key raw materials are obtained from sources from outside the U.S., including the People’s Republic of China. Factors that can cause delays in
the arrival of raw materials include weather or other natural events, political unrest in countries from which raw materials are sourced or through which they are delivered, terrorist attacks or related events in such countries or in the U.S., and
work stoppages by suppliers or shippers. In addition, the availability of certain chemicals is subject to DEA quotas.
Prolonged
disruptions in the supply of any of our key raw materials, difficulty completing qualification of new sources of supply, implementing use of replacement materials or new sources of supply, or a continuing increase in the prices of raw materials and
energy could have a material adverse effect on our operating results, financial condition or cash flows.
Each of our Specialty
Chemicals and Fine Chemicals segments may be unable to comply with customer specifications and manufacturing instructions or may experience delays or other problems with existing or new products, which could result in increased costs, losses of
sales and potential breach of customer contracts.
Each of our Specialty Chemicals and Fine Chemicals segments produces products
that are highly customized, require high levels of precision to manufacture and are subject to exacting customer and other requirements, including strict timing and delivery requirements. For example, our Fine Chemicals segment produces chemical
compounds that are difficult to manufacture, including highly energetic and highly toxic materials. These chemical compounds are manufactured to exacting specifications of our customers’ filings with the FDA and other regulatory authorities
worldwide. The production of these chemicals requires a high degree of precision and strict adherence to safety and quality standards. Regulatory agencies, such as the FDA and the European Medicines Agency, or EMEA, have regulatory oversight over
the production process for many of the products that AFC manufactures for its customers. For controlled substances, compliance with DEA regulations is also required. AFC employs sophisticated and rigorous manufacturing and testing practices to
ensure compliance with the FDA’s cGMP guidelines and the International Conference on Harmonization Q7A. Because the chemical compounds produced by AFC are so highly customized, they are also subject to customer acceptance requirements,
including strict timing and delivery requirements. If AFC is unable to adhere to the standards required or fails to meet the customer’s timing and delivery requirements, the customer may reject the chemical compounds. In such instances, AFC may
also be in breach of its customer’s contract.
Like our Fine Chemicals segment, our Specialty Chemicals segment faces similar
production demands and requirements. A significant failure or inability to comply with customer specifications and manufacturing requirements or delays or other problems with existing or new products could result in increased costs, losses of sales
and potential breaches of customer contracts, which could affect our operating results and revenues.
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Successful commercialization of pharmaceutical products and product line extensions is very
difficult and subject to many uncertainties. If a customer is not able to successfully commercialize its products for which AFC produces compounds or if a product is subsequently recalled, then the operating results of AFC may be negatively
impacted.
Successful commercialization of pharmaceutical products and product line extensions requires accurate anticipation of
market and customer acceptance of particular products, customers’ needs, the sale of competitive products, and emerging technological trends, among other things. Additionally, for successful product development, our customers must complete many
complex formulation and analytical testing requirements and timely obtain regulatory approvals from the FDA and other regulatory agencies. When developed, new or reformulated drugs may not exhibit desired characteristics or may not be accepted by
the marketplace. Complications can also arise during production scale-up. In addition, a customer’s product that includes ingredients that are manufactured by AFC may be subsequently recalled or withdrawn from the market by the customer. The
recall or withdrawal may be for reasons beyond the control of AFC. Moreover, products may encounter unexpected, irresolvable patent conflicts or may not have enforceable intellectual property rights. If the customer is not able to successfully
commercialize a product for which AFC produces compounds, or if there is a subsequent recall or withdrawal of a product manufactured by AFC or that includes ingredients manufactured by AFC for its customers, it could have an adverse impact on
AFC’s operating results, including its forecasted or actual revenues.
A strike or other work stoppage, or the inability to
renew collective bargaining agreements on favorable terms, could have a material adverse effect on the cost structure and operational capabilities of AFC.
As of September 30, 2012, AFC had approximately 162 employees that were covered by collective bargaining or similar agreements. We consider our relationships with our unionized employees to be satisfactory. In
July 2010, AFC’s collective bargaining and similar agreements were renegotiated and extended to June 2013. If we are unable to negotiate acceptable new agreements with the union representing these employees upon expiration of the
existing contracts, we could experience strikes or work stoppages. Even if AFC is successful in negotiating new agreements, the new agreements could call for higher wages or benefits paid to union members, which would increase AFC’s operating
costs and could adversely affect its profitability. If the unionized workers were to engage in a strike or other work stoppage, or other non-unionized operations were to become unionized, AFC could experience a significant disruption of operations
at its facilities or higher ongoing labor costs. A strike or other work stoppage in the facilities of any of its major customers or suppliers could also have similar effects on AFC.
The pharmaceutical fine chemicals industry is a capital-intensive industry and if AFC does not have sufficient financial resources to finance
the necessary capital expenditures, its business and results of operations may be harmed.
The pharmaceutical fine chemicals
industry is a capital-intensive industry. Consequently, AFC’s capital expenditures consume cash from our Fine Chemicals segment and our other operations and may also consume cash from borrowings. Increases in capital expenditures may result in
low levels of working capital or require us to finance working capital deficits, and such financing may be costly or even unavailable given on-going conditions of the credit markets in the U.S. Changes in the availability, terms and costs of capital
or a reduction in credit rating or outlook could cause our cost of doing business to increase and place us at a competitive disadvantage. These factors could substantially constrain AFC’s growth, increase AFC’s costs and negatively impact
its operating results.
We may be subject to potential liability claims for our products or services that could affect our
earnings and financial condition and harm our reputation.
We may face potential liability claims based on our products or
services in our several lines of business under certain circumstances, and any such claims could result in significant expenses, disrupt sales and affect our reputation and that of our products. For example, a customer’s product may include
ingredients that are manufactured by AFC. Although such ingredients are generally made pursuant to specific
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instructions from our customer and tested using techniques provided by our customer, the customer’s product may, nevertheless, be subsequently recalled or withdrawn from the market by the
customer, and the recall or withdrawal may be due in part or wholly to product failures or inadequacies that may or may not be related to the ingredients we manufactured for the customer. In such a case, the recall or withdrawal may result in claims
being made against us. Although we seek to reduce our potential liability through measures such as contractual indemnification provisions with customers, we cannot assure you that such measures will be enforced or effective. We could be materially
and adversely affected if we were required to pay damages or incur defense costs in connection with a claim that is outside the scope of the indemnification agreements, if the indemnity, although legally enforceable, is not applicable in accordance
with its terms or if our liability exceeds the amount of the applicable indemnification, or if the amount of the indemnification exceeds the financial capacity of our customer. In certain instances, we may have in place product liability insurance
coverage, which is generally available in the market, but which may be limited in scope and amount. In other instances, we may have self-insured the risk for any such potential claim. There can be no assurance that our insurance coverage, if
available, will be adequate or that insurance coverage will continue to be available on terms acceptable to us. Given the current economic environment, it is also possible that our insurers may not be able to pay on any claims we might bring.
Unexpected results could cause us to have financial exposure in these matters in excess of insurance coverage and recorded reserves, requiring us to provide additional reserves to address these liabilities, impacting profits. Moreover, any claim
brought against us, even if ultimately found to be insignificant or without merit, could damage our reputation, which, in turn, may impact our business prospects and future results.
Technology innovations in the markets that we serve may create alternatives to our products and result in reduced sales.
Technology innovations to which our current and potential customers might have access could reduce or eliminate their need for our products, which could negatively impact the sale of those products. Our customers
constantly attempt to reduce their manufacturing costs and improve product quality, such as by seeking out producers using the latest manufacturing techniques or by producing component products themselves, if outsourcing is perceived to be not cost
effective. To continue to succeed, we will need to manufacture and deliver products, and develop better and more efficient means of manufacturing and delivering products, that address evolving customer needs and changes in the market on a timely and
cost-effective basis, using the latest and/or most efficient technology available. We may be unable to respond on a timely basis to any or all of the changing needs of our customer base. Separately, our competitors may develop technologies that
render our existing technology and products obsolete or uncompetitive. Our competitors may also implement new technologies before we are able to do so, allowing them to provide products at more competitive prices. Technology developed by others in
the future could, among other things, require us to write-down obsolete facilities, equipment and technology or require us to make significant capital expenditures in order to stay competitive. Our failure to develop, introduce or enhance products
and technologies able to compete with new products and technologies in a timely manner could have an adverse effect on our business, results of operations and financial condition.
We are subject to strong competition in certain industries in which we participate and therefore may not be able to compete successfully.
Other than the sale of AP, for which we are the only North American provider, we face competition in all of the other
industries in which we participate. Many of our competitors have financial, technical, production, marketing, research and development and other resources substantially greater than ours. As a result, they may be better able to withstand the effects
of periodic economic or business segment downturns. Moreover, barriers to entry, other than capital availability, are low in some of the product segments of our business. Consequently, we may encounter intense bidding for contracts. Capacity
additions or technological advances by existing or future competitors may also create greater competition, particularly in pricing. Further, the pharmaceutical fine chemicals market is fragmented and competitive. Pharmaceutical fine chemicals
manufacturers generally compete based on their breadth of technology base, research and development and chemical expertise, flexibility and scheduling of manufacturing capabilities, safety record, regulatory compliance history and price. AFC faces
increasing competition
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from pharmaceutical contract manufacturers, in particular competitors located in the People’s Republic of China and India, where facilities, construction and operating costs are
significantly less. If AFC is unable to compete successfully, its results of operations may be materially adversely impacted. Furthermore, there is a worldwide over-capacity of the ability to produce sodium azide, which creates significant price
competition for that product. Maintaining and improving our competitive position will require continued investment in our existing and potential future customer relationships as well as in our technical, production, and marketing operations. We may
be unable to compete successfully with our competitors and our inability to do so could result in a decrease in revenues that we historically have generated from the sale of our products.
Due to the nature of our business, our sales levels may fluctuate causing our quarterly operating results to fluctuate.
Our quarterly and annual sales are affected by a variety of factors that could lead to significant variability in our operating results, including as a result of the actual placement, timing and delivery of orders
for new and/or existing products. In our Specialty Chemicals segment, the need for our products is generally based on contractually defined milestones that our customers are bound by and these milestones may fluctuate from quarter to quarter
resulting in corresponding sales fluctuations. In our Fine Chemicals segment, some of our products require multiple steps of chemistry, the production of which can span multiple quarterly periods. Revenue is typically recognized after the final step
and when the product has been delivered and accepted by the customer. As a result of this multi-quarter process, revenues and related profits can vary from quarter to quarter. Consequently, due to factors inherent in the process by which we sell our
products, changes in our operating results may fluctuate from quarter to quarter and could result in volatility in our common stock price.
The inherent volatility of the chemical industry affects our capacity utilization and causes fluctuations in our results of operations.
Our Specialty Chemicals and Fine Chemicals segments are subject to volatility that characterizes the chemical industry generally. Thus, the
operating rates at our facilities will impact the comparison of period-to-period results. Different facilities may have differing operating rates from period to period depending on many factors, such as transportation costs and supply and demand for
the product produced at the facility during that period. As a result, individual facilities may be operated below or above rated capacities in any period. We may idle a facility for an extended period of time because an oversupply of a certain
product or a lack of demand for that product makes production uneconomical. The expenses of the shutdown and restart of facilities may adversely affect quarterly results when these events occur. In addition, a temporary shutdown may become
permanent, resulting in a write-down or write-off of the related assets. Moreover, workforce reductions in connection with any short-term or long-term shutdowns, or related cost-cutting measures, could result in an erosion of morale, affect the
focus and productivity of our remaining employees, including those directly responsible for revenue generation, and impair our ability to retain and recruit talent, all of which in turn may adversely affect our future results of operations.
A loss of key personnel or highly skilled employees, or the inability to attract and retain such personnel, could disrupt our
operations or impede our growth.
Our executive officers are critical to the management and direction of our businesses. Our
future success depends, in large part, on our ability to retain these officers and other capable management personnel. From time to time we have entered into employment or similar agreements with our executive officers and we may do so in the
future, as competitive needs require. These agreements typically allow the officer to terminate employment with certain levels of severance under particular circumstances, such as a change of control affecting our company. In addition, these
agreements generally provide an officer with severance benefits if we terminate the officer without cause. Our inability to attract and retain talented personnel and replace key personnel in a timely fashion could disrupt the operations of the
segment affected or our overall operations. Furthermore, our business is very technical and the technological and creative skills of our personnel are essential to establishing and maintaining our competitive advantage.
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For example, customers often turn to AFC because very few companies have the specialized experience and capabilities and associated personnel required for performing chiral separations, energetic
chemistries and projects that require high containment. Our future growth and profitability in part depend upon the knowledge and efforts of our highly skilled employees, including their ability to keep pace with technological changes in the fine
chemicals and specialty chemicals industries, as applicable. We compete vigorously with various other firms to recruit these highly skilled employees. Our operations could be disrupted by a shortage of available skilled employees or if we are unable
to attract and retain these highly skilled and experienced employees.
We may continue to expand our operations through
acquisitions, but the acquisitions could divert management’s attention and expose us to unanticipated liabilities and costs. We may experience difficulties integrating the acquired operations, and we may incur costs relating to acquisitions
that are never consummated.
Our business strategy may include growth through future possible acquisitions, in particular in
connection with our Fine Chemicals segment. Our future growth is likely to depend, in significant part, on our ability to successfully implement this acquisition strategy. However, our ability to consummate and integrate effectively, any future
acquisitions on terms that are favorable to us may be limited by the number of attractive and suitable acquisition targets, internal demands on our resources and our ability to obtain or otherwise facilitate cost-effective financing, especially
during difficult and unsettled economic times in the credit market. Any future acquisitions would currently challenge our existing resources. To the extent that we were to effect a new acquisition, if we did not properly meet the increasing expenses
and demands on our resources resulting from such future growth, our results could be adversely affected. Our success in integrating newly acquired businesses will depend upon our ability to retain key personnel, avoid diversion of management’s
attention from operational matters, integrate general and administrative services and key information processing systems and, where necessary, requalify our customer programs. In addition, future acquisitions could result in the incurrence of
additional debt, costs and contingent liabilities. We may also incur costs and divert management’s attention to acquisitions that are never consummated. Integration of acquired operations may take longer, or be more costly or disruptive to our
business, than originally anticipated. It is also possible that expected synergies from past or future acquisitions may not materialize.
Although we undertake a diligence investigation of each acquisition target that we pursue, there may be liabilities of the acquired companies or
assets that we fail to or are unable to discover during the diligence investigation and for which we, as a successor owner, may be responsible. In connection with acquisitions, we generally seek to minimize the impact of these types of potential
liabilities through indemnities and warranties from the seller, which may in some instances be supported by deferring payment of a portion of the purchase price. However, these indemnities and warranties, if obtained, may not fully cover the
ultimate actual liabilities due to limitations in scope, amount or duration, financial limitations of the indemnitor or warrantor or other reasons.
We have a substantial amount of debt, and the cost of servicing that debt could adversely affect our ability to take actions, our liquidity or our financial condition.
As of March 31, 2013, we had outstanding debt of approximately $57,750, for which we are required to make principal and interest payments.
Subject to the limits contained in some of the agreements governing our outstanding debt, we may incur additional debt in the future or we may refinance some or all of this debt. Our level of debt places significant demands on our cash resources,
which could:
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make it more difficult for us to satisfy any other outstanding debt obligations;
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require us to dedicate a substantial portion of our cash flow from operations to payments on our debt, reducing the amount of our cash flow available for
working capital, capital expenditures, acquisitions, developing our real estate assets and other general corporate purposes;
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limit our flexibility in planning for, or reacting to, changes in the industries in which we compete;
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place us at a competitive disadvantage compared to our competitors, some of which have lower debt service obligations and greater financial resources than we
do;
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limit our ability to borrow additional funds; or
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increase our vulnerability to general adverse economic and industry conditions.
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We are obligated to comply with various ongoing covenants in our debt, which could restrict our operations, and if we should fail to satisfy
any of these covenants, the payment under our debt could be accelerated, which would negatively impact our liquidity.
We are
obligated to comply with various ongoing covenants in our debt, including in certain cases financial covenants, that could restrict our operating activities, and the failure to comply could result in defaults that accelerate the payment under our
debt. Our outstanding debt generally contains various affirmative, negative and financial covenants. These covenants include provisions restricting our and our current and future domestic subsidiaries’ ability to, among other things:
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pay dividends, repurchase our stock, or make other restricted payments;
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make certain investments or acquisitions;
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incur additional indebtedness;
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create or permit to exist certain liens;
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enter into certain transactions with affiliates;
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consummate a merger, consolidation or sale of assets;
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change our business; and
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wind up, liquidate, or dissolve our affairs.
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Any of the covenants described above may restrict our operations and our ability to pursue potentially advantageous business opportunities. Our failure to comply with these covenants could also result in an event
of default that, if not cured or waived, could result in the acceleration of all or a substantial portion of our debt, which would negatively impact our liquidity. In light of our continued working capital requirements and challenging market
conditions, there is a risk that we may be unable to continue to comply with one or more of our debt covenants in the future. Such noncompliance could require us to re-negotiate new terms with our lenders which, in all likelihood, would lead to the
incurrence of transaction costs and potentially other less favorable terms and conditions being placed upon us, thereby further negatively impacting our liquidity and results of operations.
Significant changes in discount rates, rates of return on pension assets and other factors could affect our estimates of pension obligations,
which in turn could affect future funding requirements, related costs and our future financial condition, results of operations and cash flows.
As of September 30, 2012, we had unfunded pension obligations, including the current and non-current portions, of $55,827. The cost of our defined benefit pension plans is recognized through operations over
extended periods of time and involves many uncertainties during those periods of time. Our funding policy for our U.S. tax-qualified defined benefit pension plans is to accumulate plan assets that, over the long run, will approximate the present
value of projected benefit obligations. Our pension cost is materially affected by the discount rate used to measure pension obligations, the level of plan assets available to fund those obligations at the measurement date and the expected long-term
rate of return on plan assets. Changes in these and related factors can affect our estimates of pension obligations. Additionally, significant changes in investment performance or a change in the portfolio mix of invested assets can result in
corresponding increases and decreases in the valuation of plan assets or in a change of the expected rate of return on plan assets.
We
have unfunded obligations under our U.S. tax-qualified defined benefit pension plans totaling approximately $44,741 on a projected benefit obligation basis as of September 30, 2012. Declines in the value of plan investments or unfavorable
changes in law or regulations that govern pension plan funding could materially change the timing and amount of required funding.
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Our suspended stockholder rights plan, Restated Certificate of Incorporation, as amended, and
Amended and Restated By-laws discourage unsolicited takeover proposals and could prevent stockholders from realizing a premium on their common stock.
We have a stockholder rights plan that, although currently suspended, may have the effect of discouraging unsolicited takeover proposals. The rights issued under the stockholder rights plan would cause substantial
dilution to a person or group which attempts to acquire us on terms not approved in advance by our board of directors. In addition, our Restated Certificate of Incorporation, as amended, and Amended and Restated By-laws contain provisions that may
discourage unsolicited takeover proposals that stockholders may consider to be in their best interests. These provisions include:
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a classified board of directors;
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the ability of our board of directors to designate the terms of and issue new series of preferred stock;
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advance notice requirements for nominations for election to our board of directors; and
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special voting requirements for the amendment, in certain cases, of our Restated Certificate of Incorporation, as amended, and our Amended and Restated
By-laws.
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We are also subject to anti-takeover provisions under Delaware law, which could delay or prevent a change of
control. Together, our charter provisions, Delaware law and the stockholder rights plan may discourage transactions that otherwise could involve payment of a premium over prevailing market prices for our common stock.
Our proprietary and intellectual property rights may be violated, compromised, circumvented or invalidated, which could damage our
operations.
We have numerous patents, patent applications, exclusive and non-exclusive licenses to patents, and unpatented
trade secret technologies in the U.S. and certain foreign countries. There can be no assurance that the steps taken by us to protect our proprietary and intellectual property rights will be adequate to deter misappropriation of these rights. In
addition, independent third parties may develop competitive or superior technologies that could circumvent the future need to use our intellectual property, thereby reducing its value. They may also attempt to invalidate patent rights that we own
directly or that we are entitled to exploit through a license. If we are unable to adequately protect and utilize our intellectual property or proprietary rights, our results of operations may be adversely affected.
Our business and operations would be adversely impacted in the event of a failure of our information technology infrastructure.
We rely upon the capacity, reliability and security of our information technology hardware and software infrastructure and our
ability to expand and update this infrastructure in response to our changing needs. We are constantly updating our information technology infrastructure. Any failure to manage, expand and update our information technology infrastructure or any
failure in the operation of this infrastructure could harm our business.
Despite our implementation of security measures, our systems
are vulnerable to damages from computer viruses, natural disasters, unauthorized access and other similar disruptions. Any system failure, accident or security breach could result in disruptions to our operations. To the extent that any disruptions
or security breach results in a loss or damage to our data, or in inappropriate disclosure of confidential information, it could harm our business. In addition, we may be required to incur significant costs to protect against damage caused by these
disruptions or security breaches in the future.
We are exposed to counterparty risk through our interest rate swap and a
counterparty default could adversely affect our financial condition.
We have entered into an interest rate swap with HSBC Bank
USA, N.A. (“HSBC”), which subjects us to counterparty risk. The ability of HSBC to perform its obligations under the contract will depend upon a number of factors that are beyond our control and may include, among other things, general
economic
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conditions and the overall financial condition of HSBC. Should HSBC fail to honor its obligations under its agreement with us, we could sustain significant losses which could have an adverse
effect on our financial condition, results of operations and cash flows.
Our common stock price may fluctuate substantially, and a
stockholder’s investment could decline in value.
The market price of our common stock has been highly volatile during the
past several years. For example, during Fiscal 2012, the highest closing sale price for our common stock was $13.47 and the lowest closing sale price for our common stock was $6.85. The realization of any of the risks described in these Risk Factors
or other unforeseen risks could have a dramatic and adverse effect on the market price of our common stock. Moreover, the market price of our common stock may fluctuate substantially due to many factors, including:
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actual or anticipated fluctuations in our results of operations;
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events or concerns related to our products or operations or those of our competitors, including public health, environmental and safety concerns related to
products and operations;
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material public announcements by us or our competitors;
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changes in government regulations or policies, such as new legislation, laws or regulatory decisions that are adverse to us and/or our products;
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changes in key members of management;
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developments in our industries;
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changes in investors’ acceptable levels of risk;
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trading volume of our common stock; and
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general economic conditions.
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In addition, the stock market in general has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate
to companies’ operating performance. In addition, the global economic environment and potential uncertainty have created significant additional volatility in the United States capital markets. Broad market and industry factors may materially
harm the market price of our common stock, regardless of our operating performance. In the past, following periods of volatility in the market price of a company’s securities, stockholder derivative lawsuits and/or securities class action
litigation has often been instituted against that company. Such litigation, if instituted against us, and whether with or without merit, could result in substantial costs and divert management’s attention and resources, which could harm our
business and financial condition, as well as the market price of our common stock. Additionally, volatility or a lack of positive performance in our stock price may adversely affect our ability to retain key employees or to use our stock to acquire
other companies at a time when use of cash or financing for such acquisitions may not be available or in the best interests of our stockholders.
