AMERICAN PACIFIC CORP - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in Thousands)

[February 06, 2014]

AMERICAN PACIFIC CORP - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in Thousands)

(Edgar Glimpses Via Acquire Media NewsEdge) This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which are subject to the safe harbor created by those sections. These forward-looking statements include, but are not limited to: our expectation that we will be able to successfully operate our business without disruption due to the pending merger transaction with H.I.G. Capital, LLC, whether we will obtain regulatory approvals and satisfy other conditions to closing of the merger transaction and successfully complete the merger, whether we will be able to manage unexpected costs, liabilities, or delays in completing the merger transaction, expectations regarding changes in cash flow and working capital and related variances in the future, our potential incurrence of additional debt, including through refinancing, or legal or other costs in the future, our belief that our cash flows, existing cash balances and debt will be adequate for the foreseeable future to satisfy the needs of our operations, our expectations regarding anticipated contributions and obligations with respect to our defined benefit pension plans and supplemental executive retirement plan, our estimates and expectations regarding anticipated costs, timing and funding in the short and long term for environmental remediation in connection with our former Henderson, Nevada site, our statement regarding the impact that change in revenue mix among our segments will have on comparisons of our consolidated gross profit and gross margin in the future, our expectations with respect to the substantial fulfillment of existing backlog within the next twelve months, statements regarding our expectations for product revenues, sales volumes, interest expense, tax obligations and capital expenditures, statements regarding the expected impact of the timing of individual orders, sales and production activities on quarterly revenues, statements regarding our perceived competitive advantages, statements regarding the expected benefits of our interest rate swap arrangement, statements regarding the potential future impact of critical accounting policies and changes in accounting standards and judgments, estimates and assumptions relating thereto, statements regarding the impact that principal payments under our Credit Facility will have on our liquidity, statements regarding the effects of regulatory proposals, and all plans, objectives, expectations and intentions contained in this report that are not historical facts. We usually use words such as "may," "can," "will," "could," "would," "should," "continue," "expect," "anticipate," "believe," "estimate," or "future," or the negative of these terms or similar expressions to identify forward-looking statements. Discussions containing such forward-looking statements may be found throughout this document. These forward-looking statements involve certain risks and uncertainties, such as, for example, with respect to the actual placement, timing and delivery of orders for new and/or existing products, that could cause actual results to differ materially from future results or outcomes expressed or implied in such forward-looking statements. Please see the section titled "Risk Factors" in Part II, Item 1A of this Quarterly Report on Form 10-Q for further discussion of factors that could affect future results. All forward-looking statements in this document are made as of the date hereof, based on information available to us as of the date hereof, and we assume no obligation to update any forward-looking statement, unless otherwise required by law. Any business risks discussed later in this Item 2, among other things, should be considered in evaluating our prospects and future financial performance.

The terms "Company," "we," "us," and "our" are used herein to refer to American Pacific Corporation and, where the context requires, one or more of the direct and indirect subsidiaries or divisions of American Pacific Corporation. 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. The following discussion and analysis is intended to provide a narrative discussion of our financial results and an evaluation of our financial condition and results of operations with respect to the first quarter of Fiscal 2014 as compared to the first quarter of Fiscal 2013. The discussion should be read in conjunction with our Annual Report on Form 10-K for Fiscal 2013 filed with the Securities and Exchange Commission (the "SEC") and the condensed consolidated financial statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q. A summary of our significant accounting policies is included in Note 1 to our consolidated financial statements in our Annual Report on Form 10-K for Fiscal 2013.

PENDING ACQUISITION BY H.I.G. CAPITAL LLCOn January 9, 2014, we entered into an Agreement and Plan of Merger (the "Merger Agreement") by and with Flamingo Parent Corp., a Delaware corporation ("Parent"), and Flamingo Merger Sub Corp., a Delaware corporation and a wholly-owned subsidiary of Parent ("Merger Sub"), both of which are affiliates of and controlled by H.I.G. Capital, LLC, a Delaware limited liability company ("H.I.G.").

Pursuant to the Merger Agreement, upon the terms and subject to the conditions thereof, Merger Sub commenced a tender offer (the "Offer") on January 24, 2014 to acquire all of the outstanding shares of common stock of the Company (the "Shares"), at a purchase price of $46.50 per share, in cash (the "Offer Price"), payable without interest and less any applicable withholding taxes. The Offer is scheduled to expire at midnight, New York City time, on February 24, 2014, unless the Offer is extended or earlier terminated.

Following the consummation of the Offer and subject to the satisfaction or waiver of the conditions set forth in the Merger Agreement, Merger Sub will be merged with and into us, and we will continue as a wholly-owned subsidiary of Parent (the "Merger"). As of the effective time of the Merger, each outstanding Share (other than Shares owned by the Company as treasury stock, Shares owned by Parent, Merger Sub or any other direct or indirect wholly-owned subsidiary of Parent, Merger Sub or the Company or Shares held by stockholders that have properly exercised and perfected appraisal rights under Delaware law) will be converted automatically into the right to receive an amount in cash equal to the Offer Price, without interest.

Our board of directors has unanimously approved the Merger Agreement and, on January 27, we have filed with the SEC a solicitation/recommendation statement on Schedule 14D-9 setting forth in detail, among other things, the recommendation of our board of directors that the Company's stockholders tender their Shares in the Offer.

If we consummate the Merger, we will become a wholly-owned subsidiary of Parent.

Accordingly, the remainder of the discussion in this "Overview" section - which assumes we remain a stand-alone business - should be read with the understanding that should the Merger be completed, Parent will have the power to control the conduct of our business.

- 23 - -------------------------------------------------------------------------------- Table of Contents OUR COMPANYAmerican Pacific Corporation and its predecessors have been engaged in chemical manufacturing since 1955. We are a leading custom manufacturer of fine chemicals and specialty chemicals within our focused markets. Through our Fine Chemicals segment, we supply active pharmaceutical ingredients ("APIs") and registered intermediates to the pharmaceutical industry. Our Specialty Chemicals segment produces various perchlorate chemicals and is the only North American producer of Ammonium Perchlorate ("AP"), which is the predominant oxidizing agent for solid propellant rockets, booster motors and missiles used in space exploration, commercial satellite transportation and national defense programs. We produce clean agent chemicals for the fire protection industry, as well as electrochemical equipment for the water treatment industry. Our products are designed to meet customer specifications and often must meet certain governmental and regulatory approvals. Our technical and manufacturing expertise and customer service focus has gained us a reputation for quality, reliability, technical performance and innovation. Given the mission critical nature of our products, we maintain long-standing strategic customer relationships and generally sell our products through long-term contracts under which we are the sole-source or limited-source supplier.

OUR BUSINESS SEGMENTSOur continuing operations comprise three reportable business segments: Fine Chemicals, Specialty Chemicals, and Other Businesses. The following table reflects the revenue contribution percentage from our business segments: Three Months Ended December 31, 2013 2012 Fine Chemicals 71% 59% Specialty Chemicals 28% 39% Other Businesses 1% 2% Total 100% 100% FINE CHEMICALS. Our Fine Chemicals segment, operated through our wholly-owned subsidiaries Ampac Fine Chemicals LLC and AMPAC Fine Chemicals Texas, LLC (collectively, "AFC"), is a custom manufacturer of APIs and registered intermediates for customers in the pharmaceutical industry. The pharmaceutical ingredients we manufacture are used by our customers in drugs with indications in three primary areas: anti-viral, oncology, and central nervous system. AFC's customers include some of the world's largest pharmaceutical and biotechnology companies, as well as emerging pharmaceutical companies. Most of the products AFC sells are proprietary to our customers and used in existing drugs that are FDA approved and commercially available. We operate in compliance with the U.S. Food and Drug Administration's (the "FDA") current Good Manufacturing Practices ("cGMP") and the requirements of certain other regulatory agencies such as the European Union's European Medicines Agency and Japan's Pharmaceuticals and Medical Devices Agency. Our Fine Chemicals segment's strategy is to focus on high growth markets where our technological position, combined with our chemical process development and engineering expertise, leads to strong customer allegiances and limited competition. We have distinctive competencies and specialized engineering capabilities in performing chiral separations, manufacturing products that require high containment and performing energetic chemistries at large scale. Additionally, our technology offerings include large scale production of Schedule II to V controlled substances in our high-security facilities in Rancho Cordova, California.

We have invested significant resources in our facilities, workforce and technology base. We believe we are the U.S. leader in performing chiral separations using SMB technology and own and operate two large-scale SMB systems, both of which are among the largest in the world operating under cGMP.

We offer a full range of SMB equipment and related services from laboratory-scale to our large systems. We believe our distinctive competency in manufacturing chemical compounds that require specialized high containment facilities and handling expertise provide us a significant competitive advantage in competing for various opportunities associated with high potency, highly toxic and cytotoxic products. Many oncology - 24 --------------------------------------------------------------------------------- Table of Contents drugs are made with APIs that are high potency or cytotoxic. AFC is one of the few companies in the world that can manufacture such compounds at a multi-ton annual rate. Moreover, our significant experience and highly engineered facilities make us one of the few companies in the world with the capability to use energetic chemistry on a large scale under cGMP. We use this capability in development and production of products such as those used in anti-viral drugs, including HIV-related and influenza-combating drugs, and drugs with CNS, oncology and pain management indications.

We have established long-term, and in some cases sole-source contracts with customers that represent the majority of our revenues. Contracts that are not sole-source are limited-source considering the nature of our industry and the products we manufacture. The inherent nature of custom pharmaceutical fine chemicals manufacturing encourages stable, long-term customer relationships. We work collaboratively with our customers to develop reliable, safe and cost-effective custom solutions. Once a custom manufacturer has been qualified as a supplier on a cGMP product, there are several potential barriers that discourage transferring the manufacturing of the product to an alternative supplier. For example, applications to and approvals from the FDA and other regulatory authorities generally require the chemical contractor to be named.

Switching contractors may require additional regulatory approvals and could take as long as two years to complete. Switching contractors and amending various filings can result in significant costs associated with technology transfer, process validation and refiling with the FDA and other regulatory authorities around the world.

SPECIALTY CHEMICALS. Our Specialty Chemicals segment is principally engaged in the production of perchlorates, which include several grades of ammonium perchlorate ("AP"), sodium perchlorate and potassium perchlorate. AP is the predominant oxidizing agent for solid propellant rockets, booster motors and missiles used in national defense, space exploration and commercial satellite transportation programs. We have supplied rocket-grade AP for use in space and defense programs for over 50 years and we have been the only rocket-grade AP supplier in North America since 1998, when we acquired the AP business of our principal competitor, Kerr-McGee Chemical Corporation. AP is a key component of solid propellant rockets, booster motors and missiles that are utilized in U.S.

Department of Defense ("DOD") tactical and strategic missile programs, as well as various space programs such as the Delta and Atlas families of commercial space launch vehicles and space exploration programs for the National Aeronautics and Space Administration ("NASA"). There is currently no domestic alternative to these solid rocket motors. As a result, we believe that the U.S. government views us as a strategic national asset.

Alliant Techsystems Inc. or "ATK" is a significant AP customer. We sell rocket-grade AP to ATK under a long-term contract, initially established in 1997, that requires us to maintain a ready and qualified capacity for rocket-grade AP and that requires ATK to purchase its rocket-grade AP requirements from us, subject to certain terms and conditions. Under the long-term contract, pricing varies inversely to volume and includes annual escalations. In May 2013, we extended our contract with ATK to include Fiscal 2014 through Fiscal 2016 and established a price volume matrix that provides fixed pricing for annual rocket-grade AP volumes ranging from 2.5 million to 7.5 million pounds.

In addition, we produce and sell sodium azide, a chemical primarily used in pharmaceutical manufacturing, and Halotron®, a series of clean fire extinguishing agents used in fire extinguishing products ranging from portable fire extinguishers to total flooding systems.

OTHER BUSINESSES.Our Other Businesses segment contains our water treatment equipment division and real estate activities. Our water treatment equipment business markets, designs, and manufactures electrochemical On Site Hypochlorite Generation, or OSHG systems. These systems are used in the disinfection of drinking water, control of noxious odors, and the treatment of seawater to prevent the growth of marine organisms in cooling systems. We supply our equipment to municipal, industrial and offshore customers. Our real estate activities are not material.

DISCONTINUED OPERATIONS. In May 2012, our board of directors approved and we committed to a plan to sell our Aerospace Equipment segment, which is comprised of Ampac-ISP Corp. and its wholly-owned foreign subsidiaries ("AMPAC-ISP"). We completed the sale of substantially all of the assets of AMPAC-ISP effective August 1, 2012. The divestiture is a strategic shift that allows us to place more focus - 25 - -------------------------------------------------------------------------------- Table of Contents on the growth and performance of our pharmaceutical-related product lines.

Revenues and expenses associated with the operations of AMPAC-ISP are presented as discontinued operations for all periods presented.

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