Spectrum Control, Inc.

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Spectrum Control, Inc.

8031 Avonia Road
Fairview, Pennsylvania 16415
U.S.A.
Telephone: (814) 474-2207
Fax: (814) 474-2208
Web site: http://www.spectrumcontrol.com

Public Company Incorporated: 1968
Employees: 864
Sales: $62.98 million (2003)
Stock Exchanges: NASDAQ
Ticker Symbol: SPEC
NAIC: 334419 Other Electronic Component Manufacturing

Based near Erie, Pennsylvania, Spectrum Control, Inc. designs and manufactures electronic control components and systems that shield sensitive electronics from electromagnetic, radio-frequency, or microwave interference. Spectrum's business is organized into three groups: signal integrity products, power integrity products and management systems, and frequency control products. The signal integrity segment offers low-pass EMI filters, surface mount EMI filters, and specialty ceramic capacitors. Power integrity products include power line filters, power entry modules, multisection filters, power terminal blocks, and custom power filter assemblies, while power management systems include power distribution units, remote power management systems, fuse interface panels, breaker interface panels, and customer power distribution systems. The frequency control products group makes ceramic resonators and bandpass filters, ceramic patch antennas, duplexers, lumped element filters, cavity filters, waveguide filters, as well as related products and systems. In addition, Spectrum offers product design, testing, and custom assembly services. Signal integrity products generate 70 percent of the company's sales, followed by power integrity products and management systems with 19 percent, and frequency control products with 11 percent. The telecommunications and military/aerospace industries combine to account for more than 70 percent of Spectrum's sales. Major customers include Motorola, Lucent Technologies, Nokia, Ericsson, Marconi, Raytheon, Lockheed Martin, and Sun Microsystems. Spectrum is a public company, trading on the NASDAQ.

Founding the Company in the Late 1960s

Spectrum was founded in Erie in 1968 by three engineers, colleagues at Erie Technical Products Inc.: Thomas L. Venable, Glenn L. Warnhuis, and John R. Lane. They cobbled together $300,000 in seed money and started Spectrum Control in a former hardware store to make sophisticated electronic filters to prevent interference. Venable and Warnhuis did the design work, while Lane was responsible for marketing. Over the course of the next 15 years Spectrum grew steadily, moving out of the old hardware store to occupy four manufacturing plants. The number of customers grew to 1,500, including such corporate giants as IBM and Hewlett-Packard. The company also went public, raising money to fuel its growth. By 1985 annual sales had reached $22 million.

But with growth came challenges. Early on Spectrum had few employees and little difficulty in dealing with quality control. The larger the company became, the more concessions were made in the area of quality control. Spectrum became complacent, lapsing into accepting a certain number of defective products, a policy better known as acceptable quality levels or AQLs. A batch of filters would be sampled, and so long as the percentage of bad units were within a target range, the lot was shipped. Only if a batch had too many rejects would it be subjected to an expensive individual inspection process. Customers accepted the situation for a time, but in the early 1980s major customers began adopting the concept of zero defects in the components they bought. Quality control now became an overriding issue at Spectrum, one on which the future of the company hinged.

Spectrum's management team considered but dismissed the use of Japanese quality techniques, opting instead to pursue the ideas of management consultant Philip Crosby, the former director of quality for ITT Corp. Venable and 16 Spectrum employees spent five days at the headquarters of Philip Crosby Associates Inc. in Winter Park, Florida, to learn in depth Crosby's concepts about achieving quality. Each night, according to Venable, the team drank beer and reviewed what they had learned that day and considered how it could be applied to real-world situations at home. At the very least, by the end of their time in Florida, Venable and his team had thoroughly rejected the idea of AQLs and now believed that the goal of achieving zero defects was worthwhile and pursuable, given a realistic structure. In Erie a program was implemented and training given to every employee. Many of the necessary changes were accomplished quickly and provided immediate payoffs, while some proved stubborn and required months of troubleshooting. But in the end, the Spectrum program was a success, resulting in significant savings each year. As a way to get employees invested in the program, about half of the realized savings were contributed to a profit-sharing plan.

Failed Attempt at Diversification in the 1980s

For almost 20 years Spectrum was content to focus on its narrow area of interest. Then in November 1986 it made an effort to diversify by acquiring San Fernando, California-based SFE Technologies, maker of electronic components, for $7 million in cash and the assumption of debt. At this stage Spectrum was generating annual revenues of $27 million and earnings of $3 million. The SFE purchase moved Spectrum into new product lines such as multilayer ceramic and wound-film capacitors, magnetic components, and quartz-crystal frequency-control devices. As a result of the acquisition, Spectrum picked up manufacturing facilities in San Fernando, Tucson, Arizona, New Orleans, and Schwabach, West Germany, and sales offices in England and The Netherlands. The German plant was of particular importance because it allowed Spectrum to shift the manufacture of some products that sold well in West Germany to the new location.

The SFE acquisition proved to be a poor decision, however. Adding new product lines simply caused Spectrum to lose focus. Only the West German business succeeded. After recording net income of $3.32 million in 1986, Spectrum saw profits drop to just $30,000 a year later, followed by losses of $3.61 million in 1988 and $850,000 in 1989. As the company continued to lose money in 1990, in April of that year Venable was replaced as president and chief executive officer by 47-year-old J.L. "Jack" Johnston. Venable stayed on as chairman but at the end of 1990 he left the company to pursue other business opportunities. Johnston brought with him more than 20 years of managerial experience in the electronics industry. He spent 18 years at Erie Technological Products and successor Murata Erie North America, serving in a number of executive roles. He then joined Allen Bradley Company, serving as the general manager of the Electronic Components Division. Replacing Venable as chairman of the board was Gerald A. Ryan, a graduate of the Massachusetts Institute of Technology who had been a director of the company since its inception.

Johnston quickly took steps to return Spectrum to its core business of EMI/FRI filters, connectors, and capacitors, and to cut the company's losses. Unable to spin off or sell its Tucson subsidiary, Polytronics Inc., he opted to simply close down the operation, which was draining resources. In addition, a plant in Valencia, California, was closed because its work could be handled in Erie. In April 1991 Spectrum sold its gasket and shielding business to MAJR Products. These moves caused sales to decline from $32 million in 1990 to $26.8 million in 1991, but the company was now on a better footing to realize future growth. After losing $691,000 in 1991, Spectrum returned to profitability in 1992, posting net income of $1.4 million on sales of $31.6 million. Over the next four years the company enjoyed steady growth while it continued to take steps to refine its business mix. The German subsidiary shut down its manufacturing operations in 1993 and 1994 and was converted into a distributor of Spectrum products to the European market. Although emphasizing cost controls, Johnston was willing to spend money in some cases. In 1992 Spectrum bought assets—inventory, tooling, drawings, and customer order backlog—for the electronic filter products produced by Murata Erie North America, Ltd. Spectrum's sales grew to $41.3 million in 1993, $43.7 million in 1994, and $49.3 million in 1995. Net income during this period ranged from $5 million in 1993 to approximately $3 million in 1995.

Spectrum suffered a significant setback in December 1996 when Johnston died following heart surgery. While the board started the search for a new chief executive, an executive committee was formed to run the company on a temporary basis. One of the members, Richard A. Southworth, vice-president and general manager of the filter products group, would emerge as the board's choice to succeed Johnston. After graduating from Gannon University, where he studied Mechanical Engineering and Mathematics, Southworth had worked for Philips Components, Murta Erie North America, and Erie Technological Products. He joined Spectrum in 1991 as vice-president and general manager of the company's electromagnetic division.

Company Perspectives:

Using a solutions-oriented approach, we provide products tailored to meet our customers' specific needs by anticipating and solving their systems architecture and performance problems. We combine engineering expertise, design and testing capabilities, vertically integrated manufacturing processes and flexible production schedules to provide custom solutions to our customers.

In 1996 sales rose to $57.3 million and net income totaled $3.4 million, the result of increased demand from the telecommunications industry. When sales to this sector fell off in 1997, Spectrum saw its revenues recede to $56.5 million, although net income improved to nearly $4 million. With the business now on a sound footing, Spectrum was ready to once again use external means to add products and enter new markets. In April 1998 it paid approximately $1.1 million to acquire virtually all of privately held Republic Electronics Corp., a Wilkes-Barre, Pennsylvania-based electronics company that made subminiature ceramic capacitors used in telecommunications and microwave applications. Products included temperature compensating capacitors, single-layer microwave capacitors, high-voltage capacitors, switch-mode capacitors, and high Q capacitors. Republic brought with it only about $2 million in annual sales, but it provided Spectrum with a customer base in the capacitor segment on which to build. Also in 1998 Spectrum established a control products division. To bolster this new area Spectrum acquired Wesson, Mississippi-based Potter Production Corporation at a cost of $3 million. Potter manufactured power filter and power distribution products, including electromagnetic interference and radio frequency interference power filters, power line filters, facility filters, magnetic resonance interference filters, power distribution products, and power management, conditioning, and surge suppression products. Potter generated about $8 million in annual sales. As was the case with the Republic acquisition, the addition of Potter provided Spectrum with a footprint in new product lines and expanded the customer base.

Boom Times in the Late 1990s

The Republic and Potter acquisitions would not add much to the balance sheet in 1998. Although the electronic components market did not experience the best of years, Spectrum still managed to improve sales to $59.9 million and hold steady on net income, which fell slightly to $3.93 million. The 1998 acquisitions would pay off more obviously in 1999 when Spectrum began to experience a major surge in business as the U.S. economy and the telecommunications industry enjoyed boom times. Spectrum also completed another acquisition to grow the business further, paying more than $20 million for the Signal Conditioning Products division of electronics giant AMP Incorporated. Manufacturing a full line of EMI filters, filtered arrays, filtered connectors, and related products, Signal helped to solidify Spectrum's position as a major player in EMI filter products.

The Signal acquisition came early enough in 1999 that it made a major contribution to Spectrum's balance sheet that year. Revenues grew to more than $97.7 million and net income increased to $5.5 million. Continued demand from telecommunications customers resulted in greater growth in 2000. To pay off some of the debt incurred from its recent acquisitions, Spectrum made a secondary offering of stock, netting $27.8 million. The timing proved to be ideal, as the company was in the midst of enjoying a record year. Revenues in 2000 jumped to $132.6 million and net income grew to $9.5 million. To keep up with demand, Spectrum had expanded its manufacturing capabilities in Mexico and Wesson and hired hundreds of new workers. Then in early 2001 the bubble burst in the telecom sector, which accounted for some 60 percent of Spectrum's sales. Spectrum also was hurt by inventory buildups by telecommunications equipment companies. While they cleared their inventories, Spectrum was left with a maximum of capacity and a minimum of demand for its products.

Spectrum took immediate steps to cut costs in order to weather the storm. It eliminated 700 jobs, close to 40 percent of its workforce, and shut down a pair of Pennsylvania plants. By the close of this difficult year, Spectrum saw sales plummet to $89.3 million while recording a loss of nearly $3 million. Sales continued to fall in 2002, declining to $57.2 million, but cost-cutting measures paid off as the company lost only $737,000 for the year. Spectrum was also strong enough financially that it could afford to invest in the future when business conditions rebounded. In July 2002 it paid $6.5 million to pick up FSY Microwave, Inc., a Maryland company that designed and manufactured microwave filters. Spectrum also built a new plant in China, which it hoped would add business from the promising Asian market.

The addition of FSY helped Spectrum to reverse the trend on declining sales in 2003. Revenues approached $63 million and the company returned to profitability for the year, posting net income of $854,000. Spectrum benefited from improving conditions in the telecommunications industry in 2004 and it appeared that the company was in the midst of a significant rebound. It also was well positioned for sustained, long-term growth.