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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended December 31, 1998
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the transition period from to
Commission File Number 1-475
A.O.SMITH CORPORATION
Delaware 39-0619790
(State of Incorporation) (IRS Employer ID Number)
P. O. Box 23972, Milwaukee, Wisconsin 53223-0972
Telephone: (414) 359-4000
Securities registered pursuant to Section 12(b) of the Act:
Shares of Stock Outstanding Name of Each Exchange on
Title of Each Class February 24, 1999 Which Registered
------------------- --------------------------- ------------------------
Class A Common Stock 8,705,835 American Stock Exchange
(par value $5.00 per share)
Common Stock 14,546,351 New York Stock Exchange
(par value $1.00 per share)
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months and (2) has been subject to such filing requirements for
the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of voting stock held by nonaffiliates of the
registrant was $13,689,623 for Class A Common Stock and $275,167,889 for Common
Stock as of February 24, 1999.
Documents Incorporated by Reference:
1. Portions of the company's definitive Proxy Statement dated March 5, 1999
for an April 14, 1999 Annual Meeting of Stockholders are incorporated by
reference in Part III.
PART 1
ITEM 1 - BUSINESS
A. O. Smith Corporation is a 125 year old diversified manufacturer serving
customers worldwide. The company is organized according to the products it
offers and under this organizational structure has three segments, Electric
Motor Technologies, Water Systems Technologies and Storage and Fluid Handling
Technologies, which is categorized as "Other" for segment reporting purposes.
The company's Electric Motor Technologies segment produces fractional horsepower
and hermetic electric motors. The Water Systems Technologies Segment is a
leading manufacturer of residential and commercial gas, oil and electric water
heating systems. The Other operations consist of businesses that manufacture
reinforced thermosetting resin piping as well as liquid and dry bulk storage
systems. Financial information regarding the company's business segments is
provided in Note 13 to the Consolidated Financial Statements which appear
elsewhere herein.
On July 1, 1998, the company acquired the assets of General Electric Company's
domestic compressor motor business from the GE Industrial Controls Systems
Division for $126 million. The compressor motor business contributed
approximately $53 million to 1998 sales.
Formerly, the company was also in the automotive products business but sold this
segment in 1997.
The following table summarizes sales by segment for the company's operations.
This segment summary and all other information presented in this section should
be read in conjunction with the Consolidated Financial Statements and the Notes
thereto, which appear elsewhere herein.
Years Ended December 31 (dollars in millions)
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Electric Motor Technologies $480.0 $390.7 $337.1 $317.3 $281.2
Water Systems Technologies 294.8 287.5 291.3 276.0 271.5
Other 142.8 154.7 152.8 103.4 95.3
----- ----- ----- ----- ----
Total Continuing Operations $917.6 $832.9 $781.2 $696.7 $648.0
====== ====== ====== ====== ======
2
Electric Motor Technologies
Segment sales increased $89.3 million or almost 23 percent in 1998 to $480.0
million and represented 52 percent of total company sales. The increase in sales
in 1998 was primarily due to the acquisition of the GE compressor motor
business.
The Electric Motor Technologies segment consists of the A. O. Smith Electrical
Products Company which manufactures fan motors used in furnaces, air
conditioners and blowers, as well as fractional horsepower motors used in other
consumer products and jet pump motors sold to manufacturers of home water
systems, swimming pools, hot tubs and spas. Hermetic motors are sold worldwide
to manufacturers of compressors and are used in air conditioning and
refrigeration systems. Sales to the heating, ventilating, air conditioning and
refrigeration market account for approximately 60 percent of the unit's sales.
In addition to selling its products directly to OEMs, the company also markets
its products through a distributor network, which sells to both OEMs and the
related after-market. The company estimates that approximately 60 percent of the
market is derived from the less cyclical replacement business with the remainder
being impacted by general business conditions in the new construction market.
The segment's principal products are sold in competitive markets with its major
competitors being Emerson Electric, General Electric, Magnetek, Inc., Fasco and
Jakel and vertically integrated customers.
WATER SYSTEMS TECHNOLOGIES
The Water Systems Technology segment consists of the A. O. Smith Water Products
Company which had 1998 sales of $294.8 million, approximately three percent
higher than 1997 sales of $287.5 million and represented approximately 32
percent of total company sales.
Residential sales in 1998 were $166 million or approximately 56 percent of
segment revenues. The company markets residential gas and electric water heaters
through a network of plumbing wholesalers in the United States. The majority of
the company's sales are in the less cyclical replacement market although the new
housing market is also an important portion of the business. The residential
water heater market remains highly competitive. A. O. Smith competes with four
other manufacturers in supplying over 90 percent of market requirements. The
principal competitors in the Water Systems residential market are Rheem
Manufacturing, State Industries, The American Water Heater Group (formerly SABH,
Inc.) and Bradford-White.
The company also markets commercial water heating systems through a network of
plumbing wholesalers in the United States and Canada. A. O. Smith's Water
Systems Technologies is the largest manufacturer of commercial water heaters.
Commercial water heating systems are used in a wide range of applications
including schools, nursing homes, hospitals, prisons, hotels, motels, laundries,
restaurants, stadiums, amusement parks, car washes and other large users of hot
water. The commercial market is characterized by competition from a broader
range of products and competitors than occurs in the residential market. The
majority of commercial sales are derived from the less cyclical replacement
market with the remainder being impacted by general business conditions in the
commercial building construction market.
In 1995, Water Systems Technologies established a joint venture with China
NanjingYuhuan Corporation to manufacture instantaneous and storage type heaters
for the Chinese market. A. O. Smith acquired the partner's interest during the
fourth quarter of 1998 and will begin reporting the Chinese subsidiary's
financial results on a consolidated basis during 1999.
3
OTHER
The Other segment includes Storage and Fluid Handling Technologies and provides
world-wide solutions for effectively storing liquids and a wide range of dry
materials; as well as high performance piping systems that safely and
effectively contain and convey corrosive, abrasive or related materials.
Significantly lower sales of fluid handling products and slightly lower sales of
storage products combined for an eight-percent decline in total segment sales to
$142.8 million compared with the $154.7 million recorded in 1997.
The Engineered Storage Products business sells storage tanks to industrial,
municipal, agricultural liquid and dry bulk storage markets. Nineteen
ninety-eight sales of storage products were $90.8 million. The company's storage
products are sold in competitive markets that include concrete, site welded and
bolted tanks. Principal competitors include Columbian Steel Tank Company,
Permastore LTD., Pittsburg Tank and Tower Company Inc. and Natgun Corporation.
Fiberglass Products manufactures reinforced thermosetting resin piping and
fittings used to carry corrosive materials. Sales of fluid handling products
were $52.0 million in 1998. Typical applications include chemical and industrial
process and waste stream piping, high and low pressure oil field pipe and tubing
and underground gasoline service station piping. Products are sold through a
network of distributors.
In 1995, Fiberglass Products formed a joint venture with Harbin Composites
Corporation of Harbin, China to supply fiberglass pipe to the Chinese oil
industry. The company is a majority owner of the venture, which began production
in 1997, and acquired its partner's interest in early 1999.
Principal fluid handling products are sold in competitive markets with its major
competitors being Ameron Corporation, Fibercast Company, Environ Corporation and
Total Containment Corporation.
4
RAW MATERIAL
Raw materials for the company's operations, which consist primarily of steel,
copper and aluminum, are generally available from several sources in adequate
quantities. The company hedges the majority of its annual purchases of copper
and aluminum to protect against price volatility.
SEASONALITY
There is no significant seasonal pattern to the company's consolidated quarterly
sales and earnings.
RESEARCH AND DEVELOPMENT, PATENTS AND TRADEMARKS
In order to improve competitiveness by generating new products and processes,
the company conducts research and development at its Corporate Technology Center
in Milwaukee, Wisconsin as well as at its operating unit locations. Total
expenditures for research and development in 1998, 1997 and 1996 were
approximately $17.8 million, $17.2 million and $17.3 million, respectively.
The company owns and uses in its businesses various trademarks, trade names,
patents, trade secrets and licenses. While a number of these are important to
the company, it does not consider a material part of its business to be
dependent on any one of them.
EMPLOYEES
The company and its subsidiaries employed approximately 9,700 persons in its
operations as of December 31, 1998.
BACKLOG
Due to the nature of the company's products and their relatively short
production cycles, none of its operations sustain significant backlogs.
ENVIRONMENTAL LAWS
The company's operations are governed by a variety of federal, state and local
laws intended to protect the environment. While environmental considerations are
a part of all significant capital expenditures, compliance with the
environmental laws has not had a material effect and is not expected to have a
material effect upon the capital expenditures, earnings, or competitive position
of the company. See Item 3.
FOREIGN SALES
Total export sales of continuing operations from the U.S. were $ 64 million, $
64 million and $52 million in 1998, 1997 and 1996, respectively.
5
ITEM 2 - PROPERTIES
The company manufactures its products in 33 plants worldwide. These facilities
have an aggregate floor space of 4,946,520 square feet, consisting of 3,737,210
square feet owned by the company and 1,209,310 square feet of leased space.
Fifteen of the company's facilities are foreign plants including the Harbin
joint venture with 1,346,250 square feet of space, of which 428,786 square feet
are leased.
United States Foreign
Electric Motor Mebane, NC; Monticello, IN; Acuna, Mexico;
Technologies Mt. Sterling, KY; Paoli, IN; Bray, Ireland;
(2,083,880 sq. ft.) Scottsville, KY; Tipp City, OH; Juarez, Mexico (5);
Upper Sandusky, OH Monterrey, Mexico (2)
Water Systems El Paso, TX; Florence, KY; Juarez, Mexico;
Technologies McBee, SC; Renton, WA Nanjing, People's Rep.
(1,705,290 sq. ft.) of China;
Stratford, Canada (2);
Veldhoven,
The Netherlands
Storage & Fluid Handling DeKalb, IL; Little Rock, AR (3); Harbin, People's
Technologies Parsons, KS; Wichita, KS; Republic of China
(1,157,350 sq. ft.) Winchester, TN
The principal equipment at the company's facilities consist of presses, welding,
machining, slitting and other metal fabricating equipment, winding machines and
furnace and painting equipment. The company regards its plants and equipment as
well-maintained and adequate for its needs. Multishift operations are used where
necessary.
In addition to its manufacturing facilities, the company's World Headquarters
and Corporate Technology Center are located in Milwaukee, Wisconsin. It also has
offices in Alsip, Illinois; El Paso, Texas; Irving, Texas; London, England and
Beijing, China.
6
ITEM 3 - LEGAL PROCEEDINGS
The company is involved in various unresolved legal actions, administrative
proceedings and claims in the ordinary course of its business involving product
liability, property damage, insurance coverage, patents and environmental
matters including the disposal of hazardous waste. Although it is not possible
to predict with certainty the outcome of these unresolved legal actions or the
range of possible loss or recovery, the company believes these unresolved legal
actions will not have a material effect on its financial position or results of
operations. A more detailed discussion of these matters appears in Note 12 of
the Notes to Consolidated Financial Statements.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the security holders during the fourth
quarter of 1998.
EXECUTIVE OFFICERS OF THE COMPANY
Pursuant to General Instruction of G(3) of Form 10-K, the following list is
included as an unnumbered Item in Part I of this report in lieu of being
included in the company's Proxy Statement for its 1999 Annual Meeting of
Stockholders.
ROBERT J. O'TOOLE
Chairman of the Board of Directors, President and Chief Executive Officer
Mr. O'Toole, 58, became chairman of the board of directors in March 1992. He
is a member of the Investment Policy Committee of the board of directors. He
was elected chief executive officer in March 1989. He was elected president,
chief operating officer and a director in 1986. Mr. O'Toole joined the company
in 1963. He is a director of Briggs & Stratton Corporation, Firstar Bank
Milwaukee, N.A., Firstar Corporation and Protection Mutual Insurance Company.
GLEN R. BOMBERGER
Executive Vice President, Chief Financial Officer and Director
Mr. Bomberger, 61, has been a director and executive vice president and chief
financial officer of the company since 1986. He is a member of the Investment
Policy Committee of the board of directors. Mr. Bomberger joined A. O. Smith
in 1960. He is currently a director and vice president-finance of Smith
Investment Company. He is a director of Firstar Funds, Inc.
JOHN A. BERTRAND
President - A. O. Smith Electrical Products Company
Mr. Bertrand, 60, has been president of A. O. Smith Electrical Products
Company, a division of the company, since 1986. Mr. Bertrand joined the
company in 1960.
7
CHARLES J. BISHOP
Vice President - Corporate Technology
Dr. Bishop, 57, has been vice president-corporate technology since 1985. Dr.
Bishop joined the company in 1981.
MICHAEL J. COLE
Vice President - Asia
Mr. Cole, 55, was elected vice president-Asia in March 1996. Previously he was
vice president-emerging markets of Donnelly Corporation, an automotive
supplier.
JOHN R. FARRIS
President - A. O. Smith Engineered Storage Products Company
Mr. Farris, 49, was elected president of A. O. Smith Engineered Storage
Products Company, a division of the company, in July 1997. Previously he was
president of A. O. Smith Harvestore Products, Inc. since November 1996 and
president of Peabody TecTank, Inc. since 1987. Both of these subsidiaries were
dissolved and the new entity A. O. Smith Engineered Storage Products Company
established in July 1997.
DONALD M. HEINRICH
President - Smith Fiberglass Products Company
Mr. Heinrich, 46, became the president of Smith Fiberglass Products Company, a
division of the company, in November 1997. He served as vice
president-business development of A. O. Smith Corporation from October 1992.
JOHN J. KITA
Vice President, Treasurer and Controller
Mr. Kita, 43, was elected vice president, treasurer and controller in April
1996. From 1995 to 1996 he was treasurer and controller. Prior thereto, he
served as assistant treasurer since he joined the company in 1988.
RONALD E. MASSA
Senior Vice President and President of A. O. Smith Water Products Company
In February 1999, Mr. Massa, 49, became president of A. O. Smith Water
Products Company, a division of the company. He was elected senior vice
president in June 1997. He served as the president of A. O. Smith Automotive
Products Company, a former division of the company, from June 1996 to April
1997. He was the president of A. O. Smith Water Products Company from 1995 to
June 1996 and held other management positions in the Water Products Company
prior thereto. He joined the company in 1976.
8
ALBERT E. MEDICE
Vice President - Europe
Mr. Medice, 56, was elected vice president - Europe in 1995. Previously, from
1990 to 1995, he was the general manager of A. O. Smith Electric Motors
(Ireland) Ltd., a subsidiary of the company. Mr. Medice joined A. O. Smith in
1986 as vice president-marketing for its Electrical Products Company division.
EDWARD J. O'CONNOR
Vice President - Human Resources and Public Affairs
Mr. O'Connor, 58, has been vice president - human resources and public affairs
for the company since 1986. He joined A. O. Smith in 1970.
STEVE W. RETTLER
Vice President - Business Development
Mr. Rettler, 44, was elected vice president - business development in July
1998. Previously he was vice president and general manager of Brady Precision
Tape Co., a manufacturer of specialty tape products for the electronics
market.
W. DAVID ROMOSER
Vice President, General Counsel and Secretary
Mr. Romoser, 55, was elected vice president, general counsel and secretary in
March 1992.
9
PART II
ITEM 5 - MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
(a) Market Information. The Common Stock is listed on the New York Stock
Exchange. The Class A Common Stock of A. O. Smith Corporation is listed
on the American Stock Exchange. The symbols for these classes of the
company's stock are: AOS for the Common Stock and SMCA for the Class A
Common Stock. Firstar Trust Company, P. O. Box 2077, Milwaukee, Wisconsin
53201 serves as the registrar, stock transfer agent and the dividend
reinvestment agent for both classes of the company's common stock.
Quarterly Common Stock Price Range
----------------------------------
1998 1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.
---- -------- -------- -------- ---------
Common Stock
High 29-23/24 35-2/3 35-7/8 27
Low 26-7/8 28-2/3 18-3/4 15-13/16
Class A Common
High 29-2/3 35-1/3 35-2/3 26-1/16
Low 27-11/12 29-2/25 19 16-3/8
1997 1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.
---- -------- -------- -------- --------
Common Stock
High 23-3/4 25 26-1/2 28-11/12
Low 19-1/12 22-7/12 22-2/3 26-1/2
Class A Common
High 23-1/2 24-5/6 26-1/3 28-3/4
Low 19-5/6 22-2/3 23-1/6 26-11/12
(b) Holders. As of January 31, 1999, the number of shareholders of
record of Common Stock and Class A Common Stock were 1,383 and
614, respectively.
(c) Dividends. Dividends paid on the common stock are shown in Note 14
to the Consolidated Financial Statements appearing elsewhere
herein. The company's credit agreements contain certain conditions
and provisions which restrict the company's payment of dividends.
Under the most restrictive of these provisions, retained earnings
of $65.8 million were unrestricted as of December 31, 1998.
(d) Stock Repurchase Authority. As of February 22, 1999, approximately
8.4 million shares of Class A Common Stock and Common Stock had
been repurchased for $211 million under three stock repurchase
authorizations granted by the Board of Directors in 1997.
10
ITEM 6 - SELECTED FINANCIAL DATA
(Dollars in Thousands, except per share amounts)
Years Ended December 31
----------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Net sales - continuing operations $ 917,569 $ 832,937 $ 781,193 $ 696,700 $ 648,004
Earnings
Continuing operations 44,491 37,553 25,249 23,995 17,066
Discontinued operations:
Operating earnings - 15,231 40,168 37,418 40,281
Gain on disposition - 101,046 - - -
----------- ----------- ----------- ----------- -----------
Earnings - 116,277 40,168 37,418 40,281
----------- ----------- ----------- ----------- -----------
Net earnings $ 44,491 $ 153,830 $ 65,417 $ 61,413 $ 57,347
=========== =========== =========== =========== ===========
Basic earnings per share
of common stock
Continuing operations $ 1.89 $ 1.36 $ .81 $ .77 $ .55
Discontinued operations - 4.21 1.28 1.19 1.28
-------- ------- -------- -------- --------
Net earnings $ 1.89 $ 5.57 $ 2.09 $ 1.96 $ 1.83
======== ======= ======== ======== ========
Diluted earnings per share
of common stock
Continuing operations $ 1.84 $ 1.33 $ .79 $ .76 $ .54
Discontinued operations - 4.13 1.27 1.18 1.27
-------- ------- -------- -------- --------
Net earnings $ 1.84 $ 5.46 $ 2.06 $ 1.94 $ 1.81
======== ======= ======== ======== ========
Cash dividends per common share $ .47 $ .45 $ .44 $ .39 $ .33
December 31
----------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Total assets $ 767,432 $ 716,516 $ 871,152 $ 748,479 $ 660,546
Long-term debt 131,203 100,972 238,446 190,938 166,126
Total stockholders' equity 401,093 399,705 424,639 372,364 312,745
The company adopted FAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of" effective January 1, 1996.
11
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FINANCIAL REVIEW
A. O. Smith Corporation achieved record earnings from continuing operations in
1998 of $44.5 million or $1.84 per diluted share compared with $37.6 million or
$1.33 per diluted share in 1997. The Electric Motor Technologies and Water
Systems Technologies platforms established new sales records in 1998. Details of
individual segment performance will be discussed later in this section.
Working capital at December 31, 1998 was $155.2 million compared with the
company's working capital of $237.8 million and $103.4 million at December 31,
1997 and 1996, respectively. The company purchased General Electric (GE)
Company's Scottsville, Kentucky compressor motor business for $125.6 million
during the third quarter of 1998. The reduction in cash and cash equivalents by
$108.2 million during 1998 was primarily attributable to the acquisition. The
majority of the increases to receivables and inventory accounts during 1998 were
a result of the acquisition and the buyout of the partner in our Chinese water
heater joint venture in late 1998. The majority of the increase in working
capital in 1997 was due to the net cash proceeds received from the sale of the
company's automotive products business.
Capital expenditures were $27.9 million in 1998 compared with $44.9 million in
1997 and $37.8 million in 1996. The drop in capital spending during 1998 was
principally due to lower capital expenditures in the Electric Motor Technologies
business. The company expects that cashflow from operations will adequately
cover 1999 capital expenditures.
The company's two joint ventures in the People's Republic of China were
established in the fourth quarter of 1995. The company invested $7.1 million in
these joint ventures during 1998 compared with $13.7 million in 1997.
Long-term debt increased $30.2 million from $101.0 million at December 31, 1997
to $131.2 million at December 31, 1998. In conjunction with the Scottsville
acquisition, the company issued $30 million in senior notes under a loan
facility with The Prudential Insurance Company of America. The notes mature in
2018 and carry an interest rate of 6.66%. As a result, the company's leverage,
as measured by total debt to total capital, edged up to 25.3% at the end of 1998
versus 21.0% at the end of 1997.
The company repurchased 1,188,450 shares of its common stock during 1998 under
its stock repurchase program. Since the program's inception in January 1997,
approximately 8.4 million shares have been repurchased.
During 1998, the company split its stock 3-for-2 in the form of a 50% stock
dividend on its common stock. The stock dividend increased the number of Common
stock and Class A common stock shares outstanding to approximately 23.3 million
shares. A. O. Smith Corporation has paid dividends for 59 consecutive years. A
total of $.47 per share was paid in 1998 versus $.45 in 1997.
RESULTS OF OPERATIONS
Sales from continuing operations in 1998 were $917.6 million surpassing 1997
sales of $832.9 million by almost $85 million, or more than ten percent. The
majority of the increase in sales was attributable to the acquisition in July of
GE's domestic compressor motor business. The higher 1998 sales also benefited
from a full year of sales from the acquisition of UPPCO, a manufacturer of
subfractional horsepower C-frame electric motors made in March 1997 and a
resurgence in the domestic air conditioning market. The strong electric motor
sales in 1998 combined with moderate growth in sales of commercial water heating
equipment more than offset declines in sales of fiberglass pipe and storage tank
products. Sales in 1997 increased approximately $52 million compared with
12
1996 sales of $781.2 million, primarily as a result of $57 million of additional
sales associated with the aforementioned acquisition of UPPCO.
The company's gross profit margin for continuing operations in 1998 was 20.4
percent, essentially the same as the 20.5 percent margin in 1997 and a full
percentage point less than the 1996 margin of 21.4 percent. The unfavorable
trend in margin from 1996 to 1997 was due to the lower margin associated with
subfractional motors as well as the pricing concessions that were prevalent in
the water heater industry.
Sales for the Electric Motor Technologies segment in 1998 increased $89.3
million or almost 23 percent to a record $480.0 million from 1997 sales of
$390.7 million. Sales in 1996 were $337.1 million. Most of the increase in sales
in 1998 was due to the previously discussed compressor motor acquisition and the
recognition of a full year of sales from the 1997 UPPCO acquisition. Sales were
also bolstered by a recovery in the hermetic motor business resulting from
improvement in the heating, ventilating and air conditioning industry (HVAC).
The increase in sales from 1996 to 1997 was due to the acquisition of UPPCO.
Earnings for the Electric Motor Technologies segment in 1998 were $55.7 million
or almost 24 percent higher than the $45.0 million earned in 1997. Earnings in
1996 were $42.4 million. The continuing improvement in earnings over this time
period resulted primarily from the higher sales volume.
Sales for the Water Systems Technologies segment increased modestly from $287.5
million in 1997 to $294.8 million in 1998. Sales in 1996 were $291.3 million.
The growth in 1998 sales resulted from higher sales of commercial water heaters
resulting from a strong commercial construction market and an expanded
commercial product offering as well as record sales performance by the segment's
European operations. Sales in 1997 declined from the levels achieved in 1996
primarily as a result of lower industry unit volumes and prices for residential
products.
Earnings for Water Systems Technologies have remained fairly constant over the
past three years. The favorable impact of improving commercial sales and ongoing
cost reduction activities have been offset by an aggressive pricing environment
in the residential market segment, as well as costs to start up a new
manufacturing facility and develop distributor channels for its Chinese
operation. During the fourth quarter of 1998, the company acquired the 20
percent share owned by its partner in the Chinese operation and established the
Nanjing operation as a wholly foreign owned enterprise.
Sales for the Other segment declined from $154.7 million in 1997 to $142.8
million in 1998. Sales in 1996 were $152.8 million. Weakness in the petroleum
production and chemical markets caused by low oil and chemical prices resulted
in reduced capital spending in these industries and an associated reduction in
demand for storage tanks and fiberglass pipe. Earnings in 1998 were
significantly lower than 1997 due to the lower volume.
Selling, general, and administrative (SG&A) expense in 1998 was $106.6 million,
about equal to the prior two years. Relative to sales, SG&A dropped steadily
from a 1996 level of 13.7 percent to 11.6 percent in 1998. Higher general and
administrative expense associated with the aforementioned acquisitions was
offset by a reduction in general corporate expenses resulting from the
divestiture of the company's automotive products business in April 1997 as well
as cost reduction activities at the operating units.
Interest expense was $6.9 million in 1998 compared with $7.8 million and $8.1
million in 1997 and 1996, respectively. The lower interest expense in 1998 was
the result of slightly lower interest rates and increased interest amounts
associated with major plant and equipment expenditures being capitalized.
13
Interest income in 1998 was $3.8 million, or $5.2 million less than 1997, as
marketable securities were liquidated to fund the $126 million compressor motor
acquisition and the repurchase of slightly more than one million shares of
common stock.
The company's effective tax rate in 1998 was 34.7 percent and was equivalent to
the 1997 rate. The 1996 tax rate was 37.0 percent. The lower rates in 1998 and
1997 resulted from the utilization of state loss carry-forwards associated with
liquidated subsidiaries and research and development tax credits. Consolidated
earnings from continuing operations in 1998 increased 18.5 percent to a record
$44.5 million compared with 1997 earnings of $37.6 million, reflecting the
favorable impact of the Electric Motor Technologies acquisitions and improvement
in certain of its markets. Diluted earnings per share of $1.84 in 1998 were 38
percent higher than the $1.33 earned in 1997 and include the positive effect of
additional share repurchases made during the year. Earnings per share in 1996
amounted to $.79.
Outlook
For 1999, the company expects the difficulties at its Storage and Fiberglass
Products businesses to persist and is cautiously optimistic about the market for
the products of its Water Systems business segment. The company believes the
Electric Motors business will improve over 1998 as it benefits from the
incremental business of the compressor motor acquisition as well as the "Tier
One" supply agreement signed with York International in July 1998.
The company continues to aggressively pursue accretive acquisitions such as the
UPPCO C-Frame motor business and the previously discussed Scottsville compressor
motor business. The company considers the pursuit of such acquisitions to be a
very important element in its strategy for growth, especially considering the
slower near term prospects of its non-motor businesses. Although the company
believes 1999 earnings, excluding acquisitions, will increase over 1998 levels,
accretive acquisitions will be required to achieve its target of 15 percent
annual growth in earnings per share. The company recently indicated that it is
comfortable with analyst estimates for 1999 ranging between $1.95 and $2.05 per
share.
OTHER MATTERS
Year 2000
The company continues its efforts begun several years ago to address its
potential Year 2000 (Y2k) issues. It has organized its activities to prepare for
Y2k under a company-wide plan that involves four steps: Assessment,
Modification, Testing and Implementation.
The company's business segments operate independently of each other. Each
business segment has a core of full-time individuals who have been assigned
specific Y2k responsibilities in addition to their regular assignments. The Y2k
readiness project is a company-wide effort and is monitored centrally.
The assessment phase is complete and the modification phase is nearing
completion. Key customers, vendors and service providers have been queried about
their Y2k readiness and their responses are being analyzed. Follow-up efforts
have commenced to obtain feedback from critical suppliers.
The testing and implementation phases for renovated information technology (IT)
systems are underway. Implementation of all new and renovated systems that are
Y2k compliant should be completed by the end of the first quarter of 1999.
Testing should be completed by the end of 1999.
14
The company anticipates that it will be Y2k compliant by the end of 1999 with
respect to internal IT and non-IT systems and does not anticipate any material
adverse effect on its business operations, products or financial prospects.
Costs specifically associated with renovating software for Y2k readiness are
funded through operating cash flows and expensed as incurred. Y2k-related costs
have not had a material effect on the company's financial position or results of
operations. The company expects to incur total costs of approximately $2.0
million on the Y2k problem of which the remaining costs are estimated to be $500
thousand. Costs of replacing some of the company's systems with Year 2000
compliant systems have been capitalized as these new systems were acquired for
business reasons and not to remediate Y2k problems, if any, in the former
systems.
The company believes that all critical IT and non-IT systems and processes will
be Y2k compliant and allow the company to continue operations in the Year 2000
and beyond with no material impact on its financial position or results of
operations. Unanticipated problems including but not limited to, critical
suppliers and business partners not meeting their commitments to be Y2k ready
and the loss of critical skilled personnel, could result in an undetermined
financial risk.
As part of its ongoing Year 2000 Project, business continuity plans may be
expanded by the middle of 1999 for potential contingencies regarding currently
unforeseen Y2k problems.
Environmental
The company's operations are governed by a number of federal, state and local
environmental laws concerning the generation and management of hazardous
materials, the discharge of pollutants into the environment and remediation of
sites owned by the company or third parties. The company has expended
substantial financial and managerial resources complying with such laws.
Expenditures related to environmental matters were not material in 1998 and are
not expected to be material in any single year. Although the company believes
that its operations are in compliance with such laws and maintains procedures
designed to maintain compliance, there are no assurances that substantial
additional costs for compliance will not be incurred in the future. However,
since the same laws govern the company's competitors, the company should not be
placed at a competitive disadvantage.
Market Risk
The company is exposed to various types of market risks, primarily currency and
certain commodities. The company monitors its risks in such areas on a
continuous basis and, generally enters into futures contracts to minimize such
exposures for periods of less than one year. The company does not engage in
speculation in its derivatives strategies. Further discussion regarding
derivative instruments is contained in Note 1 to the Consolidated Financial
Statements.
Commodity risks include raw material price fluctuations. The company uses
futures contracts to fix the cost of its expected needs with the objective of
reducing risk. Futures contracts are purchased over time periods and at volume
levels which approximate expected usage. At December 31, 1998, the company had
commodity futures contracts amounting to approximately $38 million of commodity
purchases. A hypothetical 10 percent change in the underlying commodity price of
such contracts would have a potential impact of $3.8 million. It is important to
note that gains and losses from the company's future contract activities would
be offset by gains and losses in the underlying commodity purchase transactions
being hedged.
In addition, the company enters into foreign currency forward contracts to
minimize the effect of fluctuating foreign currencies. At December 31, 1998, the
company had foreign currency contracts outstanding of approximately $31 million.
Assuming a hypothetical 10 percent movement in the respective currencies, the
potential foreign exchange gain or loss associated with the change in rates
15
would amount to $3.1 million. It is important to note that gains and losses from
the company's forward contract activities would be offset by gains and losses in
the underlying transactions being hedged.
The majority of the company's debt is at fixed rates with insurance companies at
various maturities. The interest income on the company's cash equivalents is
subject to short term rate fluctuations. Due to the short-term nature of cash
investments and the majority of debt being held at fixed rates, the company
would not expect interest rate fluctuations to have a material impact on future
earnings or cash flows.
Forward Looking Statements
Certain statements in this report are forward-looking statements. Although the
company believes that its expectations are based upon reasonable assumptions
within the bounds of its knowledge of its business, there can be no assurance
that its financial goals will be realized. Although a significant portion of the
company's sales are derived from the replacement of previously installed product
and such sales are therefore less volatile, numerous factors may affect actual
results and may cause results to differ materially from those expressed in
forward-looking statements made by or on behalf of the company. Among such
numerous factors the company includes the continued growth of the worldwide
heating, ventilating and air conditioning market; the weather and its impact on
the heating and air conditioning market; the pricing environment for residential
water heaters; capital spending trends in the oil, petrochemical and chemical
markets; and the successful development of the company's business in China.
ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See "Market Risk" above.
16
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Financial Statements: Form 10-K
Page Number
Report of Independent Auditors.............................................18
Consolidated Balance Sheet at December 31, 1998 and 1997...................19
For each of the three years in the period ended December 31, 1998:
- Consolidated Statement of Earnings...................................20
- Consolidated Statement of Comprehensive Income.......................20
- Consolidated Statement of Cash Flows.................................21
- Consolidated Statement of Stockholders' Equity.......................22
Notes to Consolidated Financial Statements............................23 - 38
17
REPORT OF ERNST & YOUNG LLP,
INDEPENDENT AUDITORS
The Board of Directors and Stockholders
A. O. Smith Corporation
We have audited the accompanying consolidated balance sheet of A. O. Smith
Corporation as of December 31, 1998 and 1997 and the related consolidated
statements of earnings, comprehensive income, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 1998. Our
audits also included the financial statement schedule listed in the index in
Item 14(a). These financial statements and schedule are the responsibility of
the company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of A. O. Smith
Corporation at December 31, 1998 and 1997 and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
ERNST & YOUNG LLP
Milwaukee, Wisconsin
January 18, 1999
18
CONSOLIDATED BALANCE SHEET
December 31 (dollars in thousands)
- --------------------------------------------------------------------------------
1998 1997
- --------------------------------------------------------------------------------
Assets
Current Assets
Cash and cash equivalents $ 37,666 $145,896
Receivables 133,764 126,232
Inventories 99,984 79,049
Deferred income taxes 11,376 11,849
Other current assets 4,599 2,702
------- --------
Total Current Assets 287,389 365,728
Net property, plant, and equipment 248,770 207,756
Investments in and advances to joint ventures 2,449 25,605
Prepaid pension 51,525 37,468
Other assets 30,398 28,176
Goodwill 146,901 51,783
------- --------
Total Assets $767,432 $716,516
======= =======
Liabilities
- --------------------------------------------------------------------------------
Current Liabilities
Trade payables $ 57,429 $ 61,299
Accrued payroll and benefits 31,385 26,397
Accrued liabilities 18,094 13,556
Income taxes 6,786 6,607
Product warranty 7,892 7,972
Long-term debt due within one year 4,629 5,590
Net current liabilities-discontinued operations 5,942 6,461
------- --------
Total Current Liabilities 132,157 127,882
Long-term debt 131,203 100,972
Product warranty 19,370 18,349
Post retirement benefit obligation 17,417 16,756
Deferred income taxes 42,343 28,442
Other liabilities 23,849 24,410
------- --------
Total Liabilities 366,339 316,811
Commitments and contingencies (notes 7 and 12)
Stockholders' Equity
- --------------------------------------------------------------------------------
Preferred Stock - -
Class A Common Stock (shares issued 8,737,575
and 5,838,858) 43,688 29,192
Common Stock (shares issued 23,811,787 and
15,860,792) 23,812 15,861
Capital in excess of par value 51,121 72,542
Retained earnings 499,954 466,514
Accumulated other comprehensive income (1,488) (1,579)
Treasury stock at cost (215,994) (182,825)
------- --------
Total Stockholders' Equity 401,093 399,705
------- --------
Total Liabilities and Stockholders' Equity $ 767,432 $ 716,516
======= ========
See accompanying notes which are an integral part of these statements.
19
CONSOLIDATED STATEMENT OF EARNINGS
Years ended December 31 (dollars in thousands, except per share amounts)
- --------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- --------------------------------------------------------------------------------------------------------------------
Continuing Operations
Net sales $917,569 $832,937 $781,193
Cost of products sold 730,543 662,227 614,218
------- ------- -------
Gross profit 187,026 170,710 166,975
Selling, general, and administrative expenses 106,622 106,999 107,350
Interest expense 6,887 7,762 8,114
Interest income (3,828) (9,035) (341)
Other expense - net 4,382 3,328 5,629
------- ------- -------
72,963 61,656 46,223
Provision for income taxes 25,283 21,359 17,080
------- ------- -------
Earnings before equity in loss
of joint ventures 47,680 40,297 29,143
Equity in loss of joint ventures (3,189) (2,744) (3,894)
------- ------- -------
Earnings from Continuing Operations 44,491 37,553 25,249
Discontinued Operations
Earnings from operations less related income
tax (1997 - $7,698 and 1996 - $19,988) - 15,231 40,168
Gain on disposition less related income tax
of $71,538 - 101,046 -
------- ------- -------
Net Earnings $ 44,491 $153,830 $ 65,417
======= ======= =======
Basic Earnings Per Share of Common Stock
Continuing Operations $1.89 $1.36 $ .81
Discontinued Operations - 4.21 1.28
------- ------- -------
Net Earnings $1.89 $5.57 $2.09
======= ======= =======
Diluted Earnings Per Share of Common Stock
Continuing Operations $1.84 $1.33 $ .79
Discontinued Operations - 4.13 1.27
------- ------- -------
Net Earnings $1.84 $5.46 $2.06
======= ======= =======
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
Years ended December 31 (dollars in thousands)
- ----------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------------
Net earnings $44,491 $153,830 $65,417
Foreign currency translation 91 (1,637) 98
Translation adjustment related to
sale of Mexican affiliate - 7,459 -
------- ------- -------
Comprehensive Income $44,582 $159,652 $65,515
======= ======= =======
See accompanying notes which are an integral part of these statements
20
CONSOLIDATED STATEMENT OF CASH FLOWS
Years ended December 31 (dollars in thousands)
- --------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
Operating Activities
Continuing
Net earnings $ 44,491 $ 37,553 $ 25,249
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Depreciation and amortization 31,173 26,286 23,601
Equity in loss of joint ventures 3,189 2,744 3,894
Net change in current assets and liabilities (3,564) 7,212 21,746
Net change in other noncurrent assets and liabilities 1,719 4,958 3,312
Other 591 1,495 2,630
---------- --------- ----------
Cash Provided by Operating Activities 77,599 80,248 80,432
---------- --------- ----------
Investing Activities
Capital expenditures (27,876) (44,886) (37,804)
Acquisition of businesses (126,273) (60,918) (1,111)
Investment in joint ventures (7,138) (13,719) (15,147)
Other (2,139) (1,295) (2,567)
---------- --------- ----------
Cash Used by Investing Activities (163,426) (120,818) (56,629)
---------- --------- ----------
Cash Flow Provided (Used) by Continuing Operations
before Financing Activities (85,827) (40,570) 23,803
Discontinued
Cash provided (used) by operating activities (2,941) (106,132) 113,644
Cash used by investing activities - (52,456) (177,116)
Proceeds from disposition - 773,090 -
Tax payments associated with disposition - (106,039) -
---------- --------- ----------
Cash Flow Provided (Used) by Discontinued Operations
before Financing Activities (2,941) 508,463 (63,472)
Financing Activities
Long-term debt incurred 30,028 - 58,507
Long-term debt retired (5,590) (143,816) (4,000)
Purchase of treasury stock (33,241) (176,550) -
Net proceeds from common stock and option activity 224 3,757 539
Tax benefit from exercise of stock options 168 884 28
Dividends paid (11,051) (12,677) (13,807)
---------- --------- ----------
Cash Provided (Used) by Financing Activities (19,462) (328,402) 41,267
---------- --------- ----------
Net increase (decrease) in cash and cash equivalents (108,230) 139,491 1,598
Cash and cash equivalents--beginning of year 145,896 6,405 4,807
---------- --------- ----------
Cash and Cash Equivalents--End of Year $ 37,666 $ 145,896 $ 6,405
========= ========= ===========
See accompanying notes which are an integral part of these statements.
21
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Years ended December 31 (dollars in thousands)
- --------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- --------------------------------------------------------------------------------------------------------------------------
Class A Common Stock
Balance at beginning of year $ 29,192 $ 29,231 $ 29,443
Conversion of Class A Common Stock (94) (39) (212)
Three-for-two stock split 14,590 - -
---------- ---------- ---------
Balance at end of year $ 43,688 $ 29,192 $ 29,231
---------- ---------- ---------
Common Stock
Balance at beginning of year $ 15,861 $ 15,853 $ 15,811
Conversion of Class A Common Stock 19 8 42
Three-for-two stock split 7,932 - -
---------- ---------- ---------
Balance at end of year $ 23,812 $ 15,861 $ 15,853
---------- ---------- ---------
Capital in Excess of Par Value
Balance at beginning of year $ 72,542 $ 69,410 $ 68,871
Conversion of Class A Common Stock 75 31 170
Exercise of stock options 344 2,217 341
Tax benefit from exercise of stock options 168 884 28
Stock incentives and directors' compensation 561 - -
Three-for-two stock split (22,569) - -
---------- ---------- ---------
Balance at end of year $ 51,121 $ 72,542 $ 69,410
---------- --------- --------
Retained Earnings
Balance at beginning of year $ 466,514 $ 325,361 $273,751
Net earnings 44,491 153,830 65,417
Cash dividends on common stock (11,051) (12,677) (13,807)
----------- -------- -------
Balance at end of year $ 499,954 $ 466,514 $325,361
---------- -------- -------
Accumulated Other Comprehensive Income
Balance at beginning of year $ (1,579) $ (7,401) $ (7,499)
Foreign currency translation adjustments 91 (1,637) 98
Translation adjustments related to sale of
Mexican affiliate - 7,459 -
---------- ---------- ---------
Balance at end of year $ (1,488) $ (1,579) $ (7,401)
---------- ---------- ---------
Treasury Stock
Balance at beginning of year $(182,825) $ (7,815) $ (8,013)
Purchase of treasury stock (33,241) (176,550) -
Exercise of stock options, net of 7,416 shares
surrendered as proceeds in 1998 (73) 1,540 198
Stock incentives and directors' compensation 145 - -
---------- ---------- ---------
Balance at end of year $(215,994) $(182,825) $ (7,815)
-------- -------- ---------
Total Stockholders' Equity $ 401,093 $ 399,705 $424,639
======== ======== =======
See accompanying notes which are an integral part of these statements.
22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Significant Accounting Policies
Organization. A. O. Smith Corporation is a diversified manufacturer serving
customers world-wide. The company's major product lines include: fractional
horsepower, subfractional horsepower and hermetic electric motors; residential
and commercial water heaters; fiberglass piping systems and water waste water,
and dry storage systems. The company's products are manufactured and marketed
primarily in North America. The company has two plants in Europe and two plants
in China. Original equipment manufacturers are the largest customers of the
electric motor technologies unit. Water heaters are distributed principally
through a diverse network of plumbing wholesalers. Fiberglass piping is sold
through a network of distributors to the service station market and the
petroleum production industry as well as the chemical/industrial market. Storage
tanks are sold through a network of dealers to municipalities, industrial
concerns and farmers.
Consolidation and basis of presentation. The consolidated financial statements
include the accounts of the company and its wholly-owned subsidiaries.
Investment in joint ventures. At December 31, 1997, the company accounted for
its two joint ventures in the People's Republic of China on the equity method as
the local venture partners held certain participating rights. In December 1998,
the company bought out its partner in one of the joint ventures (see Note 3) and
accordingly, the company has consolidated this entity at December 31, 1998 while
continuing to account for the other joint venture on the equity method.
Use of estimates. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the accompanying financial
statements and notes. Actual results could differ from those estimates.
Fair values. The carrying amounts of cash and cash equivalents, receivables,
trade payables and long-term debt approximated fair value as of December 31,
1998 and 1997.
Foreign currency translation. For all subsidiaries outside the United States
with the exception of Mexico, the company uses the local currency as the
functional currency. For these operations, assets and liabilities are translated
into U.S. dollars at year-end exchange rates and revenues and expenses are
translated at weighted average exchange rates. The resulting translation
adjustments are recorded as a separate component of stockholders' equity. Gains
and losses from foreign currency transactions are included in net earnings.
Cash and cash equivalents. The company considers all highly liquid investments,
generally with a maturity of three months or less when purchased to be cash
equivalents. Cash equivalents, consisting principally of money market funds,
totaled $26.9 million at December 31, 1998 and $140 million at December 31,
1997. The cost of these securities are considered to be "available for sale" for
financial reporting purposes.
Inventory valuation. Inventories are carried at lower of cost or market. Cost is
determined on the last-in, first-out (LIFO) method for a significant portion of
domestic inventories. Inventories of foreign subsidiaries and supplies are
determined using the first-in, first-out (FIFO) method.
Property, plant and equipment. Property, plant and equipment are stated at cost.
Depreciation is computed primarily by the straight-line method.
Goodwill. Goodwill, representing the excess of cost over net assets of
businesses acquired, is stated at cost and is amortized on a straight-line basis
over the estimated periods benefited ranging from 15 to 40 years. Amortization
charged to operations amounted to $2.9 million, $1.4 million and $.5 million in
1998, 1997 and 1996, respectively.
23
1. Organization and Significant Accounting Policies (continued)
Impairment of long-lived assets. Property, plant and equipment, investments in
joint ventures, other long-term assets and goodwill are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount
may not be recoverable. If the sum of the expected undiscounted cash flows is
less than the carrying value of the related asset or group of assets, a loss is
recognized for the difference between the fair value and carrying value of the
asset or group of assets. Such analyses necessarily involve judgment.
Derivative instruments. The company enters into futures contracts to fix the
cost of certain raw material purchases, principally copper and aluminum, with
the objective of minimizing cost risk due to market fluctuations. Any
differences between the company's fixed price and current market prices are
included as part of the inventory cost when the contracts mature. As of December
31, 1998, the company had contracts covering the majority of its expected copper
and a portion of its expected aluminum requirements for 1999. These futures
contracts limit the impact from both favorable and unfavorable price changes.
The effect of these programs was not material to the results of operations for
the three years ended December 31, 1998.
As a result of having various foreign operations, the company is exposed to the
effect of foreign currency rate fluctuations on the U.S. dollar value of its
foreign subsidiaries. Further, the company and its subsidiaries conduct business
in various foreign currencies. To minimize the effect of fluctuating foreign
currencies on its income, the company enters into foreign currency forward
contracts. The contracts are used to hedge known foreign currency transactions
on a continuing basis for periods consistent with the company's exposures.
The company does not engage in speculation. The difference between market and
contract rates is recognized in the same period in which gains or losses from
the transactions being hedged are recognized. The contracts, which are executed
with major financial institutions, generally mature within one year with no
credit loss anticipated for failure of the counterparties to perform.
The following table summarizes, by currency, the contractual amounts of the
company's forward exchange contracts.
December 31 (dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------
Buy Sell Buy Sell
U.S. dollar $ 2,400 $2,400 $ 2,500 $ 6,400
British pound 498 1,991 2,563 1,139
French franc - - - 2,565
Canadian dollar - - 709 -
Mexican peso 32,535 - 32,486 -
------ -------- ------ ---------
Total $35,433 $4,391 $38,258 $10,104
====== ===== ====== ======
The contracts in place at December 31, 1998 and 1997 amounted to approximately
80 percent of the company's anticipated subsequent year exposure for those
currencies hedged.
Revenue recognition. The company recognizes revenue upon shipment of product to
the customer.
Research and development. Research and development costs are charged to expense
as incurred and amounted to approximately $17.8, 17.2 and $17.3 million for
continuing operations during 1998, 1997 and 1996, respectively.
24
1. Organization and Significant Accounting Policies (continued)
Environmental remediation costs. The company accrues for losses associated with
environmental obligations when such losses are probable and reasonably
estimable. Costs of estimated future expenditures are not discounted to their
present value. Recoveries of environmental remediation costs from other parties
are recorded as assets when their receipt is probable. The accruals are adjusted
as facts and circumstances change.
Stock split. On June 9, 1998 the company's Board of Directors declared a
three-for-two stock split of the company's Class A Common Stock and Common Stock
in the form of a stock dividend to stockholders of record on July 31, 1998 and
payable on August 17, 1998. All references in the financial statements to number
of shares outstanding, price per share, per share amounts and stock option plan
data have been restated to reflect the split.
Earnings per share of common stock.. The numerator for the calculation of basic
and diluted earnings per share is net earnings. The following table sets forth
the computation of basic and diluted weighted average shares used in the
earnings per share calculations:
1998 1997 1996
- --------------------------------------------------------------------------------
Denominator for basic earnings per share--
weighted average shares 23,583,790 27,634,307 31,383,292
Effect of dilutive stock options 600,114 556,978 350,997
---------- ---------- ----------
Denominator for diluted earnings per share 24,183,904 28,191,285 31,734,289
========== ========== ==========
Reclassifications. Certain prior year amounts have been reclassified to conform
to the 1998 presentation.
New accounting standards. During 1998, the Financial Accounting Standards Board
issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities" (the Statement), which is required to be adopted for years beginning
after June 15, 1999. The Statement will require the company to recognize all
derivatives in the balance sheet at fair value. The company will adopt the
Statement no later than January 1, 2000 and estimates that the effect will not
be material to its results of operations, financial position or cash flows.
During 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued two Statements of Position
(SOP) that are applicable to the company - SOP 98-1, "Accounting for the Costs
of Computer Software Developed or Obtained for Internal Use" and SOP 98-5,
"Reporting on the Costs of Start-up Activities". SOP 98-1 requires that certain
computer software costs be capitalized and SOP 98-5 requires costs of start-up
activities to be expensed as incurred. Since the company currently complies with
the requirements of SOP 98-1 and SOP 98-5, these pronouncements will have no
impact.
2. Acquisitions
On July 1, 1998, the company acquired certain assets of General Electric
Company's domestic compressor motor business (Scottsville) for $125.6 million.
On March 31, 1997, the company acquired UPPCO, Incorporated (UPPCO), a
manufacturer of subfractional C-frame electric motors, for approximately $60.9
million. On December 6, 1995, the company acquired the stock of Peabody TecTank
Inc. (TecTank), a manufacturer of dry bulk storage tanks, for approximately
$19.1 million, which included a final purchase price adjustment of $1.1 million
in 1996. The acquisitions were accounted for using the purchase method of
accounting and, accordingly, the financial statements include the operating
results of the acquisitions from their respective dates of acquisition. The
purchase prices have been allocated to the assets acquired and the liabilities
assumed based upon their respective fair values at the date of acquisition. The
excess of the purchase prices over the fair values of net assets acquired,
$92.6, $46.2 and $7.0 million for Scottsville, UPPCO and TecTank, respectively,
have been recorded as goodwill.
25
2. Acquisitions (continued)
As discussed in Note 1, the company purchased its partner's interest in its
water systems venture in December 1998. The excess of the consideration paid,
including the distribution to the partner of certain inventories and equipment,
over the fair values of the assets acquired amounted to $5.3 million and has
been recorded as goodwill.
On a pro forma basis, the unaudited consolidated results from continuing
operations assuming the acquisition of Scottsville and UPPCO occurred on January
1, 1997 follows:
Years ended December 31 (dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------
Net sales $984,370 $964,043
Earnings 47,841 40,749
Earnings per share:
Basic 2.03 1.47
Diluted 1.98 1.45
The pro-forma results have been prepared for informational purposes only and
include adjustments to depreciation expense of acquired plant and equipment,
amortization of goodwill, increased interest expense on acquisition debt and
certain other adjustments, together with related income tax effects of all such
adjustments. Anticipated efficiencies from the consolidation of certain
manufacturing activities and anticipated lower material costs related to the
consolidation of purchasing have been excluded from the amounts included in the
pro forma operating results. These pro-forma results do not purport to be
indicative of the results of operations that would have occurred had the
purchases been made as of the beginning of the periods presented or of the
results of operations that may occur in the future.
3. Discontinued Operations
On April 18, 1997, the company sold its automotive products business, excluding
its Mexican automotive affiliate, for $710 million. On October 1, 1997, the
company sold the remainder of its automotive business with the sale of its 40%
interest in its Mexican affiliate (Metalsa) for $63 million. The operating
results of the automotive businesses prior to their disposition have been
reported separately as discontinued operations in the accompanying financial
statements. Net sales of the discontinued operations were $296.2 and $863.0
million for the period ended April 18, 1997 and year ended December 31, 1996,
respectively.
Liabilities of the discontinued business at December 31, 1998 and 1997 consisted
primarily of employee obligations and other retained liabilities net of deferred
income taxes. Certain expenses were allocated to the discontinued operations
through the date of sale, including interest expense, which was allocated based
on the ratio of net assets of the discontinued operations to the total
consolidated net assets of the company.
4. Statement of Cash Flows
Supplemental cash flow information is as follows:
Years ended December 31 (dollars in thousands) 1998 1997 1996
- -----------------------------------------------------------------------------
Receivables $ 5,977 $ 2,870 $13,945
Inventories (8,897) 7,539 (5,491)
Other current assets (906) 1,187 434
Trade payables (4,527) (8,346) 13,187
Accrued liabilities, including
payroll and benefits 4,694 1,894 (539)
Income taxes 95 2,068 210
------ ------ -------
$(3,564) $ 7,212 $21,746
====== ====== ======
26
5. Inventories
December 31 (dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------
Finished products $58,534 $ 45,091
Work in process 18,354 19,656
Raw materials 50,542 42,870
Supplies 1,350 1,634
------- -------
128,780 109,251
Allowance to state inventories at LIFO cost 28,796 30,202
------- -------
$ 99,984 $ 79,049
======= =======
6. Property, Plant and Equipment
December 31 (dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------
Land $ 6,575 $ 6,323
Buildings 101,134 91,127
Equipment 399,324 352,697
------- -------
507,033 450,147
Less accumulated depreciation 258,263 242,391
------- -------
$248,770 $207,756
======= =======
Interest on borrowed funds during construction of $1.5, $1.0 and $.2 million was
capitalized in 1998, 1997 and 1996, respectively.
7. Long-Term Debt and Lease Commitments
December 31 (dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------
Bank credit lines, average year-end interest
rate of 6.4% for 1998 and 4.8% for 1997 $ 6,789 $ 1,929
Notes with insurance companies, expiring
through 2018, average year-end interest
rate of 7.0% for 1998 and 7.1% for 1997 111,543 86,172
Other notes, expiring through 2012, average
year-end interest rate of 4.6% for 1998
and 5.2% for 1997 17,500 18,461
------- -------
135,832 106,562
Less amount due within one year 4,629 5,590
------- -------
$131,203 $100,972
======= =======
The company has a $100 million multi-year revolving credit agreement with a
group of nine banks which expires June 30, 2001. At its option, the company
maintains either cash balances or pays fees for bank credit and services.
On July 1, 1998, the company issued $30 million in senior notes under a loan
facility with the Prudential Insurance Company of America. The notes mature in
2018 and carry an interest rate of 6.66%.
27
7. Long-Term Debt and Lease Commitments (continued)
The company's credit agreement and term loans contain certain conditions and
provisions which restrict the company's payment of dividends. Under the most
restrictive of these provisions, retained earnings of $65.8 million were
unrestricted as of December 31, 1998.
Borrowings under the bank credit lines are supported by the revolving credit
agreement and accordingly, have been classified as long-term. It has been the
company's practice to renew or replace the revolving credit agreement so as to
maintain the availability of debt on a long-term basis and to provide 100
percent backup for its bank credit lines borrowings.
Long-term debt, maturing within each of the five years subsequent to December
31, 1998, is as follows: 1999-$4.6; 2000-$9.6; 2001-$11.1; 2002-$13.3;
2003-$11.7 million.
Future minimum payments under noncancelable operating leases from continuing
operations total $40.1 million and are due as follows: 1999-$8.6; 2000-$6.3;
2001-$5.4; 2002-$4.0; 2003-$3.3; and thereafter- $12.5 million. Rent expense for
continuing operations, including payments under operating leases, was $14.3,
$12.9 and $12.1 million in 1998, 1997 and 1996, respectively.
Interest paid by the company for continuing and discontinued operations, was
$6.4, $13.0 and $15.1 million in 1998, 1997 and 1996, respectively.
8. Stockholders' Equity
The company's authorized capital consists of 3 million shares of Preferred Stock
$1 par value, 14 million shares of Class A Common Stock $5 par value and 60
million shares of Common Stock $1 par value. The Common Stock has equal dividend
rights with Class A Common Stock and is entitled, as a class, to elect 25
percent of the board of directors and has 1/10th vote per share on all other
matters.
During 1998, 1997 and 1996, 19,914, 10,950 and 63,665 shares of Class A Common
Stock were converted into Common Stock, respectively. Regular dividends paid on
the Class A Common and Common Stock amounted to $.47, $.45 and $.44 per share in
1998, 1997 and 1996, respectively.
On January 27, 1997, the company's Board of Directors approved the repurchase of
up to 3 million shares of Common Stock. On June 10, 1997 and December 9, 1997,
the Board authorized the repurchase of up to $80 million and $50 million,
respectively, of additional Common Stock. During 1998 and 1997, the company
purchased 4,800 and 21,750 shares of Class A Common Stock and 1,183,650 and
7,211,063 shares of Common Stock, respectively. At December 31, 1998, 31,740 and
9,226,036 shares of Class A Common Stock and Common Stock, respectively, were
held as treasury stock. At December 31, 1997, 26,940 and 8,089,341 shares of
Class A Common Stock and Common Stock, respectively, were held as treasury
stock.
9. Stock Options
The company has two Long-Term Executive Incentive Compensation Plans for
granting of nonqualified and incentive stock options to key employees. These
plans have terminated except as to outstanding options. The company will submit
a proposal to stockholders in 1999 for approval to reserve an additional 1.5
million shares of Common Stock under a new Long-Term Executive Incentive
Compensation Plan (2000 Plan). Options become exercisable one year from date of
grant and, for active employees, expire ten years after date of grant. The
number of shares available for granting of options at December 31, 1997 and 1996
was 221,550 and 396,600, respectively. Options as to 55,800 shares granted in
1998 under the 2000 Plan are subject to approval by the stockholders.
28
9. Stock Options (continued)
Changes in option shares, all of which are Common Stock, were as follows:
Weighted
Average
Per Share Years Ended December 31
Exercise ---------------------------------------------------
Price-1998 1998 1997 1996
--------------- ---- ---- ----
Outstanding at beginning of year $13.22 1,883,025 1,963,200 1,686,900
Granted
1998--$18.31 to $29.83 per share 18.63 277,350
1997--$27.25 per share 175,050
1996--$16.33 and $18.00 per share 309,150
Exercised
1998--$5.79 to $18.33 per share 8.34 (137,475)
1997--$5.63 to $18.33 per share (255,225)
1996--$5.63 to $18.33 per share (32,850)
- --------- ---------- ---------
Outstanding at End of Year
(1998--$4.67 to $29.83 per share) 14.29 2,022,900 1,883,025 1,963,200
========= ========= =========
Exercisable at End of Year 13.60 1,745,550 1,707,975 1,654,050
========= ========= =========
During 1998, an executive elected to defer the gain related to the exercise of
107,100 options. As a result, the executive deferred the receipt of 79,870
shares of Common Stock for which the company's obligation to issue the shares is
included within Stockholders' Equity.
The following table summarizes weighted-average information by range of exercise
prices for stock options outstanding and exercisable at December 31, 1998:
Weighted-
Options Weighted Options Weighted Average
Outstanding at Average Exercisable at Average Remaining
Range of December 31, Exercise December 31, Exercise Contractual
Exercise Prices 1998 Price 1998 Price Life
- ------------------- -------------- -------- -------------- -------- -----------
$4.67 to $5.63 537,600 $5.16 537,600 $ 5.16 2 years
$8.67 163,200 8.67 163,200 8.67 4 years
$16.33 to $18.33 1,138,200 17.31 869,700 17.00 8 years
$25.25 to $29.83 183,900 27.30 175,050 27.25 9 years
--------- ----------
2,022,900 1,745,550
========= =========
SFAS No. 123, "Accounting for Stock-Based Compensation," encourages, but does
not require companies to record compensation cost for stock-based employee
compensation plans at fair value. The company has chosen to continue applying
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations in accounting for its stock option
plans. Accordingly, because the number of shares is fixed and the exercise price
of the stock options equals the market price of the underlying stock on the date
of grant , no compensation expense has been recognized. Had compensation cost
been determined based upon the fair value at the grant date for awards under the
plans based on the
29
9. Stock Options (continued)
provisions of SFAS No. 123, the company's pro forma earnings and earnings per
share from continuing operations would have been as follows:
Years ended December 31 (dollars in thousands, except per share amounts)
- --------------------------------------------------------------------------------
1998 1997 1996
- --------------------------------------------------------------------------------
Earnings:
As reported $44,491 $ 37,553 $ 25,249
Pro forma 43,637 36,655 24,370
Earnings per share:
As reported:
Basic $1.89 $1.36 $ .81
Diluted 1.84 1.33 .79
Pro forma:
Basic 1.85 1.33 .78
Diluted 1.80 1.31 .77
The weighted-average fair value per option at the date of grant during 1998,
1997 and 1996 using the Black-Scholes option-pricing model, was $6.26, $7.51 and
$4.97, respectively. Assumptions were as follows:
1998 1997 1996
- --------------------------------------------------------------------------------
Expected life (years) 4.0 4.0 4.0
Risk-free interest rate 4.6% 5.9% 6.3%
Dividend yield 2.1% 2.0% 2.1%
Expected volatility 44.1% 30.4% 34.7%
30
10. Pension and Other Post-retirement Benefits
The company provides retirement benefits for all United States employees and has
several foreign pension plans, none of which are material to the company's
financial position. Plan assets consist primarily of marketable equities and
debt securities. The company also has several unfunded defined benefit
post-retirement plans covering certain hourly and salaried employees which
provide medical and life insurance benefits from retirement to age 65.
The following tables present the changes in benefit obligation, plan assets,
funded status and major assumptions used to determine these amounts for domestic
pension and post-retirement plans.
Pension Benefits Other Benefits
---------------- --------------
Years ended December 31 (dollars in thousands) 1998 1997 1998 1997
- ------------------------------------------------------------------------------------------------------------------
Change in benefit obligations
Benefit obligation at beginning of year $(495,215) $(441,766) $(15,208) $(14,999)
Service cost (4,368) (2,765) (194) (222)
Interest cost (35,761) (35,944) (1,026) (1,155)
Participant contributions - - (165) (132)
Plan amendments (2,462) (984) - 1,133
Acquisitions - - (1,627) -
Actuarial losses including
assumption changes (25,543) (47,014) (129) (1,334)
Benefits paid 35,752 33,258 2,037 1,501
-------- --------- ------- -------
Benefit obligation at end of year $(527,597) $(495,215) $(16,312) $(15,208)
======== ======== ======= =======
Change in plan assets
Fair value of plan assets at beginning of year $ 580,865 $ 503,933 $ - $ -
Actual return on plan assets 83,743 110,190 - -
Contribution by the company - - 1,872 1,369
Participant contributions - - 165 132
Benefits paid (35,752) (33,258) (2,037) (1,501)
-------- --------- ------- -------
Fair value of plan assets at end of year $ 628,856 $ 580,865 $ - $ -
======== ======== ======= =======
Funded status $ 101,259 $ 85,650 $(16,312) $(15,208)
Unrecognized net transition asset (2,376) (3,315) - -
Unrecognized net actuarial gain (51,985) (47,378) (1,755) (2,046)
Unrecognized prior service cost 4,627 2,511 (981) (1,133)
-------- --------- --------- --------
Prepaid pension asset (accrued cost) $ 51,525 $ 37,468 $(19,048) $(18,387)
======== ======== ======= =======
Major assumptions as of December 31
Discount rate 7.00% 7.25% 7.00% 7.25%
Expected return on plan assets 10.25% 10.25% n/a n/a
Rate of compensation increase 4.00% 4.00% 4.00% 4.00%
Health care cost trend rate n/a n/a 6.00% 6.00%
31
10. Pension and Other Post-retirement Benefits (continued)
Pension Benefits Other Benefits
-------------------------------- ------------------------------
Years ended December 31 (dollars in thousands) 1998 1997 1996 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------------------
Components of net periodic benefit cost
Service cost $ 4,368 $ 2,765 $ 2,815 $ 194 $ 222 $ 298
Interest cost 35,761 35,944 9,610 1,026 1,155 1,318
Expected return on plan assets (53,100) (49,845) (18,589) - - -
Amortization of prior service cost 346 959 484 (152) - -
Amortization of transition asset (939) (939) (1,791) - - -
Amortization of net actuarial gain - - (62) (162) (367) (117)
------- ------- ------- ---- ----- -----
Benefit cost (income) $(13,564) $(11,116) $ (7,533) $ 906 $1,010 $1,499
======= ======= ======= ==== ===== =====
Net periodic benefit cost is determined using the assumptions as of the
beginning of the year. The funded status is determined using the assumptions as
of the end of the year.
Pursuant to the agreement to sell the automotive products business, the buyer
assumed the obligations for all post-retirement benefits other than pensions.
The company retained all existing pension assets as well as all pension benefit
obligations earned through the closing date. Accordingly, investment return on
these assets and interest cost on the obligation subsequent to the sale are
included in the calculation of net periodic pension income, whereas, such
amounts prior to the sale are excluded as they were allocated to the components
of discontinued operations pension expense. Subsequent to the closing date, the
buyer assumed the responsibility for pension service earned by active employees
of the automotive business.
Accrued post-retirement benefit cost is included in the consolidated balance
sheet in the accounts shown below:
December 31 (dollars in thousands) 1998 1997
- ---------------------------------------------------------------------
Accrued liabilities $ 1,631 $ 1,631
Post retirement benefit obligation 17,417 16,756
------ ------
Accrued postretirement benefit cost $19,048 $ 18,387
====== =======
The company does not provide post-retirement health care benefits beyond age 65.
Certain hourly employees retiring after January 1, 1996 are subject to a maximum
annual benefit and salaried employees hired after December 31, 1993 are not
eligible for post-retirement medical benefits. As a result, a one percentage
point change in the health care cost trend rate would not have a significant
effect on the amounts reported.
The company has a defined contribution profit sharing and retirement plan
covering salaried nonunion employees which provides for annual corporate
contributions of 35 percent to 140 percent of qualifying contributions made by
participating employees. The amount of the company's contribution in excess of
35 percent is dependent upon the company's profitability. The company's
contribution, including amounts for discontinued operations through the sale
date, was $3.5, $3.5 and $5.3 million for 1998, 1997 and 1996, respectively.
32
11. Income Taxes
The components of the provision for income taxes for continuing operations
consisted of the following:
Years ended December 31 (dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------
Current:
Federal $14,633 $26,475 $13,002
State 1,236 607 3,143
Foreign 718 894 708
Deferred 9,796 (4,917) 627
Business tax credits (1,100) (1,700) (400)
------ -------- -------
Provision for income taxes $25,283 $21,359 $17,080
====== ====== ======
The tax provision differs from the statutory U.S. federal rate due to the
following items:
Years ended December 31 (dollars in thousands) 1998 1997 1996
- --------------------------------------------------------------------------------
Provision at federal statutory rate $25,537 $21,580 $16,178
Foreign income taxes (662) (158) 5
State income and franchise taxes 1,807 1,450 1,581
Business and foreign tax credits (1,100) (1,700) (400)
Non-deductible items 555 568 675
Foreign sales corporation benefit (854) (381) (959)
------ ------ -------
Provision for income taxes $25,283 $21,359 $17,080
====== ====== ======
The domestic and foreign components of income from continuing operations before
income taxes were as follows:
Years ended December 31 (dollars in thousands) 1998 1997 1996
- --------------------------------------------------------------------------------
Domestic $68,491 $58,740 $43,527
Foreign 4,472 2,916 2,696
------ ------ ------
$72,963 $61,656 $46,223
====== ====== ======
Total taxes paid by the company amounted to $6.5, $133.6 and $29.9 million in
1998, 1997 and 1996, respectively.
No provision for U.S. income taxes has been made on the undistributed earnings
of foreign subsidiaries as such earnings are considered to be permanently
invested. At December 31, 1998, the undistributed earnings amounted to $14.7
million. It is not practical to determine the income tax liability that would
result had such earnings been repatriated. In addition, no provision or benefit
for U. S. income taxes have been made on foreign currency translation gains or
losses.
33
11. Income Taxes (continued)
The approximate tax effects of temporary differences of assets and liabilities
between income tax and financial reporting for continuing operations are as
follows:
December 31 (dollars in thousands)
- -------------------------------------------------------------------------------------
1998 1997
-------------------- ---------------------
Assets Liabilities Assets Liabilities
- -------------------------------------------------------------------------------------
Employee benefits $15,374 $20,754 $12,765 $13,655
Product liability and warranty 9,381 - 9,021 -
Depreciation differences - 28,877 - 17,338
Finance leases - 1,208 - 2,025
All other - 4,883 - 5,361
------ ------- ------- ------
$24,755 $55,722 $ 21,786 $38,379
====== ====== ======= ======
Net liability $30,967 $16,593
====== ======
These deferred tax assets and liabilities are classified in the balance sheet as
current or long-term based on the balance sheet classification of the related
assets and liabilities as follows:
December 31 (dollars in thousands) 1998 1997
- ----------------------------------------------------------------------------
Current deferred income tax assets $ 11,376 $ 11,849
Long-term deferred income tax liabilities (42,343) (28,442)
------- --------
Net liability $ 30,967 $ 16,593
======= =======
12. Litigation and Insurance Matters
The company is involved in various unresolved legal actions, administrative
proceedings and claims in the ordinary course of its business involving product
liability, property damage, insurance coverage, patents and environmental
matters including the disposal of hazardous waste. Although it is not possible
to predict with certainty the outcome of these unresolved legal actions or the
range of possible loss or recovery, the company believes these unresolved legal
actions will not have a material effect on its financial position or results of
operations. The following paragraphs summarize noteworthy actions and
proceedings.
A lawsuit for damages and declaratory judgments in the Circuit Court of
Milwaukee County, State of Wisconsin, in which the company is plaintiff is
pending against three insurance companies for failure to pay in accordance with
liability insurance policies issued to the company. The insurers have failed to
pay, in full or in part, certain judgments, settlements and defense costs
incurred in connection with closed lawsuits alleging damages for economic losses
claimed to have arisen out of alleged defects in Harvestore animal feed storage
equipment ("underlying claims"). In October 1998, the Wisconsin Appellate Court,
First District, entered an order which reversed the decision of the Circuit
Court which had granted the company partial summary judgment against two
insurance companies with respect to three of the underlying claims. The
company's petition to the Wisconsin Supreme Court to accept its appeal of this
decision was denied in January 1999 and the Appellate Court remanded the case to
the trial court with directions to grant summary judgment in favor of the two
insurance companies with respect to the subject underlying claims. The lawsuit
is continuing in the trial court with respect to the balance of the underlying
claims brought by the company against those two insurance companies and the
third insurance company. While the company has, in part, assumed applicability
of this coverage, an adverse judgment should not be material to its financial
condition.
34
12. Litigation and Insurance Matters (continued)
When the United States Environmental Protection Agency ("EPA") or state
environmental agencies (collectively "Regulatory Agencies") determine that
hazardous substances have been released to the environment at a site (a
"Contaminated Site"), they may designate parties they believe have contributed
hazardous materials to the site as potentially responsible parties ("PRPs").
Under applicable environmental laws, each PRP that contributed hazardous
substances to a Contaminated Site may be jointly and severally liable for the
costs associated with cleaning up the site. Typically, PRPs negotiate with the
relevant Regulatory Agencies regarding the selection and implementation of a
plan to clean up the site and the terms of the PRPs' involvement in the process.
PRPs also negotiate with each other regarding allocation of each PRP's share of
the clean up costs.
As part of its routine business operations, the company disposes of and recycles
or reclaims certain industrial waste materials, chemicals and solvents at
disposal and recycling facilities which are licensed by appropriate Regulatory
Agencies and are owned and operated by third parties unrelated to the company.
The company is currently involved as a PRP in judicial and administrative
proceedings initiated on behalf of Regulatory Agencies seeking to clean up
eleven such Contaminated Sites and to recover costs they have incurred or will
incur as to those sites. The company has also been designated a PRP with respect
to a former mining site in Colorado which is a Contaminated Site being cleaned
up by the EPA. The company held the majority of the stock of a Colorado mining
company for a period of time from 1935 to 1942. Estimates of clean up costs at
this site have exceeded $150,000,000. The company maintains that its status as a
stockholder does not confer any liability on it for remediation of the site and
accordingly has not participated in remediation. Nonetheless, it is monitoring
the EPA's actions with respect to the site. While it is impossible to rule out
any EPA action, the company believes it has valid defenses to any liability at
this site and will vigorously defend any claims made against it with respect to
the site.
It is impossible at this time to estimate the total cost of remediation for the
twelve Contaminated Sites, or the company's ultimate share of those costs,
primarily because the sites are in various stages of the remediation process and
issues remain open at many sites concerning the selection and implementation of
the final remedy, the cost of that remedy and the company's liability at a site
relative to the liability and viability of the other PRPs. Other uncertainties
are based upon the current status of the law.
Expenditures and reserves related to cleaning up the environment at Contaminated
Sites have not been material to the company in any single year, including 1998
and, based on information known to the company, are not expected to be material
to the company in any single year in the future. The company has established
reserves for these matters in a manner that is consistent with generally
accepted accounting principles for costs associated with such clean ups when
those costs are capable of being reasonably estimated. To the best of the
company's knowledge, the reserves it has established and insurance proceeds that
are available to the company are sufficient to cover the company's liability at
the known Contaminated Sites. The company further believes its insurers have the
financial ability to pay any such covered claims and there are viable PRPs at
each of the sites which have the financial ability to pay their respective
shares of liability at the sites.
With respect to non-environmental claims, the company has self-insured a portion
of its product liability loss exposure and other business risks for many years.
The company has established reserves which it believes are adequate to cover
incurred claims. For the year ended December 31, 1998, the company had $60
million of third-party product liability insurance for individual losses in
excess of $1.5 million and for aggregate losses in excess of $10 million.
35
13. Operations by Segment
The company reevaluates its exposure on claims periodically and makes
adjustments to its reserves as appropriate.
In 1998, the company adopted SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," which supersedes SFAS No. 14, "Financial
Reporting for Segments of a Business Enterprise, replacing the "Industry
segment" approach with the "management" approach. The management approach
designates the internal organization that is used by management for making
operating decisions and assessing performance as the source of the company's
reportable segments. SFAS No. 131 also requires disclosures about products and
services, geographic areas and major customers. The adoption of SFAS No. 131 did
not affect results of operations or financial position but did result in the
restatement of the historical segment information presented for 1997 and 1996.
The company is organized based on the products it offers and under this
organizational structure has two reportable segments: Electric Motor
Technologies and Water System Technologies, with other insignificant segments
being aggregated as "Other". The Electric Motor Technologies segment
manufactures fan motors used in furnaces, air conditioners and blowers, as well
as fractional horsepower motors used in other consumer products and jet pump
motors sold to manufacturers of home water systems, swimming pools, hot tubs and
spas. In addition, the Electric Motor Technologies segment manufactures hermetic
motors which are sold worldwide to manufacturers of compressors used in air
conditioning and refrigeration systems, as well as subfractional horsepower
motors used in appliances, builders' products and a number of other
applications. The Water Systems Technologies segment manufactures residential
gas and electric water heaters as well as commercial water heating systems used
in a wide range of applications including hotels, laundries, car washes,
factories and large institutions. The other segment is comprised of two
operating segments; one manufactures fiberglass piping systems and the other
manufactures liquid and dry bulk storage systems. Neither of these operating
segments represented a minimum of ten percent of total segment revenues, assets
or profits in 1998 and are not projected to achieve these thresholds in the near
future.
The accounting policies of the segments are the same as those described in the
"Summary of Significant Accounting Policies" outlined in Note 1. Intersegment
sales have been excluded from segment revenues and are immaterial. Earnings
before interest and taxes (EBIT), as adjusted for the pretax equity in the
losses of the company's joint ventures, is used to measure the performance of
the segments and allocate resources.
36
13. Operations by segment (continued)
Operations by segment
Earnings before
Interest and Taxes Net Sales
-------------------------- -------------------------
Years ended December 31 (dollars in millions) 1998 1997 1996 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
Electric Motor Technologies $55.7 $45.0 $42.4 $480.0 $390.7 $337.1
Water Systems Technologies 29.6 28.9 29.0 294.8 287.5 291.3
Other 8.4 10.7 11.1 142.8 154.7 152.8
---- ---- ----- ----- ----- ------
Total Segments 93.7 84.6 82.5 $917.6 $832.9 $781.2
===== ===== =====
Financial Services (0.6) (4.1) (2.8)
General Corporate and Research
and Development Expenses (22.3) (24.6) (29.6)
Interest (Expense) Income - Net (3.1) 1.3 (7.8)
------- ----- -----
Earnings from Continuing Operations
before Income Taxes 67.7 57.2 42.3
Provision for Income Taxes (23.2) (19.6) (17.1)
------ ------ ------
Earnings from Continuing Operations $ 44.5 $ 37.6 $25.2
====== ===== ====
Electric Motor Technologies included sales to York International of $128.5,
$93.5 and $91.5 million in 1998, 1997 and 1996, respectively.
Assets, depreciation and capital expenditures by segment
Depreciation and Capital
Amortization Expenditures
Total Assets (Years Ended (Years Ended
(December 31) December 31) December 31)
- ----------------------------------------------------------------------------------------------------------------------
(dollars in millions) 1998 1997 1996 1998 1997 1996 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------------
Electric Motor Technologies $378.5 $239.8 $163.1 $18.8 $14.1 $12.1 $14.0 $27.9 $19.8
Water System Technologies 168.1 161.0 152.8 6.7 6.6 6.3 4.2 9.0 13.0
Other 94.3 92.5 87.6 4.7 4.7 4.6 9.4 7.5 4.2
------ ------ ----- ----- ----- ----- ----- ----- -----
Total Segments 640.9 493.3 403.5 30.2 25.4 23.0 27.6 44.4 37.0
Corporate Assets 126.5 223.2 110.1 1.0 0.9 0.6 0.3 0.5 0.8
Discontinued Operations - - 357.6 - 13.2 40.8 - 39.1 132.4
------ ------ ----- ----- ----- ----- ----- ----- -----
Total $767.4 $716.5 $871.2 $31.2 $39.5 $64.4 $27.9 $84.0 $170.2
====== ====== ===== ===== ===== ===== ===== ===== =====
Corporate assets consist primarily of cash, cash equivalents, deferred taxes and
prepaid pension.
37
13. Operations by segment (continued)
Net sales and long-lived assets by geographic location
The following data by geographic area includes net sales based on product
shipment destination and long-lived assets based on physical location.
Long-lived assets include net property, plant and equipment and other long-term
assets and exclude intangible assets and long-lived assets of discontinued
operations.
Net Sales Long-Lived Assets
---------------------- -----------------------
(dollars in millions) 1998 1997 1996 1998 1997 1996
- --------------------------------------------------------------------------------
United States $818.2 $735.3 $690.4 $230.8 $193.5 $194.8
Mexico 7.5 5.8 4.0 71.7 70.6 60.5
Other Foreign 91.9 91.8 86.8 28.3 34.9 26.3
------ ------ ------ ------ ------ ------
Total $917.6 $832.9 $781.2 $330.8 $299.0 $281.6
===== ===== ===== ===== ===== =====
14. Quarterly Results of Operations (Unaudited)
(dollars in millions, except per share amounts)
- -----------------------------------------------------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
1998 1997 1998 1997 1998 1997 1998 1997
- -----------------------------------------------------------------------------------------------------------
Net sales - continuing $222.9 $196.2 $226.7 $224.9 $243.3 $206.0 $224.7 $205.8
Gross profit - continuing 45.8 42.8 47.8 48.6 47.0 38.9 46.4 40.4
Earnings
Continuing 10.2 7.1 12.6 11.7 11.0 9.0 10.7 9.8
Discontinued - 12.8 - 96.1 - 1.0 - 6.4
Net earnings 10.2 19.9 12.6 107.7 11.0 10.0 10.7 16.2
Basic earnings per share
Continuing .42 .23 .54 .41 .47 .34 .46 .39
Discontinued - .42 - 3.40 - .04 - .25
Net earnings .42 .65 .54 3.81 .47 .38 .46 .64
Diluted earnings per share
Continuing .41 .23 .52 .40 .46 .33 .45 .37
Discontinued - .41 - 3.33 - .04 - .25
Net earnings .41 .64 .52 3.73 .46 .37 .45 .62
Common dividends declared .11 .11 .11 .11 .12 .11 .12 .11
Net earnings and dividends declared per share are computed separately for each
period and, therefore, the sum of such quarterly per share amounts may differ
from the total for the year.
See note 7 for restrictions on the payment of dividends.
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
38
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information included under the heading "Election of Directors" in the
corporation's definitive Proxy Statement dated March 5, 1999 for the Annual
Meeting of Stockholders to be held April 14, 1999 is incorporated herein by
reference. The information required regarding Executive Officers of the
corporation is included in Part I of this Form 10-K under the caption "Executive
Officers of the Corporation."
The information included under the heading "Compliance with Section 16(a) of the
Securities Exchange Act" in the corporation's definitive Proxy Statement dated
March 5, 1999 for the Annual Meeting of Stockholders to be held on April 14,
1999 is incorporated herein by reference.
ITEM 11 - EXECUTIVE COMPENSATION
The information included under the heading "Executive Compensation" in the
corporation's definitive Proxy Statement dated March 5, 1999 for the April 14,
1999 Annual Meeting of Stockholders is incorporated herein by reference, except
for the information required by paragraphs (i), (k) and (l) of Item 402(a)(8) of
Regulation S-K.
In addition, the information so incorporated by reference is revised to reflect
the following matters, which were unintentionally not reflected in such Proxy
Statement:
(a) the following should be added to the information under the heading
"Director Compensation" in the Proxy Statement: "In 1998 the A. O.
Smith Non-Employee Directors' Retirement Plan was terminated. The
participation of current directors in the Plan ceased and shares
of Common Stock with an aggregate market value equivalent to the
present value of the director's future benefit under the Plan were
awarded to each director. The shares awarded have been deferred
under the Directors' Deferred Compensation Plan. A total of 13,138
shares of Common Stock were awarded and deferred including 3,338;
3,846; 3,338; 348 and 2,268 shares respectively for Messrs.
Barrett, Schuenke, Arthur O. Smith and Bruce M. Smith and Dr.
Pytte".
(b) Mr. Bertrand's salary for 1998 as set forth in the Summary
Compensation Table should be $220,000 rather than $200,000.
39
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information included under the headings "Principal Stockholders" and
"Security Ownership of Directors and Management" in the corporation's Proxy
Statement dated March 5, 1999 for the April 14, 1999 Annual Meeting of
Stockholders is incorporated herein by reference.
In addition, the information so incorporated by reference is revised to reflect
the following, which was unintentionally not reflected in such Proxy Statement:
Amounts shown in the column the heading of which is "Amount and Nature of
Beneficial Ownership" under the heading "Security Ownership of Directors and
Management" in the Proxy Statement for Messrs. Barrett, Buehler, Pokelwaldt,
Schuenke and Dr. Pytte and for all directors, nominees and executive officers as
a group include 3,672; 295; 295; 4,180 and 2,602 shares, respectively, of Common
Stock, the receipt of which such persons have deferred under the Directors'
Deferred Compensation Plan. In addition, amounts shown in such column for
Messrs. Arthur O. Smith and Bruce M. Smith do not include 3,672 and 682 shares,
respectively, of Common Stock, the receipt of which such persons have deferred
under the Directors' Deferred Compensation Plan, and the amount shown in such
column for all directors, nominees and executive offices as a group does not
include such shares.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information included under the headings and "Compensation Committee
Interlocks and Insider Participation" in the corporation's Proxy Statement dated
March 5, 1999 for the April 14, 1999 Annual Meeting of Stockholders is
incorporated herein by reference.
40
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES and REPORTS ON FORM 8-K
(a) Financial Statements and Financial Statement Schedules
Form 10-K
Page Number
-----------
The following consolidated financial statements
of A. O. Smith Corporation are included in Item 8:
Consolidated Balance Sheet at December 31, 1998 and 1997.... 19
For each of the three years in the period ended
December 31, 1998:
- Consolidated Statement of Earnings .................... 20
- Consolidated Statement of Comprehensive Income......... 20
- Consolidated Statement of Cash Flows................... 21
- Consolidated Statement of Stockholders' Equity ........ 22
Notes to Consolidated Financial Statements.................. 23 - 38
The following consolidated financial statement schedule of
A. O. Smith Corporation is included in Item 14(d):
Schedule II - Valuation and Qualifying Accounts......... 42
All other schedules are omitted since the required information is not present or
is not present in amounts sufficient to require submission of the schedule, or
because the information required is included in the consolidated financial
statements or the notes thereto.
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the last quarter of 1998.
(c) Exhibits - see the Index to Exhibits on pages 46-47 of this report.
Pursuant to the requirements of Rule 14a-3(b)(10) of the Securities Exchange Act
of 1934, as amended, the corporation will, upon request and upon payment of a
reasonable fee not to exceed the rate at which such copies are available from
the Securities and Exchange Commission, furnish copies to its security holders
of any exhibits listed in the Index to Exhibits.
Management contracts and compensatory plans and arrangements required to be
filed as exhibits pursuant to Item 14(c) of Form 10-K are listed as Exhibits
10(a) through 10(h) in the Index to Exhibits.
41
A. O. SMITH CORPORATION
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
(000 Omitted)
Years ended December 31, 1998, 1997 and 1996
Additions
--------------------------
Balance at Charged to Charged Balance at
Beginning Costs and to Other End of
Description of Year Expenses 1 Accounts Deductions 2 Year
- ----------- ---------- ----------- --------- ------------ ----------
1998:
Valuation allowance
for trade and notes
receivable $ 2,840 $ 1,027 $ - $ 878 $ 2,989
1997:
Valuation allowance
for trade and notes
receivable 3,473 2,065 - 2,698 2,840
1996:
Valuation allowance
for trade and notes
receivable 4,796 615 - 1,938 3,473
1 Provision (credit) based upon estimated collection.
2 Uncollectible amounts charged against the reserve
42
For the purposes of complying with the amendments to the rules governing
Form S-8 (effective July 13, 1990) under the Securities Act of 1933, the
undersigned registrant hereby undertakes as follows, which undertaking
shall be incorporated by reference into registrant's Registration
Statements on Form S-8 Nos. 2-72542 filed on May 26, 1981,
Post-Effective Amendment No. 1, filed on May 12, 1983, Post-Effective
Amendment No. 2, filed on December 22, 1983, Post-Effective Amendment
No. 3, filed on March 30, 1987; 33-19015 filed on December 11, 1987;
33-21356 filed on April 21, 1988; Form S-8 No. 33-37878 filed November
16, 1990; Form S-8 No. 33-56827 filed December 13, 1994; and Form S-8
No. 333-05799 filed June 12, 1996.
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on behalf
of the undersigned, thereunto duly authorized.
A. O. SMITH CORPORATION
By: /s/Robert J.O'Toole
-----------------------------------
Robert J. O'Toole
Chief Executive Officer
Date: March 17, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below as of March 17, 1999 by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
Name and Title Signature
- -------------- ---------
ROBERT J. O'TOOLE /s/Robert J. O'Toole
----------------------------------
Chairman of the Board of Robert J. O'Toole
Directors, President and
Chief Executive Officer
GLEN R. BOMBERGER /s/Glen R. Bomberger
----------------------------------
Executive Vice President, Glen R. Bomberger
Chief Financial Officer and
Director
JOHN J. KITA /s/John J. Kita
----------------------------------
Vice President, Treasurer and Controller John J. Kita
TOM H. BARRETT, Director /s/Tom H. Barrett
----------------------------------
Tom H. Barrett
WILLIAM F. BUEHLER, Director /s/William F. Buehler
----------------------------------
William F. Buehler
KATHLEEN J. HEMPEL, Director /s/Kathleen J. Hempel
----------------------------------
Kathleen J. Hempel
ROBERT N. POKELWALDT, Director /s/Robert N. Pkelwaldt
----------------------------------
Robert N. Pokelwaldt
AGNAR PYTTE, Director /s/Agnar Pytte
----------------------------------
Agnar Pytte
DONALD J. SCHUENKE, Director /s/Donald J. Schuenke
----------------------------------
Donald J. Schuenke
ARTHUR O. SMITH, Director /s/Arthur O. Smith
----------------------------------
Arthur O. Smith
BRUCE M. SMITH, Director /s/Bruce M. Smith
----------------------------------
Bruce M. Smith
INDEX TO EXHIBITS
Exhibit
Number Description
(3)(i) Restated Certificate of Incorporation of the corporation
as amended April 5, 1995 incorporated by reference to the
quarterly report on Form 10-Q for the quarter ended March
31, 1995 and as further amended on February 5, 1996 and
incorporated by reference to the annual report on Form
10-K for the year ended December 31, 1995
(3)(ii) By-laws of the corporation as amended October 7, 1997
incorporated by reference to the quarterly report on Form
10-Q for the quarter ended September 30, 1997
(4) (a) The corporation's outstanding long-term debt is described
in Note 7 to the Consolidated Financial Statements. None
of the long-term debt is registered under the Securities
Act of 1933. None of the debt instruments outstanding at
the date of this report exceeds 10% of the corporation's
total consolidated assets, except for the item disclosed
as exhibit 4(b) below. The corporation agrees to furnish
to the Securities & Exchange Commission, upon request,
copies of any instruments defining rights of holders of
long-term debt described in Note 7.
(b) Fourth Amendment dated June 19, 1996 to the Amended and
Restated Credit Agreement dated as of February 26, 1993
incorporated by reference to the quarterly report on Form
10-Q for the quarter ended June 30, 1996.
(c) A. O. Smith Corporation Restated Certificate of
Incorporation as amended April 5, 1995 [incorporated by
reference to Exhibit (3)(i) above]
(10) Material Contracts (a) 1990 Long-Term Executive Incentive
Compensation Plan,as amended, incorporated by reference to
the Form S-8 Registration Statement filed by the
corporation on December 13, 1994, (Reg. No. 33-56827)
(b) 1980 Long-Term Executive Incentive Compensation Plan
incorporated by reference to the corporation's Proxy
Statement dated March 1, 1988 for an April 6, 1988 Annual
Meeting of Shareholders
(c) Executive Incentive Compensation Plan, as amended,
incorporated by reference to Exhibit A to the Proxy
Statement dated April 21, 1997 for a May 21, 1997 Annual
Meeting of Stockholders
(d) Supplemental Benefit Plan, as amended, incorporated by
reference to the Annual Report on Form 10-K for the fiscal
year ended December 31, 1992
(e) Executive Life Insurance Plan, incorporated by reference
to the Annual Report on Form 10-K for the fiscal year
ended December 31, 1992
(f) Corporate Directors' Deferred Compensation Plan, as
amended, incorporated by reference to the Annual Report on
Form 10-K for the fiscal year ended December 31, 1992
47
INDEX TO EXHIBITS (continued...)
Exhibit
Number Description
*(21) Subsidiaries
*(23) Consent of Independent Auditors
*(27.1) Financial Data Schedules
*(27.2) Restated Financial Data Schedule for fiscal year ended
December 31, 1997.
*Filed Herewith