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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004. COMMISSION FILE NUMBER 1-5794
MASCO CORPORATION
- --------------------------------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 38-1794485
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(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
21001 VAN BORN ROAD, TAYLOR, MICHIGAN 48180
- --------------------------------------------------------------------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(313) 274-7400
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(TELEPHONE NUMBER)
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 WHETHER THE REGISTRANT IS AN ACCELERATED FILER (AS
DEFINED IN RULE 12b-2 OF THE EXCHANGE ACT).
YES [X] NO [ ]
INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF
COMMON STOCK, AS OF THE LATEST PRACTICAL DATE.
SHARES OUTSTANDING AT
CLASS OCTOBER 31, 2004
----- ------------------
COMMON STOCK, PAR VALUE $1 PER SHARE 448,000,000
MASCO CORPORATION
INDEX
PAGE NO.
--------
Part I. Financial Information
Item 1. Financial Statements:
Condensed Consolidated Balance Sheets -
September 30, 2004 and December 31, 2003 1
Condensed Consolidated Statements of
Income for the Three Months and Nine
Months Ended September 30, 2004 and 2003 2
Condensed Consolidated Statements of
Cash Flows for the Nine Months Ended
September 30, 2004 and 2003 3
Notes to Condensed Consolidated
Financial Statements 4-17
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 18-25
Item 4. Controls and Procedures 26
Part II. Other Information
Item 1. Legal Proceedings 27
Item 2. Unregistered Sale of Equity Securities and
Use of Proceeds 27
Item 6. Exhibits 28
MASCO CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
SEPTEMBER 30, 2004 AND DECEMBER 31, 2003
(DOLLARS IN MILLIONS EXCEPT SHARE DATA)
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
ASSETS
------
Current assets:
Cash and cash investments $ 969 $ 795
Accounts and notes receivable, net 1,908 1,674
Prepaid expenses and other 276 316
Inventories:
Raw material 386 405
Work in process 153 142
Finished goods 587 472
------- -------
1,126 1,019
------- -------
Total current assets 4,279 3,804
Property and equipment, net 2,165 2,339
Goodwill 4,445 4,491
Other intangible assets, net 330 344
Assets held for sale 175 --
Other assets 995 1,171
------- -------
Total assets $12,389 $12,149
======= =======
LIABILITIES
-----------
Current liabilities:
Notes payable $ 44 $ 334
Accounts payable 852 715
Accrued liabilities 1,130 1,050
------- -------
Total current liabilities 2,026 2,099
Long-term debt 4,210 3,848
Liabilities held for sale 60 --
Deferred income taxes and other 851 746
------- -------
Total liabilities 7,147 6,693
------- -------
Commitments and contingencies
SHAREHOLDERS' EQUITY
--------------------
Preferred shares, par value $1 per share
Authorized shares: 1,000,000; issued:
2004 - ---; 2003 - 20,000 -- --
Common shares, par value $1 per share
Authorized shares: 1,400,000,000; issued:
2004 - 449,220,000; 2003 - 458,380,000 449 458
Paid-in capital 724 1,443
Retained earnings 3,856 3,299
Accumulated other comprehensive income (loss) 409 421
Less: Restricted stock awards (196) (165)
------- -------
Total shareholders' equity 5,242 5,456
------- -------
Total liabilities and
shareholders' equity $12,389 $12,149
======= =======
See notes to condensed consolidated financial statements.
1
MASCO CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
FOR THE THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN MILLIONS EXCEPT PER SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
------ ------ ------ ------
Net sales $3,173 $2,823 $9,040 $7,803
Cost of sales 2,182 1,949 6,224 5,414
------ ------ ------ ------
Gross profit 991 874 2,816 2,389
Selling, general and administrative expenses 502 459 1,491 1,312
(Income) regarding litigation settlement (2) (58) (30) (71)
------ ------ ------ ------
Operating profit 491 473 1,355 1,148
------ ------ ------ ------
Other income (expense), net:
Interest expense (55) (67) (160) (201)
Other, net 24 7 117 54
------ ------ ------ ------
(31) (60) (43) (147)
------ ------ ------ ------
Income from continuing operations before
income taxes and minority interest 460 413 1,312 1,001
Income taxes 167 153 474 357
------ ------ ------ ------
Income from continuing operations
before minority interest 293 260 838 644
Minority interest 4 2 14 8
------ ------ ------ ------
Income from continuing operations 289 258 824 636
Income (loss) from discontinued operations,
after income taxes 70 61 (36) 78
------ ------ ------ ------
Net income $ 359 $ 319 $ 788 $ 714
====== ====== ====== ======
Earnings per common share:
Basic:
Income from continuing operations $ .66 $ .54 $ 1.84 $ 1.32
Income (loss) from discontinued
operations, after income taxes .16 .13 (.08) .16
------ ------ ------ ------
Net income $ .82 $ .67 $ 1.76 $ 1.48
====== ====== ====== ======
Diluted:
Income from continuing operations $ .64 $ .53 $ 1.81 $ 1.28
Income (loss) from discontinued
operations, after income taxes .16 .13 (.08) .16
------ ------ ------ ------
Net income $ .80 $ .65 $ 1.73 $ 1.44
====== ====== ====== ======
Cash dividends per common share:
Declared $ .18 $ .16 $ .50 $ .44
====== ====== ====== ======
Paid $ .16 $ .14 $ .48 $ .42
====== ====== ====== ======
See notes to condensed consolidated financial statements.
2
MASCO CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN MILLIONS)
NINE MONTHS ENDED
SEPTEMBER 30,
------------------
2004 2003
------- -------
CASH FLOWS FROM (FOR) OPERATING ACTIVITIES:
Cash provided by operations $1,135 $ 817
(Increase) in receivables (333) (310)
(Increase) decrease in inventories (163) --
Increase in accounts payable and accrued
liabilities, net 334 417
------ -------
Total cash from operating activities 973 924
------ -------
CASH FLOWS FROM (FOR) FINANCING ACTIVITIES:
Issuance of notes, net of issuance costs 299 --
(Decrease) increase in debt (40) 11
Payment of debt (3) (84)
Retirement of notes (266) (300)
Proceeds from settlement of swaps 55 --
Issuance of Company common stock 35 19
Purchase of Company common stock for:
Retirement (777) (555)
Long-term stock incentive award plan (40) (48)
Cash dividends paid (227) (209)
------ -------
Total cash (for) financing activities (964) (1,166)
------ -------
CASH FLOWS FROM (FOR) INVESTING ACTIVITIES:
Capital expenditures (188) (198)
Purchases of marketable securities (304) (245)
Proceeds (purchases) of other investments, net 34 (12)
Proceeds from disposition of:
Marketable securities 477 377
Businesses, net of cash disposed 178 282
Equity investment -- 76
Acquisition of companies, net of cash acquired (14) (208)
Other, net 21 (17)
------ -------
Total cash from investing activities 204 55
------ -------
Effect of foreign exchange rates on cash and
cash investments (1) 28
------ -------
CASH AND CASH INVESTMENTS:
Increase (decrease) for the period 212 (159)
Cash at businesses held for sale (38) --
At January 1 795 1,067
------ -------
At September 30 $ 969 $ 908
====== =======
See notes to condensed consolidated financial statements.
3
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
A. In the opinion of the Company, the accompanying unaudited condensed
consolidated financial statements contain all adjustments, of a normal
recurring nature, necessary to present fairly its financial position at
September 30, 2004 and the results of operations for the three months and
nine months ended September 30, 2004 and 2003 and changes in cash flows
for the nine months ended September 30, 2004 and 2003. The condensed
consolidated balance sheet at December 31, 2003 was derived from audited
financial statements.
Certain prior-year amounts have been reclassified to conform to the 2004
presentation in the condensed consolidated financial statements. The
results of operations related to discontinued operations have been
reclassified and separately stated in the accompanying condensed
consolidated statements of income for 2004 and 2003. In the Company's
condensed consolidated balance sheet at September 30, 2004, the assets
and liabilities of the businesses held for sale have been reclassified and
separately stated. The assets and liabilities of the businesses held for
sale have not been reclassified in the related accompanying condensed
consolidated balance sheet as at December 31, 2003. In the Company's
condensed consolidated statements of cash flows for the nine months ended
September 30, 2004 and 2003, the cash flows of discontinued operations are
not separately classified.
4
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note A - concluded:
STOCK OPTIONS AND AWARDS. The Company implemented the fair value method of
accounting for stock-based compensation prescribed by Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation," effective January 1, 2003. The Company is using
the prospective method, as defined by SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure - an amendment to
SFAS No. 123," for determining stock-based compensation expense.
Accordingly, options granted, modified or settled subsequent to January 1,
2003 are accounted for using the fair value method, and options granted
prior to January 1, 2003 continue to be accounted for using the intrinsic
value method. In the first nine months of 2004, 4,941,000 option shares,
including restoration option shares, were awarded. The following table
illustrates the pro forma effect on net income and earnings per common
share as if the fair value method were applied to all previously issued
and outstanding stock options, in millions except per common share data:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
2004 2003 2004 2003
------ ------ ------- -----
Net income, as reported $359 $319 $ 788 $ 714
Add:
Stock-based employee
compensation expense
included in reported
net income, net of tax 13 7 33 29
Deduct:
Stock-based employee
compensation expense,
net of tax (13) (7) (33) (29)
Stock-based employee
compensation expense
determined under the fair
value method for stock
options granted prior to
2003, net of tax (3) (3) (9) (10)
---- ---- ----- -----
Pro forma net income $356 $316 $ 779 $ 704
==== ==== ===== =====
Earnings per common share:
Basic as reported $.82 $.67 $1.76 $1.48
Basic pro forma $.81 $.67 $1.74 $1.46
Diluted as reported $.80 $.65 $1.73 $1.44
Diluted pro forma $.79 $.65 $1.71 $1.42
5
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
B. In the first quarter of 2004, the Company determined that several European
businesses were not core to the Company's long-term growth strategy and,
accordingly, embarked on a plan to sell such businesses. The dispositions
are expected to be completed by March 31, 2005. In the first quarter of
2004, the Company recognized a pre-tax charge of $64 million for those
businesses that are expected to be divested at a loss.
In the second and third quarters of 2004, the Company recognized
additional charges of $44 million and $31 million, respectively,
principally related to the remaining businesses held for sale. The Company
has reduced its estimate of expected proceeds for these operations as a
result of lower-than-expected operating results as well as a
weaker-than-expected demand for the businesses that the Company is
divesting. The Company expects aggregate net proceeds to approximate $250
million.
During the third quarter of 2004, in two separate transactions, the
Company completed the sale of its Jung Pumpen and The Alvic Group
businesses. Jung Pumpen manufactures a wide variety of submersible
and drainage pumps and The Alvic Group manufactures kitchen cabinets;
both of these businesses were included in discontinued operations. Total
proceeds from the sale of these companies were $191 million, including
cash of $185 million and notes receivable of $6 million. In the third
quarter of 2004, the Company recognized a pre-tax, net gain on the
disposition of these businesses of $108 million ($93 million or $.21 per
common share, after tax). In the third quarter of 2003, the Company
completed the sale of its Baldwin Hardware, Weiser Lock and Marvel Group
divisions. In accordance with SFAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets," the Company has accounted for the 2004
planned dispositions as well as operations which were sold in 2004 and
2003 as discontinued operations.
Selected financial information for discontinued operations (through the
date of disposition) is as follows for the three months and nine months
ended September 30, 2004 and 2003, in millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
----- ----- ----- -----
Net sales $ 99 $ 163 $ 302 $ 469
===== ===== ===== =====
Income before income taxes $ 10 $ 12 $ 28 $ 39
Gain on disposal of
discontinued operations,
net 108 91 108 91
Impairment charge for assets
held for sale (31) -- (139) --
Income taxes (17) (42) (33) (52)
----- ----- ----- -----
Income (loss) from
discontinued operations,
after income taxes $ 70 $ 61 $ (36) $ 78
===== ===== ===== =====
6
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note B - concluded:
The charges for the impairment of assets held for sale for the three
months and nine months ended September 30, 2004 are $31 million pre-tax
($31 million or $.07 per common share, after tax) and $139 million pre-tax
($151 million or $.33 per common share, after tax), respectively. The
after-tax charge of $151 million for the nine months ended September 30,
2004 includes $12 million of expensed deferred tax assets. The unusual
relationship between income tax expense and income before income taxes
(including the loss on disposition of businesses) in 2004 results
primarily from the expected loss providing no current tax benefit in the
countries where the loss is anticipated to be incurred and from the
expensing of deferred tax assets of the discontinued operations which are
no longer expected to be realized. In the first nine months of 2004, the
Company also recorded approximately $6 million of severance and
termination benefit expenses related to the discontinued operations,
included in income before income taxes in the above table. The Company
expects such costs to approximate $7 million in aggregate, the balance of
which are expected to be recognized over the next six months.
The impairment charge for assets held for sale primarily includes the
write-down of goodwill of $61 million and fixed assets of $54 million for
the nine months ended September 30, 2004.
Total assets and liabilities held for sale consist primarily of the
following at September 30, 2004 (after the impairment charges recorded in
the first nine months of 2004), in millions:
Cash $ 38
Accounts receivable 50
Inventories 27
Property and equipment, net 56
Goodwill 4
----
Total assets $175
====
Accounts payable $ 22
Accrued salaries, wages and
related benefits 27
Other accrued expenses 11
----
Total liabilities $ 60
====
The discontinued operations were previously included in each of the
Company's segments, except the Installation and Other Services segment.
7
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
C. The changes in the carrying amount of goodwill for the nine-month period
ended September 30, 2004, by segment, are as follows, in millions:
BALANCE HELD FOR BALANCE
DEC. 31, 2003 ADDITIONS(A) SALE (B) OTHER(C) SEP. 30, 2004
------------- ------------ -------- -------- -------------
Cabinets and Related
Products $ 708 $ -- $ (63) $ (3) $ 642
Plumbing Products 498 -- -- 3 501
Installation and Other
Services 1,701 8 -- (1) 1,708
Decorative Architectural
Products 398 -- -- 2 400
Other Specialty Products 1,186 7 (4) 5 1,194
------ ----- ----- ---- ------
Total $4,491 $ 15 $ (67) $ 6 $4,445
====== ===== ===== ==== ======
(A) Additions include several relatively small acquisitions and
contingent consideration for prior acquisitions in the Installation
and Other Services segment and contingent consideration for a prior
acquisition in the Other Specialty Products segment.
(B) During the first nine months of 2004, the Company reclassified the
goodwill related to businesses held for sale. The Company also
recognized charges for those businesses expected to be divested at a
loss; the charge included a write-down of goodwill of $63 million
(including $36 million related to a business sold in the third
quarter of 2004).
(C) Other principally includes foreign currency translation adjustments,
reclassifications and other purchase price adjustments related to
the finalization of certain purchase price allocations.
Other indefinite-lived intangible assets include registered trademarks of
$255 million at September 30, 2004. The carrying value of the Company's
definite-lived intangible assets is $75 million at September 30, 2004 (net
of accumulated amortization of $60 million) and principally includes
customer relationships and non-compete agreements. Amortization expense
for definite-lived intangible assets is $5 million and $15 million for the
three months and nine months ended September 30, 2004, respectively.
D. Depreciation and amortization expense is $176 million and $165 million for
the nine months ended September 30, 2004 and 2003, respectively.
E. The Company maintains investments in marketable securities (including
marketable equity securities and bond funds) and a number of private
equity funds, principally as part of its tax planning strategies, as any
gains enhance the utilization of tax capital loss carryforwards. Included
in other assets are the following financial investments, in millions:
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
Marketable equity securities $306 $392
Bond funds 40 125
Private equity funds 321 332
Metaldyne Corporation 82 76
TriMas Corporation 25 25
Other investments 9 9
---- ----
Total $783 $959
==== ====
8
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note E - continued:
The Company's investments in marketable equity securities and bond funds
at September 30, 2004 and December 31, 2003 are as follows, in millions:
PRE-TAX
----------------------
UNREALIZED UNREALIZED RECORDED
COST BASIS GAINS LOSSES BASIS
---------- ---------- ---------- --------
SEPTEMBER 30, 2004
Marketable equity securities $294 $ 34 $(22) $306
Bond funds $ 35 $ 5 $ -- $ 40
DECEMBER 31, 2003
Marketable equity securities $361 $ 35 $ (4) $392
Bond funds $115 $ 10 $ -- $125
The following table summarizes the gross unrealized losses and fair value
of the Company's investments in temporarily-impaired marketable equity
securities, aggregated by investment category and length of time that such
securities have been in a continuous unrealized loss position at September
30, 2004, in millions:
LESS THAN 12 MONTHS
12 MONTHS OR GREATER TOTAL
----------------- ----------------- -----------------
FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
VALUE (LOSS) VALUE (LOSS) VALUE (LOSS)
----- ---------- ----- ---------- ----- ----------
Marketable equity
securities $122 $(22) $ -- $ -- $122 $(22)
---- ---- ---- ---- ---- ----
Total temporarily-
impaired
securities $122 $(22) $ -- $ -- $122 $(22)
==== ==== ==== ==== ==== ====
The Company has investments in over 70 different marketable equity
securities and bond funds at September 30, 2004. The Company reviews
industry analyst reports, key ratios and statistics, market analyses and
other factors for each investment to determine if an unrealized loss is
other than temporary. The unrealized loss at September 30, 2004 is
primarily related to one marketable equity security, Furniture Brands
International (NYSE: FBN) common stock (four million shares), which was
received in June 2002 from the Company's investment in Furnishings
International Inc. debt. Based on its review, the Company considers the
unrealized loss related to this investment to be temporary. The market
price of FBN during 2004 has been above and below the Company's cost basis
of $30.25 per share. If the price remains significantly below the
Company's cost basis, the Company may record an other-than-temporary asset
impairment charge in the fourth quarter of 2004.
The remaining $1 million or six percent of the Company's total unrealized
loss in marketable equity securities at September 30, 2004 relates to 11
marketable equity investments related to various industries. Based on its
review, the Company believes that the cost basis of these investments is
recoverable and that it has both the ability and intent to hold these
investments until such time as the cost basis is recoverable.
9
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note E - concluded:
Income from financial investments is included in other, net, within other
income (expense), net, and is summarized as follows, in millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
2004 2003 2004 2003
------- ------- ------- ------
Realized gains from
marketable securities $ 7 $ 10 $ 42 $ 37
Realized losses from
marketable securities (9) (3) (19) (13)
Dividend income from
marketable securities 3 3 12 12
Dividend income from
other investments 5 3 10 7
Income from other
investments, net 11 6 29 9
---- ---- ---- ----
Income from financial
investments, net $ 17 $ 19 $ 74 $ 52
==== ==== ==== ====
Impairment charge:
Investment in private
equity funds $ -- $ (9) $ -- $ (9)
==== ==== ==== ====
F. The Company's total comprehensive income is as follows, in millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
2004 2003 2004 2003
------- ------- ------- ------
Net income $359 $319 $788 $714
Other comprehensive income
(loss):
Cumulative translation
adjustments 28 8 3 184
Unrealized (loss) gain on
marketable securities, net -- (5) (15) 17
---- ---- ---- ----
Total comprehensive income $387 $322 $776 $915
==== ==== ==== ====
The unrealized (loss) gain on marketable securities is net of income tax
(credits) of $(9) million for the nine months ended September 30, 2004,
and $(3) million and $10 million for the three months and nine months
ended September 30, 2003, respectively.
The components of accumulated other comprehensive income (loss) are as
follows, in millions:
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
Unrealized gain on marketable securities, net $ 11 $ 26
Minimum pension liability (61) (61)
Cumulative translation adjustments 459 456
---- ----
Accumulated other comprehensive income
(loss) $409 $421
==== ====
10
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note F - concluded:
The unrealized gain on marketable securities is reported net of income tax
of $6 million and $15 million at September 30, 2004 and December 31, 2003,
respectively.
The minimum pension liability is reported net of income tax credit of $35
million at both September 30, 2004 and December 31, 2003.
G. The Company owns 64 percent of Hansgrohe AG. The minority interest of $74
million and $70 million at September 30, 2004 and December 31, 2003,
respectively, is recorded in the caption deferred income taxes and other
liabilities on the Company's condensed consolidated balance sheets.
H. In the first half of 2004, the Company retired the remaining $266 million
of 6% notes due May 2004.
On March 9, 2004, the Company issued $300 million of floating-rate notes
due 2007, resulting in net proceeds of $299 million. The interest rate is
calculated based on the three-month London Interbank Offered Rate
("LIBOR") plus .25%.
In March 2004, the Company terminated two interest rate swaps relating to
$850 million of fixed-rate debt. These swap agreements were accounted for
as fair value hedges. The gain of approximately $45 million from the
termination of these swaps is being amortized as a reduction of interest
expense over the remaining term of the debt, through July 2012.
In late March 2004, the Company entered into new interest rate swaps for
the purpose of converting a portion of fixed-rate debt to variable-rate
debt, which is expected to reduce interest expense, given current interest
rates. The average variable interest rates are based on LIBOR plus a fixed
adjustment factor. The average effective interest rate on the interest
rate swaps is 2.275%. At September 30, 2004, the interest rate swap
agreements covered a notional amount of $850 million of the Company's
fixed-rate debt due July 15, 2012 with an interest rate of 5.875%. The
interest rate swaps are considered 100 percent effective; therefore, the
market valuation of $24 million at September 30, 2004 is recorded in other
assets with a corresponding increase to long-term debt in the Company's
condensed consolidated balance sheet at September 30, 2004.
I. The net periodic pension cost for the Company's qualified defined-benefit
pension plans is as follows, in millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
2004 2003 2004 2003
-------- -------- -------- -------
Service cost $ 3 $ 4 $ 9 $ 11
Interest cost 7 9 23 28
Expected return on plan assets (5) (7) (18) (22)
Amortization of net loss 1 1 4 5
---- ---- ---- ----
Net periodic pension cost $ 6 $ 7 $ 18 $ 22
==== ==== ==== ====
11
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note I - concluded:
Net periodic pension cost for the Company's non-qualified unfunded
supplemental pension plans was $6 million and $15 million for the three
months and nine months ended September 30, 2004, respectively, and $4
million and $9 million for the three months and nine months ended
September 30, 2003, respectively.
In the first nine months of 2004, the Company contributed $60 million to
its domestic qualified defined-benefit pension plans.
12
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
J. The following table presents information about the Company by segment and
geographic area, in millions:
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
------------------------------------ ------------------------------------
2004 2003 2004 2003 2004 2003 2004 2003
------------------------------------ ------------------------------------
NET SALES (A) OPERATING PROFIT NET SALES (A) OPERATING PROFIT
---------------- ----------------- ---------------- -----------------
The Company's operations by
segment were (B):
Cabinets and Related Products $ 856 $ 761 $ 150 $ 122 $2,432 $2,114 $ 396 $ 314
Plumbing Products 775 692 101 96 2,299 1,990 314 277
Installation and Other Services 737 642 103 110 2,053 1,769 272 275
Decorative Architectural Products 433 418 102 52 1,254 1,099 267 162
Other Specialty Products 372 310 86 63 1,002 831 202 150
------ ------ ------ ------ ------ ------ ------ ------
Total $3,173 $2,823 $ 542 $ 443 $9,040 $7,803 $1,451 $1,178
====== ====== ====== ====== ====== ====== ====== ======
The Company's operations by
geographic area were:
North America $2,627 $2,369 $ 478 $ 431 $7,429 $6,494 $1,249 $1,080
International, principally Europe 546 454 64 12 1,611 1,309 202 98
------ ------ ------ ------ ------ ------ ------ ------
Total $3,173 $2,823 542 443 $9,040 $7,803 1,451 1,178
====== ====== ====== ======
General corporate expense, net (53) (31) (134) (88)
Gains on sale of corporate fixed assets, net -- 3 8 3
Income regarding litigation settlement (C) 2 58 30 71
(Expense) related to accelerated benefits, net (D) -- -- -- (16)
------ ------ ------ ------
Operating profit 491 473 1,355 1,148
Other income (expense), net (31) (60) (43) (147)
------ ------ ------ ------
Income from continuing operations
before income taxes and minority
interest $ 460 $ 413 $1,312 $1,001
====== ====== ====== ======
(A) Intra-segment sales were not material.
(B) In accordance with SFAS No. 144 "Accounting for the Impairment or Disposal
of Long-Lived Assets," the Company has accounted for the 2004 planned
disposition of certain European businesses as discontinued operations.
Accordingly, the assets and liabilities of those operations have been
reclassified from the segments above. The reclassified assets, prior to
any 2004 impairment charges, are as follows: Cabinets and Related Products
- $242 million; Plumbing Products - $16 million; Decorative Architectural
Products - $35 million; and Other Specialty Products - $107 million.
(C) The Company recorded income regarding the litigation discussed in Note N
related to the Company's subsidiary, Behr Process Corporation. Behr is
included in the Decorative Architectural Products segment.
(D) Due to the unexpected passing of the Company's President and Chief
Operating Officer, certain benefits were accelerated and expensed in the
first quarter of 2003, with an adjustment in the second quarter of 2003.
13
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
K. Other, net, which is included in other income (expense), net, includes the
following, in millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
-------- -------- -------- --------
Income from cash and
cash investments $ 3 $ 2 $ 6 $ 6
Other interest income 2 2 5 5
Income from financial
investments, net (Note E) 17 19 74 52
Impairment charge:
Investment in private
equity funds -- (9) -- (9)
Loss on early retirement
of debt -- (3) -- (3)
Gain from sale of equity
investment -- -- -- 5
Other items, net 2 (4) 32 (2)
---- ---- ---- ----
$ 24 $ 7 $117 $ 54
==== ==== ==== ====
Other items, net for the three months and nine months ended September 30,
2004 include $(1) million and $11 million, respectively, of currency
transaction (losses) gains. Other items, net for the nine months ended
September 30, 2004 also include a $5 million gain from the sale of
non-operating assets. In the second quarter of 2003, the Company completed
the sale of its 42 percent equity investment in Emco Limited for cash
proceeds of approximately $75 million. The sale resulted in a pre-tax gain
of $5 million.
L. The following are reconciliations of the numerators and denominators used
in the computations of basic and diluted earnings per common share, in
millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
-------- -------- -------- --------
Numerator (basic and diluted):
Income from continuing
operations $ 289 $ 258 $ 824 $ 636
Income (loss) from
discontinued operations,
after income taxes 70 61 (36) 78
----- ----- ----- -----
Net income, as reported $ 359 $ 319 $ 788 $ 714
===== ===== ===== =====
Denominator:
Basic common shares (based
on weighted average) 440 474 447 483
Add:
Contingent common shares 5 12 4 11
Stock option dilution 4 3 4 2
----- ----- ----- -----
Diluted common shares 449 489 455 496
===== ===== ===== =====
Income per common share amounts for the first three quarters of 2004 and
2003 do not total to the per common share amounts for the nine months
ended September 30, 2004 and 2003 due to the timing of stock repurchases
and the effect of contingently issuable shares.
14
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note L - concluded:
During the third quarter of 2004, holders of 17,000 shares of the
Company's convertible preferred stock converted all of their preferred
stock to approximately 17 million shares of the Company's common stock.
The convertible preferred shares carried substantially the same attributes
as Company common stock and had been treated as if converted at a ratio of
1 share of preferred stock to approximately 1,000 shares of common stock
for basic and diluted earnings per common share computations.
For both the three months and nine months ended September 30, 2004 and
2003, approximately 24 million common shares related to the Zero Coupon
Convertible Senior Notes due 2031 were not included in the computation of
diluted earnings per common share since, at September 30, 2004 and 2003,
they were not convertible according to their terms.
Additionally, six million common shares for the nine months ended
September 30, 2004, and three million and seven million common shares for
the three months and nine months ended September 30, 2003, respectively,
related to stock options were excluded from the computation of diluted
earnings per common share due to their anti-dilutive effect, since the
option exercise price was greater than the Company's average common stock
price for these periods.
M. In October 2004, the Emerging Issues Task Force ("EITF") Issue Summary No.
04-8, "Accounting Issues Related to Certain Features of Contingently
Convertible Debt and the Effect on Diluted Earnings Per Share" was
approved by the Financial Accounting Standards Board. EITF No. 04-8 will
require the Company to include 24 million shares in the calculation of
diluted earnings per common share related to the Company's Zero Coupon
Convertible Senior Notes due 2031 ("Notes"), with the add-back of the
related interest expense to net income. EITF No. 04-8 will be effective
beginning in the fourth quarter of 2004 and will require the restatement
of previously reported diluted earnings per common share amounts.
Currently, the shares are not included in the Company's calculation of
diluted earnings per common share, since the Notes are not convertible
according to their terms. In early November 2004, the Company amended the
terms of the Notes to remove the Company's option to satisfy the purchase
price with shares of Company common stock when purchasing the Notes at the
option of the holder.
In the first quarter of 2004, the Company adopted Financial Accounting
Standards Board ("FASB") Interpretation No. 46 - Revised ("FIN 46R"),
"Consolidation of Variable Interest Entities." FIN 46R requires that a
company that is the primary beneficiary of a variable interest entity
consolidate the assets, liabilities and results of operations of the
variable interest entity in the company's consolidated financial
statements. The adoption of FIN 46R did not have a material impact on the
Company's condensed consolidated financial statements.
N. LITIGATION. The Company is subject to lawsuits and pending or asserted
claims with respect to matters generally arising in the ordinary course of
business.
As the Company reported in previous filings, late in the second half of
2002, the Company and its subsidiary, Behr Process Corporation, agreed to
two Settlements (the National Settlement and the Washington State
Settlement) to resolve all class action lawsuits pending in the United
States involving certain exterior wood coating products formerly
manufactured by Behr.
15
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
Note N - continued:
The following is a reconciliation of the Company's Behr Process Settlement
liability, in millions:
2004
------------------------------
WASHINGTON STATE NATIONAL
SETTLEMENT SETTLEMENT
---------------- ----------
Balance at January 1 $ 53 $ 10
Payments on claims (12) (1)
Insurance proceeds (9) (1)
Adjustment of accrual (20) --
---- ----
Balance at September 30 $ 12 $ 8
==== ====
The deadlines for filing claims were September 2, 2003 for the National
Settlement and January 17, 2004 for the Washington State Settlement.
In the first quarter of 2004, the Company estimated the average cost per
claim received related to the Washington State Settlement, and, as a
result, estimated that the remaining unpaid claims and administration
costs would be approximately $20 million less than estimated at December
31, 2003. Accordingly, the Company reduced the litigation accrual
(recognizing income) by $20 million in the first quarter of 2004.
Proceeds from insurance carriers are recognized as income when Behr and
its carriers agree on such amounts. The Company expects that the
evaluation, processing and payment of claims for both the Washington State
Settlement and the National Settlement will be completed by March 31,
2005.
Early in 2003, a suit was brought against the Company and a number of its
insulation installation companies in the federal court in Atlanta,
Georgia, alleging that certain practices violate provisions of federal and
state antitrust laws. The plaintiff publicized the lawsuit with a press
release and stated in that release that the Department of Justice was
investigating the business practices of the Company's insulation
installation companies. Although the Company was unaware of any
investigation at that time, the Company was later advised that an
investigation had been commenced but was subsequently closed without any
enforcement action recommended. Two additional lawsuits were subsequently
brought in Virginia making similar claims under the antitrust laws. Both
of these lawsuits have since been dismissed without any payment or
requirement for any change in business practices. During the second half
of 2004, the same counsel who commenced the initial action in Atlanta
filed six additional lawsuits on behalf of several of Masco's competitors
in the insulation installation business. Recently, the plaintiffs
dismissed five of these lawsuits and, represented by the same counsel,
filed another action in the same federal court, seeking class
representation for all independent insulation contractors against the
Company, a number of its insulation installation companies and certain of
their suppliers. Based upon the advice of its outside counsel, the Company
believes that the conduct of the Company and its insulation installation
companies, which has been the subject of any of the above-described
lawsuits, has not violated any antitrust laws.
16
MASCO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (CONCLUDED)
Note N - concluded:
STOCK PRICE GUARANTEE. The stock price guarantee as of September 30, 2004
is summarized as follows, in millions except dollar per share data:
SHARES ISSUED SETTLEMENT
- --------------- MINIMUM OPTIONS(A)
# OF ISSUE STOCK PRICE -------------- MATURITY
SHARES PRICE GUARANTEE SHARES CASH DATE
- --------------- ----------- -------------- ----------------
1 $30.00 $40.00 -- $ 9 12/31/04-4/30/05
(A) The amount is calculated based on the ten-day average of the Company
common stock closing price ending September 30, 2004 of $34.17. Shares
contingently issuable under this agreement are included in the calculation
of diluted earnings per common share.
In early August 2004, the Company recorded the issuance of approximately
160,000 shares of Company common stock related to a stock price guarantee,
which matured on July 31, 2004.
WARRANTY. The following is a reconciliation of the Company's warranty
liability, in millions:
2004
----
Balance at January 1 $ 90
Accruals for warranties issued during the period 40
Accruals related to pre-existing warranties 10
Settlements made (in cash or kind) during the period (36)
Discontinued operations (2)
Other, net (including foreign exchange impact) (3)
----
Balance at September 30 $ 99
====
17
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THIRD QUARTER 2004 AND THE FIRST NINE MONTHS 2004 VERSUS
THIRD QUARTER 2003 AND THE FIRST NINE MONTHS 2003
SALES AND OPERATING PROFIT MARGINS
----------------------------------
The following table sets forth the Company's net sales and operating
profit margins by segment and geographic area, dollars in millions:
THREE MONTHS ENDED
SEPTEMBER 30, PERCENT INCREASE
------------------ ----------------
2004 2003 2004 VS. 2003
------ ------ ----------------
NET SALES:
Cabinets and Related Products $ 856 $ 761 12%
Plumbing Products 775 692 12%
Installation and Other Services 737 642 15%
Decorative Architectural Products 433 418 4%
Other Specialty Products 372 310 20%
------ ------
Total $3,173 $2,823 12%
====== ======
North America $2,627 $2,369 11%
International, principally Europe 546 454 20%
------ ------
Total $3,173 $2,823 12%
====== ======
NINE MONTHS ENDED
SEPTEMBER 30,
------------------
2004 2003
------ ------
NET SALES:
Cabinets and Related Products $2,432 $2,114 15%
Plumbing Products 2,299 1,990 16%
Installation and Other Services 2,053 1,769 16%
Decorative Architectural Products 1,254 1,099 14%
Other Specialty Products 1,002 831 21%
------ ------
Total $9,040 $7,803 16%
====== ======
North America $7,429 $6,494 14%
International, principally Europe 1,611 1,309 23%
------ ------
Total $9,040 $7,803 16%
====== ======
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
------------------ ------------------
OPERATING PROFIT MARGIN: (A)
Cabinets and Related Products 17.5% 16.0% 16.3% 14.9%
Plumbing Products 13.0% 13.9% 13.7% 13.9%
Installation and Other Services 14.0% 17.1% 13.2% 15.5%
Decorative Architectural Products 23.6% 12.4% 21.3% 14.7%
Other Specialty Products 23.1% 20.3% 20.2% 18.1%
North America 18.2% 18.2% 16.8% 16.6%
International, principally Europe 11.7% 2.6% 12.5% 7.5%
Total 17.1% 15.7% 16.1% 15.1%
TOTAL OPERATING PROFIT MARGIN,
AS REPORTED 15.5% 16.8% 15.0% 14.7%
(A) Before general corporate expense of $53 million and $134 million for
the three-month and nine-month periods ended September 30, 2004,
respectively, and before income regarding the litigation settlement
related to the Decorative Architectural Products segment of $2
million and $30 million for the three-month and nine-month periods
ended September 30, 2004, respectively. Before general corporate
expense of $31 million and $88 million for the three-month and
nine-month periods ended September 30, 2003, respectively. Before
accelerated benefit expense related to the unexpected passing of the
Company's President and Chief Operating Officer of $16 million for
the nine-month period ended September 30, 2003, and before insurance
income regarding the litigation settlement related to the Decorative
Architectural Products segment of $58 million and $71 million for
the three-month and nine-month periods ended September 30, 2003.
18
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Company reports its financial results in accordance with generally
accepted accounting principles ("GAAP") in the United States. However, the
Company believes that certain non-GAAP performance measures and ratios, used in
managing the business, may provide users of this financial information with
additional meaningful comparisons between current results and results in prior
periods. Non-GAAP financial measures and ratios should be viewed in addition to,
and not as an alternative for, the Company's reported results.
NET SALES
---------
Net sales increased 12 percent and 16 percent, respectively, for the
three-month and nine-month periods ended September 30, 2004 from the comparable
periods in 2003. The following table reconciles reported net sales to net sales,
excluding acquisitions and the effect of currency translation, in millions:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2004 2003 2004 2003
------ ------ ------ ------
Net sales, as reported $3,173 $2,823 $9,040 $7,803
Acquisitions (11) -- (39) --
------ ------ ------ ------
Net sales, excluding
acquisitions 3,162 2,823 9,001 7,803
Currency translation (49) -- (160) --
------ ------ ------ ------
Net sales, excluding
acquisitions and the
effect of currency
translation $3,113 $2,823 $8,841 $7,803
====== ====== ====== ======
Net sales of Cabinets and Related Products increased 12 percent and 15
percent, respectively, in the three-month and nine-month periods ended September
30, 2004 compared with the same periods in 2003, primarily due to increased
sales volume of assembled cabinets largely through North American retail
distribution channels at major home centers and through the new construction
market in the United States, as well as a more favorable product mix.
Net sales of Plumbing Products increased 12 percent and 16 percent,
respectively, in the three-month and nine-month periods ended September 30, 2004
compared with the same periods in 2003, primarily due to increased sales volume
in the retail markets in North America and Europe and in the new construction
markets in North America. In addition, the favorable impact of a weaker U.S.
dollar increased International sales included in this segment in 2004 compared
with 2003.
Net sales of Installation and Other Services increased 15 percent and 16
percent, respectively, in the three-month and nine-month periods ended September
30, 2004 compared with the same periods in 2003, primarily due to increased
sales volume of non-insulation products, increased selling prices for insulation
products and increases in new residential construction and housing starts.
19
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Net sales of Decorative Architectural Products increased 4 percent and 14
percent, respectively, in the three-month and nine-month periods ended September
30, 2004 compared with the same periods of 2003, primarily due to increased
sales volume of paints and stains as well as increased sales of decorative
hardware. Sales of paints and stains were strong for the nine months ended
September 30, 2004, with increases in the mid-teens compared to the same period
in 2003. Sales increases in the third quarter of 2004 were less robust
reflecting unusually strong sales in the third quarter of 2003 (which increased
over 2002 in excess of 20 percent) as a result of a very slow first half of 2003
due to adverse weather conditions. In addition, third quarter of 2004 sales were
negatively impacted by adverse weather, which affected sales in certain parts of
the country.
Net sales of Other Specialty Products increased 20 percent and 21 percent,
respectively, in the three-month and nine-month periods ended September 30, 2004
compared with the same periods of 2003, primarily due to increased sales of
vinyl and fiberglass windows and doors in North America. In addition, the
favorable impact of a weaker U.S. dollar increased International sales included
in this segment in 2004 compared with 2003.
Net sales from North American operations for the three-month and
nine-month periods ended September 30, 2004 increased 11 percent and 14 percent,
respectively, compared with the same periods of 2003, primarily due to the
reasons discussed above. Net sales from International operations for the
three-month and nine-month periods ended September 30, 2004 increased 20 percent
and 23 percent, respectively, compared with the same periods of 2003, primarily
due to increased sales of cabinets and plumbing products, benefitting from
additional penetration of the retail markets, as well as a weaker U.S. dollar,
principally against the Euro, which increased International sales by
approximately 11 percent and 12 percent for the three-month and nine-month
periods ended September 30, 2004.
OPERATING MARGINS
-----------------
The Company's gross profit margins increased to 31.2 percent for both the
three-month and nine-month periods ended September 30, 2004 from 31.0 percent
and 30.6 percent, respectively, for the comparable periods in 2003. The increase
in gross profit margins reflects increased sales volume, offset in part by
increased sales in segments which have somewhat lower margins as well as
increased material costs. In addition, operating results for the three-month and
nine-month periods ended September 30, 2003 were reduced by non-cash, pre-tax
charges of $42 million and $59 million relating to two United Kingdom business
units, one in the Decorative Architectural Products segment and the other in the
Plumbing Products segment. Offsetting the charges related to the United Kingdom
business units discussed above, operating profit for the three-month and
nine-month periods ended September 30, 2003 also benefited from $58 million and
$71 million, respectively, of Behr litigation income. Operating profit for the
three-month and nine-month periods ended September 30, 2004 includes $2 million
and $30 million, respectively, of Behr litigation income.
The Company's operating profit margins, as reported, were 15.5 percent and
15.0 percent, respectively, for the three-month and nine-month periods ended
September 30, 2004 compared with 16.8 percent and 14.7 percent for the same
periods of 2003. The Company's operating profit margins, excluding the Behr
litigation income of $2 million and $30 million for the three-month and
nine-month periods ended September 30, 2004, respectively, and $58 million and
$71 million for the three-month and nine-month periods ended September 30, 2003,
respectively, and the accelerated benefit expense of $16 million for the
nine-month period ended September 30, 2003, were 15.4 percent and 14.7 percent
for the three-month and nine-month periods ended September 30, 2004,
respectively, and 14.7 percent and 14.0 percent for the three-month and
nine-month periods ended September 30, 2003, respectively. The Company's
operating profit margins, reflecting the adjustments discussed above, increased
for the three-month and nine-month periods ended September 30, 2004 compared
with the same periods of 2003, principally due to the reasons discussed.
Selling, general and administrative expenses as a percentage of sales were
15.8 percent and 16.5 percent, respectively, for the three-month and nine-month
periods ended September 30, 2004 and 16.3 percent and 16.8 percent,
respectively, for the comparable periods of the prior year. Selling, general and
administrative expenses for the three-month and nine-month periods ended
September 30, 2004 were positively impacted by lower promotion and advertising
costs compared with the same period in 2003. This improvement was partially
offset by increased costs and expenses associated with complying with the new
requirements of the Sarbanes-Oxley Legislation. Selling, general and
administrative expenses for the nine-month period ended September 30, 2003
include $16 million of accelerated benefit expense related to the unexpected
passing of the Company's President and Chief Operating Officer. Excluding the
accelerated benefit expense, selling, general and administrative expense for the
nine-month period ended September 30, 2003 would have been 16.6 percent.
20
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Operating profit margins for the Cabinets and Related Products segment for
the three-month and nine-month periods ended September 30, 2004 were 17.5
percent and 16.3 percent, respectively, compared with 16.0 percent and 14.9
percent for the same periods in 2003, and reflect the positive impact of higher
sales volume and a more favorable product mix offset in part by increased costs
related to wood and particleboard materials.
Operating profit margins for the Plumbing Products segment were 13.0
percent and 13.7 percent, respectively, for the three-month and nine-month
periods ended September 30, 2004 compared with 13.9 percent for both of the same
periods of 2003, primarily due to an increase in sales of lower-margin products
included in this segment as well as increased material costs offset in part by
increased sales volume. As previously discussed, operating profit in the first
nine months of 2003 for this segment was negatively affected by a non-cash,
pre-tax charge of $4 million relating to a United Kingdom business unit where an
employee had circumvented internal controls to misstate operating profit in 2002
and 2003.
Operating profit margins for the Installation and Other Services segment
were 14.0 percent and 13.2 percent, respectively, for the three-month and
nine-month periods ended September 30, 2004 compared with 17.1 percent and 15.5
percent for the same periods of 2003. The operating profit margin decline in
this segment is primarily attributable to increased material costs as well as an
increase in sales of generally lower-margin, non-insulation products.
Historically, the Company has generally been able to increase its selling prices
to reflect certain material cost increases. Typically, the benefits of such
selling price increases are reflected in subsequent periods, as there is a time
lag as a result of existing contractual obligations.
Within the Installation and Other Services segment, the availability of
fiberglass insulation to support the Company's installation and distribution
activities has been constrained in 2004. The high level of demand for fiberglass
insulation as a result of the strength of the new residential construction
market has outpaced the industry's capacity to produce additional product. The
Company believes that these conditions will persist over the balance of 2004 and
is working with its diverse supplier base to secure as much material as
possible. At the current time, the Company does not believe that this material
shortage will have a significant impact on its operations.
Operating profit margins for the Decorative Architectural Products segment
were 23.6 percent and 21.3 percent, respectively, for the three-month and
nine-month periods ended September 30, 2004 compared with 12.4 percent and 14.7
percent for the same periods of 2003. The margin improvement includes the effect
of increased sales volume of paints and stains and decorative hardware offset in
part by increased material and promotion costs. As previously discussed,
operating profit in this segment for the three-month and nine-month periods
ended September 30, 2003 was negatively affected by non-cash, pre-tax charges of
$35 million and $55 million, respectively, related to a United Kingdom business
unit. The charge resulted from a business system implementation failure which
allowed former management of the business to circumvent internal controls and
artificially inflate the unit's operating profit in years prior to 2003.
21
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Operating profit margins for the Other Specialty Products segment were
23.1 percent and 20.2 percent, respectively, for the three-month and nine-month
periods ended September 30, 2004 compared with 20.3 percent and 18.1 percent for
the same periods of 2003. The margin improvement is primarily attributable to
increased sales of vinyl and fiberglass windows and doors.
OTHER INCOME (EXPENSE), NET
---------------------------
Other, net, for the three-month and nine-month periods ended September 30,
2004 includes $(2) million and $23 million, respectively, of realized (losses)
gains, net, from the sale of marketable securities, dividend income of $8
million and $22 million, respectively, and $11 million and $29 million,
respectively, of income, net, regarding other investments. Other items, net for
the three-month and nine-month periods ended September 30, 2004 includes $(1)
million and $11 million, respectively, of currency transaction (losses) gains.
Other items, net for the nine-month period ended September 30, 2004 also
includes a $5 million gain from the sale of non-operating assets.
Other, net, for the three-month and nine-month periods ended September 30,
2003 includes $7 million and $24 million, respectively, of realized gains, net,
from the sale of marketable securities, dividend income of $6 million and $19
million, respectively, and $6 million and $9 million, respectively, of income,
net, regarding other investments. Other, net for the three-month and nine-month
periods ended September 30, 2003 includes a $9 million impairment charge for the
write-down of an investment in a private equity fund. Other, net for the
nine-month period ended September 30, 2003 also includes a $5 million gain from
the sale of the Company's equity investment in Emco Limited.
Interest expense for the three-month and nine-month periods ended
September 30, 2004 decreased $12 million and $41 million, respectively, to $55
million and $160 million, compared with interest expense of $67 million and $201
million, respectively, for the same periods of 2003 primarily due to debt
repurchases as well as the effect of the interest rate swap agreements that
converted a certain amount of fixed-rate debt to lower variable-rate debt.
22
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INCOME AND EARNINGS PER COMMON SHARE FROM CONTINUING OPERATIONS
---------------------------------------------------------------
Income from continuing operations for the three-month and nine-month
periods ended September 30, 2004 was $289 million and $824 million,
respectively, compared with $258 million and $636 million, respectively, for the
comparable periods of 2003. Diluted earnings per common share from continuing
operations for the three-month and nine-month periods ended September 30, 2004
were $.64 and $1.81 per common share, respectively, compared with $.53 and $1.28
per common share, respectively, for the comparable periods of 2003. The
Company's effective tax rate was 36.3 percent and 36.1 percent, respectively,
for the three-month and nine-month periods ended September 30, 2004, compared
with 37.0 percent and 35.7 percent, respectively, for the same periods in 2003.
The Company estimates that its effective tax rate should approximate 36 percent
for 2004. However, because the American Jobs Creation Act of 2004, recently
signed into law in the fourth quarter of 2004, contains changes that impact the
U.S. tax on the distribution of accumulated foreign earnings, the Company may
consider making a significant dividend distribution from its foreign
subsidiaries. This possible dividend, along with the potential effect of other
new provisions, may impact the Company's effective tax rate in the fourth
quarter of 2004 or in 2005. The increase in the tax rate for the nine-month
period is principally due to a change in the mix of foreign earnings in
countries with higher tax rates.
OTHER FINANCIAL INFORMATION
---------------------------
The Company's current ratio was 2.1 to 1 at September 30, 2004 compared
with 1.8 to 1 at December 31, 2003.
For the nine months ended September 30, 2004, cash of $973 million was
provided by operating activities. Cash used for financing activities was $964
million, including $266 million for the retirement of notes, $227 million for
cash dividends paid, $777 million for the acquisition and retirement of Company
common stock in open-market transactions, $40 million for the acquisition of
Company common stock for the Company's long-term stock incentive award plan and
$43 million for a net decrease in bank debt. Cash provided by financing
activities included $299 million from the issuance of notes (net of issuance
costs), $55 million from interest rate swap transactions and $35 million from
the issuance of Company common stock, primarily for the exercise of stock
options. Cash provided by investing activities was $204 million and primarily
included $207 million from the net sales of marketable securities and other
investments and $178 million from the disposition of businesses (net of cash
disposed). Cash used for investing activities primarily included $188 million
for capital expenditures. Cash at businesses held for sale was $38 million at
September 30, 2004.
In the first half of 2004, the Company retired the remaining $266 million
of 6% notes due May 2004.
The Company is subject to lawsuits and claims pending or asserted with
respect to matters generally arising in the ordinary course of business. Note N
to the Condensed Consolidated Financial Statements discusses specific claims
pending against the Company.
The Company believes that its present cash balance, its cash flows from
operations and, to the extent necessary, bank borrowings and future financial
market activities, are sufficient to fund its working capital and other
investment needs.
23
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OUTLOOK FOR THE COMPANY
-----------------------
The Company continues to experience better than expected sales performance
as sales of assembled cabinets, paints and stains, installation services and
windows have continued strong in the first nine months of 2004. The Company also
continues to experience increases in certain operating expenses, particularly
for certain material costs, as well as costs associated with complying with the
new requirements of the Sarbanes-Oxley Legislation. Based on current business
trends and the record sales and earnings achieved in the first nine months of
2004, the Company expects to achieve record sales and earnings for the full year
of 2004.
FORWARD-LOOKING STATEMENTS
--------------------------
Certain sections of this Quarterly Report contain statements reflecting
the Company's views about its future performance and constitute "forward-looking
statements" under the Private Securities Litigation Reform Act of 1995. These
views involve risks and uncertainties that are difficult to predict and,
accordingly, the Company's actual results may differ materially from the results
discussed in such forward-looking statements. Readers should consider that
various factors, including changes in general economic conditions, competitive
market conditions and pricing pressures, relationships with key customers,
industry consolidation of retailers, wholesalers and builders, shifts in
distribution, the influence of e-commerce and other factors discussed in the
Company's Annual Report on Form 10-K and its other filings with the Securities
and Exchange Commission, may affect the Company's performance. The Company
undertakes no obligation to update publicly any forward-looking statements as a
result of new information, future events or otherwise.
The Company is in the process of evaluating its internal control system
over financial reporting in accordance with the requirements of Section 404 of
the Sarbanes-Oxley Act of 2002. Because of the Company's historical growth
through acquisition and its decentralized organizational structure with over 50
reporting units and over 600 operating locations worldwide, the Company
estimates that it has well in excess of 20,000 key controls over financial
reporting. As part of this initiative, the Company has invested a substantial
amount of time and resources in documenting and testing its system of internal
control. During the course of this comprehensive process, the Company and its
independent auditors have identified control deficiencies. The Company has
corrected a number and is remediating others of these control deficiencies.
However, there can be no assurance that one or more deficiencies will not
constitute what the Company or its independent auditors conclude is a material
weakness in internal control over financial reporting. Additionally, there can
be no assurance in light of the Company's decentralization, the number of its
operating units and magnitude of the overall initiative, that the Company will
be able to complete the process in time to allow its independent auditors to
finish their assessment and issue their audit report on a timely basis. The
Company believes, however, based on its current knowledge, that its
documentation, testing and final assessment will be completed on a timely basis.
24
MASCO CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Company owns four million shares of Furniture Brands International
common stock, which was received in June 2002 from the Company's investment in
Furnishings International Inc. debt. The market price during 2004 has been above
and below the Company's cost basis. If the price remains significantly below the
Company's cost basis, the Company may record an other-than-temporary asset
impairment charge in the fourth quarter of 2004.
At September 30, 2004, the Company has a $1.25 billion, 5-year revolving
credit agreement (due November 2005) and a $750 million, 364-day revolving
credit agreement (due November 2004) which are currently being renegotiated. The
Company expects to finalize a new 5-year, $2 billion revolving credit agreement
in early November 2004, which will replace both of the existing agreements.
25
MASCO CORPORATION
ITEM 4. CONTROLS AND PROCEDURES
a. Evaluation of Disclosure Controls and Procedures.
The Company's principal executive officer and principal financial
officer have concluded, based on an evaluation of the Company's
"disclosure controls and procedures" (as defined in the Securities
Exchange Act of 1934 Rules 13a-15(e) or 15d-15(e)) as required by
paragraph (b) of Exchange Act Rules 13a-15 or 15d-15, that, as of
September 30, 2004, the Company's disclosure controls and procedures
were effective and designed to ensure that information required to
be disclosed by the Company in the reports it files under the
Exchange Act is recorded, processed, summarized and reported within
the time periods specified in the Securities and Exchange
Commission's rules and forms.
b. Changes in Internal Control Over Financial Reporting.
There has been no change in the Company's internal control over
financial reporting identified in connection with the evaluation
required by paragraph (d) of Exchange Rules 13a-15 or 15d-15 that
occurred during the Company's last fiscal quarter (the Company's
fourth fiscal quarter in the case of an annual report) that has
materially affected, or is reasonably likely to materially affect,
the Company's internal control over financial reporting.
26
MASCO CORPORATION
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
- -------------------------
Information regarding this item is set forth in Note N to the Company's
Condensed Consolidated Financial Statements included in Part I, Item 1 of this
Report.
ITEM 2. UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF PROCEEDS
- ------------------------------------------------------------------
The following table provides information regarding the repurchase of
Company common stock for the three months ended September 30, 2004, in millions
except average price paid per common share data:
TOTAL NUMBER OF MAXIMUM NUMBER OF
SHARES PURCHASED SHARES THAT MAY
TOTAL NUMBER AVERAGE PRICE AS PART OF YET BE PURCHASED
OF SHARES PAID PER PUBLICLY ANNOUNCED UNDER THE PLANS
PERIOD PURCHASED(A) COMMON SHARE PLANS OR PROGRAMS OR PROGRAMS
------ ------------ ------------- ------------------ -----------------
7/1/04-
7/31/04 1 $29.81 1 23
8/1/04-
8/31/04 2 $32.30 1 22
9/1/04-
9/30/04 1 $33.40 1 21
----- -----
Total for
the quarter 4 $31.47 3
(A) Includes 1 million shares (i) acquired on the open market for the
long-term stock incentive award plan, (ii) surrendered for the exercise of
stock options or (iii) withheld for the payment of taxes upon vesting of
stock awards.
In December 2003, the Company's Board of Directors authorized the
repurchase of up to 50 million shares of the Company's common stock in
open-market transactions or otherwise.
ITEMS 3, 4 AND 5 ARE NOT APPLICABLE.
27
MASCO CORPORATION
PART II. OTHER INFORMATION - CONTINUED
ITEM 6. EXHIBITS
- ----------------
4 - Amendment No. 2 to First Supplemental Indenture dated as of November 2, 2004 between Masco
Corporation and J.P. Morgan Trust Company, National Association, as Trustee
10ai - Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan, Restricted Stock
Award Agreement
10aii - Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan, Restoration Stock
Option
10aiii - Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan, Stock Option Grant
for officers
10aiv - Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan, Stock Option Grant
for directors
10bi - Form of awards under the Masco Corporation 1997 Non-Employee Directors Stock Plan, Restricted
Stock Award Agreement
10bii - Form of awards under the Masco Corporation 1997 Non-Employee Directors Stock Plan, Stock Option Grant
12 - Computation of Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividends
31a - Certification of Chief Executive Officer required by Rule 13a-14(a) or 15d-14(a) of the Securities
and Exchange Act of 1934
31b - Certification of Chief Financial Officer required by Rule 13a-14(a) or 15d-14(a) of the Securities
and Exchange Act of 1934
32 - Certifications required by Rule 13a-14(b) or 15d-14(b) of the Securities and Exchange Act of 1934
and Section 1350 of Chapter 63 of Title 18 of the United States Code
28
MASCO CORPORATION
PART II. OTHER INFORMATION - CONCLUDED
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MASCO CORPORATION
(Registrant)
DATE: NOVEMBER 4, 2004 BY: /s/ Timothy Wadhams
----------------------- --------------------------------------
Timothy Wadhams
Senior Vice President and
Chief Financial Officer
29
MASCO CORPORATION
EXHIBIT INDEX
EXHIBIT
- -------
Exhibit 4 Amendment No. 2 to First Supplemental Indenture dated as of November 2, 2004 between
Masco Corporation and J.P. Morgan Trust Company, National Association, as Trustee
Exhibit 10ai Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan,
Restricted Stock Award Agreement
Exhibit 10aii Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan,
Restoration Stock Option
Exhibit 10aiii Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan,
Stock Option Grant for officers
Exhibit 10aiv Forms of awards under the Masco Corporation 1991 Long Term Stock Incentive Plan,
Stock Option Grant for directors
Exhibit 10bi Form of awards under the Masco Corporation 1997 Non-Employee Directors Stock Plan,
Restricted Stock Award Agreement
Exhibit 10bii Form of awards under the Masco Corporation 1997 Non-Employee Directors Stock Plan,
Stock Option Grant
Exhibit 12 Computation of Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividends
Exhibit 31a Certification of Chief Executive Officer required by Rule 13a-14(a) or 15d-14(a) of the
Securities and Exchange Act of 1934
Exhibit 31b Certification of Chief Financial Officer required by Rule 13a-14(a) or 15d-14(a) of the
Securities and Exchange Act of 1934
Exhibit 32 Certifications required by Rule 13a-14(b) or 15d-14(b) of the Securities and Exchange Act
of 1934 and Section 1350 of Chapter 63 of Title 18 of the United States Code