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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934. For the Period Ended June 30, 2003
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 1-4851
THE SHERWIN-WILLIAMS COMPANY
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
OHIO 34-0526850
- --------------------------------- ----------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
101 Prospect Avenue, N.W., Cleveland, Ohio 44115-1075
- ------------------------------------------ ----------------------------
(Address of principal executive offices) (Zip Code)
(216) 566-2000
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(Registrant's telephone number including area code)
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 (or for such shorter period that the registrant was
required to file such reports), 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.
Common Stock, $1.00 Par Value - 145,968,940 shares as of July 31, 2003.
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
THE SHERWIN-WILLIAMS COMPANY AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED INCOME (LOSS) (UNAUDITED)
Thousands of dollars, except per share data
Three months ended June 30, Six months ended June 30,
--------------------------- ---------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net sales $ 1,471,678 $ 1,453,198 $ 2,620,139 $ 2,602,376
Cost of goods sold 805,926 801,388 1,452,624 1,458,462
Gross profit 665,752 651,810 1,167,515 1,143,914
Percent to net sales 45.2% 44.9% 44.6% 44.0%
Selling, general and administrative expenses 484,082 465,517 924,532 887,703
Percent to net sales 32.9% 32.0% 35.3% 34.1%
Interest expense 9,952 10,127 20,044 20,818
Interest and net investment income (920) (951) (2,410) (1,740)
Other expense - net (793) 3,688 3,412 7,600
----------- ----------- ----------- -----------
Income before income taxes and cumulative
effect of change in accounting principle 173,432 173,429 221,937 229,533
Income taxes 63,302 65,903 81,007 87,223
----------- ----------- ----------- -----------
Income before cumulative effect
of change in accounting principle 110,130 107,526 140,930 142,310
Cumulative effect of change in accounting
principle - net of income taxes of $64,476 (183,136)
----------- ----------- ----------- -----------
Net income (loss) $ 110,130 $ 107,526 $ 140,930 $ (40,826)
=========== =========== =========== ===========
Income per share:
Basic:
Before cumulative effect of
change in accounting principle $ 0.76 $ 0.71 $ 0.97 $ 0.94
Cumulative effect of change in accounting
principle - net of income taxes (1.21)
----------- ----------- ----------- -----------
Net income (loss) $ 0.76 $ 0.71 $ 0.97 $ (0.27)
=========== =========== =========== ===========
Diluted:
Before cumulative effect of
change in accounting principle $ 0.75 $ 0.70 $ 0.95 $ 0.93
Cumulative effect of change in accounting
principle - net of income taxes (1.20)
----------- ----------- ----------- -----------
Net income (loss) $ 0.75 $ 0.70 $ 0.95 $ (0.27)
=========== =========== =========== ===========
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 2 -
THE SHERWIN-WILLIAMS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
Thousands of dollars
JUNE 30, December 31, June 30,
2003 2002 2002
----------- ------------ -----------
ASSETS
Current assets:
Cash and cash equivalents $ 20,016 $ 164,012 $ 11,503
Accounts receivable, less allowance 675,750 493,935 687,259
Inventories:
Finished goods 556,205 534,984 529,258
Work in process and raw materials 96,207 89,666 83,113
----------- ----------- -----------
652,412 624,650 612,371
Deferred income taxes 116,530 116,228 108,124
Other current assets 110,186 107,168 131,678
----------- ----------- -----------
Total current assets 1,574,894 1,505,993 1,550,935
Goodwill 552,959 552,207 555,799
Intangible assets 183,213 186,039 197,409
Deferred pension assets 415,361 414,589 406,942
Other assets 126,427 108,884 108,695
Property, plant and equipment 1,631,224 1,577,505 1,555,341
Less allowances for depreciation 951,753 912,905 904,397
----------- ----------- -----------
679,471 664,600 650,944
----------- ----------- -----------
Total assets $ 3,532,325 $ 3,432,312 $ 3,470,724
=========== =========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term borrowings $ 51,996
Accounts payable $ 569,998 $ 522,339 530,774
Compensation and taxes withheld 121,277 146,987 122,037
Current portion of long-term debt 12,474 15,001 13,481
Other accruals 285,749 297,991 302,667
Accrued taxes 170,332 101,178 175,952
----------- ----------- -----------
Total current liabilities 1,159,830 1,083,496 1,196,907
Long-term debt 505,515 506,682 507,244
Postretirement benefits other than pensions 215,329 213,749 212,551
Other long-term liabilities 283,011 286,495 237,017
Shareholders' equity:
Preferred stock - convertible, participating, no par
value:
41,806 and 105,351 shares outstanding at
December 31, 2002 and June 30, 2002, respectively 41,806 105,351
Unearned ESOP compensation (41,806) (105,351)
Common stock - $1.00 par value:
146,019,322, 148,910,487 and 151,646,746 shares
outstanding at June 30, 2003, December 31, 2002
and June 30, 2002, respectively 210,557 209,836 209,587
Other capital 273,226 265,635 231,049
Retained earnings 2,252,843 2,157,485 2,034,238
Treasury stock, at cost (1,128,204) (1,029,894) (936,525)
Cumulative other comprehensive loss (239,782) (261,172) (221,344)
----------- ----------- -----------
Total shareholders' equity 1,368,640 1,341,890 1,317,005
----------- ----------- -----------
Total liabilities and shareholders' equity $ 3,532,325 $ 3,432,312 $ 3,470,724
=========== =========== ===========
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 3 -
THE SHERWIN-WILLIAMS COMPANY AND SUBSIDIARIES
CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS (UNAUDITED)
Thousands of dollars
Six months ended June 30,
-------------------------
2003 2002
--------- ---------
OPERATING ACTIVITIES
Net income (loss) $ 140,930 $ (40,826)
Adjustments to reconcile net income (loss) to net operating cash:
Cumulative effect of change in accounting principle 183,136
Depreciation 51,464 50,572
Amortization of intangibles and other assets 5,473 5,781
Increase in deferred pension assets (772) (13,355)
Net increase in postretirement liability 1,580 2,588
Other 6,795 10,306
Change in current assets and liabilities-net (127,825) (52,287)
Other (6,106) (9,596)
--------- ---------
Net operating cash 71,539 136,319
INVESTING ACTIVITIES
Capital expenditures (62,023) (53,811)
Acquisitions of businesses (843) (26,248)
Increase in other investments (7,425) (13,208)
Proceeds from sale of assets 12,146
Other (7,067) (1,097)
--------- ---------
Net investing cash (77,358) (82,218)
FINANCING ACTIVITIES
Net increase in short-term borrowings 51,996
(Decrease) increase in long-term debt (530) 2,285
Payments of long-term debt (3,028) (101,791)
Payments of cash dividends (45,572) (45,864)
Proceeds from stock options exercised 6,689 32,431
Treasury stock purchased (95,950) (99,241)
Other (1,823) (2,745)
--------- ---------
Net financing cash (140,214) (162,929)
--------- ---------
Effect of exchange rate changes on cash 2,037 1,517
--------- ---------
Net decrease in cash and cash equivalents (143,996) (107,311)
Cash and cash equivalents at beginning of year 164,012 118,814
--------- ---------
Cash and cash equivalents at end of period $ 20,016 $ 11,503
========= =========
Income taxes paid $ 13,469 $ 28,299
Interest paid 19,857 23,650
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
- 4 -
THE SHERWIN-WILLIAMS COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Periods ended June 30, 2003 and 2002
NOTE A--BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and with the instructions to
Form 10-Q. Accordingly, they do not include all of the information and footnotes
required by accounting principles generally accepted in the United States for
complete financial statements. For further information, refer to the
consolidated financial statements and footnotes thereto included in the
Company's Form 10-K for the fiscal year ended December 31, 2002. In the opinion
of management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. The
consolidated results for the second quarter and six months ended June 30, 2003
are not necessarily indicative of the results to be expected for the fiscal year
ending December 31, 2003.
NOTE B--DIVIDENDS
Dividends paid on common stock during each of the first two quarters of 2003 and
2002 were $.155 per common share and $.15 per common share, respectively.
NOTE C--OTHER EXPENSE - NET
Items included in Other expense - net are as follows:
Three months ended Six months ended
(Thousands of dollars) June 30, June 30,
------------------- --------------------
2003 2002 2003 2002
------ -------- ------- --------
Dividend and royalty income $(449) $ (490) $(1,158) $(1,448)
Net (income) expense from
financing and investing activities (234) 1,948 1,216 3,661
Foreign currency related (gains) losses (150) 1,909 2,389 5,493
Other income (632) (771) (743) (1,872)
Other expense 671 1,092 1,708 1,766
The net (income) expense from financing and investing activities represents the
realized gains or losses associated with the disposal of fixed assets, the net
pre-tax expense associated with the Company's investment in broad-based
corporate owned life insurance and other related fees.
Other income and other expense include miscellaneous items that are not related
to the primary business purpose of the Company.
- 5 -
NOTE D--DISPOSITION AND TERMINATION OF OPERATIONS
The Company is continually re-evaluating its operating facilities against its
long-term strategic goals. Prior to January 1, 2003, upon commitment to a formal
shutdown plan of an operating facility, provisions were made for all estimated
qualified exit costs in accordance with Emerging Issues Task Force (EITF) No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity." Beginning January 1, 2003, the Company recognizes
liabilities associated with exit or disposal activities as incurred in
accordance with Statement of Financial Accounting Standards (SFAS) No. 146,
"Accounting for Costs Asssociated with Exit or Disposal Activities." Qualified
exit costs primarily include post-closure rent expenses, incremental
post-closure costs and costs of employee terminations. Adjustments may be made
to prior provisions for qualified exit costs if information becomes available
upon which more accurate amounts can be reasonably estimated. Concurrently,
property, plant and equipment is tested for impairment and, if impairment
exists, the carrying value of the related assets is reduced to estimated fair
value. Adjustments may be made for subsequent revisions in estimated fair value,
not to exceed original asset carrying value before impairment.
The following table summarizes the remaining liabilities for qualified exit
costs at June 30, 2003 and activity for the six month period then ended:
(Thousands of dollars) Actual
Balance at expenditures Balance at
December 31, charged to June 30,
Exit Plan 2002 accrual 2003
------------ ------------ ----------
Consumer manufacturing facility:
Severance and related costs $ 133 $ (133)
Other exit costs 2,790 (413) $ 2,377
Paint Stores manufacturing facility:
Other exit costs 333 (79) 254
Automotive Finishes research centers:
Other exit costs 574 574
Exit costs intiated prior to 2000 12,647 (403) 12,244
-------- -------- --------
Totals $ 16,477 $ (1,028) $ 15,449
======== ======== ========
For further details on the disposition and termination of operations, see Note 4
to the Consolidated Financial Statements in the Company's Annual Report on Form
10-K for the year ended December 31, 2002.
NOTE E--PRODUCT WARRANTIES
Changes in the Company's accrual for product warranty claims during the first
six months of 2003, including customer satisfaction settlements during the year,
were as follows:
(Thousands of dollars)
Balance at December 31, 2002 $ 15,510
Charges to expense 13,329
Settlements (12,057)
-----------
Balance at June 30, 2003 $ 16,782
===========
For further details on the Company's accrual for product warranty claims, see
Note 1 to the Consolidated Financial Statements in the Company's Annual Report
on Form 10-K for the year ended December 31, 2002.
- 6 -
NOTE F--COMPREHENSIVE INCOME
Comprehensive income is summarized as follows:
Three months ended Six months ended
(Thousands of dollars) June 30, June 30,
---------------------- ---------------------
2003 2002 2003 2002
--------- -------- --------- ---------
Net income (loss) $ 110,130 $107,526 $ 140,930 $ (40,826)
Foreign currency translation adjustments 21,676 (14,974) 21,390 (16,791)
--------- -------- --------- ---------
Comprehensive income (loss) $ 131,806 $ 92,552 $ 162,320 $ (57,617)
========= ======== ========= =========
NOTE G--STOCK-BASED COMPENSATION
At March 31, 2003, the Company had stock-based compensation plans accounted for
under the recognition and measurement principles of Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations, as more fully described in the consolidated financial
statements and footnotes included in the Company's Form 10-K for the year ended
December 31, 2002. Pro-forma information regarding the impact of stock-based
compensation on net income and earnings per share is required by SFAS No. 123,
"Accounting for Stock-Based Compensation." Such pro-forma information,
determined as if the Company had accounted for its employee stock options under
the fair value method of that statement, is illustrated in the following table:
Three months ended Six months ended
(Thousands of dollars except per share data) June 30, June 30,
-------------------------- --------------------------
2003 2002 2003 2002
-------- -------- -------- --------
Net income (loss), as reported $110,130 $107,526 $140,930 ($40,826)
Add: Total stock-based compensation expense
included in the determination of net income
as reported, net of related tax effects 488 488 975 975
Less: Total stock-based compensation expense
determined under fair value based method for
all awards, net of related tax effects (3,138) (2,986) (6,518) (5,621)
-------- -------- -------- -------
Pro forma net income (loss) $107,480 $105,028 $135,387 ($45,472)
======== ======== ======== =======
Net income (loss) per share:
Basic - as reported $ .76 $ .71 $ .97 ($ .27)
Basic - pro-forma $ .74 $ .69 $ .93 ($ .30)
Diluted - as reported $ .75 $ .70 $ .95 ($ .27)
Diluted - pro-forma $ .73 $ .69 $ .92 ($ .30)
- 7 -
NOTE H--INCOME (LOSS) PER COMMON SHARE
Three months ended June 30, Six months ended June 30,
------------------------------- -----------------------------
(Thousands of dollars except per share data) 2003 2002 2003 2002
------------- ------------- ------------ ------------
Income before cumulative effect
of change in accounting principle $ 110,130 $ 107,526 $ 140,930 $ 142,310
Cumulative effect of change in accounting
principle - net of income taxes of $64,476 (183,136)
------------- ------------- ------------ ------------
Net income (loss) $ 110,130 $ 107,526 $ 140,930 $ (40,826)
============= ============= ============ ============
Basic
Average common shares outstanding 145,448,365 151,792,721 145,644,704 151,743,156
============= ============= ============ ============
Income (loss) per common share:
Income before cumulative effect
of change in accounting principle $ 0.76 $ 0.71 $ 0.97 $ 0.94
Cumulative effect of change in
accounting principle (1.21)
------------- ------------- ------------ ------------
Net income (loss) $ 0.76 $ 0.71 $ 0.97 $ (0.27)
============= ============= ============ ============
Diluted
Average common shares outstanding 145,448,365 151,792,721 145,644,704 151,743,156
Non-vested restricted stock grants 591,000 318,400 625,917 317,067
Stock options - treasury stock method 1,562,299 2,222,264 1,544,038 1,615,653
------------- ------------- ------------ ------------
Average common shares assuming dilution 147,601,664 154,333,385 147,814,659 153,675,876
============= ============= ============ ============
Income (loss) per common share:
Income before cumulative effect
of change in accounting principle $ 0.75 $ 0.70 $ 0.95 $ 0.93
Cumulative effect of change in
accounting principle (1.20)
------------- ------------- ------------ ------------
Net income (loss) $ 0.75 $ 0.70 $ 0.95 $ (0.27)
============= ============= ============ ============
- 8 -
NOTE I--REPORTABLE SEGMENT INFORMATION
The Company reports segment information in the same way that management
internally organizes its business for assessing performance and making decisions
regarding allocation of resources in accordance with SFAS No. 131, "Disclosures
about Segments of an Enterprise and Related Information."
Net External Sales/ Operating Profit
2003 2002
--------------------------------- -------------------------------
(Thousands of dollars) NET SEGMENT Net Segment
EXTERNAL OPERATING External Operating
SALES PROFIT Sales Profit
---------- --------- ---------- ---------
THREE MONTHS ENDED JUNE 30:
Paint Stores $ 933,822 $122,643 $ 911,756 $123,589
Consumer 345,968 66,347 350,913 66,252
Automotive Finishes 121,296 15,340 123,637 17,731
International Coatings 68,812 616 65,393 3,018
Administrative 1,780 (31,514) 1,499 (37,161)
---------- -------- ---------- --------
Consolidated totals $1,471,678 $173,432 $1,453,198 $173,429
========== ======== ========== ========
SIX MONTHS ENDED JUNE 30:
Paint Stores $1,650,093 $152,584 $1,607,654 $163,657
Consumer 612,135 105,426 629,692 109,408
Automotive Finishes 227,742 25,423 235,195 29,159
International Coatings 126,615 357 126,810 (5,516)
Administrative 3,554 (61,853) 3,025 (67,175)
---------- -------- ---------- --------
Consolidated totals $2,620,139 $221,937 $2,602,376 $229,533
========== ======== ========== ========
Intersegment Transfers
Three months ended June 30, Six months ended June 30,
------------------------------- -----------------------------
(Thousands of dollars) 2003 2002 2003 2002
-------- -------- -------- --------
Paint Stores $ 129 $ 298 $ 239 $ 711
Consumer 286,342 277,114 499,174 487,032
Automotive Finishes 8,885 10,396 17,033 15,852
International Coatings 195 259 377 550
Administrative 1,102 1,096 2,181 2,141
-------- -------- -------- --------
Segment totals $296,653 $289,163 $519,004 $506,286
======== ======== ======== ========
Segment operating profit is total revenue, including intersegment transfers,
less operating costs and expenses. Domestic intersegment transfers are accounted
for at the approximate fully absorbed manufactured cost plus distribution costs.
International intersegment transfers are accounted for at values comparable to
normal unaffiliated customer sales. The Administrative Segment's expenses
include interest which is unrelated to certain financing activities of the
Operating Segments, certain foreign currency transaction losses related to
dollar-denominated debt and other financing activities, and other adjustments.
Net external sales and operating profits of all consolidated foreign
subsidiaries were $136.5 million and $8.5 million, respectively, for the second
quarter of 2003, and $131.6 million and $6.8 million, respectively, for the
second quarter of 2002. Net external sales and operating profits of these
subsidiaries were $251.0 million and $10.1 million, respectively, for the first
six months of 2003, and $252.3 million and $7.7 million, respectively, for the
first six months of 2002. Long-lived assets of these subsidiaries totaled $104.5
million and $103.8 million at June 30, 2003 and 2002, respectively. Domestic
operations account for the remaining net external sales, operating profits and
long-lived assets. The Administrative Segment's expenses do not include any
significant foreign operations. No single geographic area outside the United
States was significant relative to consolidated net external sales or
consolidated long-lived assets.
Export sales and sales to any individual customer were each less than 10% of
consolidated sales to unaffiliated customers during all periods presented.
- 9 -
NOTE J--CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE
The Company adopted SFAS No. 142, "Goodwill and Other Intangible Assets,"
effective January 1, 2002. Goodwill and intangible assets deemed to have
indefinite lives are no longer being amortized but are subject to impairment
tests in accordance with SFAS No. 142. During the first quarter 2002, the
Company recognized a transitional impairment charge of $247,612 ($183,136 after
tax or $1.21 per share) as the cumulative effect of a change in accounting
principle to reduce the carrying values of certain indefinite-lived intangible
assets and goodwill to estimated fair values as required by SFAS No. 142.
Impairment of indefinite-lived intangible assets amounted to $118,220 ($77,422
after tax or $.51 per share) and impairment of goodwill amounted to $129,392
($105,714 after tax or $.70 per share). The impairment of indefinite-lived
intangible assets was due primarily to a shortfall in sales from levels
anticipated at the time of acquisition and related principally to trademarks in
the Consumer Segment associated with the acquisition of Thompson Minwax Holding
Corp. In addition, certain trademarks in the International Coatings Segment were
impaired. The impairment of goodwill relates primarily to international
operations in the International Coatings and Automotive Finishes Segments.
Weakening foreign currency exchange rates and economic conditions, particularly
in South America, have negatively impacted profit and cash flow in U.S. dollars.
Fair values of indefinite-lived intangible assets and goodwill were estimated
using a discounted cash flow valuation model, incorporating a discount rate
commensurate with the risks involved for each group of assets.
NOTE K--IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In November 2002, the Emerging Issues Task Force issued EITF No. 02-16,
"Accounting by a Customer (Including a Reseller) for Certain Consideration
Received from a Vendor," which states that cash consideration received from a
vendor is presumed to be a reduction of the prices of the vendor's products or
services and should, therefore, be characterized as a reduction of Cost of goods
sold when recognized in the Statement of Consolidated Income. That presumption
is overcome when the consideration is either a reimbursement of specific,
incremental and identifiable costs incurred to sell the vendor's products, or a
payment for assets or services delivered to the vendor. The Company previously
treated these funds as a reduction of the overall advertising expense. EITF No.
02-16 became effective for the Company for all vendor reimbursement agreements
entered into or modified after December 31, 2002. Adoption of this EITF in 2003
resulted in insignificant reclassifications in the Company's second quarter
Statement of Consolidated Income.
In January 2003, the Financial Accounting Standards Board (FASB) issued
Interpretation No. 46, "Consolidation of Variable Interest Entities."
Interpretation No. 46 requires unconsolidated variable interest entities to be
consolidated by their primary beneficiaries if the entities do not effectively
disperse the risks and rewards of ownership among their owners and other parties
involved. From time-to-time, the Company participates in the U.S. affordable and
historic renovation real estate markets. The Company has participated in these
markets through (i) partnership arrangements in which it is a limited partner
and (ii) limited liability companies in which it is not a managing member. The
partnerships and limited liability companies obtain permanent debt financing
from third parties to invest in and own various real estate projects. The debt
is secured solely by the real estate with no recourse to the Company and is not
supported, guaranteed or otherwise subsidized by the Company. These partnerships
and limited liability companies have been determined to be variable interest
entities as defined by Interpretation No. 46. At June 30, 2003, the Company's
maximum loss exposure related to these variable interest entities is its net
invested equity of $8.4 million and income tax credit recapture risk of $19.6
million. Management is currently analyzing these variable interest entities to
determine if consolidation is required.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." SFAS No. 149 clarifies under
what circumstances a contract with an initial net investment meets the
characteristic of a derivative as discussed in SFAS No. 133, clarifies when a
derivative contains a financing component, amends the definition of an
"underlying" to conform it to the language used in FASB Interpretation No. 45,
"Guarantor Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" and amends certain other existing
pronouncements. The Company has only limited involvement with derivative
financial instruments, does not use them for trading purposes and is not a party
to any leveraged derivatives. However, the Company periodically enters into
forward exchange contracts to hedge some of its foreign currency exposure. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003
and for designated hedging relationships after June 30, 2003. Management does
not believe the adoption of SFAS No. 149 will have a material effect on its
results of operations, financial condition or liquidity.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." SFAS No. 150
requires that certain financial instruments, which under previous guidance could
be accounted for as equity, be classified as liabilities in statements of
financial position. SFAS No. 150 is effective for financial instruments entered
into or modified after May 31, 2003. Management does not believe the adoption of
SFAS No. 150 will have a material effect on its results of operations, financial
condition or liquidity.
- 10 -
ITEM 2. MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The consolidated financial statements and accompanying footnotes included in
this report have been prepared in accordance with accounting principles
generally accepted in the United States with certain amounts based on
management's best estimates and judgments. To determine appropriate carrying
values of assets and liabilities that are not readily available from other
sources, management uses assumptions based on historical results and other
factors that they believe are reasonable. Actual results could differ from those
estimates. Also, materially different amounts may result under materially
different conditions or from using materially different assumptions. However,
management currently believes that any materially different amounts resulting
from materially different conditions or material changes in facts or
circumstances are unlikely.
There have been no significant changes in critical accounting policies or
management estimates since the year ended December 31, 2002. There have been no
significant changes in the Company's accruals for environmental
remediation-related activities or qualified exit costs since the year ended
December 31, 2002. A comprehensive discussion of the Company's critical
accounting policies and management estimates is included in Management's
Discussion and Analysis of Financial Condition and Results of Operations in the
Company's Annual Report on Form 10-K for the year ended December 31, 2002.
FINANCIAL CONDITION
Cash and cash equivalents decreased $144.0 million during the first six months
of 2003 related primarily to treasury stock purchases of $96.0 million and cash
dividends of $45.6 million. During the first six months, net operating cash of
$71.5 million was used primarily for capital expenditures of $62.0 million and
other investments of $7.4 million. There were no short-term borrowings related
to the Company's commercial paper program outstanding at June 30, 2003. The
Company had unused maximum borrowing availability of $718.0 million at June 30,
2003 under the commercial paper program that is backed by the Company's
revolving credit agreements. At June 30, 2003, the Company's current ratio was
1.36, compared to 1.39 at December 31, 2002. The decrease in this ratio was due
primarily to an increase in accrued tax liabilities at June 30, 2003.
Since June 30, 2002, cash generated by operations of $494.1 million was used
primarily for capital expenditures of $134.7 million, treasury stock purchases
of $187.0 million, cash dividends of $90.7 million and reductions in short-term
borrowings of $52.0 million.
Capital expenditures during the first six months of 2003 primarily represented
expenditures associated with 15 new store openings, normal equipment replacement
in the Paint Stores Segment and a new distribution center in the Consumer
Segment. We do not anticipate the need
-11-
for any specific external financing to support our capital expenditure programs
during the remainder of 2003.
During the second quarter of 2003, the Company purchased 975,955 shares of its
common stock for treasury purposes, which brings the total number of shares
purchased in 2003 to 3,527,955. The Company acquires shares of its common stock
for general corporate purposes and, depending upon its cash position and market
conditions, the Company may acquire additional shares of its common stock in the
future. The Company had remaining authorization at June 30, 2003 to purchase
approximately 6.8 million shares of its common stock.
The Company's past operations included the manufacture and sale of lead pigments
and lead-based paints. The Company, along with other companies, is a defendant
in a number of legal proceedings, including purported class actions, separate
actions brought by the State of Rhode Island, and actions brought by various
counties, cities, school districts and other government-related entities,
arising from the manufacture and sale of lead pigments and lead-based paints.
The plaintiffs are seeking recovery based upon various legal theories, including
negligence, strict liability, breach of warranty, negligent misrepresentations
and omissions, fraudulent misrepresentations and omissions, concert of action,
civil conspiracy, violations of unfair trade practices and consumer protection
laws, enterprise liability, market share liability, nuisance, unjust enrichment
and other theories. The plaintiffs seek various damages and relief, including
personal injury and property damage, costs relating to the detection and
abatement of lead-based paint from buildings, costs associated with a public
education campaign, medical monitoring costs and others. The Company believes
that the litigation is without merit and is vigorously defending such
litigation. The Company expects that additional lead pigment and lead-based
paint litigation may be filed against the Company in the future asserting
similar or different legal theories and seeking similar or different types of
damages and relief. Legal proceedings pending in certain jurisdictions have been
scheduled for trial during 2004, and the Company believes it is possible that
additional legal proceedings could be scheduled for trial during 2004 and
subsequent years.
Litigation is inherently subject to many uncertainties. Adverse court rulings or
determinations of liability, among other factors, could affect the lead pigment
and lead-based paint litigation against the Company and encourage an increase in
the number and nature of future claims and proceedings. In addition, from time
to time, various legislation and administrative regulations have been enacted or
proposed to impose obligations on manufacturers of lead pigments and lead-based
paints respecting asserted health concerns associated with such products and to
overturn court decisions in which the Company and other manufacturers have been
successful. Due to the uncertainties involved, management is unable to predict
the outcome of the lead pigment and lead-based paint litigation, the number or
nature of possible future claims and proceedings, or the affect that any
legislation and/or administrative regulations may have on the litigation or
against the Company. In addition, management cannot reasonably determine the
scope or amount of the potential costs and liabilities related to such
litigation, or any such legislation and regulations. The Company has not accrued
any amounts for such litigation. Any costs that may be incurred or potential
liabilities that may result from such litigation or such legislation and
regulations cannot reasonably be estimated. However, based upon, among other
things, the outcome of such litigation to date, management does not currently
believe that the costs or potential liabilities ultimately determined to be
attributable to the Company arising out
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of such litigation will have a material adverse effect on the Company's results
of operations, liquidity or financial condition.
The operations of the Company, like those of other companies in our industry,
are subject to various federal, state and local environmental laws and
regulations. These laws and regulations not only govern our current operations
and products, but also impose potential liability on the Company for past
operations which were conducted utilizing practices and procedures that were
considered acceptable under the laws and regulations existing at that time. The
Company expects environmental laws and regulations to impose increasingly
stringent requirements upon the Company and our industry in the future. The
Company believes that it conducts its operations in compliance with applicable
environmental laws and regulations and has implemented various programs designed
to protect the environment and promote continued compliance.
The Company is involved with environmental compliance, investigation and
remediation activities at some of its current and former sites (including sites
which were previously owned and/or operated by businesses acquired by the
Company). The Company, together with other parties, has also been designated a
potentially responsible party under federal and state environmental protection
laws for the investigation and remediation of environmental contamination and
hazardous waste at a number of third-party sites, primarily Superfund sites. The
Company may be similarly designated with respect to additional third-party sites
in the future.
The Company accrues for environmental-related activities relating to its past
operations and third-party sites, including Superfund sites, for which
commitments or clean-up plans have been developed and for which costs can be
reasonably estimated. These estimated costs are determined based on currently
available facts regarding each site. The Company continuously assesses its
potential liability for investigation and remediation-related activities and
adjusts its environmental-related accruals as information becomes available upon
which more accurate costs can be reasonably estimated and as additional
accounting guidelines are issued which require changing the estimated costs or
the procedure utilized in estimating such costs. Actual costs incurred may vary
from these estimates due to the inherent uncertainties involved including, among
others, the number and financial condition of parties involved with respect to
any given site, the volumetric contribution which may be attributed to the
Company relative to that attributed to other parties, the nature and magnitude
of the wastes involved, the various technologies that can be used for
remediation and the determination of acceptable remediation with respect to a
particular site. The Company's environmental-related liabilities are expected to
be resolved over an extended period of time. There were no significant changes
in currently available facts or in the accrual for environmental-related
activities during the first six months of 2003.
Pursuant to a Consent Decree entered into with the United States of America in
1997, on behalf of the Environmental Protection Agency, filed in the United
States District Court for the Northern District of Illinois, the Company has
agreed, in part, to (i) conduct an investigation at its southeast Chicago,
Illinois facility to determine the nature, extent and potential impact, if any,
of environmental contamination at the facility and (ii) implement remedial
action measures, if required, to address any environmental contamination
identified pursuant to the investigation.
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While the Company continues to investigate this site, certain initial remedial
actions have occurred at this site.
In 1999, the Company entered into a settlement agreement with PMC, Inc. settling
a lawsuit brought by PMC regarding the Company's former manufacturing facility
in Chicago, Illinois which was sold to PMC in 1985. Pursuant to the terms of the
settlement agreement, the Company agreed, in part, to investigate and remediate,
as necessary, certain soil and/or groundwater contamination caused by historical
disposals, discharges, releases and/or events occurring at this facility. In
2000, the Company entered into a Consent Decree with the People of the State of
Illinois settling an action brought by the State of Illinois against the Company
regarding the PMC facility. Under the Consent Decree, the Company agreed, in
part, to investigate and remediate, as necessary, certain soil and/or
groundwater contamination caused by historical disposals, discharges, releases
and/or events occurring at this facility. The Company is currently conducting
its investigation of this facility.
With respect to the Company's southeast Chicago, Illinois facility and the PMC
facility, the Company has evaluated its potential liability and, based upon its
investigations to date, has accrued appropriate amounts. The Company expects the
liabilities related to these facilities to be resolved over an extended period
of time.
Due to the uncertainties surrounding the investigations and remediation
activities at some of the Company's sites and third-party sites, the Company's
ultimate liability may result in costs that are significantly higher than
currently accrued. In such event, the recording of the liability may result in a
material impact on net income for the annual or interim period during which the
additional costs are accrued. The Company does not believe that any potential
liability ultimately attributed to the Company for its environmental-related
matters will have a material adverse effect on the Company's financial
condition, liquidity or cash flow.
There have been no significant changes to the Company's contractual obligations
and commercial commitments in the second quarter or first six months of 2003 as
summarized in Management's Discussion and Analysis of Financial Condition and
Results of Operations in the Company's Annual Report on Form 10-K for the year
ended December 31, 2002.
There have been no significant changes to the Company's accrual for product
warranty claims in the second quarter of 2003 as disclosed in Note E.
RESULTS OF OPERATIONS
Consolidated net sales increased 1.3 percent for the quarter to $1.47 billion
from $1.45 billion in the second quarter last year and increased 0.7 percent for
the first six months to $2.62 billion from $2.60 billion in the first six months
of 2002. Good domestic architectural paint sales during the second quarter of
2003 were partially offset by continued sluggishness in domestic industrial and
automotive sales. Poor economic conditions in South America and weak
year-over-year currency exchange rates in Argentina and Brazil continue to
negatively impact international sales in U.S. dollars. Excluding the effects of
currency exchange fluctuations relative to last year, consolidated net sales
increased 1.8 percent for the second quarter and first six months of 2003. Net
sales in the Paint Stores Segment increased 2.4 percent to $933.8 million in the
quarter and
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2.6 percent to $1.65 billion in the first six months due primarily to good
architectural paint sales gains which continue to be partially offset by ongoing
sluggishness in industrial maintenance, marine coatings and product finishes
sales. In addition, unusually harsh late spring weather during the second
quarter adversely impacted sales in some regions of the U.S. Comparable-store
sales, which are sales from stores open for more than twelve calendar months,
were up 1.7 percent in the second quarter and 1.6 percent in the first six
months. Net sales of the Consumer Segment decreased 1.4 percent to $346.0
million in the quarter and 2.8 percent to $612.1 million in the first six months
compared to last year. The second quarter sales shortfall was due primarily to
the readjustment of store count by a major retailer and the impact of harsh late
spring weather in certain regions of the U.S. on sales of architectural paint
and exterior stains. The Automotive Finishes Segment's net sales decreased 1.9
percent to $121.3 million in the second quarter and 3.2 percent to $227.7
million for the first six months. A reduction in the number of repairable
vehicles continues to restrain growth in collision repair sales while the slowly
recovering automotive market continued to hamper OEM sales improvements. Net
sales in the International Coatings Segment increased 5.2 percent to $68.8
million in the quarter and remained essentially flat at $126.6 million in the
first six months of 2003. Poor economic conditions in South America continued to
constrain architectural and product finishes sales while sales in the U.K. were
strong. Excluding the effects of currency exchange fluctuations relative to last
year, net sales for the Segment increased 15.0 percent and 15.9 percent for the
quarter and the six months, respectively.
Consolidated gross profit increased $13.9 million and $23.6 million in the
second quarter and first six months of 2003, respectively. As a percent of
sales, consolidated gross profit increased to 45.2 percent in the second quarter
of 2003 from 44.9 percent in the second quarter of 2002 and to 44.6 percent for
the first six months of 2003 from 44.0 percent for the first six months of 2002.
Excluding a charge of $6.5 million included in cost of goods sold in the first
quarter of 2002 related to the impairment of long-lived assets in accordance
with SFAS No. 144, gross profit for the first six months of 2003 increased $17.1
million as compared with last year. The Paint Stores Segment's gross profit for
the second quarter and first six months of 2003 increased $20.0 million and
$30.7 million, respectively, due primarily to good architectural paint sales.
The Consumer Segment's gross profit for the second quarter and six months of
2003 decreased $6.8 million and $11.5 million, respectively, due to lower volume
sales and resulting lower volume manufacturing absorption. The Automotive
Finishes Segment's gross profit remained essentially flat during the second
quarter and first six months of 2003 due to selective price increases and
improved product mix. Excluding the impairment charge during the first quarter
of 2002, the International Coatings Segment's gross profit for the second
quarter and first six months of 2003 decreased by $1.5 million and $4.2 million,
respectively, as a result of economic and competitive pricing pressures.
Consolidated selling, general and administrative expenses as a percent of sales
increased to 32.9 percent in the second quarter of 2003 from 32.0 percent in the
second quarter of 2002 and increased to 35.3 percent in the first six months of
2003 from 34.1 percent in the six months of 2002. Consolidated selling, general
and administrative expenses increased $18.6 million and $36.8 million compared
to last year for the second quarter and the first six months, respectively. In
the Paint Stores Segment, increased spending of $21.9 million in the second
quarter and $40.1 million for the first six months was due primarily to
incremental expenses associated with new and acquired stores, increased pension
expense and increased utility costs. The Consumer
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Segment's SG&A ratio was favorable to last year in the second quarter and first
six months of 2003 primarily due to continued cost control. The Automotive
Segment's SG&A expense as a percent of sales increased for both the second
quarter and first six months of 2003 due to lower sales levels and increased
pension expense. SG&A expense as a percent of sales for the International
Coatings Segment in the second quarter was unfavorable with last year due to
economic pressures and increased pension expense. For the first six months of
2003, SG&A expense as a percent of sales was favorable to last year in the
International Coatings Segment due to a $2.5 million long-lived asset impairment
charge recorded in the first quarter of 2002 partially offset by increased
pension expense in 2003.
Decreased interest expense in the second quarter and first six months of 2003
versus 2002 is attributed to lower average outstanding short-term and long-term
debt and lower average short-term borrowing rates.
Other expense - net was lower for the second quarter and first six months of
2003 compared to 2002 primarily due to favorable foreign currency transaction
gains, lower financing and investing expenses and increased benefit fund
returns.
Net income increased $2.6 million, or 2.4 percent, in the second quarter of 2003
and, before the cumulative effect of change in accounting principle, decreased
$1.4 million, or 1.0 percent, for the first six months of 2003. Diluted net
income per common share increased to $.75 per share in the quarter compared to
$.70 per share in 2002. Before the cumulative effect of change in accounting
principle for the first six months, diluted net income per common share
increased to $.95 per share from $.93 per share in 2002.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Certain statements contained in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and elsewhere in this report
constitute "forward-looking statements" within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
These forward-looking statements are based upon management's current
expectations, estimates, assumptions and beliefs concerning future events and
conditions and may discuss, among other things, anticipated future performance
(including sales and earnings), expected growth, future business plans and the
costs and potential liability for environmental-related matters and the lead
pigment and lead-based paint litigation. Any statement that is not historical in
nature is a forward-looking statement and may be identified by the use of words
and phrases such as "expects," "anticipates," "believes," "will," "will likely
result," "will continue," "plans to" and similar expressions. Readers are
cautioned not to place undue reliance on any forward-looking statements.
Forward-looking statements are necessarily subject to risks, uncertainties and
other factors, many of which are outside the control of the Company, that could
cause actual results to differ materially from such statements and from the
Company's historical results and experience.
These risks, uncertainties and other factors include such things as: (a) general
business conditions, strengths of retail and manufacturing economies and the
growth in the coatings industry; (b) competitive factors, including pricing
pressures and product innovation and quality; (c) changes in raw material
availability and pricing; (d) changes in the Company's relationships
-16-
with customers and suppliers; (e) the ability of the Company to attain cost
savings from productivity initiatives; (f) the ability of the Company to
successfully integrate past and future acquisitions into its existing
operations, as well as the performance of the businesses acquired; (g) changes
in general domestic economic conditions such as inflation rates, interest rates
and tax rates; (h) risks and uncertainties associated with the Company's
expansion into and its operations in China, South America and other foreign
markets, including inflation rates, recessions, foreign currency exchange rates,
foreign investment and repatriation restrictions, unrest and other external
economic and political factors; (i) the achievement of growth in developing
markets, such as China, Mexico and South America; (j) increasingly stringent
domestic and foreign governmental regulations including those affecting the
environment; (k) inherent uncertainties involved in assessing the Company's
potential liability for environmental remediation-related activities; (l) other
changes in governmental policies, laws and regulations, including changes in
accounting policies and standards and taxation requirements (such as new tax
laws and new or revised tax law interpretations); (m) the nature, cost, quantity
and outcome of pending and future litigation and other claims, including the
lead pigment and lead-based paint litigation and the affect of any legislation
and administrative regulations relating thereto; and (n) unusual weather
conditions.
Readers are cautioned that it is not possible to predict or identify all of the
risks, uncertainties and other factors that may affect future results and that
the above list should not be considered to be a complete list. Any
forward-looking statement speaks only as of the date on which such statement is
made, and the Company undertakes no obligation to update or revise any
forward-looking statement, whether as a result of new information, future events
or otherwise.
-17-
ITEM 3. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk associated with interest rates and value
changes in foreign currencies. The Company utilizes derivative instruments as
part of its overall financial risk management policy, but does not use
derivative instruments for speculative or trading purposes. The Company has
partially hedged risks associated with fixed interest rate debt by entering into
various interest rate swap agreements. The Company does not believe that any
potential loss related to interest rate exposure would have a material adverse
effect on the Company's financial condition, results of operations or cash
flows. The Company also enters into foreign currency option and forward
contracts to hedge against value changes in foreign currency. The Company
believes it may experience continuing losses relating to changes in foreign
currencies. However, the Company does not expect foreign currency translation,
transaction or hedging contract losses to have a material adverse effect on the
Company's financial condition, results of operations or cash flows. There were
no material changes in the Company's exposure to market risk since the
disclosure included in Management's Discussion and Analysis of Financial
Condition and Results of Operations in the Company's Annual Report on Form 10-K
for the year ended December 31, 2002.
-18-
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
Chairman and Chief Executive Officer and the Company's Senior Vice President -
Finance and Chief Financial Officer, of the effectiveness of the Company's
disclosure controls and procedures pursuant to Rule 13a-14 of the Securities
Exchange Act of 1934, as amended. Based upon that evaluation, the Company's
Chairman and Chief Executive Officer and Senior Vice President - Finance and
Chief Financial Officer concluded that the Company's disclosure controls and
procedures are effective in alerting them to material information relating to
the Company (including its consolidated subsidiaries) required to be disclosed
by the Company in its periodic SEC reports. There were no significant changes in
the Company's internal controls or in other factors that could significantly
affect these controls subsequent to the date of the evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
-19-
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders.
(a) The Company's 2003 Annual Meeting of Shareholders was held on
April 23, 2003.
(b) The number of directors of the Company was fixed at twelve and
the following persons were nominated to serve, and were
elected, as directors of the Company to serve until the next
annual meeting of shareholders and until their successors are
elected: J.C. Boland, J.G. Breen, D.E. Collins, C.M. Connor,
D.E. Evans, S.J. Kropf, R.W. Mahoney, G.E. McCullough, A.M.
Mixon, III, C.E. Moll, J.M. Scaminace and R.K. Smucker. The
voting results for each nominee were as follows:
Name For Withheld
---- --- --------
J.C. Boland 130,980,530 3,216,564
J.G. Breen 91,003,759 43,193,335
D.E. Collins 131,579,190 2,617,904
C.M. Connor 130,366,865 3,830,229
D.E. Evans 131,509,172 2,687,922
S.J. Kropf 131,392,116 2,804,978
R.W. Mahoney 131,018,639 3,178,455
G.E. McCullough 131,011,251 3,185,843
A.M. Mixon, III 130,200,240 3,996,854
C.E. Moll 131,001,747 3,195,843
J.M. Scaminace 131,427,526 2,769,568
R.K. Smucker 131,015,372 3,181,722
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits.
(31)(a) Rule 13a-14(a)/15d-14(a) Certification of Chief
Executive Officer (filed herewith).
(31)(b) Rule 13a-14(a)/15d-14(a) Certification of Chief
Financial Officer (filed herewith).
(32)(a) Section 1350 Certification of Chief Executive Officer
(filed herewith).
(32)(b) Section 1350 Certification of Chief Financial Officer
(filed herewith).
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(b) Reports on Form 8-K.
(i) The Company filed a Current Report on Form 8-K, dated
April 7, 2003, reporting under Item 9 that the
Company had issued a press release regarding its
sales and earnings expectations for the first quarter
of 2003 and the full year 2003.
(ii) The Company filed a Current Report on Form 8-K, dated
April 22, 2003, reporting under Items 9 and 12 that
the Company had issued a press release regarding its
financial results for the first quarter of 2003 and
certain other information.
SIGNATURES
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.
THE SHERWIN-WILLIAMS COMPANY
August 14, 2003 By: /s/ J. L. Ault
--------------
J. L. Ault
Vice President-Corporate Controller
August 14, 2003 By: /s/ L. E. Stellato
------------------
L. E. Stellato
Vice President, General Counsel and
Secretary
INDEX TO EXHIBITS
EXHIBIT NO. EXHIBIT
- ----------- -------
(31)(a) Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer (filed
herewith).
(31)(b) Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer (filed
herewith).
(32)(a) Section 1350 Certification of Chief Executive Officer (filed herewith).
(32)(b) Section 1350 Certification of Chief Financial Officer (filed herewith).
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