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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended 12/31/01
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
Commission file number 0-14787
WATTS INDUSTRIES, INC.
----------------------
(Exact name of registrant as specified in its charter)
Delaware 04-2916536
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(State of incorporation) (I.R.S. Employer Identification No.)
815 Chestnut Street, North Andover, MA 01845
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (978) 688-1811
Securities registered pursuant to Section 12(b) of the Act: Class A Common
Stock, par value $.10 per share
Name of exchange on which registered: New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Aggregate market value of the voting stock of the Registrant held by
non-affiliates of the Registrant on February 14, 2002 was $289,132,253.
As of February 14, 2002, 17,792,754 shares of Class A Common Stock, $.10
par value, 8,735,224 shares of Class B Common Stock, $.10 par value, of the
Registrant were outstanding.
Documents Incorporated by Reference
- -----------------------------------
Portions of the Registrant's Proxy Statement for its Annual Meeting of
Stockholders to be held on April 23, 2002, are incorporated by reference into
Part III of this Report.
1
PART I
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Item 1. BUSINESS.
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General
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Watts Industries, Inc., (the "Company") designs, manufactures and sells an
extensive line of valves and other products for the water quality, water safety,
water flow control and water conservation markets. The Company is a leading
manufacturer and supplier of these products in both North America and Europe.
The Company's growth strategy emphasizes expanding brand preference with
customers, focusing on code development and enforcement, developing new valve
products and entering into new markets for specialized valves and related
products through diversification of its existing business, strategic
acquisitions in related business areas, both domestically and abroad, and
continued development of products and services for the home improvement,
do-it-yourself (DIY) retail market. Watts has focused on the valve industry
since its inception in 1874, when it was founded to design and produce steam
regulators for New England textile mills and power plants. The Company was
incorporated in Delaware in 1985.
The business description that follows describes the general development of
the Company's water markets, which it has addressed primarily through the
plumbing and heating and water quality products business for fiscal 2001. The
Company's former industrial and oil and gas businesses were spun-off from the
Company on October 18, 1999 and are included as discontinued operations. See
Item 7. "Management's Discussion and Analysis of Financial Condition and Results
of Operations" for further information on these discontinued operations.
The Company's plumbing and heating and water quality product lines include
temperature and pressure safety relief valves; water pressure regulators;
backflow preventers for preventing contamination of potable water caused by
reverse flow within water supply lines and fire protection equipment;
thermostatic mixing valves, ball valves, automatic control valves, water
distribution manifolds, thermostatic radiator valves, check valves, and valves
for water service primarily in residential and commercial environments; metal
and plastic water supply/drainage products including stop valves, tubular brass
products, faucets, drains, sink strainers, compression and flare fittings;
plastic tubing and braided metal hose connectors for residential construction
and home repair and remodeling; drain systems for laboratory drainage and high
purity process installations; water heater seismic-restraint straps, and water
heater stands and enclosures; hydronic and electric radiant heating and snow
melting systems; residential and commercial water filtration and reverse osmosis
systems; and pressure and temperature gauges for use in the HVAC market.
Within a majority of the product lines the Company manufactures and
markets, the Company believes that it has one of the broadest product lines in
terms of the distinct designs, sizes and configurations of its valves. Products
representing a majority of the Company's sales have been approved under
regulatory standards incorporated into state and municipal plumbing and heating,
building and fire protection codes, and similar approvals have been obtained
from various agencies in the European market. The Company has consistently
advocated the development and enforcement of performance and safety standards,
and is committed to providing products to meet these standards, particularly for
safety and control valve products. The Company maintains quality control and
testing procedures at each of its manufacturing facilities in order to produce
products in compliance with code requirements. Additionally, a majority of the
Company's manufacturing subsidiaries have either acquired or are working to
acquire ISO 9000, 9001 or 9002 certification from the International Organization
for Standardization (ISO).
Recent Developments
- -------------------
On January 5, 2001, a wholly owned subsidiary of the Company acquired
Dumser Metallbau GmbH & Co. KG located in Landau, Germany. The main products of
Dumser are brass, steel, and stainless steel manifolds used as the prime
distribution device in hydronic heating systems, for which it has gained the
reputation as a market leader in the European hydronic heating industry. A
second range of products produced by Dumser are "Boiler Sets" which comprise a
wall-mounted cabinet to be installed in the vicinity of the boiler, containing
the factory assembled set of the circulation pump, as well as the pressure,
temperature and flow controls. Dumser has a 51% controlling share of Stern
Rubinetti, a $4 million Italian manufacturing company producing brass components
located in Brescia, Italy. Dumser's annualized sales prior to the acquisition
were approximately $24 million.
2
On June 1, 2001, a wholly owned subsidiary of the Company acquired Fimet
S.r.l. (Fabbrica Italiana Manometri e Termometri) located in Milan, Italy and a
100% Fimet owned subsidiary, MTB AD, located in Bulgaria. Fimet is recognized as
a leading European manufacturer of pressure and temperature gauges for use in
the HVAC market. The range of gauges is one of the most comprehensive in the
industry with applications from water and air-operated systems to more
sophisticated oil-filled and remote sensing gauges required by industrial
applications. Fimet's annualized sales prior to the acquisition were
approximately $9 million.
On June 13, 2001, a wholly owned subsidiary of the Company acquired
Premier Manufactured Systems, Inc. located in Phoenix, Arizona. Premier
manufactures water filtration systems for both residential and commercial
applications. Premier's leading line of products consists of reverse osmosis
filtration systems employing membrane technology. It also manufactures other
filtration products including under-the-counter ultraviolet filtration
technology as well as a variety of sediment and carbon filters. Premier's
annualized sales prior to the acquisition were approximately $10 million.
On September 28, 2001, a wholly owned subsidiary of the Company acquired
the assets of the Powers Process Controls Division of Mark Controls Corporation,
a subsidiary of Crane Co. located in Skokie, Illinois and Mississauga, Ontario,
Canada. Powers designs and manufactures thermostatic mixing valves for personal
safety and process control applications in commercial and institutional
facilities, as well as control valves and commercial plumbing brass products
including shower valves and lavatory faucets. Powers' annualized sales prior to
the acquisition were approximately $20 million.
On February 12, 2002, the Board of Directors approved an establishment of
a 100% controlled brass and bronze valve manufacturing plant in Tianjin, China,
for an estimated cost of $9,000,000. The Board ratified on February 12, 2002,
the establishment of a 60% owned joint venture in the Shanghai provinces to
support some of the Company's retail-oriented products, such as flexible hose
connectors, plumbing fittings and under-the-sink products. The Company's
investment for 60% of this joint venture is estimated to be $7,800,000.
As previously announced, on October 18, 1999, the Company spun-off its
industrial and oil and gas businesses into a separate publicly traded company,
CIRCOR International, Inc. ("CIRCOR"). Under the terms of the spin-off
transaction, the Company distributed to shareholders a tax-free dividend of one
share of CIRCOR common stock for every two shares of Company common stock owned
as of the record date by that shareholder (the "Distribution"). The Company
continues to manufacture and distribute plumbing and heating and water quality
products through its three geographic business segments: North America, Europe,
and Asia.
Sales
- -----
The Company relies primarily on commissioned representative organizations,
some of which maintain a consigned inventory of the Company's products, to
market its product lines. These organizations, which accounted for approximately
69% of the Company's net sales in fiscal 2001, sell primarily to plumbing and
heating wholesalers. The Company also sells products for the residential
construction and home repair and remodeling industries through DIY plumbing
retailers, national catalog distribution companies, hardware stores, building
material outlets and retail home center chains ("DIY Markets") and through the
Company's existing plumbing and heating wholesalers. In addition, the Company
sells products directly to certain large original equipment manufacturers
("OEM's") and private label accounts. The Company believes that sales to the
residential construction market may be subject to cyclical variations to a
greater extent than its other targeted markets; however, because the Company
sells into different geographic areas, to large and diverse customers, and has a
large replacement market, the potential adverse effects from cyclical variations
tend to be mitigated. No assurance can be given that the Company will be
protected from a broad downturn in the economy. Although no single customer
accounted for more than 10% of the Company's net sales in fiscal 2001, The Home
Depot accounted for approximately $54.5 million or 9.8% of the total net sales.
The second largest customer represents approximately 3.3% of the total net
sales. The top ten customers account for approximately 26% of the total net
sales; thousands of other customers comprise the remaining 74%.
3
Manufacturing
- -------------
The Company has fully integrated and highly automated manufacturing
capabilities including bronze and iron foundry, machining, plastic injection
molding and assembly operations. The Company's foundry operations include metal
pouring systems, automatic core making, yellow brass forging and brass and
bronze die castings. The Company's machining operations feature
computer-controlled machine tools, high-speed chucking machines with robotics
and automatic screw machines for machining bronze, brass and steel components.
The Company has invested heavily in recent years to expand its manufacturing
base and to ensure the availability of the most efficient and productive
equipment. The Company is committed to maintaining its manufacturing equipment
at a level consistent with current technology in order to maintain high levels
of quality and manufacturing efficiencies. As part of this commitment, the
Company has spent a total of $62,110,000 on capital expenditures over the last
three and one half years. The Company has budgeted $18,700,000 for fiscal 2002
primarily for manufacturing machinery and equipment. The largest component of
this budget is the establishment of a 100% controlled brass and bronze valve
manufacturing plant in Tianjin, China, for an estimated cost of $9,000,000. See
Item 2. "Properties" below. The Company has substantially completed its
implementation of an integrated enterprise-wide software system in its U.S. and
Canadian locations with a focus on inventory management, production scheduling,
and electronic data interchange. This has enabled the Company to provide better
service to customers, improve working capital management, lower transaction
costs, and improve e-commerce capabilities. Capital expenditures were
$16,047,000, $14,238,000, $10,293,000 and $21,532,000 for fiscal 2001, 2000, six
months ended December 31, 1999 ("1999.5") and the twelve months ended June 30,
1999, respectively. Depreciation and amortization for such periods were
$23,675,000, $20,071,000, $9,225,000 and $17,456,000, respectively.
The Company is committed to dramatically reducing the cost of its products
during the next two years by consolidating plants in North America and Europe,
while at the same time expanding manufacturing capacity in China beyond the
Company's cast iron manufacturing joint venture (TWT) in Tianjin, China, of
which the Company has a 60% controlling interest. Current projects include the
consolidation of Powers Process Controls into the New Hampshire Webster Valve
plant; consolidation of Fimet into the nearby plant in Biassono, Italy; and the
consolidation of the existing German distribution company into the operations of
Dumser Metallbau. In the fourth quarter of 2001, the Company recorded a
$5,831,000 pre-tax charge for manufacturing restructuring costs, asset
write-downs, and other related costs. In 2002, the Company anticipates an
additional $6,000,000 to $8,000,000 pre-tax charge as the Company continues to
implement this manufacturing restructuring plan.
Raw Materials
- -------------
Three significant raw materials used in the Company's production processes
are bronze ingot, brass rod, and cast iron. While the Company historically has
not experienced significant difficulties in obtaining these commodities in
quantities sufficient for its operations, there have been significant changes in
their prices. The Company's gross profit margins are adversely affected to the
extent that the selling prices of its products do not increase proportionately
with increases in the costs of bronze ingot, brass rod, and cast iron. Any
significant unanticipated increase or decrease in the prices of these
commodities could materially affect the Company's results of operations. The
Company manages this risk by monitoring related market prices, working with its
suppliers to achieve the maximum level of stability in their costs and related
pricing, seeking alternative supply sources when necessary and passing increases
in commodity costs to its customers, to the maximum extent possible, when they
occur. Additionally, on a limited basis, the Company uses commodity futures
contracts to manage this risk. The Company did not purchase any commodity future
contracts during fiscal 2001 and there were none outstanding at December 31,
2001. No assurances can be given that such factors will protect the Company from
future changes in the prices for such raw materials. See Item 7A. "Quantitative
and Qualitative Disclosures About Market Risk."
Competition
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The domestic and international markets for valves are intensely
competitive and include companies possessing greater financial, marketing and
other resources than the Company. Management considers product quality,
reputation, price, effectiveness of distribution and breadth of product line to
be the primary competitive factors. The Company believes that new product
development and product engineering are also important to success in the valve
industry and that the Company's position in the industry is attributable in
significant part to its ability to develop new and innovative products quickly
and to adapt and enhance existing products. During fiscal 2001, the Company
continued to develop new and innovative products to enhance market position and
is continuing to implement manufacturing and
4
design programs to reduce costs. The Company cannot be certain that its efforts
to develop new products will be successful or that its customers will accept its
new products. The Company employs approximately 46 engineers and technicians,
excluding engineers working at TWT in Tianjin, China. Although the Company owns
certain patents and trademarks that it considers to be of importance, it does
not believe that its business and competitiveness as a whole is dependent on any
one of its patents or trademarks or on patent or trademark protection generally.
The Company's financial information by geographic business segment is
contained in Note 17 of Notes to Consolidated Financial Statements incorporated
herein by reference. From time to time, the Company's results of operations may
be adversely affected by fluctuations in foreign exchange rates. Backlog was
$25,076,000 at February 8, 2002 and $27,265,000 at February 9, 2001. The Company
does not believe that its backlog at any point in time is indicative of future
operating results. The Company expects that available funds and funds provided
from the Company's operations are sufficient to meet anticipated capital
requirements. See Item 7. "Management's Discussion and Analysis of Financial
Condition and Results of Operations" below as it relates to the impact of
foreign exchange rates, capital requirements and financial information by
geographic segment.
As of December 31, 2001, the Company's domestic and foreign operations
employed approximately 3,167 people, plus 732 employees at TWT in Tianjin,
China. There are no employees that are covered by collective bargaining
agreements in North America. European employees are subject to the traditional
national collective bargaining agreements. The Company believes that its
employee relations are good.
Executive Officers
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Information with respect to the executive officers of the Company is set forth
below:
Name Position Age
- ---- -------- ---
Timothy P. Horne Chairman of the Board, Chief Executive Officer, 63
President and Director
William C. McCartney Chief Financial Officer, Treasurer and Secretary 48
Michael O. Fifer President of North American Operations 44
Robert T. McLaurin Corporate Vice President of Asian Operations 71
Lester J. Taufen General Counsel, Vice President of Legal Affairs 58
and Assistant Secretary
Timothy P. Horne joined the Company in September 1959 and has been a
Director since 1962. Mr. Horne served as the Company's President from 1976 to
1978, from 1994 to April 1997 and again since October 1999. He has served as
Chief Executive Officer since 1978, and he became the Company's Chairman of the
Board in April 1986.
William C. McCartney joined the Company in 1985 as Controller. He was
appointed the Company's Vice President of Finance in 1994 and served as
Corporate Controller of the Company from April 1988 to December 1999. Mr.
McCartney was appointed Chief Financial Officer, Treasurer and Secretary on
January 1, 2000.
Michael O. Fifer joined the Company in May 1994 and was appointed the
Company's Vice President of Corporate Development. He was appointed President of
North American Operations in October 1999. Prior to joining the Company, Mr.
Fifer was Associate Director of Corporate Development with Dynatech Corp., a
diversified high-tech manufacturer, from 1991 to April 1994.
Robert T. McLaurin was appointed Corporate Vice President of Asian
Operations in August 1994. He served as the Senior Vice President of
Manufacturing of Watts Regulator Co. from 1983 to August 1994. He joined Watts
Regulator Company as Vice President of Manufacturing in 1978.
Lester J. Taufen joined the Company in January 1999 as Associate Corporate
Counsel. He was appointed General Counsel and Vice President of Legal Affairs,
and Assistant Secretary in January 2000. Prior to joining the Company, Mr.
Taufen was employed for 13 years at Elf Atochem North America, Inc., a chemical
manufacturing company, serving as Senior Counsel.
5
Product Liability, Environmental and Other Litigation Matters
- -------------------------------------------------------------
The Company is subject to a variety of potential liabilities connected
with its business operations, including potential liabilities and expenses
associated with possible product defects or failures and compliance with
environmental laws. The Company maintains product liability and other insurance
coverage which it believes to be generally in accordance with industry
practices. Nonetheless, such insurance coverage may not be adequate to protect
the Company fully against substantial damage claims which may arise from product
defects and failures.
James Jones Litigation
On June 25, 1997, Nora Armenta sued James Jones Company, Watts Industries,
Inc., which formerly owned James Jones, Mueller Co., and Tyco International
(U.S.) Inc. in the California Superior Court for Los Angeles County with a
complaint that sought tens of millions of dollars in damages. By this complaint
and an amended complaint filed on November 4, 1998 ("First Amended Complaint"),
Armenta, a former employee of James Jones, sued on behalf of 34 municipalities
as a qui tam plaintiff, a Relator, under the California False Claims Act. Late
in 1998, the Los Angeles Department of Water and Power ("LADWP") intervened. In
December 2000, the court allowed the Relator to file a Second Amended Complaint,
which added a number of new cities and water districts as plaintiffs and brought
the total number of plaintiffs to 161. To date, 14 of the total number of
plaintiffs have intervened.
The First Amended Complaint alleges that the Company's former subsidiary
(James Jones Company) sold products that did not meet contractually specified
standards used by the named municipalities for their water systems and falsely
certified that such standards had been met. Armenta claims that these
municipalities were damaged by their purchase of these products, and seeks
treble damages, legal costs, attorneys' fees and civil penalties under the False
Claims Act.
The LADWP's intervention filed on December 9, 1998 adopted the First
Amended Complaint and added claims for breach of contract, fraud and deceit,
negligent misrepresentation, and unjust enrichment. The LADWP also sought past
and future reimbursement costs, punitive damages, contract difference in value
damages, treble damages, civil penalties under the False Claims Act and costs of
the suit.
One of the First Amended Complaint's allegations is the suggestion that
because some of the purchased James Jones products are out of specification and
contain more lead than the `85 bronze specified, a risk to public health might
exist. This contention is predicated on the average difference of about 2% lead
content in `81 bronze (6% to 8% lead) and `85 bronze (4% to 6% lead) alloys and
the assumption that this would mean increased consumable lead in public drinking
water. The evidence and discovery available to date indicate that this is not
the case.
In addition, bronze that does not contain more than 8% lead, like '81
bronze, is approved for municipal and home plumbing systems by municipalities
and national and local codes, and the Federal Environmental Protection Agency
defines metal for pipe fittings with no more than 8% lead as "lead free" under
Section 1417 of the Federal Safe Drinking Water Act.
In June 2001, the Company and the other defendants reached a proposed
settlement with the LADWP, one of the plaintiffs, which was approved by the
California Superior Court on October 31, 2001 and by the Los Angeles City
Council on December 14, 2001. On January 19, 2001, the California False Claims
Act claims filed by the City of Pomona were dismissed. The California Court of
Appeal reversed this dismissal, and the California Supreme Court declined to
review this reversal.
After the Company's insurers had denied coverage for the claims in this
case, the Company filed a complaint in the California Superior Court against its
insurers for coverage. The James Jones Company filed a similar complaint, and,
on October 30, 2001, the California Superior Court ruled that Zurich American
Insurance Company must pay all reasonable defense costs incurred by the Company
in the James Jones case since April 23, 1998 as well as the Company's future
defense costs in this case until its final resolution. Zurich is contesting this
ruling. The Company is currently unable to predict the outcome of the litigation
relating to insurance coverage.
6
Based on management's assessment, the Company does not believe that the
ultimate outcome of the James Jones case will have a material adverse effect on
its liquidity, financial condition or results of operations. While this
assessment is based on all available information, litigation is inherently
uncertain, and the actual liability to the Company to fully resolve this
litigation cannot be predicted with any certainty. The Company intends to
continue to contest vigorously the James Jones case and its related litigation.
Environmental
The New York Attorney General ("NYAG"), on behalf of the New York State
Department of Environmental Conservation ("NYSDEC"), has threatened litigation
against the Company and approximately fifteen (15) other Potentially Responsible
Parties ("PRPs") for the cost of closing, and controlling contamination from,
the Babylon Landfill in Babylon, New York. The Company agreed to enter a tolling
agreement with the NYAG to permit formation of a PRP group as a first step
toward establishing a negotiation process. The NYAG has produced only a record
of an interview in which a landfill employee stated that, before the Company had
acquired the Jameco company, Jameco had delivered waste to the site in its own
trucks. The Company knows of no other information connecting it or any
predecessor to this site.
On September 25, 2001, the United States Environmental Protection Agency
("EPA") issued a complaint and compliance order to the Watts Regulator Co., a
wholly owned subsidiary of the Company, under the Resource Conservation and
Recovery Act ("RCRA") with respect to a sand reclamation unit and the sand it
generated at its Spindale, North Carolina facility. All requirements of this
complaint and compliance order have been resolved by a Consent Agreement and
Final Order filed on January 30, 2002, which requires payment of a $100,000
civil penalty and submissions of a closure report for the reclamation unit and a
site assessment report for what became of the reclaimed sand which currently
appears to have been used in a manner acceptable to the EPA.
Certain of the Company's operations generate solid and hazardous wastes,
which are disposed of elsewhere by arrangement with the owners or operators of
disposal sites or with transporters of such waste. The Company's foundry and
other operations are subject to various federal, state and local laws and
regulations relating to environmental quality. Compliance with these laws and
regulations requires the Company to incur expenses and monitor its operations on
an ongoing basis. The Company cannot predict the effect of future requirements
on its capital expenditures, earnings or competitive position due to any changes
in federal, state or local environmental laws, regulations or ordinances.
The Company is currently a party to or otherwise involved in various
administrative or legal proceedings under federal, state or local environmental
laws or regulations involving a limited number of sites. Based on facts
presently known to it, the Company does not believe that the outcome of these
environmental proceedings will have a material adverse effect on its financial
condition or results of operations. Given the nature and scope of the Company's
manufacturing operations, there can be no assurance that the Company will not
become subject to other environmental proceedings and liabilities in the future
which may be material to the Company. See Note 15 of the Notes to the
Consolidated Financial Statements.
Other Litigation
Other lawsuits and proceedings or claims, arising from the ordinary course
of operations, are also pending or threatened against the Company and its
subsidiaries. Based on the facts currently known to it, the Company does not
believe that the ultimate outcome of these other litigation matters will have a
material adverse effect on its financial condition or results of operation. See
Note 15 of the Notes to the Consolidated Financial Statements.
7
Item 2. PROPERTIES.
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The Company maintains 33 facilities worldwide with its corporate
headquarters located in North Andover, Massachusetts. The manufacturing
operations include five casting foundries, two of which are located in the
United States, one in Europe and two at TWT in Tianjin, China, and it maintains
one yellow brass forging foundry located in Italy. Castings and forgings from
these foundries and other components are machined and assembled into finished
valves at 20 manufacturing facilities located in the United States, Canada,
Europe and China. Many of these facilities contain sales offices or warehouses
from which the Company ships finished goods to customers and commissioned
representative organizations. All the Company's operating facilities and the
related real estate are owned by the Company, except the buildings and land
located in Tianjin, People's Republic of China which are leased by TWT under a
lease agreement, the remaining term of which is approximately 24 years, the
Company's manufacturing facility in Woodland, California, with a remaining lease
term of 2 years, and the Company's acquired facility in Phoenix, Arizona, with a
lease agreement expiring in 2002.
Certain of the Company's facilities are subject to mortgages and
collateral assignments under loan agreements with long-term lenders. In general,
the Company believes that its properties, including machinery, tools and
equipment, are in good condition, well maintained and adequate and suitable for
their intended uses. The Company believes that the manufacturing facilities are
currently operating at a level that management considers normal capacity. This
utilization is subject to change as a result of increases or decreases in sales.
Item 3. LEGAL PROCEEDINGS.
------------------
Item 3(a). The Company is from time to time involved in various legal and
administrative procedures. See Part I, Item 1, "Product Liability,
Environmental and Other Litigation Matters".
Item 3(b). See Part I, Item 1, "Product Liability, Environmental and Other
Litigation Matters".
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
----------------------------------------------------
There were no matters submitted during the fourth quarter of the fiscal
year covered by this Report to a vote of security holders through solicitation
of proxies or otherwise.
8
PART II
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Item 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
-----------------------------------------------------
STOCKHOLDER MATTERS.
--------------------
Market Information
- ------------------
The following tabulation sets forth the high and low sales prices of the
Company's Class A Common Stock on the New York Stock Exchange during fiscal
2001, fiscal 2000 and fiscal 1999.5 and cash dividends paid per share. The
prices of the Company's Class A Common Stock reported below were retroactively
adjusted to reflect the effect of the spin-off of CIRCOR on October 18, 1999. No
adjustments were made to the dividends reported.
2001 2000 1999.5
---- ---- ------
High Low Dividend High Low Dividend High Low Dividend
---- --- -------- ---- --- -------- ---- --- --------
First Quarter $17.20 $11.75 $0.06 $15.75 $12.38 $.0875 $16.32 $13.07 $.0875
Second Quarter 18.10 14.15 0.06 13.38 10.38 0.06 16.09 12.63 .0875
Third Quarter 16.30 11.70 0.06 13.13 9.56 0.06 - - -
Fourth Quarter 15.40 12.75 0.06 13.88 9.75 0.06 - - -
There is no established public trading market for the Class B Common Stock
of the Company, which is held exclusively by members of the Horne family and
management. The principal holders of such stock are subject to restrictions on
transfer with respect to their shares. Each share of Class B Common Stock (10
votes per share) of the Company is convertible into one share of Class A Common
Stock (1 vote per share). Aggregate common stock dividend payments for fiscal
2001, 2000 and 1999.5 were $6,422,000, $7,107,000 and $4,656,000, respectively.
While the Company presently intends to continue to pay cash dividends, the
payment of future cash dividends depends upon the Board of Directors' assessment
of the Company's earnings, financial condition, capital requirements and other
factors.
The number of record holders of the Company's Class A Common Stock as of
February 14, 2002 was 141. The Company believes that the number of beneficial
shareholders of the Company's Class A Common Stock was approximately 3,000 as of
February 14, 2002. The number of record holders of the Company's Class B Common
Stock as of February 14, 2002 was 9.
9
Item 6. SELECTED FINANCIAL DATA.
------------------------
The selected financial data set forth below should be read in conjunction
with the Company's consolidated financial statements, related Notes thereto and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included herein.
FIVE YEAR FINANCIAL SUMMARY
(Amounts in thousands, except per share information)
Twelve(1) Twelve Six(2)(3) - - - - Twelve Months - - - -
Months Months Months Ended
Ended Ended Ended June 30,
12/31/01 12/31/00 12/31/99 1999 1998 1997
-------- -------- -------- ---- ---- ----
Selected Data
Net sales $548,940 $516,100 $261,019 $477,869 $444,735 $449,617
Income from continuing operations 26,556 31,171 16,468 29,454 28,123 26,515
Income/(loss) from discontinued
operations, net of taxes - (7,170) (1,226) 6,502 25,246 25,232
Net income 26,556 24,001 15,242 35,956 53,369 51,747
Total assets 520,470 482,025 487,078 637,742 552,896 526,366
Long-term debt, net of current portion 123,212 105,377 123,991 118,916 71,647 94,841
Income per share from continuing
operations-diluted 0.99 1.17 0.61 1.10 1.03 0.97
Income/(loss) per share from discontinued
operations - diluted - (0.27) (0.05) 0.24 0.92 0.92
Net income per share-diluted 0.99 0.90 0.56 1.34 1.95 1.89
Cash dividends declared per common share 0.24 0.268 0.175 0.35 0.33 0.295
1. Fiscal 2001 net income includes restructuring and other costs of
$1,454,000 pre-tax, inventory and other asset write-downs of $4,300,000
pre-tax and $77,000 pre-tax of other related charges, which total net of
tax of $3,593,000.
2. On May 14, 1999, the Company filed a Form 10-Q in which it reported its
decision to change its fiscal year end from June 30 to a calendar year. As
a result the Company is reporting a six month transition period ending
December 31, 1999. See Note 2 of the Notes to the Consolidated Financial
Statements.
3. Fiscal 1999.5 net income includes an after-tax charge of $861,000 related
to restructuring costs.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
-----------------------------------------------------------------------
OF OPERATIONS.
--------------
Recent Developments
- -------------------
The Company is implementing a plan to consolidate several of its
manufacturing plants both in North America and Europe. At the same time it is
expanding its manufacturing capacity in China. The implementation of this
manufacturing restructuring plan began during the fourth quarter of fiscal 2001
and is expected to be completed during fiscal 2002 to insure the quality of its
products and minimize any interruption in the delivery of those products to its
customers. The Company recorded manufacturing restructuring plan costs of
$5,831,000 pre-tax in the fourth quarter of fiscal 2001 and is anticipating
recording an additional $6,000,000 to $8,000,000 pre-tax in 2002 as it continues
to implement the program. The tax benefits of the costs and asset write-downs
will slightly exceed the cash outlay to implement this program, allowing the
Company to complete the restructuring without consuming any cash. The Company
estimates an annual pre-tax savings of approximately $5,000,000 following the
completion of the program.
On September 28, 2001, a wholly owned subsidiary of the Company acquired
the assets of the Powers Process Controls Division of Mark Controls Corporation,
a subsidiary of Crane Co. located in Skokie, Illinois and Mississauga,
10
Ontario, Canada for approximately $13 million in cash. The December 31, 2001
Consolidated Balance Sheet of the Company contains a purchase price allocation
of the Powers acquisition, consistent with the guidelines in SFAS 141 and
certain provisions of SFAS 142. Powers designs and manufactures thermostatic
mixing valves for personal safety and process control applications in commercial
and institutional facilities. It also manufactures control valves and commercial
plumbing brass products including shower valves and lavatory faucets. Powers'
annualized sales prior to the acquisition were approximately $20 million.
On June 13, 2001, a wholly owned subsidiary of the Company acquired
Premier Manufactured Systems, Inc., located in Phoenix, Arizona for
approximately $5 million in cash. Premier manufactures water filtration systems
for both residential and commercial applications and other filtration products
including under-the-counter ultraviolet filtration as well as a variety of
sediment and carbon filters. Premier's annualized sales prior to the acquisition
were approximately $10 million.
On June 1, 2001, a wholly owned subsidiary of the Company acquired Fimet
S.r.l. (Fabbrica Italiana Manometri e Termometri) located in Milan, Italy and
its wholly owned subsidiary, MTB AD, which is located in Bulgaria for
approximately $6 million. The acquired business manufactures pressure and
temperature gauges for use in the HVAC market. Fimet's annualized sales prior to
the acquisition were approximately $9 million.
On January 5, 2001, the Company acquired Dumser Metallbau GmbH & Co. KG
located in Landau, Germany for approximately $20 million. The main products of
Dumser include brass, steel and stainless steel manifolds used as a prime
distribution device in hydronic heating systems. Dumser's annualized sales prior
to the acquisition were approximately $24 million. Dumser has a 51% controlling
share of Stern Rubinetti, which had annualized sales prior to the acquisition of
$4 million. Stern Rubinetti is an Italian manufacturing company producing brass
components located in Brescia, Italy.
Results of Operations
- ---------------------
Twelve Months Ended December 31, 2001 Compared to
- -------------------------------------------------
Twelve Months Ended December 31, 2000
- -------------------------------------
Net sales for the twelve months ended December 31, 2001 increased
$32,840,000 (6.4%) to $548,940,000 compared to the same period in 2000. The
increase in net sales is attributable to the following:
Internal Growth $(12,764) (2.4%)
Acquisitions 50,203 9.7%
Foreign Exchange (4,599) (0.9%)
-------- -----
Total Change $ 32,840 6.4%
======== =====
The decrease in net sales from internal growth is attributable to
decreased unit sales to North American and European plumbing and heating
wholesalers resulting from the continued weakness in the North American plumbing
market and the weakened European economy. These decreases were partially offset
by increased unit sales in the DIY market. The growth in net sales from acquired
businesses is due to the inclusion of the net sales from Powers Process Controls
of Skokie, Illinois, acquired on September 28, 2001, Premier Manufactured
Systems of Phoenix, Arizona, acquired on June 13, 2001, Fimet of Milan, Italy,
acquired on June 1, 2001, Dumser Metallbau GmbH & Co., KG of Landau, Germany,
acquired on January 5, 2001, the business acquired from Chiles Power Supply and
Bask, LLC of Springfield, Missouri, now doing business as Watts Radiant,
acquired on August 30, 2000, and McCraney, Inc. of Santa Ana, California, doing
business as Spacemaker, acquired on May 12, 2000. The decrease in foreign
exchange is due primarily to the euro devaluation against the U.S. dollar
compared to the same period in 2000.
Watts monitors its net sales in three geographical segments: North
America, Europe and Asia. As outlined below, North America, Europe and Asia
accounted for 75.7%, 22.1% and 2.2% of net sales, respectively, in the twelve
months
11
ended December 31, 2001 compared to 77.6%, 20.0%, and 2.4%, respectively, in the
twelve months ended in December 31, 2000. The Company's net sales in these
groups for the twelve months ended December 31, 2001 and 2000 were as follows:
12/31/01 12/31/00 Change
-------- -------- ------
North America $415,689 $400,384 $15,305
Europe 121,228 103,085 18,143
Asia 12,023 12,631 (608)
-------- -------- ------
Total $548,940 $516,100 $32,840
======== ======== =======
The increase in North America's net sales is due to the Powers Process
Controls, Premier Manufactured Systems, Watts Radiant, and Spacemaker
acquisitions, as well as increased unit sales to the DIY market, partially
offset by decreased unit sales to plumbing and heating wholesalers. The increase
in Europe's net sales is due to the Fimet and Dumser acquisitions, partially
offset by decreased unit sales to European plumbing and heating wholesalers and
the euro's devaluation against the U.S. dollar.
Gross profit for the twelve months ended December 31, 2001 decreased
$1,772,000 (1.0%) from the comparable prior year period and decreased as a
percentage of net sales from 35.9% to 33.4%. The Company charged $4,253,000 of
costs associated with its manufacturing restructuring plan to cost of sales.
Excluding these manufacturing restructuring costs, the gross profit would have
increased $2,481,000 and declined as a percent of sales from 35.9% to 34.2%.
This decreased percentage is primarily attributable to an unfavorable sales mix
caused by the decreased sales to plumbing and heating wholesalers as well as the
inclusion of the gross margin of acquired companies, which operate at a lower
gross margin than the remainder of the Company.
Selling, general and administrative expenses increased $6,478,000 (5.2%)
from the comparable prior year period to $131,795,000. This increase is
attributable to the inclusion of the selling, general and administrative
expenses of acquired companies, partially offset by the lower exchange rate of
the euro relative to the U.S. dollar and reduced spending levels.
Restructuring and other charges are primarily severance and related costs
for 36 employees.
Operating income for the twelve months ended December 31, 2001 decreased
$9,704,000 (16.2%) to $50,283,000 compared to the same period in 2000 due to
reduced gross profit and manufacturing restructuring costs. The Company's
operating income by segment for the twelve months ended December 31, 2001 and
2000 were as follows:
12/31/01 12/30/00 Change
-------- -------- ------
North America $47,346 $55,661 $(8,315)
Europe 11,256 13,225 (1,969)
Asia 465 882 (417)
Corporate (8,784) (9,781) 997
-------- -------- ------
Total $50,283 $59,987 $(9,704)
======== ======== ======
The decrease in both North American and European operating income is due
to decreased unit sales to plumbing and heating wholesalers and manufacturing
restructuring plan costs. These decreases were partially offset by the operating
earnings of acquired companies.
Interest expense for the twelve months ended December 31, 2001 decreased
$475,000 (4.8%) compared to the same period in 2000, primarily due to lower
interest rates on variable rate indebtedness, despite the increased levels of
debt incurred for acquisitions. On September 1, 2001 the Company entered into an
interest rate swap on its $75,000,000 8 3/8% notes. The swap took the interest
from fixed to floating and reduced the Company's interest expense by $641,000
during 2001.
The Company's effective tax rate for continuing operations decreased from
36.7% to 33.9%. The decrease is primarily due to statutory rate reductions
affecting income tax in Canada and other tax planning opportunities. The costs
for the manufacturing restructuring plan were recorded in tax jurisdictions with
tax rates higher than the Company's effective rate, which lowered the overall
effective rate for fiscal 2001.
12
Net income from continuing operations for the twelve months ended December
31, 2001 decreased $4,615,000 (14.8%) to $26,556,000 or $0.99 per common share
compared to $1.17 per common share for the twelve months ended December 31, 2000
on a diluted basis. On a net of tax basis the manufacturing restructuring plan
costs accounted for $0.13 per share of this reduction.
For the twelve months ended December 31, 2000, discontinued operations
reported a net loss of $7,170,000 or $0.27 per share, on a diluted basis. The
Company did not record any costs associated with discontinued operations for
fiscal 2001.
Results of Operations
- ---------------------
Twelve Months Ended December 31, 2000 Compared to
- -------------------------------------------------
Twelve Months Ended December 31, 1999
- -------------------------------------
Net sales for the twelve months ended December 31, 2000 increased
$6,444,000 (1.3%) to $516,100,000 compared to the same period in 1999. The
increase in net sales is attributable to the following:
Internal Growth $ 7,456 1.5%
Acquisitions 15,030 2.9%
Foreign Exchange (16,042) (3.1%)
-------- -----
Total Change $ 6,444 1.3%
======== =====
The increase in net sales from internal growth is attributable to
increased unit shipments of North American and European plumbing and heating
valves. North American increases were offset by recent softness in the housing
market resulting from increased interest rates during 2000. The growth in net
sales from acquired companies is due to the inclusion of Watts Radiant,
Spacemaker and Cazzaniga S.p.A of Biassono, Italy which was acquired March 9,
1999. Excluding the acquired revenue of Cazzaniga and the impact of foreign
exchange, shipments of European plumbing and heating valves were 3.1% higher
than last year. The decrease in sales due to foreign exchange is principally due
to the devaluation of the euro, which depreciated almost 13% against the U.S.
dollar during the twelve month period ended December 31, 2000.
Watts monitors its net sales in three geographical segments: North
America, Europe and Asia. As outlined below, North America, Europe and Asia
accounted for 77.6%, 20.0%, and 2.4% of net sales, respectively, in the twelve
months ended December 31, 2000 compared to 76.1%, 21.3%, and 2.6%, respectively,
in the twelve months ended December 31, 1999. The Company's net sales in these
groups for the twelve months ended December 31, 2000 and 1999 were as follows:
12/31/00 12/31/99 Change
-------- -------- ------
North America $400,384 $388,049 $12,335
Europe 103,085 108,579 (5,494)
Asia 12,631 13,028 (397)
-------- -------- -------
Total $516,100 $509,656 $ 6,444
======== ======== =======
The increase in North America is primarily due to the Watts Radiant and
Spacemaker acquisitions and to a lesser extent from increased unit sales. The
decrease in Europe is due to the impact of the euro's devaluation against the
U.S. dollar. This was substantially offset by increased unit sales and the
inclusion of Cazzaniga. The decrease in Asia is primarily due to reduced demand
in the North American export market.
Gross profit for the twelve months ended December 31, 2000 decreased
$1,414,000 (0.8%), to $185,304,000 compared to the same period in 1999 and
decreased as a percentage of net sales from 36.6% to 35.9%. This percentage
reduction is attributable to price competition in certain markets the company
serves and additional production costs associated with new product introductions
in Europe. This was partially offset by the inclusion of acquired companies
currently operating at higher gross margins than the rest of the Company.
Selling, general and administrative expenses for the twelve months
decreased $3,666,000 (2.8%) to $125,317,000 compared to the same period in 1999.
This decrease is attributable to decreased corporate headquarters expenses
13
resulting from the CIRCOR spin-off, the euro's devaluation against the U.S.
dollar and reduced variable selling expenses. This was partially offset by the
inclusion of selling, general and administrative expenses of acquired companies.
Selling, general and administrative expenses for the twelve months decreased as
a percentage of sales from 25.3% in the twelve months ended December 31, 1999 to
24.3% in the twelve months ended December 31, 2000. This decreased percentage is
primarily due to decreased corporate headquarters expenses resulting from the
CIRCOR spin-off.
Operating income in the twelve months ended December 31, 2000 increased
$3,712,000 (6.6%) to $59,987,000 and increased as a percentage of sales to 11.6%
from 11.0% compared to the same period in 1999 due to increased net sales and
decreased selling, general and administrative expenses.
The Company's operating income by segment for the twelve months ended
December 31, 2000 and 1999 was as follows:
12/31/00 12/31/99 Change
-------- -------- ------
North America $55,661 $56,439 $ (778)
Europe 13,225 12,560 665
Asia 882 1,519 (637)
Corporate (9,781) (14,243) 4,462
------ ------- -----
Total $59,987 $56,275 $3,712
======= ======= ======
The decrease in North America is due to decreased unit prices in certain
markets. The increase in Europe is primarily due to increased net sales and the
Cazzaniga acquisition, substantially offset by the euro's devaluation against
the U.S. dollar. The decrease in Asia is due to decreased net sales. The
decrease in corporate is to due reduced headquarter expenses attributable to the
CIRCOR spin-off.
Interest expense increased $1,964,000 to $9,897,000 in the twelve months
ended December 31, 2000 compared to the same period in 1999, primarily due to
increased effective interest rates.
The Company's effective tax rate for continuing operations increased from
35.9% to 36.7% in the twelve months ended December 31, 2000 compared to the same
period in 1999. The increase is primarily attributable to a revised tax
structure required to execute the CIRCOR spin-off.
Net income from continuing operations for the twelve months ended December
31, 2000 increased $474,000 (1.5%) to $31,171,000 or $1.17 per common share
compared to $1.15 per common share for the twelve months ended December 31, 1999
on a diluted basis. The impact of foreign exchange, primarily due to the
devaluation of the euro against the U.S. dollar, decreased income approximately
$1,331,000 or $.05 per common share on a diluted basis in the period ended
December 31, 2000.
For the twelve months ended December 31, 2000, discontinued operations
reported a net loss of $7,170,000 or $0.27 per share, on a diluted basis. This
loss results from a charge recorded during the fiscal year representing the
Company's current estimate of the after tax impact of the cost to bring the
James Jones litigation to resolution. Additional details of the James Jones
litigation are provided in Part I, Item 1, Product Liability, Environmental and
Other Litigation Matters and in Note 15 of the Notes to the Consolidated
Financial Statements. For the twelve months ended December 31, 1999,
discontinued operations reported a net loss of $3,143,000 or $0.12 per share, on
a diluted basis. Results for the twelve months ended December 31, 1999 were
negatively impacted by after tax charges of $11,599,000 for spin-off related
costs, including professional fees, facility relocation costs and income tax
costs associated with the reorganizing of the Company's legal entity structure
in anticipation of the spin-off as well as legal fees associated with the James
Jones litigation. Excluding these charges, discontinued operations would have
had net income of $8,456,000 ($0.32 per share) for the twelve months ended
December 31, 1999. Additional details of the spin-off transaction are provided
in Note 3 of the Notes to the Consolidated Financial Statements.
14
Results of Operations
- ---------------------
Six Months Ended December 31, 1999 Compared to
- ----------------------------------------------
Six Months Ended December 31, 1998
- ----------------------------------
Net sales increased $31,869,000 (13.9%) to $261,019,000. The increase in
net sales is attributable to the following:
Internal Growth $20,234 8.8%
Acquisitions 17,061 7.4%
Foreign Exchange (5,426) (2.3%)
------- -----
Total Change $31,869 13.9%
======= =====
The increase in net sales from internal growth is primarily attributable
to increased unit shipments in the North American segment. The growth in net
sales from acquired companies is due to the inclusion of the net sales of
Cazzaniga S.p.A. of Biassono, Italy, which was acquired March 9, 1999. The
foreign exchange impact reflects the adverse affects of the euro's devaluation
against the U.S. dollar during the period. Excluding Cazzaniga, shipments in the
European plumbing and heating market were 9.2% higher than last year.
Watts monitors its net sales in three geographical segments: North
America, Europe and Asia. As outlined below, North America, Europe and Asia
accounted for 73.9%, 22.6%, and 3.5% of net sales, respectively, in the six
months ended December 31, 1999 compared to 77.2%, 19.0%, and 3.8%, respectively,
in the six months ended December 31, 1998. The Company's net sales in these
groups for the six months ended December 31, 1999 and 1998 were as follows:
12/31/99 12/31/98 Change
-------- -------- ------
North America $192,975 $176,918 $16,057
Europe 58,934 43,598 15,336
Asia 9,110 8,634 476
-------- -------- -------
Total $261,019 $229,150 $31,869
======== ======== =======
The increase in North America is due to increased unit sales. The increase
in Europe is due to the Cazzaniga acquisition and increased unit sales, which
were partially offset by the devaluation of the euro against the U.S. dollar.
Gross profit increased $11,676,000 (14.0%) to $95,166,000 and remained
constant as a percentage of net sales at 36.4%. This increase is attributable to
increased net sales during the period.
During the period ended December 31, 1999 the Company recorded a
restructuring charge of $1,460,000 before taxes. The charge was comprised of
severance costs of $1,299,000, contract termination costs of $134,000 and other
exit costs of $27,000. The Company consolidated certain Italian manufacturing
and warehouse facilities into the Cazzaniga facility in Biassono, Italy. This
project, which included the termination of 29 employees, was completed during
fiscal 2000. Total program costs did not differ materially from the original
estimate.
Selling, general and administrative expenses increased $5,779,000 (9.9%)
to $64,148,000. This increase is primarily attributable to inclusion of the
selling, general and administrative expenses of Cazzaniga and increased variable
selling expenses, primarily commissions and freight costs.
Operating income in the six months ended December 31, 1999 increased
$4,437,000 (17.7%) to $29,558,000 due to the increased gross profit. Without the
restructuring charge, operating income would have increased by 23.5% and
increased as a percentage of sales from 11.0% to 11.9%.
15
The Company's operating income by segment for the six months ended December 31,
1999 and 1998 was as follows:
12/31/99 12/31/98 Change
-------- -------- ------
North America $27,793 $25,684 $2,109
Europe 7,252 5,682 1,570
Asia 731 822 (91)
Corporate (6,218) (7,067) 849
-------- -------- ------
Total $29,558 $25,121 $4,437
======== ======== ======
The increase in North America is due to increased net sales. The increase
in Europe is primarily due to increased net sales and the Cazzaniga acquisition,
which were partially offset by the restructuring charge.
Interest expense increased $1,783,000 in the six months ended December 31,
1999, primarily due to increased levels of debt associated with the acquisition
of Cazzaniga.
The Company's effective tax rate for continuing operations increased from
32.1% to 35.2%. The increase is attributable to acquired companies operating in
higher tax rate jurisdictions than the rest of the Company, tax planning
strategies favorably impacting fiscal 1998 only and a revised tax structure
required to effect the Distribution.
Net income from continuing operations for the six months ended December
31, 1999 increased $1,243,000 (8.2%) to $16,468,000 or $.61 per common share
compared to $.56 per common share for the six months ended December 31, 1998 on
a diluted basis. Net income from continuing operations exclusive of the
restructuring charge would have increased $2,104,000 to $17,329,000 or $.64 per
common share on a diluted basis. The impact of foreign exchange, primarily due
to the devaluation of the euro against the U.S. dollar, decreased net income
$.02 per common share on a diluted basis in the period ended December 31, 1999.
For the six months ended December 31, 1999, discontinued operations
generated a net loss of $1,226,000 ($0.05 per share), compared to net income of
$8,419,000 ($0.31 per share) for six months ended December 31, 1998. Results for
the six months ended December 31, 1999 were negatively impacted by an after tax
charge of $2,433,000 for spin-off related costs, including professional fees,
facility relocation costs and income tax costs associated with the reorganizing
of the Company's legal entity structure in anticipation of the spin-off.
Excluding this charge, discontinued operations would have had net income of
$1,207,000 ($0.05 per share) for the six months ended December 31, 1999. Net
sales for the discontinued operations for the three months ended September 30,
1999 were $76,957,000, a decrease of $3,699,000 (4.6%) from the comparable
period in 1998. The decrease in net sales is primarily attributable to lower
demand for oil and gas valve products. Declining prices, resulting from
increased competition; reduced manufacturing levels, resulting in lower
absorption of fixed manufacturing costs; and costs associated with the
integration of acquired companies negatively impacted operating profits during
the six months ended December 31, 1999. Additional details of the spin-off
transaction are provided in Note 3 of the Notes to the Consolidated Financial
Statements.
Results of Operations
- ---------------------
Twelve Months Ended June 30, 1999
- ---------------------------------
Net sales for the twelve months ended June 30, 1999 were $477,869,000.
Sales grew internally at a rate of 5.9% over the prior fiscal year, primarily
attributable to increased unit shipments in the North American market. In March
1999, the Company acquired Cazzaniga S.p.A. of Biassono, Italy. The inclusion of
the sales of Cazzaniga contributed $10,095,000 to overall net sales.
Net income from continuing operations was $29,454,000, while net income
from discontinued operations was $6,502,000 for the year ended June 30, 1999.
The results of discontinued operations for the year ended June 30, 1999 include
the net income from the industrial and oil and gas operations which were
negatively impacted by an after-tax charge of $6,166,000 for spin-off related
costs, including professional fees, facility relocation costs and income tax
costs associated with the reorganization of the Company's legal entity structure
in anticipation of this spin-off. The income from discontinued operations
contains an after-tax charge of $3,000,000 for legal expenses associated with
the litigation involving the James Jones Company. James Jones Company was a
subsidiary of the Company in the Municipal Water Works Division until September
1996 when it was sold to Tyco International, Ltd.
16
Liquidity and Capital Resources
- -------------------------------
During the twelve month period ended December 31, 2001, the Company
generated $51,237,000 in cash flow from continuing operations, which was
principally used to fund the purchase of $16,047,000 in capital equipment,
contribute to the funding of acquisitions, and to pay cash dividends to common
shareholders. Capital expenditures were primarily for manufacturing machinery
and equipment as part of the Company's commitment to continuously improve its
manufacturing capabilities.
The Company's capital expenditure budget for fiscal 2002 is $18,700,000.
The largest component of this budget is the establishment of a 100% controlled
brass and bronze valve manufacturing plant in Tianjin, China for an estimated
cost of $9,000,000.
The Board ratified on February 12, 2002, the establishment of a 60% owned
joint venture in the Shanghai provinces to support some of the Company's
retail-oriented products, such as flexible hose connectors, plumbing fittings
and under-the-sink products. The Company's investment for 60% of this joint
venture is estimated to be $7,800,000.
The Company invested $42,977,000 net of cash acquired, to acquire four
businesses during the twelve months ended December 31, 2001. These acquisitions
were Dumser Metallbau GmbH & Co. KG of Landau, Germany; Fimet S.r.l. of Milan,
Italy; Premier Manufactured Systems, Inc. of Phoenix, Arizona; and Powers
Process Controls of Skokie, Illinois and Mississauga, Ontario, Canada. The
purchase price of these acquisitions was primarily funded through the Company's
use of the domestic and foreign revolving lines of credit. The Company's
consolidated long-term debt increased by $20,287,000 to $126,905,000 at December
31, 2001 compared to $106,618,000 at December 31, 2000. The Company's operating
cash flow enabled it to pay a significant portion of the $42,977,000 invested in
acquired companies during 2001, reducing the use of the Company's debt facility.
On February 27, 2002, the Company entered into a new Revolving Credit
Facility with a syndicate of banks (the "Revolving Credit Facility"), which
replaces the Company's $100 million facility and its 39,350,000 euro facility.
The Revolving Credit Facility provides for borrowings of up to $150 million,
which includes a $100 million tranche for U.S. dollar borrowings and a $50
million tranche for euro base borrowings and matures in February 2005.
Approximately $50 million of borrowings under the Revolving Credit Facility were
used to repay amounts outstanding under the prior facilities. The Revolving
Credit Facility will be used to support the Company's acquisition program,
working capital requirements of acquired companies, and for general corporate
purposes.
Outstanding indebtedness under the Revolving Credit Facility bears
interest at one of three customary rates plus a margin of 100 basis points,
depending on the applicable base rate and the Company's bond rating. The average
interest rate for February 2002 was approximately 3%. The Revolving Credit
Facility includes operational and financial covenants, customary for facilities
of this type, including, among others, restrictions on additional indebtedness,
liens and investments and maintenance of certain leverage ratios. As of February
27, 2002, the Company was in compliance with all covenants related to the
Revolving Credit Facility.
The Company's $5,000,000 industrial revenue bond is payable in September
2002. The Company intends to repay this debt by utilizing the Revolving Line of
Credit.
On September 1, 2001, the Company entered into an interest rate swap for
its $75,000,000 8 3/8% notes due December 2003. The Company swapped its fixed
rate for a variable rate. The variable rate is floating LIBOR plus 3.74%. The
term of the swap coincides with the term of the notes.
Working capital as of December 31, 2001, was $142,595,000 compared to
$137,142,000 at December 31, 2000. This increase is primarily attributable to
the inclusion of working capital of acquired companies. The ratio of current
assets to current liabilities was 2.3 to 1 at December 31, 2001 compared to 2.2
to 1 at December 31, 2000. Cash and cash equivalents were $11,997,000 at
December 31, 2001 compared to $15,235,000 at December 31, 2000. Debt as a
percentage of total capital employed (short-term and long-term debt as a
percentage of the sum of short-term and long-term debt plus equity) was 33.7% at
December 31, 2001 compared to 31.4% at December 31, 2000.
17
The Company anticipates that currently available funds and those funds
provided by the ongoing operations will be sufficient to meet current operating
requirements and anticipated capital expenditures for at least the next 24
months.
The Company from time to time is involved in environmental proceedings and
other legal proceedings and incurs costs on an ongoing basis related to these
matters. The Company has not incurred material expenditures in fiscal 2001 in
connection with any of these matters. See Part II, Item 1, Legal Proceedings.
Conversion To The Euro
- ----------------------
On January 1, 1999, 11 of the 15 member countries of the European Union
adopted the euro as their common legal currency and established fixed conversion
rates between their existing sovereign currencies and the euro. The euro affects
the Company as the Company has manufacturing and distribution facilities in
several of the member countries and trades extensively across Europe. The
long-term competitive implications of the conversion are currently being
assessed by the Company; however, the Company has experienced a reduction in the
risks associated with foreign exchange. At this time, the Company has not
incurred any significant costs with the introduction and conversion to the euro.
The Company is currently able to make and receive payments in euro and has
converted its financial and information technology systems to use the euro,
where required, as its base currency.
Responsibility for Financial Statements
- ---------------------------------------
The Company is responsible for the objectivity and integrity of the
accompanying consolidated financial statements, which have been prepared in
conformity with accounting principles generally accepted in the United States of
America. The financial statements of necessity include the Company's estimates
and judgments relating to matters not concluded by year end. Financial
information contained elsewhere in the Annual Report and Form 10-K is consistent
with that included in the financial statements.
The Company maintains a system of internal accounting controls. Although
there are inherent limitations to the effectiveness of any system of accounting
controls, the Company believes that its system provides reasonable, but not
absolute, assurance that its assets are safeguarded from unauthorized use or
disposition and that its accounting records are sufficiently reliable to permit
the preparation of financial statements that conform in all material respects
with accounting principles generally accepted in the United States.
KPMG LLP, independent auditors, are engaged to render an independent
opinion regarding the fair presentation in the financial statements of the
Company's financial condition and operating results. Their report appears on
page 31. Their examination was made in accordance with auditing standards
generally accepted in the United States of America and included a review of the
system of internal accounting controls to the extent they considered necessary
to determine the audit procedures required to support their opinion.
The Audit Committee of the Board of Directors is composed of four
non-employee directors. The Board has made a determination that the members of
the Audit Committee satisfy the requirements of the New York Stock Exchange as
to independence, financial literacy and experience, except that Mr. McAvoy is
not independent as defined in section 303.01(B)(3) of the listing requirements
of the New York Stock Exchange, because he was employed by the Company until
December 31, 1999. The Committee meets periodically and privately with the
independent auditors and financial officers of the Company, as it deems
necessary, to review the quality of the financial reporting of the Company and
the internal accounting controls. The Committee also reviews compliance with the
Company's policy regarding its relationship with the independent auditors. In
addition, the Committee is responsible for recommending the appointment of the
Company's independent auditors.
18
Critical Accounting Policies and Key Estimates
- ----------------------------------------------
Management considers the following accounting policies and key estimates
as being critical in reporting the financial position of the Company and its
results of operations:
o The proper application of revenue recognition criteria requires
certain judgments and estimates including the assessment of credit
risk and sales return rates. Management has used its best estimates
based on historic trends to establish these reserves.
o The valuation of inventory includes forecasted demand and
anticipated market pricing for its products.
o Contingencies and environmental remediation costs include estimates
for clean-up costs which could be paid over several years. Estimates
are based on management and legal counsel's best estimates of
ultimate liability.
o Product liability costs are estimated utilizing historic trends,
considering known insurance recoveries.
o In accounting for costs relating to the manufacturing restructuring
plan, certain estimates have been made in measuring the cost of the
plan and the impact on operations including the estimated timing of
facility closures.
Management believes that the estimates and assessments inherent in the
application of these accounting policies have been applied on a reasonable
basis. Actual results could differ from these estimates and assumptions, which
could impact the financial position of the Company and its results of
operations.
Certain Factors Affecting Future Results
- ----------------------------------------
This report on form 10K includes forward-looking statements, which are not
historical facts and are considered forward-looking within the meaning of the
Private Securities Litigation Reform Act of 1995. These forward-looking
statements reflect the Company's current views about future events and financial
performance. Forward-looking statements do not relate strictly to historical or
current facts and may be identified by their use of words like "plan",
"believe", "expect", "will", "anticipate", "estimate" and other words of similar
meaning. Investors should not rely on forward-looking statements because they
are subject to a variety of risks, uncertainties, and other factors that could
cause actual results to differ materially from our expectations, and we do not
undertake any duty to update forward-looking statements. Some important factors
that could cause our actual results to differ materially from those projected in
any such forward-looking statements are as follows:
Down Economic Cycles, Particularly Reduced Levels Of Housing Starts And
Remodeling, Have An Adverse Affect On Our Business And Revenues
The businesses of most of our customers, particularly plumbing and heating
wholesalers and home improvement retailers, are cyclical. Therefore, the level
of the Company's business activity has been cyclical, fluctuating with economic
cycles, in particular, with housing starts and remodeling levels. Housing starts
and remodeling are, in turn, heavily influenced by mortgage interest rates,
consumer debt levels, changes in disposable income, employment growth, consumer
confidence and, on a short term basis, weather conditions. There can be no
assurance that a downturn in these factors affecting housing starts and
remodeling will not occur, and if housing and remodeling starts are materially
reduced, it is likely such reduction would have a material adverse effect on the
Company due to reduced revenue.
Economic, Political And Other Risks Associated With International Sales And
Operations Could Adversely Affect Our Business
Since we sell our products worldwide, our business is subject to risks
associated with doing business internationally. Our sales outside North America,
as a percentage of our total sales, was 24.3% in 2001. Accordingly, our future
results could be harmed by a variety of factors, including:
o changes in foreign currency exchange rates
o changes in a specific country's or region's political or economic
conditions, particularly in emerging markets
19
o trade protection measures and import or export licensing
requirements
o potentially negative consequences from changes in tax laws
o difficulty in staffing and managing widespread operations
o differing labor regulations
o differing protection of intellectual property
o unexpected changes in regulatory requirements
Reductions In The Supply Of Raw Materials And Increases In The Prices Of Raw
Materials Could Adversely Affect Our Operating Results
We require substantial amounts of raw materials (bronze, brass, cast iron)
and substantially all raw materials we require are purchased from outside
sources. The availability and prices of raw materials may be subject to
curtailment or change due to, among other things, new laws or regulations,
suppliers' allocations to other purchasers, interruptions in production by
suppliers, changes in exchange rates and worldwide price levels. Any change in
the supply of, or price for, these raw materials could adversely affect our
operating results.
Fluctuations In Foreign Exchange Rates Could Materially Affect Our Reported
Results
Exchange rates between the United States dollar, in which our results are
and will be reported, and the local currency in the countries in which we
provide many of our services, may fluctuate from quarter to quarter. Since we
report our interim and annual results in United States dollars, we are subject
to the risk of currency fluctuations. When the dollar appreciates against the
applicable local currency in any reporting period, the actual earnings generated
by our services in that country are diminished in the conversion.
We are exposed to fluctuations in foreign currencies as a significant
portion of our revenue, and certain of our costs, assets and liabilities, are
denominated in currencies other than U.S. dollars. Approximately 24.3% of our
revenue during 2001 was from sales outside of North America. For the twelve
months ended December 31, 2001 the depreciation of the euro against the U.S.
dollar had an adverse impact on revenue of $3,385,000, yet the impact on
earnings was minimal. Our share of revenue in non-dollar denominated currencies
may continue to increase in future periods. We can offer no assurance that
exchange rate fluctuations will not have a material adverse effect on our
results of operations and financial condition.
We Face Intense Competition
We encounter intense competition in all areas of our business.
Additionally, customers for our products are attempting to reduce the number of
vendors from which they purchase in order to reduce the size and diversity of
their inventory. To remain competitive, we will need to invest continuously in
manufacturing, marketing, customer service and support and our distribution
networks. We anticipate that we may have to adjust the prices of some of our
products to stay competitive potentially resulting in inventory valuation and
impairment issues. We cannot assure you that we will have sufficient resources
to continue to make such investments or that we will maintain our competitive
position.
Environmental Compliance Costs And Liabilities Could Adversely Affect Our
Financial Condition
Our operations and properties are subject to increasingly stringent laws
and regulations relating to environmental protection, including laws and
regulations governing air emissions, water discharges, waste management and
workplace safety. Such laws and regulations can impose substantial fines and
sanctions for violations and require the installation of costly pollution
control equipment or operational changes to limit pollution emissions and/or
decrease the likelihood of accidental hazardous substance releases. We must
conform our operations and properties to these laws, and adapt to regulatory
requirements in all countries as these requirements change.
20
We have experienced, and expect to continue to experience, operating costs
to comply with environmental laws and regulations. In addition, new laws and
regulations, stricter enforcement of existing laws and regulations, the
discovery of previously unknown contamination or the imposition of new clean up
requirements could require us to incur costs or become the basis for new or
increased liabilities that could have a material adverse effect on our business,
financial condition or results of operations.
Third Parties May Infringe Our Intellectual Property, And We May Expend
Significant Resources Enforcing Our Rights Or Suffer Competitive Injury
Our success depends in part on our proprietary technology. We rely on a
combination of patents, copyrights, trademarks, trade secrets, confidentiality
provisions and licensing arrangements to establish and protect our proprietary
rights. If we fail to successfully enforce our intellectual property rights, our
competitive position could suffer, which could harm our operating results. We
may be required to spend significant resources to monitor and police our
intellectual property rights.
If We Cannot Continue Operating Our Manufacturing Facilities At Current Or
Higher Levels, Our Results Of Operations Could Be Adversely Affected
We operate a number of manufacturing facilities for the production of our
products. The equipment and management systems necessary for such operations may
break down, perform poorly or fail, resulting in fluctuations in manufacturing
efficiencies. Such fluctuations may affect our ability to deliver products to
our customers on a timely basis which could have a material adverse effect on
our business, financial condition or results of operations.
To The Extent We Are Not Successful In Implementing Our Manufacturing
Restructuring Plan, It Could Have An Adverse Effect On Our Results Of Operations
And Financial Condition
We are reducing the number of manufacturing plants in the United States
and Europe. We are also expanding our production capability in China. We believe
this will reduce our product cost. If these plant consolidations and China
expansion plants are not successful, it could have a material adverse effect on
our results of operations and financial condition.
If We Experience Delays In Introducing New Products Or If Our Existing Or New
Products Do Not Achieve Or Maintain Market Acceptance, Our Revenues May Decrease
Our industry is characterized by:
o intense competition
o changes in end-user requirements
o technically complex products
o evolving product offerings and introductions
We believe our future success will depend, in part, on our ability to
anticipate or adapt to these factors and to offer, on a timely basis, products
that meet customer demands. Failure to develop new and innovative products or to
custom design existing products could result in the loss of existing customers
to competitors or the inability to attract new business, either of which may
adversely affect our revenues.
Implementation Of Our Acquisition Strategy May Not Be Successful, Which Could
Affect Our Ability To Increase Our Revenues Or Reduce Our Profitability
One of our strategies is to increase our revenues and expand our markets
through acquisitions that will provide us with complementary water related
products. We expect to spend significant time and effort in expanding our
existing businesses and identifying, completing and integrating acquisitions. We
expect to face competition for acquisition candidates, which may limit the
number of acquisition opportunities available to us and may result in higher
acquisition
21
prices. We cannot be certain that we will be able to identify, acquire or
profitably manage additional companies or successfully integrate such additional
companies without substantial costs, delays or other problems. Also, there can
be no assurance that companies acquired in the future will achieve revenues,
profitability or cash flows that justify our investment in them. In addition,
acquisitions may involve a number of special risks, including:
o adverse short-term effects on our reported operating results
o diversion of management's attention
o loss of key personnel at acquired companies
o unanticipated management or operational problems or legal
liabilities
Some or all of the above special risks could have a material adverse
effect on our business, financial condition or results of operations.
If We Fail To Manufacture And Deliver High Quality Products, We May Lose
Customers
Product quality and performance are a priority for our customers. Our
products are used in control of temperature and pressure of water as well as
water quality and safety. These applications require products that meet
stringent performance and safety standards. If we fail to maintain and enforce
quality control and testing procedures, our products will not meet these
stringent performance and safety standards. Substandard products would seriously
harm our reputation resulting in both a loss of current customers to our
competitors and damage to our ability to attract new customers, which could have
a material adverse effect on our business, financial condition or results of
operations.
We Face Risks From Product Liability And Other Lawsuits, Which May Adversely
Affect Our Business
We, like other manufacturers and distributors of products designed to
control and regulate water, face an inherent risk of exposure to product
liability claims in the event that the use of our products results in personal
injury, property damage or business interruption to our customers. We may be
subjected to various product liability claims, including, among others, that our
products include inadequate or improper instructions for use or installation, or
inadequate warnings concerning the effects of the failure of our products.
Although we maintain strict quality controls and procedures, including the
testing of raw materials and safety testing of selected finished products, we
cannot be certain that our products will be completely free from defect. In
addition, in certain cases, we rely on third-party manufacturers for our
products or components of our products. Although we have liability insurance
coverage, we cannot be certain that this insurance coverage will continue to be
available to us at a reasonable cost, or, if available, will be adequate to
cover any such liabilities.
One Of Our Shareholders Can Exercise Substantial Influence Over Our Company
As of February 15, 2002, Timothy P. Horne, our Chairman and Chief
Executive beneficially owned 33.7% of our outstanding shares of Class A Common
Stock and Class B Common Stock, which represents 79.8% of the total outstanding
voting power. As long as Mr. Horne controls shares representing at least a
majority of the total voting power of the Company's outstanding stock, Mr. Horne
will be able to unilaterally determine the outcome of all stockholder votes and
other stockholders will not be able to affect the outcome of any stockholder
vote. If Mr. Horne were to sell a significant amount of common stock into the
public market, the trading price of our common stock could decline. See Part
III, Item 12, "Security Ownership of Certain Beneficial Owners and Management".
The foregoing list sets forth many, but not all, of the factors that could
impact upon our ability to achieve results described in any forward-looking
statements. Investors are cautioned not to place undue reliance on such
statements that speak only as of the date made. Investors also should understand
that it is not possible to predict or identify all such factors and that this
list should not be considered a complete statement of all potential risks and
uncertainties. Investors should also realize that if underlying assumptions
prove inaccurate or unknown risks or uncertainties materialize, actual results
could vary materially from our projections. We do not undertake any obligation
to update any forward-looking statements as a result of future events or
developments.
22
New Accounting Standards
- ------------------------
During 2000, the Financial Accounting Standards Board's Emerging Issues
Task Force (EITF) added to its agenda various revenue recognition issues that
could impact the income statement classification of certain promotional
payments. In May 2000, the EITF reached a consensus on Issue 00-14, "Accounting
for Certain Sales Incentives". EITF 00-14 addresses the recognition and income
statement classification of various sales incentives. Among its requirements,
the consensus will require the costs related to consumer coupons currently
classified as marketing costs to be classified as a reduction of revenue. The
impact of adopting this consensus is not expected to have a material impact on
our results of operations. The Company expects to implement the consensus in the
first quarter of 2002.
In April 2001, the EITF reached a consensus on Issue 00-25, "Vendor Income
Statement Characterization of Consideration to a Purchaser of the Vendor's
Products or Services". EITF 00-25 addresses the income statement classification
of consideration, other than that directly addressed in Issue 00-14, from a
vendor to a reseller, or another party that purchases the vendor's products.
Among its requirements, the consensus will require certain of our customer
promotional incentives currently classified as marketing costs to be classified
as a reduction of revenue. The consensus is effective for fiscal 2002. The
Company expects to implement the consensus in the first quarter of 2002.
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Financial Accounting Standards Board Statement No. 141, "Business Combinations"
("FAS 141") and Financial Accounting Standards Board Statement No. 142,
"Goodwill and Other Intangible Assets" ("FAS 142"). FAS 141 requires that the
purchase method of accounting be used for all business combinations initiated
after June 30, 2001. FAS 141 also specifies the criteria that intangible assets
acquired in a purchase method business combination must meet to be recognized
and reported apart from goodwill. FAS 142 requires that goodwill and intangible
assets with indefinite useful lives no longer be amortized, but instead be
tested for impairment, at least annually, in accordance with the provisions of
FAS 142. FAS 142 will also require that intangible assets with definite useful
lives be amortized over their respective estimated useful lives to their
estimated residual values, and reviewed for impairment in accordance with
Financial Accounting Standards Board Statement No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of".
The provisions of FAS 141 were effective immediately, except with regard
to business combinations initiated prior to July 1, 2001. FAS 142 will be
effective as of January 1, 2002. Goodwill and other intangible assets determined
to have an indefinite useful life that are acquired in a purchase business
combination completed after June 30, 2001 will not be amortized, but will
continue to be evaluated for impairment in accordance with appropriate pre-FAS
142 accounting literature. Goodwill and other intangible assets acquired in
business combinations completed before July 1, 2001, will continue to be
amortized prior to the adoption of FAS 142. The Company is currently evaluating
the effect that the adoption of FAS 141 and FAS 142 will have on its results of
operations and its financial position.
In August 2001, the FASB issued Financial Accounting Standards Board
Statement No. 143, "Accounting for Asset Retirement Obligations" ("FAS 143")
which requires companies to record the fair value of an asset retirement
obligation as a liability in the period it incurs a legal obligation associated
with the retirement of tangible long-lived assets that result from the
acquisition, construction, development and or normal use of the assets. The
company must also record a corresponding increase in the carrying value of the
related long-lived asset and depreciate that cost over the remaining useful life
of the asset. The liability must be increased each period for the passage of
time with the offset recorded as an operating expense. The liability must also
be adjusted for changes in the estimated future cash flows underlying the
initial fair value measurement. Companies must also recognize a gain or loss on
the settlement of the liability. The provisions of FAS 143 are effective for
fiscal years beginning after June 15, 2002. At the date of the adoption of FAS
143, companies are required to recognize a liability for all existing asset
retirement obligations and the associated asset retirement costs. The Company is
currently evaluating the effect that the adoption of FAS 143 will have on its
results of operations and its financial position.
23
In August 2001, the FASB issued Financial Accounting Standards Board
Statement No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" ("FAS 144") which addresses the accounting and reporting for the
impairment or disposal of long-lived assets. FAS 144 supercedes Financial
Accounting Standards Board Statement No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("FAS 121") but
retains many of the fundamental provisions of FAS 121. FAS 144 also supercedes
the accounting and reporting provisions of Accounting Principles Board Opinion
No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions" ("APB 30") for the disposal of a segment of a
business. However, FAS 144 retains the requirements of APB 30 to report
discontinued operations separately and extends that reporting requirement to
components of an entity that has either been disposed of or is classified as
held for sale. FAS 144 excludes goodwill and other intangibles that are not
amortized from its scope. For assets to be held and used, FAS 144 addresses how
cash flows should be estimated to test the recoverability of an asset or group
of assets, clarifies how an impairment loss should be allocated, and creates a
requirement to use an expected present value technique to estimate fair value if
market prices are not available and uncertainties exist about the timing and
amount of future cash flows. For long-lived assets to be disposed of by sale,
FAS 144 establishes the criteria to be met to qualify for this classification,
defines the timing of when the related sale must be consummated, eliminates the
net realizable value measurement approach for segments of a business and certain
acquired assets in a business combination, and defines costs to sell the asset.
The provisions of FAS 144 are effective for fiscal years beginning after
December 15, 2001 and are generally to be applied prospectively. The Company is
currently evaluating the effect that the adoption of FAS 144 will have on its
results of operations and its financial position.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
-----------------------------------------------------------
The Company uses derivative financial instruments primarily to reduce
exposure to adverse fluctuations in foreign exchange rates, interest rates and
prices of certain raw materials used in the manufacturing process. The Company
does not enter into derivative financial instruments for trading purposes. As a
matter of policy, all derivative positions are used to reduce risk by hedging
underlying economic exposure. The derivatives the Company uses are instruments
with liquid markets.
The Company's consolidated earnings, which are reported in United States
dollars are subject to translation risks due to changes in foreign currency
exchange rates. This risk is concentrated in the exchange rate between the U.S.
dollar and the euro; the U.S. dollar and the Canadian dollar; and the U.S.
dollar and the Chinese remnimbi.
The Company's foreign subsidiaries transact most business, including
certain intercompany transactions, in foreign currencies. Such transactions are
principally purchases or sales of materials and are denominated in European
currencies or the U.S. or Canadian dollar. The Company uses foreign currency
forward exchange contracts to manage the risk related to intercompany purchases
that occur during the course of a fiscal year and certain open foreign currency
denominated commitments to sell products to third parties. At December 31, 2001,
the Company had no forward contracts to buy foreign currencies and no unrealized
gains or losses. See Note 16 of the Notes to the Consolidated Financial
Statements.
The Company has historically had a very low exposure to changes in
interest rates. Interest rate swaps are used to mitigate the impact of interest
rate fluctuations on certain variable rate debt instruments and reduce interest
expense on certain fixed rate instruments. Information about the Company's
long-term debt including principal amounts and related interest rates appears in
Note 11 of the Notes to the Consolidated Financial Statements included herein.
The Company purchases significant amounts of bronze ingot, brass rod and
cast iron, which are utilized in manufacturing its many product lines. The
Company's operating results can be adversely affected by changes in commodity
prices if it is unable to pass on related price increases to its customers. The
Company manages this risk by monitoring related market prices, working with its
suppliers to achieve the maximum level of stability in their costs and related
pricing, seeking alternative supply sources when necessary and passing increases
in commodity costs to its customers, to the maximum extent possible, when they
occur. Additionally, on a limited basis, the Company uses commodity futures
contracts to manage this risk. See Note 16 of the Notes to the Consolidated
Financial Statements.
24
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
--------------------------------------------
The index to financial statements is included in page 27 of this Report.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
-----------------------------------------------------------
AND FINANCIAL DISCLOSURE.
-------------------------
None.
25
PART III
--------
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
---------------------------------------------------
Directors
- ---------
The information appearing under the caption "Information as to Nominees
for Director" in the Registrant's Proxy Statement relating to the Annual Meeting
of Stockholders to be held on April 23, 2002 is incorporated herein by
reference. With respect to Directors and Executive Officers, the information
appearing under the caption "Section 16(a) Beneficial Ownership Reporting
Compliance" in the Registrant's Proxy Statement relating to the Annual Meeting
of Stockholders to be held on April 23, 2002 is incorporated herein by
reference.
Executive Officers
- ------------------
Information with respect to the executive officers of the Company is set
forth in Item 1 of this Report under the caption "Executive Officers".
Item 11. EXECUTIVE COMPENSATION.
-----------------------
The information appearing under the caption "Compensation Arrangements" in
the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders
to be held on April 23, 2002 is incorporated herein by reference.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
---------------------------------------------------------------
The information appearing under the caption "Principal and Management
Stockholders" in the Registrant's Proxy Statement relating to the Annual Meeting
of Stockholders to be held on April 23, 2002 is incorporated herein by
reference.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
-----------------------------------------------
The information appearing under the caption "Compensation
Arrangements-Certain Relationships and Related Transactions" in the Registrant's
Proxy Statement relating to the Annual Meeting of Stockholders to be held on
April 23, 2002 is incorporated herein by reference.
26
PART IV
-------
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
----------------------------------------------------------------
(a)(1) Financial Statements
- ---------------------------
The following financial statements are included in a separate section of
this Report commencing on the page numbers specified below:
Report of Independent Auditors 31
Consolidated Statements of Operations for the twelve months
ended December 31, 2001, 2000 and 1999 (unaudited),
six months ended December 31, 1999 and 1998
(unaudited) and the twelve months ended June 30, 1999 32
Consolidated Balance Sheets as of December 31, 2001 and 2000 33
Consolidated Statements of Stockholders' Equity for the
twelve months ended December 31, 2001, 2000, the six
months ended December 31, 1999 and the twelve months
ended June 30, 1999 34-35
Consolidated Statements of Cash Flows for the twelve months
ended December 31, 2001, 2000 and 1999 (unaudited),
six months ended December 31, 1999, and the twelve
months ended June 30, 1999. 36
Notes to Consolidated Financial Statements 37-56
All other schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are included in
the Notes to the Consolidated Financial Statements, or are not required under
the related instructions or are inapplicable, and therefore have been omitted.
(a)(3) Exhibits
- ---------------
Exhibits 10.1-10.6, 10.8, 10.16, and 10.23 constitute all of the
management contracts and compensation plans and arrangements of the Company
required to be filed as exhibits to this Annual Report. Upon written request of
any stockholder to the Chief Financial Officer at the Company's principal
executive office, the Company will provide any of the Exhibits listed below.
27
Exhibit No. Description and Location
- -------------------------------------------
2.1 Distribution Agreement between Watts Industries, Inc. and CIRCOR
International, Inc. (20)
3.1 Restated Certificate of Incorporation, as amended. (12)
3.2 Amended and Restated By-Laws, as amended May 11, 1999. (1)
9.1 Horne Family Voting Trust Agreement-1991 dated as of October 31,
1991 (2), Amendments dated November 19, 1996 (18), February 24, 1997
(18), June 5, 1997 (18), August 26, 1997 (18), and October 17, 1997
(21), and an extension Amendment dated October 25, 2001.*
9.2 The Amended and Restated George B. Horne Voting Trust Agreement-1997
dated as of September 14, 1999. (22)
10.1 Employment Agreement effective as of September 1, 1996 between the
Registrant and Timothy P. Horne. (14)
10.2 Supplemental Compensation Agreement effective as of September 1,
1996 between the Registrant and Timothy P. Horne. (14), Amendment
No. 1, dated July 25, 2000 (23)
10.3 Deferred Compensation Agreement between the Registrant and Timothy
P. Horne, as amended. (4)
10.4 1996 Stock Option Plan, dated October 15, 1996. (15)
10.5 1989 Nonqualified Stock Option Plan. (3)
10.6 Watts Industries, Inc. Retirement Plan for Salaried Employees dated
December 30, 1994, as amended and restated effective as of January
1, 1994, (12), Amendment No. 1 (14), Amendment No. 2 (14), Amendment
No. 3 (14), Amendment No. 4 dated September 4, 1996. (18), Amendment
No. 5 dated January 1, 1998, Amendment No. 6 dated May 3, 1999 (22),
and Amendment No. 7 dated June 7, 1999. (22)
10.7 Registration Rights Agreement dated July 25, 1986. (5)
10.8 Executive Incentive Bonus Plan, as amended. (12)
10.9 Indenture dated as of December 1, 1991 between the Registrant and
The First National Bank of Boston, as Trustee, including form of
8-3/8% Note Due 2003. (8)
10.10 Loan Agreement and Mortgage among The Industrial Development
Authority of the State of New Hampshire, Watts Regulator Co. and
Arlington Trust Company dated August 1, 1985. (4)
10.11 Amendment Agreement relating to Watts Regulator Co. (Canaan and
Franklin, New Hampshire, facilities) financing dated December 31,
1985. (4)
10.12 Loan Agreement between The Rutherford County Industrial Facilities
and Pollution Control Financing Authority and Watts Regulator
Company dated September 1, 1994. (12)
10.13 Letter of Credit, Reimbursement and Guaranty Agreement dated
September 1, 1994 by and among the Registrant, Watts Regulator
Company and The First Union National Bank of North Carolina (12),
Amendment No. 1 (14), Amendment No. 2 dated October 1, 1996 (18),
and Amendment No. 3 dated October 18, 1999 (11).
10.14 Trust Indenture from The Rutherford County Industrial Facilities and
Pollution Control Financing Authority to The First National Bank of
Boston, as Trustee, dated September 1, 1994. (12)
10.15 Amended and Restated Stock Restriction Agreement dated October 30,
1991 (2), Amendment dated August 26, 1997. (18)
10.16 Watts Industries, Inc. 1991 Non-Employee Directors' Nonqualified
Stock Option Plan (7), Amendment No. 1. (14)
10.17 Letters of Credit relating to retrospective paid loss insurance
programs. (10)
10.18 Form of Stock Restriction Agreement for management stockholders. (5)
10.20 Loan Agreement dated September 1987 with, and related Mortgage to,
N.V. Sallandsche Bank. (6)
10.21 Agreement of the sale of shares of Intermes, S.p.A., RIAF Holding
A.G. and the participations in Multiscope Due S.R.L. dated November
6, 1992. (9)
10.22 Amended and Restated Revolving Credit Agreement dated March 27, 1998
between and among Watts Investment Company, certain financial
institutions, BankBoston N.A., as Administrative Agent, and the
Registrant, as Guarantor (17), and First Amendment to Amended and
Restated Revolving Credit Agreement dated October 18, 1999 (11).
10.23 Watts Industries, Inc. Management Stock Purchase Plan dated October
17, 1995 (13), Amendment No. 1 dated August 5, 1997. (18), Amendment
No 2, dated November 1, 1999
10.24 Stock Purchase Agreement dated as of June 19, 1996 by and among
Mueller Co., Tyco Valves Limited, Watts Investment Company, Tyco
International Ltd. and Watts Industries, Inc. (16)
11 Statement Regarding Computation of Earnings per Common Share. (19)
21 Subsidiaries. *
23 Consent of KPMG LLP. *
28
Incorporated By Reference To:
- -----------------------------
(1) Relevant exhibit to Registrant's Form 10-Q for quarter ended March 31,
1999.
(2) Relevant exhibit to Registrant's Form 8-K dated November 14, 1991.
(3) Relevant exhibit to Registrant's Form 10-K for the year ended June 30,
1989.
(4) Relevant exhibit to Registrant's Form S-1 (No. 33-6515) dated June 17,
1986.
(5) Relevant exhibit to Registrant's Form S-1 (No. 33-6515) as part of the
Second Amendment to such Form S-1 dated August 21, 1986.
(6) Relevant exhibit to Registrant's Form S-1 (No. 33-27101) dated February
16, 1989.
(7) Relevant exhibit to Registrant's Amendment No. 1 to Form 10-K for year
ended June 30, 1992.
(8) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1992.
(9) Relevant exhibit to Registrant's Amendment No. 2 dated February 22, 1993
to Form 8-K dated November 6, 1992.
(10) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1993.
(11) Relevant exhibit to Registrant's Form 10-Q for quarter ended September 30,
1999.
(12) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1995.
(13) Relevant exhibit to Registrant's Form S-8 (No. 33-64627) dated November
29, 1995.
(14) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1996.
(15) Relevant exhibit to Registrant's Form S-8 (No. 333-32685) dated August 1,
1997.
(16) Relevant exhibit to Registrant's Form 8-K dated September 4, 1996.
(17) Relevant exhibit to Registrant's Form 10-Q for quarter ended March 31,
1998.
(18) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1997.
(19) Notes to Consolidated Financial Statements, Note 2 of this Report.
(20) Exhibit 2.1 to CIRCOR International, Inc. Amendment No. 1 to its
registration statement on Form 10 filed on September 22, 1999. (File No.
000-26961).
(21) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1998.
(22) Relevant exhibit to Registrant's Form 10-K for year ended June 30, 1999.
(23) Relevant exhibit to Registrant's Form 10-Q for quarter ended September 30,
2000.
* Filed as an exhibit to this Report with the Securities and Exchange
Commission
(b) Reports on Form 8-K
- -------------------------
There were no reports filed on Form 8-K for quarter ending December 31,
2001.
29
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
WATTS INDUSTRIES, INC.
By: /s/ Timothy P. Horne
----------------------
Timothy P. Horne
Chairman of the Board,
Chief Executive Officer and President
DATED: March 14, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Timothy P. Horne Chairman of the Board, March 14, 2002
- --------------------- Chief Executive Officer,
Timothy P. Horne President (Principal Executive Officer)
and Director
/s/ William C. McCartney Chief Financial Officer March 14, 2002
- ------------------------- and Treasurer (Principal
William C. McCartney Financial and Accounting Officer),
Secretary
/s/ Kenneth J. McAvoy Director March 14, 2002
- ----------------------
Kenneth J. McAvoy
/s/ Gordon W. Moran Director March 14, 2002
- --------------------
Gordon W. Moran
/s/ Daniel J. Murphy, III Director March 14, 2002
- --------------------------
Daniel J. Murphy, III
/s/ Roger A. Young Director March 14, 2002
- -------------------
Roger A. Young
30
Independent Auditors' Report
The Board of Directors and Stockholders
Watts Industries, Inc.:
We have audited the accompanying consolidated balance sheets of Watts
Industries, Inc. and subsidiaries as of December 31, 2001 and 2000, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for the years ended December 31, 2001 and 2000, the six month period ended
December 31, 1999 and the fiscal year ended June 30, 1999. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Watts Industries,
Inc. and subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for the years ended December 31, 2001 and 2000,
the six month period ended December 31, 1999, and the fiscal year ended June 30,
1999 in conformity with accounting principles generally accepted in the United
States of America.
/s/ KPMG LLP
Boston, Massachusetts
February 5, 2002
31
Watts Industries, Inc. and Subsidiaries
Consolidated Statements of Operations
(Amounts in thousands, except per share information)
For the
-------For the Twelve Months Ended------- Six Months Ended
December 31, June 30, December 31,
2001 2000 1999 1999 1999 1998
-------- -------- -------- -------- -------- --------
(unaudited) (unaudited)
Net sales ..................................... $548,940 $516,100 $509,656 $477,869 $261,019 $229,150
Cost of goods sold ............................ 365,408 330,796 322,938 302,745 165,853 145,660
-------- -------- -------- -------- -------- --------
GROSS PROFIT ............................. 183,532 185,304 186,718 175,124 95,166 83,490
Selling, general and administrative expenses .. 131,795 125,317 128,983 123,286 64,148 58,369
Restructuring and other charges ............... 1,454 -- 1,460 -- 1,460 --
-------- -------- -------- -------- -------- --------
OPERATING INCOME ......................... 50,283 59,987 56,275 51,838 29,558 25,121
-------- -------- -------- -------- -------- --------
Other (income) expense:
Interest income .......................... (685) (827) (841) (923) (331) (413)
Interest expense ......................... 9,422 9,897 7,933 6,150 4,456 2,673
Other .................................... 1,378 1,705 1,276 1,688 22 434
-------- -------- -------- -------- -------- --------
10,115 10,775 8,368 6,915 4,147 2,694
-------- -------- -------- -------- -------- --------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES ...................... 40,168 49,212 47,907 44,923 25,411 22,427
Provision for income taxes .................... 13,612 18,041 17,210 15,469 8,943 7,202
-------- -------- -------- -------- -------- --------
INCOME FROM CONTINUING
OPERATIONS ............................... 26,556 31,171 30,697 29,454 16,468 15,225
Income (loss) from discontinued
operations, net of taxes ................. -- (7,170) (3,143) 6,502 (1,226) 8,419
-------- -------- -------- -------- -------- --------
NET INCOME ............................... $ 26,556 $ 24,001 $ 27,554 $ 35,956 $ 15,242 $ 23,644
======== ======== ======== ======== ======== ========
Basic EPS
Income (loss) per share:
Continuing operations .................... $ 1.00 $ 1.18 $ 1.16 $ 1.10 $ 0.62 $ 0.57
Discontinued operations .................. -- (0.27) (0.12) 0.24 (0.05) 0.31
-------- -------- -------- -------- -------- --------
NET INCOME ............................... $ 1.00 $ 0.91 $ 1.04 $ 1.34 $ 0.57 $ 0.88
======== ======== ======== ======== ======== ========
Weighted average number of shares ............. 26,497 26,409 26,498 26,736 26,453 26,935
======== ======== ======== ======== ======== ========
Diluted EPS
Income (loss) per share:
Continuing operations .................... $ 0.99 $ 1.17 $ 1.15 $ 1.10 $ 0.61 $ 0.56
Discontinued operations .................. -- (0.27) (0.12) 0.24 (0.05) 0.31
-------- -------- -------- -------- -------- --------
NET INCOME ............................... $ 0.99 $ 0.90 $ 1.03 $ 1.34 $ 0.56 $ 0.87
======== ======== ======== ======== ======== ========
Weighted average number of shares ............. 26,802 26,551 26,684 26,799 27,081 27,062
======== ======== ======== ======== ======== ========
Dividends per share ...................... $ 0.240 $ 0.268 $ 0.350 $ 0.350 $ 0.175 $ 0.175
======== ======== ======== ======== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
32
Watts Industries, Inc. and Subsidiaries
Consolidated Balance Sheets
(Amounts in thousands, except share information)
December 31,
2001 2000
-------- --------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ........................................ $ 11,997 $ 15,235
Trade accounts receivable, less allowance for doubtful accounts
of $6,070 in 2001 and $6,614 in 2000 ......................... 95,498 97,718
Inventories ...................................................... 115,864 108,951
Prepaid expenses and other assets ................................ 7,436 6,850
Deferred income taxes ............................................ 25,329 20,486
-------- --------
Total Current Assets ......................................... 256,124 249,240
PROPERTY, PLANT AND EQUIPMENT, NET ......................................... 128,606 125,810
OTHER ASSETS:
Goodwill, net of accumulated amortization
of $17,885 in 2001 and $14,665 in 2000 ....................... 124,544 98,179
Other ............................................................ 11,196 8,796
-------- --------
TOTAL ASSETS ............................................................... $520,470 $482,025
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable ................................................. $ 42,873 $ 39,569
Accrued expenses and other liabilities ........................... 55,930 59,088
Accrued compensation and benefits ................................ 11,033 12,200
Current portion of long-term debt ................................ 3,693 1,241
-------- --------
Total Current Liabilities .................................... 113,529 112,098
LONG-TERM DEBT, NET OF CURRENT PORTION ..................................... 123,212 105,377
DEFERRED INCOME TAXES ...................................................... 15,692 15,463
OTHER NONCURRENT LIABILITIES ............................................... 11,414 9,770
MINORITY INTEREST .......................................................... 7,309 6,775
STOCKHOLDERS' EQUITY:
Preferred Stock, $.10 par value; 5,000,000 shares
authorized; no shares issued or outstanding .................. -- --
Class A Common Stock, $.10 par value; 80,000,000 shares
authorized; 1 vote per share; issued and outstanding,
17,776,509 shares in 2001 and 17,225,965 shares in 2000 ...... 1,778 1,723
Class B Common Stock, $.10 par value; 25,000,000 shares
authorized; 10 votes per share; issued and outstanding,
8,735,224 shares in 2001 and 9,235,224 shares in 2000 ........ 874 924
Additional paid-in capital ....................................... 37,182 35,996
Retained earnings ................................................ 233,761 213,627
Accumulated Other Comprehensive Income ........................... (24,281) (19,728)
-------- --------
Total Stockholders' Equity ................................... 249,314 232,542
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ................................. $520,470 $482,025
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
33
Watts Industries, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(Amounts in thousands, except share information)
Class A Class B
Common Stock Common Stock Additional
------------------- -------------------- Paid-In
Shares Amount Shares Amount Capital
---------------------------------------------------------
Balance at June 30, 1998 ................................................ 16,859,027 $1,686 10,296,827 $1,030 $47,647
Comprehensive income
Net income .....................................................
Cumulative translation adjustment ..............................
Comprehensive income ....................................
Shares of Class B Common Stock converted to Class A Common Stock ... 11,580 1 (11,580) (1)
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 3,700 1 60
Purchase of treasury stock, 615,000 shares @ cost
Retirement of treasury stock ....................................... (715,500) (72) (11,926)
Net change in restricted stock units ............................... 288
Common Stock dividends .............................................
---------------------------------------------------------
Balance at June 30, 1999 ................................................ 16,158,807 $1,616 10,285,247 $1,029 $36,069
Comprehensive income:
Net income .....................................................
Cumulative translation adjustment ..............................
Comprehensive income ....................................
Shares of Class B Common Stock converted to Class A Common Stock ... 800,000 80 (800,000) (80)
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 29,700 3 511
Purchase of treasury stock, 100,000 shares @ cost ..................
Retirement of treasury stock ....................................... (100,000) (10) (1,295)
Net change in restricted stock units ............................... 45
Spin off of Industrial and Oil and Gas Group .......................
Common Stock dividends .............................................
---------------------------------------------------------
Balance at December 31, 1999 ............................................ 16,888,507 $1,689 9,485,247 $949 $35,330
Comprehensive income:
Net income .....................................................
Cumulative translation adjustment ..............................
Comprehensive income ....................................
Shares of Class B Common Stock converted to Class A Common Stock ... 250,023 25 (250,023) (25)
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 39,609 4 309
Purchase of treasury stock, 10,000 shares @ cost ...................
Retirement of treasury stock ....................................... (10,000) (1) (104)
Net change in restricted stock units ............................... 57,826 6 461
Common Stock dividends .............................................
---------------------------------------------------------
Balance at December 31, 2000 ............................................ 17,225,965 $1,723 9,235,224 $924 $35,996
Comprehensive income:
Net income .....................................................
Cumulative translation adjustment ..............................
Comprehensive income ....................................
Shares of Class B Common Stock converted to Class A Common Stock ... 500,000 50 (500,000) (50)
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 110,510 11 1,572
Purchase of treasury stock, 110,300 shares @ cost ..................
Retirement of treasury stock ....................................... (110,300) (11) (1,374)
Net change in restricted stock units ............................... 50,334 5 988
Common Stock dividends .............................................
---------------------------------------------------------
Balance at December 31, 2001 ............................................ 17,776,509 $1,778 8,735,224 $ 874 $37,182
=========================================================
The accompanying notes are an integral part of these consolidated financial
statements.
34
Accumulated
Other Total
Retained Comprehensive Treasury Stockholders'
Earnings Income Stock Equity
--------------------------------------------------
Balance at June 30, 1998 ................................................ $337,565 $(11,330) $(2,583) $374,015
Comprehensive income
Net income ..................................................... 35,956 35,956
Cumulative translation adjustment .............................. (3,818) (3,818)
--------
Comprehensive income .................................... 32,138
--------
Shares of Class B Common Stock converted to Class A Common Stock ...
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 61
Purchase of treasury stock, 615,000 shares @ cost (9,415) (9,415)
Retirement of treasury stock ....................................... 11,998
Net change in restricted stock units ............................... 288
Common Stock dividends ............................................. (9,432) (9,432)
--------------------------------------------------
Balance at June 30, 1999 ................................................ $364,089 $(15,148) $ -- $387,655
Comprehensive income:
Net income ..................................................... 15,242 15,242
Cumulative translation adjustment .............................. (51) (51)
--------
Comprehensive income .................................... 15,191
--------
Shares of Class B Common Stock converted to Class A Common Stock ...
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 514
Purchase of treasury stock, 100,000 shares @ cost .................. (1,305) (1,305)
Retirement of treasury stock ....................................... 1,305
Net change in restricted stock units ............................... 45
Spin off of Industrial and Oil and Gas Group ....................... (177,942) (177,942)
Common Stock dividends ............................................. (4,656) (4,656)
--------------------------------------------------
Balance at December 31, 1999 ............................................ $196,733 $(15,199) $ -- $219,502
Comprehensive income:
Net income ..................................................... 24,001 24,001
Cumulative translation adjustment .............................. (4,529) (4,529)
--------
Comprehensive income .................................... 19,472
--------
Shares of Class B Common Stock converted to Class A Common Stock ...
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 313
Purchase of treasury stock, 10,000 shares @ cost ................... (105) (105)
Retirement of treasury stock ....................................... 105
Net change in restricted stock units ............................... 467
Common Stock dividends ............................................. (7,107) (7,107)
--------------------------------------------------
Balance at December 31, 2000 ............................................ $213,627 $(19,728) $ -- $232,542
Comprehensive income:
Net income ..................................................... 26,556 26,556
Cumulative translation adjustment .............................. (4,553) (4,553)
--------
Comprehensive income .................................... 22,003
--------
Shares of Class B Common Stock converted to Class A Common Stock ...
Shares of Class A Common Stock issued upon the exercise of
stock options .................................................. 1,583
Purchase of treasury stock, 110,300 shares @ cost .................. (1,385) (1,385)
Retirement of treasury stock ....................................... 1,385
Net change in restricted stock units ............................... 993
Common Stock dividends ............................................. (6,422) (6,422)
--------------------------------------------------
Balance at December 31, 2001 ............................................ $233,761 $(24,281) $ -- $249,314
==================================================
35
Watts Industries, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Amounts in thousands)
For the Six
-------For the Twelve Months Ended------- Months Ended
December 31, June 30, December 31,
2001 2000 1999 1999 1999
---- ---- ---- ---- ----
(unaudited)
OPERATING ACTIVITIES
Income from continuing operations ................................... $ 26,556 $ 31,171 $ 30,697 $ 29,454 $ 16,468
Adjustments to reconcile net income from continuing operations
to net cash provided by continuing operating activities:
Depreciation .................................................. 19,971 16,963 15,495 14,745 7,869
Amortization .................................................. 3,704 3,108 2,701 2,711 1,356
Deferred income taxes (benefit) ............................... (3,421) 1,380 (2,983) (2,823) 154
Loss/(Gain) on disposal of property, plant and equipment ...... 1,923 296 18 (19) 23
Equity in undistributed earnings/(loss) of affiliates ......... 6 (120) 747 712 (78)
Changes in operating assets and liabilities, net of effects
from business acquisitions and divestures:
Accounts receivable ...................................... 6,295 (5,544) (2,343) (876) (5,883)
Inventories .............................................. 4,213 3,648 (13,589) (532) (2,830)
Prepaid expenses and other assets ........................ (780) 5,529 (4,478) (1,050) (2,456)
Accounts payable, accrued expenses and
other liabilities ...................................... (7,230) 1,323 15,935 5,964 14,386
--------- -------- --------- -------- --------
Net cash provided by continuing operations ........................ 51,237 57,754 42,200 48,286 29,009
--------- -------- --------- -------- --------
INVESTING ACTIVITIES
Additions to property, plant and equipment .......................... (16,047) (14,238) (24,283) (21,532) (10,293)
Proceeds from sale of property, plant and equipment .............. 267 587 2,291 2,337 --
Decrease/(Increase) in other assets .............................. 508 (616) (617) (415) (862)
Business acquisitions, net of cash acquired ...................... (42,977) (9,982) (27,935) (28,422) --
--------- -------- --------- -------- --------
Net cash used in investing activities ........................ (58,249) (24,249) (50,544) (48,032) (11,155)
--------- -------- --------- -------- --------
FINANCING ACTIVITIES
Proceeds from long-term borrowings .................................. 124,992 71,000 112,453 81,121 59,089
Payments of long-term debt .......................................... (114,033) (92,430) (77,697) (47,138) (49,831)
Proceeds from exercise of stock options ............................. 2,576 780 556 61 556
Dividends ........................................................... (6,422) (7,107) (9,301) (9,358) (4,656)
Purchase and retirement of common stock ............................. (1,385) (105) (6,849) (9,415) (1,305)
--------- -------- --------- -------- --------
Net cash provided by/(used in) financing activities .............. 5,728 (27,862) 19,162 15,271 3,853
--------- -------- --------- -------- --------
Effect of exchange rate changes on cash and cash equivalents ............ (214) (496) 1,437 2,620 302
Net cash used in discontinued operations ................................ (1,740) (2,928) (13,852) (16,138) (21,767)
--------- -------- --------- -------- --------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ........................ (3,238) 2,219 (1,597) 2,007 242
Cash and cash equivalents at beginning of year .................... 15,235 13,016 14,613 10,767 12,774
--------- -------- --------- -------- --------
CASH AND CASH EQUIVALENTS AT END OF YEAR ................................ $ 11,997 $ 15,235 $ 13,016 $ 12,774 $ 13,016
========= ======== ========= ======== ========
NON CASH INVESTING AND FINANCING ACTIVITIES
Acquisition of businesses
Fair value of assets acquired .................................... $ 64,951 $ 10,826 $ 61,303 $ 61,963 $ --
Cash paid, net of cash acquired .................................. 42,977 9,982 27,935 28,422 --
--------- -------- --------- -------- --------
Liabilities assumed .............................................. $ 21,974 $ 844 $ 33,368 $ 33,541 $ --
========= ======== ========= ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
36
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(1) Description of Business
Watts Industries, Inc. (the Company) designs, manufactures and sells an
extensive line of valves and other products for the water quality, water
safety, water flow control and water conservation markets located
predominately in North America, Europe, and Asia.
(2) Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its majority and wholly owned subsidiaries. Upon consolidation, all
significant intercompany accounts and transactions are eliminated. The
financial statements of the Company reflect the industrial and oil and gas
businesses as discontinued operations for periods prior to a spin-off
transaction that was completed on October 18, 1999 (see Note 3).
Change in Fiscal Year
Effective July 1, 1999, the Company changed its fiscal year end from June
30 to December 31. Accordingly, the audited financial statements include
the results for the twelve month period ended December 31, 2001 ("fiscal
2001") and December 31, 2000 ("fiscal 2000"), the six month period ended
December 31, 1999 ("fiscal 1999.5"), and the fiscal year ended June 30,
1999 ("fiscal 1999"). In addition to the basic audited financial
statements and related notes, certain unaudited financial information for
the twelve month period ended December 31, 1999 and the six month period
ended December 31, 1998 have been presented to enhance comparability.
Cash Equivalents
Cash equivalents consist of highly liquid investments with maturities of
three months or less at the date of original issuance.
Inventories
Inventories are stated at the lower of cost (first-in, first-out method)
or market. Market value is determined by replacement cost or net
realizable value.
Goodwill and Other Intangible Assets
Goodwill represents the excess of cost over the fair value of net assets
of businesses acquired. Goodwill related to acquisitions prior to July 1,
2001 is amortized over 40 years using the straight-line method. Effective
July 1, 2001, the Company adopted the provisions of Financial Accounting
Standards Board Statements No. 141 "Business Combinations," and certain
provisions of Statement No. 142 "Goodwill and Other Intangible Assets" as
required for goodwill and intangible assets resulting from business
combinations consummated after June 30, 2001. Goodwill relating to the
acquisition of Powers Process Controls is not being amortized as this
acquisition falls under certain provisions of FAS 142. The impact of the
adoption for the Powers acquisition was not material. The Company assesses
the recoverability of intangible assets by determining whether the
intangible asset balance can be recovered through undiscounted future
operating cash flows of the acquired businesses. The amount of impairment,
if any, is measured based on projected discounted future operating cash
flows using a discount rate reflecting the Company's average cost of
funds.
Property, Plant and Equipment
Property, plant and equipment are recorded at cost. Depreciation is
provided on a straight-line basis over the estimated useful lives of the
assets, which range from 10 to 40 years for buildings and improvements and
3 to 15 years for machinery and equipment.
Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases and operating loss and tax credit carry forwards. Deferred tax
assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled. The effect on deferred tax assets
and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
37
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
Foreign Currency Translation
Balance sheet accounts of foreign subsidiaries are translated into United
States dollars at fiscal year end exchange rates. Operating accounts are
translated at weighted average exchange rates for each period. Net
translation gains or losses are adjusted directly to a separate component
of stockholders' equity. The Company does not provide for U.S. income
taxes on foreign currency translation adjustments since it does not
provide for such taxes on undistributed earnings of foreign subsidiaries.
Stock Based Compensation
As allowed under Statement of Financial Accounting Standards (SFAS) No.
123, "Accounting for Stock-Based Compensation", the Company accounts for
its stock-based employee compensation plans in accordance with the
provisions of APB Opinion No. 25, "Accounting for Stock Issued to
Employees".
Net Income Per Common Share
Basic net income per common share is calculated by dividing net income by
the weighted average number of common shares outstanding. The calculation
of diluted earnings per share assumes the conversion of all dilutive
securities (see Note 13).
Net income and number of shares used to compute net earnings per share
from continuing operations, basic and assuming full dilution, are
reconciled below:
Twelve Months Ended Twelve Months Ended Six Months Ended Twelve Months Ended
December 31, 2001 December 31, 2000 December 31, 1999 June 30, 1999
-------------------------- -------------------------- -------------------------- --------------------------
(Amounts in thousands, except per share information)
Income Income Income Income
from Per from Per from Per from Per
Continuing Share Continuing Share Continuing Share Continuing Share
Operations Shares Amount Operations Shares Amount Operations Shares Amount Operations Shares Amount
---------- ------ ------ ---------- ------ ------ ---------- ------ ------ ---------- ------ ------
Basic EPS $26,556 26,497 $1.00 $31,171 26,409 $1.18 $16,468 26,453 $0.62 $29,454 26,736 $1.10
Dilutive
securities
principally
common
stock options 305 0.01 142 0.01 628 0.01 63 --
------- ------ ----- ------- ------ ----- ------- ------ ----- ------- ------ -----
Diluted EPS $26,556 26,802 $0.99 $31,171 26,551 $1.17 $16,468 27,081 $0.61 $29,454 26,799 $1.10
======= ====== ===== ======= ====== ===== ======= ====== ===== ======= ====== =====
Derivative Financial Instruments
In the normal course of business, we manage risks associated with
commodity prices, foreign exchange rates and interest rates through a
variety of strategies, including the use of hedging transactions, executed
in accordance with our policies. Our hedging transactions include, but are
not limited to, the use of various derivative financial and commodity
instruments. As a matter of policy, we do not use derivative instruments
unless there is an underlying exposure. Any change in the value of our
derivative instruments would be substantially offset by an opposite change
in the value of the underlying hedged items. We do not use derivative
instruments for trading or speculative purposes.
Using qualifying criteria defined in FAS 133, derivative instruments are
designated and accounted for as either a hedge of a recognized asset or
liability (fair value hedge) or a hedge of a forecasted transaction (cash
flow hedge). For a fair value hedge, both the effective and ineffective
portions of the change in fair value of the derivative instrument, along
with an adjustment to the carrying amount of the hedged item for fair
value changes attributable to the hedged risk, are recognized in earnings.
For a cash flow hedge, changes in the fair value of the derivative
instrument that are highly effective are deferred in accumulated other
comprehensive income or loss until the underlying hedged item is
recognized in earnings.
The ineffective portion of fair value changes on qualifying hedges is
recognized in earnings immediately. If a fair value or cash flow hedge
were to cease to qualify for hedge accounting or be terminated, it would
continue to be carried on
38
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
the balance sheet at fair value until settled, but hedge accounting would
be discontinued prospectively. If a forecasted transaction were no longer
probable of occurring, amounts previously deferred in accumulated other
comprehensive income would be recognized immediately in earnings. On
occasion, we may enter into a derivative instrument for which hedge
accounting is not required because it is entered into to offset changes in
the fair value of an underlying transaction which is required to be
recognized in earnings (natural hedge). These instruments are reflected in
the Consolidated Balance Sheet at fair value with changes in fair value
recognized in earnings.
Certain forecasted transactions, primarily intercompany sales between the
United States and Canada, and assets are exposed to foreign currency risk.
The Company monitors its foreign currency exposures on an ongoing basis to
maximize the overall effectiveness of its foreign currency hedge
positions. During fiscal year 2001, the Company used foreign currency
forward contracts as a means of hedging exposure to foreign currency
risks. The Company's foreign currency forwards have been designated and
qualify as cash flow hedges under the criteria of FAS 133. FAS 133
requires that changes in fair value of derivatives that qualify as cash
flow hedges be recognized in other comprehensive income while the
ineffective portion of the derivative's change in fair value be
reorganized immediately in earnings. The net gain on these contracts
recorded in other comprehensive income during the year ended December 31,
2001 was not material.
Shipping and Handling
Shipping and handling costs included in selling, general and
administrative expense amounted to $21,002,000 and $19,492,000 for the
fiscal years ended December 31, 2001 and 2000 respectively, $9,053,000 for
the six month period ended December 31, 1999, and $17,943,000 for the
fiscal year ended June 30, 1999.
Revenue Recognition
The Company recognizes revenue when all of the following criteria have
been met: the product has been shipped and title passes, the sales price
to the customer is fixed or is determinable, and the collectability of the
price is reasonably assured. Provisions for estimated returns and
allowances are made at the time of sale.
Basis of Presentation
Certain amounts in fiscal years 2000, 1999.5, and 1999 have been
reclassified to permit comparison with the 2001 presentation.
Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to
make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
New Accounting Standards
The Company adopted Statement of Financial Accounting Standards No. 133
"Accounting for Derivative Instruments and Hedging Activities" (FAS 133),
as amended by FAS No. 137 and FAS No. 138, on January 1, 2001. FAS 133
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts, and
hedging activities. It requires the recognition of all derivative
instruments as assets or liabilities in the Company's balance sheet and
measurement of those instruments at fair value. The adoption of FAS 133 on
January 1, 2001 did not have a material effect on the consolidated
financial statements.
During 2000, the Financial Accounting Standards Board's Emerging Issues
Task Force (EITF) added to its agenda various revenue recognition issues
that could impact the income statement classification of certain
promotional payments. In May 2000, the EITF reached a consensus on Issue
00-14, "Accounting for Certain Sales Incentives". EITF 00-14 addresses the
recognition and income statement classification of various sales
incentives. Among its requirements, the consensus will require the costs
related to consumer coupons currently classified as marketing costs to be
classified as a reduction of revenue. The impact of adopting this
consensus is not expected to have a material impact on our results of
operations. The Company will adopt the consensus in the first quarter of
fiscal 2002.
In January 2001, the EITF reached a consensus on Issue 00-22, "Accounting
for "Points" and Certain Other Time-Based or Volume-Based Sales Incentive
Offers, and Offers for Free Products or Services to Be Delivered in the
Future". Issue 00-22 requires that certain volume-based cash rebates to
customers currently recognized as marketing costs
39
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
be classified as a reduction of revenue. The consensus was effective for
the first quarter of 2001 and its adoption was not material to our
consolidated financial statements.
In April 2001, the EITF reached a consensus on Issue 00-25, "Vendor Income
Statement Characterization of Consideration to a Purchaser of the Vendor's
Products or Services". EITF 00-25 addresses the income statement
classification of consideration, other than that directly addressed in
Issue 00-14, from a vendor to a reseller, or another party that purchases
the vendor's products. Among its requirements, the consensus will require
certain of our customer promotional incentives currently classified as
marketing costs to be classified as a reduction of revenue. The Company
will adopt the consensus in the first quarter of fiscal 2002. The Company
is currently assessing the impact of adopting Issue 00-25, but anticipates
no material change to our consolidated financial statements.
In July 2001, the Financial Standards Accounting Board ("FASB") issued
Financial Accounting Standards Board Statement No. 141, "Business
Combinations" ("FAS 141") and Financial Accounting Standards Board
Statement No. 142, "Goodwill and Other Intangible Assets" ("FAS 142"). FAS
141 requires that the purchase method of accounting be used for all
business combinations initiated after June 30, 2001. FAS 141 also
specifies the criteria that intangible assets acquired in a purchase
method business combination must meet to be recognized and reported apart
from goodwill. FAS 142 requires that goodwill and intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment, at least annually, in accordance with the provisions of FAS
142. FAS 142 will also require that intangible assets with definite useful
lives be amortized over their respective estimated useful lives to their
estimated residual values, and reviewed for impairment in accordance with
Financial Accounting Standards Board Statement No. 121, "Accounting for
the Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed
Of".
The provisions of FAS 141 are effective immediately, except with regard to
business combinations initiated prior to July 1, 2001. FAS 142 will be
effective as of January 1, 2002. Goodwill and other intangible assets
determined to have an indefinite useful life that are acquired in a
purchase business combination completed after June 30, 2001 will not be
amortized, but will continue to be evaluated for impairment in accordance
with appropriate pre-FAS 142 accounting literature. Goodwill and other
intangible assets acquired in business combinations completed before July
1, 2001, will continue to be amortized prior to the adoption of FAS 142.
The Company is currently evaluating the effect that the adoption of FAS
141 and FAS 142 will have on its results of operations and its financial
position.
In August 2001, the FASB issued Financial Accounting Standards Board
Statement No. 143, "Accounting for Asset Retirement Obligations" ("FAS
143") which requires companies to record the fair value of an asset
retirement obligation as a liability in the period it incurs a legal
obligation associated with the retirement of tangible long-lived assets
that result from the acquisition, construction, development and or normal
use of the assets. The company must also record a corresponding increase
in the carrying value of the related long-lived asset and depreciate that
cost over the remaining useful life of the asset. The liability must be
increased each period for the passage of time with the offset recorded as
an operating expense. The liability must also be adjusted for changes in
the estimated future cash flows underlying the initial fair value
measurement. Companies must also recognize a gain or loss on the
settlement of the liability. The provisions of FAS 143 are effective for
fiscal years beginning after June 15, 2002. At the date of the adoption of
FAS 143, companies are required to recognize a liability for all existing
asset retirement obligations and the associated asset retirement costs.
The Company is currently evaluating the effect that the adoption of FAS
143 will have on its results of operations and its financial position.
In August 2001, the FASB issued Financial Accounting Standards Board
Statement No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets" ("FAS 144") which addresses the accounting and
reporting for the impairment or disposal of long-lived assets. FAS 144
supercedes Financial Accounting Standards Board Statement No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-lived
Assets to be Disposed Of" ("FAS 121") but retains many of the fundamental
provisions of FAS 121. FAS 144 also supercedes the accounting and
reporting provisions of Accounting Principles Board Opinion No. 30,
"Reporting the Results of Operations - Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions" ("APB 30") for the disposal of a
segment of a business. However, FAS 144 retains the requirements of APB 30
to report discontinued operations separately and extends that reporting
requirement to components of an entity that has either been disposed of or
is classified as held for sale. FAS 144 excludes goodwill and other
intangibles that are not amortized from its scope. For assets to be held
and used, FAS 144 addresses how cash flows should
40
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
be estimated to test the recoverability of an asset or group of assets,
clarifies how an impairment loss should be allocated, and creates a
requirement to use an expected present value technique to estimate fair
value if market prices are not available and uncertainties exist about the
timing and amount of future cash flows. For long-lived assets to be
disposed of by sale, FAS 144 establishes the criteria to be met to qualify
for this classification, defines the timing of when the related sale must
be consummated, eliminates the net realizable value measurement approach
for segments of a business and certain acquired assets in a business
combination, and defines costs to sell the asset. The provisions of FAS
144 are effective for fiscal years beginning after December 15, 2001 and
are generally to be applied prospectively. The Company will adopt FAS 144
in the first quarter of fiscal 2002. The Company is currently evaluating
the effect that the adoption of FAS 144 will have on its results of
operations and its financial position.
(3) Discontinued Operations
On December 18, 1998, the Company announced its intention to spin-off its
industrial and oil and gas businesses to its shareholders as an
independent publicly traded company. The spin-off was effected as a
tax-free distribution on October 18, 1999 ("Distribution Date"). Owners of
Watts common stock as of October 6, 1999 received one share of common
stock of CIRCOR International, Inc. ("CIRCOR"), the new company, for every
two shares of Watts class A or class B common stock held. Coincident with
the Distribution Date, the Company received $96.0 million in cash from
CIRCOR as repayment of intercompany loans and advances.
The historical operating results of CIRCOR through the distribution date
are shown, net of tax, as discontinued operations in the consolidated
statements of operations. Included in the historical operating results of
the discontinued operations is an allocation of the Company's interest
expense based on an allocation of the Company's debt to discontinued
operations. Income taxes have been allocated to discontinued operations
based on their pre-tax income and calculated on a separate company basis
pursuant to the requirements of Statement of Financial Accounting
Standards No. 109.
In September 1996, the Company divested its Municipal Water Group of
businesses, which included Henry Pratt, James Jones Company and Edward
Barber and Company Ltd. Costs and expenses related to the Municipal Water
Group, for fiscal 2000 and 1999 relate to legal and settlement costs
associated with the James Jones litigation (see Note 15).
Condensed operating statement data of the discontinued operations is
summarized below:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
(in thousands)
Net sales $ -- $ -- $ 85,473 $321,711
Costs and expenses
Municipal Water Group -- 11,950 -- 5,000
CIRCOR -- -- 85,604 299,385
-------- -------- -------- --------
Total costs and expenses -- 11,950 85,604 304,385
-------- -------- -------- --------
Income/(loss) before income taxes -- (11,950) (131) 17,326
Provision for income taxes (benefit) -- (4,780) 1,095 10,824
-------- -------- -------- --------
Income/(loss) from discontinued
operations, net of taxes $ -- $ (7,170) $ (1,226) $ 6,502
======== ======== ======== ========
(4) Restructuring and Other Charges
The Company is implementing a plan to consolidate several of its
manufacturing plants both in North America and Europe. At the same time it
is expanding its manufacturing capacity in China. The implementation of
this manufacturing restructuring plan began during the fourth quarter of
fiscal 2001 and is expected to be completed during fiscal
41
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
2002 to insure the quality of its products and minimize any interruption
in its delivery of those products to its customers. The Company recorded
manufacturing restructuring plan costs of $5,831,000 pre-tax in the fourth
quarter of fiscal 2001 and is anticipating recording an additional
$6,000,000 to $8,000,000 pre-tax in 2002 as it continues to implement the
program. The restructuring costs recorded in 2001 consist primarily of
severance costs for approximately 36 employees in manufacturing and
administration groups, 35 of whom have been terminated as of December 31,
2001. Asset write-downs consist primarily of write-offs of inventory
related to product lines that the Company has discontinued as part of this
restructuring plan and have been recorded in cost of goods sold. The tax
benefits of the costs and asset write-downs will slightly exceed cash
outlays to implement this program, which would allow the Company to
complete the restructuring without consuming any cash. The Company
estimates an annual pre-tax savings of approximately $5,000,000 following
the completion of the program.
Details of the restructuring are as follows:
Initial Utilized Remaining
Provision During 2001 Balance
--------- ----------- ---------
(in thousands)
Restructuring/Other $1,454 $ 692 $762
Asset Write-downs 4,300 4,300 --
Other exit costs 77 77 --
------ ------ ----
Total $5,831 $5,069 $762
====== ====== ====
In December 1999, the Company announced a restructuring of its operations
in Italy to consolidate the warehousing and manufacturing operations. In
connection with this restructuring, the Company recorded a pre-tax charge
of $1,460,000. This restructuring program was completed in fiscal 2000.
(5) Business Acquisitions
On September 28, 2001, a wholly owned subsidiary of the Company acquired
the assets of the Powers Process Controls Division of Mark Controls
Corporation, a subsidiary of Crane Co. located in Skokie, Illinois and
Mississauga, Ontario, Canada for approximately $13 million in cash. The
December 31, 2001 Consolidated Balance Sheet of the Company contains a
purchase price allocation of the Powers acquisition, consistent with the
guidelines of FAS 141 and certain provisions of FAS 142. Powers designs
and manufactures thermostatic mixing valves for personal safety and
process control applications in commercial and institutional facilities.
It also manufactures control valves and commercial plumbing brass products
including shower valves and lavatory faucets. Powers' annualized sales
prior to the acquisition were approximately $20 million.
On June 13, 2001, a wholly owned subsidiary of the Company acquired
Premier Manufactured Systems, Inc., located in Phoenix, Arizona for
approximately $5 million in cash. Premier manufactures water filtration
systems for both residential and commercial applications and other
filtration products including under-the-counter ultraviolet filtration as
well as a variety of Sediment and Carbon filters. Premier's annualized
sales prior to the acquisition were approximately $10 million.
On June 1, 2001, a wholly owned subsidiary of the Company acquired Fimet
S.r.l. (Fabbrica Italiana Manometri e Termometri) located in Milan, Italy
and its wholly-owned subsidiary, MTB AD, which is located in Bulgaria for
approximately $6 million. The acquired business manufactures pressure and
temperature gauges for use in the HVAC market. Fimet's annualized sales
prior to the acquisition were approximately $9 million.
On January 5, 2001, the Company acquired Dumser Metallbau GmbH & Co. KG
located in Landau, Germany for approximately $20 million. The main
products of Dumser include brass, steel and stainless steel manifolds used
as a prime distribution device in hydronic heating systems. Dumser's
annualized sales prior to the acquisition were approximately $24 million.
Dumser has a 51% controlling share of Stern Rubinetti, which had
annualized sales prior to the acquisition of $4 million. Stern Rubinetti
is an Italian manufacturing company producing brass components located in
Brescia, Italy.
42
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(6) Allowance for Doubtful Trade Accounts Receivable
Activity in the allowance for doubtful trade accounts receivable is as
follows:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
(in thousands)
Balance at beginning of year $ 6,614 $ 6,730 $ 7,747 $ 6,821
Additions, charged to operations 1,697 1,211 87 1,728
Other additions, primarily
related to acquisitions 392 25 98 747
Deductions, losses charged
to reserves (2,633) (1,352) (1,202) (1,549)
------- ------- ------- -------
Balance at end of year $ 6,070 $ 6,614 $ 6,730 $ 7,747
======= ======= ======= =======
(7) Inventories
Inventories consist of the following:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
Raw materials $ 34,276 $ 35,483
Work in process 13,032 16,390
Finished goods 68,556 57,078
-------- --------
$115,864 $108,951
======== ========
(8) Property, Plant and Equipment
Property, plant and equipment consists of the following:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
Land $ 8,890 $ 8,297
Buildings and improvements 61,045 55,779
Machinery and equipment 142,615 131,642
Construction in progress 5,685 6,774
-------- --------
218,235 202,492
Accumulated Depreciation (89,629) (76,682)
-------- --------
$128,606 $125,810
======== ========
43
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(9) Income Taxes
The significant components of the Company's deferred income tax
liabilities and assets are as follows:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
Deferred income tax liabilities:
Excess tax over book depreciation $12,945 $12,216
Other 2,747 3,247
------- -------
Deferred income tax liabilities 15,692 15,463
------- -------
Deferred income tax assets:
Accrued expenses 12,185 11,433
Net operating loss carryforward 3,298 4,102
Inventory 3,613 1,688
Restructuring 1,553 --
Other 5,329 4,017
------- -------
Deferred income tax assets 25,978 21,240
Valuation allowance (649) (754)
------- -------
Deferred income tax assets, net
of valuation allowance 25,329 20,486
------- -------
Net deferred income tax asset $ 9,637 $ 5,023
======= =======
The provision for income taxes from continuing operations is based on the
following pre-tax income:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
(in thousands)
Domestic $30,152 $35,565 $18,424 $33,787
Foreign 10,016 13,647 6,987 11,136
------- ------- ------- -------
$40,168 $49,212 $25,411 $44,923
======= ======= ======= =======
44
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
The provision for income taxes from continuing operations consists of the
following:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
(in thousands)
Current tax expense
Federal $11,411 $10,294 $ 7,177 $12,698
Foreign 4,238 4,544 1,721 2,820
State 2,125 1,845 214 385
------- ------- ------- -------
17,774 16,683 9,112 15,903
------- ------- ------- -------
Deferred tax expense (benefit)
Federal (2,096) 1,554 (553) (577)
Foreign (1,593) (414) 450 212
State (473) 218 (66) (69)
------- ------- ------- -------
(4,162) 1,358 (169) (434)
------- ------- ------- -------
$13,612 $18,041 $ 8,943 $15,469
======= ======= ======= =======
Actual income taxes reported from continuing operations are different than
would have been computed by applying the federal statutory tax rate to
income from continuing operations before income taxes. The reasons for
this difference are as follows:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
(in thousands)
Computed expected federal
income expense (benefit) $14,059 $17,224 $ 8,894 $15,723
State income taxes, net of
federal tax benefit 1,074 1,341 96 366
Goodwill amortization 751 714 342 1,058
Foreign tax rate and
regulation differential (1,025) (646) (205) (664)
Other, net (1,247) (592) (184) (1,014)
------- ------- ------- -------
$13,612 $18,041 $ 8,943 $15,469
======= ======= ======= =======
At December 31, 2001, the Company had foreign net operating loss
carry-forwards of $8.8 million for income tax purposes. Approximately $8.7
million of the foreign net operating losses can be carried forward
indefinitely, with the remainder expiring in fiscal years 2002 and 2003.
Undistributed earnings of the Company's foreign subsidiaries amounted to
approximately $55 million at December 31, 2001, and $57 million at
December 31, 2000, $43 million and $45 million at December 31, 1999 and
June 30, 1999, respectively. Those earnings are considered to be
indefinitely reinvested and, accordingly, no provision for U.S. federal
and state income taxes has been recorded thereon. Upon distribution of
those earnings, in the form of dividends or otherwise, the Company will be
subject to withholding taxes payable to the various foreign countries.
Determination of the amount of U.S. income tax liability that would be
incurred is not practicable because of the complexities associated with
its hypothetical calculation; however, unrecognized foreign tax credits
would be available to reduce some portion of any U.S. income tax
liability. Withholding taxes of approximately $3.6 million would be
payable upon remittance of all previously unremitted earnings at December
31, 2001.
45
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
Management believes that it is more likely than not that the deferred tax
assets, net of valuation allowance, will be realized.
The Company made income tax payments of $19.7 million for the fiscal year
ended December 31, 2001, $18.4 million for the fiscal year ended December
31, 2000, $11.2 million and $24.8 million in fiscal years ended December
31, 1999 and June 30, 1999, respectively.
(10) Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consist of the following:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
Commissions and sales incentives payable $12,214 $11,261
Accrued insurance 12,415 11,434
Net Pension Liability 4,162 3,668
Other 18,919 18,549
Income Taxes Payable 1,766 5,217
Accrued legal/settlement 6,454 8,959
------- -------
$55,930 $59,088
======= =======
46
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(11) Financing Arrangements
Long-term debt consists of the following:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
8 3/8%, debentures due December 2003 $ 75,000 $ 75,000
$100 million revolving line of credit facility,
accruing interest at a variable rate (3.42% and
7.18% at December 31, 2001 and 2000, respectively)
of either Eurodollar rate plus .185%, Prime Rate
or a competitive money market rate to be
specified by the Lender, and expiring March 2003 5,000 5,000
10.4 million euro tranche at December 31, 2001
and 23.6 million euro line of credit at December 31, 2000,
accruing interest at a variable rate of euribor plus .75%
(4.5% and 4.3% at December 31, 2001 and 2000,
respectively) expiring September 2004 9,257 17,837
29 million euro line of credit, accruing interest
at a variable rate of euribor plus .75% (4.3% at
December 31, 2001) expiring March 2002 25,457 --
Industrial Revenue Bond, maturing September 2002
accruing interest at a variable rate based on weekly
tax-exempt interest rates (1.90% and 5.20%
at December 31, 2001 and 2000, respectively) 5,000 5,000
Other (at interest rates ranging from 4.3% to 8.4%) 7,191 3,781
-------- --------
126,905 106,618
Less: current portion 3,693 1,241
-------- --------
$123,212 $105,377
======== ========
The Industrial Revenue Bond, which matures in September 2002, and the 29
million euro line of credit, which matures in March 2002, have been
classified as long term since management has the present ability and
intent to refinance this debt through the use of the existing credit
facilities.
Principal payments during each of the next five fiscal years are due as
follows (in thousands): 2002 - $37,532; 2003 - $83,817; 2004 - $3,427,
2005 - $426, and 2006 - $404. Interest paid for all periods presented in
the accompanying consolidated financial statements approximates interest
expense.
47
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
Letters of Credit are purchased guarantees that ensure the Company's
performance or payment to third parties in accordance with specified terms
and conditions. The following table presents the Company's Letters of
Credit for amounts committed but not drawn-down and the amounts drawn-down
on such instruments. These instruments may exist or expire without being
drawn down. Therefore, the amounts committed but not drawn-down, do not
necessarily represent future cash flows.
Amounts Committed Amounts Drawn-down
But Not Drawn-down And Outstanding
------------------ ------------------
December 31, December 31, December 31, December 31,
2001 2000 2001 2000
------------ ------------ ------------ ------------
(in thousands)
Commitments to Extend Credit $18,177 $17,946 $3,051 $5,689
Certain of the Company's loan agreements contain covenants that require,
among other items, the maintenance of certain financial ratios, and limit
the Company's ability to enter into secured borrowing arrangements.
(12) Common Stock
Since fiscal 1997, the Company's Board of Directors has authorized the
repurchase of 4,380,200 shares of the Company's common stock in the open
market and through private purchases. Since the inception of this
repurchase program, 3,716,000 shares of the Company's common stock have
been repurchased and retired.
The Class A Common Stock and Class B Common Stock have equal dividend and
liquidation rights. Each share of the Company's Class A Common Stock is
entitled to one vote on all matters submitted to stockholders and each
share of Class B Common Stock is entitled to ten votes on all such
matters. Shares of Class B Common Stock are convertible into shares of
Class A Common Stock, on a one-to-one basis, at the option of the holder.
The Company has reserved a total of 5,799,987 shares of Class A Common
Stock for issuance under its stock-based compensation plans and 8,735,224
shares for conversion of Class B Stock to Class A Common Stock.
48
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(13) Stock-Based Compensation
The Company has several stock option plans under which key employees and
outside directors have been granted incentive (ISOs) and nonqualified
(NSOs) options to purchase the Company's Class A common stock. Generally,
options become exercisable over a five year period at the rate of 20% per
year and expire ten years after the date of grant. ISOs and NSOs granted
under the plans have exercise prices of not less than 100% and 50% of the
fair market value of the common stock on the date of grant, respectively.
At December 31, 2001, 3,042,723 shares of Class A common stock were
authorized for future grants of options under the Company's stock option
plans.
The following is a summary of stock option activity and related
information:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, 2001 December 31, 2000 December 31, 1999 June 30, 1999
----------------- ----------------- ----------------- -------------
Weighted Weighted Weighted Weighted
Average Average Average Average
(Options in thousands) Exercise Exercise Exercise Exercise
Options Price Options Price Options Price Options Price
------- -------- ------- -------- ------- -------- ------- --------
Outstanding at beginning of year 1,714 $13.03 1,960 $13.25 1,481 $13.38 1,362 $12.93
Granted 230 15.19 208 11.68 178 12.34 201 11.87
Cancelled (76) 13.89 (415) 13.79 (9) 11.17 (78) 13.82
Exercised (111) 12.54 (39) 8.55 (30) 13.50 (4) 10.59
Spin-off related conversion to
CIRCOR options(a) -- -- -- -- (358) 11.17 -- --
Spin-off related modification of
Watts options (b) -- -- -- -- 698 -- -- --
------ ------ ------ ------ ------ ------ ------ ------
Outstanding at end of year 1,757 $13.31 1,714 $13.03 1,960 $13.25 1,481 $13.38
====== ====== ====== ====== ====== ====== ====== ======
Exercisable at end of year 1,171 $13.20 1,103 $13.31 1,244 $13.36 808 $13.26
====== ====== ====== ====== ====== ====== ====== ======
(a) Effective on the date of the CIRCOR spin-off, Watts stock
options held by CIRCOR employees were terminated and replaced
by new CIRCOR stock options.
(b) Immediately following the spin-off, the number of options were
increased and exercise prices were decreased (the
"modification") to preserve the economic value of those
options that existed just prior to the spin-off transaction
for holders of Watts stock options.
The following table summarizes information about options outstanding at
December 31, 2001:
Options Outstanding Options Exercisable
--------------------------------------------------- ----------------------------
Weighted
Average Weighted Weighted
(Options in thousands) Remaining Average Average
Number Contractual Exercise Number Exercise
Range of Exercise Price Outstanding Life (years) Price Exercisable Price
----------------------- ----------- ------------ ----- ----------- -----
$9.20 - $10.59 262 5.2 $10.58 262 $10.58
$10.72 - $12.44 692 6.4 11.88 351 11.70
$14.29 - $16.40 803 5.5 16.07 558 15.38
----- -----
1,757 4.3 $13.31 1,171 $13.20
===== =====
The Company has a Management Stock Purchase Plan that allows for the
granting of Restricted Stock Units (RSUs) to key employees to purchase up
to 1,000,000 shares of Class A common stock at 67% of the fair market
value on
49
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
the date of grant. RSUs vest annually over a three year period from the
date of grant. The difference between the RSU price and fair market value
at the date of award is amortized to compensation expense ratably over the
vesting period. At December 31, 2001, 229,543 RSUs were outstanding.
Dividends declared for RSUs that remain unpaid at December 31, 2001 total
$62,900.
Pro forma information regarding net income and net income per share is
required by SFAS No. 123 for awards granted after June 30, 1995 as if the
Company had accounted for its stock-based awards to employees under the
fair value method of SFAS 123. The weighted average grant date fair value
of options granted are $2.78 and $2.02 at December 31, 2001 and 2000,
respectively, and $3.04 and $2.47 at December 31, 1999 and June 30, 1999,
respectively. The fair value of the Company's stock-based awards to
employees was estimated using a Black-Scholes option pricing model and the
following assumptions:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
Expected life (years) 5.0 5.0 5.0 5.0
Expected stock price volatility 15.0% 15.0% 15.0% 15.0%
Expected dividend yield 1.6% 2.3% 1.4% 1.9%
Risk-free interest rate 4.36% 4.93% 6.77% 5.92%
The Company's pro forma information is as follows:
Twelve Months Twelve Months Six Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------ -------------
(in thousands, except per share information)
Net income - as reported $26,556 $24,001 $15,242 $35,956
Net income - pro forma 25,917 23,313 14,835 35,250
Basic EPS - as reported 1.00 0.91 0.57 1.34
Basic EPS - pro forma 0.98 0.88 0.56 1.32
Diluted EPS - as reported 0.99 0.90 0.56 1.34
Diluted EPS - pro forma 0.97 0.88 0.55 1.32
(14) Employee Benefit Plans
The Company sponsors defined benefit pension plans covering substantially
all of its domestic employees. Benefits are based primarily on years of
service and employees' compensation. The funding policy of the Company for
these plans is to contribute annually the maximum amount that can be
deducted for federal income tax purposes.
Additionally, substantially all of the Company's domestic employees are
eligible to participate in a 401(k) savings plan. Under this plan, the
Company matches a specified percentage of employee contributions, subject
to certain limitations.
The Company's match expense for the years ended December 31, 2001 and
2000, for the six months ended December 31, 1999, and for the twelve
months ended June 30, 1999, were $324,000, $225,000, $200,000 and
$310,000, respectively.
50
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
The components of the pension plans are as follows:
Twelve Months Twelve Months Twelve Months Twelve Months
Ended Ended Ended Ended
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------- ------------- ------------- -------------
(in thousands)
Components of net benefit expense
Service cost - benefits earned $ 1,383 $ 1,314 $ 631 $ 1,485
Interest costs on benefits obligation 2,487 2,371 1,131 2,220
Estimated return on assets (3,003) (2,931) (1,358) (2,686)
------- ------- ------- -------
867 754 404 1,019
Net amortization /deferral (282) (271) 78 215
------- ------- ------- -------
Total benefit expense $ 585 $ 483 $ 482 $ 1,234
======= ======= ======= =======
The funded status of the defined benefit plan and amounts recognized in
the balance sheet are as follows:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
Change in projected benefit obligation
Balance at beginning of period $31,803 $30,088
Service cost 1,382 1,314
Interest cost 2,487 2,371
Actuarial (gain)/loss 1,182 (1,068)
Amendments/curtailments 631 181
Benefits paid (1,447) (1,083)
------- -------
Balance at end of period 36,038 31,803
======= =======
Change in fair value of plan assets
Balance at beginning of period 33,943 33,228
Actual return/(loss) on assets (4,010) 1,376
Employer contributions 238 422
Benefits paid (1,447) (1,083)
------- -------
Fair value of plan assets at end of period 28,724 33,943
======= =======
Plan assets in excess of (less than)
benefit obligation (7,315) 2,141
Unrecognized transition obligation (657) (911)
Unrecognized prior service costs 1,677 1,192
Unrecognized net actuarial gain/(loss) 2,474 (5,895)
------- -------
Net accrued benefit costs $(3,821) $(3,473)
======= =======
Accrued benefit liability (476) (443)
Intangible asset 476 443
The weighted average assumptions used in determining the obligations of
pension benefit plans are shown below:
December 31, December 31, December 31, June 30,
2001 2000 1999 1999
------------ ------------ ------------ --------
Discount rate 7.50% 8.00% 7.75% 7.00%
Expected return on plan assets 9.00% 9.00% 9.00% 9.00%
Rate of compensation increase 4.50% 5.00% 5.00% 5.00%
51
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(15) Contingencies and Environmental Remediation
Contingencies
In April 1998, the Company became aware of a complaint that was filed
under seal in the State of California alleging violations of the
California False Claims Act. The complaint alleges that a former
subsidiary of the Company (James Jones Company) sold products utilized in
municipal water systems that failed to meet contractually specified
standards and falsely certified that such standards had been met. The
complaint further alleges that the municipal entities have suffered tens
of millions of dollars in damages as a result of defective products and
seeks treble damages, reimbursement of legal costs and penalties.
During the quarter ended December 31, 2000, the Company made an offer to
settle all of the claims of the Los Angeles Department of Water and Power
in the James Jones case (Los Angeles Department of Water and Power, ex
rel. Nora Amenta v. James Jones Company, et al). This offer was approved
by the California Superior Court on October 31, 2001, and by the Los
Angeles City Council on December 14, 2001. The Company is currently
pursuing insurance coverage for this case with its carriers. As a result
of these developments and management's current assessment of the case, the
Company recorded a charge of $7,170,000 after tax in the quarter ended
December 31, 2000, which represents the Company's current estimate of the
cost to bring the entire case to resolution. This charge is reported as
loss from discontinued operations. While this charge represents the after
tax impact of the Company's current estimate based on all available
information, litigation is inherently uncertain and the actual liability
to the Company to fully resolve the litigation could be materially higher
than this estimate.
Other lawsuits and proceedings or claims, arising from the ordinary course
of operations, are also pending or threatened against the Company and its
subsidiaries. Based on the facts currently known to it, the Company does
not believe that the ultimate outcome of these other litigation matters
will have a material adverse effect on its financial condition or results
of operation.
Environmental Remediation
The Company has been named as a potentially responsible party with respect
to a limited number of identified contaminated sites. The level of
contamination varies significantly from site to site as do the related
levels of remediation efforts. Environmental liabilities are recorded
based on the most probable cost, if known, or on the estimated minimum
cost of remediation. The Company's accrued estimated environmental
liabilities are based on assumptions, which are subject to a number of
factors and uncertainties. Circumstances which can affect the reliability
and precision of these estimates include identification of additional
sites, environmental regulations, level of cleanup required, technologies
available, number and financial condition of other contributors to
remediation and the time period over which remediation may occur. The
Company recognizes changes in estimates as new remediation requirements
are defined or as new information becomes available. The Company estimates
that its accrued environmental remediation liabilities will likely be paid
over the next five to ten years.
The New York Attorney General ("NYAG"), on behalf of the New York State
Department of Environmental Conservation ("NYSDEC"), has threatened
litigation against the Company and approximately fifteen (15) other
Potentially Responsible Parties ("PRPs") for the cost of closing, and
controlling contamination from, the Babylon Landfill in Babylon, New York.
The Company agreed to enter a tolling agreement with the NYAG to permit
formation of a PRP group as a first step toward establishing a negotiation
process. The NYAG has produced only a record of an interview in which a
landfill employee stated that, before the Company had acquired the Jameco
company, Jameco had delivered waste to the site in its own trucks. The
Company knows of no other information connecting it or any predecessor to
this site.
On September 25, 2001, the United States Environmental Protection Agency
("EPA") issued a complaint and compliance order to the Watts Regulator
Co., a wholly owned subsidiary of the Company, under the Resource
Conservation and Recovery Act ("RCRA") with respect to a sand reclamation
unit and the sand it generated at its Spindale, North Carolina facility.
All requirements of this complaint and compliance order have been resolved
by a Consent Agreement and Final Order filed on January 30, 2002, which
requires payment of a $100,000 civil penalty and submissions of a closure
report for the reclamation unit and a site assessment report for what
became of the reclaimed sand which currently appears to have been used in
a manner acceptable to the EPA.
52
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(16) Financial Instruments
Fair Value
The carrying amounts of cash and cash equivalents, trade receivables and
trade payables approximate fair value because of the short maturity of
these financial instruments.
The fair value of the Company's 8-3/8% notes, due December 2003, is based
on quoted market prices. The fair value of the Company's variable rate
debt approximates its carrying value. The carrying amount and the
estimated fair market value of the Company's long-term debt, including the
current portion, are as follows:
December 31, December 31,
2001 2000
------------ ------------
(in thousands)
Carrying amount $126,905 $106,618
Estimated fair value $131,990 $109,768
Derivative Instruments
The Company uses foreign currency forward exchange contracts to reduce the
impact of currency fluctuations on certain anticipated intercompany
purchase transactions that are expected to occur within the fiscal year
and certain other foreign currency transactions. Related gains and losses
are recognized when the contracts expire, which is generally in the same
period as the underlying foreign currency denominated transaction. These
contracts do not subject the Company to significant market risk from
exchange movement because they offset gains and losses on the related
foreign currency denominated transactions. At December 31, 2001 and 2000,
the Company had no outstanding forward contracts to buy foreign
currencies.
The Company uses commodity futures contracts to fix the price on a certain
portion of certain raw materials used in the manufacturing process. These
contracts highly correlate to the actual purchases of the commodity and
the contract values are reflected in the cost of the commodity as it is
actually purchased. At June 30, 1999, the Company had outstanding
contracts with a notional value of $3.5 million and a fair value of $0.2
million. In December 1999, these contacts were sold and the Company
realized a gain of approximately $0.5 million. This gain was deferred at
December 31, 1999 and was off-set against the costs of January and
February 2000 raw material purchases, hedged in the original transaction.
There were no commodity contracts outstanding at December 31, 2001 and
2000.
At December 31, 2001, the Company had an outstanding interest rate swap
that converted 20 million euro of the borrowings under variable rate euro
Line of Credit to a fixed rate borrowings at 4.3%. This swap agreement
expires in March 2002 and its value and its impact on the Company's
results was not material at December 31, 2001.
In September 2001, the Company entered an interest rate swap for its $75
million notes. The Company swapped the fixed interest rate of 8 3/8% to
floating LIBOR plus 3.74%. This swap qualifies for hedge accounting under
FAS 133. The swap reduced interest expense by $641,000 during the year
ended December 31, 2001. This swap expires in December 2003 and has a fair
value of $1,091,000 at December 31, 2001.
53
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(17) Segment Information
The following table presents certain operating segment information:
North
America Europe Asia Corporate Consolidated
------- ------ ---- --------- ------------
(in thousands)
Twelve Months Ended December 31, 2001
Net sales $415,689 $121,228 $12,023 $ -- $548,940
Operating income 47,346 11,256 465 (8,784) 50,283
Identifiable assets 343,187 153,007 24,276 -- 520,470
Capital expenditures 10,508 3,351 2,188 -- 16,047
Depreciation and amortization 16,109 6,820 746 -- 23,675
Twelve Months Ended December 31, 2000
Net sales $400,384 $103,085 $12,631 $ -- $516,100
Operating income 55,661 13,225 882 (9,781) 59,987
Identifiable assets 332,621 125,213 24,191 -- 482,025
Capital expenditures 11,466 2,558 214 -- 14,238
Depreciation and amortization 14,229 5,185 657 -- 20,071
Six Months Ended December 31, 1999
Net sales $192,975 $ 58,934 $ 9,110 $ -- $261,019
Operating income 27,793 7,252 731 (6,218) 29,558
Identifiable assets 327,431 136,246 23,401 -- 487,078
Capital expenditures 8,764 1,396 133 -- 10,293
Depreciation and amortization 6,373 2,537 315 -- 9,225
Twelve Months Ended June 30, 1999
Net sales $372,220 $ 92,631 $13,018 $ -- $477,869
Operating income 54,094 11,228 1,608 (15,092) 51,838
Identifiable assets 481,648 133,720 22,374 -- 637,742
Capital expenditures 17,987 3,471 74 -- 21,532
Depreciation and amortization 12,851 3,921 684 -- 17,456
Each operating segment is individually managed and has separate financial
results that are reviewed by the Company's chief operating decision-maker.
All intercompany transactions have been eliminated, and intersegment
revenues are not significant.
54
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(18) Quarterly Financial Information (unaudited)
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
(in thousands, except per share information)
Twelve months ended December 31, 2001:
Net sales $135,925 $135,562 $138,009 $139,444
Gross profit 46,664 46,349 46,943 43,576
Net income from continuing operations 7,273 7,035 7,809 4,439
Net income 7,273 7,035 7,809 4,439
Per common share:
Basic
Income from continuing operations 0.27 0.27 0.29 0.17
Net income 0.27 0.27 0.29 0.17
Diluted
Income from continuing operations 0.27 0.26 0.29 0.17
Net income 0.27 0.26 0.29 0.17
Dividends per common share .0600 .0600 .0600 .0600
Twelve months ended December 31, 2000:
Net sales $131,651 $131,184 $125,656 $127,609
Gross profit 47,374 47,229 45,856 44,845
Net income from continuing operations 7,940 8,027 7,670 7,534
Net income 7,940 8,027 7,670 364
Per common share:
Basic
Income from continuing operations .30 .30 .29 .28
Net income .30 .30 .29 .01
Diluted
Income from continuing operations .30 .30 .29 .28
Net income .30 .30 .29 .01
Dividends per common share .0875 .0600 .0600 .0600
Six months ended December 31, 1999:
Net sales $131,375 $129,644
Gross profit 47,940 47,226
Net income from continuing operations 9,042 7,426
Net income 8,297 6,945
Per common share:
Basic
Income from continuing operations .34 .28
Net income .31 .26
Diluted
Income from continuing operations .34 .28
Net income .31 .26
Dividends per common share .0875 .0875
Twelve months ended June 30, 1999:
Net sales $114,007 $115,225 $117,855 $130,782
Gross profit 41,824 41,748 42,771 48,781
Net income from continuing operations 7,893 7,332 6,905 7,324
Net income 12,388 11,256 6,905 5,407
Per common share:
Basic
Income from continuing operations .29 .27 .26 .27
Net income .46 .42 .26 .20
Diluted
Income from continuing operations .29 .27 .26 .27
Net income .46 .42 .26 .20
Dividends per common share .0875 .0875 .0875 .0875
55
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
(19) Subsequent Events
On February 5, 2002 the Company signed an agreement with the Yuhuan County
Cheng Guan Metal Hose Factory and Yuhuan Shida Pipe Product Company, Ltd.
to establish a joint venture. The Company will invest $7.8 million and
receive a 60% share of the joint venture. The joint venture will
manufacture flexible hose and connectors. The Company is awaiting
government approval, which it anticipates it will receive on or about
March 1, 2002.
56