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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
COMMISSION FILE NUMBER: 1-1511
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FEDERAL-MOGUL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MICHIGAN 38-0533580
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER I.D. NO.)
INCORPORATION OR ORGANIZATION)
26555 NORTHWESTERN HIGHWAY
SOUTHFIELD, MICHIGAN 48034
(ADDRESS OF PRINCIPAL EXECUTIVE (ZIP CODE)
OFFICES)
REGISTRANT'S TELEPHONE NUMBER INCLUDING AREA CODE: (248) 354-7700
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
------------------- ---------------------
Common Stock and Rights to Purchase New York Stock Exchange
Preferred Shares
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.
The aggregate market value of the voting stock held by non-affiliates of the
Registrant was approximately $3,140,433,537 as of March 30, 1999 based on the
reported last sale price as published for the New York Stock Exchange--
Composite Transactions for such date.
The Registrant had 70,494,095 shares of common stock outstanding as of March
30, 1999.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive Proxy Statement for its 1999 Annual
Meeting of Shareholders filed with the Securities and Exchange Commission
pursuant to Regulation 14A on March 24, 1999, are incorporated by reference in
Part III (Items 10, 11, 12 and 13) of this Report.
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FORWARD-LOOKING STATEMENTS
Certain statements contained or incorporated in this annual report on Form
10-K, which are not statements of historical fact constitute "Forward-Looking
Statements" within the meaning of the Private Securities Litigation Reform Act
of 1995 (The "Act"). Such statements are made in good faith by Federal-Mogul
pursuant to the "Safe Harbor" provisions of the Act.
Forward-Looking statements include financial projections, estimates and
statements regarding plans, objectives and expectations of Federal-Mogul and
its management, including, without limitation, plans to integrate the
businesses of T&N, Fel-Pro and Cooper Automotive into Federal-Mogul, plans to
address computer software issues related to the approach of the year 2000,
plans to address the issue related to the conversion to the Euro, and the
scope of the effect of T&N asbestos liability.
Forward-Looking statements may involve known and unknown risks,
uncertainties and other factors, which may cause the actual results,
performance or achievements of Federal-Mogul to differ materially from any
future results, performance or achievements expressed or implied by such
Forward-Looking statements. Such risks, uncertainties and other factors
include, without limitation, those relating to the combination of Federal-
Mogul's business with those of T&N, Fel-Pro and Cooper Automotive and the
anticipated synergies and operating efficiencies and restructuring charges in
connection with such acquisitions, conditions in the automotive components
industry, certain global and regional economic conditions and other factors
detailed herein and from time to time in the documents incorporated by
reference herein. Moreover, Federal-Mogul's plans, objectives and intentions
are subject to change based on these and other factors, some of which are
beyond Federal-Mogul's control.
i
PART I
ITEM 1. BUSINESS.
OVERVIEW
Federal-Mogul Corporation founded in 1899 and incorporated in Michigan in
1924 (referred to herein as "Federal-Mogul" or the "Company"), is a global
manufacturer and distributor of a broad range of vehicular components for
automobiles and light trucks, heavy duty trucks, farm and construction
vehicles and industrial products. The Company manufactures engine bearings,
sealing systems, fuel systems, lighting products, pistons, ignition, brake,
friction and chassis products. The Company's principal customers include many
of the world's original equipment ("OE") manufacturers of such vehicles and
industrial products. Federal-Mogul also manufactures and supplies its products
and related parts to the aftermarket.
The Company has pursued a growth strategy focusing on its core competencies
of manufacturing, engineering and distribution by concentrating efforts and
resources on complimentary acquisitions of manufacturing companies that will
enhance its product base and expand its global reach. Federal-Mogul has made a
commitment to expand its manufactured products to offer OE customers systems
and modules. The Company also intends to expand the global reach of its
manufacturing operations to follow the expansion of OE manufacturers into
Latin America, Eastern Europe and the Asian markets. The Company intends to
couple its expansion of OE business in new geographic markets with growth in
global aftermarket sales.
In February 1998, the Company acquired Fel-Pro, Incorporated ("Fel-Pro"), a
privately owned manufacturer headquartered in Skokie, Illinois for $722
million. The transaction involved $225 million in equity and $497 million in
cash. Fel-Pro is the leading gasket manufacturer for the North American
aftermarket and OE heavy-duty market. Fel-Pro's primary product lines consist
of gaskets, heavy-duty diesel engine products, diesel products, high
performance gaskets and other equipment and chemical products. Fel-Pro's
products including cylinder head and molded rubber gaskets, and marine and
performance gaskets, are marketed under various brand names including
Permatorque Blue (R) , Fel-Coprene (R) , Print-O-Seal (R) and PermaDry
Plus (R). In 1997, Fel-Pro had sales of approximately $500 million. Fel-Pro
had more than 2,700 employees in 16 locations.
In March 1998, Federal-Mogul acquired T&N plc ("T&N"), a supplier of engine
and transmission products for a total purchase price of approximately $2.4
billion. T&N, based in Manchester, England, manufactures and supplies high
technology engineered automotive components and industrial materials including
pistons, friction products, bearings, composites, camshafts and sealing
products servicing OE customers and the aftermarket. In 1997, T&N had sales of
approximately $2.9 billion with about 80% of such sales relating to the global
automotive industry. T&N operated in approximately 200 manufacturing locations
in 24 countries, employing approximately 28,000 people worldwide.
In October 1998, the Company acquired the automotive division of Cooper
Industries, Inc. ("Cooper Automotive"), headquartered in St. Louis, Missouri
for an initial purchase price of approximately $1.9 billion. Cooper Automotive
is a leading supplier of aftermarket parts for repair and maintenance and
serves OE automobile manufacturers worldwide. Cooper Automotive manufactures
and distributes brakes and friction products, chassis parts, ignition and
wiper blades under well-known brand names including Champion (R), Moog (R),
Abex (R) , Wagner (R) and Zanxx (R) . In 1997, Cooper Automotive had sales of
approximately $1.9 billion and employed approximately 14,500 employees in 63
locations.
The above acquisitions are major steps toward Federal-Mogul's strategic
goals of focusing on its core competencies of manufacturing, engineering and
distribution and expanding the Company's product base, geographic reach and
market penetration.
Federal-Mogul maintains technical centers in Europe and North America to
develop and provide advanced materials, products and manufacturing processes
for all of its manufacturing units, including facilities acquired with T&N and
Fel-Pro.
1
The following table sets forth the Company's net sales by operating segment
and geographic region as a percentage of total net sales.
YEAR ENDED DECEMBER 31,
---------------------------
1998 1997 1996
------- -------- --------
Net Sales by Operating Segment:
Powertrain Systems............................... 42% 43% 36%
Sealing Systems.................................. 20% 19% 15%
General Products................................. 37% 32% 33%
Divested Activities.............................. 1% 6% 16%
------- -------- --------
100% 100% 100%
======= ======== ========
YEAR ENDED DECEMBER 31,
---------------------------
1998 1997 1996
------- -------- --------
Net Sales by Geographic Region:
United States.................................... 52% 62% 59%
Mexico........................................... 3% 5% 3%
Canada........................................... 2% 3% 2%
------- -------- --------
Total North America............................ 57% 70% 64%
------- -------- --------
United Kingdom................................... 12% 1% 1%
Germany.......................................... 11% 7% 9%
France........................................... 7% 2% 1%
Italy............................................ 4% 4% 4%
Other Europe..................................... 4% 6% 6%
------- -------- --------
Total Europe................................... 38% 20% 21%
------- -------- --------
Rest of World.................................... 5% 10% 15%
------- -------- --------
100% 100% 100%
======= ======== ========
The Company is directing its efforts and resources to expand its core
competencies in manufacturing and distribution by growing the manufacturing
base globally while capitalizing on the aftermarket distribution network. Some
of the growth in connection with the new strategy is expected to come through
acquisitions, which the Company will be exploring on an ongoing basis.
OPERATING DIVISIONS
The Company's integrated operations are conducted under three operating
units corresponding to major product areas: Powertrain Systems, Sealing
Systems and General Products. The operating units and the products associated
with each are described as follows:
POWERTRAIN SYSTEMS products are used primarily in automotive, light truck,
heavy duty, industrial, marine, agricultural, power generation and small air-
cooled engine applications. These components consist primarily of engine
bearings, bushings, washers, large bearings, pistons, piston pins, rings,
liners and ignition products. Powertrain Systems sales accounted for 42% of
the Company's total sales for 1998. Powertrain Systems products are marketed
under the brand names Federal-Mogul(R), Glyco(R), AE Goetze(R), Sterling(R),
Champion(R), PowerPath (R), and Belden (R).
SEALING SYSTEMS products are used in automotive, light truck, heavy-duty
diesel, agricultural, off-highway, marine, railroad, high performance and
industrial applications. These components consist of dynamic seals, gaskets
and wiper blades. Sealing Systems sales accounted for 20% of the Company's
total sales for 1998. Sealing Systems products are marketed under the brand
names National(R), Mather(R), STS(R), Redi-Seal(R), Redi-Sleeve(R),
Unipiston(R), Engine Seal(R), Fel-Pro(R), Payen(R), McCord (R) and Anco (R).
2
GENERAL PRODUCTS includes camshafts, brake and friction products, sintered
products, systems protection products, fuel systems components, lighting
products, chassis products, and heat transfer products. General Products'
sales accounted for 37% of the Company's total sales in 1998. General Products
are marketed under the brand names Weyburn-Bartel(R), Weyburn-Lydmet(R),
Brico(R), Sintertech(R), Bentley-Harris(R), Silverton(R), FHE(R), Connoisseur
Auto Air Conditioning(R), Carter(R), Signal-Stat(R), Abex(R), Blazer(R),
Zanxx(R), Moog(R), Precision(R) and Wagner(R).
CUSTOMERS
Federal-Mogul markets its products to many of the world's major OE
manufacturers. Federal-Mogul also manufactures and supplies its products and
related parts to aftermarket customers for each category of equipment
described above. Among Federal-Mogul's largest customers are Auto Value, BMW,
CarQuest, Caterpillar, Cummins, DaimlerChrysler, Fiat, Ford, General Motors,
LucasVarity, NAPA, Peugeot, PSA, Renault and Volkswagen/Audi.
ORIGINAL EQUIPMENT
The Company supplies OE customers with a wide variety of precision
engineered parts including engine bearings, oil seals, fuel system components,
lighting products, and pistons. The Company manufactures all of the products
that it sells to OE customers.
The Company's OE customers consist primarily of automotive and heavy-duty
vehicle customers as well as farm and industrial equipment manufacturers,
agricultural, off-highway, marine, railroad, high performance and industrial
applications. The Company has well established relationships with
substantially all major North American and European automotive OE
manufacturers, some pre-existing and others resulting from the acquisitions of
T&N, Cooper Automotive and Fel-Pro. In 1998, approximately 14% of the
Company's net sales were to the three major automotive manufacturers in the
United States, with General Motors Corporation accounting for approximately 6%
of the Company's net sales, Ford Motor Company accounting for approximately 6%
of the Company's net sales and DaimlerChrysler accounting for approximately 2%
of the Company's net sales. In addition, the Company sells OE products to most
of the major automotive manufacturers headquartered outside the United States.
Management believes there are additional system opportunities with OE
manufacturers in the Asia-Pacific and Latin American regions. In addition,
management believes that the acquisitions of T&N, Cooper Automotive and Fel-
Pro have positioned Federal-Mogul to take advantage of developing OE customer
demand for single supplier systems and modules in the future, particularly in
light of Federal-Mogul's global reach and capabilities.
AFTERMARKET
Federal-Mogul's domestic customers include independent warehouse
distributors who redistribute products to local parts suppliers called
jobbers, industrial bearing distributors, distributors of heavy duty vehicular
parts, engine rebuilders and retail parts stores. The breadth of Federal-
Mogul's product lines together with the strength of its brand names and sales
force, are central to the Company's aftermarket operations. Internationally,
the Company sells aftermarket products to jobbers, local retail parts stores
and independent warehouse distributors.
RESEARCH AND DEVELOPMENT
The Company's expertise in engineering and research and development ensures
that the latest technologies, processes and materials are considered in
solving problems for customers and bringing new, innovative product to market.
Federal-Mogul provides its customers with real-time engineering capabilities
and design development in their home countries. Technological activities are
conducted at facilities Federal-Mogul acquired from T&N including, in
particular, its central technical center at Cawston, England, its facility at
Burscheid, Germany and its technical center at Plymouth, Michigan and at Fel-
Pro's facilities in Skokie, Illinois as well as at Federal-Mogul's major pre-
existing technological centers, in Ann Arbor, Michigan, Logansport, Indiana,
Malden, Missouri, and Wiesbaden, Germany. Each of the Company's operating
units is engaged in various engineering, research and development efforts
working side by side with customers to develop custom solutions unique to
their needs.
3
Total expenditures for research and development activities were
approximately $85.0 million in 1998, $13.1 million in 1997 and $14.4 million
in 1996. Expenditures for research and development have increased due to the
acquisitions of T&N, Cooper Automotive and Fel-Pro.
RECENT ACQUISITIONS AND DIVESTITURES
Acquisitions
In February 1998, the Company acquired Fel-Pro, Incorporated and certain
affiliated entities, which constitute the operating businesses of the Fel-Pro
group of companies ("Fel-Pro"), a privately owned automotive parts
manufacturer for total consideration of approximately $722 million. Fel-Pro is
a premier gasket manufacturer for the North American aftermarket and OE heavy-
duty market.
In March 1998, the Company acquired T&N plc ("T&N"), a U.K.-based supplier
of engine and transmission products for a total purchase price of
approximately $2.4 billion. T&N manufactures and supplies high technology
engineered automotive components and industrial materials including pistons,
friction products, bearings, systems protection, camshafts and sealing
products.
In October 1998, the Company acquired Cooper Automotive for an initial
purchase price of approximately $1.9 billion. Cooper Automotive is a leading
supplier of aftermarket parts for repair and maintenance and serves OE
automotive manufacturers worldwide. Cooper Automotive is a premier provider of
leading brand name automotive products to the aftermarket and OE market.
Management believes that Federal-Mogul's acquisitions of Fel-Pro, T&N and
Cooper Automotive will:
.establish the Company as a highly competitive Tier I worldwide automotive
supplier ;
.expand the Company's manufactured product portfolio to offer systems and
modules;
.enhance the Company's position as a global supplier of engine and
transmission parts;
. reinforce the Company's ability to provide a high quality service to
both its original equipment and aftermarket customers;
.extend the Company's international presence and accelerate its worldwide
aftermarket growth; and
.broaden the Company's brake/friction and ignition system capabilities.
In December 1998, the Company acquired Glockler Dichtsysteme Gunter Hemmrich
GmbH, a German manufacturer of rubber sealing components and acoustic
decoupling for valve covers, intake manifolds and oil pans with annual sales
of approximately $40 million.
In January 1999, the Company completed the acquisition of Tri-Way Machine
Limited, a privately owned manufacturer of machines and machining systems for
the world's metal cutting industry headquartered in Windsor, Ontario, Canada
with annual sales of approximately $35 million.
In January 1999, the Company announced an agreement to acquire the piston
division of Alcan Deutschland GmbH in Germany, a subsidiary of Alcan Aluminum
Ltd. in Canada. Alcan's piston division manufactures high quality pistons for
passenger cars and commercial vehicles under the highly regarded Nural (R)
brand name. The piston division employs approximately 1,100 people with annual
sales of approximately $150 million. The transaction is subject to regulatory
approval and is expected to close in the second quarter of 1999.
In January 1999, the Company completed its acquisition of two camshaft-
machining plants from Crane Technologies Group, Inc. to expand the capacity of
its automotive products lines. The two plants located in Orland, Indiana and
Jackson, Michigan employ approximately 230 people and have annual sales of
approximately $36 million.
In addition, the Company increased it's ownership to 100% in it's Summerton,
South Carolina gasket manufacturing plant and also increased its ownership in
KFM Bearing Company Ltd., a Korean joint venture with Kukje Special Metal Co.,
from 30% to 87%. In addition, the Company acquired Bimet, a Polish
Manufacturer of engine bearings, bushings and related products. The Company
also increased its ownership from 50.6% to 100% in T&N Holdings Limited
located in South Africa.
Divestitures and Closings
In February 1998, the Company sold its minority interest in Dichtungstechnik
G. Bruss GmbH & Co. KG, a German manufacturer of seals and gaskets. As part of
this transaction, the Company increased its ownership in a related U. S.
partnership to 100%.
4
In July 1998, the Company sold the Fel-Pro Chemical business to Loctite
Corporation, a part of Henkel KgaA, a global specialist in applied chemistry
headquartered in Dusseldorf, Germany for $57 million.
In December 1998, Federal-Mogul sold T&N's thin wall and dry bearings
operations and certain other engine hard part assets to Dana Corporation for a
purchase price of $430 million. Furthermore, the Company also expects to
realize additional net proceeds of approximately $13 million for the
collection of receivables of the businesses sold.
Net proceeds to the Company from the 1998 divestitures were subsequently
used to pay down debt.
OTHER ACTIVITIES
In January 1999, the Company issued $1.0 billion of bonds ("Notes"),
$400,000,000 of which were 7 3/8% Notes due 2006, and $600,000,000 of which
were 7 1/2% Notes due 2009. The Notes, exempt from registration in reliance on
Rule 144A under the Securities Act, were initially sold to a syndicate of
underwriters led by Merrill Lynch & Co. and Chase Securities Inc. each of whom
agreed to offer or sell such Notes only to qualified institutional buyers in
reliance on to Rule 144A under the Securities Act; to non U.S. persons in
reliance on Regulation S of the Securities Act; and to a limited number of
institutional accredited investors pursuant to Regulation D of the Securities
Act. Net proceeds to the Company, after paying underwriters' discounts of 1.5%
on the 7 3/8% Notes and 1.65% on the 7 1/2% Notes, were used to refinance bank
indebtedness. The Company will file, within 180 days of the date of issuance
of the Notes, a registration statement under the Securities Act to exchange
the Notes for new notes of the Company with substantially identical terms, and
cause the exchange offer to be competed with 270 days after the date of the
original issuance of the Notes.
SUPPLIERS
Federal-Mogul sells its manufactured parts as well as parts manufactured by
other manufacturers to the aftermarket. The products not manufactured by
Federal-Mogul are supplied by numerous companies. In 1998, no outside supplier
of the Company provided products that accounted for more than 5% of the
Company's net sales.
EMPLOYEE RELATIONS
On December 31, 1998, the Company had approximately 54,350 full-time
employees, of whom approximately 25,500 were employed in the United States.
Approximately 36% of the Company's United States employees and approximately
55% of the Company's foreign employees are represented by various unions. Each
of the Company's unionized manufacturing facilities has its own contract with
its own expiration date, and as a result, no contract expiration date affects
more than one facility. The Company believes its labor relations to be good.
ENVIRONMENTAL REGULATIONS
The Company's operations, in common with those of industry generally, are
subject to numerous existing and proposed laws and governmental regulations
designed to protect the environment, particularly regarding plant wastes and
emissions and solid waste disposal. Capital expenditures for property, plant
and equipment for environment control activities did not have a material
impact on the Company's financial position or results of operations in 1998
and are not expected to have a material impact on the Company's financial
position or results of operations in 1999 or 2000.
RAW MATERIALS
The Company does not normally experience supply shortages of raw materials.
Certain of the Company's relationships with its long-term suppliers are
contractual. No outside supplier of the Company provides more than 5% of
products purchased.
5
Backlog
The majority of the Company's products are not on a backlog status. They are
produced from readily available materials and have a relatively short
manufacturing cycle. For products supplied by outside suppliers, the Company
generally purchases products from more than one source. The Company expects to
be capable of handling the anticipated 1999 sales volumes.
Patents and Licenses
The Company is committed to protecting its technology investments and market
share through an active and growing international patent portfolio. The
international patent portfolio is composed of a large number of foreign (non
U.S.) and U.S. patents and pending patent applications which relate to a wide
variety of products and processes. In the aggregate, the Company's
international patent portfolio is of material importance to its business;
however, the Company does not consider any international patent or group of
international patents relating to a particular product or process to be of
material importance when judged from the standpoint of the business as a
whole.
Competition
The global vehicular parts business is highly competitive. The Company
competes with many of its customers that produce their own components as well
as with independent manufacturers and distributors of component parts in the
United States and abroad. In general, competition for such sales is based on
price, product quality, customer service and the breadth of products offered
by a given supplier. The Company has attempted to meet these competitive
challenges through more efficiently integrating its manufacturing and
distribution operations, expanding its product coverage within its core
businesses, and expanding its worldwide distribution network.
Information About International and Domestic Operations and Export Sales
The Company has both manufacturing and distribution facilities for its
products, principally in the United States, Europe, Latin America, Mexico and
Canada. International operations are subject to certain risks inherent in
carrying on business abroad, including expropriation and nationalization,
currency exchange rate fluctuations and currency controls, and export and
import restrictions. The likelihood of such occurrences and their potential
effect on the Company vary from country to country and are unpredictable.
Detailed results of operations and assets by geographic area for each of the
years ended December 31, 1998, 1997 and 1996 appear in Note 19 of Notes to
Consolidated Financial Statements contained in Item 8 of this Report.
Executive Officers of the Registrant
The executive officers of the Company are its elected officers, other than
its assistant officers. Set forth below are the names, ages, positions and
offices held, and a brief account of the business experience during the past 5
years of each executive officer.
Richard A. Snell, (57). Chairman of the Board and Chief Executive Officer of
Federal-Mogul Corporation. Mr. Snell has served as Chairman of the Board,
Chief Executive Officer and a director of the Corporation since November 1996.
He also served as President from November 1996 to February 1998. Mr. Snell was
previously employed by Tenneco, Inc., from November 1987 to November 1996,
most recently having served as President and Chief Executive Officer of
Tenneco Automotive from September 1993, until he was employed by the Company.
Mr. Snell is also a member of the Board of Directors of Schneider National,
Inc.
Alan R. Begg (44). Vice President--Technology since February 1998. Prior
thereto, Mr. Begg served as Managing Director of T&N Technology and was a
member of the T&N Management Committee from 1993 to February 1998. He first
became an executive officer in 1998.
6
DAVID A. BOZYNSKI (44). Vice President and Treasurer since May 1996. Prior
thereto, Mr. Bozynski was employed by Unisys Corporation as Vice President and
Assistant Treasurer from October 1994 to April 1996; and Vice President,
Finance--Lines of Business from April 1993 to September 1993. He first became
an executive officer in 1996.
CHARLES B. GRANT (54). Vice President--Corporate Development since December
1992; and Vice President and Controller from May 1988 to December 1992. He
first became an executive officer in 1985.
ALAN C. JOHNSON (50). Executive Vice President--Powertrain Systems since
February 1998. Mr. Johnson has been with Federal-Mogul since 1970, serving as
Executive Vice President responsible for Federal-Mogul's worldwide
manufacturing and international aftermarket operations from January 1997 to
February 1998; President--Operations from January 1995 to January 1997; and
Vice President and President--Powertrain Operations--Americas from 1993 to
January 1995. He first became an executive officer in 1993.
RICHARD P. RANDAZZO (55). Senior Vice President--Human Resources since
February 1999 and Vice President-Human Resources since January 1997. Prior
thereto, Mr. Randazzo was employed by Nextel Communications, Inc. as Senior
Vice President--Human Resources from December 1994 to December 1996; and
Senior Vice President, Human Resources--Americas Region of Asea Brown Boveri,
Inc., from December 1990 to December 1994. He first became an executive
officer in 1997.
THOMAS W. RYAN (52). Executive Vice President since March 1998 and Chief
Financial Officer since February 1997. Prior thereto, Mr. Ryan was employed by
Tenneco Automotive, a division of Tenneco, Inc. as Chief Financial Officer
from January 1995 to February 1997; and Vice President, Treasurer and
Controller of A. O. Smith Corporation from March 1985 to January 1995. He
first became an Federal-Mogul executive officer in 1997.
WILHELM A. SCHMELZER (58). Executive Vice President--Sealing Systems since
February 1998. Since joining Federal- Mogul in 1969, Mr. Schmelzer has served
as Vice President and Group Executive--Engine and Transmission Products from
April 1995 to February 1998; and Vice President and Group Executive--Engine
and Transmission Products--Europe from January 1992 to April 1995. He first
became an executive officer in 1992.
KENNETH P. SLABY (47). Vice President and Controller since April 1996. Prior
thereto, Mr. Slaby held various positions at General Electric Company for 23
years, including Manager--Financial Operations for the global silicones
business from November 1990 to April 1996. He first became an executive
officer in 1996.
FRANK TOMES (56). Executive Vice President--General Products since February
1998. Prior thereto, Mr. Tomes served as Chief Executive--Composites and
Camshafts Group of T&N plc from January 1996 to February 1998; and Chief
Executive of T&N's Industrial Products and Materials Group. He first became an
executive officer in 1998.
GORDON A. ULSH (53). President and Chief Operating Officer since February
1999. Prior thereto, Mr. Ulsh served as Executive Vice President--Worldwide
Aftermarket since October 1998. He previously served in a number of positions
at Cooper Automotive including President of the Cooper Automotive Division;
Executive Vice President of Operations for the automotive products segment of
Cooper Industries; Vice President of Operations, North America for Cooper
Automotive; and Vice President and General Manager of Wagner Lighting. He
first became an executive officer in 1998.
JAMES J. ZAMOYSKI (51). Senior Vice President, General Counsel and Secretary
since February 1999; Vice President--Strategic Planning from June 1997 to
February 1999; Vice President and General Manager, April 1995 to June 1997;
Worldwide Aftermarket Operation--International, November 1993 to April 1996.
He first became an executive officer in 1980.
7
Generally, officers of the Company are elected at the time of the Annual
Meeting of Shareholders, but the Board of Directors of the Company may also
appoint officers at various other times during the year. Each officer holds
office until his or her successor is elected or appointed or until his or her
resignation or removal.
ITEM 2. PROPERTIES.
The Company conducts its business from its World Headquarters complex in
Southfield, Michigan, which is leased pursuant to a sale/leaseback
arrangement. The principal manufacturing and other materially important
physical properties of the Company at December 31, 1998, are listed below. All
properties are owned in fee except where otherwise noted.
At December 31, 1998, the Company had 474 manufacturing, distribution and
sales and administration office facilities worldwide. Approximately 50% of the
facilities are leased, and the majority of which are distribution, sales and
administration offices. The Company owns the remainder of the facilities.
REST
NORTH OF
TYPE OF FACILITY AMERICA EUROPE WORLD TOTAL
---------------- ------- ------ ----- -----
Manufacturing........................................ 90 71 66 227
Distribution......................................... 105 43 20 168
Sales and Administration Offices..................... 29 28 22 79
--- --- --- ---
Total................................................ 224 142 108 474
=== === === ===
The facilities range in size from approximately 1,700 square feet to
1,143,000 square feet. Management believes substantially all of the Company's
property and equipment is in good condition and that it has sufficient
capacity to meet its current and expected manufacturing and distribution
needs. No facility is materially underutilized, except for those being sold or
closed in the normal course of business.
ITEM 3. LEGAL PROCEEDINGS
In the United States, the Company's United Kingdom subsidiary, T&N Ltd., and
two of T&N's United States subsidiaries (the "T&N Companies") are among many
defendants named in numerous court actions alleging personal injury resulting
from exposure to asbestos or asbestos-containing products. T&N is also subject
to asbestos-disease litigation, to a lesser extent, in the United Kingdom and
to property damage litigation in the United States based upon asbestos
products allegedly installed in buildings. Because of the slow onset of
asbestos-related diseases, management anticipates that similar claims will be
made in the future. It is not known how many such claims may be made nor the
expenditure which may arise therefrom. As of December 31, 1998, the Company
has provided approximately $1.3 billion as its best estimate for future costs
related to resolving asbestos claims. The Company estimates claims will be
filed and paid in excess of the next 20 years. This estimate is based in part
on recent and historical claims experience, medical information and the
current legal environment.
As of December 31, 1998, the T&N Companies had approximately 105,000 claims
pending. During 1998, approximately 85,000 new claims were filed and 54,000
claims were settled, dismissed or otherwise resolved. In addition to the
pending cases above, the T&N Companies have approximately 41,000 claims that
have been settled but will be paid over time. There are a number of factors
that could affect the settlement costs into the future, including but not
limited to: changes in legal environment; possible insolvency of co-
defendants; and the establishment of an acceptable administrative (non-
litigation) claims resolution mechanism.
As of December 31, 1998, T&N is one of a large number of defendants named in
three pending property damage cases pending in two jurisdictions. Provision
has been made in the asbestos reserve for anticipated expenditures in relation
to such cases.
8
The $1.3 billion total provision held for the T&N Companies is comprised of
an estimate for known claims (pending and settled but not paid) and possible
future claims (IBNR). As of December 31, 1998, the $1.3 billion total
provision is comprised of approximately $460 million related to known claims
and approximately $840 million related to IBNR claims.
In arriving at the IBNR provision, assumptions have been made regarding the
total number of claims which it is anticipated may be received in the future,
the typical cost of settlement (which is sensitive to the industry in which
the plaintiff claims exposure, the alleged disease type and the jurisdiction
in which the action is being brought), the rate of receipt of claims and the
timing of settlement and, in the United Kingdom, the level of subrogation
claims brought by insurance companies.
The T&N Companies have appointed the Center for Claims Resolution (CCR) as
their exclusive representative in relation to all asbestos-related personal
injury claims made against the T&N Companies in the United States. The CCR
provides to its 20 member companies a litigation defense, claims-handling and
administration service in respect to United States asbestos-related disease
claims. Pursuant to the CCR Producer Agreement, T&N is entitled to appoint a
representative as one of the five voting directors on the CCR's Board of
Directors. Members of the CCR contribute towards indemnity payments in each
claim in which the member is named. Contributions to such indemnity payments
are calculated on a case-by-case basis according to sharing agreements among
the CCR's members.
In 1996, T&N purchased a (Pounds)500 million (approximately $845 million at
the insurance agreement exchange rate of $1.69/(Pounds)) layer of insurance
which will be triggered should the aggregate amount of claims filed after
June 30, 1996, where the exposure occurred prior to that date, exceed
(Pounds)690 million (approximately $1,166 million at the $1.69/(Pounds)
exchange rate). The Company's reserve for claims filed after June 30, 1996
approximates the trigger point of the insurance.
The Company has reviewed the financial viability and legal obligations of
the three reinsurance companies involved and has concluded at this time that
there is little risk of the reinsurers not being able to meet their obligation
to pay, should the claims filed after June 30, 1996 exceed the (Pounds)690
million trigger point.
While management believes that reserves are appropriate for anticipated
losses arising from T&N's asbestos-related claims, given the nature and
complexity of the factors affecting the estimated liability, the actual
liability may differ. No absolute assurances can be given that T&N will not be
subject to material additional liabilities and significant additional
litigation relating to asbestos. In the possible, but unlikely, event that
such liabilities exceed the reserves recorded by the Company and the
additional (Pounds)500 million of insurance coverage, the Company's results of
operations, business, liquidity and financial condition could be materially
adversely affected. The T&N Companies reserves will be reevaluated
periodically as additional information becomes available.
The Company also is one of a large number of defendants in a number of
lawsuits brought by claimants alleging injury due to exposure to asbestos.
Fel-Pro has been named as a defendant in a number of product liability cases
involving asbestos, primarily involving gasket or packing products sold to
ship owners. In addition, subsidiaries of Cooper Automotive have been named as
defendants in a number of product liability cases involving asbestos,
primarily involving friction products. The Company is defending all such
claims vigorously and believes that it, Fel-Pro and the Cooper Automotive
subsidiaries have substantial defenses to liability and adequate insurance
coverage for defense and indemnity. While the outcome of litigation cannot be
predicted with certainty, management believes that asbestos claims pending
against the Company, Fel-Pro and the Cooper Automotive subsidiaries as of
December 31, 1998, will not have a material effect on the Company's financial
position. At December 31, 1998, approximately $20 million in related reserves
have been provided in respect of the possible uninsured portion of the
expenditures on asbestos claims pending against the Company, Fel-Pro and the
Cooper Automotive subsidiaries.
For information respecting lawsuits concerning environmental matters to
which the Company is a party, see "Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operations--Litigation and
Environmental Matters".
9
There were no material legal proceedings that were terminated during the
fourth quarter of 1998.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS.
No matter was submitted to a vote of security holders through the
solicitation of proxies or otherwise during the fourth quarter of 1998.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
The Company's common stock is listed on the New York Stock Exchange under
the trading symbol FMO. The approximate number of shareholders of record of
the Company's common stock at March 30, 1999 was 20,527 . The following table
sets forth the high and low sales prices of the Company's common stock for
each calendar quarter as reported on the New York Stock Exchange-Composite
Tape for the last two years:
1998 1997
------------- -------------
HIGH LOW HIGH LOW
QUARTER ------ ------ ------ ------
First............................................... $54.37 $39.00 $26.75 $21.63
Second.............................................. $69.25 $52.62 $35.38 $24.50
Third............................................... $72.00 $46.62 $39.94 $32.75
Fourth.............................................. $63.00 $33.00 $47.63 $36.75
The closing price of the Company's common stock as reported on the New York
Stock Exchange-Composite Tape on March 30, 1999 was $45.125.
Quarterly dividends of $.12 per common share were declared for the first
quarter of 1998 and during 1997 and 1996. In May 1998, the Company's Board of
Directors reduced the quarterly dividend of $.12 per common share and
subsequently declared cash dividends payable in the second, third and fourth
quarters of 1998 in the amount of $.0025 per share of common stock. The
Company, consistent with its growth strategy, intends to retain future
earnings in the business and therefore anticipates paying dividends at a
comparable level in the foreseeable future.
10
ITEM 6. SELECTED FINANCIAL DATA
The following table presents information from the Company's consolidated
financial statements for the five years ended December 31, 1998. This
information should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations," and the "Financial
Statements and Supplementary Data."
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(MILLIONS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
CONSOLIDATED STATEMENT
OF OPERATIONS DATA
Net sales............... $ 4,468.7 $ 1,806.6 $ 2,032.7 $ 1,999.8 $ 1,889.5
Costs and expenses...... (4,266.9)(1) (1,703.7)(2) (2,258.0)(3) (2,000.7)(4) (1,795.5)
Other expense........... (16.3) (3.4) (3.4) (2.4) (2.5)
Income tax (expense)
benefit................ (93.6) (27.5) 22.4 (2.5) (31.8)
--------- --------- --------- --------- ---------
Net earnings (loss)
before extraordinary
items.................. 91.9 72.0 (206.3) (5.8) 59.7
Extraordinary items --
loss on early
retirement of debt, net
of applicable income
tax benefit............ (38.2) (2.6) -- -- --
--------- --------- --------- --------- ---------
Net earnings (loss)..... $ 53.7 $ 69.4 $ (206.3) $ (5.8) $ 59.7
========= ========= ========= ========= =========
COMMON SHARE SUMMARY
(DILUTED)
Average shares and
equivalents outstanding
(in thousands)......... 53,748 41,854 34,659 34,642 41,800
Earnings (loss) per
share:
Before extraordinary
items................. $ 1.67 $ 1.67 $ (6.20) $ (.42) $ 1.38
Extraordinary items --
loss on early
retirement of debt,
net of applicable
income tax benefit.... (.71) (.06) -- -- --
--------- --------- --------- --------- ---------
Net earnings (loss) per
share.................. $ .96 $ 1.61 $ (6.20) $ (.42) $ 1.38
========= ========= ========= ========= =========
Dividends declared per
share.................. $ .1275 $ .48 $ .48 $ .48 $ .48
========= ========= ========= ========= =========
CONSOLIDATED BALANCE
SHEET DATA
Total assets............ $ 9,940.1 $ 1,802.1 $ 1,455.2 $ 1,701.1 $ 1,481.7
Short-term debt(5)...... 211.0 28.6 280.1 111.9 74.0
Long-term debt.......... 3,130.7 273.1 209.6 481.5 319.4
Company-obligated
mandatorily redeemable
preferred securities of
subsidiary trust
holding
solely convertible
subordinated debentures
of the Company......... 575.0 575.0 -- -- --
Shareholders' equity.... 1,986.2 369.3 318.5 550.3 588.5
OTHER FINANCIAL
INFORMATION
Net cash provided from
(used by) operating
activities............. $ 325.5 $ 215.7 $ 149.0 $ (34.7) $ 24.3
Expenditures for
property, plant,
equipment and other
long-term assets....... 228.5 49.7 54.2 78.5 74.9
Depreciation and
amortization expense... 228.0 51.5 61.9 59.2 54.6
- - -----------------
(1) Includes a $7.3 million net restructuring charge, a $19.0 million net
charge for adjustment of assets held for sale and other long-lived assets
to fair value, an $18.6 million charge for purchased in-process research
and development, a $22.4 million charge for integration costs, and a $13.3
million net gain related to the British pound currency option and forward
contract.
(2) Includes a $1.1 million net restructuring credit, a $2.4 million charge
for adjustment of assets held for sale and other long-lived assets to fair
value, a $1.6 million credit for reengineering and other related charges,
and a $10.5 million charge related to the British pound currency option
and forward contract.
(3) Includes a $57.6 million restructuring charge, a $151.3 million charge for
adjustment of assets held for sale and other long-lived assets to fair
value, and $11.4 million relating to reengineering and other related
charges.
(4) Includes a $26.9 million restructuring charge, a $51.8 million charge for
adjustment of assets held for sale and other long-lived assets to fair
value, and $13.9 million relating to reengineering and other related
charges.
(5)Includes current maturities of long-term debt (see Note 6 to the
consolidated financial statements).
11
MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
Federal-Mogul is a leading global manufacturer and distributor of a broad
range of vehicular components for automobiles and light trucks, heavy-duty
trucks, farm and construction vehicles and industrial products. The Company's
principal customers include many of the world's major original equipment (OE)
manufacturers of such vehicles and industrial products. The Company also
manufactures and supplies its products and related parts to the aftermarket.
Acquisitions
In 1998, the Company acquired T&N plc (T&N), the automotive division of
Cooper Industries, Inc. (Cooper Automotive), Fel-Pro, Incorporated and certain
affiliated entities, which constitute the operating businesses of the Fel-Pro
group of companies (Fel-Pro), and various other acquisitions. For certain
acquisitions, principally Cooper Automotive, the purchase price allocation may
be adjusted as further information becomes available. Goodwill recognized in
connection with these transactions, which were accounted for as purchases, is
being amortized on a straight-line basis over 40 years.
T&N
In March 1998, the Company acquired T&N, a manufacturer based in Manchester,
England, for consideration (including direct costs of the acquisition) of
approximately $2.4 billion. The Company also assumed cash of approximately
$185 million and debt of approximately $745 million.
T&N manufactures and supplies high technology engineered automotive
components and industrial materials. In 1997, T&N had sales of approximately
(Pounds)1.8 billion ($2.9 billion at the 1997 average exchange rate) with
about 80% of such sales relating to the global automotive industry. At the
time of its acquisition, T&N's major product lines consisted of piston
products, bearings, friction products, composites and camshafts (incorporating
sintered products) and sealing products servicing OE customers and the
aftermarket. T&N operated in approximately 200 locations in 24 countries,
employed over 28,000 people worldwide and served customers globally. T&N's
operations included technical centers in the United Kingdom, Germany and North
America.
Cooper Automotive
In October 1998, the Company acquired Cooper Automotive, headquartered in
St. Louis, Missouri, for initial consideration of approximately $1.9 billion.
Cooper Automotive is a leading supplier of aftermarket parts for repair and
maintenance and serves OE automobile manufacturers worldwide. In 1997, Cooper
Automotive had sales of approximately $1.9 billion. At the time of the
acquisition, Cooper Automotive's principal products consisted of brakes and
friction, lighting, chassis parts, ignition and wiper blades. Cooper
Automotive employed approximately 14,500 employees in 63 locations.
Fel-Pro
In February 1998, the Company acquired Fel-Pro, a privately owned gasket
manufacturer headquartered in Skokie, Illinois, for total consideration of
approximately $722 million, which included 1,030,325.6 shares of Federal-Mogul
Series E Stock with an imputed value of $225 million and approximately $497
million in cash.
Fel-Pro is a leading gasket manufacturer for the North American aftermarket
and the OE heavy-duty market. In 1997, Fel-Pro had sales of approximately $500
million. At the time of the acquisition, Fel-Pro's primary product lines
consisted of gaskets, heavy-duty diesel engine products, diesel products, high
performance gaskets and other equipment and chemical products. Fel-Pro
employed approximately 2,700 employees in 16 locations.
12
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
Other Acquisitions
During 1998, the Company acquired other complementary businesses and
increased its ownership in certain joint ventures in order to expand its
manufacturing and distribution capabilities. In the first quarter of 1998, the
Company increased its ownership to 100% in its Summerton, South Carolina
gasket manufacturing plant and also increased its ownership in KFM Bearing
Company Ltd., a Korean joint venture with Kukje Special Metal Co., from 30% to
87%. In addition, the Company acquired Bimet, a Polish manufacturer of engine
bearings, bushings and related products. During the fourth quarter of 1998,
the Company acquired Tri-Way Machine Limited, a Canadian manufacturer of
machining systems for the metal-cutting industry and Glockler Dichtsysteme
Gunter Hemmrich GmbH, a manufacturer of rubber sealing components and acoustic
decoupling for valve covers, intake manifolds and oil pans. Additionally, the
Company increased its ownership from 50.6% to 100% in T&N Holdings Limited
located in South Africa.
Rationalization of Acquired Businesses
In connection with the T&N, Cooper Automotive and Fel-Pro acquisitions in
1998, the Company recognized $216.8 million as acquired liabilities related to
the rationalization and integration of acquired businesses. The
rationalization reserves provide for $180.0 million and $36.8 million in
severance and exit costs, respectively, and were recorded as a component of
goodwill in the purchase price allocation.
The components of the integration plan include: closure of certain
manufacturing facilities worldwide; relocation of highly manual manufacturing
product lines to lower cost regions or more suitable locations; consolidation
of overlapping manufacturing, technical and sales facilities and joint
ventures; consolidation of overlapping aftermarket warehouses; consolidation
of aftermarket marketing and customer support functions; and streamlining of
administrative, sales, marketing and product engineering staffs worldwide. An
anticipated result of the integration plan and the restructuring will be a
reduction of approximately 5,300 full-time employees.
The Company paid $61.6 million related to these rationalization reserves in
1998.
Divestitures of Acquired Businesses
In connection with securing regulatory approvals for the acquisition of T&N,
the Company executed an Agreement Containing Consent Order with the Federal
Trade Commission on February 27, 1998. Pursuant to this agreement, the Company
divested of the T&N Bearings Business and provided for independent management
of those assets pending such divestiture. The agreement stipulated that the
T&N Bearings Business be maintained as a viable, independent competitor of the
Company and that the Company not attempt to direct the activities of, or
exercise control over, the T&N Bearings Business or have contact with the T&N
Bearings Business outside of normal business activities.
On December 18, 1998, the Company completed the sale of the T&N Bearings
Business, consisting of the Glacier Vandervell Bearings Group and the AE
Clevite North American non-bearing aftermarket engine hard parts business, to
Dana Corporation for $430 million. These proceeds were subsequently used to
pay down debt. Furthermore, the Company also expects to realize additional net
proceeds of approximately $13 million from the collection of receivables of
the business sold. Prior to the sale of the T&N Bearings Business to Dana
Corporation, a portion of the business was sold for approximately $12 million
in August 1998.
In July 1998, the Company sold the Fel-Pro Chemical Business to Loctite
Corporation, a part of Henkel KGaA, a global specialist in applied chemistry
headquartered in Dusseldorf, Germany, for $57 million.
Operating results for the T&N Bearings and Fel-Pro Chemical Businesses
(which include interest expense of $30 million relating to the holding costs
of the businesses) have been excluded from the consolidated statement of
operations for the year ended December 31, 1998.
13
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
Results of Operations
Net Sales
Sales by operating segment were:
1998 1997 1996
---- ---- ----
(Millions of Dollars)
Powertrain Systems................................... $ 1,883 $ 782 $ 739
Sealing Systems...................................... 925 333 295
General Products..................................... 1,636 577 665
Divested Activities.................................. 25 115 334
------- ------- -------
Total Sales........................................ $ 4,469 $ 1,807 $ 2,033
======= ======= =======
Powertrain Systems sales increased 141% from 1997 to 1998 primarily due to
the acquisitions of T&N and Cooper Automotive. Excluding the impact of these
and other acquisitions, sales decreased 3% due to lower aftermarket sales and
the impact of foreign exchange rate fluctuations, partially offset by certain
original equipment volume increases. Sales in the aftermarket were impacted by
an overall decrease in the engine parts market size due to improved original
equipment quality, and the bankruptcy of a major customer in North America.
Sealing Systems sales increased 178% from 1997 to 1998 primarily due to the
acquisitions of T&N, Cooper Automotive and Fel-Pro. Taking out the impact of
these acquisitions, sales were essentially flat. Original equipment sales
increased slightly due to certain model volume increases while aftermarket
sales decreased primarily due to the bankruptcy of a major customer in North
America.
General Products sales increased 184% from 1997 to 1998 primarily due to the
acquisitions of T&N and Cooper Automotive. Excluding the impact of these
acquisitions, sales decreased 4% primarily due to the impact of foreign
exchange rates and the bankruptcy of a major customer in the North American
aftermarket, slightly offset by certain original equipment volume increases.
Operational EBIT
The accounting policies of the business segments are consistent with those
described in Note 1, "Accounting Policies." Operational EBIT is defined as
Operational Earnings before certain nonrecurring items (such as certain
purchase accounting adjustments and integration costs associated with new
acquisitions), interest and income taxes.
1998 1997 1996
---- ---- ----
(Millions of Dollars)
Powertrain Systems................................. $ 223 $ 68 $ 75
Sealing Systems.................................... 133 26 9
General Products................................... 154 44 31
Divested Activities................................ (8) 1 (22)
------- ------- -------
Operational EBIT................................. $ 502 $ 139 $ 93
======= ======= =======
Operational EBIT in Powertrain Systems increased 228% in 1998 from 1997 due
to the increase in sales noted above, as well as the streamlining of product
engineering costs and the implementation of Federal-Mogul's constraint
management programs across the combined companies.
Sealing Systems 1998 operational EBIT rose 412% as compared to 1997 due to
higher sales, reduced administrative costs and material sourcing savings as a
result of the acquisitions.
14
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
General Products operational EBIT in 1998 increased 250% versus 1997 due to
increased sales, material sourcing savings and implementation of constraint
management practices as a result of the acquisitions.
Purchased In-Process Research and Development Charge
In connection with the T&N acquisition, the Company recognized an $18.6
million charge in 1998 associated with the estimated fair value of purchased
in-process research and development for which technological feasibility had
not been established and the in-process technology had no future alternative
uses.
Restructuring Charges (Credits)
In 1998, as a result of the T&N, Cooper Automotive and Fel-Pro acquisitions,
the Company recognized $16.3 million of restructuring charges related to
restructuring the Company's operations in place prior to these acquisitions.
The restructuring charges were primarily for employee severance costs, which
result from planned terminations in various business operations of the
Company. The severance costs were based on the estimated amounts that will be
paid to the affected employees pursuant to the Company's workforce reduction
policies and certain foreign governmental regulations. The Company anticipates
that the actions related to the 1998 restructuring plan will be substantially
completed in 1999.
Also in 1998, the Company recognized restructuring credits of $9.0 million
for a reversal of charges recorded in previous years. The Company was able to
sell, rather than liquidate, its retail operations in Puerto Rico, causing
this reversal.
Primarily as a result of the amendments to the 1996 restructuring plan,
(refer to Note 4, "Restructuring Charges"), the Company's 1997 operating
results were increased by $23.1 million for the reversal of previously
recognized 1996 and 1995 restructuring charges. Offsetting this reversal was a
$22.0 million charge for new 1997 restructuring programs. The net impact on
1997 operations, as a result of the restructuring activities, was a credit of
$1.1 million. The 1997 charge includes $3.1 million for exiting certain
European aftermarket product lines and the related employment reductions, $6.8
million for termination of certain European administrative and support
personnel, $7.5 million for additional exit and severance costs related to the
Puerto Rican retail operations, $2.6 million for consolidation and
reconfiguration of the North American aftermarket service branch network and
$2.0 million for other actions. The Company's 1997 progress and actual
implementation of the 1996 restructuring plan resulted in 1997 operating
results being increased by $20.8 million for severance and $1.4 million of
exit and consolidation costs being reversed.
In the fourth quarter of 1996, the Company recognized a restructuring charge
of $57.6 million for costs associated with employee severance, exit and
consolidation costs for 132 international retail operations and 30 wholesale
aftermarket operations, rationalization of European manufacturing operations,
consolidation of lighting products, consolidation or closure of certain North
American warehouse facilities, consolidation of customer support functions in
the United States and streamlining of administrative and operational staff
functions worldwide. The charge consists of $22.7 million for the sale of 132
international retail aftermarket and 30 wholesale aftermarket operations,
$14.7 million for corporate employee severance costs, $7.7 million for the
rationalization of European manufacturing operations, $5.3 million for
consolidation or closure of certain North American warehouse facilities, $2.8
million for consolidation of customer support functions in the United States,
$2.5 million for closure of the Leiters Ford facility and $1.9 million for
other miscellaneous actions, including the consolidation of the European
aftermarket management function into the European manufacturing headquarters.
Reengineering and Other Related Charges (Credits)
In 1996, the Company initiated an extensive effort to strategically review
its businesses and focus on its competencies of manufacturing, engineering and
distribution. As a result of this process, the Company
15
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
recognized a charge of $11.4 million for professional fees and personnel costs
related to the strategic review of the Company and changes in management and
related costs. Operating results for 1997 include a credit of $1.6 million
relating to the reversal of certain 1996 reengineering and other related
charges, as the actual costs were less than the initial estimates.
Adjustment of Assets Held for Sale and Other Long-Lived Assets to Fair Value
In 1998, the Company decided to sell its subsidiary, Bertolotti Pietro e
Figli, S.r.l. (Bertolotti), an Italian aftermarket operation. The carrying
value of Bertolotti's long-lived assets was reduced to fair value based on
estimates of selling values, less costs to sell, calculated using multiples of
earnings similar to recent automotive industry transactions in Italy. The
Company recognized a $20.0 million charge primarily associated with the write-
down of Bertolotti's assets to the estimated fair value.
Also in 1998, the Company recognized a $1.0 million benefit associated with
the sale of certain international retail assets previously written down to
their realized fair value.
In 1997, the Company recognized a charge of $2.4 million to write down
certain long-lived assets of the international retail aftermarket to fair
value. These assets were sold in 1998 for approximately their adjusted value
and no gain or loss was recorded.
During 1996, management designed a restructuring plan to aggressively
improve the Company's cost structure, streamline operations and divest the
Company of underperforming assets. As part of this plan, the Company decided
to sell 132 international retail aftermarket operations, sell or restructure
30 wholesale aftermarket operations and consolidate a North American
manufacturing operation. The carrying value of assets held for sale was
reduced to fair value based on estimates of selling values less costs to sell.
Selling values used to determine the fair value of assets held for sale were
determined using market prices (i.e., valuation multiples) of comparable
companies from other 1996 transactions. The resulting adjustment of $148.5
million to reduce assets held for sale to fair value was recorded in the
fourth quarter of 1996. The Company has substantially completed the 1996
restructuring plan, selling its South Africa, Australia, Chile and Puerto Rico
retail operations during 1997 and 1998. Also in 1996, based upon the final
sale, the Company recognized an additional write-down of $2.8 million to the
net asset value of the United States ball bearings operations.
Integration Costs
The Company recognized $22.4 million of integration costs in 1998 in
connection with the previously discussed acquisitions. These expenses included
such one-time items as brand integration, costs to pack and move productive
inventory and fixed assets from one location to another and costs to change
the identity of entities acquired.
Interest Expense
Interest expense increased $170.7 million in 1998 to $204.0 million due to
debt financing of the T&N, Cooper Automotive, Fel-Pro and other acquisitions,
offset slightly by debt reductions from cash flow generated from operations.
Interest expense decreased $11.1 million in 1997 to $33.3 million. The
decrease was primarily due to a $188 million reduction of debt which resulted
from improvements in working capital and the sale of the South African and
Australian businesses.
Interest Income
The increase in interest income of $3.5 million in 1998 to $10.6 million and
the increase of $4.2 million in 1997 are due to interest earned on the
proceeds of the December 1997 sale of Company-obligated mandatorily redeemable
preferred securities, which were used in March 1998 to finance a portion of
the T&N acquisition.
16
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
International Currency Exchange Losses
International currency exchange losses increased to $4.7 million in 1998 due
primarily to the weakening of the Mexican peso. The decrease of $3.1 million
from 1996 to 1997 is due to the 1997 sale of the Turkish operation and a
devalued Venezuelan bolivar.
Net (Gain) Loss on British Pound Currency Option and Forward Contract
In the fourth quarter of 1997, in anticipation of the then-pending T&N
acquisition, the Company purchased a British pound currency option for $28.1
million with a notional amount of $2.5 billion. The cost of the option and its
change in fair value have been reflected in the results of operations in the
fourth quarter of 1997. At December 31, 1997, the Company had recognized a net
loss of $10.5 million on the transaction.
In January 1998, the Company settled the option and recognized an additional
loss of $17.3 million.
Also in January 1998, in anticipation of the then-pending T&N acquisition,
the Company entered into a forward contract to purchase (Pounds)1.5 billion
for approximately $2.45 billion. As a result of favorable fluctuations in the
British pound/United States dollar exchange rate during the contract period,
the Company recognized a $30.6 million gain.
The Company entered into the above transactions to serve as economic hedges
for the purchase of T&N. Such transactions, however, do not qualify for hedge
accounting under GAAP, and therefore both the loss on the British pound
currency option and the gain on the British pound forward contract are
reflected in the consolidated statement of operations caption "Net (gain) loss
on British pound currency option and forward contract."
Other Expense, net
The increase in other expense, net, of $12.9 million in 1998 to $16.3
million is due to the expense related to the Company-obligated mandatorily
redeemable preferred securities, issued in December 1997, partially offset by
an increase in earnings from equity investments acquired in the T&N
acquisition and a gain on the divestiture of its minority interest in G. Bruss
GmbH & Co. KG.
Income Taxes
The effective tax rate for 1998 was 50.5% compared to 27.6% in 1997. This
difference was primarily due to non-deductible goodwill, the one-time charge
for purchased in-process research and development and foreign tax rate
differences. The effective tax rate on the loss in 1996 was 9.8% due to losses
in foreign countries where no tax benefit was recorded.
At December 31, 1998, the Company had deferred tax assets, net of a $66.2
million valuation allowance, of $894.0 million and deferred tax liabilities of
$842.5 million. The valuation allowance reserve increased from $44.4 million
in 1997 to $66.2 million in 1998 due to valuation allowances recorded on net
operating loss carryforwards acquired with the acquisitions of T&N, Cooper
Automotive and Fel-Pro. Future reductions to these valuation allowances, if
any, will be applied to reduce goodwill related to the respective
acquisitions.
The net deferred tax asset of $51.5 million included deferred tax assets of
$429.1 million for asbestos liabilities and $165.2 million for postemployment
benefit obligations and deferred tax liabilities of $379.4 million and $326.2
million for fixed asset and intangible asset basis differences, respectively.
The Company expects to realize the assets and liabilities related to these
items over the next 40 years.
Extraordinary Items
The Company incurred extraordinary losses on the early retirement of debt of
$38.2 million and $2.6 million, net of related tax benefits, in 1998 and 1997,
respectively.
17
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
Liquidity and Capital Resources
Cash Flow Provided from Operating Activities
Cash flow provided from operating activities was $325.5 million in 1998.
Cash flow was generated primarily from operations, a decrease in inventories
of $55.9 million and a decrease in accounts receivable of $37.5 million.
Partially offsetting these items were payments against the asbestos liability
of $89.2 million and restructuring and rationalization payments of $78.0
million.
Cash Flow Used by Investing Activities
Cash flow used by investing activities was primarily related to the
acquisitions of T&N, Cooper Automotive and Fel-Pro, net of proceeds from sales
of the T&N Bearings Business and the Fel-Pro Chemical Business. The Company
expects to pay approximately $50 million in taxes related to the sale of the
T&N Bearings Business during the first quarter of 1999. In addition, capital
expenditures of $228.5 million were made for property, plant and equipment to
implement process improvements, information technology, replacement of
existing machinery and equipment and introductions of new products. Capital
expenditures are expected to be approximately $300 million in 1999.
The Cooper Automotive purchase agreement includes a price adjustment based
upon acquired net assets, as defined in the agreement, as of the acquisition
date. The Company anticipates that an additional cash payment of approximately
$100 million will be paid in 1999.
Cash Flow Provided from Financing Activities
Cash flow provided from financing activities was primarily from debt issued
to fund the acquisitions of T&N, Cooper Automotive and Fel-Pro and the
issuance of common stock, partially offset by principal payments on long-term
debt. The Company had total debt of $3,341.7 million at December 31, 1998
compared to $301.7 million at December 31, 1997.
At December 31, 1998, the Company had $400 million available under its
revolving credit facility expiring on December 31, 2003. As of December 31,
1998, there were no borrowings outstanding against this facility.
The Company entered into Senior Credit Agreements in connection with its
acquisitions of T&N and Cooper Automotive totaling $4.625 billion and a Senior
Subordinated Credit Agreement in connection with its acquisition of T&N of
$500 million in 1998. The Senior Credit Agreements had $1.894 billion
outstanding at December 31, 1998 with maturities ranging from 1999 through
2005. There were no borrowings outstanding against the Senior Subordinated
Credit Agreement at December 31, 1998.
The Company issued 26.75 million shares of common stock, including 2.1
million shares which were converted to Series E Preferred Stock, in two equity
offerings in 1998 generating proceeds of $1.373 billion. Proceeds were used to
repay borrowings under the Senior Credit Agreements and Senior Subordinated
Credit Agreement.
The Company issued $1.0 billion of bonds with maturities ranging from six to
twelve years, a weighted-average yield of 7.76% and a weighted-average coupon
of 7.73% in 1998, and $1.0 billion in bonds with maturities ranging from seven
to ten years, a weighted-average yield of 7.53% and a weighted-average coupon
of 7.45% in January 1999. Proceeds from these transactions were used to repay
borrowings under the Senior Credit Agreements. As a result of the 1999
transaction, the Company will recognize an extraordinary charge in the first
quarter of 1999 of approximately $8 million, net of tax, related to early
extinguishment of debt.
On February 24, 1999, the Company entered into a new $1.75 billion Senior
Credit Agreement at variable interest rates, which contains a $1.0 billion
multicurrency revolving credit facility and two term loan components.
18
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
The revolving credit facility has a five-year maturity. The term loan
components of $400 million and $350 million mature in five and six years,
respectively. The proceeds of this Senior Credit Agreement were used to
refinance the prior Senior Credit Agreements entered into in connection with
the T&N and Cooper Automotive acquisitions as well as the $400 million
multicurrency revolving credit facility related to the T&N acquisition. As a
result of these transactions, the Company will recognize an extraordinary
charge in the first quarter of 1999 of approximately $15 million, net of tax,
related to the early extinguishment of debt.
The Company believes that cash flows from operations, together with
borrowings available under the Company's multicurrency revolving credit
facility, will continue to be sufficient to meet its ongoing working capital
requirements.
Litigation and Environmental Matters
T&N Asbestos Litigation
In the United States, the Company's United Kingdom subsidiary, T&N Ltd., and
two of T&N's United States subsidiaries (the "T&N Companies") are among many
defendants named in numerous court actions alleging personal injury resulting
from exposure to asbestos or asbestos-containing products. T&N is also subject
to asbestos-disease litigation, to a lesser extent, in the United Kingdom and
to property damage litigation in the United States based upon asbestos
products allegedly installed in buildings. Because of the slow onset of
asbestos-related diseases, management anticipates that similar claims will be
made in the future. It is not known how many such claims may be made nor the
expenditure which may arise therefrom. As of December 31, 1998, the Company
has provided approximately $1.3 billion as its best estimate for future costs
related to resolving asbestos claims. The Company estimates claims will be
filed and paid in excess of the next 20 years. This estimate is based in part
on recent and historical claims experience, medical information and the
current legal environment.
As of December 31, 1998, the T&N Companies had approximately 105,000 claims
pending. During 1998, approximately 85,000 new claims were filed and 54,000
claims were settled, dismissed or otherwise resolved. In addition to the
pending cases above, the T&N Companies have approximately 41,000 claims that
have been settled but will be paid over time. There are a number of factors
that could impact the settlement costs into the future, including but not
limited to: changes in legal environment; possible insolvency of co-
defendants; and the establishment of an acceptable administrative (non-
litigation) claims resolution mechanism.
As of December 31, 1998, T&N is one of a large number of defendants named in
three pending property damage cases pending in two jurisdictions. Provision
has been made in the asbestos reserve for anticipated expenditures in relation
to such cases.
The $1.3 billion total provision held for the T&N Companies is comprised of
an estimate for known claims (pending and settled but not paid) and possible
future claims (IBNR). As of December 31, 1998, the $1.3 billion total
provision is comprised of approximately $460 million related to known claims
and approximately $840 million related to IBNR claims.
In arriving at the IBNR provision, assumptions have been made regarding the
total number of claims which it is anticipated may be received in the future,
the typical cost of settlement (which is sensitive to the industry in which
the plaintiff claims exposure, the alleged disease type and the jurisdiction
in which the action is being brought), the rate of receipt of claims and the
timing of settlement and, in the United Kingdom, the level of subrogation
claims brought by insurance companies.
The T&N Companies have appointed the Center for Claims Resolution (CCR) as
their exclusive representative in relation to all asbestos-related personal
injury claims made against the T&N Companies in the United States. The CCR
provides to its 20 member companies a litigation defense, claims-handling and
19
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
administration service in respect to United States asbestos-related disease
claims. Pursuant to the CCR Producer Agreement, T&N is entitled to appoint a
representative as one of the five voting directors on the CCR's Board of
Directors. Members of the CCR contribute towards indemnity payments in each
claim in which the member is named. Contributions to such indemnity payments
are calculated on a case-by-case basis according to sharing agreements among
the CCR's members.
In 1996, T&N purchased a (Pounds)500 million (approximately $845 million at
the insurance agreement exchange rate of $1.69/(Pounds)) layer of insurance
which will be triggered should the aggregate amount of claims filed after June
30, 1996, where the exposure occurred prior to that date, exceed (Pounds)690
million (approximately $1,166 million at the $1.69/(Pounds) exchange rate).
The Company's reserve for claims filed after June 30, 1996 approximates the
trigger point of the insurance.
The Company has reviewed the financial viability and legal obligations of
the three reinsurance companies involved and has concluded at this time that
there is little risk of the reinsurers not being able to meet their obligation
to pay, should the claims filed after June 30, 1996 exceed the (Pounds)690
million trigger point.
While management believes that reserves are appropriate for anticipated
losses arising from T&N's asbestos-related claims, given the nature and
complexity of the factors affecting the estimated liability, the actual
liability may differ. No absolute assurances can be given that T&N will not be
subject to material additional liabilities and significant additional
litigation relating to asbestos. In the possible, but unlikely, event that
such liabilities exceed the reserves recorded by the Company and the
additional (Pounds)500 million of insurance coverage, the Company's results of
operations, business, liquidity and financial condition could be materially
adversely affected. The T&N Companies reserves will be reevaluated
periodically as additional information becomes available.
Federal-Mogul, Fel-Pro and Cooper Automotive Asbestos Litigation
The Company also is one of a large number of defendants in a number of
lawsuits brought by claimants alleging injury due to exposure to asbestos.
Fel-Pro has been named as a defendant in a number of product liability cases
involving asbestos, primarily involving gasket or packing products sold to
ship owners. In addition, subsidiaries of Cooper Automotive have been named as
defendants in a number of product liability cases involving asbestos,
primarily involving friction products. The Company is defending all such
claims vigorously and believes that it, Fel-Pro and the Cooper Automotive
subsidiaries have substantial defenses to liability and adequate insurance
coverage for defense and indemnity. While the outcome of litigation cannot be
predicted with certainty, management believes that asbestos claims pending
against the Company, Fel-Pro and the Cooper Automotive subsidiaries as of
December 31, 1998, will not have a material effect on the Company's financial
position. At December 31, 1998, approximately $20 million in related reserves
have been provided in respect of the possible uninsured portion of the
expenditures on asbestos claims pending against the Company, Fel-Pro and the
Cooper Automotive subsidiaries.
Environmental Matters
The Company is a defendant in lawsuits filed in various jurisdictions
pursuant to the federal Comprehensive Environmental Response Compensation and
Liability Act of 1980 (CERCLA) or other similar federal or state environmental
laws which require responsible parties to pay for cleaning up contamination
resulting from hazardous wastes which were discharged into the environment by
them or by others to which they sent such wastes for disposition. In addition,
the Company has been notified by the United States Environmental Protection
Agency and various state agencies that it may be a potentially responsible
party (PRP) under such law for the cost of cleaning up certain other hazardous
waste storage or disposal facilities pursuant to CERCLA and other federal and
state environmental laws. PRP designation requires the funding of site
investigations and subsequent remedial activities. At most of the sites that
are likely to be costliest to clean up, which are often current or
20
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
former commercial waste disposal facilities to which numerous companies sent
waste, the Company's exposure is expected to be limited. Despite the joint and
several liability which might be imposed on the Company under CERLCA and some
of the other laws pertaining to these sites, the Company's share of the total
waste is usually quite small; the other companies which also sent wastes,
often numbering in the hundreds or more, generally include large, solvent
publicly owned companies; and in most such situations the government agencies
and courts have imposed liability in some reasonable relationship to
contribution of waste. In addition, the Company has identified certain present
and former properties at which it may be responsible for cleaning up
environmental contamination. The Company is actively seeking to resolve these
matters. Although difficult to quantify based on the complexity of the issues,
the Company has accrued the estimated cost associated with such matters based
upon current available information from site investigations and consultants.
The environmental and legal reserve was approximately $50 million at December
31, 1998 and $11 million at December 31, 1997. The majority of the 1998
increase is attributable to the acquisitions of T&N and Cooper Automotive.
Management believes that such accruals will be adequate to cover the Company's
estimated liability for its exposure in respect of such matters.
Market Risk
In the normal course of business, the Company is subject to market exposure
from changes in foreign exchange rates, interest rates, and raw material
prices. To manage a portion of these inherent risks, the Company purchases
various derivative financial instruments and commodity futures contracts. The
Company does not hold or issue derivative financial instruments for trading
purposes.
Foreign Currency Risk
A substantial portion of the Company's operations consists of manufacturing
and sales activities in foreign jurisdictions. The Company manufactures and
sells its products in North America, Europe, South America, Africa and Asia.
As a result, the Company's financial results could be significantly affected
by factors such as changes in foreign currency exchange rates or weak economic
conditions in the foreign markets in which the Company distributes its
products. The Company's operating results are primarily exposed to changes in
exchange rates between the United States dollar and European currencies.
As currency exchange rates change, translation of the income statements of
the Company's international businesses into United States dollars affects
year-over-year comparability of operating results. The Company does not
generally hedge operating translation risks because cash flows from
international operations are generally reinvested locally.
As of December 31, 1998, the Company's net assets (defined as current assets
less current liabilities) subject to foreign currency translation risk are
$146.8 million. The potential decrease in net assets from a hypothetical 10%
adverse change in quoted foreign currency exchange rates would be
approximately $14.7 million.
The sensitivity analysis presented assumes a parallel shift in foreign
currency exchange rates. Exchange rates rarely move in the same direction.
This assumption may overstate the impact of changing exchange rates on
individual assets and liabilities denominated in a foreign currency.
The Company monitors certain aspects of its foreign currency activities and
larger transactions through the use of foreign currency options or forwards.
The Company generally tries to utilize natural hedges within their foreign
currency activities, including the matching of revenues and costs.
The Company has entered into foreign currency forward contracts to hedge the
British pound against the United States dollar in the amount of $66 million
with an average contract rate of $1.62/(Pounds) and an unrealized loss of $3.5
million at December 31, 1998. The Company has also entered into foreign
currency forward contracts to hedge the British pound against the South
African rand in the amount of $19 million with an average contract rate of
9.99 rand/(Pounds) and an unrealized loss of $4.3 million at December 31,
1998.
21
MANAGEMENT'S DISCUSSION AND ANALYSIS -- CONTINUED
The Company has also entered into foreign currency forward contracts to
hedge foreign currency debt exposures from the British pound to the Australian
dollar, Swiss franc, German mark, Danish krone, Spanish peseta, French franc,
Hong Kong dollar, Italian lira, Japanese yen and Swedish krona whose notional
amounts and related unrealized gains or losses are not material.
All foreign currency forward contracts purchased will expire within the next
twelve months.
Interest Rate Risk
The Company's variable interest expense is sensitive to changes in the
general level of United States interest rates. Some of the Company's interest
expense is fixed through long-term borrowings to mitigate the impact of such
potential exposure. The following table provides information about the
Company's financial instruments that are sensitive to changes in interest
rates. The table presents principal cash flows and related weighted-average
interest rates by expected maturity dates. Weighted-average variable rates are
based upon spot rate observations as of the reporting date.
INTEREST RATE SENSITIVITY
PRINCIPAL AMOUNT BY EXPECTED MATURITY
(MILLIONS OF DOLLARS)
FAIR VALUE AT
1999 2000 2001 2002 2003 THEREAFTER TOTAL DECEMBER 31, 1998
---- ---- ---- ---- ---- ---------- ----- -----------------
LIABILITIES
Long-term debt,
including current
portion
Fixed rate............. $ 52.1 $ 65.2 $52.7 $ 10.8 $ 23.7 $1,141.1 $1,345.6 $1,381.2
Average interest rate.. 7.80% 7.84% 7.88% 7.86% 7.86% 7.85% 7.85%
Variable rate.......... $ 56.4 $409.9 $86.4 $115.9 $116.0 $1,109.0 $1,893.6 $1,893.6
Average interest rate.. 7.33% 7.33% 7.33% 7.33% 7.33% 7.33% 7.33%
RATE SENSITIVE
DERIVATIVE FINANCIAL
INSTRUMENTS
Interest rate locks
purchased.............. $300.0 -- -- -- -- -- $ 300.0 $ (0.9)
Average strike rate.... 4.69% -- -- -- -- -- -- --
Forward rate........... 4.66% -- -- -- -- -- -- --
Commodity Price Risk
The Company is dependent upon the supply of certain raw materials in the
production process and has entered into firm purchase commitments for copper,
aluminum and nickel. The Company uses forward contracts to hedge against the
changes in certain specific commodity prices of the purchase commitments
outstanding. The net unrealized losses at December 31, 1998 for commodity
contracts were $1.4 million.
OTHER MATTERS
Year 2000 Costs
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. The Company has
established a team that has completed an awareness program and assessment
project to address the Year 2000 issue including information technology (IT)
and non-IT systems. In addition, the Board of Directors has received status
reports related to the Company's progress in addressing the Year 2000 issue.
The Company has determined that it will be required to modify or replace
portions of its software so that its computer systems will properly utilize
dates beyond December 31, 1999. The Company has initiated remediation and
testing, and is implementing the action plan to address the Year 2000 issue
and
22
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
estimates that the majority of testing will be completed by the end of the
first quarter of 1999. A number of independent third-party reviews have been
performed and others are planned. The Company presently believes that with
modifications to existing software and conversions to new software, the Year
2000 issue can be mitigated. However, if such modifications and conversions
are not made, or are not completed in a timely manner, the Year 2000 issue
could cause production interruptions that could have a material impact on the
operations of the Company. The Company has initiated development of
contingency plans and will continue to do so throughout the program.
The Company has initiated formal communications with a substantial majority
of its significant suppliers and large customers to determine their plans to
address the Year 2000 issue. While the Company expects a successful resolution
of all issues, there can be no guarantee that the systems of other companies
on which the Company's systems rely will be converted in a timely manner, or
that a failure to convert by a supplier or customer, or a conversion that is
incompatible with the Company's systems, would not have a material adverse
effect on the Company. The Company has determined it has no exposure to
contingencies related to the Year 2000 issue for the products it has sold.
The Company has contracts in place with external resources and has allocated
internal resources to reprogram or replace, and test the hardware and software
for Year 2000 modifications. The total cost of the Year 2000 project is
estimated to be $25 million and is being funded through operating cash flows.
These estimates have been verified by independent third-party audit. Of the
total project cost, approximately $10 million is attributable to the purchase
of new hardware and software which will be capitalized. Maintenance and repair
of existing systems to be expensed as incurred is expected to be approximately
$15 million. As of December 31, 1998, the Company has incurred and expensed
approximately $8 million and capitalized approximately $3 million.
The costs of the project and the date which the Company plans to complete
the Year 2000 modifications are based on management's best estimates, which
were derived utilizing numerous assumptions of future events including the
continued availability of certain resources, third-party modification plans
and other factors. However, there can be no guarantee that these estimates
will be achieved and actual results could differ materially from those plans.
Specific factors that might cause such material differences include, but are
not limited to, the availability and cost of personnel trained in this area,
the ability to locate and correct all relevant computer codes and similar
uncertainties.
Management of the Company believes it has an effective program in place to
resolve the Year 2000 issue in a timely manner. As noted above, the Company
has not yet completed all necessary phases of the Year 2000 program. In the
event that the Company does not complete any additional phases, the Company
would be unable to take customer orders, manufacture and ship products,
invoice customers or collect payments. In addition, disruptions in the economy
generally resulting from Year 2000 issues could also materially adversely
affect the Company. The Company could be subject to litigation for computer
systems product failure, for example, equipment shutdown or failure to
properly date business records. The amount of potential liability and lost
revenue cannot be reasonably estimated at this time.
The Company has contingency plans for certain critical applications and is
working on such plans for others. These contingency plans involve, among other
actions, manual workarounds, increasing inventories, and adjusting staffing
strategies.
Euro Conversion
On January 1, 1999, certain member countries of the European Union
irrevocably fixed the conversion rates between their national currencies and a
common currency, the "Euro," which became their legal currency on that date.
The participating countries' former national currencies continue to exist as
denominations of the Euro
23
MANAGEMENT'S DISCUSSION AND ANALYSIS -- Continued
until January 1, 2002. The Company has established a steering committee that
is monitoring the business implications of conversion to the Euro, including
the need to adapt internal systems to accommodate Euro-denominated
transactions. The acquisition of T&N has provided the Company with a strong
knowledge base in which to assist with the conversion. While the Company is
still in various stages of assessment and implementation, the Company does not
expect the conversion to the Euro to have a material affect on its financial
condition or results of operations.
Effect of Accounting Pronouncements
In 1998, the American Institute of Certified Public Accountants issued
Statement of Position (SOP) 98-5, Reporting the Costs of Start-Up Activities.
SOP 98-5 is effective January 1, 1999, and requires that start-up costs
capitalized prior to January 1, 1999 be written off and any future start-up
costs be expensed as incurred. The unamortized balance of start-up costs will
be written off as a cumulative effect of an accounting change of approximately
$13 million, net of tax, as of January 1, 1999.
In 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities. The Company expects to adopt the new statement
effective January 1, 2000. The statement requires the Company to recognize all
derivatives on the balance sheet at fair value. The Company does not
anticipate that the adoption of this statement will have a significant effect
on its results of operations or financial condition.
24
CONSOLIDATED STATEMENTS OF OPERATIONS
Item 8. Financial Statements and Supplemental Data
Year Ended December 31
----------------------------
1998 1997 1996
---- ---- ----
(Millions of Dollars,
Except Per Share Amounts)
Net sales....................................... $4,468.7 $1,806.6 $2,032.7
Cost of products sold........................... 3,290.2 1,381.8 1,660.5
-------- -------- --------
Gross margin.................................... 1,178.5 424.8 372.2
Selling, general and administrative expenses.... 640.8 276.0 320.0
Amortization.................................... 83.8 8.9 12.0
Purchased in-process research and development
charge......................................... 18.6 -- --
Restructuring charges (credits)................. 7.3 (1.1) 57.6
Reengineering and other related charges
(credits)...................................... -- (1.6) 11.4
Adjustment of assets held for sale and other
long-lived assets to fair value................ 19.0 2.4 151.3
Integration costs............................... 22.4 -- --
Interest expense................................ 204.0 33.3 44.4
Interest income................................. (10.6) (7.1) (2.9)
International currency exchange losses.......... 4.7 0.6 3.7
Net (gain) loss on British pound currency option
and forward contract........................... (13.3) 10.5 --
Other expense, net.............................. 16.3 3.4 3.4
-------- -------- --------
Earnings (loss) before income taxes and
extraordinary items......................... 185.5 99.5 (228.7)
Income tax expense (benefit).................... 93.6 27.5 (22.4)
-------- -------- --------
Net earnings (loss) before extraordinary
items....................................... 91.9 72.0 (206.3)
Extraordinary items -- loss on early retirement
of debt, net of applicable income tax benefit.. 38.2 2.6 --
-------- -------- --------
Net earnings (loss).......................... 53.7 69.4 (206.3)
Preferred dividends............................. 3.6 5.5 8.7
-------- -------- --------
Net Earnings (Loss) Available to Common
Shareholders.................................. $ 50.1 $ 63.9 $ (215.0)
======== ======== ========
Earnings (Loss) Per Common Share:
Income (loss) before extraordinary items....... $ 1.84 $ 1.81 $ (6.20)
Extraordinary items............................ (.80) (.07) --
-------- -------- --------
Net Earnings (Loss) Per Common Share......... $ 1.04 $ 1.74 $ (6.20)
======== ======== ========
Earnings (Loss) Per Common Share Assuming
Dilution:
Income (loss) before extraordinary items....... $ 1.67 $ 1.67 $ (6.20)
Extraordinary items............................ (.71) (.06) --
-------- -------- --------
Net Earnings (Loss) Per Common Share Assuming
Dilution.................................... $ .96 $ 1.61 $ (6.20)
======== ======== ========
See accompanying Notes to Consolidated Financial Statements.
25
CONSOLIDATED BALANCE SHEETS
December 31
----------------------
1998 1997
---- ----
(Millions of Dollars)
ASSETS
Cash and equivalents................................... $ 77.2 $ 541.4
Accounts receivable.................................... 1,025.0 158.9
Investment in accounts receivable securitization....... 91.1 48.7
Inventories............................................ 1,068.6 277.0
Prepaid expenses and income tax benefits............... 337.7 113.2
---------- ----------
Total Current Assets................................ 2,599.6 1,139.2
Property, plant and equipment.......................... 2,477.5 313.9
Goodwill............................................... 3,398.4 143.8
Other intangible assets................................ 886.4 48.4
Other noncurrent assets................................ 578.2 156.8
---------- ----------
Total Assets........................................ $ 9,940.1 $ 1,802.1
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Short-term debt, including current portion of long-term
debt.................................................. $ 211.0 $ 28.6
Accounts payable....................................... 498.4 102.3
Accrued compensation................................... 200.3 36.8
Restructuring and rationalization reserves............. 178.9 33.9
Current portion of asbestos liability.................. 125.0 --
Income taxes payable................................... 142.2 10.2
Other accrued liabilities.............................. 673.7 117.8
---------- ----------
Total Current Liabilities........................... 2,029.5 329.6
Long-term debt......................................... 3,130.7 273.1
Long-term portion of asbestos liability................ 1,176.7 --
Postemployment benefits................................ 677.0 190.9
Other accrued liabilities.............................. 327.0 50.6
Minority interest in consolidated subsidiaries......... 38.0 13.6
Company-obligated mandatorily redeemable preferred
securities of subsidiary trust holding solely
convertible subordinated debentures of the
Company(1)............................................ 575.0 575.0
Shareholders' Equity
Series C ESOP preferred stock......................... 44.4 49.0
Series E preferred stock.............................. 132.7 --
Common stock.......................................... 336.8 201.0
Additional paid-in capital............................ 1,665.8 332.6
Accumulated deficit................................... (69.9) (123.6)
Unearned ESOP compensation............................ (15.1) (21.8)
Accumulated other comprehensive income................ (106.0) (65.7)
Other................................................. (2.5) (2.2)
---------- ----------
Total Shareholders' Equity.......................... 1,986.2 369.3
---------- ----------
Total Liabilities and Shareholders' Equity.......... $ 9,940.1 $ 1,802.1
========== ==========
- - ------------------
(1) The sole assets of the Trust are convertible subordinated debentures of
Federal-Mogul with an aggregate principal amount of $575.0 million, which
bear interest at a rate of 7% per annum and mature on December 1, 2027.
Upon repayment, the Company-obligated mandatorily redeemable preferred
securities of subsidiary trust will be mandatorily redeemed.
See accompanying Notes to Consolidated Financial Statements.
26
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31
--------------------------
1998 1997 1996
---- ---- ----
(Millions of Dollars)
Cash Provided From (Used By) Operating Activities
Net earnings (loss)............................... $ 53.7 $ 69.4 $(206.3)
Adjustments to reconcile net earnings (loss) to
net cash provided from operating activities:
Depreciation and amortization.................... 228.0 51.5 61.9
Purchased in-process research and development
charge.......................................... 18.6 -- --
Restructuring charges (credits).................. 7.3 (1.1) 57.6
Reengineering and other related charges
(credits)....................................... -- (1.6) 11.4
Adjustment of assets held for sale and other
long-lived assets to fair value................. 19.0 2.4 151.3
Loss on early retirement of debt................. 58.1 4.1 --
Vesting of restricted stock...................... 0.7 9.0 0.4
Postemployment benefits.......................... 10.9 (7.7) (2.0)
Decrease in accounts receivable.................. 37.5 7.6 46.5
Decrease in inventories.......................... 55.9 59.9 54.5
Increase (decrease) in accounts payable.......... 5.4 (19.5) (25.5)
Increase (decrease) in current liabilities and
other........................................... (2.4) 67.9 16.8
Payments against restructuring and
rationalization reserves........................ (78.0) (26.2) (17.6)
Payments against asbestos liability.............. (89.2) -- --
--------- ------ -------
Net Cash Provided From Operating Activities..... 325.5 215.7 149.0
Cash Provided From (Used By) Investing Activities
Expenditures for property, plant and equipment and
other long-term assets........................... (228.5) (49.7) (54.2)
Proceeds from sale of business investments........ 53.4 73.6 42.0
Proceeds from sale of options..................... 39.1 -- --
Businesses acquisitions, net of cash acquired..... (4,225.2) (30.5) (0.3)
Other............................................. -- 1.1 --
--------- ------ -------
Net Cash Used By Investing Activities........... (4,361.2) (5.5) (12.5)
Cash Provided From (Used By) Financing Activities
Issuance of common stock.......................... 1,382.2 14.2 0.6
Proceeds from issuance of long-term debt.......... 6,197.5 179.6 --
Principal payments on long-term debt.............. (3,927.6) (127.4) (29.4)
Increase (decrease) in short-term debt............ 0.5 (235.8) (61.4)
Fees paid for debt issuance and other securities.. (76.6) (42.8) --
Fees for early retirement of debt................. (27.4) (4.1) --
Investment in accounts receivable securitization.. 42.6 (31.8) --
Issuance of Company-obligated mandatorily
redeemable preferred securities.................. -- 575.0 --
Dividends......................................... (10.4) (24.8) (26.9)
Other............................................. (9.3) (4.0) (5.7)
--------- ------ -------
Net Cash Provided From (Used By) Financing
Activities..................................... 3,571.5 298.1 (122.8)
--------- ------ -------
Increase (Decrease) in Cash and Equivalents..... (464.2) 508.3 13.7
Cash and equivalents at beginning of year.......... 541.4 33.1 19.4
--------- ------ -------
Cash and Equivalents at End of Year............. $ 77.2 $541.4 $ 33.1
========= ====== =======
See accompanying Notes to Consolidated Financial Statements.
27
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Series C Retained Accumulated
ESOP Series D & E Additional Earnings Unearned Other
Preferred Preferred Common Paid-In (Accumulated ESOP Comprehensive
Stock Stock Stock Capital Deficit) Compensation Income Other Total
--------- ------------ ------ ---------- ------------ ------------ ------------- ----- --------
(Millions of Dollars)
Balance at December
31, 1995............ $56.8 $ 76.6 $175.2 $ 280.8 $ 40.2 $(34.3) $ (37.3) $(7.7) $ 550.3
Net loss............. (206.3) (206.3)
Currency
translation......... (4.3) (4.3)
Other................ 1.5 1.5
--------
Total Comprehensive
Income............. $ (209.1)
Issuance of stock.... 0.5 1.3 (1.2) 0.6
Retirement of Series
C ESOP preferred
stock............... (3.7) (3.7)
Amortization of
unearned ESOP
compensation........ 5.9 5.9
Dividends............ (26.9) (26.9)
Preferred dividend
tax benefits........ 1.4 1.4
----- ------ ------ -------- ------- ------ ------- ----- --------
Balance at December
31, 1996............ 53.1 76.6 175.7 283.5 (193.0) (28.4) (40.1) (8.9) 318.5
Net earnings......... 69.4 69.4
Currency
translation......... (27.4) (27.4)
Other................ 1.8 1.8
--------
Total Comprehensive
Income............. $ 43.8
Conversion of Series
D preferred stock... (76.6) 22.3 54.3 --
Issuance of stock.... 3.0 14.7 6.7 24.4
Retirement of Series
C ESOP preferred
stock............... (4.1) (4.1)
Amortization of
unearned ESOP
compensation........ 6.6 6.6
Dividends............ (24.8) (24.8)
Preferred dividend
tax benefits........ 4.9 4.9
----- ------ ------ -------- ------- ------ ------- ----- --------
Balance at December
31, 1997............ 49.0 -- 201.0 332.6 (123.6) (21.8) (65.7) (2.2) 369.3
Net earnings......... 53.7 53.7
Currency
translation......... (36.7) (36.7)
Other................ (3.6) (3.6)
--------
Total Comprehensive
Income............. $ 13.4
Issuance of Series E
preferred stock..... 225.0 225.0
Issuance of stock.... (92.3) 135.8 1,338.4 (0.3) 1,381.6
Retirement of Series
C ESOP preferred
stock............... (4.6) (4.6)
Amortization of
unearned ESOP
compensation........ 6.7 6.7
Dividends............ (10.4) (10.4)
Preferred dividend
tax benefits........ 5.2 5.2
----- ------ ------ -------- ------- ------ ------- ----- --------
Balance at December
31, 1998............ $44.4 $132.7 $336.8 $1,665.8 $ (69.9) $(15.1) $(106.0) $(2.5) $1,986.2
===== ====== ====== ======== ======= ====== ======= ===== ========
See accompanying Notes to Consolidated Financial Statements.
28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Accounting Policies
Organization: Headquartered in Southfield, Michigan, Federal-Mogul is a
global manufacturer and distributor of a broad range of vehicular components
for automobiles and light trucks, heavy-duty trucks, farm and construction
vehicles and industrial products. The Company's principal customers include
many of the world's major original equipment (OE) manufacturers of such
vehicles and industrial products. The Company also manufactures and supplies
its products and related parts to the aftermarket.
Principles of Consolidation: The consolidated financial statements include
the accounts of the Company and its majority-owned subsidiaries. Intercompany
accounts and transactions have been eliminated in consolidation.
Cash and Equivalents: The Company considers all highly liquid investments
with maturities of 90 days or less from the date of purchase to be cash
equivalents.
Inventories: Inventories are stated at the lower of cost or market. Cost
determined by the last-in, first-out (LIFO) method was used for 53% and 55% of
the inventory at December 31, 1998 and 1997, respectively. The remaining
inventories are costed using the first-in, first-out (FIFO) method. If
inventories had been valued at current cost, amounts reported at December 31
would have been increased by $39.0 million in 1998 and $44.5 million in 1997.
Inventory quantity reductions resulting in liquidations of certain LIFO
inventory layers increased net earnings by $3.4 million, $3.2 million and $3.1
million ($.06, $.08 and $.09 per diluted share) in 1998, 1997 and 1996,
respectively.
At December 31, inventories consisted of the following:
1998 1997
---- ----
(Millions of Dollars)
Finished products.................................... $ 737.9 $ 254.6
Work-in-process...................................... 147.1 21.8
Raw materials........................................ 208.5 15.7
----------- ---------
1,093.5 292.1
Reserve for inventory valuation...................... (24.9) (15.1)
----------- ---------
$ 1,068.6 $ 277.0
=========== =========
Goodwill and Other Intangible Assets: At December 31, goodwill and other
intangible assets which result principally from acquisitions, consisted of the
following:
Estimated
Useful Life 1998 1997
----------- ---- ----
(Millions of Dollars)
Goodwill................................. 40 years $ 3,481.8 $ 163.8
Accumulated amortization................. (83.4) (20.0)
----------- ---------
Total Goodwill......................... $ 3,398.4 $ 143.8
=========== =========
Trademarks............................... 40 years $ 417.6 $ 56.5
Developed technology..................... 12-30 years 390.1 --
Assembled workforce...................... 15 years 88.1 --
Other.................................... 5-20 years 39.9 20.8
----------- ---------
935.7 77.3
Accumulated amortization................. (49.3) (28.9)
----------- ---------
Total Other Intangible Assets.......... $ 886.4 $ 48.4
=========== =========
29
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
Intangible assets are periodically reviewed for impairment based on an
assessment of future cash flows, or fair value for assets held for sale, to
ensure that they are appropriately valued. Intangible assets are amortized on
a straight-line basis over their estimated useful lives. Impairment charges
recorded in 1998, 1997 and 1996 related primarily to assets held for sale.
Revenue Recognition: The Company recognizes revenue and estimated returns
from product sales and the related customer incentive and warranty expense
when goods are shipped to the customer.
Research and Development and Advertising Costs: The Company expenses
research and development costs as incurred. Research and development expense
was $85.0 million, $13.1 million and $14.4 million for 1998, 1997 and 1996,
respectively.
Costs associated with advertising and promotion are expensed as incurred.
Advertising and promotion expense was $45.9 million, $31.8 million and $34.0
million for 1998, 1997 and 1996, respectively.
Currency Translation: Exchange adjustments related to international currency
transactions and translation adjustments for subsidiaries whose functional
currency is the United States dollar (principally those located in highly
inflationary economies) are reflected in the consolidated statements of
operations. Translation adjustments of international subsidiaries for which
the local currency is the functional currency are reflected in the
consolidated financial statements as a component of accumulated other
comprehensive income.
Effect of Accounting Pronouncements: In April 1998, the American Institute
of Certified Public Accountants issued Statement of Position (SOP) 98-5,
Reporting the Costs of Start-Up Activities. SOP 98-5 is effective January 1,
1999, and requires that start-up costs capitalized prior to January 1, 1999 be
written off and any future start-up costs be expensed as incurred. The
unamortized balance of start-up costs will be written off as a cumulative
effect of an accounting change of approximately $13 million, net of tax, as of
January 1, 1999.
In 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities. The Company expects to adopt the new statement
effective January 1, 2000. The statement requires the Company to recognize all
derivatives on the balance sheet at fair value. The Company does not
anticipate that the adoption of this statement will have a significant effect
on its results of operations or financial condition.
Environmental Liabilities: The Company recognizes environmental liabilities
when a loss is probable and estimable. Such liabilities are generally not
subject to insurance coverage. Each environmental obligation is estimated by
engineering and legal specialists within the Company based on current law and
existing technologies. Such estimates are based primarily upon the estimated
cost of investigation and remediation required and the likelihood that other
potentially responsible parties will be able to fulfill their commitments at
the sites where the Company may be jointly and severally liable with such
parties (refer to Note 20, "Litigation and Environmental Matters").
The Company regularly evaluates and revises its estimates for environmental
obligations based on expenditures against established reserves and the
availability of additional information.
Integration Costs: Incremental direct costs associated with integrating
material acquisitions include such one-time items as brand integration, costs
to pack and move productive inventory and fixed assets from one location to
another, and costs to change the identity of entities acquired.
Derivative Financial Instruments: The Company uses interest rate lock
agreements to synthetically manage the interest rate characteristics of
certain outstanding debt to a more desirable fixed rate basis or to limit the
Company's exposure to rising interest rates, forward foreign exchange
contracts to minimize and lock the amount
30
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
of currency payments for certain transactions that are denominated in certain
foreign currencies, and forward contracts to hedge against the changes in
certain specific commodity prices of the purchase commitments outstanding
(collectively "Derivative Contracts").
Interest rate differentials to be paid or received as a result of interest
rate lock agreements are accrued and recognized as an adjustment of interest
expense related to the designated debt. Recorded amounts related to derivative
contracts are included in other assets or liabilities. The fair values of
interest rate lock agreements and forward contracts are not recognized in the
financial statements.
Realized and unrealized gains or losses at the time of maturity,
termination, sale or repayment of a derivative contract or designated item are
recorded in a manner consistent with the original designation of the
derivative in view of the nature of the termination, sale or repayment
transaction. Amounts related to interest rate locks are deferred and amortized
as an adjustment to interest expense over the original period of interest
exposure, provided the designated liability continues to exist or is probable
of occurring. Realized and unrealized changes in fair value of derivatives
designated with items that no longer exist or are no longer probable of
occurring are recorded as a component of the gain or loss arising from the
disposition of the designated item.
Use of Estimates: The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the financial statements
and accompanying notes. Actual results could differ from those estimates.
Reclassifications: Certain items in the prior year financial statements have
been reclassified to conform with the presentation used in 1998.
2. Acquisitions of Businesses
T&N
In March 1998, the Company acquired T&N plc (T&N), a manufacturer based in
Manchester, England for consideration (including direct costs of the
acquisition) of approximately $2.4 billion. The Company also assumed cash of
approximately $185 million and debt of approximately $745 million.
In connection with the acquisition of T&N, the Company entered into a $2.675
billion floating rate Senior Credit Agreement (consisting of a $2.275 billion
term loan facility and a $400 million revolving loan facility) and a $500
million floating rate Senior Subordinated Credit Agreement.
In addition, the Company funded a portion of the T&N acquisition through the
December 1997 sale of 11.5 million shares of Company-obligated mandatorily
redeemable preferred securities (generating gross proceeds of $575 million) by
Federal-Mogul Financing Trust, a wholly owned subsidiary of the Company.
T&N manufactures and supplies high technology engineered automotive
components and industrial materials. In 1997, T&N had sales of approximately
(Pounds)1.8 billion ($2.9 billion at the 1997 average exchange rate) with
about 80% of such sales relating to the global automotive industry. At the
time of its acquisition, T&N's major product lines consisted of piston
products, bearings, friction products, composites and camshafts (incorporating
sintered products) and sealing products servicing OE customers and the
aftermarket. T&N operated in approximately 200 locations in 24 countries,
employed over 28,000 people worldwide and served customers globally. T&N's
operations included technical centers in the United Kingdom, Germany and North
America.
The Company recognized an $18.6 million charge in the first quarter of 1998
associated with the estimated fair value of purchased in-process research and
development for which technological feasibility had not been established and
the in-process technology had no future alternative uses.
31
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
Cooper Automotive
In October 1998, the Company acquired the automotive division of Cooper
Industries, Inc. (Cooper Automotive) headquartered in St. Louis, Missouri, for
initial consideration of approximately $1.9 billion. The Cooper Automotive
purchase agreement includes a price adjustment based upon acquired net assets,
as defined in the agreement, as of the acquisition date. The Company
anticipates additional cash payments of approximately $100 million will be
paid.
Cooper Automotive is a leading supplier of aftermarket parts for repair and
maintenance and serves OE automobile manufacturers worldwide. In 1997, Cooper
Automotive had sales of approximately $1.9 billion. At the time of the
acquisition, Cooper Automotive's principal products consisted of brakes and
friction, lighting, chassis parts, ignition and wiper blades. Cooper
Automotive employed approximately 14,500 employees in 63 locations.
Fel-Pro
In February 1998, the Company acquired Fel-Pro, Incorporated and certain
affiliated entities which constitute the operating businesses of the Fel-Pro
group of companies (Fel-Pro), a privately owned gasket manufacturer
headquartered in Skokie, Illinois, for a total consideration of approximately
$722 million, which included 1,030,325.6 shares of Federal-Mogul Series E
Stock with an imputed value of $225 million and approximately $497 million in
cash.
Fel-Pro is a leading gasket manufacturer for the North American aftermarket
and OE heavy-duty market. In 1997, Fel-Pro had sales of approximately $500
million. At the time of the acquisition, Fel-Pro's primary product lines
consisted of gaskets, heavy-duty diesel engine products, diesel products, high
performance gaskets and other equipment and chemical products. Fel-Pro
employed approximately 2,700 employees in 16 locations.
The T&N, Cooper Automotive and Fel-Pro acquisitions have been accounted for
as purchases and, accordingly, the total consideration was allocated to the
acquired assets and assumed liabilities based on estimated fair values as of
the acquisition dates. The consolidated statement of operations for the year
ended December 31, 1998 includes the operating results of the acquired
businesses, exclusive of the T&N Bearings Business and the Fel-Pro Chemical
Business (refer to "Divestiture of Acquired Businesses" below) from the
acquisition dates.
In connection with the acquisition of Cooper Automotive, the Company is in
the process of having valuations of acquired property, plant and equipment and
identifiable intangible assets completed. The related purchase price
allocation will be finalized when such valuations and the final purchase price
adjustment are completed in 1999.
Rationalization of Acquired Businesses
In connection with the T&N, Cooper Automotive and Fel-Pro acquisitions in
1998, the Company recognized $216.8 million as acquired liabilities related to
the rationalization and integration of acquired businesses. The
rationalization reserves provide for $180.0 million and $36.8 million in
severance and exit costs, respectively, and were recorded as a component of
goodwill in the purchase price allocation.
The components of the integration plan include: closure of certain
manufacturing facilities worldwide; relocation of highly manual manufacturing
product lines to lower cost regions or more suitable locations; consolidation
of overlapping manufacturing, technical and sales facilities and joint
ventures; consolidation of overlapping aftermarket warehouses; consolidation
of aftermarket marketing and customer support functions; and streamlining of
administrative, sales, marketing and product engineering staffs worldwide. An
anticipated result of the integration plan and the restructuring will be a
reduction of approximately 5,300 full-time employees.
32
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
The Company paid $61.6 million related to these rationalization reserves in
1998.
Divestitures of Acquired Businesses
In connection with securing regulatory approvals for the acquisition of T&N,
the Company executed an Agreement Containing Consent Order with the Federal
Trade Commission on February 27, 1998. Pursuant to this agreement, the Company
divested of the T&N Bearings Business and provided for independent management
of those assets pending such divestiture. The agreement stipulated that the
T&N Bearings Business be maintained as a viable, independent competitor of the
Company and that the Company not attempt to direct the activities of, or
exercise control over, the T&N Bearings Business or have contact with the T&N
Bearings Business outside of normal business activities.
On December 18, 1998, the Company completed the sale of the T&N Bearings
Business, consisting of the Glacier Vandervell Bearings Group and the AE
Clevite North American non-bearing aftermarket engine hard parts business, to
Dana Corporation for $430 million. These proceeds were subsequently used to
pay down debt. Furthermore, the Company also expects to realize additional net
proceeds of approximately $13 million from the collection of receivables of
the business sold. Prior to the sale of the T&N Bearing Business to Dana
Corporation, a portion of the business was sold for approximately $12 million
in August 1998.
In July 1998, the Company sold the Fel-Pro Chemical Business to Loctite
Corporation, a part of Henkel KGaA, a global specialist in applied chemistry
headquartered in Dusseldorf, Germany, for $57 million.
Operating results for the T&N Bearings and Fel-Pro Chemical Businesses
(which include interest expense of $30 million relating to the holding costs
of the businesses) have been excluded from the consolidated statement of
operations for the year ended December 31, 1998.
Pro Forma Results
The following unaudited pro forma financial information for the years ended
December 31, 1998 and 1997 assume the T&N, Cooper Automotive and Fel-Pro
acquisitions occurred as of the beginning of the respective periods, after
giving effect to certain adjustments, including the amortization of intangible
assets, interest expense on acquisition debt, divestitures of the T&N Bearings
Business and Fel-Pro Chemical Business, 1998 equity offerings and income tax
effects. The pro forma results (in millions of dollars, except per share data)
have been prepared for comparative purposes only and are not necessarily
indicative of the results of operations which may occur in the future or that
would have occurred had the acquisitions of T&N, Cooper Automotive and Fel-Pro
been consummated on the dates indicated, nor are they necessarily indicative
of the Company's future results of operations.
Unaudited Pro Forma Financial Information
(Millions of Dollars, Except Per Share Amounts)
Year Ended December 31
-----------------------
1998 1997
---- ----
Net sales.......................................... $ 6,444.1 $ 6,644.7
Net earnings (loss)................................ $ 152.0 $ (4.9)
Earnings (loss) per share.......................... $ 2.12 $ (.19)
Earnings (loss) per share assuming dilution........ $ 1.95 $ (.19)
Other Acquisitions
During 1998, the Company acquired other complementary businesses and
increased its ownership in certain joint ventures in order to expand its
manufacturing and distribution capabilities. In the first quarter of 1998, the
33
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
Company increased its ownership to 100% in its Summerton, South Carolina
gasket manufacturing plant and also increased its ownership in KFM Bearing
Company Ltd. (KFM), a Korean joint venture with Kukje Special Metal Co., from
30% to 87%. In addition, the Company acquired Bimet, a Polish manufacturer of
engine bearings, bushings and related products. During the fourth quarter of
1998, the Company acquired Tri-Way Machine Limited (Tri-Way), a Canadian
manufacturer of machining systems for the metal-cutting industry and Glockler
Dichtsysteme Gunter Hemmrich GmbH (Glockler), a manufacturer of rubber sealing
components and acoustic decoupling for valve covers, intake manifolds and oil
pans. Additionally, the Company increased its ownership from 50.6% to 100% in
T&N Holdings Limited located in South Africa.
The Summerton, KFM, Bimet, Tri-Way, Glockler, and T&N Holdings Limited
transactions have been accounted for as purchases and, accordingly, the total
consideration was allocated to the acquired assets and assumed liabilities
based on its estimated fair values as of the acquisition dates. The total cash
consideration paid for these acquisitions approximated $93 million. The
consolidated statement of operations for the year ended December 31, 1998
includes the operating results of the acquired businesses from the applicable
date of acquisition.
3. Sales of Businesses
Divestitures
In February 1998, the Company divested its minority interest in G. Bruss
GmbH & Co. KG (Bruss), a German manufacturer of seals and gaskets. As part of
the divestiture agreement the Company increased its ownership to 100% in its
Summerton, South Carolina gasket manufacturing plant (refer to Note 2,
"Acquisitions of Businesses"). The Company received net proceeds of
approximately $46 million related to the divestiture agreement and recognized
a gain on the divestiture of $6.0 million. The gain on the divestiture is
included as a component of other expense. In addition, the Company closed or
sold substantially all its remaining retail aftermarket operations during
1998.
During 1997, the Company received $73.6 million in net cash proceeds from
the sale of its aftermarket operations in South Africa, Australia and Chile,
and its heavy wall bearing operations in Germany and Brazil.
During 1996, the Company received $42.0 million in net cash proceeds from
the sale of its United States ball bearings and electrical products
manufacturing operations.
Except for the sales of Bruss and the electrical products manufacturing
operations, sales of businesses in 1998, 1997 and 1996 relate to assets
previously adjusted to fair value (refer to Note 7, "Adjustment of Assets Held
for Sale and Other Long-Lived Assets to Fair Value"). Accordingly, no gain or
loss was recognized on the date of sale related to these transactions. In
addition, no gain or loss was recognized related to the sale of the electrical
products manufacturing operations.
34
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
4. Restructuring Charges
The following is a summary of restructuring charges and related activity for
1996, 1997 and 1998 (in millions of dollars):
1995 Restructuring 1996 Restructuring 1997 Restructuring 1998 Restructuring
Provision Provision Provision Provision
---------------------- --------------------- ---------------------- ---------------------
Severance Exit Severance Exit Severance Exit Severance Exit Total
----------- --------- ----------- -------- ----------- --------- ----------- -------- ------
Balance of restructuring
reserves at December
31, 1995............... $ 3.9 $ 6.8 -- -- $ 10.7
1996 restructuring
charge................. -- -- $ 42.8 $ 14.8 57.6
Payments against
restructuring
reserves............... (3.9) (3.4) (4.8) (1.0) (13.1)
--------- --------- --------- -------- --------- --------- --------- -------- ------
Balance of restructuring
reserves at December
31, 1996............... -- 3.4 38.0 13.8 55.2
1997 restructuring
charge................ -- -- -- -- $ 16.7 $ 5.3 22.0
Adjustment to
restructuring
reserves.............. -- (.9) (20.8) (1.4) -- -- (23.1)
--------- --------- --------- -------- --------- --------- --------- -------- ------
1997 restructuring
charges (net).......... -- (.9) (20.8) (1.4) 16.7 5.3 (1.1)
Payments against
restructuring
reserves............... -- (1.7) (11.6) (3.7) (0.1) -- (17.1)
--------- --------- --------- -------- --------- --------- --------- -------- ------
Balance of restructuring
reserves at December
31, 1997............... -- 0.8 5.6 8.7 16.6 5.3 37.0
1998 restructuring
charges............... -- -- -- -- -- -- $ 16.0 $ 0.3 16.3
Adjustment to
restructuring
reserves.............. -- -- -- (2.4) (4.6) (2.0) -- -- (9.0)
--------- --------- --------- -------- --------- --------- --------- -------- ------
1998 restructuring
charges (net).......... -- -- -- (2.4) (4.6) (2.0) 16.0 0.3 7.3
Payments against
restructuring
reserves............... -- (0.8) (1.1) (5.0) (6.1) (0.1) (3.3) -- (16.4)
--------- --------- --------- -------- --------- --------- --------- -------- ------
Balance of restructuring
reserves at December
31, 1998............... $ -- $ -- $ 4.5 $ 1.3 $ 5.9 $ 3.2 $ 12.7 $ 0.3 $ 27.9
========= ========= ========= ======== ========= ========= ========= ======== ======
The Company's total restructuring reserves at December 31, 1998 of $27.9
million include $4.2 million of severance, which was anticipated to be paid
over the next two years, and was classified as noncurrent other accrued
liabilities in the balance sheet.
1998 Restructuring Provision
In 1998, as a result of the T&N, Cooper Automotive and Fel-Pro acquisitions,
the Company recognized $16.3 million of restructuring charges related to
restructuring the Company's operations in place prior to these acquisitions.
Employee severance costs result from planned terminations of approximately
1,800 employees in various business operations of the Company. The severance
costs were based on the estimated amounts that will be paid to the affected
employees pursuant to the Company's workforce reduction policies and certain
foreign governmental regulations. The Company anticipates that the actions
related to the 1998 restructuring plan will be substantially completed in
1999.
Also in 1998, the Company recognized restructuring credits of $9.0 million
for a reversal of charges recorded in previous years. The Company was able to
sell, rather than liquidate, its retail operations in Puerto Rico causing this
reversal.
35
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
1997 Restructuring Provision
Results of operations in 1997 include a $22.0 million charge for 1997
severance and exit costs. The restructuring actions were designed to improve
the Company's cost structure, streamline operations and divest the Company of
underperforming assets.
Employee severance costs for 1997 result from the planned termination of
approximately 500 employees, in various business operations of the Company.
The severance costs were based on the minimum levels that will be paid to the
affected employees pursuant to the Company's workforce reduction policies and
certain foreign governmental regulations.
Exit costs for 1997 principally include lease termination costs for certain
North American distribution service branches and retail aftermarket operations
in Puerto Rico, and the consolidation of certain European distribution, and
North American and European manufacturing operations.
As of December 31, 1998, employee severance actions related to the 1997
charges resulted in the termination of approximately 200 employees.
1996 Restructuring Provision
Primarily due to the anticipated T&N and Fel-Pro transactions (refer to Note
2, "Acquisitions of Businesses"), the Company elected not to fully implement
the following actions under the 1996 restructuring plan:
.Reductions to the operational and administrative staff were not made to
the extent originally planned.
.Reconfiguration of the North American distribution network was altered
to accommodate the planned integration of T&N and Fel-Pro aftermarket
operations.
.Relocation of certain European manufacturing product lines to lower cost
areas within Europe and related workforce reductions did not take place.
Management of the Company decided not to pursue this action, primarily in
anticipation of the integration of future acquisitions.
Primarily as a result of actions not fully implemented under the 1996
restructuring plan, the Company's 1997 operating results were increased by
$23.1 million for the reversal of previously recognized 1996 and 1995
restructuring charges.
As of December 31, 1998, employee severance costs related to the 1996 charge
have resulted in the termination of approximately 700 employees, primarily in
the international retail aftermarket and wholesale aftermarket operations, the
North American distribution business and a closed manufacturing operation.
Exit costs for 1996 principally include lease termination costs of
international retail aftermarket stores and certain international wholesale
aftermarket operations, the consolidation of certain North American
distribution facilities and the closing of a North American manufacturing
operation.
5. British Pound Currency Option and Forward Contract
In the fourth quarter of 1997, in anticipation of the then-pending T&N
acquisition, the Company purchased a British pound currency option for $28.1
million with a notional amount of $2.5 billion. The cost of the option and its
change in fair value have been reflected in the results of operations in the
fourth quarter of 1997. At December 31, 1997, the Company recognized a net
loss of $10.5 million on the transaction. In January 1998, the Company settled
the option and recognized an additional loss of $17.3 million.
Also in January 1998, in anticipation of the then-pending T&N acquisition,
the Company entered into a forward contract to purchase (Pounds)1.5 billion
for approximately $2.45 billion. As a result of favorable fluctuations in the
British pound/United States dollar exchange rate during the contract period,
the Company recognized a $30.6 million gain.
36
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
The Company entered into the above transactions to serve as economic hedges
for the purchase of T&N. Such transactions, however, do not qualify for hedge
accounting under GAAP, and therefore both the loss on the British pound
currency option and the gain on the British pound forward contract are
reflected in the consolidated statement of operations caption "Net (gain) loss
on British pound currency option and forward contract."
6. Debt
Long-term debt at December 31 consists of the following:
1998 1997
---- ----
(Millions of Dollars)
Senior Credit Agreements................................ $ 1,893.6 $ --
Notes due 2004 -- 7.5%, issued in 1998.................. 249.5 --
Notes due 2006 -- 7.75%, issued in 1998................. 399.9 --
Notes due 2010 -- 7.875%, issued in 1998................ 349.2 --
Medium-term notes -- due between 1999 and 2005, average
rate of 8.4%, issued in 1994 and 1995.................. 125.0 125.0
Senior notes -- due in 2007, rate of 8.8%, issued in
1997................................................... 124.7 124.6
ESOP obligation -- due in 1999 and 2000, average rate of
7.19%.................................................. 14.7 21.9
Other................................................... 82.6 11.8
----------- ---------
3,239.2 283.3
Less current maturities included in short-term debt..... 108.5 10.2
----------- ---------
$ 3,130.7 $ 273.1
=========== =========
In 1998, in connection with the acquisitions of T&N and Cooper Automotive,
the Company entered into Senior Credit Agreements. The Company had $1,893.6
outstanding under these Senior Credit Agreements as of December 31, 1998 which
are due from 1999 to 2005 with an average interest rate of 7.33%.
The proceeds from the 2004, 2006 and 2010 notes were used to repay amounts
previously outstanding under the Senior Credit Agreements. Such repayments and
other repayments resulting from the proceeds of equity offerings (refer to
Note 12, "Capital Stock and Preferred Share Purchase Rights") and the early
retirement of private placement debt assumed in the T&N acquisition and
related make-whole payment resulted in the extraordinary loss on the early
retirement of debt in 1998 of $38.2 million, net of applicable income tax
benefits of $19.9 million.
The Company has pledged 100% of the capital stock of certain United States
subsidiaries, 65% of capital stock of certain foreign subsidiaries and certain
inter-company loans to secure the Senior Credit Agreements of the Company;
certain of such pledges also extend to the Notes, Medium-term notes and Senior
notes. In addition, certain subsidiaries of the Company have guaranteed the
senior debt (refer to Note 22, "Audited Consolidating Condensed Financial
Information of Guarantor Subsidiaries").
The ESOP obligation represents the unpaid principal balance on an 11-year
loan entered into by the Company's ESOP in 1989. Proceeds of the loan were
used by the ESOP to purchase the Company's Series C ESOP preferred stock.
Payment of principal and interest on the notes is unconditionally guaranteed
by the Company, and therefore, the unpaid principal balance of the borrowing
is classified as long-term debt. Company contributions and dividends on the
preferred shares held by the ESOP are used to meet semi-annual principal and
interest obligations. The original ESOP obligation bore an annual interest
rate of 11.5%. The obligation was refinanced on June 30, 1995 at a fixed
interest rate of 7.2%. The ESOP obligation matures in December 2000.
In June 1997, the Company entered into a new $350 million multicurrency
revolving credit facility, with a consortium of international banks, which
matures in June 2002 which was subsequently replaced by the $400
37
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
million multicurrency revolving credit facility related to the T&N
acquisition. As of December 31, 1998 and 1997, there were no borrowings
outstanding against the multicurrency revolving credit facility. The weighted
average interest rate for the Company's short-term debt was approximately
7.75% and 9.9% as of December 31, 1998 and 1997, respectively.
On February 24, 1999, the Company entered into a new $1.75 billion Senior
Credit Agreement at variable interest rates, which contains a $1.0 billion
multicurrency revolving credit facility and two term loan components. The
revolving credit facility has a five-year maturity. The term loan components
of $400 million and $350 million mature in five and six years, respectively.
The proceeds of this Senior Credit Agreement were used to refinance the prior
Senior Credit Agreements entered into in connection with the T&N and Cooper
Automotive acquisitions as well as the $400 million multicurrency revolving
credit facility related to the T&N acquisition. As a result of these
transactions, the Company will recognize an extraordinary charge in the first
quarter of 1999 of approximately $15 million, net of tax, related to the early
extinguishment of debt.
Aggregate maturities of long-term debt for each of the years following 1999
are, in millions: 2000 --$475.1; 2001 -- $139.1; 2002 -- $126.7; 2003 --
$139.7 and thereafter $2,250.1.
Interest paid in 1998, 1997 and 1996 was $173.4 million, $30.7 million and
$43.5 million, respectively.
7. Adjustment of Assets Held For Sale and Other Long-Lived Assets to Fair
Value
In 1998, the Company decided to sell its subsidiary, Bertolotti Pietro e
Figli, S.r.l. (Bertolotti), an Italian aftermarket operation. The carrying
value of Bertolotti's long-lived assets was reduced to fair value based on
estimates of selling values, less costs to sell, calculated using multiples of
earnings similar to recent automotive industry transactions in Italy. The
Company recognized a $20.0 million first quarter charge primarily associated
with the write-down of Bertolotti's assets to the estimated fair value.
Also in 1998, the Company recognized a $1.0 million benefit associated with
the sale of certain international retail assets previously written down to
their realized fair value.
In 1997, the Company recognized a charge of $2.4 million to write down
certain long-lived assets of the international retail aftermarket to fair
value. These assets were sold in 1998 for approximately their adjusted value
and no gain or loss was recorded.
During 1996, management designed a restructuring plan to aggressively
improve the Company's cost structure, streamline operations and divest the
Company of underperforming assets. As part of this plan, the Company decided
to sell 132 international retail aftermarket operations, sell or restructure
30 wholesale aftermarket operations and consolidate a North American
manufacturing operation. The carrying value of assets held for sale was
reduced to fair value based on estimates of selling values less costs to sell.
Selling values used to determine the fair value of assets held for sale were
determined using market prices (i.e., valuation multiples) of comparable
companies from other 1996 transactions. The resulting adjustment of $148.5
million to reduce assets held for sale to fair value was recorded in the
fourth quarter of 1996. The Company has substantially completed the 1996
restructuring plan, selling its South Africa, Australia, Chile and Puerto Rico
retail operations during 1997 and 1998. Also in 1996, based upon the final
sale, the Company recognized an additional write-down of $2.8 million to the
net asset value of the United States ball bearings operations.
8. Reengineering and Other Related Charges (Credits)
In 1996, the Company initiated an extensive effort to strategically review
its businesses and focus on its competencies of manufacturing, engineering and
distribution. As a result of this process, the Company recognized a charge of
$11.4 million for professional fees and personnel costs related to the
strategic review of the Company and changes in management and related costs.
Operating results for 1997 include a credit of $1.6 million relating to the
reversal of certain 1996 reengineering and other related charges, as the
actual costs were less than the initial estimates.
38
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
9. Changes in Accounting Estimates
In 1996, the Company made certain changes in accounting estimates totaling
$51 million ($34 million after tax, $.98 per share) attributable to 1996
events and new information becoming available. The changes in accounting
estimates included increasing the provision for customer incentive programs
and related sales initiatives by $18 million, increasing the provision for
excess and obsolete inventory by $13 million, increasing the provision for bad
debts by $3 million, increasing the provision for environmental and legal
matters by $9 million and increasing various other provisions by approximately
$8 million.
10. Financial Instruments
Foreign Exchange Risk and Commodity Price Management
The Company is subject to exposure to market risks from changes in foreign
exchange rates and raw material price fluctuations. Derivative financial
instruments are utilized by the Company to reduce those risks. Except for the
British pound currency option and forward contract discussed in Note 5, the
Company does not hold or issue derivative financial instruments for trading
purposes.
As of December 31, 1998, the Company has foreign exchange forward contracts
principally for British pound exposures relating to the United States dollar
and the South African rand totaling a notional amount of $127 million. At
December 31, 1998, there was an unrealized loss of $9.1 million related to
foreign exchange contracts. The Company did not have foreign exchange forward
contracts or currency option contracts at December 31, 1997.
The Company enters into copper contracts to hedge against the risk of price
increases. These contracts are expected to offset the effects of price changes
on the firm purchase commitments for copper. Under the agreements, the Company
was committed to purchase 7.3 million pounds of copper. The net unrealized
loss on these firm purchase commitments was $0.8 million at December 31, 1998.
In addition, in 1998, the Company had also entered into aluminum and nickel
contracts as a hedge to offset the effects of price changes. The net
unrealized losses at December 31, 1998 were $0.4 million and $0.2 million for
aluminum and nickel contracts, respectively.
Deferred gains and losses are included in other assets and liabilities and
recognized in operations when the future purchase, sale or payment (in the
case of the asbestos liability) occurs, or at the point in time when the
purchase, sale or payment is no longer expected to occur.
Interest Rate Locks
The Company had $300 million of interest rate locks outstanding as of
December 31, 1998 with an unrealized loss of $0.9 million. These interest rate
locks were entered into as a hedge in anticipation of the bond issuance of
$1.0 billion in January 1999 (refer to Note 23, "Subsequent Events").
Accounts Receivable Securitization
During 1998, the Company replaced an existing accounts receivable
securitization program with a new program which provides up to $150 million of
financing. On an ongoing basis, the Company sells certain accounts receivable
to Federal-Mogul Funding Corporation (FMFC), a wholly owned subsidiary of the
Company, which then sells such receivables, without recourse, to a financial
conduit. Amounts excluded from the balance sheets under these arrangements
were $105.8 million and $63.2 million at December 31, 1998 and 1997,
respectively. The Company's retained interest in the accounts receivable sold
to FMFC is included in the consolidated balance sheet caption "Investment in
Accounts Receivable Securitization."
39
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
Concentrations of Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk consist primarily of accounts receivable and
cash investments. The Company's customer base includes virtually every
significant global automotive manufacturer and a large number of distributors
and installers of automotive aftermarket parts. The Company's credit
evaluation process, reasonably short collection terms and the geographical
dispersion of sales transactions help to mitigate any concentration of credit
risk. The Company requires placement of investments in financial institutions
evaluated as highly creditworthy.
The Company does not generally require collateral for its trade accounts
receivable or those assets included in the investment in accounts receivable
securitization. The allowance for doubtful accounts of $60.4 million and $18.7
million at December 31, 1998 and 1997, respectively, is based upon the
expected collectibility of trade accounts receivable.
Fair Value of Financial Instruments
The carrying amounts of certain financial instruments such as cash and
equivalents, accounts receivable, accounts payable and short-term debt
approximate their fair values. The carrying amounts and estimated fair values
of the Company's long-term debt were $3,130.7 million and $3,166.3 million,
respectively, at December 31, 1998. The fair value of the long-term debt is
estimated using discounted cash flow analysis and the Company's current
incremental borrowing rates for similar types of arrangements.
11. Property, Plant and Equipment
Property, plant and equipment are stated at cost and include expenditures
which materially extend the useful lives of existing buildings, machinery and
equipment.
Depreciation is computed principally by the straight-line method for
financial reporting purposes and by accelerated methods for income tax
purposes. Depreciation expense for the years ended December 31, 1998, 1997 and
1996, was $144.2 million, $42.6 million and $49.8 million, respectively.
At December 31, property, plant and equipment consisted of the following:
Estimated
Useful Life 1998 1997
----------- ---- ----
(Millions of Dollars)
Land................................... -- $ 139.4 $ 29.1
Buildings and building improvements.... 24-40 years 560.1 124.0
Machinery and equipment................ 3-12 years 2,097.6 363.4
----------- ----------
2,797.1 516.5
Accumulated depreciation............... (319.6) (202.6)
----------- ----------
$ 2,477.5 $ 313.9
=========== ==========
Future minimum payments under noncancelable operating leases with initial or
remaining terms of more than one year are, in millions: 1999 -- $52.9; 2000 --
$40.3; 2001 -- $33.6; 2002 -- $27.2; 2003 -- $24.0 and thereafter $73.8.
Future minimum lease payments have been reduced by approximately $29.2 million
for amounts to be received under sublease agreements.
Total rental expense under operating leases was $46.5 million in 1998, $29.1
million in 1997 and $33.8 million in 1996, exclusive of property taxes,
insurance and other occupancy costs generally payable by the Company.
40
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
12. Capital Stock and Preferred Share Purchase Rights
The Company's articles of incorporation authorize the issuance of
260,000,000 shares of common stock, of which 67,233,216 shares, 40,196,603
shares and 35,130,359 shares were outstanding at December 31, 1998, 1997 and
1996, respectively.
In February 1998, in connection with the Fel-Pro acquisition, the Company
issued 1,030,325.6 shares Series E Stock with an imputed value of $225
million. The shares of Series E Stock are exchangeable into shares of the
Company's common stock at a rate of five shares of common stock per share of
Series E Stock. Subsequently, in conjunction with the June 1998 common stock
offering described below, the Company converted 422,581 shares of Series E
Stock into approximately 2.1 million shares of common stock.
In February 1999, all outstanding shares of the Company's Series E Stock
were exchanged into the Company's common stock (refer to Note 23, "Subsequent
Events").
In June 1998, the Company issued 12.7 million shares of common stock,
including 2.1 million shares which were converted from Series E Stock. The net
proceeds from the sale of the common stock of $592 million were used to prepay
the entire outstanding principal amount under the Senior Subordinated Credit
Agreement and partially repay the Senior Credit Agreement (refer to Note 2,
"T&N" in "Acquisitions").
In December 1998, the Company completed an equity offering of 14.1 million
shares of common stock. The net proceeds from the sale of the common stock of
$781.2 million were used to reduce the Senior Credit Agreements associated
with the acquisition of Cooper Automotive.
In August 1997, the Company announced a call for the redemption of all its
outstanding $3.875 Series D Convertible Exchangeable Preferred Stock. These
preferred stockholders elected to convert each preferred share into 2.778
shares of common stock. The Company issued 4.4 million shares of common stock
in exchange for all the outstanding Series D Convertible Exchangeable
Preferred Stock.
The Company's ESOP covers substantially all domestic salaried employees and
allocates Series C ESOP Convertible Preferred Stock to eligible employees
based on their contributions to the Salaried Employees' Investment Program.
There were 724,644, 762,939 and 835,898 shares of Series C ESOP preferred
stock outstanding at December 31, 1998, 1997 and 1996, respectively. The
Series C ESOP preferred shares pay dividends at a rate of 7.5%. The Company
repurchased and retired 38,295 Series C ESOP preferred shares valued at $4.6
million during 1998 and 72,959 Series C ESOP preferred shares valued at $4.1
million during 1997, all of which represent plan distributions or fund
transfers for participants of the plan.
The Series C ESOP preferred stock is convertible into shares of the
Company's common stock at a rate of two shares of common stock for each share
of preferred stock. The Series C ESOP preferred stock may be issued only to a
trustee acting on behalf of an employee stock ownership plan or other employee
benefit plan of the Company. These shares are automatically converted into
shares of common stock in the event of any transfer to any person other than
the plan trustee. The Series C ESOP preferred stock is redeemable, in whole or
in part, at the option of the Company.
The charge to operations for the cost of the ESOP was $5.2 million in 1998,
$5.2 million in 1997 and $4.2 million in 1996. The Company made cash
contributions to the plan of $8.2 million in 1998 and $8.1 million in 1997 and
1996, including preferred stock dividends of $3.6 million in 1998, $3.8
million in 1997 and $4.1 million in 1996. ESOP shares are released as
principal and interest on the debt is paid. The ESOP Trust uses the preferred
dividends not allocated to employees to make principal and interest payments
on the debt. Compensation expense is measured based on the fair value of
shares committed to be released to employees. Dividends on ESOP shares are
treated as a reduction of retained earnings in the period declared. The number
of allocated shares and suspense shares held by the ESOP were 563,995 and
160,649 at December 31, 1998, and
41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
512,147 and 250,792 at December 31, 1997, respectively. There were no
committed-to-be-released shares at December 31, 1998 and December 31, 1997.
Any repurchase of the ESOP shares is strictly at the option of the Company.
In 1988, the Company's Board of Directors authorized the distribution of one
Preferred Share Purchase Right (Right) for each outstanding share of common
stock of the Company. Each Right entitles shareholders to buy one-half of one-
hundredth of a share of a new series of preferred stock at a price of $70.
These Rights will expire on April 30, 1999, after which they will be replaced
by Rights authorized under a new Shareholder Rights Plan adopted by the Board
of Directors in February of 1999. Under the new plan, each Right will entitle
shareholders to buy one-one thousandth of a share of a newly created Series F
preferred stock at a price of $250.
As distributed, the Rights trade together with the common stock of the
Company. They may be exercised or traded separately only after the earlier to
occur of (i) ten days following a public announcement that a person or group
of persons has obtained the right to acquire 10% or more of the outstanding
common stock of the Company (20% in the case of certain institutional
investors), or (ii) ten business days (or such later date as may be determined
by action of the Board of Directors) following the commencement or
announcement of an intent to make a tender offer or exchange offer which would
result in beneficial ownership by a person or group of persons of 10% or more
of the Company's outstanding common stock. Additionally, if the Company is
acquired in a merger or other business combination, each Right will entitle
its holder to purchase, at the Right's exercise price, shares of the acquiring
Company's common stock (or stock of the Company if it is the surviving
corporation) having a market value of twice the Right's exercise price.
The Rights may be redeemed at the option of the Board of Directors for $.01
per Right at any time before a person or group of persons acquires 10% or more
of the Company's common stock. The Board may amend the Rights at any time
without shareholder approval. The Rights will expire by their terms on April
30, 2009.
13. Company-Obligated Mandatorily Redeemable Preferred Securities of
Subsidiary Trust Holding Solely Convertible Subordinated Debentures of the
Company
In December 1997, the Company's wholly owned financing trust ("Affiliate")
completed a $575 million private issue of 11.5 million shares of 7.0% Trust
Convertible Preferred Securities ("TCP Securities") with a liquidation value
of $50 per convertible security. The net proceeds from the TCP Securities were
used to purchase an equal amount of 7.0% Convertible Junior Subordinate
Debentures ("Debentures") of the Company. The TCP Securities represent an
undivided interest in the Affiliate's assets, with a liquidation preference of
$50 per security.
Distributions on the TCP Securities are cumulative and will be paid
quarterly in arrears at an annual rate of 7.0%, and are included in the
consolidated statements of operations as a component of "Other Expense, Net."
The Company has the option to defer payment of the distributions for an
extension period of up to 20 consecutive quarters if the Company is in
compliance with the terms of the TCP Securities.
The shares of the TCP Securities are convertible, at the option of the
holder, into the Company's common stock at an equivalent conversion price of
approximately $51.50 per share, subject to adjustment in certain events. The
TCP Securities and the Debentures will be redeemable, at the option of the
Company, on or after December 6, 2000 at a redemption price, expressed as a
percentage of principal which is added to accrued and unpaid interest. The
redemption price range is from 104.2% on December 6, 2000 to 100.0% after
December 1, 2007. All outstanding TCP Securities and Debentures are required
to be redeemed by December 1, 2027.
42
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
14. Accumulated Other Comprehensive Income
The components of other comprehensive income are as follows:
Currency
Translation Other Total
----------- ----- -----
(Millions of Dollars)
Balance at December 31, 1996.................... $ (38.2) $(1.9) $ (40.1)
Current period change........................... (27.4) 1.8 (25.6)
------- ----- -------
Balance at December 31, 1997.................... (65.6) (0.1) (65.7)
Current period change........................... (36.7) (3.6) (40.3)
------- ----- -------
Balance at December 31, 1998.................... $(102.3) $(3.7) $(106.0)
======= ===== =======
The earnings associated with the Company's investment in its foreign
subsidiaries are considered to be permanently invested and no provision for
United States Federal and state income taxes on those earnings or translation
adjustments have been provided.
15. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings
per share (in millions, except per share data):
1998 1997 1996
---- ---- ----
Numerator:
Net earnings (loss) after extraordinary items.......... $53.7 $69.4 $(206.3)
Extraordinary items -- loss on early retirement of debt
net of applicable tax benefit......................... 38.2 2.6 --
----- ----- -------
Net earnings (loss) before extraordinary items......... 91.9 72.0 (206.3)
Series C preferred dividend requirement................ (2.3) (2.4) (2.5)
Series D preferred dividend requirement................ -- (3.1) (6.2)
Series E preferred dividend requirement................ (1.3) -- --
----- ----- -------
Numerator for basic earnings per share -- income (loss)
available to common shareholders before extraordinary
items................................................. $88.3 $66.5 $(215.0)
Effect of dilutive securities:
Series C preferred dividend requirement............... 2.3 2.4 --
Series D preferred dividend requirement............... -- 3.1 --
Series E preferred dividend requirement............... 1.3 -- --
Additional required ESOP contribution................. (2.1) (1.9) --
----- ----- -------
Numerator for diluted earnings per share -- income
(loss) available to common shareholders after assumed
conversions, before extraordinary item................ $89.8 $70.1 $(215.0)
Numerator for basic earnings per share -- income (loss)
available to common shareholders after extraordinary
item.................................................. $50.1 $63.9 $(215.0)
Numerator for diluted earnings per share -- income
(loss) available to common shareholders after
extraordinary item.................................... $51.6 $67.5 $(215.0)
43
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
1998 1997 1996
---- ---- ----
Denominator:
Denominator for basic earnings per share -- weighted
average shares........................................... $48.1 $36.6 $ 34.7
Effect of dilutive securities:
Dilutive stock options outstanding....................... 0.8 0.4 --
Nonvested stock.......................................... 0.1 0.3 --
Conversion of Series C preferred stock................... 1.5 1.6 --
Conversion of Series D preferred stock................... -- 3.0 --
Conversion of Series E preferred stock................... 3.2 -- --
----- ----- ------
Dilutive potential common shares.......................... 5.6 5.3 --
Denominator for dilutive earnings per share -- adjusted
weighted average shares and assumed conversions.......... 53.7 41.9 34.7
===== ===== ======
Basic earnings (loss) per share before extraordinary
items..................................................... $1.84 $1.81 $(6.20)
===== ===== ======
Basic earnings (loss) per share after extraordinary items.. $1.04 $1.74 $(6.20)
===== ===== ======
Diluted earnings (loss) per share before extraordinary
items..................................................... $1.67 $1.67 $(6.20)
===== ===== ======
Diluted earnings (loss) per share after extraordinary
items..................................................... $ .96 $1.61 $(6.20)
===== ===== ======
For additional disclosures regarding the Series C, Series D and Series E
preferred stock, the employee stock options and nonvested stock shares, refer
to Note 12, "Capital Stock and Preferred Share Purchase Rights," and Note 16,
"Incentive Stock Plans".
Convertible preferred securities (refer to Note 13, "Company-Obligated
Mandatorily Redeemable Preferred Securities of Subsidiary Trust Holding Solely
Convertible Subordinated Debentures of the Company") redeemable for 11.2
million shares of common stock were outstanding for 1998 and a portion of 1997
but were not included in the computation of diluted earnings per share because
the effect would be antidilutive.
16. Incentive Stock Plans
The Company's shareholders adopted stock option plans in 1976 and 1984 and
performance incentive stock plans in 1989 and 1997. These plans provide
generally for awarding restricted shares or granting options to purchase
shares of the Company's common stock. Restricted shares entitle employees to
all the rights of common stock shareholders, subject to certain transfer
restrictions and to forfeiture in the event that the conditions for their
vesting are not met. Options entitle employees to purchase shares at an
exercise price not less than 100% of the fair market value on the grant date
and expire after a five- or ten-year period as determined by the Board of
Directors.
Under the plans, awards vest from six months to five years after their date
of grant, as determined by the Board of Directors at the time of grant. At
December 31, 1998, there were 2,752,952 shares available for future grants
under the plans.
In October 1997, the Company met certain share price performance criteria
under the 1989 Long-Term Incentive Plan which resulted in the recognition of
$5.4 million in compensation expense relating to the vesting of restricted
stock awards. The total compensation cost that has been charged to operations
for vesting of restricted stock awards was $0.7 million, $9.0 million and $0.4
million in 1998, 1997 and 1996, respectively.
The Company has elected to follow Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees (APB 25) and related
interpretations in accounting for its employee stock awards. Accordingly, no
compensation cost has been recognized for its stock option grants, as the
exercise price of the Company's employee stock options equals the underlying
stock price on the date of grant. Had compensation cost for the Company's
stock-based compensation plans been determined based on the fair value at the
grant dates for awards under those plans consistent with the method of
Statement of Financial Accounting Standards
44
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
No. 123 (Statement 123) Accounting for Stock Based Compensation, the Company's
net earnings (loss), in millions, and earnings (loss) per share would have
been adjusted to the pro forma amounts indicated below:
1998 1997 1996
---- ---- ----
Net earnings (loss) as reported........................ $53.7 $69.4 $(206.3)
Pro forma.............................................. $48.3 $70.7 $(207.1)
Basic earnings (loss) per share as reported............ $1.04 $1.74 $ (6.20)
Pro forma.............................................. $0.93 $1.78 $ (6.22)
Diluted earnings (loss) per share as reported.......... $0.96 $1.61 $ (6.20)
Pro forma.............................................. $0.86 $1.64 $ (6.22)
Pro forma information regarding net income and earnings per share is
required by Statement 123 as if the Company had accounted for its employee
stock options under the fair value method. The fair value for options is
estimated at the date of grant using a Black-Scholes option pricing model with
the following weighted-average assumptions for 1998, 1997 and 1996,
respectively: risk-free interest rates of 6.5%; dividend yields of 0.2%, 1.5%
and 2.3%; volatility factors of the expected market price of the Company's
common stock of 30.1%, 27.2% and 11.2% and a weighted average expected life of
the option of five years. The fair value of nonvested stock awards is equal to
the market price of the stock on the date of the grant.
Since the above pro forma disclosures of results are required to consider
only grants awarded in 1995 and thereafter, the pro forma effects during this
initial phase-in period may not be representative of the effects on the
reported results for future years.
The weighted-average fair value and the total number (in millions) of
options granted was $22.36, $9.99 and $3.34, and 1.1, 0.9 and 0.3 for 1998,
1997 and 1996, respectively. The weighted-average fair value and total number
(in millions) of nonvested stock awards granted was $53.52, $24.47 and $18.90
and 0.1, 0.1 and 0.2 for 1998, 1997 and 1996, respectively. All options and
stock awards that are not vested at December 31, 1998, vest solely on
employees' rendering additional service.
The following table summarizes the activity relating to the Company's
incentive stock plans:
Number Weighted-
of Shares Average
(In Millions) Price
------------- ---------
Outstanding at December 31, 1995........................ 2.6 $22.02
Options/stock granted.................................. .5 22.08
Options exercised...................................... -- --
Options/stock lapsed or canceled....................... (.6) 22.32
---- ------
Outstanding at December 31, 1996........................ 2.5 $22.03
Options/stock granted.................................. 1.0 31.74
Options exercised/stock vested......................... (1.0) 21.94
Options/stock lapsed or canceled....................... (0.3) 22.29
---- ------
Outstanding at December 31, 1997........................ 2.2 $26.46
Options/stock granted.................................. 1.2 57.94
Options exercised/stock vested......................... (0.5) 21.85
Options/stock lapsed or canceled....................... (0.1) 31.49
---- ------
Outstanding at December 31, 1998........................ 2.8 $40.50
==== ======
Options exercisable at December 31, 1998............... 0.6 $30.11
==== ======
Options exercisable at December 31, 1997............... 0.9 $23.07
==== ======
Options exercisable at December 31, 1996............... 1.3 $22.50
==== ======
45
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
The following is a summary of the range of exercise prices for stock options
that are outstanding and the amount of nonvested stock awards at December 31,
1998:
Weighted-Average
Outstanding ---------------------
Range Awards Price Remaining Life
----- ----------- ------ --------------
Options:
$15.69-$23.50............................. 0.5 $21.79 3 years
$23.51-$35.25............................. 0.7 $28.16 3 years
$35.26-$52.87............................. 0.4 $42.12 5 years
$52.88-$70.69............................. 1.1 $59.32 5 years
Nonvested stock............................ 0.1
---
Total.................................... 2.8
===
17. Postemployment Benefits
The Company sponsors several defined benefit pension plans (Pension
Benefits) and health care and life insurance benefits (Other Benefits) for
certain employees around the world. The Company funds the Pension Benefits
based on the funding requirements of federal and international laws and
regulations in advance of benefit payments and the Other Benefits as benefits
are provided to the employees.
Components of net periodic benefit cost for the year ended December 31:
United States Plans International Plans
------------------------------------------ ----------------------
Pension Benefits Other Benefits Pension Benefits
---------------------- ------------------ ----------------------
1998 1997 1996 1998 1997 1996 1998 1997 1996
---- ---- ---- ---- ---- ---- ---- ---- ----
(Millions of Dollars)
Service cost............ $ 16.4 $ 7.8 $ 9.0 $ 4.4 $ 2.5 $2.8 $ 26.7 $ 0.3 $ 0.4
Interest cost........... 29.9 14.0 15.0 19.2 10.5 10.8 100.7 1.9 2.5
Expected return on plan
assets................. (48.1) (24.2) (24.3) -- -- -- (123.6) -- --
Net amortization and
deferral............... (4.3) (4.2) (3.2) (0.6) (0.5) (0.5) -- -- --
Curtailment loss
(gains)................ 1.6 -- 3.7 -- -- (7.5) -- -- --
------ ------ ------ ----- ----- ---- -------- ----- -----
Net periodic (benefit)
cost................... $ (4.5) $ (6.6) $ 0.2 $23.0 $12.5 $5.6 $ 3.8 $ 2.2 $ 2.9
====== ====== ====== ===== ===== ==== ======== ===== =====
Change in benefit obligation:
United States Plans International Plans
------------------------------------ ----------------------
Pension Benefits Other Benefits Pension Benefits
------------------ ---------------- ----------------------
1998 1997 1998 1997 1998 1997
---- ---- ---- ---- ---- ----
(Millions of Dollars)
Benefit obligation at
beginning of year...... $ 197.2 $ 211.1 $ 150.4 $ 150.8 $ 26.6 $ 34.5
Service cost............ 16.4 7.8 4.4 2.5 26.7 0.3
Interest cost........... 29.9 14.0 19.2 10.5 100.7 1.9
Acquisitions............ 496.7 -- 297.3 -- 1,834.3 --
Company contributions... -- -- -- -- 13.3 --
Benefits paid........... (26.0) (20.6) (15.0) (8.2) (124.3) (1.7)
Plan amendments......... 9.9 -- -- -- -- --
Actuarial gains and
losses and changes in
actuarial assumptions.. 4.8 -- 12.6 (5.2) 161.3 (3.5)
Settlements and
curtailments........... (11.4) (15.1) -- -- -- (4.9)
-------- -------- ------- ------- ----------- --------
Benefit obligation at
end of year............ $ 717.5 $ 197.2 $ 468.9 $ 150.4 $ 2,038.6 $ 26.6
======== ======== ======= ======= =========== ========
46
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
Change in plan assets:
United States Plans International Plans
------------------------------------ ---------------------
Pension Benefits Other Benefits Pension Benefits
------------------ ---------------- ---------------------
1998 1997 1998 1997 1998 1997
---- ---- ---- ---- ---- ---------
(Millions of Dollars)
Fair value of plan
assets at beginning of
year................... $ 293.7 $ 262.6 $ -- $ -- $ -- $ --
Actual return on plan
assets................. 25.3 61.8 -- -- 157.6 --
Acquisitions............ 487.1 -- -- -- 1,918.4 --
Company contributions... 7.9 5.0 -- -- 21.4 1.7
Benefits paid........... (26.0) (20.6) -- -- (124.3) (1.7)
Settlements and
curtailments........... (12.6) (15.1) -- -- -- --
-------- -------- ------- ------- ---------- --------
Fair value of plan
assets at end of year.. $ 775.4 $ 293.7 $ -- $ -- $ 1,973.1 $ --
======== ======== ======= ======= ========== ========
Funded status of the
plan................... $ 57.9 $ 96.5 $(468.9) $(150.4) $ (65.5) $ (26.6)
Unrecognized net asset
at transition.......... 0.3 (2.0) -- -- -- --
Unrecognized net
actuarial (gain) loss.. (30.1) (60.3) 8.9 (3.8) 129.6 2.8
Unrecognized prior
service cost........... 17.6 9.7 (2.9) (3.5) -- --
-------- -------- ------- ------- ---------- --------
Prepaid (accrued)
benefit cost........... $ 45.7 $ 43.9 $(462.9) $(157.7) $ 64.1 $ (23.8)
======== ======== ======= ======= ========== ========
Weighted-average assumptions as of December 31:
United States Plans International Plans
---------------------------------------------------
Pension Benefits Other Benefits Pension Benefits
---------------------------------------------------
1998 1997 1998 1997 1998 1997
---- ---- ---- ---- ---- ----
(Millions of Dollars)
Discount rate............. 7.25% 7.5% 7.25% 7.5% 5.5-6% 6.5%
Expected return on plan
assets................... 10% 10% -- -- 7.5% --
Rate of compensation
increase................. 4.25-5% 4.5% -- -- 2.5-3.9% 2.5%
Amounts applicable to the Company's pension plans with accumulated benefit
obligations in excess of plan assets are as follows:
United States Plans 1998 1997
- - ------------------- ---- ----
Projected benefit obligation...................................... $138.1 $56.4
Accumulated benefit obligation.................................... 137.9 55.5
Fair value of plan assets......................................... 126.6 49.9
International Plans 1998 1997
- - ------------------- ---- ----
Projected benefit obligation...................................... $180.0 $26.6
Accumulated benefit obligation.................................... 171.0 26.6
Fair value of plan assets......................................... -- --
Amounts recognized in the balance sheet consist of:
Pension Benefits Other Benefits
------------------ ----------------
1998 1997 1998 1997
---- ---- ---- ----
Prepaid (accrued) benefit cost............ $ 109.8 $ 20.1 $(462.9) $(157.7)
Accrued benefit liability................. (12.7) (1.3) -- --
Intangible asset.......................... 7.3 1.1 -- --
Accumulated other comprehensive income.... 3.4 0.1 -- --
-------- ------- ------- -------
Net amount recognized..................... $ 107.8 $ 20.0 $(462.9) $(157.7)
======== ======= ======= =======
47
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
At December 31, 1998, the assumed annual health care cost trend used in
measuring the APBO approximated 7.1% in 1998, declining to 6.7% in 1999 and to
an ultimate annual rate of 5.5% estimated to be achieved in 2009. Increasing
the assumed cost trend rate by 1% each year would have increased the APBO by
approximately 11.5% and 8.3% at December 31, 1998 and 1997, respectively.
Aggregate service and interest costs would have increased by approximately
13.3% for 1998 and 9.4% for 1997 and 1996.
18. Income Taxes
Under the liability method, deferred tax assets and liabilities are
determined based on differences between financial reporting and tax bases of
assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse. The
components of earnings (loss) before income taxes and extraordinary items
consisted of the following:
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Domestic.............................................. $(73.4) $50.1 $ (88.3)
International......................................... 258.9 49.4 (140.4)
------ ----- -------
$185.5 $99.5 $(228.7)
====== ===== =======
Significant components of the provision for income taxes (tax benefit) are
as follows:
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Current:
Federal............................................... $(12.1) $ 9.6 $ (4.0)
State and local....................................... 10.0 0.2 2.3
International......................................... 65.4 6.6 6.3
------ ----- ------
Total current....................................... 63.3 16.4 4.6
Deferred:
Federal................................................ 33.0 6.1 (25.2)
State and local........................................ 2.1 0.7 (1.8)
International.......................................... (4.8) 4.3 --
------ ----- ------
Total deferred...................................... 30.3 11.1 (27.0)
------ ----- ------
$ 93.6 $27.5 $(22.4)
====== ===== ======
The reconciliation of income taxes (tax benefit) computed at the United
States federal statutory tax rate to income tax expense (benefit) is:
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Income taxes (tax benefits) at United States
statutory rate.................................... $ 64.9 $34.9 $(80.1)
Tax effect from:
State income taxes................................ 7.9 0.8 0.7
Foreign operations, net of foreign tax credits.... 5.6 (2.7) 55.9
Sale of international retail/wholesale
operations....................................... (11.5) (6.8) --
Goodwill amortization............................. 19.7 -- --
Purchased in-process research and development..... 6.5 -- --
Tax credits and other............................. 0.5 1.3 1.1
------ ----- ------
$ 93.6 $27.5 $(22.4)
====== ===== ======
48
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
The following table summarizes the Company's total provision for income
taxes/(tax benefits):
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Income tax expense (benefit)......................... $ 93.6 $27.5 $(22.4)
Extraordinary items.................................. (19.8) (1.5) --
T&N Bearings Divestiture............................. 56.1 -- --
Allocated to equity:
Currency translation................................ 15.3 (3.6) (4.9)
Preferred dividends................................. (1.2) (1.3) (1.5)
Incentive stock plans............................... (3.9) (3.4) --
Investment securities............................... -- (0.6) 0.8
Other............................................... 0.2 1.2 0.7
------ ----- ------
$140.3 $18.3 $(27.3)
====== ===== ======
Significant components of the Company's deferred tax assets and liabilities
as of December 31 are as follows:
1998 1997
---- ----
(Millions of
Dollars)
Deferred tax assets:
Asbestos................................................. $ 429.1 $ --
Postemployment benefits.................................. 165.2 58.2
Net operating loss carryforwards of international
subsidiaries............................................ 121.5 45.0
Restructuring reserves................................... 98.8 --
Inventory basis.......................................... 34.2 10.3
Allowance for doubtful accounts.......................... 15.2 11.3
Other temporary differences.............................. 96.2 52.0
------- ------
Total deferred tax assets.............................. 960.2 176.8
Valuation allowance for deferred tax assets............... (66.2) (44.4)
------- ------
Net deferred tax assets................................ 894.0 132.4
------- ------
Deferred tax liabilities:
Fixed asset basis differences............................ (379.4) (50.5)
Intangible asset basis differences....................... (326.2) --
Deferred gains........................................... (130.0) --
Pension.................................................. (6.9) (17.3)
------- ------
Total deferred tax liabilities......................... (842.5) (67.8)
------- ------
$ 51.5 $ 64.6
======= ======
Deferred tax assets and liabilities are recorded in the consolidated balance
sheets as follows:
1998 1997
---- ----
(Millions of
Dollars)
Assets:
Prepaid expenses and income tax benefits................. $ 187.3 $ 46.6
Noncurrent assets........................................ -- 26.7
Liabilities:
Other current accrued liabilities........................ -- (4.2)
Other long-term accrued liabilities...................... (135.8) (4.5)
------- ------
$ 51.5 $ 64.6
======= ======
49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
Income taxes paid in 1998, 1997 and 1996 were $34.7 million, $2.6 million
and $6.7 million, respectively.
Undistributed earnings of the Company's international subsidiaries amounted
to approximately $229 million at December 31, 1998 and $77 million at December
31, 1997. Since these earnings are considered by the Company to be permanently
reinvested, no taxes were provided in 1998 or 1997. Upon distribution of these
earnings, the Company would be subject to United States income taxes and
foreign withholding taxes. Determining the unrecognized deferred tax liability
on the distribution of these earnings is not practicable as such liability, if
any, is dependent on circumstances existing when remittance occurs.
At December 31, 1998, the Company has $159 million in net operating loss
carryforwards in the United Kingdom and Germany with no expiration date or
valuation allowance. Also, the Company has $174 million of additional foreign
net operating loss carryforwards with a full valuation allowance and various
expiration dates. Included in the previous amounts are $145 million of net
operating loss carryforwards acquired with the purchases of T&N, Cooper
Automotive and Fel-Pro. A valuation allowance was recorded on $64 million of
these purchased net operating loss carryforwards, thereby increasing the
balance in the valuation allowance reserve for 1998. The reduction in these
valuation allowances, if any, will be applied to reduce goodwill related to
the respective acquisitions.
19. Operations By Industry Segment and Geographic Area
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131 (Statement 131), Disclosures about
Segments of an Enterprise and Related Information, for the year ended December
31, 1998. Statement 131 established standards for reporting information about
operating segments in annual financial statements and requires selected
information about operating segments in interim financial reports issued to
stockholders. It also established standards for related disclosures about
products, services and geographic areas. Operating segments are defined as
components of an enterprise about which separate financial information is
available that is evaluated regularly by the Company, in deciding how to
allocate resources and in assessing performance.
The Company operates in three fundamental business segments (excluding
Divested Activities): Powertrain Systems, Sealing Systems and General
Products.
Powertrain Systems, which consist of internal engine components directly
involved in creating a vehicle's movement. These components consist primarily
of engine bearings, bushings, pistons, piston pins, rings, liners and ignition
products.
Sealing Systems, which provide for the encapsulation of fluids and gases
from the engine, transmission and axle and also prevent external objects from
entering the systems. They consist of dynamic seals (found between components
that move in relation to one another) and gaskets (located between components
that are static in relation to one another).
General Products, which consist of the Company's remaining product lines,
primarily camshafts, sintered products (engine components made from powdered
metal), chassis components and systems protection products (used for shielding
against heat, noise, abrasion and stone impingement) and friction products.
Divested Activities include the historical operating results and assets of
aftermarket operations in South Africa, Australia, Chile and its heavy wall
bearing operations in Germany and Brazil which were sold or closed in 1997.
During 1996, the Company divested its United States ball bearings and
electrical products manufacturing operations. In addition, the Company
divested its minority interest in G. Bruss GmbH & Co. (refer to Note 3, "Sales
of Businesses").
50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
The accounting policies of the business segments are consistent with those
described in the summary of significant accounting policies. The Company
evaluates segmental performance based on several factors, including both
Economic Value Added (EVA) and Operational EBIT, as defined as Operational
Earnings before certain nonrecurring items (such as certain purchase
accounting adjustments and integration costs associated with new
acquisitions), interest and income taxes. Pursuant to Statement 131,
Operational EBIT for each segment is shown below, as it is most consistent
with the measurement principles used in measuring the corresponding amounts in
the consolidated financial statements.
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Net Sales:
Powertrain Systems................................ $1,883 $ 782 $ 739
Sealing Systems................................... 925 333 295
General Products.................................. 1,636 577 665
Divested Activities............................... 25 115 334
------ ------ ------
Total........................................... $4,469 $1,807 $2,033
====== ====== ======
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Operational EBIT:
Powertrain Systems................................ $ 223 $ 68 $ 75
Sealing Systems................................... 133 26 9
General Products.................................. 154 44 31
Divested Activities............................... (8) 1 (22)
------ ------ ------
Total........................................... $ 502 $ 139 $ 93
====== ====== ======
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Reconciliation:
Total segments operational EBIT................... $ 502 $ 139 $ 93
Net interest and other financing costs............ (233) (29) (39)
Restructuring, impairment and other special
charges.......................................... (20) (10) (283)
Acquisition related costs......................... (63) -- --
------ ------ ------
Earnings (loss) before income taxes and
extraordinary item............................. $ 186 $ 100 $ (229)
====== ====== ======
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Assets:
Powertrain Systems................................ $3,590 $ 786 $ 608
Sealing Systems................................... 1,640 382 243
General Products.................................. 4,687 508 456
Divested Activities............................... 23 126 148
------ ------ ------
Total........................................... $9,940 $1,802 $1,455
====== ====== ======
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Capital Expenditures:
Powertrain Systems........................................... $116 $28 $25
Sealing Systems.............................................. 33 13 10
General Products............................................. 80 9 10
Divested Activities.......................................... -- -- 9
---- --- ---
Total...................................................... $229 $50 $54
==== === ===
1998 1997 1996
---- ---- ----
(Millions of
Dollars)
Depreciation and Amortization:
Powertrain Systems........................................... $104 $28 $27
Sealing Systems.............................................. 43 11 10
General Products............................................. 81 12 14
Divested Activities.......................................... -- 1 11
---- --- ---
Total...................................................... $228 $52 $62
==== === ===
Included in the consolidated financial statements are amounts relating to
geographic locations listed below. This geographic information is based on the
location of Federal-Mogul operations.
Net Property,
Plant
Net Sales and Equipment
-------------------- ----------------
1998 1997 1996 1998 1997 1996
---- ---- ---- ---- ---- ----
(Millions of Dollars)
United States............................. $2,345 $1,111 $1,177 $1,422 $166 $169
Mexico.................................... 124 87 73 30 7 7
Canada.................................... 76 58 57 39 1 1
------ ------ ------ ------ ---- ----
Total North America.................... 2,545 1,256 1,307 1,491 174 177
United Kingdom............................ 516 21 18 312 9 11
Germany................................... 478 126 175 318 105 127
France.................................... 327 33 35 113 9 10
Italy..................................... 200 71 81 77 9 11
Other Europe.............................. 188 117 122 62 3 4
------ ------ ------ ------ ---- ----
Total Europe........................... 1,709 368 431 882 135 163
Rest of World............................. 215 183 295 104 5 10
------ ------ ------ ------ ---- ----
Total.................................. $4,469 $1,807 $2,033 $2,477 $314 $350
====== ====== ====== ====== ==== ====
20. Litigation and Environmental Matters
T&N Asbestos Litigation
In the United States, the Company's United Kingdom subsidiary, T&N Ltd., and
two of T&N's United States subsidiaries (the "T&N Companies") are among many
defendants named in numerous court actions alleging personal injury resulting
from exposure to asbestos or asbestos-containing products. T&N is also subject
to asbestos-disease litigation, to a lesser extent, in the United Kingdom and
to property damage litigation in the United States based upon asbestos
products allegedly installed in buildings. Because of the slow onset of
asbestos-related diseases, management anticipates that similar claims will be
made in the future. It is not known how many such claims may be made nor the
expenditure which may arise therefrom. As of December 31, 1998,
52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
the Company has provided approximately $1.3 billion as its best estimate for
future costs related to resolving asbestos claims. The Company estimates
claims will be filed and paid in excess of the next 20 years. This estimate is
based in part on recent and historical claims experience, medical information
and the current legal environment.
As of December 31, 1998, the T&N Companies had approximately 105,000 claims
pending. During 1998, approximately 85,000 new claims were filed and 54,000
claims were settled, dismissed or otherwise resolved. In addition to the
pending cases above, the T&N Companies have approximately 41,000 claims that
have been settled but will be paid over time. There are a number of factors
that could impact the settlement costs into the future, including but not
limited to: changes in legal environment; possible insolvency of co-
defendants; and the establishment of an acceptable administrative (non-
litigation) claims resolution mechanism.
As of December 31, 1998, T&N is one of a large number of defendants named in
three pending property damage cases pending in two jurisdictions. Provision
has been made in the asbestos reserve for anticipated expenditures in relation
to such cases.
The $1.3 billion total provision held for the T&N Companies is comprised of
an estimate for known claims (pending and settled but not paid) and possible
future claims (IBNR). As of December 31, 1998, the $1.3 billion total
provision is comprised of approximately $460 million related to known claims
and approximately $840 million related to IBNR claims.
In arriving at the IBNR provision, assumptions have been made regarding the
total number of claims which it is anticipated may be received in the future,
the typical cost of settlement (which is sensitive to the industry in which
the plaintiff claims exposure, the alleged disease type and the jurisdiction
in which the action is being brought), the rate of receipt of claims and the
timing of settlement and, in the United Kingdom, the level of subrogation
claims brought by insurance companies.
The T&N Companies have appointed the Center for Claims Resolution (CCR) as
their exclusive representative in relation to all asbestos-related personal
injury claims made against the T&N Companies in the United States. The CCR
provides to its 20 member companies a litigation defense, claims-handling and
administration service in respect to United States asbestos-related disease
claims. Pursuant to the CCR Producer Agreement, T&N is entitled to appoint a
representative as one of the five voting directors on the CCR's Board of
Directors. Members of the CCR contribute towards indemnity payments in each
claim in which the member is named. Contributions to such indemnity payments
are calculated on a case by case basis according to sharing agreements among
the CCR's members.
In 1996, T&N purchased a (Pounds)500 million (approximately $845 million at
the insurance agreement exchange rate of $1.69/(Pounds)) layer of insurance
which will be triggered should the aggregate amount of claims filed after June
30, 1996, where the exposure occurred prior to that date, exceed (Pounds)690
million (approximately $1,166 million at the $1.69/(Pounds) exchange rate).
The Company's reserve for claims filed after June 30, 1996, approximates to
the trigger point of the insurance.
The Company has reviewed the financial viability and legal obligations of
the three reinsurance companies involved and has concluded at this time that
there is little risk of the reinsurers not being able to meet their obligation
to pay, should the claims filed after June 30, 1996 exceed the (Pounds)690
million trigger point.
While management believes that reserves are appropriate for anticipated
losses arising from T&N's asbestos-related claims, given the nature and
complexity of the factors affecting the estimated liability, the actual
liability may differ. No absolute assurances can be given that T&N will not be
subject to material additional liabilities and significant additional
litigation relating to asbestos. In the possible, but unlikely, event that
such liabilities exceed the reserves recorded by the Company and the
additional (Pounds)500 million of insurance coverage,
53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
the Company's results of operations, business, liquidity and financial
condition could be materially adversely affected. The T&N Companies reserves
will be reevaluated periodically as additional information becomes available.
Federal-Mogul, Fel-Pro and Cooper Automotive Asbestos Litigation
The Company also is one of a large number of defendants in a number of
lawsuits brought by claimants alleging injury due to exposure to asbestos.
Fel-Pro has been named as a defendant in a number of product liability cases
involving asbestos, primarily involving gasket or packing products sold to
ship owners. In addition, subsidiaries of Cooper Automotive have been named as
defendants in a number of product liability cases involving asbestos,
primarily involving friction products. The Company is defending all such
claims vigorously and believes that it, Fel-Pro and the Cooper Automotive
subsidiaries have substantial defenses to liability and adequate insurance
coverage for defense and indemnity. While the outcome of litigation cannot be
predicted with certainty, management believes that asbestos claims pending
against the Company, Fel-Pro and the Cooper Automotive subsidiaries as of
December 31, 1998, will not have a material effect on the Company's financial
position. At December 31, 1998, approximately $20 million in related reserves
have been provided in respect of the possible uninsured portion of the
expenditures on asbestos claims pending against the Company, Fel-Pro and the
Cooper Automotive subsidiaries.
Other
The Company is involved in various other legal actions and claims, directly
and through its subsidiaries (including T&N Limited and Fel-Pro). After taking
into consideration legal counsel's evaluation of such actions, management is
of the opinion that its outcomes are not reasonably likely to have a material
adverse affect on the Company's financial position, operating results or cash
flows.
The Company is a defendant in lawsuits filed in various jurisdictions
pursuant to the federal Comprehensive Environmental Response Compensation and
Liability Act of 1980 (CERCLA) or other similar federal or state environmental
laws which require responsible parties to pay for cleaning up contamination
resulting from hazardous wastes which were discharged into the environment by
them or by others to which they sent such wastes for disposition. In addition,
the Company has been notified by the United States Environmental Protection
Agency and various state agencies that it may be a potentially responsible
party (PRP) under such law for the cost of cleaning up certain other hazardous
waste storage or disposal facilities pursuant to CERCLA and other federal and
state environmental laws. PRP designation requires the funding of site
investigations and subsequent remedial activities. At most of the sites that
are likely to be costliest to clean up, which are often current or former
commercial waste disposal facilities to which numerous companies sent waste,
the Company's exposure is expected to be limited. Despite the joint and
several liability which might be imposed on the Company under CERLCA and some
of the other laws pertaining to these sites, the Company's share of the total
waste is usually quite small; the other companies which also sent wastes,
often numbering in the hundreds or more, generally include large, solvent
publicly owned companies; and in most such situations the government agencies
and courts have imposed liability in some reasonable relationship to
contribution of waste. In addition, the Company has identified certain present
and former properties at which it may be responsible for cleaning up
environmental contamination. The Company is actively seeking to resolve these
matters. Although difficult to quantify based on the complexity of the issues,
the Company has accrued the estimated cost associated with such matters based
upon current available information from site investigations and consultants.
The environmental and legal reserve was approximately $50 million at December
31, 1998 and $11 million at December 31, 1997. The majority of the 1998
increase is attributable to the acquisitions of T&N and Cooper Automotive.
Management believes that such accruals will be adequate to cover the Company's
estimated liability for its exposure in respect of such matters.
54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
21. Quarterly Financial Data (Unaudited)
First(1) Second(2) Third(3) Fourth(4) Year
-------- --------- -------- --------- ----
(Millions of Dollars, Except Per Share
Amounts)
Year ended December 31, 1998:
Net sales..................... $658.0 $1,214.0 $1,121.2 $1,475.5 $4,468.7
Gross margin.................. 161.3 317.4 292.9 406.9 1,178.5
Net earnings before
extraordinary items.......... (7.2) 28.4 34.6 36.1 91.9
Extraordinary item--loss on
early retirement of debt, net
of tax benefit............... -- (31.3) -- (6.9) (38.2)
Net earnings (loss)........... (7.2) (2.9) 34.6 29.2 53.7
Diluted earnings per share.... (.20) (.07) .58 .48 .96
Stock price
High.......................... $54.37 $ 69.25 $ 72.00 $ 63.00
Low........................... $39.00 $ 52.62 $ 46.62 $ 33.00
First Second(5) Third Fourth(6) Year
----- --------- ----- --------- ----
(Millions of Dollars, Except Per Share
Amounts)
Year ended December 31, 1997:
Net sales..................... $485.6 $ 481.8 $ 424.2 $ 415.0 $1,806.6
Gross margin.................. 112.1 115.3 102.8 94.6 424.8
Net earnings before
extraordinary item........... 13.9 28.5 17.4 12.2 72.0
Extraordinary item--loss on
early retirement of debt, net
of tax benefit............... -- (2.6) -- -- (2.6)
Net earnings.................. 13.9 25.9 17.4 12.2 69.4
Diluted earnings per share.... .32 .61 .40 .28 1.61
Stock price
High.......................... $26.75 $ 35.38 $ 39.94 $ 47.63
Low........................... $21.63 $ 24.50 $ 32.75 $ 36.75
- - ------------------
Dividends on the capital stock of the Company are payable at the discretion of
the Company's Board of Directors. In May 1998, the Board of Directors reduced
the quarterly dividend from $.12 per share and subsequently declared cash
dividends payable in the second, third and fourth quarters of 1998 in the
amount of $.0025 per share of common stock. The Company, consistent with its
growth strategy, intends to retain future earnings in the business and
therefore anticipates paying dividends at a comparable level in the
foreseeable future.
(1) Includes an $18.6 million charge for purchased in-process research and
development, a $10.5 million restructuring charge, a $19.0 million net
charge for an adjustment of assets held for sale and other long-lived
assets to fair value and $1.0 million of integration costs.
(2) Includes $3.7 million of integration costs.
(3) Includes $9.0 million of integration costs and a $6.6 million
restructuring credit.
(4) Includes a $3.4 million net restructuring charge and $8.7 million of
integration costs.
(5) Includes an income tax benefit of $6.8 million related to the sales of the
South African and Australian businesses.
(6) Includes $1.1 million for a net restructuring credit, a $2.4 million
charge for adjustment of assets held for sale to fair value, a $1.6
million credit for reengineering and other related charges, and a $10.5
million charge related to the British pound currency option.
55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
22. CONSOLIDATING CONDENSED FINANCIAL INFORMATION OF GUARANTOR SUBSIDIARIES
Certain subsidiaries of the Company (as listed below, collectively the
"Guarantor Subsidiaries") have guaranteed fully and unconditionally, on a
joint and several basis, the obligation to pay principal and interest under
the Company's Senior Credit Agreement with the Chase Manhattan Bank, NA
("Chase").
T&N HOLDING COMPANIES
Federal-Mogul Dutch Holdings Inc.
Federal-Mogul UK Holdings Inc.
Federal-Mogul UK Holdings Limited
Federal-Mogul Global Inc.
FEDERAL-MOGUL SUBSIDIARIES
Federal-Mogul Venture Corporation
Federal-Mogul Global Properties Inc.
Carter Automotive Company
Federal-Mogul Worldwide Inc.
COOPER AUTOMOTIVE SUBSIDIARIES
Federal-Mogul Ignition Company
Federal-Mogul Products, Inc.
Federal-Mogul Aviation, Inc.
The Company issued notes in 1998 which are guaranteed by the Guarantor
Subsidiaries. The Guarantor Subsidiaries also guarantee the Company's
previously existing publicly registered Medium-term notes and Senior notes.
The T&N Holding Companies (as listed above) are wholly owned subsidiaries of
the Company and were incorporated in January 1998 in order to effectuate the
Company's acquisition of T&N plc. These subsidiaries have no operations and
act solely as holding companies of subsidiaries which have guaranteed fully
and unconditionally on a joint and several basis, the obligation to pay
principal and interest of the Notes, Medium-term notes and Senior notes. (the
"Guarantees").
In addition, certain other wholly owned subsidiaries of the Company, the
Federal-Mogul Subsidiaries (as listed above), will provide the Guarantees. The
Federal-Mogul Subsidiaries are included in the Company's consolidated
financial statements for all periods.
The Cooper Automotive Subsidiaries (as listed above) acquired on October 9,
1998, are wholly owned subsidiaries of the Company and also will provide the
Guarantees.
In lieu of providing separate audited financial statements for the Guarantor
Subsidiaries, the Company has included the accompanying audited consolidating
condensed financial statements based on the Company's understanding of the
Securities and Exchange Commission's interpretation and application of Rule 3-
10 of the Securities and Exchange Commission's Regulation S-X and Staff
Accounting Bulletin 53. Management does not believe that separate financial
statements of the Guarantor Subsidiaries are material to investors. Therefore,
separate financial statements and other disclosures concerning the Guarantor
Subsidiaries are not presented.
56
FEDERAL-MOGUL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED STATEMENT OF OPERATIONS
December 31, 1998
(Millions of Dollars)
(Unconsolidated)
------------------------------------
Guarantor Non-Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
-------- ------------ ------------- ------------ ------------
Net sales............... $1,285.7 $ 437.4 $2,896.2 $(150.6) $4,468.7
Cost of products sold... 907.8 309.1 2,223.9 (150.6) 3,290.2
-------- ------- -------- ------- --------
Gross margin.......... 377.9 128.3 672.3 -- 1,178.5
Selling, general and
administrative
expenses............... 293.9 74.8 272.1 -- 640.8
Amortization............ 21.5 9.1 53.2 -- 83.8
Purchased in-process
research and
development charge..... -- -- 18.6 -- 18.6
Restructuring charges .. 7.3 -- -- 7.3
Adjustment of assets
held for sale and other
long-lived assets to
fair value............. 19.0 -- -- 19.0
Integration costs....... 5.5 -- 16.9 -- 22.4
Interest expense........ 215.0 1.5 221.4 (233.9) 204.0
Interest income......... (60.8) (107.2) (76.5) 233.9 (10.6)
International currency
exchange (losses)...... 1.0 1.1 2.6 -- 4.7
Net (gain) loss on
British pound currency
option and forward
contract............... (13.3) -- -- -- (13.3)
Other expense (income),
net.................... (1.4) (22.2) 39.9 -- 16.3
-------- ------- -------- ------- --------
Earnings (loss) before
income taxes and
extraordinary items.. (109.8) 171.2 124.1 -- 185.5
Income tax expense ..... 20.6 1.3 71.7 -- 93.6
-------- ------- -------- ------- --------
Net earnings (loss)
before extraordinary
item................. (130.4) 169.9 52.4 -- 91.9
Extraordinary items--
loss on early
retirement of debt, net
of applicable income
tax benefit............ 19.3 -- 18.9 -- 38.2
-------- ------- -------- ------- --------
Net earnings (loss)
before equity in
earnings (loss) of
subsidiaries......... $ (149.7) $ 169.9 $ 33.5 $ -- $ 53.7
Equity in earnings
(loss) of
subsidiaries........... 203.4 74.7 -- (278.1) --
-------- ------- -------- ------- --------
Net earnings............ $ 53.7 $ 244.6 $ 33.5 $(278.1) $ 53.7
======== ======= ======== ======= ========
57
FEDERAL-MOGUL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED STATEMENT OF OPERATIONS
DECEMBER 31, 1997
(MILLIONS OF DOLLARS)
(UNCONSOLIDATED)
---------------------- NON-
GUARANTOR GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------ ------------ ------------
Net sales............... $1,092.4 $ -- $776.3 $(62.1) $1,806.6
Cost of products sold... 839.4 -- 604.5 (62.1) 1,381.8
-------- ----- ------ ------ --------
Gross margin.......... 253.0 -- 171.8 -- 424.8
Selling, general and
administrative
expenses............... 178.8 (0.2) 97.4 -- 276.0
Amortization............ 7.8 1.1 -- 8.9
Restructuring credits... (1.1) -- -- (1.1)
Reengineering and other
related charges
(credits).............. (1.6) -- -- -- (1.6)
Adjustment of assets
held for sale and other
long-lived assets to
fair value............. 2.4 -- -- 2.4
Interest expense........ 27.5 9.8 (4.0) 33.3
Interest income......... (11.1) 4.0 (7.1)
International currency
exchange (losses)...... 9.7 -- (9.1) -- 0.6
Net (gain) loss on
British pound currency
option and forward
contract............... 10.5 -- -- -- 10.5
Other expense (income),
net.................... 16.1 (15.5) 2.8 -- 3.4
-------- ----- ------ ------ --------
Earnings (loss) before
income taxes and
extraordinary items.. 14.0 15.7 69.8 -- 99.5
Income tax expense ..... 5.8 5.3 16.4 -- 27.5
-------- ----- ------ ------ --------
Net earnings (loss)
before extraordinary
item................. 8.2 10.4 53.4 -- 72.0
Extraordinary items--
loss on early
retirement of debt, net
of applicable income
tax benefit............ 2.6 -- -- -- 2.6
-------- ----- ------ ------ --------
Net earnings before
equity in earnings
(loss) of
subsidiaries......... $ 5.6 $10.4 $ 53.4 $ -- $ 69.4
Equity in earnings
(loss) of
subsidiaries........... 63.8 -- -- (63.8) --
-------- ----- ------ ------ --------
Net earnings............ $ 69.4 $10.4 $ 53.4 $(63.8) $ 69.4
======== ===== ====== ====== ========
58
FEDERAL-MOGUL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED STATEMENT OF OPERATIONS
DECEMBER 31, 1996
(MILLIONS OF DOLLARS)
(UNCONSOLIDATED)
---------------------- NON-
GUARANTOR GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------ ------------ ------------
Net sales............... $1,200.0 $ -- $898.6 $(65.9) $2,032.7
Cost of products sold... 1,027.5 0.4 698.5 (65.9) 1,660.5
-------- ------ ------ ------ --------
Gross margin.......... 172.5 (0.4) 200.1 -- 372.2
Selling, general and
administrative
expenses............... 196.7 -- 123.3 -- 320.0
Amortization............ 10.0 -- 2.0 -- 12.0
Restructuring charges .. 57.6 -- -- -- 57.6
Reengineering and other
related charges
(credits).............. 11.4 -- -- -- 11.4
Adjustment of assets
held for sale and other
long-lived assets to
fair value............. 151.3 -- -- 151.3
Interest expense........ 33.0 -- 20.3 (8.9) 44.4
Interest income......... (11.8) -- -- 8.9 (2.9)
International currency
exchange (losses)...... 2.4 1.3 -- 3.7
Other expense (income),
net.................... (18.8) (17.3) 39.5 -- 3.4
-------- ------ ------ ------ --------
Earnings (loss) before
income taxes and
extraordinary items.. (259.3) 16.9 13.7 -- (228.7)
Income tax expense
(benefit).............. (50.9) 5.7 22.8 -- (22.4)
-------- ------ ------ ------ --------
Net earnings (loss)
before equity in
earnings (loss) of
subsidiaries......... $ (208.4) $ 11.2 $ (9.1) $ -- $ (206.3)
Equity in earnings
(loss) of
subsidiaries........... 2.1 -- -- (2.1) --
-------- ------ ------ ------ --------
Net earnings............ $ (206.3) $ 11.2 $ (9.1) $ (2.1) $ (206.3)
======== ====== ====== ====== ========
59
FEDERAL-MOGUL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED BALANCE SHEET
DECEMBER 31, 1998
(MILLIONS OF DOLLARS)
(UNCONSOLIDATED)
---------------------- NON-
GUARANTOR GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
-------- ------------ ------------ ------------ ------------
ASSETS
Cash and equivalents.... $ 25.3 $ 20.7 $ 31.2 -- $ 77.2
Accounts receivable..... 13.9 395.9 615.2 -- 1,025.0
Investment in accounts
receivable
securitization......... -- -- 91.1 -- 91.1
Inventories............. 186.8 441.2 440.6 -- 1,068.6
Prepaid expenses and
income tax benefits.... 52.9 174.9 109.9 -- 337.7
-------- -------- -------- --------- --------
Total current assets.... 278.9 1,032.7 1,288.0 -- 2,599.6
Property, plant and
equipment.............. 230.0 684.7 1,562.8 -- 2,477.5
Goodwill................ 589.4 676.4 2,132.6 -- 3,398.4
Other intangible
assets................. 44.6 423.6 418.2 -- 886.4
Investment in
subsidiaries........... 5,114.7 1,666.7 -- (6,781.4) --
Intercompany accounts,
net.................... (515.2) 1,208.2 (693.0) -- --
Other non current
assets................. 103.0 51.9 423.3 -- 578.2
-------- -------- -------- --------- --------
Total Assets............ $5,845.4 $5,744.2 $5,131.9 $(6,781.4) $9,940.1
======== ======== ======== ========= ========
LIABILITIES
Short-term debt,
including current
portion of long-term
debt................... $ 90.7 $ 16.0 $ 104.3 -- $ 211.0
Accounts payable........ 82.0 149.5 266.9 -- 498.4
Accrued compensation.... 71.9 117.0 11.4 -- 200.3
Restructuring and
rationalization
reserves............... 5.8 -- 173.1 -- 178.9
Current portion of
asbestos liability..... -- -- 125.0 -- 125.0
Income taxes payable.... 21.7 24.3 96.2 -- 142.2
Other accrued
liabilities............ 271.4 115.7 286.6 -- 673.7
-------- -------- -------- --------- --------
Total current
liabilities............ 543.5 422.5 1,063.5 -- 2,029.5
Long-term debt.......... 3,077.2 1.2 52.3 -- 3,130.7
Long-term portion of
asbestos liability..... -- 20.0 1,156.7 -- 1,176.7
Postemployment
benefits............... 218.2 207.6 251.2 -- 677.0
Other accrued
liabilities............ 12.2 255.0 59.8 -- 327.0
Minority interest in
consolidated
subsidiaries........... 8.1 1.5 28.4 -- 38.0
Company-obligated
mandatorily redeemable
preferred securities of
solely convertible
subordinated debentures
of the Company......... -- -- 575.0 -- 575.0
Shareholders' equity.... 1,986.2 4,836.4 1,945.0 (6,781.4) 1,986.2
-------- -------- -------- --------- --------
Total Liabilities and
Shareholders' Equity... $5,845.4 $5,744.2 $5,131.9 $(6,781.4) $9,940.1
======== ======== ======== ========= ========
60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED BALANCE SHEET
December 31, 1997
(Millions of Dollars)
(Unconsolidated)
--------------------
Non-
Guarantor Guarantor
Parent Subsidiaries Subsidiaries Eliminations Consolidated
------ ------------ ------------ ------------ ------------
ASSETS
Cash and equivalents.... $504.9 $ 0.1 $ 36.4 -- $ 541.4
Accounts receivable..... 47.1 -- 111.8 -- 158.9
Investment in accounts
receivable
securitization......... -- -- 48.7 -- 48.7
Inventories............. 166.3 -- 110.7 -- 277.0
Prepaid expenses and
income tax benefits.... 99.9 -- 13.3 -- 113.2
------ ----- -------- ------- --------
Total current assets.... 818.2 0.1 320.9 -- 1,139.2
Property, plant and
equipment.............. 162.5 2.0 149.4 -- 313.9
Goodwill................ 107.0 -- 36.8 -- 143.8
Other intangible
assets................. 28.3 -- 20.1 -- 48.4
Investment in
subsidiaries........... 503.1 5.8 (508.9) --
Intercompany accounts,
net.................... (702.8) 9.7 693.1 -- --
Other non current
assets................. 61.9 -- 94.9 -- 156.8
------ ----- -------- ------- --------
Total Assets............ $978.2 $17.6 $1,315.2 $(508.9) $1,802.1
====== ===== ======== ======= ========
LIABILITIES
Short-term debt,
including current
portion of long-term
debt................... $ 16.8 $ -- $ 11.8 $ -- $ 28.6
Accounts payable........ 60.5 -- 41.8 -- 102.3
Accrued compensation.... 27.7 -- 9.1 -- 36.8
Restructuring and
rationalization
reserves............... 22.3 -- 11.6 -- 33.9
Income taxes payable.... 10.2 -- -- -- 10.2
Other accrued
liabilities............ 27.1 13.3 77.4 -- 117.8
------ ----- -------- ------- --------
Total current
liabilities............ 164.6 13.3 151.7 -- 329.6
Long-term debt.......... 266.7 -- 6.4 -- 273.1
Postemployment
benefits............... 164.0 -- 26.9 -- 190.9
Other accrued
liabilities............ -- 50.6 -- 50.6
Minority interest in
consolidated
subsidiaries........... 13.6 -- -- -- 13.6
Company-obligated
mandatorily redeemable
preferred securities of
solely convertible
subordinated debentures
of the Company......... -- 575.0 -- 575.0
Shareholders' equity.... 369.3 4.3 504.6 (508.9) 369.3
------ ----- -------- ------- --------
Total Liabilities and
Shareholders' Equity... $978.2 $17.6 $1,315.2 $(508.9) $1,802.1
====== ===== ======== ======= ========
61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS
DECEMBER 31, 1998
(MILLIONS OF DOLLARS)
(UNCONSOLIDATED)
----------------------- NON-
GUARANTOR GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS CONSOLIDATED
--------- ------------ ------------ ------------ ------------
Net Cash Provided From
Operating
Activities........... $ 131.5 $ 122.0 $ 72.0 $ -- $ 325.5
Expenditures for
property, plant and
equipment.............. (37.4) (7.6) (183.5) -- (228.5)
Proceeds from sale of
business investments... 3.8 -- 49.6 -- 53.4
Proceeds from sale of
options................ -- -- 39.1 -- 39.1
Business acquisitions,
net of cash acquired... (2,369.7) -- (1,855.5) -- (4,225.2)
--------- -------- --------- -------- ---------
Net Cash Used By
Investing
Activities........... (2,403.3) (7.6) (1,950.3) -- (4,361.2)
Issuance of common
stock.................. 1,382.2 -- -- -- 1,382.2
Proceeds from issuance
of long-term debt...... 6,197.5 -- -- -- 6,197.5
Principal payments on
long-term debt......... (3,678.7) (0.3) (248.6) -- (3,927.6)
Increase (decrease) in
short-term debt........ 73.9 10.5 (83.9) -- 0.5
Fees paid for debt
issuance and other
securities............. (76.6) -- -- -- (76.6)
Fees for early
retirement of debt..... -- -- (27.4) -- (27.4)
Change in intercompany
accounts............... 16.4 (1,689.2) 1,672.8 -- --
Contributions paid to
affiliates............. (2,150.1) (565.4) -- 2,715.5 --
Contributions received
from affiliates........ -- 2,150.1 565.4 (2,715.5) --
Investment in accounts
receivable
securitization......... 42.6 -- -- -- 42.6
Dividends............... (10.4) -- -- -- (10.4)
Other................... (4.6) 0.5 (5.2) -- (9.3)
--------- -------- --------- -------- ---------
Net Cash Provided From
(Used By) Financing
Activities........... 1,792.2 (93.8) 1,873.1 -- 3,571.5
--------- -------- --------- -------- ---------
Net Increase
(Decrease) in Cash... $ (479.6) $ 20.6 $ (5.2) $ -- $ (464.2)
========= ======== ========= ======== =========
62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS
DECEMBER 31, 1997
(MILLIONS OF DOLLARS)
(UNCONSOLIDATED)
-----------------------
GUARANTOR NON-GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES CONSOLIDATED
--------- ------------ ------------- ------------
Net Cash Provided From Op-
erating
Activities............... $ (23.2) $ 5.9 $ 233.0 $ 215.7
Expenditures for property,
plant and equipment........ (24.7) -- (25.0) (49.7)
Proceeds from sale of
business investments....... 61.5 -- 12.1 73.6
Business acquisitions, net
of cash acquired........... -- -- (30.5) (30.5)
Other....................... -- -- 1.1 1.1
--------- ------ ------- -------
Net Cash Used By Investing
Activities............... 36.8 -- (42.3) (5.5)
Issuance of common stock.... 14.2 -- -- 14.2
Proceeds from issuance of
long-term debt............. 179.6 -- -- 179.6
Principal payments on long-
term debt.................. (97.8) -- (29.6) (127.4)
Increase (decrease) in
short-term debt............ (227.4) -- (8.4) (235.8)
Fees paid for debt issuance
and other securities....... (42.8) -- -- (42.8)
Fees for early retirement of
debt....................... -- -- (4.1) (4.1)
Change in intercompany
accounts................... 675.2 2.6 (677.8) --
Investment in accounts
receivable securitization.. (31.8) -- -- (31.8)
Issuance of Company-
obligated mandatorily
redeemable preferred
securities................. -- -- 575.0 575.0
Dividends................... (12.0) (8.5) (4.3) (24.8)
Other....................... -- -- (4.0) (4.0)
--------- ------ ------- -------
Net Cash Provided From
(Used By) Financing
Activities............... 457.2 (5.9) (153.2) 298.1
--------- ------ ------- -------
Net Increase (Decrease) in
Cash..................... $ 470.8 -- $ 37.5 $ 508.3
========= ====== ======= =======
63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS
DECEMBER 31, 1996
(MILLIONS OF DOLLARS)
(UNCONSOLIDATED)
----------------------
GUARANTOR NON-GUARANTOR
PARENT SUBSIDIARIES SUBSIDIARIES CONSOLIDATED
-------- ------------ ------------- ------------
Net Cash Provided From
Operating Activities........ $ (72.7) $ 4.3 $217.4 $ 149.0
Expenditures for property,
plant and equipment......... (24.7) -- (29.5) (54.2)
Proceeds from sale of
business investments........ 42.0 -- -- 42.0
Business acquisitions, net of
cash acquired............... -- -- (.3) (0.3)
-------- ----- ------ -------
Net Cash Used By Investing
Activities................ 17.3 -- (29.8) (12.5)
Issuance of common stock..... 0.6 -- -- 0.6
Principal payments on long-
term debt................... (26.4) -- (3.0) (29.4)
Increase (decrease) in short-
term debt................... (33.5) -- (27.9) (61.4)
Change in intercompany
accounts.................... 151.3 4.0 (155.3) --
Dividends.................... (23.8) (8.3) 5.2 (26.9)
Other........................ -- -- (5.7) (5.7)
-------- ----- ------ -------
Net Cash Provided From
(Used By) Financing
Activities................ 68.2 (4.3) (186.7) (122.8)
-------- ----- ------ -------
Net Increase (Decrease) in
Cash...................... $ 12.8 $ -- $ 0.9 $ 13.7
======== ===== ====== =======
64
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Concluded
23. Subsequent Events
On January 7, 1999, the Company announced that it has agreed to acquire the
piston division of Alcan Deutschland GmbH in Germany, a subsidiary of Alcan
Aluminum Limited in Canada. Alcan's piston division manufactures high quality
pistons for passenger cars and commercial vehicles under the highly regarded
Nural brand name. The piston division employs approximately 1,100 people at
its manufacturing facility in Nuremberg, Germany with annual sales in excess
of $150 million.
On January 14, 1999, the Company issued $1.0 billion of bonds with
maturities ranging from seven to ten years, a weighted average yield of 7.53%
and a weighted average coupon of 7.45%. Proceeds were used to repay borrowings
under the Senior Credit Agreements. As a result of this transaction, the
Company will recognize an extraordinary charge in the first quarter of 1999 of
approximately $8 million, net of tax, related to early extinguishment of debt.
On January 20, 1999, the Company completed its acquisition of two camshaft
machining plants from Crane Technologies Group Inc. to expand the capacity of
its automotive products lines. The two plants located in Orland, Indiana and
Jackson, Michigan employ approximately 230 people and have annual sales of
approximately $36 million.
On February 24, 1999, the Company entered into a new $1.75 billion Senior
Credit Agreement at variable interest rates which contains a $1.0 billion
multicurrency revolving credit facility and two term loan components. The
revolving credit facility has a five-year maturity. The term loan components
of $400 million and $350 million mature in five and six years, respectively.
The proceeds of this Senior Credit Agreement were used to refinance the prior
Senior Credit Agreements entered into in connection with the T&N and Cooper
Automotive acquisitions as well as the $400 million multicurrency revolving
credit facility related to the T&N acquisition.
As a result of these transactions, the Company will recognize an
extraordinary charge in the first quarter of 1999 of approximately $15
million, net of tax, related to early extinguishment of debt.
On February 24, 1999, all outstanding shares of the Company's Series E Stock
were exchanged into shares of the Company's common stock. Each of the 607,745
remaining shares of the Series E Stock were exchanged into five shares of the
Company's common stock.
65
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
To Our Shareholders:
The management of Federal-Mogul has the responsibility for preparing the
accompanying financial statements and for their integrity and objectivity. The
financial statements were prepared in accordance with generally accepted
accounting principles and include amounts based on the best estimates and
judgments of management. Management also prepared the other financial
information in this report and is responsible for its accuracy and consistency
with the financial statements. Federal-Mogul has retained independent
auditors, ratified by election by the shareholders, to audit the financial
statements.
Federal-Mogul maintains internal accounting control systems which are
adequate to provide reasonable assurance that assets are safeguarded from loss
or unauthorized use and which produce records adequate for preparation of
financial information. The systems controls and compliance are reviewed by a
program of internal audits. There are limits inherent in all systems of
internal accounting control based on the recognition that the cost of such a
system not exceed the benefits derived. We believe Federal-Mogul's system
provides this appropriate balance.
The Audit Committee of the Board of Directors, comprised of four outside
directors, performs an oversight role related to financial reporting. The
Committee periodically meets jointly and separately with the independent
auditors, internal auditors and management to review their activities and
reports and to take any action appropriate to their findings. At all times,
the independent auditors have the opportunity to meet with the Audit
Committee, without management representatives present, to discuss matters
related to their audit.
/s/ Dick Snell
Dick Snell
Chairman and Chief Executive Officer
/s/ Tom Ryan
Tom Ryan
Executive Vice President and
Chief Financial Officer
66
REPORT OF INDEPENDENT AUDITORS
To the Shareholders and Board of Directors, Federal-Mogul Corporation:
We have audited the accompanying consolidated balance sheets of Federal-
Mogul Corporation and subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of operations, shareholders' equity, and cash
flows for each of the three years in the period ended December 31, 1998. Our
audits also included the financial statement schedule listed in the Index at
Item 14(a). These financial statements and schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Federal-Mogul Corporation and subsidiaries at December 31, 1998 and 1997,
and the consolidated results of their operations and their cash flows for each
of the three years in the period ended December 31, 1998, in conformity with
generally accepted accounting principles. Also, in our opinion, the related
financial statement schedule, when considered in relation to the basic
financial statements, taken as a whole, presents fairly in all material
respects the information set forth therein.
/s/ Ernst and Young, LLP
Detroit, Michigan
February 3, 1999,
except for Note 23, as to which
the date is February 24, 1999
67
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None
PART III
Item 10. Directors and Executive Officers of the Registrant.
The information required by this item will appear (a) under the caption
"Election of Directors" in the Company's definitive Proxy Statement dated
March 22, 1999 relating to its 1999 Annual Meeting of Shareholders (the "1999
Proxy Statement") (except for the information appearing under the caption
"Compensation of Directors"), which information is incorporated herein by
reference; (b) under the caption "Information on Securities--Section 16(a)
Beneficial Ownership Reporting Compliance of the Exchange Act" in the 1999
Proxy Statement, which information is incorporated herein by reference; and
(c) under the caption "Executive Officers of the Company" at the end of Part I
of this Annual Report.
Item 11. Executive Compensation.
The information required by this item will appear under the caption
"Executive Compensation" in the 1999 Proxy Statement (excluding the
information appearing under the captions "Certain Related Transactions" and
"Compensation Committee Report on Executive Compensation") and under the
caption "Compensation of Directors" in the 1999 Proxy Statement, and is
incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information required by this item will appear under the caption
"Information on Securities--Directors' and Officers' Ownership of Stock" and
"Ownership of Stock by Principal Owners" in the 1999 Proxy Statement and is
incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions.
The information required by this item will appear under the caption "Certain
Related Transactions" in the 1999 Proxy Statement and is incorporated herein
by reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) The following documents are filed as part of this report:
1. Financial Statements: Financial statements filed as part of this
Annual Report on Form 10-K are listed under Part II, Item 8 hereof.
2. Financial Statement Schedules:
Schedule II--Valuation and Qualifying Accounts
Financial Statements and Schedules Omitted:
Schedules other than those listed above are omitted because they
are not required or applicable under instructions contained in
Regulation S-X or because the information called for is shown in the
financial statements and notes thereto.
68
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
FEDERAL-MOGUL CORPORATION AND SUBSIDIARIES
(IN MILLIONS)
COLUMN
COLUMN A COLUMN B COLUMN C COLUMN D E
-------- --------- ------------------- ------------ -------
ADDITIONS
-------------------
BALANCE CHARGED CHARGED TO BALANCE
AT TO COSTS OTHER AT END
BEGINNING AND ACCOUNTS-- DEDUCTIONS-- OF
DESCRIPTION OF PERIOD EXPENSES DESCRIBE DESCRIBE PERIOD
----------- --------- -------- ---------- ------------ -------
Year Ended December 31,
1998:
Valuation allowance for
trade receivable......... $18.7 $7.6 $34.1(1) -- $60.4
Reserve for inventory
valuation................ 15.1 1.6 8.2(1) -- 24.9
Valuation allowance for
deferred tax assets...... 44.4 -- 21.8(2) -- 66.2
Year Ended December 31,
1997:
Valuation allowance for
trade receivable......... 16.3 3.5 -- 1.1(3) 18.7
Reserve for inventory
valuation................ 48.0 1.5 -- 34.4(4) 15.1
Valuation allowance for
deferred tax assets...... 89.4 -- 45.0(5) 44.4
Year Ended December 31,
1996:
Valuation allowance for
trade receivable......... 18.7 10.9 13.3(3) 16.3
Reserve for inventory
valuation................ 25.2 22.8 48.0
Valuation allowance for
deferred tax assets...... 23.7 65.7 -- 89.4
- - ------------------
(1) Amounts related to the acquisition of business.
(2) Increase due to purchased foreign net operating loss carryforwards.
(3) Uncollectable accounts charged off net of recoveries.
(4) Decrease due to the disposal of certain foreign subsidiaries and the
disposal of slow moving and obsolete inventory that was fully reserved.
(5) Disposition of certain international retail operations plus utilization of
foreign net operating loss carryforwards.
69
3. EXHIBITS:
The Company will furnish upon request any of the following exhibits
upon payment of the Company's reasonable expenses for furnishing such
exhibit.
2.1 Recommended Cash Offer for T&N plc, dated as of November 13, 1997. (Incorporated
by reference to Exhibit 2.1 to the Company's Annual Report on Form 10-K for the
year ended December 31, 1997 (the "1997 10-K")
2.2 Equity Purchase Agreement between the Company and The Sellers with respect to the
acquisition of Fel-Pro Incorporated, dated as of January 9, 1998. (Incorporated by
reference to Exhibit 2.2 to the Company's 1997 10-K.)
2.3 Purchase and Sale Agreement between Cooper Industries, Inc. and Federal-Mogul
Corporation, dated August 17, 1998. (Incorporated by reference to Exhibit 2.1 to
the Company's Current Report on Form 8-K filed October 26, 1998.)
3.1 The Company's Second Restated Articles of Incorporation, as amended. (Incorporated
by reference to Exhibit 3.1 to the Company's Registration Statement No. 333-
50413.)
*3.2 The Company's Bylaws, as amended.
4.1 Rights Agreement (the "Rights Agreement") between the Company and National Bank of
Detroit, as Rights Agent, with The Bank of New York as successor Rights Agent.
(Incorporated by reference to Exhibit 1 to the Company's Registration Statement on
Form 8-A, dated November 7, 1988.)
4.2 Amendment, dated November 13, 1998, to the Rights Agreement (Incorporated by
reference to Exhibit 4.1 to the Company's Quarterly Report on Form 10-Q for the
quarter ended September 30, 1998.)
4.3 Rights Agreement dated as of February 24, 1999 between the Company and The Bank of
New York, as Rights Agent. (Incorporated by reference to Exhibit 4 to the
Company's Current Report on Form 8-K filed February 25, 1999.)
4.4 Purchase Agreement for 10,000,000 Trust Convertible Preferred Securities of
Federal-Mogul Financing Trust, dated as of November 24, 1997. (Incorporated by
reference to Exhibit 4.6 to the Company's 1997 10-K.)
4.5 Registration Rights Agreement, dated as of December 1, 1997, by and among the
Company, Federal-Mogul Financing Trust and Morgan Stanley & Co. Inc. as Initial
Purchaser. (Incorporated by reference to Exhibit 4.7 to the Company's 1997 10-K.)
4.6 Indenture between the Company and The Bank of New York, dated as of December 1,
1997, with respect to the Subordinated Debentures. (Incorporated by reference to
Exhibit 4.8 to the Company's 1997 10-K.)
4.7 First Supplemental Indenture between the Company and The Bank of New York, dated
as of December 1, 1997, with respect to the Subordinated Debentures. (Incorporated
by reference to Exhibit 4.9 to the Company's 1997 10-K.)
*4.8 Indenture among Federal-Mogul Corporation and The Bank of New York dated as of
January 20, 1999.
4.9 Registration Agreement, dated as of January 9, 1998, by and among the Company and
the Investors identified on Schedule 1 thereto relating to the Series E Mandatory
Exchangeable Preferred Stock. (Incorporated by reference to Exhibit 4.10 to the
Company's 1997 10-K.)
70
10.1 The Company's 1984 Stock Option Plan, as last amended. (Incorporated by reference
to Exhibit 10.2 to the Company's 1994 10-K.)
10.2 Federal-Mogul Corporation 1989 Performance Incentive Stock Plan, as amended.
(Incorporated by reference to Exhibit 10.14 to the Company's 1994 10-K.)
10.3 Federal-Mogul Corporation 1997 Amended and Restated Long-Term Incentive Plan, as
adopted by the Shareholders of the Company on May 20, 1998 (Incorporated by
reference to the Company's 1998 Definitive Proxy Statement on Form 14A.)
10.4 The Company's 1977 Supplemental Compensation Plan, as amended and restated.
(Incorporated by reference to Exhibit 10.27 to the Company's Quarterly Report on
Form 10-Q for the quarter ended June 30, 1994.)
10.5 Form of Executive Severance Agreement between the Company and certain executive
officers (Incorporated by reference to Exhibit 10.5 to the Company's Annual Report
on Form 10-K for the year ended December 31, 1996 (the "1996 10-K".)
10.6 Amended and Restated Deferred Compensation Plan for Corporate Directors.
(Incorporated by reference to Exhibit 10.7 to the Company's Annual Report on Form
10-K for the year ended December 31, 1990 (the "1990 10-K".)
10.7 Supplemental Executive Retirement Plan, as amended. (Incorporated by reference to
Exhibit 10.10 to the Company's 1992 10-K.)
10.8 Description of Umbrella Excess Liability Insurance for the Senior Management Team.
(Incorporated by reference to Exhibit 10.11 to the Company's 1990 10-K.)
10.9 Federal-Mogul Corporation Executive Loan Program. (Incorporated by reference to
Exhibit 10.26 to the Company's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1994.)
10.10 Federal-Mogul Corporation Non-Employee Director Stock Plan. (Incorporated by
reference to Exhibit 4 to the Company's Registration Statement on Form S-8
(Registration No. 33-54301)
10.11 Amended and Restated Declaration of Trust of Federal-Mogul Financing Trust, dated
as of December 1, 1997. (Incorporated by reference to Exhibit 10.34 to the
Company's 1997 10-K.)
10.12 Common Securities Guarantee Agreement, dated as of December 1, 1997, among the
Company and Federal-Mogul Financing Trust. (Incorporated by reference to Exhibit
10.35 to the Company's 1997 10-K.)
*10.13 Third Amended and Restated Credit Agreement, dated as of February 24, 1999, in the
amount of $1,750,000,000 among the Company, The Foreign Subsidiary Borrowers, the
Lenders and The Chase Manhattan Bank.
*10.14 Receivables Sale And Contribution Agreement, dated as of November 20, 1998, among
the Company, Carter Automotive Company, Inc., Federal-Mogul Canada Limited and
Federal-Mogul Funding Corporation.
*10.15 Receivable Interest Purchase Agreement, dated as of November 20, 1998, among the
Company, Federal-Mogul Funding Corporation, Falcon Asset Securitization
Corporation and The First National Bank of Chicago.
*21 Subsidiaries of the Registrant.
71
*23.1 Consent of Ernst & Young LLP.
*24 Powers of Attorney.
*27 Financial Data Schedule.
- - ------------------
* Filed Herewith
(b) Reports on Form 8-K:
On November 24, 1998, the Company filed a Current Report on Form 8-K/A to
report Item 7 historical and proforma financial information provided related
to the acquisition of Cooper Automotive.
On February 25, 1999, the Company filed a Current Report on Form 8-K to
report the Rights Agreement dated as of February 24, 1999, between the Company
and The Bank of New York, as Rights Agent.
(c) Separate financial statements of affiliates whose securities are pledged
as collateral.
1) Financial statements of Federal-Mogul Ignition Company and
subsidiaries (and the Cooper Automotive division of Cooper Industries,
Inc., its predecessor) including consolidated balance sheets as of
December 31, 1998 and 1997, and the related statements of operations
and comprehensive income and cash flows for the periods January 1, 1998
through October 9, 1998, October 10, 1998 through December 31, 1998 and
for each of the two years in the period ended December 31, 1997.
2) Financial statements of Federal-Mogul Products, Inc. and
subsidiaries (formerly owned by Cooper Industries and the Moog
Automotive division of Cooper Industries, Inc., its predecessor)
including consolidated balance sheets as of December 31, 1998 and 1997,
and the related statements of operations and comprehensive income and
cash flows for the periods January 1, 1998 through October 9, 1998,
October 10, 1998 through December 31, 1998 and for each of the two
years in the period ended December 31, 1997.
3) Financial statements of Federal-Mogul Aviation, Inc. (and Champion
Aviation, Inc., a subsidiary of Cooper Industries Inc., its
predecessor) including consolidated balance sheets as of December 31,
1998 and 1997, and the related statements of operations and
comprehensive income and cash flows for the periods January 1, 1998
through October 9, 1998, October 10, 1998 through December 31, 1998 and
for each of the two years in the period ended December 31, 1997.
72
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Federal-Mogul Corporation
We have audited the accompanying consolidated balance sheets of Federal-
Mogul Products, Inc. and subsidiaries and the Moog Automotive division of
Cooper Industries (the Predecessor) as of December 31, 1998 and 1997,
respectively, and the related consolidated statements of operations and
comprehensive income and cash flows for the period October 10, 1998 through
December 31, 1998 and for the Predecessor for the period January 1, 1998
through October 9, 1998 and for each of the two years in the period ended
December 31, 1997. These financial statements are the responsibility of the
respective Company's management. Our responsibility is to express an opinion
on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Federal-Mogul
Products, Inc. and subsidiaries at December 31, 1998 and the Predecessor at
December 31, 1997, and the consolidated results of their operations and their
cash flows for the period October 10, 1998 through December 31, 1998 and for
the Predecessor for the period January 1, 1998 through October 9, 1998, and
for each of the two years in the period ended December 31, 1997, in conformity
with generally accepted accounting principles.
/s/ Ernst & Young LLP
Detroit, Michigan
January 29, 1999
73
FEDERAL-MOGUL PRODUCTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
PREDECESSOR
-------------------------------------------
PERIOD OCTOBER 10, PERIOD JANUARY 1, YEAR ENDED YEAR ENDED
1998 THROUGH 1998 THROUGH DECEMBER 31, DECEMBER 31,
DECEMBER 31, 1998 OCTOBER 9, 1998 1997 1996
------------------ ----------------- ------------ ------------
Revenues................ $170.2 $666.7 $842.0 $862.9
Cost of sales........... 120.1 428.4 573.1 589.9
Selling and
administrative
expenses............... 28.5 136.8 196.2 182.2
Amortization expense.... 2.9 11.9 15.1 19.3
Nonrecurring charges.... -- 27.3 101.5
Other expense, net...... 1.9 1.6 1.9 0.5
Interest expense........ 15.1 -- 0.4 0.4
------ ------ ------ ------
Income/(loss) before
income taxes......... 1.7 88.0 28.0 (30.9)
Income taxes............ 1.0 38.4 16.0 5.3
------ ------ ------ ------
Net income/(loss)... 0.7 49.6 12.0 (36.2)
Components of
Comprehensive Income:
Minimum pension
liability, net of
tax.................. -- -- (1.6) (0.1)
Translation
adjustments, net of
tax.................. (0.8) (1.6) 2.0 (0.8)
------ ------ ------ ------
Comprehensive income
(loss)............. $ (0.1) $ 48.0 $ 12.4 $(37.1)
====== ====== ====== ======
See accompanying Notes to Consolidated Financial Statements.
74
FEDERAL-MOGUL PRODUCTS, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
--------------------
PREDECESSOR
-----------
1998 1997
-------- -----------
(IN MILLIONS)
ASSETS
Cash..................................................... $ 7.7 $ --
Accounts receivable (net of allowance for doubtful
accounts of $16.7 million and $31.8 million)............ 183.5 155.2
Inventories.............................................. 208.0 222.9
Other.................................................... 15.4 13.1
-------- --------
Total current assets................................... 414.6 391.2
Property, plant and equipment, less accumulated
depreciation............................................ 294.3 196.3
Intangibles, less accumulated amortization............... 339.8 528.9
Other assets............................................. 19.2 2.9
-------- --------
Total assets........................................... $1,067.9 $1,119.3
======== ========
LIABILITIES AND NET PARENT INVESTMENT
Accounts payable......................................... $ 77.1 $ 73.9
Accrued liabilities...................................... 107.9 127.8
-------- --------
Total current liabilities.............................. 185.0 201.7
Long-term debt........................................... 0.8 3.5
Other long-term liabilities.............................. 71.6 61.7
Net parent investment.................................... 810.5 852.4
-------- --------
Liabilities and net parent investment.................. $1,067.9 $1,119.3
======== ========
See accompanying Notes to Consolidated Financial Statements.
75
FEDERAL-MOGUL PRODUCTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
PREDECESSOR
PERIOD ------------------------------
OCTOBER 10, PERIOD
1998 JANUARY 1, YEAR YEAR
THROUGH 1998 THROUGH ENDED ENDED
DECEMBER 31, OCTOBER 9, DECEMBER DECEMBER
1998 1998 31, 1997 31, 1996
------------ ------------ -------- --------
Cash flows from operating
activities:
Net income/(loss)............... $ 0.7 $ 49.6 $ 12.0 $(36.3)
Adjustments to reconcile to net
cash provided by operating
activities:
Depreciation expense............ 7.2 18.0 25.2 23.7
Amortization expense............ 2.9 11.8 15.1 17.9
Nonrecurring asset write-down... -- -- 36.2 --
Changes in assets and
liabilities:
Accounts receivable........... 16.7 (43.2) 11.5 (3.0)
Inventories................... 31.0 (18.7) (18.1) (12.0)
Accounts payable and accrued
liabilities.................. (12.2) (28.6) (14.1) 7.4
Other assets and liabilities,
net.......................... 1.5 (7.9) 14.4 47.1
------ ------ ------ ------
Net cash provided by (used
in) operating activities... 47.8 (19.0) 82.2 44.8
Cash flows from investing
activities:
Cash paid for acquired
businesses..................... -- -- -- (5.1)
Capital expenditures............ (4.9) (18.8) (36.3) (42.4)
Proceeds from sales of property,
plant and equipment............ 4.9 5.8 2.2 4.5
------ ------ ------ ------
Net cash used in investing
activities................. -- (13.0) (34.1) (43.0)
Cash flows from financing
activities:
Net short-term borrowings....... -- -- -- 0.5
Repayments of long-term debt.... (0.3) (2.4) (3.5) (1.0)
Transfers from (to) parent...... (40.6) 37.8 (45.1) (1.3)
------ ------ ------ ------
Net cash provided by (used
in) financing activities... (40.9) 35.4 (48.6) (1.8)
Effect of exchange rate changes on
cash and cash equivalents........ (1.0) (1.6) 0.5 --
------ ------ ------ ------
Increase in cash and cash
equivalents...................... 5.9 1.8 -- --
Cash, beginning of period... 1.8 -- -- --
------ ------ ------ ------
Cash, end of period......... $ 7.7 $ 1.8 $ -- $ --
====== ====== ====== ======
See accompanying Notes to Consolidated Financial Statements.
76
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
The accompanying financial statements reflect the consolidated assets,
liabilities and operations of Federal-Mogul Products, Inc. and subsidiaries
("Products"). Products is a wholly-owned subsidiary of Federal-Mogul
Corporation ("Federal-Mogul"). Products was previously known as the Moog
Automotive Division of Cooper Industries, Inc. ("Cooper"). Federal-Mogul
purchased the automotive divisions of Cooper, including Products, on October
9, 1998 for approximately $2.0 billion of which approximately $750 million is
attributable to Products. The assets and liabilities of Products have been
adjusted to their fair values as of October 9, 1998. All related purchase
accounting adjustments as recorded by Federal-Mogul and related to Products
have been reflected herein. Such adjustments consist principally of the
following:
Increase in net book value to fair value (in millions):
Inventory.................................. $ 8.0
Fixed Assets............................... 94.1
Identifiable intangible assets............. 147.2
Liabilities for severance and exit cost.... 99.2
Decrease in goodwill....................... 321.5
In connection with the acquisition, Federal-Mogul is in the process of
having valuations of acquired property, plant and equipment and identifiable
intangible assets completed. In addition, the related purchase agreement
includes a price adjustment based upon acquired net assets, as defined in the
agreement, as of the acquisition date. The purchase price allocations included
in the accompanying financial statements are based upon management's best
estimates and currently available information. Such purchase price allocations
will be finalized when such valuations and the final purchase price
adjustments are completed in 1999. Actual results could differ from the above
estimates.
Products operates with financial and operations staff on a decentralized
basis. Its parent provides certain centralized services for employee benefits
administration, cash management, risk management, legal services, public
relations, domestic tax reporting and internal and external audit. Its parent
bills Products for all direct costs incurred on behalf of Products. General
corporate, accounting, tax, legal and other administrative costs that are not
directly attributable to the operations of Products have been allocated based
on a ratio of Products' revenues to consolidated revenues. Management believes
that this allocation method is reasonable. .
The accompanying consolidated financial statements include the accounts of
Products as described above. These statements are presented as if Products had
existed as an entity separate from its parent during the period presented and
include the assets, liabilities, revenues and expenses that are directly
related to Products' operations.
Products' separate domestic debt related to industrial revenue bonds and
related interest expense have been included in the consolidated financial
statements. Because Products is fully integrated into its parent's worldwide
cash management system, all of their cash requirements are provided by its
parent and any excess cash generated by Products is transferred to its parent.
77
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Note 2: Summary of Significant Accounting Policies
Principles of Consolidation: The consolidated financial statements include
the accounts of Products, and its subsidiaries. Intercompany accounts and
transactions have been eliminated.
Use of Estimates: The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the 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.
Inventories: Inventories are carried at cost or, if lower, net realizable
value. Through October 9, 1998 cost was determined using the first-in, first-
out (FIFO) method. For October 10, 1998 and thereafter, cost was determined
using the last-in, first-out method, which at December 31, 1998 approximated
FIFO.
Revenue Recognition: Products recognizes revenue and estimated returns from
product sales and the related customer incentive and warranty expense when
goods are shipped to the customer.
Property, Plant and Equipment: Property, plant and equipment are stated at
cost. Depreciation is provided over the estimated useful lives of the related
assets using primarily the straight-line method. This method is applied to
group asset accounts, which in general have the following lives: buildings--10
to 40 years and machinery and equipment--3 to 20 years.
Goodwill and Other Intangible Assets: At December 31, goodwill and other
intangible assets which result principally from acquisitions, consisted of the
following:
Estimated
Useful Life 1998 1997
----------- ------ ------
(in millions)
Goodwill...................................... 40 years $195.5 $603.4
Accumulated amortization...................... (1.1) (74.5)
------ ------
Total Goodwill................................ $194.4 $528.9
====== ======
Trademarks.................................... 40 years $ 66.2 $ --
Developed technology.......................... 12-30 years 67.4 --
Assembled workforce........................... 15 years 13.6 --
------ ------
147.2
Accumulated amortization...................... (1.8) --
------ ------
Total Other Intangible Assets................. $145.4 $ --
====== ======
Intangible assets are periodically reviewed for impairment based on an
assessment of future cash flows to ensure that they are appropriately valued.
There were no impairment charges during 1998 or 1997. Intangible assets are
amortized on a straight-line basis over their estimated useful lives.
Net Parent Investment: The Net Parent Investment account reflects the
balance of Products's historical earnings, intercompany debt, accrued and
deferred income taxes and other transactions between Products and its parent.
Effect of Accounting Pronouncements: In April 1998, the American Institute
of Certified Public Accountants issued Statement of Position (SOP) 98-5,
Reporting the Costs of Start-Up Activities. SOP 98-5 is effective January 1,
1999, and requires that start-up costs capitalized prior to January 1, 1999 be
written off and any future start-up costs be expensed as incurred. The Company
does not anticipate that the adoption of this statement will have a
significant effect on its results of operations or financial position.
78
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Currency Translation: Exchange adjustments related to international currency
transactions and translation adjustments for subsidiaries whose functional
currency is the United States dollar (principally those located in highly
inflationary economies) are reflected in the consolidated statements of
operations. Translation adjustments of Canadian subsidiaries for which the
Canadian Dollar is the functional currency are reflected in the consolidated
financial statements as a component of accumulated other comprehensive income.
Fair Value of Financial Instruments: The carrying amounts of certain
financial instruments such as cash and equivalents, accounts receivable and
accounts payable approximate their fair value.
Note 3: Nonrecurring Charges
During 1997, the Products incurred charges of $14.7 million ($9.0 million
after income taxes) for actions management committed to during the period
after concluding an evaluation of certain sales, marketing and distribution
activities and information systems relating to year 2000 compliance efforts.
The 1997 charges include adjustments to the carrying value of assets of $23.8
million and expenditures for replaced systems of $3.5 million.
During 1997, Cooper began negotiations with Standard Motor Products, Inc.
("SMP") to exchange their temperature control business for the brake products
business owned by SMP. The 1997 nonrecurring charge includes adjustments to
the carrying value of the assets of the remanufacturing businesses, including
a portion of the temperature control business, which were in the process of
being divested. Effective March 28, 1998, Products completed the exchange of
the automotive temperature control business for the brake products business of
Standard Motor Products. For accounting purposes, the exchange transaction is
recorded as the sale of Products' temperature control business and the
purchase of the Standard Motor Products' brake business. The fair market
values of the temperature control business assets were equal to the net book
value of the assets after the write-down of the assets in 1997. The
acquisition cost of the brake business assets was approximately $81 million.
In February 1998, Products also completed the sale of the constant velocity
joint remanufacturing business for approximately $4 million.
During 1997, the impact of existing system capabilities to function at the
turn of the century was assessed. Products is implementing new enterprise
systems to be year 2000 compliant. The rollout of new enterprise-wide software
began in 1997 and was completed during 1998. Products recorded a $11.3 million
charge in 1997 primarily related to the adjustment in the carrying value of
abandoned hardware and software.
Note 4: Inventories
At December 31 inventories consisted of the following:
1998 1997
------ ------
(in millions)
Raw materials............................................. $ 59.0 $ 61.0
Work-in-process........................................... 19.0 19.4
Finished goods............................................ 130.0 156.4
Perishable tooling and supplies........................... -- 7.3
------ ------
208.0 244.1
Inventory valuation allowances............................ -- (21.2)
------ ------
Net inventories......................................... $208.0 $222.9
====== ======
79
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 5: PROPERTY, PLANT AND EQUIPMENT
At December 31 property, plant and equipment consisted of the following:
1998 1997
------- ------
(IN MILLIONS)
Property, plant and equipment:
Land and land improvements............................. $ 10.4 $ 9.8
Buildings.............................................. 89.4 68.1
Machinery and equipment................................ 201.7 220.4
------- ------
301.5 298.3
Accumulated depreciation............................... (7.2) (100.1)
------- ------
$ 294.3 $198.2
======= ======
NOTE 6: COMMITMENTS AND CONTINGENCIES
At December 31, 1998, Products had accruals of $.8 million with respect to
potential product liability claims and $6.0 million with respect to potential
environmental liabilities, including $4.0 million classified as a long-term
liability, based on Products' current estimate of the most likely amount of
losses that it believes will be incurred.
Environmental remediation costs are accrued based on estimates of known
environmental remediation exposures. Such accruals are adjusted as information
develops or circumstances change. The environmental liability accrual includes
$5.9 million related to sites owned by Products and $.1 million for retained
environmental liabilities related to sites previously owned by Products and
third-party sites where Products were a contributor. Third-party sites usually
involve multiple contributors where Products' liability will be determined
based on an estimate of Products' proportionate responsibility for the total
cleanup. The amounts actually accrued for such sites are based on these
estimates as well as an assessment of the financial capacity of the other
potentially responsible parties.
It has been Products' consistent practice to include the entire product
liability accrual and a significant portion of the environmental liability
accrual as current liabilities, although only approximately 10-20% of the
balance classified as current will be spent on an annual basis.
Products has not utilized any form of discounting in establishing its
product or environmental liability accruals. While environmental liability
accruals involve estimates that can have wide ranges of potential liability,
Products has taken a proactive approach and has managed the costs in both of
these areas over the years. Products does not believe that the nature of their
products, production processes, or materials or other factors involved in the
manufacturing process subject Products to unusual risks or exposures for
product or environmental liability. Products' greatest exposure to inaccuracy
in their estimates is with respect to the constantly changing definitions of
what constitutes an environmental liability or an acceptable level of cleanup.
Products also is one of a large number of defendants in a number of lawsuits
brought by claimants alleging injury due to exposure to asbestos. Products is
defending all such claims vigorously and believes that it has substantial
defenses to liability and adequate insurance coverage for defense and
indemnity. While the outcome of litigation cannot be predicted with certainty,
management believes that asbestos claims pending against Products as of
December 31, 1998, will not have a material effect on its financial position.
Approximately $20 million in related reserves have been provided in respect of
the possible uninsured portion of the expenditures on pending asbestos claims.
NOTE 7: RESTRUCTURING
In connection with acquisitions accounted for using the purchase method of
accounting, Products records, to the extent appropriate, accruals for the
costs of closing duplicate facilities and severing redundant personnel
80
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
as part of integrating the acquired business into existing operations.
Significant accruals include plant shut-down and realignment costs, and
facility relocations, and aggregated $25.0 million and $9.3 million at
December 31, 1998 and 1997, respectively. Substantially all payments related
to December 31, 1997 accruals were made in 1998.
NOTE 8: LONG-TERM DEBT AND OTHER BORROWING ARRANGEMENTS
Products' cash and indebtedness is managed on a worldwide basis by its
parent. The majority of the cash provided by or used by a particular division,
including Products is provided through this consolidated cash and debt
management system. As a result, the amount of cash or debt historically
related to Products is not determinable. For purposes of Products' historical
financial statements, identifiable debt was allocated to Products during each
year with all of Products' positive or negative cash flows being treated as
cash transferred to or from Cooper. The specifically identifiable industrial
revenue bonds (the "IRB") and specifically identifiable international debt was
assigned to Products.
Federal-Mogul financed the acquisition of Cooper Automotive through the
issuance of long-term debt. As such, the net parent investment balance at
December 31, 1998 represents intercompany debt. Federal-Mogul charges interest
on this balance based on its incremental borrowing rate, which approximated
7.75% at December 31, 1998.
For purposes of Products' historical financial statements, interest expense
has been computed using the actual interest rate with respect to the IRB and
Canadian short-term borrowings. Total interest related to long-term debt and
short-term debt paid during 1998, 1997 and 1996 was $0.5 million, $0.5 million
and $0.5 million, respectively.
Federal-Mogul has pledged 100% of Products' capital stock to secure certain
outstanding debt of Federal-Mogul. In addition, Products has guaranteed fully
and unconditionally, on a joint and several basis, the obligation to pay
principal and interest under Federal-Mogul's Senior Credit Agreement and its
publicly registered debt which approximates $3.1 billion at December 31, 1998.
Such pledges and guarantees have also been made by certain other subsidiaries
of Federal-Mogul.
NOTE 9: NET PARENT INVESTMENT
Changes in net parent investment were as follows:
(IN MILLIONS)
Balance at January 1, 1996................................ $909.6
Comprehensive income.................................... (37.1)
Intercompany transactions, net.......................... (.4)
------
Balance at December 31, 1996.............................. 872.1
Comprehensive income.................................... 12.4
Intercompany transactions, net.......................... (32.1)
------
Balance at December 31, 1997.............................. 852.4
Comprehensive income for the period January 1, 1999
through October 9, 1998................................ 48.0
Intercompany transactions, net.......................... 53.1
------
Balance at October 9, 1998................................ $953.5
======
Federal-Mogul initial investment in Products.............. $833.2
Comprehensive income for the period October 10, 1998
through December 31, 1998.............................. (.1)
Intercompany transactions, net.......................... (22.6)
------
Balance at December 31, 1998.............................. $810.5
======
Intercompany transactions are principally cash transfers between Products
and its parent.
81
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 10: INCOME TAXES
Products files a consolidated return with its parent for U.S. federal income
tax purposes. Federal income tax expense is calculated on a separate-return
basis for financial reporting purposes.
PERIOD PERIOD
OCTOBER 10, JANUARY 1,
1998 THROUGH 1998 THROUGH
DECEMBER 31, OCTOBER 9,
1998 1998 1997 1996
------------ ------------ ----- ----
Components of income tax
expense:
Current................. $1.0 $55.3 $24.6 $5.7
Deferred (credit)....... -- (16.9) (8.6) (0.4)
---- ----- ----- ----
Income Tax Expense...... $1.0 $38.4 $16.0 $5.3
==== ===== ===== ====
A reconciliation between the statutory federal income tax rate and the
effective tax rate is as follows:
PERIOD PERIOD
OCTOBER 10, JANUARY 1,
1998 THROUGH 1998 THROUGH
DECEMBER 31, OCTOBER 9,
1998 1998 1997 1996
------------ ------------ ---- ----
U.S. Federal statutory rate..... 35% 35% 35% 35%
State and Local Taxes........... 4 4 5 1
Nondeductible Goodwill.......... 24 5 15 (15)
Automotive Asset write-down..... -- -- -- (40)
Other........................... (6) -- (2) 2
--- --- --- ---
Effective Tax Rate.............. 57% 44% 53% (17)%
=== === === ===
Deferred income taxes reflect the net tax effects of temporary differences
between the carring amount of assets and liabilities for financial reporting
purposes and the related amounts used for income tax purposes. Significant
components of the Company's net deferred tax asset is non-deductible accruals
and depreciation timing differences.
1998 1997
------- ------
Current deferred tax assets............................. $ 76.6 $ 40.8
Long-term deferred tax assets/(liabilities)............. (115.4) (50.6)
------- ------
Net deferred liabilities................................ $(38.8) $ (9.8)
======= ======
As Products files a consolidated tax return with its parent, the net
deferred tax liability at December 31, 1998 and 1997 is a component in the net
parent investment.
NOTE 11: PENSION PLANS
In 1996 and 1997, as part of Cooper, employees of Products participated in
numerous pension plans covering substantially all domestic employees and
pension and similar arrangements in accordance with local customs covering
employees at foreign locations. The assets of the various domestic and foreign
plans were maintained in various trusts and consisted primarily of equity and
fixed-income securities. Funding policies range
82
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
from five to thirty years. Pension benefits for salaried employees were
generally based upon career earnings. Benefits for hourly employees were
generally based on a dollar unit, multiplied by years of service. The amount
of expense and the funded status with respect to the defined benefit pension
plans of Products, exclusive of the Cooper Salaried Employee Benefit Plan, is
set forth in the table below. In addition, most U.S. salaried employees of
Products participated in the Cooper Salaried Employee Benefit Plan. The amount
of expense allocated to Products for this plan was $.3 million and $.7 million
for the years ended December 31, 1997 and 1996, respectively. During 1997 and
1996, Products' expense with respect to domestic and foreign defined
contribution plans (primarily related to various groups of hourly employees)
amounted to $2.2 million and $1.8 million, respectively. Products' aggregate
pension expense amounted to $3.7 million and $3.7 million during 1997 and
1996, respectively.
YEAR ENDED
DECEMBER 31,
--------------
1997 1996
------ ------
(IN MILLIONS)
Components of defined benefit plan net pension expense:
Service cost--benefits earned during the year......... $ 0.8 $ 0.7
Interest cost on projected benefit obligation......... 1.4 1.4
Actual return on assets............................... (1.8) (1.4)
Net amortization and deferral......................... 0.8 0.5
------ ------
Net pension expense................................. $ 1.2 $ 1.2
====== ======
ASSETS ACCUMULATED
EXCEED BENEFITS
ACCUMULATED EXCEED
BENEFITS ASSETS
----------- -----------
(IN MILLIONS)
Funded status of the plans at December 31, 1997
Actuarial present value of:
Vested benefit obligation..................... $(12.8) $(7.7)
====== =====
Accumulated benefit obligation................ $(12.8) $(9.9)
====== =====
Projected benefit obligation.................. $(12.8) $(9.9)
Plan assets at fair value....................... 14.1 3.4
------ -----
Projected benefit obligation less than (in
excess of) plan assets......................... 1.3 (6.5)
Unrecognized net loss (gain).................... (0.2) 4.2
Unrecognized net (asset) obligation from
adoption date.................................. -- --
Unrecognized prior service cost................. -- 0.8
Adjustment required to recognize minimum
liability...................................... -- (5.0)
------ -----
Pension asset (liability) at end of year........ $ 1.1 $(6.5)
====== =====
Actuarial assumptions used:
Discount rate.................................................... 7 1/2%
Rate of compensation increase.................................... 4 3/4%
Expected long-term rate of return on assets...................... 8 1/2%
During 1998, the various pension plans of Products were merged into other
plans of Cooper. As such, the related pension liabilities were recorded to net
parent investment. These multi-employer plans were in-turn
83
FEDERAL-MOGUL PRODUCTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
assumed by Federal-Mogul in its acquisition of the automotive division of
Cooper. The expense charged to Products by Cooper during the period January 1,
1998 to October 9, 1998 was $2.2 million. The credit to Products from Federal-
Mogul for the period October 10, 1998 to December 31, 1998 was approximately
$450,000. Such plans were required to be fully funded by Cooper prior to the
acquisition by Federal-Mogul. The fully funded aggregated projected benefit
obligation of such plans of $352 million was based upon a discount rate of
7.25% at December 31, 1998.
NOTE 12: POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
As part of Cooper and subsequently Federal-Mogul, benefits provided to
employees of Products under various multi-employer postretirement plans other
than pensions, all of which are unfunded, include retiree medical care, dental
care, prescriptions and life insurance, with medical care accounting for
approximately 90% of the total. The majority of participants under such plans
are retirees. The expense related to such plans approximated $1.3 million, $1
million, $1.7 million, and $0.6 million, for 1996, 1997, the period January 1,
1998 to October 9, 1998 and October 10, 1998 to December 31, 1998,
respectively. The unfunded projected benefit obligation of these plans
aggregated approximately $209 million at December 31, 1998 based upon a
discount rate of 6.75%.
NOTE 13: DOMESTIC AND INTERNATIONAL OPERATIONS
Products operates in a single business segment, Automotive Products.
Products manufactures and distributes wiper blades, lamps, brake friction
materials and other products for use by the automotive aftermarket and in
automobile assemblies. In addition, Products manufactures and distributes
suspension, steering driveline and brake system components and material for
the automotive aftermarket. No single customer accounted for 10% or more of
revenues in 1998, 1997 or 1996. All revenues and assets of Products reside in
North America, principally in the United States.
NOTE 14: CONCENTRATIONS OF CREDIT RISK
Products grants credit to their customers, which are primarily in the
automotive industry. Credit risk with respect to trade receivables is
generally diversified due to the large number of entities comprising Products'
customer base and their dispersion across many different countries. Products
performs periodic credit evaluations of their customers and generally do not
require collateral.
During the first quarter of 1998, a large customer filed for reorganization
under Chapter 11 of the U.S. Bankruptcy Code. Products had receivables from
the customer of approximately $12.5 million at the time of the filing which
were written off in 1997.
84
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Federal-Mogul Corporation
We have audited the accompanying consolidated balance sheets of Federal-
Mogul Ignition Company and subsidiaries and the Cooper Automotive Division of
Cooper Industries (the Predecessor) as of December 31, 1998 and 1997,
respectively and the related consolidated statements of operations and
comprehensive income and cash flows for the period October 10, 1998 through
December 31, 1998 and for the Predecessor for the period January 1, 1998
through October 9, 1998, and for each of the two years in the period ended
December 31, 1997. These financial statements are the responsibility of the
respective Company's management. Our responsibility is to express an opinion
on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Federal-Mogul
Ignition Company and subsidiaries at December 31, 1998 and the Predecessor at
December 31, 1997, and the consolidated results of their operations and their
cash flows for the period October 10, 1998 through December 31, 1998 and for
the Predecessor for the period January 1, 1998 through October 9, 1998, and
for each of the two years in the period ended December 31, 1997, in conformity
with generally accepted accounting principles.
/s/ Ernst & Young LLP
Detroit, Michigan
January 29, 1999
85
FEDERAL-MOGUL IGNITION COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(IN MILLIONS)
PREDECESSOR
-----------------------------------------
PERIOD OCTOBER 10, PERIOD JANUARY 1, YEAR ENDED YEAR ENDED
1998 THROUGH 1998 THROUGH DECEMBER 31, DECEMBER
DECEMBER 31, 1998 OCTOBER 9, 1998 1997 31, 1996
------------------ ----------------- ------------ ----------
Revenues................ $233.1 $782.8 $1,031.3 $1,040.2
Cost of sales........... 169.1 557.9 721.3 727.1
Selling and
administrative
expenses............... 40.1 132.4 171.1 178.0
Amortization expense.... 4.4 13.7 17.6 14.4
Nonrecurring charges.... -- -- 16.2 0.5
Other expense, net...... 2.8 15.4 12.6 12.4
Interest expense........ 15.1 1.5 0.6 0.2
------ ------ -------- --------
Income before income
taxes................ 1.6 61.9 91.9 107.6
Income taxes ........... 1.0 26.8 38.3 43.8
------ ------ -------- --------
Net income............ $ 0.6 $ 35.1 $ 53.6 $ 63.8
Components of
comprehensive income
Minimum pension
liability, net of tax.. -- -- 5.6 (0.4)
Translation adjustments,
net of tax............. (2.4) 6.0 (23.0) (0.7)
------ ------ -------- --------
Comprehensive income.. $ (1.8) $ 41.1 $ 36.2 $ 62.7
====== ====== ======== ========
See accompanying Notes to Consolidated Financial Statements
86
FEDERAL-MOGUL IGNITION COMPANY
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
--------------------
PREDECESSOR
-----------
1998 1997
-------- -----------
(IN MILLIONS)
ASSETS
Cash..................................................... $ 13.1 $ 1.5
Accounts receivable (net of allowance for doubtful
accounts of $6.0 million and $6.7 million).............. 212.6 227.6
Inventories.............................................. 238.9 211.6
Other.................................................... 17.5 14.4
-------- --------
Total current assets................................... 482.1 455.1
-------- --------
Property, plant and equipment, less accumulated
depreciation............................................ 410.2 329.2
Intangibles, less accumulated amortization............... 741.3 581.4
Other assets............................................. 19.7 14.1
-------- --------
Total assets........................................... $1,653.3 $1,379.8
======== ========
LIABILITIES AND NET PARENT INVESTMENT
Short-term debt.......................................... $ 16.0 $ 35.5
Accounts payable......................................... 75.8 97.5
Accrued compensation..................................... 21.7 30.0
Restructuring and rationalization reserves............... 32.9 19.5
Other accrued liabilities................................ 69.9 47.5
-------- --------
Total current liabilities.............................. 216.3 230.0
-------- --------
Other long-term liabilities.............................. 28.8 52.7
Net parent investment.................................... 1,408.2 1,097.1
-------- --------
Liabilities and net parent investment.................... $1,653.3 $1,379.8
======== ========
See accompanying Notes to Consolidated Financial Statements.
87
FEDERAL-MOGUL IGNITION COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN MILLIONS)
PREDECESSOR
--------------------------------------------
YEAR
PERIOD OCTOBER 10, PERIOD JANUARY 1, ENDED
1998 THROUGH 1998 THROUGH YEAR ENDED DECEMBER
DECEMBER 31, 1998 OCTOBER 9, 1998 DECEMBER 31, 1997 31, 1996
------------------ ----------------- ----------------- --------
Cash flows from
operating activities:
Net income ........... $ (0.6) $ 35.1 $ 53.6 $63.8
Adjustments to reconcile
to net cash provided by
operating activities:
Depreciation expense.. 9.1 31.8 39.7 45.1
Loss on sale of
assets............... -- 1.0 --
Amortization expense.. 4.4 13.7 17.6 14.4
Nonrecurring asset
write-down........... -- -- 6.9 85.3
Changes in assets and
liabilities:
Accounts
receivables........ (1.1) 12.4 (2.2) (17.7)
Inventories......... 4.8 (27.1) (1.9) 19.6
Accounts payable and
accrued
liabilities........ 29.1 (9.3) (13.6) (22.9)
Other assets and
liabilities, net... (47.1) (0.8) (10.8) (74.8)
------ ------ ------ ------
Net cash provided
by (used in)
operating
activities....... (0.2) 56.8 89.3 112.8
Cash flows from
investing activities:
Cash paid for acquired
businesses........... -- (8.5) (20.1) (50.3)
Capital expenditures.. (7.6) (29.8) (42.1) (44.7)
Proceeds from sales of
property, plant and
equipment............ 1.4 0.4 0.9 5.4
------ ------ ------ ------
Net cash used in
investing
activities....... (6.2) (37.9) (61.3) (89.6)
Cash flows from
financing activities:
Net short-term
borrowings
(repayments)......... (2.4) (33.1) 30.6 --
Borrowings
(repayments) of long-
term debt............ (0.1) 0.3 -- (0.5)
Transfers from (to)
parent............... (23.8) 58.2 (62.5) (20.0)
------ ------ ------ ------
Net cash provided
by (used in)
financing
activities....... (26.3) 25.4 (31.9) (20.5)
Effect of exchange rate
changes on cash and
cash equivalents....... -- -- 2.1 (0.8)
------ ------ ------ ------
Increase (decrease) in
cash and cash
equivalents............ (32.7) 44.3 (1.8) 1.9
Cash beginning of
period........... 45.8 1.5 3.3 1.4
------ ------ ------ ------
Cash end of
period........... $ 13.1 $ 45.8 $ 1.5 $3.3
====== ====== ====== ======
See accompanying Notes to Consolidated Financial Statements.
88
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
The accompanying financial statements reflect the consolidated assets,
liabilities and operations of Federal-Mogul Ignition Company and subsidiaries
(Ignition). Ignition is a wholly owned subsidiary of Federal-Mogul Corporation
("Federal-Mogul"). Ignition was previously known as the Cooper Divisions of
Cooper Industries, Inc. ("Cooper"). Federal-Mogul purchased the automotive
divisions of Cooper, including Ignition, on October 9, 1998 for approximately
$2.0 billion, of which approximately $1.25 billion was attributable to
Ignition. The assets and liabilities of Ignition have been adjusted to their
fair values as of October 9, 1998. All related purchase accounting adjustments
as recorded by Federal-Mogul and related to Ignition have been reflected
herein. Such adjustments consist principally of the following:
Increase in net book value to estimable fair value (in
millions):
Inventory..................................................... $ 10.0
Fixed assets.................................................. 114.5
Identifiable intangible assets................................ 264.9
Other liabilities ............................................ 125.1
Decrease in goodwill.......................................... 86.9
In connections with the acquisition, Federal-Mogul is in the process of
having valuations of acquired property, plant and equipment and identifiable
intangible assets completed. In addition, the related purchase agreement
includes a price adjustment based upon acquired net assets, as defined in the
agreement, as of the acquisition date. The purchase price allocations included
in the accompanying financial statements are based upon management's best
estimates and current available information. Such purchase price allocations
will be finalized when such valuations and the final purchase price
adjustments are completed in 1999. Actual results could differ from the above
estimates.
The business units that comprise Ignition (including Ignition's
headquarters) operate with financial and operations staff on a decentralized
basis. Federal-Mogul provides (and Cooper had provided) certain centralized
services for employee benefits administration, cash management, risk
management, legal services, public relations, domestic tax reporting and
internal and external audit. Ignition is billed for all direct costs incurred
on its behalf. General corporate, accounting, tax, legal and other
administrative costs that are not directly attributable to the operations of
Ignition have been allocated based on a ratio of Ignition's revenues to
consolidated revenues. Management believes that this allocation method is
reasonable.
The accompanying combined financial statements include the accounts of
Ignition as described above. These statements are presented as if Ignition had
existed as an entity separate from its parent during the period presented and
include the assets, liabilities, revenues and expenses that are directly
related to Ignition's operations.
Ignition's separate domestic debt and related interest expense have been
included in the consolidated financial statements. Because Ignition is fully
integrated into its parent's worldwide cash management system, all of their
cash requirements are provided by its parent and any excess cash generated by
Ignition is transferred to the parent.
89
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements include
the accounts of Ignition, and its subsidiaries. Intercompany accounts and
transactions have been eliminated.
Use of Estimates: The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the 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.
Inventories: Inventories are carried at cost or, if lower, net realizable
value. Through October 9, 1998 cost was determined using the first-in, first-
out (FIFO) method. For October 10, 1998 and thereafter, cost was determined
using the last-in, first-out method, which as of December 31, 1998,
approximated FIFO.
Property, Plant and Equipment: Property, plant and equipment are stated at
cost. Depreciation is provided over the estimated useful lives of the related
assets using primarily the straight-line method. This method is applied to
group asset accounts, which in general have the following lives: buildings--10
to 40 years; and machinery and equipment--3 to 20 years.
Goodwill and Other Intangible Assets: At December 31, goodwill and other
intangible assets which result principally from acquisitions, consisted of the
following:
ESTIMATED
USEFUL LIFE 1998 1997
----------- ------ -------
(MILLIONS OF
DOLLARS)
Goodwill..................................... 40 years $480.8 $ 718.5
Accumulated amortization..................... (2.7) (137.1)
------ -------
Total Goodwill............................... $478.1 $ 581.4
====== =======
Trademarks................................... 40 years $176.5 $ --
Developed technology......................... 12-30 years 68.2 --
Assembled workforce.......................... 15 years 20.2 --
------ -------
264.9
Accumulated amortization..................... (1.7) --
------ -------
Total Other Intangible Assets................ $263.2 $ --
====== =======
Intangible assets are periodically reviewed for impairment based on an
assessment of future cash flows to ensure that they are appropriately valued.
There were no impairment charges during 1998 or 1997. Intangible assets are
amortized on a straight-line basis over their estimated useful lives.
Net Parent Investment: The Net Parent Investment account reflects the
balance of Ignition's historical earnings, intercompany debt, accrued and
deferred income taxes and other transactions between Ignition's and its
parent.
Revenue Recognition: Ignition recognizes revenue and estimated returns from
product sales and the related customer incentive and warranty expense when
goods are shipped to the customer.
Currency Translation: Exchange adjustments related to international currency
transactions and translation adjustments for subsidiaries whose functional
currency is the United States dollar (principally those located in highly
inflationary economies) are reflected in the consolidated statements of
operations. Translation adjustments of international subsidiaries for which
the local currency is the functional currency are reflected in the
consolidated financial statements as a component of accumulated other
comprehensive income.
90
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Effect of Accounting Pronouncements: In April 1998, the American Institute
of Certified Public Accountants issued Statement of Position (SOP) 98-5
Reporting the Costs of Start-Up Activities. SOP 98-5 is effective January 1,
1999 and requires that start-up costs capitalized prior to January 1, 1999 be
written off and any future start-up costs be expensed as incurred. Ignition
does not anticipate that the adoption of this statement will have a
significant effect on its results of operations or financial position.
In 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities. Ignition expects to adopt the new statement effective
January 1, 2000. The statement requires Ignition to recognize all derivatives
on the balance sheet at fair value. Ignition does not anticipate that the
adoption of this statement will have a significant effect on its results of
operations or financial condition.
Fair Value of Financial Instruments: The carrying amounts of certain
financial instruments such as cash and equivalents, accounts receivable,
accounts payable and short-term debt approximate their fair values.
Derivative Financial Instruments: On a recurring basis, foreign currency
forward exchange contracts and commodity contracts are entered into to reduce
risks of adverse changes in foreign exchange rates and commodity prices. All
contracts are hedges of actual or anticipated transactions with the gain or
loss on the contract recognized in the same period and in the same category of
income or expense as the underlying hedged transaction. Ignition did not enter
into speculative derivative transactions or hedges of anticipated transactions
unless there is a high probability the transactions will occur. Due to the
short term of contracts and a restrictive policy, contract terminations or
anticipated transactions that do not occur are rare and insignificant events
that are accounted for through income in the period they occur.
NOTE 3: NONRECURRING CHARGES
During 1997, Ignition incurred charges of $16.2 million ($9.9 million after
income taxes) for actions management committed to during the period after
concluding an evaluation of certain sales, marketing and distribution
activities and information systems . The 1997 charges include adjustments to
the carrying value of assets of $6.9 million and expenditures for replacing
systems and facility consolidations of $9.3 million.
Ignition has begun a consolidation of certain sales, marketing and
distribution activities. Adjustments to the carrying value of assets and exit
costs were recorded for projects committed to by management. Severance and
certain other costs related to projects committed to by management are not
expensed until the affected employees are notified. A majority of the
consolidations have been announced and such costs were accrued and expensed
during 1997.
NOTE 4: ACQUISITIONS
Ignition completed one product-line acquisition in 1998 which had an
aggregate cost of $8.5 million and $5.5 of goodwill was recorded. During 1997
Ignition completed two product-line acquisitions and one small product-line
acquisition in 1996. The 1997 acquisitions had an aggregate cost of $20.1
million and $14.0 million of goodwill was recorded, on a preliminary basis,
with respect to the acquisitions. The total cost of the 1996 acquisition was
approximately $50.3 million and $36.1 million of goodwill was recorded with
respect to the acquisition. The operations of these businesses were not
significant on a pro forma to historical operations of Ignition.
The acquisitions have been accounted for as purchases and the results of the
acquisitions are included in the consolidated income statements since the
respective acquisition dates.
91
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 5: INVENTORIES
At December 31 inventories consisted of the following:
1998 1997
------ ------
(IN MILLIONS)
Raw materials.............................................. $ 45.4 $ 42.2
Work-in-process............................................ 51.8 41.7
Finished goods............................................. 113.2 126.1
Perishable tooling and supplies............................ 28.5 28.6
------ ------
238.9 238.6
Inventory valuation allowances............................. -- (27.0)
------ ------
Net inventories.......................................... $238.9 $211.6
====== ======
NOTE 6: PROPERTY, PLANT AND EQUIPMENT
At December 31 property, plant and equipment consisted of the following:
1998 1997
------ ------
(IN MILLIONS)
Property, plant and equipment:
Land and land improvements.............................. $ 10.3 $ 11.8
Buildings............................................... 105.4 126.9
Machinery and equipment................................. 303.6 463.5
------ ------
419.3 602.2
Accumulated depreciation................................ (9.1) (273.0)
------ ------
$410.2 $329.2
====== ======
NOTE 7: COMMITMENTS AND CONTINGENCIES
At December 31, 1998, Ignition had accruals of $15.7 million with respect to
potential environmental liabilities, including $8.2 million classified as a
long-term liability, based on Ignition's current estimate of the most likely
amount of losses that it believes will be incurred.
Environmental remediation costs are accrued based on estimates of known
environmental remediation exposures. Such accruals are adjusted as information
develops or circumstances change. The environmental liability accrual includes
$6.6 million related to sites owned by Ignition and $9.1 million for retained
environmental liabilities related to sites previously owned by Ignition and
third-party sites where Ignition was a contributor. Third-party sites usually
involve multiple contributors where Ignition's liability will be determined
based on an estimate of Ignition's proportionate responsibility for the total
cleanup. The amounts actually accrued for such sites are based on these
estimates as well as an assessment of the financial capacity of the other
potentially responsible parties.
Ignition has not utilized any form of discounting in establishing its
environmental liability accrual. While the environmental liability accrual
involves estimates that can have wide ranges of potential liability, Ignition
has taken a proactive approach and have managed environmental costs over the
years. Ignition does not believe that the nature of their products, production
processes, or materials or other factors involved in the manufacturing process
are subject to unusual risks or exposures for environmental liability.
Ignition's greatest exposure to inaccuracy in their estimates is with respect
to the constantly changing definitions of what constitutes an environmental
liability or an acceptable level of cleanup.
92
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 8: RESTRUCTURING
In connection with acquisitions accounted for using the purchase method of
accounting, Ignition recorded, to the extent appropriate, accruals for the
costs of closing duplicate facilities, severing redundant personnel and
integrating the acquired business into existing operations of Ignition.
Significant accruals include plant shut-down and realignment costs, and
relocations, and aggregated $32.9 million, and $10.5 million at December 31,
1998 and 1997, respectively. Substantially all payments related to December
31, 1997 accruals were made in 1998.
NOTE 9: BORROWING ARRANGEMENTS
Ignition cash and indebtedness is managed on a worldwide basis by its
parent. The majority of the cash provided by or used by a particular division,
including Ignition is provided through this consolidated cash and debt
management system. As a result, the amount of cash or debt historically
related to Ignition is not determinable. For purposes of Ignition's historical
financial statements, identifiable debt was allocated to Ignition during each
year with all of Ignition's positive or negative cash flows being treated as
cash transferred to or from its parent.
Federal-Mogul funded the acquisition of Ignition through the issuance of
long-term debt. As such, the net parent investment at December 31, 1998
represents intercompany debt. Federal-Mogul charges Ignition interest on this
balance based on its incremental borrowing rate, which approximated 7.75% at
December 31, 1998.
Ignition has international short-term borrowing facilities under which $16.0
million and $35.5 million was outstanding at December 31, 1998 and 1997
respectively.
For purposes of Ignition's historical financial statements, interest expense
has been computed using the actual interest rate with respect to international
short-term borrowings. Total interest related to short-term debt paid during
1998, 1997 and 1996 was $1.5 million, $.6 million and $.2 million,
respectively.
Federal-Mogul has pledged 100% of Ignition's capital stock to secure certain
outstanding debt of Federal-Mogul. In addition, Ignition has guaranteed fully
and unconditionally, on a joint and general basis, the obligation to pay
principal and interest under Federal-Mogul's Senior Credit Agreement and its
publicly registered debt which approximate $3.1 billion at December 31, 1998.
Such pledges have also been made by certain other subsidiaries of Federal-
Mogul.
93
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 10: NET PARENT INVESTMENT
Changes in net parent investment were as follows:
(IN MILLIONS)
Balance at January 1, 1996................................ $1,103.1
Comprehensive income.................................... 62.7
Intercompany transactions, net.......................... (36.2)
--------
Balance at December 31, 1996.............................. 1,129.6
Comprehensive income.................................... 36.2
Intercompany transactions, net.......................... (68.7)
--------
Balance at December 31, 1997.............................. 1,097.1
Comprehensive income for the period January 1, 1998
through October 9, 1998................................ 41.1
Intercompany transactions, net.......................... 95.6
--------
Balance at October 9, 1998................................ $1,233.8
========
Federal-Mogul initial investment in Ignition.............. $1,462.2
Comprehensive income for the period October 10, 1998
through December 31, 1998.............................. (1.8)
Intercompany transactions, net.......................... (52.2)
--------
Balance at December 31, 1998.............................. $1,408.2
========
Intercompany transactions were principally cash transfers between Ignition
and its parent.
NOTE 11: INCOME TAXES
Ignition files a consolidated return with its parent for U.S. federal income
tax purposes. Federal income tax expense is calculated on a separate-return
basis for financial reporting purposes.
PERIOD
PERIOD JANUARY 1,
OCTOBER 10, 1998
1998 THROUGH THROUGH YEAR ENDED YEAR ENDED
DECEMBER 31, OCTOBER 9, DECEMBER 31, DECEMBER 31,
1998 1998 1997 1996
------------ ---------- ------------ ------------
Components of income tax
expense:
Current............... $2.4 $43.8 $39.1 $41.1
Deferred.............. -- (17.0) (0.8) 2.7
---- ----- ----- -----
Income Tax Expense.... $2.4 $26.8 $38.3 $43.8
==== ===== ===== =====
PERIOD
PERIOD JANUARY 1,
OCTOBER 10, 1998
1998 THROUGH THROUGH YEAR ENDED YEAR ENDED
DECEMBER 31, OCTOBER 9, DECEMBER 31, DECEMBER 31,
1998 1998 1997 1996
------------ ---------- ------------ ------------
Effective tax rate
reconciliation:
U.S. Federal statutory
rate................. 35% 35% 35% 35%
State and Local
Taxes................ 4 4 4 3
Nondeductible
Goodwill............. 50 8 7 6
Other................. (26) (4) (3) (3)
---- ----- ----- -----
Effective Tax Rate.... 63% 43% 43% 41%
==== ===== ===== =====
94
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the related amounts used for income tax purposes. Significant
components of the Ignition net deferred tax asset is non-deductible accruals
and depreciation timing differences.
1998 1997
------ ------
Current deferred tax assets/(liabilities)................. $ 64.3 $ 17.2
Long term deferred tax assets/(liabilities................ (51.9) 113.0
------ ------
Net deferred tax assets................................... $(12.4) $130.2
====== ======
As Ignition files a consolidated tax return with its parent, the net
deferred tax asset at December 31, 1998 and net deferred tax liability at 1997
is a component of the net parent investment.
NOTE 12: PENSION PLANS
In 1996 and 1997 as part of Cooper, employees of Ignition participated in
numerous pension plans covering substantially all domestic employees and
pension and similar arrangements in accordance with local customs covering
employees at foreign locations. The assets of the various domestic and foreign
plans were maintained in various trusts and consisted primarily of equity and
fixed-income securities. Funding policies range from five to thirty years.
Pension benefits for salaried employees were generally based upon career
earnings. Benefits for hourly employees were generally based on a dollar unit,
multiplied by years of service. The amount of expense and the funded status
with respect to the defined benefit pension plans of the Ignition, exclusive
of the Cooper Salaried Employee Benefit Plan, is set forth in the table below.
In addition, most U.S. salaried employees of Ignition participated in the
Cooper Salaried Employee Benefit Plan. The amount of expense allocated to
Ignition for this plan was $0.4 million and $1.0 million for the years ended
December 31, 1997 and 1996, respectively. During 1997 and 1996, Ignition
expense with respect to domestic and foreign defined contribution plans
(primarily related to various groups of hourly employees) amounted to $3.2
million and $2.6 million, respectively. Ignition aggregate pension expense
amounted to $10.1 million and $10.6 million during 1997 and 1996,
respectively.
YEAR ENDED
DECEMBER 31,
--------------
1997 1996
------ ------
(IN MILLIONS)
Components of defined benefit plan net pension expense:
Service cost--benefits earned during the year......... $ 3.5 $ 3.3
Interest cost on projected benefit obligation......... 18.0 17.5
Actual return on assets............................... (25.6) (17.8)
Net amortization and deferral......................... 10.6 4.0
------ ------
Net pension expense................................. $ 6.5 $ 7.0
====== ======
95
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
ASSETS EXCEED ACCUMULATED BENEFITS
ACCUMULATED BENEFITS EXCEED ASSETS
-------------------- --------------------
(IN MILLIONS)
Funded status of the plans at
December 31, 1997
Actuarial present value of:
Vested benefit obligation... $(5.8) $(218.7)
===== =======
Accumulated benefit
obligation................. $(5.8) $(241.3)
===== =======
Projected benefit
obligation................. $(8.2) $(247.8)
Plan assets at fair value..... 7.8 209.0
----- -------
Projected benefit obligation
in excess of plan assets..... (0.4) (38.8)
Unrecognized net loss......... 0.3 43.8
Unrecognized net (asset)
obligation from adoption
date......................... -- 0.1
Unrecognized prior service
cost......................... -- 4.2
Adjustment required to
recognize minimum liability.. -- (28.7)
----- -------
Pension liability at end of
year......................... $(0.1) $ (19.4)
===== =======
----------------------
DOMESTIC INTERNATIONAL
-------- -------------
Actuarial assumptions used:
Discount rate................................... 7 1/2% 6-7 1/4%
Rate of compensation increase................... 4 3/4% 4 1/2-6%
Expected long-term rate of return on assets..... 8 1/2% 7 1/2-9 3/4%
In 1998, the various pension plans of Ignition were merged into other plans
of Cooper. As such, the related pension liabilities were recorded to
intercompany debt. These multi-employer plans were in-turn
assumed by Federal-Mogul in its acquisition of Ignition. Such plans were
required to be fully funded by Cooper prior to the acquisition by Federal-
Mogul. The aggregated fully funded projected benefit obligation of such plans
of $352,000,000 was based upon a discount rate of 7.25% at December 31, 1998.
The expense charged to Ignition by Cooper during the period January 1, 1998 to
October 9, 1998 was $7.3 million. The credit to Ignition from Federal-Mogul
for the period October 10, 1998 to December 31, 1998 was $465,000.
NOTE 13: POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
As part of Cooper and subsequently Federal-Mogul, benefits provided to
employees of Ignition under various multi-employer postretirement plans other
than pensions, all of which are unfunded, include retiree medical care, dental
care, prescriptions and life insurance, with medical care accounting for
approximately 90% of the total. The majority of participants under such plans
are retirees. The expense related to such plans approximated $12.1 million,
$11.4 million, $4.4 million, and $2.8 million for 1996, 1997, the period
January 1, 1998 to October 9, 1998, and October 10, 1998 to December 31, 1998,
respectively. The unfunded projected benefit obligation of these plans
aggregated approximately $209 million at December 31, 1998 based upon a
discount rate of 6.75%
96
FEDERAL-MOGUL IGNITION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
NOTE 14: NORTH AMERICA, EUROPE AND OTHER OPERATIONS
Ignition operates in a single business segment, Automotive Products. It
manufactures and distributes spark plugs, wiper blades, lamps, and other
products for use by the automotive aftermarket and in automobile assemblies.
No single customer accounted for 10% or more of combined revenues in 1998,
1997 or 1996.
REVENUES ASSETS
-------------------------------------------------------------- -----------------
PERIOD OCTOBER 10, PERIOD JANUARY 1, YEAR ENDED YEAR ENDED DECEMBER 31,
1998 THROUGH 1998 THROUGH DECEMBER 31, DECEMBER 31, -----------------
DECEMBER 31, 1998 OCTOBER 9, 1998 1997 1996 1998 1997
------------------ ----------------- ------------ ------------ -------- --------
North America........... $150.8 $506.1 $ 711.4 $ 715.7 $1,025.1 $ 827.9
Europe.................. 59.1 195.1 253.8 258.5 463.0 469.1
Other................... 23.2 81.6 66.1 66.0 165.2 82.8
------ ------ -------- -------- -------- --------
Consolidated.......... $233.1 $782.8 $1,031.3 $1,040.2 $1,653.3 $1,379.8
====== ====== ======== ======== ======== ========
NOTE 15: CONCENTRATIONS OF CREDIT RISK
Ignition grants credit to their customers, which are primarily in the
automotive industry. Credit risk with respect to trade receivables is
generally diversified due to the large number of entities comprising the
customer base and their dispersion across many different countries. Ignition
performs periodic credit evaluations of their customers and generally do not
require collateral.
NOTE 16: SUMMARY OF NONCASH INVESTING AND FINANCING ACTIVITIES
The following noncash transactions have been excluded from the combined
statements of cash flows:
1998 1997 1996
----- ------ ------
(IN MILLIONS)
Assets acquired and liabilities assumed or
incurred from the acquisition of businesses:
Fair value of assets acquired................. $11.3 $ 27.0 $ 50.7
Cash used to acquire businesses, net of cash
acquired..................................... (8.5) (20.1) (50.3)
----- ------ ------
Liabilities assumed or incurred............. $ 2.8 $ 6.9 $ 0.4
===== ====== ======
97
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Federal-Mogul Corporation:
We have audited the accompanying balance sheets of Federal-Mogul Aviation,
Inc. and the Aviation Division of the Cooper Automotive Division of Cooper
Industries (the Predecessor) as of December 31, 1998 and 1997, respectively,
and the related statements of operations and cash flows for the periods
October 10, 1998 through December 31, 1998, and for the Predecessor for the
period January 1, 1998 through October 9, 1998 and for each of the two years
in the period ended December 31, 1997. These financial statements are the
responsibility of the respective Company's management. Our responsibility is
to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Federal-Mogul Aviation,
Inc. at December 31, 1998 and the Predecessor at December 31, 1997, and the
results of its operations and its cash flows for the period October 10, 1998
through December 31, 1998 and for the Predecessor for the period January 1,
1998 through October 9, 1998, and for each of the two years in the period
ended December 31, 1997, in conformity with generally accepted accounting
principles.
/s/ Ernst & Young LLP
Detroit, Michigan
February 12, 1999
98
FEDERAL-MOGUL AVIATION, INC.
STATEMENTS OF OPERATIONS
(thousands)
Predecessor
---------------------------
Year ended
October 10- Janaury 1- December 31,
December 31, October 9, ----------------
1998 1998 1997 1996
------------ ---------- ------- -------
Revenues.............................. $13,579 $46,836 $58,449 $52,461
Cost of sales......................... 8,977 31,738 36,918 35,062
Selling and administrative expenses... 995 3,808 6,448 5,500
Amortization expense.................. 289 309 168 376
Interest expense...................... 1,394 -- 9 --
Other (income)/expense, net........... 224 12 (290) 260
------- ------- ------- -------
Income before income taxes.......... 1,700 10,969 15,196 11,263
Income taxes.......................... 776 4,314 6,034 4,480
------- ------- ------- -------
Net income.......................... $ 924 $ 6,655 $ 9,162 $ 6,783
======= ======= ======= =======
See accompanying Notes to Financial Statements.
99
FEDERAL-MOGUL AVIATION, INC.
BALANCE SHEETS
December 31,
-------------------
Predecessor
1998 1997
------- -----------
(thousands)
Assets
Cash...................................................... $ 1 $ 1
Accounts receivable....................................... 7,104 6,086
Inventories............................................... 18,255 13,072
Other..................................................... -- 16
------- -------
Total current assets.................................... 25,360 19,175
Property, plant and equipment, less accumulated
depreciation............................................. 19,448 14,518
Goodwill, less accumulated amortization................... 28,546 16,488
Other intangibles, less accumulated amortization.......... 15,704 --
Other assets.............................................. -- 7
------- -------
Total assets............................................ $89,058 $50,188
======= =======
Liabilities and Net Parent Investment
Accounts payable.......................................... $ 3,456 $ 2,481
Accrued compensation...................................... 607 603
Restructuring and rationalization reserves................ 119 2,192
Other accrued liabilities................................. 683 1,072
------- -------
Total current liabilities............................... 4,865 6,348
Other long-term liabilities............................... -- 936
Net parent investment..................................... 84,193 42,904
------- -------
Total liabilities and net parent investment............. $89,058 $50,188
======= =======
See accompanying Notes to Financial Statements.
100
FEDERAL-MOGUL AVIATION, INC.
STATEMENTS OF CASH FLOWS
(THOUSANDS)
PREDECESSOR
-----------------------------
YEAR ENDED
OCTOBER 10- JANUARY 1- DECEMBER 31,
DECEMBER 31, OCTOBER 9, ------------------
1998 1998 1997 1996
------------ ---------- -------- --------
Cash flows from operating
activities:
Net income...................... $ 924 $ 6,655 $ 9,162 $ 6,783
Adjustments to reconcile to net
cash provided by operating
activities:
Depreciation expense............ 287 2,122 2,556 2,514
Amortization expense............ 289 309 168 376
Changes in assets and
liabilities:
Accounts receivable........... 600 (1,618) 1,228 (1,366)
Inventories................... 300 (4,883) 45 4,650
Accounts payable and accrued
liabilities.................. (795) (1,624) 36 162
Other assets and liabilities,
net.......................... -- 23 151 44
------- ------- -------- --------
Net cash provided by
operating activities....... 1,605 984 13,346 13,163
Cash flows from investing
activities:
Capital expenditures............ (275) (420) (528) (323)
Cash flows from financing
activities:
Net intercompany activity with
parent......................... (1,330) (564) (12,819) (12,840)
------- ------- -------- --------
Decrease in cash ................. -- -- (1) --
Cash at beginning of
period..................... 1 1 2 2
------- ------- -------- --------
Cash at end of period....... $ 1 $ 1 $ 1 $ 2
======= ======= ======== ========
See accompanying Notes to Financial Statements.
101
FEDERAL-MOGUL AVIATION, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
The accompanying financial statements reflect the assets, liabilities and
operations of Federal-Mogul Aviation, Inc. ("Aviation"). Aviation is a wholly
owned subsidiary of Federal-Mogul Corporation ("Federal-Mogul"). Aviation was
previously an operating unit included in the Cooper Automotive Division of
Cooper Industries, Inc. ("Cooper"). Federal-Mogul purchased the automotive
divisions of Cooper, including Aviation, on October 9, 1998 for approximately
$2.2 billion of which approximately $83 million is attributable to Aviation.
The assets and liabilities of Aviation have been adjusted to their fair values
as of October 9, 1998. All related purchase accounting adjustments as recorded
by Federal-Mogul and related to Aviation have been reflected herein. Such
adjustments consist principally of the following:
Increase in net book value to fair value (in thousands):
Inventory....................................................... $ 600
Property, plant and equipment................................... 6,900
Intangible assets (including goodwill).......................... 28,000
In connection with the acquisition, Federal-Mogul is in the process of
having valuations of acquired property, plant and equipment and identifiable
intangible assets completed. In addition, the related purchase agreement
includes a price adjustment based upon acquired net assets, as defined in the
agreement, as of the acquisition date. The purchase price allocations included
in the accompanying financial statements are based upon management's best
estimates and currently available information. Such purchase price allocations
will be finalized when such valuations and the final purchase price adjustment
are completed in 1999. Actual results could differ from the above estimates.
Aviation operates with complete financial and operations staff on a
decentralized basis. Its parent provides certain centralized services for
employee benefits administration, cash management, risk management, legal
services, public relations, domestic tax reporting and internal and external
audit. Its parent bills Aviation for all direct costs incurred on behalf of
Aviation. General corporate, accounting, tax, legal and other administrative
costs that are not directly attributable to the operations of Aviation have
been allocated based on a ratio of Aviation's revenues to consolidated
revenues. Management believes that this allocation method is reasonable.
The accompanying financial statements include the accounts of Aviation as
described above. These statements are presented as if Aviation had existed as
an entity separate from its parent during the period presented and include the
assets, liabilities, revenues and expenses that are directly related to
Aviation's operations.
Because Aviation is fully integrated into its parent's worldwide cash
management system, all of their cash requirements are provided by its parent
and any excess cash generated by Aviation is transferred.
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates: The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the 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.
102
FEDERAL-MOGUL AVIATION, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
Inventories: Inventories are carried at cost or, if lower, net realizable
value. Through October 9, 1998 cost determined using the first-in, first-out
(FIFO) method. From October 10, 1998 and thereafter, cost was determined using
the last-in, first-out (LIFO) method, which at December 31, 1998, approximated
FIFO.
Revenue Recognition: The Company recognizes revenue and estimated returns
from product sales and the related customer incentive and warranty expense
when goods are shipped to the customer.
Property, Plant and Equipment: Property, plant and equipment are stated at
cost. Depreciation is provided over the estimated useful lives of the related
assets using primarily the straight-line method. This method is applied to
group asset accounts, which in general have the following lives: buildings--10
to 40 years and machinery and equipment--3 to 20 years.
Goodwill and Other Intangible Assets: At December 31, goodwill and other
intangible assets which result principally from acquisitions, consisted of the
following (in thousands):
Estimated
Useful Life 1998 1997
----------- ------- -------
Goodwill.................................... 40 years $28,710 $19,544
Accumulated amortization.................... (164) (3,056)
------- -------
Total Goodwill.............................. $28,546 $16,488
======= =======
Trademarks.................................. 40 years $10,790 $ --
Developed technology........................ 12-30 years 3,825 --
Assembled workforce......................... 15 years 1,214 --
------- -------
15,829 --
Accumulated amortization.................... (125) --
------- -------
Total other intangible assets............... $15,704 $ --
======= =======
Intangible assets are periodically reviewed for impairment based on an
assessment of future cash flows to ensure that they are appropriately valued.
Intangible assets are amortized on a straight-line basis over their estimated
useful lives.
Net Parent Investment: The Net Parent Investment account reflects the
balance of Aviation's historical earnings, intercompany debt, accrued and
deferred income taxes and other transactions between Aviation and its parent.
Effect of Accounting Pronouncements: In April 1998, the American Institute
of Certified Public Accountants issued Statement of Position (SOP) 98-5,
Reporting the Costs of Start-Up Activities. SOP 98-5 is effective January 1,
1999, and requires that start-up costs capitalized prior to January 1, 1999 be
written off and any future start-up costs be expensed as incurred. The Company
does not anticipate that the adoption of this statement will have a
significant effect on its results of operations or financial position.
Fair Value of Financial Instruments: The carrying amounts of certain
financial instruments such as cash and equivalents, accounts receivable and
accounts payable approximate their fair value.
103
FEDERAL-MOGUL AVIATION, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 3: INVENTORIES
At December 31, inventories consisted of the following:
1998 1997
------- -------
(THOUSANDS)
Raw materials............................................ $ 5,100 $ 4,810
Work-in-process.......................................... 9,315 7,955
Finished goods........................................... 2,159 1,784
Perishable tooling and supplies.......................... 1,681 1,686
------- -------
18,255 16,235
Inventory valuation allowances........................... -- (3,163)
------- -------
Net inventories........................................ $18,255 $13,072
======= =======
NOTE 4: PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost and include expenditures
which materially extend the useful lives of existing buildings, machinery and
equipment. At December 31, property, plant and equipment consisted of the
following:
1998 1997
------- -------
(THOUSANDS)
Property, plant and equipment:
Land and land improvements........................... $ 148 $ 268
Buildings............................................ 9,335 9,408
Machinery and equipment.............................. 10,253 23,814
------- -------
19,736 33,490
Accumulated depreciation............................. (288) (18,972)
------- -------
$19,448 $14,518
======= =======
NOTE 5: COMMITMENTS AND CONTINGENCIES
In connection with acquisitions accounted for using the purchase method of
accounting, Aviation records, to the extent appropriate, accruals for the
costs of closing duplicate facilities, severing redundant personnel and
integrating the acquired business into existing operations of Aviation.
Significant accruals include plant shut-down and realignment costs, and
facility relocations, and aggregated $0.2 million and $2.2 million at December
31, 1998 and 1997, respectively.
Amounts expended totaled $2.0 million, $1.1 million and $0 in 1998, 1997 and
1996, respectively. The spending related primarily to downsizing and
consolidating facilities.
Federal-Mogul has pledged 100% of Aviation's capital stock to secure certain
outstanding debt of Federal-Mogul. In addition, Aviation has guaranteed fully
and unconditionally, on a joint and several basis, the obligation to pay
principal and interest under Federal-Mogul's Senior Credit Agreement and its
publicly traded registered debt which approximate $3.1 billion at December 31,
1998. Such pledges and guarantees have also been made by certain other
subsidiaries of Federal-Mogul.
104
FEDERAL-MOGUL AVIATION, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 6: NET PARENT INVESTMENT
Changes in net parent investment during the three years ended December 31,
1998 were as follows:
Balance at January 1, 1996.................................... $ 48,530
Net intercompany transactions with parent................... (13,411)
Net income.................................................. 6,783
--------
Balance at December 31, 1996.................................. 41,902
Net intercompany transactions with parent................... (8,160)
Net income.................................................. 9,162
--------
Balance at December 31, 1997.................................. 42,904
Net intercompany transactions with parent................... (1,927)
Net income for period from January 1, 1998 to October 10,
1998....................................................... 6,655
--------
Balance at October 9, 1998.................................... $ 47,632
========
Federal-Mogul investment in Aviation.......................... $ 81,979
Net intercompany transactions with parent................... 1,290
Net income for period from October 10, 1998 to December 31,
1998....................................................... 924
--------
Balance at December 31, 1998.................................. $ 84,193
========
Federal-Mogul financed the acquisition of Cooper Automotive through the
issuance of long-term debt. As such, the net parent investment balance at
December 31, 1998 represents intercompany debt. Federal-Mogul charges interest
on this balance based on its incremental borrowing rate, which approximated
7.75% at December 31, 1998.
NOTE 7: INCOME TAXES
Aviation files a consolidated return with its parent for U.S. federal income
tax purposes. Federal income tax expense is calculated on a separate-return
basis for financial reporting purposes. A reconciliation between Aviation's
statutory federal income tax rate and its effective tax rate is summarized
below:
PERIOD PERIOD
JANUARY 1, OCTOBER 10,
1998 THROUGH 1998 THROUGH
OCTOBER 9, DECEMBER 31,
1998 1998 1997 1996
------------ ------------ ---- ----
Effective tax rate reconciliation:
U.S. Federal statutory rate...... 35.0% 35.0% 35.0% 35.0%
State and Local Taxes............ 4.0 4.0 4.0 4.0
Other............................ 0.3 6.6 0.7 0.7
---- ---- ---- ----
Effective Tax Rate............... 39.3% 45.6% 39.7% 39.7%
==== ==== ==== ====
Deferred taxes and income taxes payable are a component of the net
investment in parent.
NOTE 8: PENSION PLANS
Employees of Aviation participate in pension plans covering substantially
all employees of its parent. The assets of the various domestic plans are
maintained in various trusts and consist primarily of equity and fixed-income
securities. Funding policies range from five to thirty years. Pension benefits
for salaried employees are
105
FEDERAL-MOGUL AVIATION, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
generally based upon career earnings. Benefits for hourly employees are
generally based on a dollar unit, multiplied by years of service. The pension
expense charged to Aviation by the plans during the period October 10, 1998 to
December 31, 1998, January 1, 1998 to October 9, 1998, and the years ended
December 31, 1997 and 1996 approximated 0, $0.3 million, $0.4 million and $0.4
million, respectively. Such plans were required to be fully funded by Cooper,
prior to the acquisition by Federal-Mogul. The aggregated fully funded
projected benefit obligation of such plans of $352 million was based upon a
discount rate of 7.25% at December 31, 1998.
In addition, most salaried employees of Aviation participate in the Cooper
Salaried Employee Benefit Plan. The amount of expense allocated to Aviation
during the period October 10, 1998 to December 31, 1998, January 1, 1998 to
October 9, 1998, and the years ended December 31, 1997 and 1996 approximated
$15,000, $0.2 million, $24,000 and $0.1 million, respectively.
In addition, most hourly employees participate in various defined
contribution plans. The amount of expense allocated to Aviation during the
period October 10, 1998 to December 31, 1998, January 1, 1998 to October 9,
1998, and the years ended December 31, 1997 and 1996 approximated $0.1
million, $0.2 million, $0.2 million and $0.2 million, respectively.
Note 9: Benefits Other Than Pensions
Benefits provided to employees of Aviation under various multi-employer
postretirement plans other than pensions, all of which are unfunded, include
retiree medical care, dental care, prescriptions and life insurance, with
medical care accounting for approximately 90% of the total. Such benefit
expenses charged to Aviation by the multi-employer plans during the period
October 10, 1998 to December 31, 1998, January 1, 1998 to October 9, 1998 and
for the years ended December 31, 1997 and 1996, approximated $0.2 million,
$0.3 million, $0.7 million and $0.7 million, respectively.
All full-time employees of Aviation, except for certain bargaining unit
employees, were eligible to participate in the Cooper Savings Plan ("CO-SAV").
Under the terms of the Plan, employee savings deferrals were partially matched
with contributions of Cooper Common stock consisting of either an allocation
of shares in Cooper's Employee Stock Ownership Plan ("ESOP") or new shares
issued to the ESOP. All assets of the CO-SAV and ESOP Plans shall be
transferred to the multi-employer defined contribution plans which Aviation
participates.
The Aviation Division's compensation expense with respect to the CO-SAV plan
and the ESOP was approximately $0.1 million, $0.2 million and $0.3 million in
1998, 1997 and 1996, respectively.
Note 10: Concentration of Credit Risk and Other
Aviation grants credit to their customers, which are primarily in the
aerospace industry. Credit risk with respect to trade receivables is generally
diversified due to the large number of entities comprising Aviation's customer
base. Aviation performs periodic credit evaluations of their customers and
generally do not require collateral.
Aviation operates in a single business segment manufacturing internal engine
parts for the aerospace industry. Aviation manufactures and distributes
ignition parts for use in the aerospace aftermarket and original equipment
industry. One customer, a distributor of these ignition parts, accounted for
approximately 30% of sales ion the periods October 10, 1998 to December 31,
1998 and January 1, 1998 to October 9, 1998, and 26% and 25% for the years
ended December 31, 1997 and 1996, respectively. No other customer accounted
for 10% or more of revenues in 1998, 1997 or 1996. All of Aviation's
operations are conducted in the United States.
106
SIGNATURES
Pursuant to the requirements to 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.
Federal-Mogul Corporation
/s/ Thomas W. Ryan
By: _________________________________
Thomas W. Ryan
Executive Vice President and Chief
Financial Officer
Dated: March 31, 1999
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 their capacities.
Signature Title
--------- -----
/s/ Richard A. Snell Chairman and Chief Executive Officer
___________________________________________
Richard A. Snell
/s/ Thomas W. Ryan Executive Vice President and Chief
___________________________________________ Financial Officer (Principal Financial
Thomas W. Ryan Officer)
/s/ Kenneth P. Slaby Vice President and Controller (Principal
___________________________________________ Accounting Officer)
Kenneth P. Slaby
* Director
___________________________________________
John F. Fannon
* Director
___________________________________________
Roderick M. Hills
* Director
___________________________________________
Paul Scott Lewis
* Director
___________________________________________
Antonio Madero
* Director
___________________________________________
Robert S. Miller, Jr.
* Director
___________________________________________
John C. Pope
* Director
___________________________________________
Sir Geoffrey Whalen C.B.E.
/s/ James J. Zamoyski
By___________________________________
James J. Zamoyski
Attorney-in-fact
2