Back to GetFilings.com

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

Fortune Brands, Inc.

(Exact name of registrant as specified in its charter)

300 Tower Parkway, Lincolnshire, IL 60069-3640

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (847) 484-4400

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark whether 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 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.    x

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).    Yes  x    No  ¨

The aggregate market value of registrant’s voting stock held by non-affiliates of registrant, at June 30, 2003 (the last day of our most recent second quarter), was $7,612,658,024.40. The number of shares outstanding of registrant’s common stock, par value $3.125 per share, at February 17, 2004, were 146,279,605.

Table of Contents

DOCUMENTS INCORPORATED BY REFERENCE

FORM 10-K TABLE OF CONTENTS

2

Table of Contents

PART I

Item 1. Business.

Fortune Brands, Inc. (“we” or “the Company”) is a holding company with subsidiaries engaged in the manufacture, production and sale of home and hardware products, spirits and wine, golf and office products.

The Company was incorporated under the laws of Delaware in 1985 and until 1986 conducted no business. Prior to 1986, the businesses of the Company’s subsidiaries were conducted by American Brands, Inc., a New Jersey corporation organized in 1904 (American New Jersey), and its subsidiaries. American New Jersey was merged into The American Tobacco Company (ATCO) on December 31, 1985, and the shares of the principal first-tier subsidiaries formerly held by American New Jersey were transferred to the Company. In addition, the Company assumed all liabilities and obligations in respect of the public debt securities of American New Jersey outstanding immediately prior to the merger. On May 30, 1997, the Company’s name was changed from American Brands, Inc. to Fortune Brands, Inc.

As a holding company, the Company is a legal entity separate and distinct from its subsidiaries. Accordingly, the right of the Company, and thus the right of the Company’s creditors (including holders of its debt securities and other obligations) and stockholders, to participate in any distribution of the assets or earnings of any subsidiary is subject to the claims of creditors of the subsidiary, except to the extent that claims of the Company itself as a creditor of such subsidiary may be recognized, in which event the Company’s claims may in certain circumstances be subordinate to certain claims of others. In addition, as a holding company, a principal source of the Company’s unconsolidated revenues and funds is dividends and other payments from its subsidiaries. The Company’s principal subsidiaries currently are not limited by long-term debt or other agreements in their abilities to pay cash dividends or to make other distributions with respect to their capital stock or other payments to the Company.

Fortune Brands’ success is driven by leading consumer brands in four categories: home and hardware products, spirits and wine, golf equipment and office products. We seek to grow sales and profits by investing in the growth of our leading consumer brands. Our brand investments include support for marketing, advertising and the development of innovative new products. We also seek to gain market share by developing and expanding customer relationships.

While our first priority is internal growth, we add to that growth with high-return acquisitions and joint ventures that position our businesses for even stronger growth and higher returns. Accordingly, we have made the following acquisitions and joint venture partnerships in recent years:

In 2003, the Company completed these additional acquisitions with an aggregate cost of $123.7 million:

3

Table of Contents

Acquisitions and joint ventures from 1999-2002 were:

We have also sold a number of nonstrategic businesses and product lines, including the sale in 2001 of the spirits and wine business’s U.K.-based Scotch whisky business for $280 million, and the sale in 2002 of the home and hardware unit’s specialty plumbing parts business for $15 million.

We review on an ongoing basis the portfolio of brands owned by our operating companies and evaluate our options for increasing shareholder value. Although no assurance can be given as to whether or when any acquisitions or dispositions will be made, we might finance such acquisitions by issuing additional debt or equity securities. The possible additional debt from any completed acquisitions would increase the Company’s debt-to-equity ratio and such debt or equity securities might, at least in the near term, have a dilutive effect on earnings per share. We also consider other corporate strategies intended to enhance stockholder value, including share repurchases and higher dividend payments. We cannot predict whether or when any particular strategy might be implemented or what the financial effect thereof might be upon the Company’s debt or equity securities.

Another aspect of our strategy is to continuously improve the productivity and cost structures of our businesses. Cost-reduction opportunities resulted in pre-tax restructuring charges of $19.5 million, $45.9 million and $45.4 million in 2003, 2002 and 2001, respectively.

Cautionary Statement

Except for the historical information contained in this Annual Report on Form 10-K, certain statements in this document, including without limitation, certain matters discussed in Part I, Item #1 — Business and Item #3 — Legal Proceedings and in Part II, Item #7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations, are forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, that involve a number of risks and uncertainties. Readers are cautioned that these forward-looking statements speak only as of the date hereof. Actual results may differ materially from those projected as a result of certain risks and uncertainties including, but not limited to:

4

Table of Contents

other risks and uncertainties detailed from time to time in the Company’s Securities and Exchange Commission filings.

See Note #17 — “Information on Business Segments” in the Notes to Consolidated Financial Statements, Item 8 to this Form 10-K.

The following is a description of the business of the subsidiaries of the Company in the industry segments of Home and Hardware, Spirits and Wine, Golf and Office. For financial information about these industry segments, see Note #17 — “Information on Business Segments” in the Notes to Consolidated Financial Statements, Item 8 to this Form 10-K.

Home and Hardware

Fortune Brands Home & Hardware, Inc. (Home and Hardware) is a holding company for subsidiaries in the home and hardware business. Subsidiaries include Moen Incorporated (Moen), MasterBrand Cabinets, Inc. (MasterBrand Cabinets), Master Lock Company (Master Lock), Waterloo Industries, Inc. (Waterloo) and Therma-Tru Corp. (Therma-Tru). The home and hardware industry is highly competitive. Home and Hardware’s operating companies compete on the basis of product quality, price, service and responsiveness to distributor and retailer needs and end-user consumer preferences. Factors that affect Home and Hardware’s results of operations include levels of home improvement and residential construction activity, principally in the U.S.

Moen manufactures faucets, bath furnishings, accessories, parts and composite kitchen sinks in North America and East Asia. Sales are made through Moen’s own sales force and independent manufacturers’ representatives primarily to wholesalers, mass merchandisers and home centers and also to industrial distributors and original equipment manufacturers. Some plumbing parts and repair products are purchased from other manufacturers and packaged for resale. Products are sold principally in the U.S. and Canada and also in East Asia, Mexico and Latin America. Moen’s chief competitors include Masco’s Delta/Peerless, Black & Decker’s Price Pfister, Kohler, American Standard and imported private-label brands.

MasterBrand Cabinets is engaged in manufacturing custom, semi-custom, stock, and ready-to-assemble kitchen cabinets and bathroom vanities. MasterBrand Cabinets sells under brand names including Aristokraft, Decorá, Schrock, Diamond, Kemper, Omega, Kitchen Craft and HomeCrest. MasterBrand Cabinets sells direct to large homebuilders and through stocking distributors for resale to kitchen and bath specialty dealers, home centers, lumber and building material dealers, remodelers and builders. In June 2003, MasterBrand Cabinets acquired Capital Cabinet Corporation. In April 2002, MasterBrand Cabinets acquired Omega Holdings, Inc., a manufacturer of custom and semi-custom cabinetry, for $538 million. MasterBrand Cabinets is the second largest cabinet manufacturer in North America. MasterBrand Cabinets’ competitors include Masco’s Merillat, KraftMaid and Mills Pride brands, American Woodmark Corporation, and Armstrong World Industries’ Triangle Pacific brand.

Master Lock manufactures and sells key-controlled and combination padlocks, bicycle and cable locks, built-in locker locks, automotive, trailer and towing locks and other specialty security devices. Sales of products designed for consumer use are made to wholesale distributors, home centers and hardware and other retail outlets. Sales of lock systems are made to industrial and institutional users, original equipment manufacturers and retail outlets. Master Lock competes with Abus, Kryptonite, Hampton, Winner and various imports in the padlock segment. In April 2003, our home and hardware business acquired American Lock Company, a U.S.-based manufacturer of solid body commercial padlocks.

5

Table of Contents

Waterloo manufactures tool storage products, principally high-quality steel toolboxes, tool chests, workbenches and related products. Waterloo sells to Sears for resale under the Craftsman brand owned by Sears, to Lowe’s under the Kobalt brand name, and under the Waterloo brand name to specialty industrial and automotive dealers, mass merchandisers, home centers and hardware stores. Waterloo competes with Snap-On, Kennedy, Stanley, Stack-On and others in the metal storage segment, and with Contico, Zag, Rubbermaid and others in the plastic hand box category.

In November 2003, the home and hardware business acquired Therma-Tru Holdings, Inc., the leading manufacturer of residential entry door systems in the United States. This acquisition fits our strategic focus on leading brands, shares beneficial demographics and market fundamentals with our other home and hardware brands, and creates valuable synergies within our home and hardware business. The purchase was financed through the issuance of commercial paper and subsequently partially refinanced through the issuance of long-term debt securities under the Company’s outstanding shelf registration statement filed with the Securities and Exchange Commission. Therma-Tru recorded full-year sales of approximately $410 million in 2003. Results of operations have been included in the Company’s consolidated financial statements as of the acquisition date. The acquisition price was $924.0 million, net of cash.

Therma-Tru designs and manufactures fiberglass and steel residential entry door systems, primarily for sale in the United States, Canada and Western Europe. Therma-Tru’s principal customers are building products distributors that sell door systems, windows, moldings and other millwork building products to the residential new construction market, as well as the remodeling and renovation markets. Therma-Tru’s competitors include Masonite, Jeld-Wen, Plastpro and others.

In November 2002, the home and hardware business sold its non-strategic plumbing parts business.

Raw materials used for the manufacture of products offered by Home and Hardware’s operating companies are primarily red oak, maple and pine lumber, particleboard, rolled steel, brass, zinc, copper, nickel, and various plastic resins. These materials are available from a number of sources.

Spirits and Wine

Jim Beam Brands Worldwide, Inc. (JBBW) is a holding company for subsidiaries in the distilled spirits and wine business. Principal subsidiaries include Jim Beam Brands Co. (JBBCo.), Future Brands LLC (Future Brands) and Jim Beam Brands Australia Pty. Limited.

In July 2003, the spirits and wine business acquired Wild Horse Winery, a California-based producer of premium and ultra-premium wines. In December 2003, the spirits and wine business extended the rights to manufacture and distribute Gilbey’s gin and vodka for an additional 20 years, and also acquired the trademark rights to the Kamchatka vodka brand in California (the spirits and wine business previously had owned all other U.S. rights to Kamchatka).

On October 16, 2001, the Company’s spirits and wine business sold its U.K.-based Scotch whisky business for $280 million in cash. The sale of the business consisted of the Invergordon private-label and bulk Scotch operations and several regional brands in the U.K. The business that was sold generated sales of approximately $235 million (including excise taxes) in 2000. The Company recorded an after-tax gain of $21.8 million related to the sale.

On May 31, 2001, the Company’s spirits and wine business completed transactions with V&S Vin & Sprit AB (V&S), maker of ABSOLUT vodka, creating the Future Brands joint venture to distribute both companies’ spirits brands in the United States. V&S paid $270 million to gain access to JBBCo.’s U.S. distribution network and to acquire a 49% interest in Future Brands, and paid $375 million to purchase a 10% equity interest in JBBW in the form of convertible preferred stock. V&S also acquired a three-year option to increase its equity stake in JBBW by up to an additional 9.9%. V&S may require the Company to purchase the JBBW preferred stock in whole or in part at any time after May 31, 2004 or upon a change in control of JBBW, JBBCo., or certain other events.

6

Table of Contents

In August 1999, JBBW formed the Maxxium international sales and distribution joint venture with Remy Cointreau S.A. and Highland Distillers Group Limited to distribute and sell premium wines and spirits in key markets outside the United States. Concurrent with the formation of Future Brands in May 2001, V&S acquired a 25% interest in Maxxium.

Principal markets for the products of JBBW’s subsidiaries are the U.S., Australia and the U.K. Approximately 20-25% of our spirits and wine business’s sales are to international markets.

JBBW’s leading brands are owned by its subsidiaries, except that DeKuyper cordials are produced and sold in the U.S. under a perpetual license, and Gilbey’s gin and Gilbey’s vodka are produced and sold in the U.S. under a license expiring September 30, 2027.

JBBCo., whose operations are located in the U.S., currently produces, or imports, and markets a broad line of distilled spirits, including bourbon and other whiskeys, cordials, gin, vodka and rum. JBBCo. and its predecessors have been distillers of bourbon whiskey since 1795. JBBCo.’s leading brand names are Jim Beam bourbon whiskey, DeKuyper cordials, Windsor Canadian supreme whisky, Kessler American blended whiskey, Kamora coffee liqueur, Knob Creek, Booker’s, Baker’s and Basil Hayden’s small batch bourbons, Ronrico rum, Vox vodka, Lord Calvert Canadian whisky and Gilbey’s gin. The Geyser Peak, Canyon Road and Wild Horse wines are produced and sold by Peak Wines International, Inc., another subsidiary of JBBW. Products of JBBW’s subsidiaries are sold through various distributors. In the 18 “control” states (and one county) in the U.S. that have established government control over certain aspects of the purchase and distribution of alcoholic beverages, products are sold through government-controlled liquor authorities.

The distilled spirits business is highly competitive, with many brands sold in the consumer market. JBBW is the largest U.S.-based producer and marketer of distilled spirits and is among the major competitors worldwide. JBBW’s subsidiaries compete on the basis of product quality, price, service and responsiveness to consumer preferences. Major competitors include Diageo, Allied Domecq, Pernod, Brown-Forman, Bacardi and Constellation Brands.

Over the past several years, there has been a trend toward consolidation of supplier, distributor and retailer tiers in the highly competitive global spirits and wine business. Continued consolidation may present pricing and service challenges for our spirits and wine business and its competitors. It may also present opportunities, particularly for the most efficient and innovative competitors.

Because whiskeys are aged for various periods, generally from three to nine years, subsidiaries of JBBW maintain, in accordance with industry practice, substantial inventories of aging bulk whiskey in warehouse facilities. Whiskey production is generally scheduled to meet demand years into the future, and production schedules are adjusted from time to time to bring inventories into balance with estimated future demand. In addition, JBBW may from time to time seek to purchase bulk whiskey if necessary to meet estimated future demand.

The principal raw materials for the production, storage and aging of distilled products, especially whiskeys, are primarily corn, other grains, and new oak barrels, and are readily available from a number of sources except that new oak barrels are available from only a limited number of major sources, one of which is owned by a competitor. JBBCo. has a long-term supply agreement for new oak barrels.

The principal raw materials used in the production of wines are grapes, barrels and packaging materials. Grapes are primarily purchased from independent growers under long-term supply contracts and, from time to time, are affected by weather and other forces that may impact production and quality.

The production, storage, transportation, distribution and sale of the products of JBBW’s subsidiaries are subject to regulation by federal, state, local and foreign authorities. Various local jurisdictions prohibit or restrict the sale of distilled spirits and wine in whole or in part.

Several industries have faced class action litigation, and four such purported class actions have been brought against certain producers of alcohol beverages for alleged marketing to persons under the legal drinking age. Neither the Company nor any of its subsidiaries is a party to these legal actions. The Company believes, and counsel has advised generally, that in the event such actions are commenced against the Company or its subsidiaries, meritorious defenses would be available, and the Company would vigorously contest any such litigation.

7

Table of Contents

In the U.S., U.K. and many other countries, distilled spirits and wine are subject to federal excise taxes and/or customs duties as well as state, local and other taxes. Beverage alcohol sales are particularly sensitive to higher excise tax rates. Although no federal excise tax increase is presently pending in the U.S., our largest market, many states are considering possible excise tax increases and the possibility of future increases cannot be ruled out. The effect of any future excise tax increases in any jurisdiction cannot be determined, but it is possible that any future excise tax increases would have an adverse effect on unit sales and increase existing competitive pressures.

Golf

Acushnet Company (Acushnet), together with its subsidiaries, is a leading manufacturer and distributor of golf balls, golf clubs, golf shoes and golf gloves. Other products include golf bags, golf outerwear, dress and athletic shoes, socks and accessories. Acushnet’s leading brands are Titleist and Pinnacle golf balls; Titleist and Cobra golf clubs; Scotty Cameron by Titleist putters; FootJoy golf shoes; and FootJoy and Titleist golf gloves. Acushnet products are sold primarily to on-course golf pro shops and selected off-course specialty stores throughout the United States. Sales are made in the U.K., Canada, Germany, Austria, Denmark, Ireland, France, Sweden, The Netherlands, South Africa, Thailand, Singapore, Malaysia, Australia, New Zealand and Japan through subsidiaries and outside these areas through distributors or agents. Approximately 25-30% of our golf business’s sales are to international markets.

Acushnet and its subsidiaries compete on the basis of product quality, product innovation, price, service and responsiveness to consumer preferences. In golf balls, Acushnet’s main competitors are Callaway, Top Flite, Maxfli, Bridgestone and Nike. In golf clubs, Callaway, TaylorMade, Cleveland, Wilson, Ping, Nike, Adams and Orlimar are the main competitors. In golf shoes, Nike, Etonic, Adidas and Dexter are the main competitors. In golf gloves, Nike, Etonic, Wilson and TaylorMade/Maxfli are the main competitors.

Acushnet’s advertising and promotional campaigns rely in part on a large number of touring professionals and club professionals using and endorsing its products. The market for the endorsement and promotional services of touring professionals has been and will continue to be increasingly competitive.

There is currently a substantial market in “knock-off” and counterfeit golf clubs which imitate or copy the protected features of original equipment manufacturers’ golf club products. Acushnet has an active program of enforcing its intellectual property rights against those who make or sell such products.

Office

ACCO World Corporation (ACCO) is a holding company for subsidiaries engaged in designing, developing, manufacturing and marketing a wide variety of traditional and computer-related office products, supplies, personal computer accessory products, paper-based time management products, presentation aids and label products. Products are manufactured by subsidiaries, joint ventures and licensees of ACCO, or manufactured to such subsidiaries’ specifications by third party suppliers, principally in the U.S., Canada, Mexico, Western Europe, Australia, New Zealand and Asia.

ACCO Brands, Inc. (ACCO Brands), ACCO’s primary U.S. operating company, manufactures and sells binders, fasteners, paper clips, punches, staples, stapling equipment and storage products, computer supplies and accessories, labels and presentation products. ACCO Canada Inc., a subsidiary of ACCO, manufactures a limited product range and distributes, in Canada, a range of office products similar to that distributed by ACCO Brands in the U.S. ACCO Mexicana S.A. de C.V. manufactures binders and fasteners, and distributes, in Mexico, a range of office products similar to that distributed by ACCO Brands in the U.S. Principal office products brands include ACCO fastener products, Swingline stapling products, Wilson Jones binders and labels, Kensington computer accessories and supplies, Apollo and Boone presentation products and Perma corrugated storage products. Products are sold throughout the U.S., Canada and Mexico by in-house sales forces and independent representatives to office and computer products wholesalers, retailers, dealers, mail order companies and mass merchandisers. In October 1999, ACCO acquired Boone International Inc., a leading manufacturer of bulletin and dry-erase boards, chalkboards and dry-erase markers and accessories for home, home office and commercial use. Boone sales are concentrated in the U.S. and Canada.

8

Table of Contents

Operating units of ACCO Europe PLC (ACCO Europe), another subsidiary of ACCO, manufacture and distribute a wide range of office supplies and machines, storage and retrieval filing systems and presentation products. ACCO Europe’s products are sold primarily in the U.K., Ireland, Western Europe and Australia through its subsidiaries’ sales forces and through distributors. Principal brands sold by ACCO Europe’s subsidiaries include ACCO fastening products, Kensington computer accessories, Rexel filing, stapling, binding, and laminating products, Twinlock filing products, Nobo presentation products and, in Australia, Marbig products. Approximately 45-50% of our office business’s sales are to international markets.

Day-Timers, Inc. (Day-Timers), a subsidiary of ACCO, manufactures and distributes personal organizers and planners in the U.S. and Mexico. Products are sold in the U.S. and Canada by Day-Timers and in Australia and the U.K. by subsidiaries of Day-Timers through direct mail advertising, catalogs to consumers and businesses, and electronic commerce. In addition, products are sold through ACCO Brands and ACCO Canada to retailers and mass merchandisers.

Management believes that manufacturing within the office products industry remains highly fragmented. Due to local market preferences for product design and paper sizes, many office product manufacturers supply on a regional basis only. Many manufacturers supply a relatively narrow range of products. ACCO’s key competitors on a world-wide basis include Avery Dennison, Esselte, Newell Rubbermaid, Fellowes, Cardinal and GBC. Primary competitors for personal organizers in the North American market are Franklin Quest and Mead (including Day-Runner). In computer accessories, ACCO competes against Fellowes, Logitech, Microsoft, Targus, Belkin and others. ACCO and Kensington are also facing increasing competition from private label at retail. ACCO’s operating companies compete on the basis of product quality, innovation, price, service and responsiveness to consumer preferences.

ACCO’s subsidiaries purchase raw materials, components and products from a variety of sources, including non-U.S. vendors, on competitively available terms that fluctuate based on market conditions.

Other Matters

Employees

As of December 31, 2003, the Company and its subsidiaries had approximately the following number of employees:

9

Table of Contents

Environmental Matters

The Company and its subsidiaries are subject to federal, state and local laws and regulations concerning the discharge of materials into the environment and the handling, disposal and clean-up of waste materials and otherwise relating to the protection of the environment. It is not possible to quantify with certainty the potential impact of actions regarding environmental matters, particularly remediation and other compliance efforts that the Company’s subsidiaries may undertake in the future. In the opinion of management of the Company, compliance with the present environmental protection laws, before taking into account estimated recoveries from third parties, will not have a material adverse effect upon the capital expenditures, financial condition, results of operations or competitive position of the Company and its subsidiaries.

Capital Cabinet Corporation (“Capital”), which the Company acquired on June 27, 2003, is a party to an administrative proceeding relating to alleged air emissions violations at Capital’s North Las Vegas, Nevada facility. Although Capital has not admitted the existence of violations at the facility, Capital and the U.S. Environmental Protection Agency have entered into a consent decree under which Capital has paid sanctions of $142,000. The purchase price for Capital was reduced by an amount equal to the anticipated sanctions, and management has determined that any additional costs related to these proceedings will not be material. These administrative proceedings were instituted prior to the Company’s acquisition of Capital. The North Las Vegas, Nevada facility is currently in compliance with applicable terms of the consent decree.

The Company’s subsidiaries operate in the United States, Europe (principally the U.K.) and other areas (principally Canada and Australia). See the table captioned “Information on Business Segments” in Note 17 of the Notes to Consolidated Financial Statements, Item 8 to this Form 10-K. The Company has investments in various foreign countries, principally the United Kingdom, as well as Australia and Canada, and, therefore, changes in the value of the currencies of these countries can have an effect on the Company’s financial statements when translated into U.S. dollars.

Web Site Access to SEC Reports

The Company’s website address is www.fortunebrands.com. The Company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to these reports are available free of charge on the Company’s website as soon as reasonably practicable after the reports are filed electronically with the Securities and Exchange Commission.

10

Table of Contents

Item 2. Properties.

The Company leases its principal executive offices in Lincolnshire, Illinois. The following table indicates the principal properties of the Company’s subsidiaries:

The Company and its subsidiaries are of the opinion that their properties are suitable to their respective businesses and have production capacities adequate to meet the needs of their businesses.

11

Table of Contents

Item 3. Legal Proceedings.

Overview

On December 22, 1994, the Company sold The American Tobacco Company (“ATCO”) to Brown & Williamson Tobacco Corporation (“B&W”), at the time a wholly owned subsidiary of B.A.T Industries p.l.c. In connection with the sale, B&W and ATCO, which has merged into B&W (together, the “Indemnitor”), agreed to indemnify the Company against claims including legal expenses arising from smoking and health and fire safe cigarette matters relating to the tobacco business of ATCO. The Indemnitor has complied with the terms of the indemnification agreement since 1994 and the Company is not aware of any inability on the part of the Indemnitor to satisfy its indemnitor obligations.

On October 27, 2003, British American Tobacco p.l.c. and RJ Reynolds Tobacco Holdings, Inc. announced the signing of a definitive agreement to combine the assets of their respective U.S. tobacco businesses, B&W and R.J. Reynolds Tobacco Co., into a new publicly traded holding company, Reynolds American Inc. The indemnification agreement provides that the Indemnitor shall not consolidate or merge with, or transfer substantially all of its business, unless the entity formed by the merger or consolidation, or transfer of the business, expressly assumes the indemnification obligations. If the proposed transaction between the Indemnitor and Reynolds is structured in one of such forms, the combined entity would be required to expressly assume the Indemnitor’s obligation to indemnify the Company. If the proposed transaction is consummated in some other form, the indemnification obligations of the Indemnitor would continue.

Numerous legal actions, proceedings and claims are pending in various jurisdictions against leading tobacco manufacturers, including B&W both individually and as successor by merger to ATCO, based upon allegations that cancer and other ailments have resulted from tobacco use. The Company has been named as a defendant in some of these cases. These claims have generally fallen within three categories: (i) smoking and health cases alleging personal injury brought on behalf of individual plaintiffs, (ii) smoking and health cases alleging personal injury and other damages and purporting to be brought on behalf of classes of individual plaintiffs, and (iii) health care cost recovery cases, including class actions, brought by foreign governments, unions, health trusts, taxpayers and others seeking reimbursement for health care expenditures allegedly caused by cigarette smoking. Damages claimed in some of the cases range into the billions of dollars.

Individual Cases

As of February 17, 2004, there were approximately 26 smoking and health cases pending on behalf of individual plaintiffs in which the Company has been named as one of the defendants, compared with approximately 34 such cases as of February 24, 2003. See “List of Pending Cases” below.

Class Actions

As of February 17, 2004, there were approximately six purported smoking and health class actions pending in which the Company has been named as one of the defendants compared with approximately nine such cases as of February 24, 2003. See “List of Pending Cases” below.

Health Care Cost Recovery Actions

As of February 17, 2004, there was one health care recovery action pending in which the Company has been named as one of the defendants, compared with approximately four such cases as of February 24, 2003. See “List of Pending Cases” below.

Certain Developments Affecting the Indemnitor

On July 14, 2000, in Engle v. R.J. Reynolds Tobacco Company, et. al., a Florida state case brought against B&W (individually and as successor to ATCO) and other U.S. tobacco manufacturers on behalf of a class of Florida

12

Table of Contents

residents allegedly injured as a result of their alleged addiction to cigarettes containing nicotine, a jury awarded a total of $144.87 billion in punitive damages against the defendants, including $17.59 billion against B&W. On November 6, 2000, Florida Circuit Judge Robert Kaye upheld this jury award, and held that the class of plaintiffs eligible to recover damages should be extended to smokers with illnesses diagnosed more than four years before the lawsuit was filed in 1994. On May 21, 2003, a Florida appellate court reversed the jury’s verdict and damages award and decertified the class. On October 22, 2003, plaintiffs’ counsel sought review of this decision in the Florida Supreme Court. To date the Florida Supreme Court has not ruled whether it will review the case. The Company is not a party to the Engle litigation.

In September 1999, the United States government filed a recoupment lawsuit in Federal Court in Washington, D.C. against the leading tobacco manufacturers (including B&W individually and as a successor to ATCO) seeking recovery of costs paid by the Federal government for claimed smoking-related illness. In this action, the U.S. District Court for the District of Columbia has dismissed certain counts of the lawsuit, but has also ruled that the government may proceed with two counts under the federal RICO statute under which the government seeks disgorgement of all of defendants’ profits from the sale of tobacco. A trial date of September 15, 2004 has been set with respect to all remaining claims. The Company is not a party to this action.

On March 21, 2003, a judgment for $7.1 billion in compensatory and $3 billion in punitive damages was entered by an Illinois state court against Philip Morris, Inc. in Price, et al. v. Philip Morris, Inc., a class action alleging that certain advertising for “light” or “low tar” cigarettes was deceptive under the Illinois Consumer Fraud Act. A class action involving similar allegations (Howard, et al. v. Brown & Williamson Tobacco Corp.) is pending against B&W in the same court. Trial in the Howard case has been stayed pending appeal by Philip Morris in Price. The Company is not a party to either the Price or the Howard litigation.

Resolution of Health Care Cost Recovery Actions by State, U.S. Territories and the District of Columbia

In 1998, certain U.S. tobacco companies, including B&W, entered into a Master Settlement Agreement (the “MSA”) with certain state attorneys general that resulted in the dismissal of all remaining health care reimbursement lawsuits brought by 52 government entities, including 46 States, American Samoa, Guam, Puerto Rico, the U.S. Virgin Islands, the Northern Mariana Islands and the District of Columbia. Although the Company is not a party to the MSA and is not bound by any of its payment obligations or other restrictions, the Company understands that it is a released party under the terms of the MSA, which provides for the release of claims not only against participating manufacturers, but also against their predecessors, successors, and past, present and future affiliates.

Under the MSA, participating manufacturers were required to make initial payments through 2003, with additional payments to the settling parties required to continue in perpetuity (starting at $4.5 billion in 2000 and increasing to $9 billion in 2018 and thereafter). Payments to a strategic contribution fund for individual states beginning in 2008 through 2017, and a public health foundation until 2008, are also required. Ongoing payments are to be allocated according to market share and are subject to various credits and adjustments, depending on industry volume. The MSA also calls for the participating manufacturers to pay attorneys’ fees for the States’ attorneys in the settled litigation.

Prior to the MSA, health care cost recovery actions filed by the states of Minnesota, Texas, Florida and Mississippi were settled separately on terms which included monetary payments of several billion dollars. The Company was not a party to the Minnesota or Texas action and was voluntarily dismissed from the Florida and Mississippi actions. The Company is not a party to any of these settlements nor is it required to pay any money under these settlements.

List of Pending Cases

For a list of pending cases, see Exhibit 99 to this Form 10-K and, for a discussion of other pending litigation, see Note #22 “Pending Litigation” in the Notes to Consolidated Financial Statements, Item 8 to this Form 10-K.

13

Table of Contents

List of Terminated Cases

For a list of terminated cases, see Exhibit 99.1 to this Form 10-K.

Conclusion

It is not possible to predict the outcome of the pending litigation, and, as with any litigation, it is possible that some of these actions could be decided unfavorably. Management is unable to make a meaningful estimate of the amount or range of loss that could result from an unfavorable outcome of the pending litigation. However, management believes that there are a number of meritorious defenses to the pending actions, including the fact that the Company never made or sold tobacco, and these actions are being vigorously contested by the Indemnitor. Management believes that the pending actions will not have a material adverse effect upon the results of operations, cash flows or financial condition of the Company because it believes it has meritorious defenses and the Company is indemnified under the previously mentioned indemnification agreement.

Item 4. Submission of Matters to a Vote of Security Holders.

None.

Item 4A. Executive Officers of the Company.

The name, present positions and offices with the Company, principal occupations during the past five years and age of each of the Company’s present executive officers are as follows:

In the case of each of the above-listed executive officers, the occupation or occupations given were the principal occupation and employment during the period or periods indicated. None of such executive officers is related to any other such executive officer. None was selected pursuant to any arrangement or understanding between the executive officer and any other person. All executive officers are elected annually.

14

Table of Contents

PART II

Item 5. Market for the Company’s Common Equity and Related Stockholder Matters.

Quarterly Common Stock Cash Dividend Payments

Quarterly Composite Common Stock Prices

The common stock is listed on the New York Stock Exchange, which is the principal market for this security. The high and low prices are as reported in the consolidated transaction reporting system.

On February 17, 2004, there were 26,212 record holders of the Company’s common stock, par value $3.125 per share.

15

Table of Contents

Item 6. Selected Financial Data.

16

Table of Contents

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Consolidated

Summary

Fortune Brands, Inc. is a holding company with subsidiaries that make and sell leading consumer branded products in the following industries: home and hardware, spirits and wine, golf equipment and office products. We generate cash and earn profits by building our leading consumer brands to grow sales. We attempt to do this by developing new products, increasing demand with effective marketing campaigns, and expanding our market share by developing and expanding customer relationships. We also seek to increase profits by improving operations to enhance productivity and cost structures. While our first priority is internal growth, we also strive to achieve higher growth and higher returns through acquisitions, dispositions and joint ventures. Finally, we aim to enhance shareholder value through other initiatives such as using our financial resources to repurchase shares and pay attractive dividends.

We believe that 2003 was an excellent year of broad-based success for Fortune Brands. The Company’s net income in 2003 increased 10% to $579.2 million, and diluted earnings per share increased 13% to $3.86. This increase in profits was due primarily to the benefit of strong operating performance, aided by favorable foreign exchange rates and the impact of acquisitions. The Company’s net sales increased 9.5% to $6.2 billion, as a result of increased sales of new products, extensions of existing product lines, acquisitions, favorable foreign exchange and higher average selling prices.

17

Table of Contents

As indicated below, each of our segments achieved solid performance in 2003:

In 2004, the Company is well positioned for another year of excellent performance. Management believes the Company will benefit from the following trends in its businesses:

The Company has also identified the following risks and challenges that may impact its business:

2003 Compared to 2002

Net sales

Net sales increased $536.8 million, or 9.5%, to $6.2 billion. Sales benefited principally from increased volume associated with line extensions and the introduction of new products in our Golf and Home and Hardware businesses ($241 million in aggregate), acquisitions ($220 million) including Omega in 2002 and favorable foreign exchange ($137 million). These benefits were partly offset by lower volumes in some existing product lines in the Office business, as well as the divestiture of the non-strategic plumbing parts business of Home and Hardware in November 2002 ($53 million).

Advertising, selling, general and administrative expenses

Advertising, selling, general and administrative expenses increased $127.9 million, or 9%, on increased support for cabinet growth, golf marketing costs and commissions on higher sales.

Amortization of intangibles

Amortization of intangibles increased $2.8 million, or 17%, due to the full year amortization of finite-lived intangibles for the 2002 Omega acquisition.

Write-down of identifiable intangibles

We recorded a write-down of identifiable intangibles of $12.0 million ($8.0 million after tax) to recognize the diminished values of certain trade names in conjunction with our repositioning plans in our Office business.

18

Table of Contents

Restructuring charges

In 2003, we recorded pre-tax restructuring charges of $19.5 million ($13.8 after tax). These charges principally related to the consolidation of manufacturing and distribution facilities and employee termination costs in the Office business ($17.3 million pre tax), as well as the consolidation of ball plant facilities in the Golf business ($2.2 million pre tax). Of the $19.5 million in restructuring charges, $11.5 million related to disposal of assets, $6.9 million to employee terminations costs and $1.1 million to termination of lease agreements.

Other income, net

Other income, net, decreased $3.0 million to $40.7 million. The components of other income, net for the years ended December 31, 2003 and 2002 are as follows:

Income taxes

Income taxes increased $75.0 million, or 35%, as we recorded a lower tax-related gain in 2003 compared with 2002. The reported effective income tax rates for the twelve months ended December 31, 2003 and 2002 were 32.7% and 28.3%, respectively. The effective income tax rate was affected by the following items. During 2003, the audit of our 1993-1996 tax returns resulted in a reduction in tax expense of $35 million after recording a $29 million tax receivable and a net decrease to tax reserves of $6 million. During 2002, we recorded a $61.7 million tax credit which resulted from new IRS regulations that reinterpreted the capital loss disallowance rules. The new regulations enabled us to utilize a previously disallowed capital tax loss to offset capital gains taxed in 1996 and 1997. In addition, the 2003 effective rate was affected by non-deductible non-cash restructuring and restructuring-related charges.

Net income

Net income increased $53.6 million, or 10%, to $579.2 million due primarily to strong broad-based operating performance, the benefit of favorable foreign exchange ($23 million), lower restructuring charges ($16 million) and the impact of acquisitions ($15 million), in part offset by lower tax-related gains than 2002 ($35.0 million in 2003 compared to $61.7 million in 2002).

Diluted earnings per share were $3.86 in 2003, up 13% from 2002. Earnings per share benefited from higher net income and our share repurchase program.

Pension Plans

On a periodic basis, we evaluate the assumptions used in determining our pension liabilities and assets as well as pension expense based on historical returns on plan assets and current economic conditions at the time the assumptions are set.

Our December 2002 review of the economic assumptions underlying our pension expense and year-end disclosure led to a reduction in our weighted-average discount rate from 7.0% to 6.6%. The weighted-average expected rate of return remained unchanged at 8.3%. The 2002 revisions led to an increase of approximately $3 million in our pension expense to $28.1 million in 2003.

Our December 2003 review of the economic assumptions led to a reduction in our weighted-average discount rate from 6.6% to 6.1%. The weighted-average expected rate of return remained unchanged at 8.3%. Management believes that these assumptions are appropriate. The 2003 revisions will result in an increase to our pension expense of approximately $5 million in 2004.

19

Table of Contents

In 2003, our total pension plan cash contributions were $123.5 million. In 2004 we expect to make cash contributions of approximately $50-75 million to fund existing pension liabilities for our defined-benefit plans.

International Performance

We derived approximately 28% of our 2003 and 22% of our 2002 operating income from international markets, principally the United Kingdom, Canada and Australia. The increase in the portion of operating income attributable to international markets resulted partly from the benefit of foreign exchange as well as higher restructuring-related charges in the U.S. in 2003. Fluctuations in the exchange rates of foreign currencies may affect results in future periods. Fluctuations in average foreign exchange rates increased 2003 operating income by approximately 4%. We cannot accurately predict fluctuations in foreign exchange rates. A 10% change in average exchange rates for the foreign currencies from 2003 average rates would have resulted in a change in operating income of approximately $20 million, or about 2%.

Pending Litigation

Tobacco Litigation and Indemnification

On December 22, 1994, the Company sold the ATCO subsidiary to B&W, a wholly-owned subsidiary of B.A.T Industries p.l.c. In connection with the sale, B&W and ATCO, which has since merged into B&W (the “Indemnitor”), agreed to indemnify the Company against claims including legal expenses arising from smoking and health and fire safe cigarette matters relating to the tobacco business of ATCO. The Indemnitor has complied with the terms of the indemnification agreement since 1994 and the Company is not aware of any inability on the part of the Indemnitor to satisfy its indemnity obligations.

The Company is a defendant in numerous actions based upon allegations that human ailments have resulted from tobacco use. It is not possible to predict the outcome of the pending litigation, and, as with any litigation, it is possible that some of these actions could be decided unfavorably. Management is unable to make a meaningful estimate of the amount or range of loss that could result from an unfavorable outcome of the pending litigation. However, management believes that there are a number of meritorious defenses to the pending actions, including the fact that the Company never made or sold tobacco, and these actions are being vigorously contested by the Indemnitor. Management believes that the pending actions will not have a material adverse effect upon the results of operations, cash flows or financial condition of the Company because it believes it has meritorious defenses and the Company is indemnified under the previously mentioned indemnification agreement.

Other Litigation

There is an increasing volume of asbestos-related personal injury litigation in the United States generally. A subsidiary of the Company, Moen Incorporated, has been named as a defendant in approximately 160 cases claiming personal injury from asbestos. All of these suits name multiple defendants and, in most cases, in excess of 75 defendants are named in addition to Moen. It is not possible to predict the outcome of the pending litigation, and, as with any litigation, it is possible that some of these actions could be decided unfavorably. Management believes it has meritorious defenses to these actions and that these actions will not have a material adverse effect upon the results of operations, cash flows or financial condition of the Company. These actions are being vigorously contested.

In addition to the lawsuits described above, the Company and its subsidiaries are defendants in lawsuits associated with their business and operations. It is not possible to predict the outcome of the pending actions, and, as with any litigation, it is possible that some of these actions could be decided unfavorably. Management believes that there are meritorious defenses to these actions and that these actions will not have a material adverse effect upon the results of operations, cash flows or financial condition of the Company. These actions are being vigorously contested.

Environmental Matters

Along with other responsible parties, our subsidiaries face claims relating to the protection of the environment. As of February 17, 2004, various of our subsidiaries had been designated as potentially responsible parties under “Superfund” or similar state laws in 59 instances. We have reached settlements in 40 of these instances. We believe that the cost of complying with the present environmental protection laws, before considering estimated recoveries either from other responsible parties or insurance, will not have a material adverse effect upon our results of operations, cash flows or financial condition. At December 31, 2003 and 2002, we have accrued $48.5 million and $50.6 million, respectively, to cover these matters.

20

Table of Contents

Related Party Transactions

Future Brands, LLC

In 2001, the Company’s spirits and wine business completed transactions with V&S Vin & Sprit AB (V&S) creating the Future Brands joint venture, which distributes both companies’ spirits brands in the United States and provides related selling and invoicing services. Future Brands receives a commission from the partners for services provided. As part of forming this joint venture, JBBCo. has, in the event of default of Future Brands, a continuing obligation to satisfy any financial obligations of Future Brands that may arise in the event that Future Brands fails to fulfill its operating obligations and which results in a claim. These financial obligations include, but are not limited to, making payments to suppliers, employees and other parties with which Future Brands has contracts. At December 31, 2003 and 2002, JBBCo. did not have any outstanding obligations as a result of this arrangement.

JBBCo.’s balances related to Future Brands included the following:

Maxxium Worldwide B.V.

In 1999, the spirits and wine business formed an international sales and distribution joint venture named Maxxium Worldwide B.V. (Maxxium) to distribute and sell spirits and wine in key markets outside the United States. The joint venture partners include Remy-Cointreau, Highland Distillers and V&S. JBBCo. records sales at the time spirits are sold to third parties rather than at the time of shipment to Maxxium. As a result of forming this joint venture, the Company has guaranteed certain credit facilities and bank loans entered into by Maxxium up to an amount totaling $79 million, of which $69 million was outstanding as of December 31, 2003. At December 31, 2002, the guarantees totaled $66 million, of which $57 million was outstanding. JBBW has executed a Shareholder Loan Facility (Loan Facility) with Maxxium. There were no amounts outstanding under the Loan Facility as of either December 31, 2003 or December 31, 2002. The Loan Facility expires June 30, 2006.

JBBCo.’s balances related to Maxxium included the following:

Recently Issued Accounting Standards

In January 2003, the FASB issued Interpretation No. 46 (FIN 46), “Consolidation of Variable Interest Entities.” The objective of FIN 46 is to improve financial reporting by companies with transactions involving variable interest entities. Prior to FIN 46, companies generally included another entity in its consolidated financial statements only if it controlled the entity through voting interests. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk or loss from the variable interest

21

Table of Contents

entity’s activities or entitled to receive a majority of the entity’s residual returns or both. Consolidation by a primary beneficiary of the assets, liabilities and results of activities of variable interest entities will provide more complete information about the resources, obligations, risks and opportunities of the consolidated company. FIN 46 is effective for newly created variable interest entities as of January 31, 2003 and is effective for existing variable interest entities as of October 1, 2003.

In December 2003, the FASB issued a revision to FIN 46 (46R) to clarify certain provisions of FIN 46 and to exempt certain entities from its requirements. Special effective dates apply to enterprises that have fully or partially applied Interpretation 46 prior to issuance of 46R. Otherwise, application of 46R or FIN 46 is required in financial statements of public entities that have interests in structures that are special-purpose entities for periods ending after December 15, 2003. The Company is still assessing the impact, if any, 46R and FIN 46 will have on the Company’s results or financial position.

In November 2003, the FASB issued Staff Position No. FAS 150-3 (FSP 150-3), “Effective Date, Disclosure, and Transition for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interest under FASB Statement No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.’ ” FSP 150-3 defers the effective date for certain mandatorily redeemable noncontrolling interests indefinitely pending further FASB action. The initial adoption of SFAS 150 did not have an impact on the Company’s results or financial position. The Company will evaluate the impact of any additional requirements of this standard as it is finalized.

In January 2004, the FASB issued Financial Accounting Standards No. 106-1 (SFAS 106-1), “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003.” FAS 106-1 permits a sponsor of a postretirement health care plan that provides a prescription drug benefit to make a one-time election to defer accounting for the effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the “Act”). The Company has elected to defer accounting for the effects of the Act until the FASB issues guidance on how to account for the federal subsidy to be provided to plan sponsors under the Act. As a result, the accompanying financial statements and notes do not reflect the effects of the Act. However, upon final issuance of the accounting, the Company could be required to change previously reported information.

Critical Accounting Policies and Estimates

Financial Reporting Release No. 60, “Cautionary Advice Regarding Disclosure About Critical Accounting Policies” requires all registrants, including the Company, to include a discussion of “critical” accounting policies or methods used in the preparation of financial statements. The Company makes estimates and assumptions that affect the amounts of assets and liabilities in the financial statements and revenues and expenses during the reporting periods. We believe the following are the Company’s critical accounting policies due to the more significant judgments and estimates used when preparing our consolidated financial statements. The Company regularly reviews its assumptions and estimates, which are based on historical experience.

Allowances for Doubtful Accounts

Trade receivables are stated less allowances for discounts, doubtful accounts and returns. The allowances represent estimated uncollectible receivables associated with potential customer defaults on contractual obligations, usually due to customers’ potential insolvency or early payment of accounts receivables by our customers. The allowances include amounts for certain customers where a risk of default has been specifically identified. In addition, the allowances include a provision for customer defaults on a general formula basis when it is determined the risk of some default is probable and estimable, but cannot yet be associated with specific customers. The assessment of the likelihood of customer defaults is based on various factors, including the length of time the receivables are past due, historical experience and existing economic conditions. In accordance with this policy, our allowance for discounts, doubtful accounts and returns was $63.5 million and $65.8 million as of December 31, 2003 and December 31, 2002, respectively.

22

Table of Contents

Alternatively, if we provided an allowance of 0.50% for net sales to customers for cash discounts and returns and allowances and 3% of our year-end customer receivables for doubtful accounts, our allowance for discounts, doubtful accounts and returns would have been approximately $55 million as of December 31, 2003 and $49 million as of December 31, 2002. The actual rates used are company-specific based upon the nature of the business.

Inventories

Inventories are priced at the lower of cost (principally first-in, first-out and average, with minor amounts at last-in, first-out) or market. In accordance with generally recognized trade practice, bulk whiskey inventories are classified as current assets, although the majority of such inventories, due to the duration of aging processes, ordinarily will not be sold within one year. Inventory reserves are recorded for obsolete or slow moving inventory based on assumptions about future demand and marketability of products, the impact of new product introductions, inventory turns and specific identification of items, such as components or finished goods.

Property, Plant and Equipment

Property, plant and equipment are carried at cost. Depreciation is provided, principally on a straight-line basis, over the estimated useful lives of the assets. Gains or losses resulting from dispositions are included in income. Betterments and renewals, which improve and extend the life of an asset, are capitalized; maintenance and repair costs are expensed. Estimated useful lives of the related assets are as follows:

Long-lived Assets

In accordance with Statement of Financial Accounting Standards No. 144 (SFAS 144), “Accounting for the Impairment or Disposal of Long-lived Assets,” a long-lived asset or asset group is tested for recoverability whenever events or changes in circumstances indicate that its carrying amount may not be recoverable. When such events occur, the Company compares the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset or asset group to the carrying amount of a long-lived asset or asset group. The cash flows are based on management’s best estimate at the time of future cash flow derived from the most recent business projections. If this comparison indicates that there is an impairment, the amount of the impairment is calculated using a quoted market price, or if unavailable, using discounted expected future cash flows. The discount rate applied to these cash flows is based on the Company’s weighted-average cost of capital, which represents the blended after-tax costs of debt and equity.

Intangibles

In accordance with Statement of Financial Accounting Standards No. 142 (SFAS 142), “Goodwill and Other Intangible Assets,” goodwill is tested for impairment on an annual basis and under certain circumstances, and written down when impaired. In addition, SFAS 142 requires purchased intangible assets other than goodwill to be amortized over their useful lives unless these lives are determined to be indefinite. Certain of our tradenames have been assigned an indefinite life as it was deemed that these tradenames are currently anticipated to contribute cash flows to the Company indefinitely. Indefinite-lived intangible assets are not amortized, but are evaluated at each reporting period to determine whether the indefinite useful life is appropriate.

We evaluate the recoverability of goodwill by estimating the future discounted cash flows of the businesses to which the goodwill relates. The rate used in determining discounted cash flows is a rate corresponding to our cost of capital, risk adjusted where appropriate. Estimated cash flows are then determined by disaggregating our business segments to a reporting level for which meaningful identifiable cash flows can be determined. When estimated future discounted cash flows are less than the carrying value of the net assets (tangible and identifiable intangibles) and related goodwill, impairment losses of goodwill are charged to operations. Impairment losses, limited to the carrying value of goodwill, represent the excess of the sum of the carrying value of the net assets (tangible and identifiable intangibles) and goodwill over the discounted cash flows of the business being evaluated. In determining the estimated future cash flows, we consider current and projected future levels of income as well as business trends, prospects and market and economic conditions.

23

Table of Contents

Indefinite-lived intangibles are reviewed annually, and whenever market or business events indicate there may be a potential impact on that intangible. Management, in developing and executing its short-term and long-term plans, considers the implications of both external (e.g., market growth, pricing, competition, technology) and internal factors (e.g. product costs, margins, support expenses, capital investment) and their potential impact on cash flows for each business in both the near and long term, as well as their impact on any identifiable intangible asset associated with the business. Based on recent business results, consideration of significant external and internal factors, and the resulting business projections, indefinite-lived intangible assets associated with that segment are reviewed to determine whether they are likely to remain indefinite-lived, or whether a finite life is more appropriate. In addition, based on events in the period and future expectations, management considers whether the potential for impairment exists as required by SFAS 142.

Our predominant method of approximating fair value in determining whether an impairment exists is to use cash flow projections. We measure impairment based on discounted expected future cash flows attributable to the tradename compared to the carrying value of that tradename. When separate cash flow information is not available, we use the relief-from-royalty approach. Fair value is represented by the present value of hypothetical royalty income over the remaining useful life. Where information is not available to determine an appropriate royalty rate, we utilize an excess earnings methodology to establish a reasonable royalty rate. Excess earnings are represented by actual and projected earnings divided by a reasonable pre-tax return on net tangible assets. Additionally, independent valuation experts are used for periodic review and testing of management’s assumptions relative to all significant trade valuations and lives, and for independent research on market and competitive dynamics.

In conjunction with our ongoing review of the carrying value of our identifiable intangibles, in the year ended December 31, 2003, the Company recorded a non-cash write-down of identifiable intangibles of $12.0 million, $8.0 million after tax (five cents basic and diluted per share) to recognize the diminished values of certain trade names in conjunction with our repositioning plans in the office business. In 2001, the Company recorded a non-cash write-down of identifiable intangibles of $73.3 million, $67.1 million after tax (44 cents basic and 43 cents diluted per share). The write-down recognized the diminished fair values of certain identifiable intangibles resulting from the restructuring of the office business and the consolidation of non-core tradenames in home and hardware. The write-downs by business segment were: office $64.4 million; and home and hardware $8.9 million.

Warranty Reserves

We offer our customers various warranty terms based upon the type of product that is sold. Warranty expense is determined in accordance with the policy established at each operating company. The main consideration is historic claim experience, which is company-specific based upon the nature of the product category. Warranty expense is generally recorded at the time of sale.

24

Table of Contents

A reconciliation of beginning and ending balances of warranty reserves for the years ended December 31, 2003, 2002 and 2001 are as follows:

Alternatively, if we provided a provision of 0.5% of net sales to customers, the warranty provision would have been $27.4 million, $24.9 million and $24.9 million as of December 31, 2003, 2002 and 2001, respectively.

Employee Benefit Plans

We provide a range of benefits to our employees and retired employees, including pensions, postretirement, post-employment and health care benefits. We record annual amounts relating to these plans based on calculations specified by generally accepted accounting principles, which include various actuarial assumptions, including discount rates, assumed rates of return, compensation increases, turnover rates and health care cost trend rates. We review our actuarial assumptions on an annual basis and make modifications to the assumptions based on current rates and trends when it is deemed appropriate to do so. As required by United States generally accepted accounting principles, the effect of our modifications are generally recorded and amortized over future periods. We believe that the assumptions utilized in recording our obligations under the Company’s plans are reasonable based on our experience and advice from our actuaries. We will continue to monitor these assumptions as market conditions warrant.

In 2002, our pension and postretirement expenses were $21.9 million and $10.1 million, respectively. In 2003, our pension and postretirement expenses were $28.1 million and $11.5 million, respectively. We expect pension expense of approximately $35 million and postretirement benefit expense of approximately $15 million in 2004. A 25 basis point change (0.25%) in our discount rate assumption would lead to an increase or decrease in our pension expense and postretirement benefit expense of approximately $3 million and $1 million, respectively, for 2004. A 25 basis point change in the long-term rate of return used in accounting for the Company’s pension plans would have a $2 million impact on pension expense.

Revenue Recognition

In accordance with Staff Accounting Bulletin No. 104, “Revenue Recognition,” we recognize revenue as products are shipped to customers, net of applicable provisions for discounts, returns and allowances. Criteria for recognition of revenue are persuasive evidence that an arrangement exists, delivery has occurred, the price is fixed or determinable and collectibility is reasonably assured. We also provide for our estimate of potential bad debt at the time of revenue recognition.

Amounts billed for shipping and handling are classified in “net sales” in the consolidated income statement. Costs incurred for shipping and handling are classified in “advertising, selling, general and administrative expenses.”

Customer Program Costs

Customer programs and incentives are a common practice in many of our businesses. Customer program costs and incentives, including rebates and promotion and volume allowances, are accounted for as reductions to gross sales. These costs are recorded at the time of sale based on management’s best estimates. Estimates are based on historical experience for each type of program or customer. Management periodically reviews accruals for these rebates and allowances, and accruals are adjusted, when circumstances, typically expected volume deviations, indicate.

25

Table of Contents

Stock-based Compensation

We apply Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations in accounting for our stock options. Accordingly, no compensation expense has been recognized for the stock option plans. Statement of Financial Accounting Standards No. 148 (SFAS 148), “Accounting for Stock-Based Compensation — Transition and Disclosure,” requires disclosure of pro forma net income and pro forma earnings per share amounts as if compensation expense was recognized. For the required disclosure, SFAS 148 allows the use of a fair-value method to measure compensation expense. Accordingly, we have adopted the use of the Black-Scholes option-pricing model to determine our compensation expense for disclosure purposes. The model requires the use of the following assumptions: an expected dividend yield; expected volatility; risk-free interest rate; and expected term. The weighted-average fair value of options granted during the years ended December 31, 2003, 2002 and 2001 were $13.40, $11.63 and $8.91, respectively, per option. Based upon the range provided for the assumptions utilized, any alternative fair-values per option would not have materially differed from the fair values listed above. For example, a change in the expected term from 4.5 to 5 years, would have had a $0.77, or 6%, impact on the weighted-average fair value of options granted during the year ended December 31, 2003. Had SFAS 148 been applied, the pro forma diluted EPS impact would have been a decrease of $0.12, $0.10 and $0.10 per share, respectively, for 2003, 2002 and 2001.

Derivative Financial Instruments

In accordance with Statement of Financial Accounting Standards No. 133 (SFAS 133), “Accounting for Derivative Instruments and Hedging Activities” and its related amendment Statement of Financial Accounting Standards No. 138 (SFAS 138), “Accounting for Certain Derivative Instruments and Certain Hedging Activities,” all derivatives are recognized as either assets or liabilities on the balance sheet and the measurement of those instruments is at fair value. If the derivative is designated as a fair value hedge and is effective, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings in the same period. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in other comprehensive income (OCI) and are recognized in the income statement when the hedged item affects earnings. Ineffective portions of changes in the fair value of cash flow hedges are recognized in earnings.

Derivative gains or losses included in OCI are reclassified into earnings at the time the forecasted revenue or expense is recognized. During the years ended December 31, 2003 and 2002, respectively, $3.3 million in deferred losses and $0.6 million in deferred gains were reclassified to cost of sales. The Company estimates that $1.1 million of derivative loss included in OCI as of December 31, 2003 will be reclassified to earnings within the next twelve months.

Foreign Currency Risk

Certain forecasted transactions, assets and liabilities are exposed to foreign currency risk. We continually monitor our foreign currency exposures in order to maximize the overall effectiveness of our foreign currency hedge positions. Principal currencies hedged include the Pound sterling, the Euro, the Canadian dollar and the Australian dollar.

Interest Rate Risk

We may, from time to time, enter into interest rate swap agreements to manage our exposure to interest rate changes. Swap agreements involve the exchange of fixed and variable interest rate payments without exchanging the notional principal amounts. We record the payments or receipts on the agreements as adjustments to interest expense. At December 31, 2003, we had outstanding interest rate swap agreements with an aggregate notional principal amount of $200 million. The swap agreements are based on our outstanding 2.875% notes due 2006 which allow the swap agreements to be classified as a fair value hedge in accordance with SFAS 133. The agreements effectively convert the interest paid on $200 million of underlying debt securities from a fixed rate to a floating rate based on a LIBOR reference rate. As of December 31, 2002 we did not have any outstanding interest rate swap agreements.

26

Table of Contents

Cost Initiatives

We continuously evaluate the productivity of our supply chains and existing asset base, and actively seek to identify opportunities to improve our cost structure. Future opportunities may involve, among other things, the reorganization of operations, the relocation of manufacturing or assembly to locations generally having lower costs and the efficient sourcing of products or components from third party suppliers. Implementing any significant cost reduction and efficiency opportunities could result in charges.

2002 Compared to 2001

Net sales

Net sales increased $118.1 million, or 2%, to $5.7 billion. Sales benefited from the acquisition of Omega Holdings, Inc., a U.S.-based manufacturer of custom and semi-custom cabinetry, increased volumes with the introduction of new products and line extensions, principally in the golf business, and favorable foreign exchange of $20 million. These benefits were partly offset by lower volumes in certain existing product lines in the golf and office businesses, the sale of the U.K.-based Scotch whisky business in October 2001, the absence of ABSOLUT revenues recorded on an interim basis in 2001 and five fewer selling days in 2002 for the cabinets business due to the use of the 53-week and 52-week business calendar in consecutive years.

Excise taxes on spirits and wine

Excise taxes on spirits and wine decreased $49.3 million, or 14%. The decrease was principally due to the absence of the ABSOLUT revenues recorded on an interim basis in 2001 and the absence of the U.K.-based Scotch whisky business in 2002. The Company’s spirits and wine business incurred federal excise taxes in the U.S., and in addition to the U.S., had incurred excise taxes in the U.K. for the first nine months of 2001 prior to the sale of the U.K.-based Scotch whisky business.

Advertising, selling, general and administrative expenses

Advertising, selling, general and administrative expenses increased $85.2 million, or 6%, on higher advertising and marketing expenditures and pension expense, partially offset by cost savings achieved from the Future Brands LLC joint venture established in June 2001 and our restructuring actions and other cost containment initiatives across all of our operations, particularly in our office business.

Amortization of intangibles

Amortization of intangibles decreased $46.6 million, or 74%, due to the adoption of the Financial Accounting Standards Board’s Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets” (SFAS 142) as of January 1, 2002.

Write-down of identifiable intangibles and goodwill

In 2002, we did not record a write-down of either identifiable intangibles or goodwill. In 2001, we did record a non-cash write-down identifiable intangibles of $73.3 million, $67.1 million after-tax (44 cents basic and 43 cents diluted per share). The write-down recognized the diminished fair values of select identifiable intangibles resulting from the restructuring of the office business and the consolidation of non-core tradenames in home and hardware. The write- downs by business segment were: office $64.4 million; and home and hardware $8.9 million.

Restructuring charges

For the year ended December 31, 2002, we recorded pre-tax restructuring charges of $45.9 million ($29.8 million after tax). The charges principally related to planned workforce reduction costs, asset write-offs and costs associated with the consolidation of manufacturing facilities, primarily in the office business ($34.3 million pre tax), and the sale of certain non-strategic product lines in the home and hardware ($10.9 million pre tax) and spirits and wine ($0.7 million pre tax) businesses.

For the year ended December 31, 2001, we recorded pre-tax restructuring charges of $45.4 million ($29.8 million after tax). These charges principally related to product line discontinuances, expenses associated with the exploration of strategic options and planned workforce reduction initiatives across the operations of the office business ($27.2 million pre tax), lease cancellation costs in the specialty plumbing parts business ($15.2 million pre tax) and capacity reductions in select technology platforms in the golf business ($3.0 million pre tax).

27

Table of Contents

Interest expense

Interest expense decreased $22.7 million, or 23%. This decrease primarily reflected lower average borrowings as we repaid short-term debt using proceeds received from V&S and from the sale of the U.K.-based Scotch whisky business and increased operating cash flow as well as lower interest rates, partially offset by commercial paper borrowings used to finance the Omega acquisition.

Other income, net

Other income, net decreased $13.7 million to $43.7 million for the year ended December 31, 2002 due principally to the absence of the $16.6 million gain on the sale of the U.K.-based Scotch whisky business and lower interest income on a tax receivable in 2002 as compared to 2001.

The components of other income, net, for the years ended December 31, 2002 and 2001 are as follows:

Income taxes

Income taxes increased $119.8 million, or 127%. The reported effective income tax rate for the years ended December 31, 2002 and 2001 were 28.3% and 19.2%, respectively. The increase was principally due to the higher operating income and lower interest expense partially offset by the tax credit of $61.7 million recorded in June 2002. The effective income tax rate comparison was impacted by the recognition, during the second quarter of 2002, of a $61.7 million tax credit resulting from new IRS regulations that reinterpret the capital loss disallowance rules. The new regulations enabled us to utilize a capital loss incurred in 1994 to offset capital gains taxed in 1996 and 1997. The other factors affecting the effective income tax rate comparison include: the reversal of a $31.0 million tax reserve for the years 1990 through 1992 in the second quarter of 2001 and the $72.9 million net tax benefit recognized as a result of the recapitalization of the office business in the fourth quarter of 2001. Excluding these tax-related items, the effective income tax rates for the years ended December 31, 2002 and 2001 were 36.5% and 37.9%, respectively. This lower effective tax rate principally reflects lower goodwill amortization related to the adoption of SFAS 142.

Minority interests

Minority interests increased $4.9 million, or 43%, principally on the recognition of five additional months of preferred dividends payable to V&S, on their 10% interest in JBBW, in 2002 as compared to 2001.

Net income

Net income of $525.6 million, or $3.51 basic and $3.41 diluted per share, for the year ended December 31, 2002 compared with net income of $386.0 million, or $2.55 basic and $2.49 diluted per share, for the year ended December 31, 2001. The increase in net income of $139.6 million was principally due to the higher sales, the lower cost of sales, lower intangible amortization and interest expense, partly offset by higher income taxes, increased advertising and marketing expenditures and higher pension expense.

Net income for the year ended December 31, 2002 included the following net gains and charges: the recognition of a $61.7 million tax credit and related interest income of $14.9 million ($9.6 million after tax) and the $55.8 million ($36.2 million after tax) in restructuring and restructuring-related charges. In addition, net income for the year ended December 31, 2001, included the following net gains and charges: the recognition of a $72.9 million net tax

28

Table of Contents

benefit and related interest income of $28.5 million ($17.3 million after tax); the reversal of a $31.0 million tax reserve that was no longer required; the $16.6 million ($21.8 million after tax) gain on the sale of the U.K-based Scotch whisky business; the $98.1 million ($63.3 million after tax) of restructuring and restructuring-related charges; and the $73.3 million ($67.1 million after tax) write-down of certain identifiable intangibles.

Home and Hardware

2003 Compared to 2002

Net sales increased $367.7 million, or 15%, to $2.9 billion. The increase is attributable to strong underlying operating performance, the full-year consolidation of Omega and the acquisitions of Therma-Tru, American Lock and Capital Cabinet ($163 million from acquisitions in aggregate), successful line extensions and new product introductions ($157 million), principally in cabinets and faucets, as well as expanded customer relationships. The sales growth was tempered by the absence of the divested plumbing parts business ($53 million) and soft retail volume in our tool storage business.

Operating income increased $82.8 million, or 21%, to $481.3 million on higher sales, productivity improvements, and the absence of the low-return plumbing product lines sold in 2002 ($4 million), partially offset by higher operating expenses, including increased commissions on higher sales, additional support for cabinet business growth and increased amortization of in-store cabinet displays.

In November 2003, the home and hardware business acquired Therma-Tru Holdings, Inc., the leading manufacturer of residential entry door systems in the United States. The acquisition price was $924.0 million, net of cash.

In June 2003, the home and hardware business acquired Capital Cabinet Corporation, a U.S.-based manufacturer of kitchen and bath cabinets. In April 2003, the home and hardware business acquired American Lock Company, the largest U.S.-based manufacturer of solid body commercial padlocks.

In April 2002, the home and hardware business acquired Omega, a U.S.-based manufacturer of custom and semi-custom cabinetry. This acquisition broadened our cabinet product line and is providing additional selling opportunities across customers, while producing purchasing and manufacturing efficiencies. The cost of this acquisition was $538 million.

In October 2003, Waterloo announced plans to close its Muskogee, OK manufacturing facility in 2004. Related to that action, we expect to record approximately $7 million ($12 million pre tax) of restructuring and restructuring-related charges.

Management expects that our home and hardware business will continue to benefit from strong demographic trends supporting the home repair and remodeling and new home construction markets, particularly for kitchen and bath products and residential door systems. These trends include growth in the number of U.S. households, increases in household wealth and the aging of the housing stock.

Our home and hardware business may be impacted over the long-term by U.S. economic conditions, including mortgage interest rates, and their potential impact on the U.S. housing and remodeling markets. In addition, we continue to face pricing pressure associated with consolidation of the industry customer base. Such consolidation may also present opportunities for our business.

2002 Compared to 2001

Net sales improved $463.4 million, or 22%, to $2.5 billion as a result of the acquisition of Omega and strong underlying sales growth reflecting share gains and a robust building and remodeling market. Underlying sales growth also benefited from new product introductions and line extensions and higher volumes in certain existing product lines, primarily cabinets and Moen faucets. Partially offsetting these benefits were increased rebates and five fewer selling days in 2002 for the cabinets business, due to the use of the 53-week and 52-week business calendar in consecutive years, as well as unfavorable foreign exchange of $2 million.

29

Table of Contents

Operating income increased $147.8 million, or 59%, to $398.5 million. The higher operating income resulted from the acquisition of Omega Holdings, Inc., higher underlying sales across all of our home and hardware businesses, positive operating leverage, ongoing cost and productivity gains, a reduction in intangible amortization due to the adoption of SFAS 142, lower restructuring and restructuring-related charges, and absence of goodwill write-downs.

Spirits and Wine

2003 Compared to 2002

Net sales increased $58.5 million, or 6%, to $1.1 billion on the benefit of foreign exchange ($35 million), growth in underlying sales ($17 million), primarily Jim Beam ready-to-drink products in Australia, higher sales of DeKuyper cordials and super-premium spirits in the U.S., and higher pricing for Jim Beam bourbon. These benefits were partly offset by decreased volumes for some non-premium products in the U.S.

Operating income increased $26.5 million, or 10%, to $302.8 million benefiting from favorable foreign exchange ($22 million) and higher revenues, partly offset by increased selling and marketing administration costs ($12 million).

In July 2003, the spirits and wine business acquired Wild Horse Winery, a California-based producer of premium and ultra-premium wines. In December 2003, the spirits and wine business extended the rights to manufacture and distribute Gilbey’s gin and vodka for an additional 20 years, and acquired trademark rights to Kamchatka vodka in California.

On May 31, 2001, the Company’s spirits and wine business completed transactions with V&S creating a joint venture named Future Brands to distribute, over an initial ten-year period, both companies’ spirits brands in the United States. The Company’s spirits and wine business has accounted for this joint venture using the equity method of accounting. Future Brands is not consolidated into our spirits and wine business as V&S has substantive participating rights which preclude consolidation. V&S paid $270 million to gain access to our spirits and wine business’s U.S. distribution network and to acquire a 49% interest in Future Brands, and paid $375 million to purchase a 10% equity interest in JBBW. The Company amortizes the $270 million gain on the sale of 49% of Future Brands as deferred income on a straight-line basis over the initial ten-year term of the agreement.

In addition to the investment in Future Brands, V&S acquired a 25% interest in Maxxium. As a result of this investment by V&S, our spirits and wine business received an $8.2 million dividend from Maxxium, thereby reducing its investment in the joint venture.

Management expects that our spirits and wine business will continue to benefit from growth in the premium and super-premium spirits market on which it has focused its product development and marketing activities. Factors that could adversely affect results include the possibility of excise tax increases, increased regulation, class actions and/or other litigation, pricing activity on key brands, and continued soft demand in the restaurant and bar channel. In addition, the spirits and wine industry could be impacted by the continued trend towards consolidation of the supplier, distributor and retailer tiers.

2002 Compared to 2001

Net sales decreased $335.5 million, or 25%, to $1.0 billion principally due to the divestiture of the U.K.-based Scotch whisky business in October 2001, and sales of ABSOLUT vodka no longer recorded on an interim basis in 2002. These factors were partially offset by higher average selling prices for Jim Beam bourbon in the U.S. and DeKuyper products, increased sales of Beam ready-to-drink products in Australia and sales of premium and super-premium products in the U.S., and favorable foreign exchange of $9 million. With the establishment of the U.S. subsidiary of V&S as the exclusive importer of V&S’ products, revenues and expenses under the interim arrangement were no longer recorded by our spirits and wine business beginning February 1, 2002.

30

Table of Contents

Operating income decreased $9.4 million, or 3%, to $276.3 million, as a result of the absence of the U.K.-based Scotch whisky business in 2002. In addition, other factors impacting this decrease were increased brand advertising and support costs, specifically for our premium and super-premium brands in the U.S. and After Shock liqueur in the U.K., lower sales of bulk wine, lower cooperage income from the sale of used oak barrels, and lower sales of After Shock in the U.K. These factors were partly offset by lower distribution costs in the United States as a result of the Future Brands joint venture established in June 2001 and the higher comparable sales, favorable foreign exchange ($6 million) and lower intangible amortization as a result of the adoption of SFAS 142.

Golf

2003 Compared to 2002

Net sales increased $114.1 million, or 11%, to $1.1 billion. The increase was led by significant share gains across all product categories benefiting from line extensions and the introduction of successful new golf club and golf ball products ($78 million), as well as favorable foreign exchange ($30 million) and favorable product mix. Our golf business achieved sales growth and share gains despite a 3% reduction in rounds of play in the U.S.

Operating income increased $9.3 million, or 7%, to $139.1 million benefiting from higher sales and favorable foreign exchange ($4 million). The increase was partially offset by higher marketing costs, as well as restructuring-related charges ($6 million).

In April 2003, our golf business announced plans to consolidate its three golf ball manufacturing facilities into its two newest production facilities. We believe this consolidation will create manufacturing efficiencies while preserving capacity to meet expected future demand. For this consolidation, we recorded restructuring and restructuring-related charges of $3.5 million ($5.8 million pre tax). In 2004, we expect to record additional restructuring and restructuring-related charges of approximately $4 million ($7 million pre tax) to complete restructuring activities.

The U.S. golf industry has been negatively impacted over the past four years by a decrease in rounds of play. Management believes this decrease is due to a combination of weak economic conditions, poor weather conditions and a decrease in destination travel and corporate spending. The lower rounds of play and the entrance of significant competitors into the category have led to increased competition. Despite these market conditions, the Company’s U.S. market share in golf balls, clubs, shoes, gloves and accessories has increased. The future success of the Company’s golf business will depend upon continued strong innovation and marketing across its product categories.

The United States Golf Association (USGA) and the Royal and Ancient Golf Club (R&A) establish standards for golf equipment used in the United States and outside the United States, respectively. Each of the USGA and the R&A has enacted new rules restricting golf club head size and golf club shaft length and has proposed new rules addressing the overall distance standard for golf balls. These newly enacted and proposed rules, when combined with other existing rules, could reduce the golf products industry’s ability to innovate and deploy new technologies, potentially impacting our golf business.