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EX-10.A - EXHIBIT 10.A - PARKER HANNIFIN CORPph3312016ex10a.htm
EX-12 - EXHIBIT 12 - PARKER HANNIFIN CORPph3312016ex12.htm
EX-31.B - EXHIBIT 31.B - PARKER HANNIFIN CORPph3312016ex31b.htm
EX-32 - EXHIBIT 32 - PARKER HANNIFIN CORPph3312016ex32.htm
EX-31.A - EXHIBIT 31.A - PARKER HANNIFIN CORPph3312016ex31a.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2016
OR
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File number 1-4982
 
PARKER-HANNIFIN CORPORATION
(Exact name of registrant as specified in its charter)
 
OHIO
 
34-0451060
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification No.)
 
 
6035 Parkland Blvd., Cleveland, Ohio
 
44124-4141
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (216) 896-3000
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one):
 
Large accelerated filer
 
ý
  
Accelerated filer
 
¨
 
 
 
 
Non-accelerated filer
 
¨  (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
Number of Common Shares outstanding at March 31, 2016           134,681,477




PART I - FINANCIAL INFORMATION


ITEM 1. FINANCIAL STATEMENTS

PARKER-HANNIFIN CORPORATION
CONSOLIDATED STATEMENT OF INCOME
(Dollars in thousands, except per share amounts)
(Unaudited)
 
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Net sales
$
2,828,665

 
$
3,162,311

 
$
8,403,603

 
$
9,567,236

Cost of sales
2,209,401

 
2,373,016

 
6,550,929

 
7,234,465

Gross profit
619,264

 
789,295

 
1,852,674

 
2,332,771

Selling, general and administrative expenses
335,908

 
372,306

 
1,020,788

 
1,152,950

Interest expense
33,745

 
35,003

 
103,802

 
83,609

Other (income), net
(23,382
)
 
(6,380
)
 
(50,438
)
 
(32,055
)
Income before income taxes
272,993

 
388,366

 
778,522

 
1,128,267

Income taxes
85,851

 
102,904

 
213,217

 
295,299

Net income
187,142

 
285,462

 
565,305

 
832,968

Less: Noncontrolling interest in subsidiaries' earnings
58

 
117

 
261

 
282

Net income attributable to common shareholders
$
187,084

 
$
285,345

 
$
565,044

 
$
832,686

 
 
 
 
 
 
 
 
Earnings per share attributable to common shareholders:
 
 
 
 
 
 
 
Basic
$
1.39

 
$
2.06

 
$
4.16

 
$
5.77

Diluted
$
1.37

 
$
2.02

 
$
4.12

 
$
5.68

 
 
 
 
 
 
 
 
Cash dividends per common share
$
0.63

 
$
0.63

 
$
1.89

 
$
1.74

See accompanying notes to consolidated financial statements.














- 2 -



PARKER-HANNIFIN CORPORATION
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
(Dollars in thousands)
(Unaudited)
 
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Net income
$
187,142

 
$
285,462

 
$
565,305

 
$
832,968

Less: Noncontrolling interests in subsidiaries' earnings
58

 
117

 
261

 
282

Net income attributable to common shareholders
187,084

 
285,345

 
565,044

 
832,686

 
 
 
 
 
 
 
 
Other comprehensive income (loss), net of tax
 
 
 
 
 
 
 
  Foreign currency translation adjustment and other
130,766

 
(373,759
)
 
(72,592
)
 
(892,699
)
  Retirement benefits plan activity
28,422

 
25,871

 
85,539

 
77,793

    Other comprehensive income (loss)
159,188

 
(347,888
)
 
12,947

 
(814,906
)
Less: Other comprehensive (loss) for noncontrolling interests
(2
)
 
(27
)
 
(133
)
 
(180
)
Other comprehensive income (loss) attributable to common shareholders
159,190

 
(347,861
)
 
13,080

 
(814,726
)
Total comprehensive income (loss) attributable to common shareholders
$
346,274

 
$
(62,516
)
 
$
578,124

 
$
17,960

See accompanying notes to consolidated financial statements.





- 3 -



PARKER-HANNIFIN CORPORATION
CONSOLIDATED BALANCE SHEET
(Dollars in thousands)
 
(Unaudited)
 
 
 
March 31,
2016
 
June 30,
2015
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
1,034,971

 
$
1,180,584

Marketable securities and other investments
1,069,658

 
733,490

Trade accounts receivable, net
1,587,785

 
1,620,194

Non-trade and notes receivable
245,248

 
364,534

Inventories
1,248,213

 
1,300,459

Prepaid expenses
124,025

 
241,684

Deferred income taxes
146,939

 
142,147

Total current assets
5,456,839

 
5,583,092

Plant and equipment
4,777,473

 
4,862,611

Less: Accumulated depreciation
3,178,715

 
3,198,589

 
1,598,758

 
1,664,022

Other assets
1,104,314

 
1,091,805

Intangible assets, net
961,206

 
1,013,439

Goodwill
2,948,284

 
2,942,679

Total assets
$
12,069,401

 
$
12,295,037

LIABILITIES
 
 
 
Current liabilities:
 
 
 
Notes payable and long-term debt payable within one year
$
576,621

 
$
223,142

Accounts payable, trade
999,159

 
1,092,138

Accrued payrolls and other compensation
339,117

 
409,762

Accrued domestic and foreign taxes
123,123

 
140,295

Other accrued liabilities
462,599

 
484,793

Total current liabilities
2,500,619

 
2,350,130

Long-term debt
2,675,000

 
2,723,960

Pensions and other postretirement benefits
1,483,641

 
1,699,197

Deferred income taxes
80,452

 
77,967

Other liabilities
302,706

 
336,214

Total liabilities
7,042,418

 
7,187,468

EQUITY
 
 
 
Shareholders’ equity:
 
 
 
Serial preferred stock, $.50 par value; authorized 3,000,000 shares; none issued

 

Common stock, $.50 par value; authorized 600,000,000 shares; issued 181,046,128 shares at March 31 and June 30
90,523

 
90,523

Additional capital
647,241

 
622,729

Retained earnings
10,148,038

 
9,841,885

Accumulated other comprehensive (loss)
(1,725,538
)
 
(1,738,618
)
Treasury shares, at cost; 46,364,651 shares at March 31 and 42,487,389 shares at June 30
(4,136,652
)
 
(3,712,232
)
Total shareholders’ equity
5,023,612

 
5,104,287

Noncontrolling interests
3,371

 
3,282

Total equity
5,026,983

 
5,107,569

Total liabilities and equity
$
12,069,401

 
$
12,295,037

See accompanying notes to consolidated financial statements.

- 4 -



PARKER-HANNIFIN CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(Dollars in thousands)
(Unaudited)
 
Nine Months Ended
 
March 31,
 
2016
 
2015
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
Net income
$
565,305

 
$
832,968

Adjustments to reconcile net income to net cash provided by operations:
 
 
 
Depreciation
143,663

 
152,884

Amortization
88,114

 
84,348

Share incentive plan compensation
53,735

 
74,830

Deferred income taxes
(25,925
)
 
(29,362
)
Foreign currency transaction loss (gain)
25,663

 
(79,572
)
Loss on sale of plant and equipment
76

 
10,248

       Gain on sale of businesses
(10,668
)
 
(4,732
)
       Gain on sale of marketable securities
(535
)
 

Changes in assets and liabilities, net of effect of acquisitions:
 
 
 
Accounts receivable, net
21,167

 
39,309

Inventories
53,120

 
(142,105
)
Prepaid expenses
117,203

 
(64,461
)
Other assets
(19,246
)
 
2,291

Accounts payable, trade
(93,948
)
 
(29,719
)
Accrued payrolls and other compensation
(69,179
)
 
(47,892
)
Accrued domestic and foreign taxes
(19,440
)
 
(68,274
)
Other accrued liabilities
(39,595
)
 
(43,320
)
Pensions and other postretirement benefits
(75,540
)
 
117,097

Other liabilities
(32,471
)
 
(13,488
)
Net cash provided by operating activities
681,499

 
791,050

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Acquisitions (net of cash of $3,814 in 2016 and $3,979 in 2015)
(67,552
)
 
(18,640
)
Capital expenditures
(110,804
)
 
(157,418
)
Proceeds from sale of plant and equipment
14,112

 
15,525

Proceeds from sale of businesses
24,325

 
35,577

Purchases of marketable securities and other investments
(1,188,594
)
 
(1,456,410
)
Maturities of marketable securities and other investments
974,417

 
828,653

Other
(40,364
)
 
(44,726
)
Net cash (used in) investing activities
(394,460
)
 
(797,439
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Proceeds from exercise of stock options
89

 
2,828

Payments for common shares
(450,070
)
 
(1,348,446
)
Tax benefit from share incentive plan compensation
8,681

 
19,097

Proceeds from (payments for) notes payable, net
523,336

 
(364,771
)
Proceeds from long-term borrowings
2,287

 
1,482,605

Payments for long-term borrowings
(220,068
)
 
(491
)
Dividends
(256,890
)
 
(252,745
)
Net cash (used in) financing activities
(392,635
)
 
(461,923
)
Effect of exchange rate changes on cash
(40,017
)
 
(128,230
)
Net (decrease) in cash and cash equivalents
(145,613
)
 
(596,542
)
Cash and cash equivalents at beginning of year
1,180,584

 
1,613,555

Cash and cash equivalents at end of period
$
1,034,971

 
$
1,017,013

See accompanying notes to consolidated financial statements.

- 5 -



PARKER-HANNIFIN CORPORATION
BUSINESS SEGMENT INFORMATION
(Dollars in thousands)
(Unaudited)
The Company operates in two reportable business segments: Diversified Industrial and Aerospace Systems.
Diversified Industrial - This segment produces a broad range of motion-control and fluid systems and components used in all kinds of manufacturing, packaging, processing, transportation, mobile construction, refrigeration and air conditioning, agricultural and military machinery and equipment and has a significant portion of international operations. Sales are made directly to major original equipment manufacturers (OEMs) and through a broad distribution network to smaller OEMs and the aftermarket.
Aerospace Systems - This segment designs and manufactures products and provides aftermarket support for commercial, business jet, military and general aviation aircraft, missile and spacecraft markets. The Aerospace Systems Segment provides a full range of systems and components for hydraulic, pneumatic and fuel applications.
 
 
 
Three Months Ended
 
Nine Months Ended
 
 
March 31,
 
March 31,
 
 
2016
 
2015
 
2016
 
2015
Net sales
 
 
 
 
 
 
 
 
Diversified Industrial:
 
 
 
 
 
 
 
 
North America
 
$
1,247,904

 
$
1,441,625

 
$
3,695,008

 
$
4,302,644

International
 
1,019,776

 
1,148,248

 
3,050,687

 
3,599,145

Aerospace Systems
 
560,985

 
572,438

 
1,657,908

 
1,665,447

Total net sales
 
$
2,828,665

 
$
3,162,311

 
$
8,403,603

 
$
9,567,236

Segment operating income
 
 
 
 
 
 
 
 
Diversified Industrial:
 
 
 
 
 
 
 
 
North America
 
$
202,180

 
$
235,516

 
$
568,509

 
$
726,640

International
 
105,161

 
139,473

 
329,823

 
465,803

Aerospace Systems
 
84,238

 
73,334

 
240,005

 
205,500

Total segment operating income
 
391,579

 
448,323

 
1,138,337

 
1,397,943

Corporate general and administrative expenses
 
42,322

 
45,515

 
126,583

 
152,319

Income before interest expense and other expense
 
349,257

 
402,808

 
1,011,754

 
1,245,624

Interest expense
 
33,745

 
35,003

 
103,802

 
83,609

Other expense (income)
 
42,519

 
(20,561
)
 
129,430

 
33,748

Income before income taxes
 
$
272,993

 
$
388,366

 
$
778,522

 
$
1,128,267




- 6 -



PARKER-HANNIFIN CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Dollars in thousands, except per share amounts

1. Management representation
In the opinion of the management of the Company, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the Company's financial position as of March 31, 2016, the results of operations for the three and nine months ended March 31, 2016 and 2015 and cash flows for the nine months then ended. These financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s 2015 Annual Report on Form 10-K and its previously filed fiscal 2016 Form 10-Qs. Interim period results are not necessarily indicative of the results to be expected for the full fiscal year.
The Company has evaluated subsequent events that have occurred through the date these financial statements were issued. No subsequent events have occurred that required adjustment to these financial statements.

2. New accounting pronouncements
In March 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2016-09, "Improvements to Employee Share-Based Payment Accounting." Under ASU 2016-09, all excess tax benefits and deficiencies arising from employee share-based payment awards, and dividends on those awards, will be recognized in the income statement during the period in which they occur. ASU 2016-09 allows companies to make an accounting policy election to estimate forfeitures, as required today, or record them when they occur and allows companies to withhold an amount up to the maximum statutory tax rate without causing the award to be classified as a liability. Within the statement of cash flows, ASU 2016-09 requires excess tax benefits to be classified as an operating activity and cash payments to tax authorities in connection with shares withheld to be classified as a financing activity. ASU 2016-09 is effective for annual periods, and interim periods within the annual periods, beginning after December 15, 2016. Early adoption is permitted. The Company has not yet determined the effect that ASU 2016-09 will have on its financial statements.
In March 2016, the FASB issued ASU 2016-07, "Simplifying the Transition to the Equity Method of Accounting." ASU 2016-07 eliminates the requirement to apply the equity method of accounting, upon obtaining significant influence, as if it was applied to the investment from inception. Instead, at the date significant influence is obtained, companies should add the cost of the additional interest acquired to the current basis of the investment and apply the equity method prospectively. If an available-for-sale security becomes eligible for the equity method of accounting, any unrealized gains or losses within accumulated other comprehensive income should be recognized within earnings on the date the investment becomes qualified for use of the equity method. ASU 2016-07 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. Early adoption is permitted. The Company does not expect that ASU 2016-07 will have a material impact on its financial statements.
In February 2016, the FASB issued ASU 2016-02, "Leases." ASU 2016-02 requires lessees to put most leases on their balance sheet by recognizing a liability to make lease payments and an asset representing their right to use the asset during the lease term. Lessee recognition, measurement, and presentation of expenses and cash flows will not change significantly from existing guidance. Lessor accounting is also largely unchanged from existing guidance. ASU 2016-02 requires qualitative and quantitative disclosures that provide information about the amount, timing, and uncertainty of cash flows arising from leases. ASU 2016-02 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018. Early adoption is permitted. The Company has not yet determined the effect that ASU 2016-02 will have on its financial statements.
In January 2016, the FASB issued ASU 2016-01, "Recognition and Measurement of Financial Assets and Liabilities." ASU 2016-01 requires equity investments (excluding equity method investments and investments that are consolidated) to be measured at fair value with changes in fair value recognized in net income. Equity investments that do not have a readily determinable fair value may be measured at cost, adjusted for impairment and observable price changes. The ASU also simplifies the impairment assessment of equity investments, eliminates the disclosure of the assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at cost on the balance sheet and requires the exit price to be used when measuring fair value of financial instruments for disclosure purposes. Under ASU 2016-01, changes in fair value (resulting from instrument-specific credit risk) will be presented separately in other comprehensive income for




- 7 -




2. New accounting pronouncements, cont'd
liabilities measured using the fair value option and financial assets and liabilities will be presented separately by measurement category and type either on the balance sheet or in the financial statement disclosures. ASU 2016-01 is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The Company has not yet determined the effect that ASU 2016-01 will have on its financial statements.
In November 2015, the FASB issued ASU 2015-17, "Income Taxes - Balance Sheet Classification of Deferred Taxes." ASU 2015-17 requires companies to present deferred tax assets and deferred tax liabilities as noncurrent in the statement of financial position. ASU 2015-17 is effective for financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted. The Company anticipates adopting ASU 2015-17 in the fourth quarter of fiscal 2016 and does not expect that ASU 2015-17 will have a material impact on its financial statements.
In July 2015, the FASB issued ASU 2015-11, "Inventory - Simplifying the Measurement of Inventory." ASU 2015-11 requires companies to measure inventory (valued using first-in, first-out or average cost methods) at the lower of cost or net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The measurement of inventory valued using the last-in, first-out method is unchanged. ASU 2015-11 is effective for financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted. The Company does not expect that ASU 2015-11 will have a material impact on its financial statements.
In April 2015, the FASB issued ASU 2015-03, "Interest - Imputation of Interest." ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in the ASU. ASU 2015-03 is effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Early adoption is permitted. The Company does not expect that ASU 2015-03 will have a material impact on its financial statements.
In May 2014, the FASB issued ASU 2014-09, "Revenue from Contracts with Customers." ASU 2014-09 requires revenue recognition to depict the transfer of goods or services to customers in an amount that reflects the consideration that a company expects to be entitled to in exchange for the goods or services. To achieve this principle, a company must apply five steps including identifying the contract with a customer, identifying the performance obligations in the contract, determining the transaction price, allocating the transaction price to the performance obligations, and recognizing revenue when (or as) the company satisfies the performance obligations. Additional quantitative and qualitative disclosure to enhance the understanding about the nature, amount, timing, and uncertainty of revenue and cash flows is also required. ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. In April 2016, the FASB issued ASU 2016-10, "Identifying Performance Obligations and Licensing." ASU 2016-10 clarifies the following two aspects of ASU 2014-09: identifying performance obligations and licensing implementation guidance. The effective date of ASU 2016-10 is the same as the effective date of ASU 2014-09. The Company has not yet determined the effect that ASU 2014-09 and ASU 2016-10 will have on its financial statements.
In September 2015, the FASB issued ASU 2015-16, "Business Combinations - Simplifying the Accounting for Measurement-Period Adjustments." ASU 2015-16 requires the recognition of adjustments to provisional amounts that are identified during the measurement period in the reporting period in which the adjustments are determined. The effects of the adjustments to provisional amounts on depreciation, amortization or other income effects should be recognized in current-period earnings as if the accounting had been completed at the acquisition date. Disclosure of the portion of the adjustment recorded in current-period earnings that would have been reported in prior reporting periods if the adjustment to the provisional amounts had been recognized at the acquisition date is also required. During the first quarter of fiscal 2016, the Company adopted ASU 2015-16. The adoption of ASU 2015-16 did not materially affect the Company's financial statements.













- 8 -



3. Earnings per share
The following table presents a reconciliation of the numerator and denominator of basic and diluted earnings per share for the three and nine months ended March 31, 2016 and 2015.
 
 
Three Months Ended
Nine Months Ended
 
March 31,
March 31,
 
2016
 
2015
2016
 
2015
Numerator:
 
 
 
 
 
 
Net income attributable to common shareholders
$
187,084

 
$
285,345

$
565,044

 
$
832,686

Denominator:
 
 
 
 
 
 
Basic - weighted average common shares
134,809,610

 
138,794,789

135,675,823

 
144,342,288

Increase in weighted average common shares from dilutive effect of equity-based awards
1,743,159

 
2,395,014

1,636,025

 
2,284,985

Diluted - weighted average common shares, assuming exercise of equity-based awards
136,552,769

 
141,189,803

137,311,848

 
146,627,273

Basic earnings per share
$
1.39

 
$
2.06

$
4.16

 
$
5.77

Diluted earnings per share
$
1.37

 
$
2.02

$
4.12

 
$
5.68

For the three months ended March 31, 2016 and 2015, 3,087,061 and 396,693 common shares subject to equity-based awards, respectively, were excluded from the computation of diluted earnings per share because the effect of their exercise would be anti-dilutive. For the nine months ended March 31, 2016 and 2015, 3,062,752 and 1,067,506 common shares subject to equity-based awards, respectively, were excluded from the computation of diluted earnings per share because the effect of their exercise would be anti-dilutive.
4. Share repurchase program
The Company has a program to repurchase its common shares. On October 22, 2014, the Board of Directors of the Company approved an increase in the overall number of shares authorized for repurchase under the program so that, beginning on such date, the aggregate number of shares authorized for repurchase was 35 million. There is no limitation on the number of shares that can be repurchased in a fiscal year. Repurchases may be funded primarily from operating cash flows and commercial paper borrowings and the shares are initially held as treasury stock. During the three-month period ended March 31, 2016, the Company repurchased 504,313 shares at an average price, including commissions, of $99.14 per share. During the nine-month period ended March 31, 2016, the Company repurchased 4,167,947 shares at an average price, including commissions, of $107.97 per share.

5. Trade accounts receivable, net
Trade accounts receivable are initially recorded at their net collectible amount and are generally recorded at the time the revenue from the sales transaction is recorded. Receivables are written off to bad debt primarily when, in the judgment of the Company, the receivable is deemed to be uncollectible due to the insolvency of the debtor. Allowance for doubtful accounts was $8,782 and $9,284 at March 31, 2016 and June 30, 2015, respectively.

















- 9 -



6. Non-trade and notes receivable
The non-trade and notes receivable caption in the Consolidated Balance Sheet is comprised of the following components:
 
 
March 31,
2016
 
June 30,
2015
Notes receivable
 
$
94,847

 
$
90,470

Reverse repurchase agreements
 

 
113,558

Accounts receivable, other
 
150,401

 
160,506

Total
 
$
245,248

 
$
364,534

Reverse repurchase agreements are collateralized lending arrangements and have a maturity longer than three months from the date of purchase. The Company does not record an asset or liability for the collateral associated with the reverse repurchase agreements.

7. Inventories

The inventories caption in the Consolidated Balance Sheet is comprised of the following components:
 
 
March 31,
2016
 
June 30,
2015
Finished products
 
$
492,028

 
$
526,708

Work in process
 
672,928

 
688,727

Raw materials
 
83,257

 
85,024

Total
 
$
1,248,213

 
$
1,300,459


8. Business realignment charges
The Company incurred business realignment charges in fiscal 2016 and fiscal 2015.
Business realignment charges presented in the Business Segment Information are as follows: 
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Diversified Industrial
$
24,406

 
$
7,203

 
$
67,405

 
$
22,136

Aerospace Systems
624

 
563

 
2,604

 
563

Corporate general and administrative expenses
2,049

 

 
2,129

 

Other expense (income)

 
484

 
116

 
2,399

Work force reductions in connection with such business realignment charges in the Business Segment Information are as follows: 
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Diversified Industrial
875

 
176

 
2,929

 
350

Aerospace Systems
15

 
21

 
81

 
21

Corporate general and administrative expenses
50

 

 
52

 






- 10 -



8. Business realignment charges, cont'd
The charges primarily consist of severance costs related to actions taken under the Company's Simplification initiative aimed at reducing organizational and process complexity, as well as plant closures, with the majority of the charges incurred in Europe and North America. In connection with a plant closure during the nine months ended March 31, 2016, the Company recognized an expense associated with enhanced retirement benefits (refer to Note 11 for further discussion). The Company believes the realignment actions will positively impact future results of operations but will not have a material effect on liquidity and sources and uses of capital.
The business realignment charges are presented in the Consolidated Statement of Income as follows:
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Cost of sales
$
21,628

 
$
4,823

 
$
54,559

 
$
15,430

Selling, general and administrative expenses
5,451

 
2,943

 
17,579

 
7,269

Other (income), net

 
484

 
116

 
2,399

As of March 31, 2016, approximately $42 million in severance payments had been made relating to charges incurred during fiscal 2016, the remainder of which are expected to be paid by March 31, 2017. Severance payments relating to prior-year actions are being made as required. Remaining severance payments related to current-year and prior-year actions of approximately $33 million are primarily reflected within the other accrued liabilities caption in the Consolidated Balance Sheet. Additional charges may be recognized in future periods related to the realignment actions described above, the timing and amount of which are not known at this time.


9. Equity
Changes in equity for the three months ended March 31, 2016 and 2015 are as follows: 
 
Shareholders’
Equity
 
Noncontrolling
Interests
 
Total Equity
December 31, 2015
$
4,799,406

 
$
3,315

 
$
4,802,721

Net income
187,084

 
58

 
187,142

Other comprehensive income (loss)
159,190

 
(2
)
 
159,188

Dividends paid
(85,182
)
 

 
(85,182
)
Stock incentive plan activity
13,114

 

 
13,114

Shares purchased at cost
(50,000
)
 

 
(50,000
)
Balance at March 31, 2016
$
5,023,612

 
$
3,371

 
$
5,026,983

 
 
 
 
 
 
 
Shareholders’
Equity
 
Noncontrolling
Interests
 
Total Equity
December 31, 2014
$
5,756,749

 
$
3,392

 
$
5,760,141

Net income
285,345

 
117

 
285,462

Other comprehensive (loss)
(347,861
)
 
(27
)
 
(347,888
)
Dividends paid
(87,731
)
 
(258
)
 
(87,989
)
Stock incentive plan activity
22,092

 

 
22,092

Shares purchased at cost
(476,879
)
 

 
(476,879
)
Balance at March 31, 2015
$
5,151,715

 
$
3,224

 
$
5,154,939










- 11 -




9. Equity, cont'd

Changes in equity for the nine months ended March 31, 2016 and 2015 are as follows:
 
Shareholders’
Equity
 
Noncontrolling
Interests
 
Total Equity
Balance at June 30, 2015
$
5,104,287

 
$
3,282

 
$
5,107,569

Net income
565,044

 
261

 
565,305

Other comprehensive income (loss)
13,080

 
(133
)
 
12,947

Dividends paid
(256,851
)
 
(39
)
 
(256,890
)
Stock incentive plan activity
48,052

 

 
48,052

Shares purchased at cost
(450,000
)
 

 
(450,000
)
Balance at March 31, 2016
$
5,023,612

 
$
3,371

 
$
5,026,983

 
 
 
 
 
 
 
Shareholders’
Equity
 
Noncontrolling
Interests
 
Total Equity
Balance at June 30, 2014
$
6,659,428

 
$
3,380

 
$
6,662,808

Net income
832,686

 
282

 
832,968

Other comprehensive (loss)
(814,726
)
 
(180
)
 
(814,906
)
Dividends paid
(252,487
)
 
(258
)
 
(252,745
)
Stock incentive plan activity
70,392

 

 
70,392

Shares purchased at cost
(1,343,578
)
 

 
(1,343,578
)
Balance at March 31, 2015
$
5,151,715

 
$
3,224

 
$
5,154,939


Changes in accumulated other comprehensive (loss) in shareholders' equity by component for the nine months ended March 31, 2016 and 2015 are as follows:

 
Foreign Currency Translation Adjustment and Other
 
Retirement Benefit Plans
 
Total
Balance at June 30, 2015
$
(641,018
)
 
$
(1,097,600
)
 
$
(1,738,618
)
Other comprehensive (loss) before reclassifications
(71,989
)
 

 
(71,989
)
Amounts reclassified from accumulated other comprehensive (loss)
(470
)
 
85,539

 
85,069

Balance at March 31, 2016
$
(713,477
)
 
$
(1,012,061
)
 
$
(1,725,538
)

 
Foreign Currency Translation Adjustment and Other
 
Retirement Benefit Plans
 
Total
Balance at June 30, 2014
$
124,392

 
$
(947,890
)
 
$
(823,498
)
Other comprehensive (loss) before reclassifications
(892,672
)
 

 
(892,672
)
Amounts reclassified from accumulated other comprehensive (loss)
153

 
77,793

 
77,946

Balance at March 31, 2015
$
(768,127
)
 
$
(870,097
)
 
$
(1,638,224
)










- 12 -




9. Equity, cont'd

Significant reclassifications out of accumulated other comprehensive (loss) in shareholders' equity for the three and nine months ended March 31, 2016 and 2015 are as follows:

Details about Accumulated Other Comprehensive (Loss) Components
 
Income (Expense) Reclassified from Accumulated Other Comprehensive (Loss)
 
Consolidated Statement of Income Classification
 
 
Three Months Ended
 
Nine Months Ended
 
 
 
 
March 31, 2016
 
March 31, 2016
 
 
Retirement benefit plans
 
 
 
 
 
 
Amortization of prior service cost and initial net obligation
 
$
(1,842
)
 
$
(5,528
)
 
See Note 11
Recognized actuarial loss
 
(42,714
)
 
(128,538
)
 
See Note 11
Total before tax
 
(44,556
)
 
(134,066
)
 

Tax benefit
 
16,134

 
48,527

 
Income taxes
Net of tax
 
$
(28,422
)
 
$
(85,539
)
 


Details about Accumulated Other Comprehensive (Loss) Components
 
Income (Expense) Reclassified from Accumulated Other Comprehensive (Loss)
 
Consolidated Statement of Income Classification
 
 
Three Months Ended
 
Nine Months Ended
 
 
 
 
March 31, 2015
 
March 31, 2015
 
 
Retirement benefit plans
 
 
 
 
 
 
Amortization of prior service cost and initial net obligation
 
$
(2,281
)
 
$
(6,825
)
 
See Note 11
Recognized actuarial loss
 
(38,498
)
 
(115,725
)
 
See Note 11
Total before tax
 
(40,779
)
 
(122,550
)
 
 
Tax benefit
 
14,908

 
44,757

 
Income taxes
Net of tax
 
$
(25,871
)
 
$
(77,793
)
 
 



10. Goodwill and intangible assets
The changes in the carrying amount of goodwill for the nine months ended March 31, 2016 are as follows:
 
 
Diversified Industrial
Segment
 
Aerospace
Systems
Segment
 
Total
Balance at June 30, 2015
$
2,844,045

 
$
98,634

 
$
2,942,679

Acquisitions
31,134

 

 
31,134

Foreign currency translation and other
(25,536
)
 
7

 
(25,529
)
Balance at March 31, 2016
$
2,849,643

 
$
98,641

 
$
2,948,284

Acquisitions represent the original goodwill allocation and final adjustments to purchase price allocations during the measurement period subsequent to the applicable acquisition dates. The impact of final purchase price allocation adjustments on the Company's results of operations and financial position were immaterial.




- 13 -




10. Goodwill and intangible assets, cont'd
Intangible assets are amortized on the straight-line method over their legal or estimated useful lives. The following summarizes the gross carrying value and accumulated amortization for each major category of intangible assets:
 
 
March 31, 2016
 
June 30, 2015
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Gross Carrying
Amount
 
Accumulated
Amortization
Patents
$
153,034

 
$
94,916

 
$
149,066

 
$
88,540

Trademarks
346,407

 
178,120

 
355,108

 
172,187

Customer lists and other
1,379,694

 
644,893

 
1,369,380

 
599,388

Total
$
1,879,135

 
$
917,929

 
$
1,873,554

 
$
860,115

Total intangible amortization expense for the nine months ended March 31, 2016 was $81,590. The estimated amortization expense for the five years ending June 30, 2016 through 2020 is $101,240, $96,929, $92,134, $84,647 and $77,028, respectively.
Intangible assets are evaluated for impairment whenever events or circumstances indicate that the undiscounted net cash flows to be generated by their use over their expected useful lives and eventual disposition may be less than their net carrying value. No such events or circumstances occurred during the nine months ended March 31, 2016.


11. Retirement benefits
Net pension benefit cost recognized included the following components:
 
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Service cost
$
23,680

 
$
24,506

 
$
71,199

 
$
74,163

Interest cost
45,138

 
44,447

 
136,872

 
135,245

Special termination cost

 

 
7,088

 

Expected return on plan assets
(55,418
)
 
(54,658
)
 
(166,633
)
 
(164,847
)
Amortization of prior service cost
1,868

 
2,306

 
5,606

 
6,903

Amortization of net actuarial loss
42,573

 
38,171

 
127,841

 
114,896

Amortization of initial net obligation
4

 
4

 
12

 
13

Net pension benefit cost
$
57,845

 
$
54,776

 
$
181,985

 
$
166,373

During the three months ended March 31, 2016 and 2015, the Company recognized $1,001 and $1,019, respectively, in expense related to other postretirement benefits. During the nine months ended March 31, 2016 and 2015, the Company recognized $7,696 and $3,255, respectively, in expense related to other postretirement benefits.
During the nine months ended March 31, 2016, the Company provided enhanced retirement benefits in connection with a plant closure, which resulted in an increase in net pension benefit cost of $7,088 and an increase in expense related to other postretirement benefits of $4,521.

12. Income taxes
The Company and its subsidiaries file federal and state income tax returns in the U.S. and in various foreign jurisdictions. In the normal course of business, the Company is subject to examination by taxing authorities throughout the world. The Company is open to assessment of its federal income tax returns by the U.S. Internal Revenue Service for fiscal years after 2011. The Company is also open to assessment for all significant state, local and foreign jurisdictions for fiscal years after 2006. Unrecognized tax benefits reflect the difference between positions taken or expected to be taken on income tax returns and the amounts reflected in the financial statements.

- 14 -




12. Income taxes, cont'd
As of March 31, 2016, the Company had gross unrecognized tax benefits of $133,991. The total amount of gross unrecognized tax benefits that, if recognized, would affect the effective tax rate was $76,577. If recognized, a significant portion of the gross unrecognized tax benefits would be offset against an asset currently recorded in the Consolidated Balance Sheet. The accrued interest related to the gross unrecognized tax benefits, excluded from the amounts above, is $11,127. It is reasonably possible that within the next 12 months the amount of gross unrecognized tax benefits could be reduced by up to approximately $100,000 as a result of the revaluation of existing uncertain tax positions arising from developments in the examination process or the closure of tax statutes. Any increase in the amount of gross unrecognized tax benefits within the next 12 months is expected to be insignificant.


13. Financial instruments
The Company’s financial instruments consist primarily of cash and cash equivalents, marketable securities and other investments, accounts receivable and long-term investments as well as obligations under accounts payable, trade, notes payable and long-term debt. Due to their short-term nature, the carrying values for cash and cash equivalents, accounts receivable, accounts payable, trade and notes payable approximate fair value.
Marketable securities and other investments include deposits, which are recorded at cost, and investments classified as available-for-sale, which are recorded at fair value with unrealized gains and losses recorded in accumulated other comprehensive (loss). Gross unrealized gains and losses were not material as of March 31, 2016 and June 30, 2015. Substantially all of the available-for-sale investments in an unrealized loss position have been in that position for less than 12 months. There were no facts or circumstances that indicated the unrealized losses were other than temporary.
The contractual maturities of available-for-sale investments at March 31, 2016 and June 30, 2015 are as follows:
 
March 31, 2016
 
June 30, 2015
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Less than one year
$
25,405

 
$
25,391

 
$
13,561

 
$
13,555

One to three years
153,513

 
153,948

 
188,539

 
188,057

Above three years
42,944

 
42,865

 
15,673

 
15,587

Actual maturities of available-for-sale investments may differ from their contractual maturities as the Company has the ability to liquidate the available-for-sale investments after giving appropriate notice to the issuer.
The carrying value of long-term debt and estimated fair value of long-term debt are as follows:
 
 
March 31,
2016
 
June 30,
2015
Carrying value of long-term debt
 
$
2,728,280

 
$
2,947,102

Estimated fair value of long-term debt
 
2,991,749

 
3,107,735

The fair value of long-term debt was determined based on observable market prices in the active market in which the security is traded and is classified within level 2 of the fair value hierarchy.
The Company utilizes derivative and non-derivative financial instruments, including, forward exchange contracts, costless collar contracts, cross-currency swap contracts and certain foreign denominated debt designated as net investment hedges, to manage foreign currency transaction and translation risk. The derivative financial instrument contracts are with major investment grade financial institutions and the Company does not anticipate any material non-performance by any of the counterparties. The Company does not hold or issue derivative financial instruments for trading purposes.
The Company’s Euro bonds, which matured in November 2015, and Japanese Yen credit facility have each been designated as a hedge of the Company’s net investment in certain foreign subsidiaries. The translation of the Euro bonds and Japanese Yen credit facility into U.S. dollars is recorded in accumulated other comprehensive (loss) and remains there until the underlying net investment is sold or substantially liquidated.

- 15 -





13. Financial instruments, cont'd
Derivative financial instruments are recognized on the Consolidated Balance Sheet as either assets or liabilities and are measured at fair value.
The following summarizes the location and fair value of significant derivative financial instruments reported in the Consolidated Balance Sheet as of March 31, 2016 and June 30, 2015:

 
 
Balance Sheet Caption
 
March 31,
2016
 
June 30,
2015
Net investment hedges
 
 
 
 
 
 
Cross-currency swap contracts
 
Other assets
 
$
14,761

 
$
17,994

Cash flow hedges
 
 
 
 
 
 
Costless collar contracts
 
Non-trade and notes receivable
 
292

 
5,627

Costless collar contracts
 
Other accrued liabilities
 
7,649

 
1,970


The cross-currency swap and costless collar contracts are reflected on a gross basis in the Consolidated Balance Sheet. The Company has not entered into any master netting arrangements.
Gains or losses on derivatives that are not hedges are adjusted to fair value through the cost of sales caption in the Consolidated Statement of Income. Gains or losses on derivatives that are hedges are adjusted to fair value through accumulated other comprehensive (loss) in the Consolidated Balance Sheet until the hedged item is recognized in earnings.
Cross-currency swap contracts have been designated as hedging instruments. Costless collar contracts have not been designated as hedging instruments and are considered to be economic hedges of forecasted transactions.
Gains (losses) on derivative financial instruments that were recorded in the Consolidated Statement of Income for the three and nine months ended March 31, 2016 and 2015 were not material.

Gains (losses) on derivative and non-derivative financial instruments that were recorded in accumulated other comprehensive (loss) in the Consolidated Balance Sheet are as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
March 31,
 
March 31,
 
2016
 
2015
 
2016
 
2015
Cross-currency swap contracts
$
10,934

 
$
22,684

 
$
3,140

 
$
44,813

Foreign denominated debt
(2,131
)
 
17,151

 
2,202

 
42,296

There was no ineffectiveness of the cross-currency swap contracts or foreign denominated debt, nor was any portion of these financial instruments excluded from the effectiveness testing, during the nine months ended March 31, 2016 and 2015.










- 16 -




13. Financial instruments, cont'd
A summary of financial assets and liabilities that were measured at fair value on a recurring basis at March 31, 2016 and June 30, 2015 are as follows:
 
 
 
 
Quoted Prices

 
Significant Other

 
Significant

 
 
Fair

 
In Active

 
Observable

 
Unobservable

 
 
Value at

 
Markets

 
Inputs

 
Inputs

 
 
March 31, 2016

 
(Level 1)

 
(Level 2)

 
(Level 3)

Assets:
 
 
 
 
 
 
 
 
Equity securities
 
$
1,452

 
$
1,452

 
$

 
$

Government bonds
 
25,094

 
25,094

 

 

Corporate bonds
 
187,946

 
187,946

 

 

Asset-backed and mortgage-backed securities
 
9,164

 

 
9,164

 

Derivatives
 
15,231

 

 
15,231

 

Investments measured at net asset value
 
516,889

 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
Derivatives
 
15,028

 

 
15,028

 


 
 
 
 
Quoted Prices

 
Significant Other

 
Significant

 
 
Fair

 
In Active

 
Observable

 
Unobservable

 
 
Value at

 
Markets

 
Inputs

 
Inputs

 
 
June 30, 2015

 
(Level 1)

 
(Level 2)

 
(Level 3)

Assets:
 
 
 
 
 
 
 
 
Government bonds
 
$
60,512

 
$
60,512

 
$

 
$

Corporate bonds
 
145,717

 
145,717

 

 

Asset-backed and mortgage-backed securities
 
10,970

 

 
10,970

 

Derivatives
 
23,598

 

 
23,598

 

Investments measured at net asset value
 
187,534

 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
Derivatives
 
1,970

 

 
1,970

 

The fair values of the equity securities, government bonds, corporate bonds and asset-backed and mortgage-backed securities are determined using the closing market price reported in the active market in which the fund is traded or the market price for similar assets that are traded in an active market.
Derivatives consist of forward exchange, costless collar and cross-currency swap contracts, the fair values of which are calculated using market observable inputs including both spot and forward prices for the same underlying currencies. The calculation of fair value of the cross-currency swap contracts also utilizes a present value cash flow model that has been adjusted to reflect the credit risk of either the Company or the counterparty.
Investments measured at net asset value primarily consist of investments in fixed income mutual funds, which are measured at fair value using the net asset value per share practical expedient. These investments have not been categorized in the fair value hierarchy. The Company has the ability to liquidate these investments after giving appropriate notice to the issuer.
The primary investment objective for all investments is the preservation of principal and liquidity while earning income.

There are no other financial assets or financial liabilities that are marked to market on a recurring basis. Fair values are transferred between levels of the fair value hierarchy when facts and circumstances indicate that a change in the method of estimating the fair value of a financial asset or financial liability is warranted.


- 17 -





PARKER-HANNIFIN CORPORATION
FORM 10-Q
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2016
AND COMPARABLE PERIODS ENDED MARCH 31, 2015
OVERVIEW
The Company is a leading worldwide diversified manufacturer of motion and control technologies and systems, providing precision engineered solutions for a wide variety of mobile, industrial and aerospace markets.
The Company’s order rates provide a near-term perspective of the Company’s outlook particularly when viewed in the context of prior and future order rates. The Company publishes its order rates on a quarterly basis. The lead time between the time an order is received and revenue is realized generally ranges from one day to 12 weeks for mobile and industrial orders and from one day to 18 months for aerospace orders. The Company believes the leading economic indicators of these markets that have a strong correlation to the Company’s future order rates are as follows:

Purchasing Managers Index (PMI) on manufacturing activity specific to regions around the world with respect to most mobile and industrial markets;
Global aircraft miles flown and global revenue passenger miles for commercial aerospace markets and Department of Defense spending for military aerospace markets; and
Housing starts with respect to the North American residential air conditioning market and certain mobile construction markets.
A PMI above 50 indicates that the manufacturing activity specific to a region of the world in the mobile and industrial markets is expanding. A PMI below 50 indicates the opposite. Recent PMI levels for some regions around the world were as follows:
 
March 31, 2016

 
December 31, 2015

 
June 30, 2015

United States
51.8

 
48.0

 
53.5

Eurozone countries
51.6

 
53.2

 
52.5

China
49.7

 
48.2

 
49.4

Brazil
46.0

 
45.6

 
46.5

Global aircraft miles flown have increased approximately eight percent from their comparable fiscal 2015 level and global revenue passenger miles have increased approximately seven percent from their comparable fiscal 2015 level. The Company anticipates that U.S. Department of Defense spending with regard to appropriations and operations and maintenance for the U.S. Government’s fiscal year 2016 will be approximately one percent higher than the comparable fiscal 2015 level.
Housing starts in March 2016 were approximately 14 percent higher than housing starts in March 2015 and were approximately seven percent lower than housing starts in June 2015.
The Company remains focused on maintaining its financial strength by adjusting its cost structure to reflect changing demand levels, maintaining a strong balance sheet and managing its cash. The Company has been able to borrow funds at affordable interest rates and had a debt to debt-shareholders’ equity ratio of 39.3 percent at March 31, 2016 compared to 40.7 percent at December 31, 2015 and 36.6 percent at June 30, 2015. Net of cash and cash equivalents and marketable securities and other investments, the debt to debt-shareholders' equity ratio was 18.6 percent at March 31, 2016 compared to 23.0 percent at December 31, 2015 and 16.8 percent at June 30, 2015.
The Company believes many opportunities for profitable growth are available. The Company intends to focus primarily on business opportunities in the areas of energy, water, food, environment, defense, life sciences, infrastructure and transportation.

- 18 -



The Company believes it can meet its strategic objectives by:

Successfully executing its Win Strategy initiatives relating to engaged people, premier customer experience, profitable growth and financial performance;
Successfully executing its Simplification initiative which is aimed at reducing organizational and process complexity;
Serving the customer and continuously enhancing its experience with the Company;
Maintaining its decentralized division and sales company structure;
Fostering a safety first and entrepreneurial culture;
Engineering innovative systems and products to provide superior customer value through improved service, efficiency and productivity;
Delivering products, systems and services that have demonstrable savings to customers and are priced by the value they deliver;
Acquiring strategic businesses;
Organizing around targeted regions, technologies and markets;
Driving efficiency by implementing lean enterprise principles; and
Creating a culture of empowerment through its values, inclusion and diversity, accountability and teamwork.
Acquisitions will be considered from time to time to the extent there is a strong strategic fit while at the same time, maintaining the Company’s strong financial position. In addition, the Company will continue to assess its existing businesses and initiate efforts to divest businesses that are not considered to be a good long-term strategic fit for the Company. Future business divestitures could have a negative effect on the Company’s results of operations.
The discussion below is structured to separately discuss the Consolidated Statement of Income, Results by Business Segment, Consolidated Balance Sheet and Consolidated Statement of Cash Flows.
CONSOLIDATED STATEMENT OF INCOME
 
 
 
Three Months Ended
March 31,
Nine Months Ended
March 31,
(dollars in millions)
 
2016
 
2015
2016
 
2015
Net sales
 
$
2,828.7

 
$
3,162.3

$
8,403.6

 
$
9,567.2

Gross profit
 
$
619.3

 
$
789.3

$
1,852.7

 
$
2,332.8

Gross profit margin
 
21.9
%
 
25.0
%
22.0
%
 
24.4
%
Selling, general and administrative expenses
 
$
335.9

 
$
372.3

$
1,020.8

 
$
1,153.0

Selling, general and administrative expenses, as a percent of sales
 
11.9
%
 
11.8
%
12.1
%
 
12.1
%
Interest expense
 
$
33.7

 
$
35.0

$
103.8

 
$
83.6

Other (income), net
 
$
(23.4
)
 
$
(6.4
)
$
(50.4
)
 
$
(32.1
)
Effective tax rate
 
31.4
%
 
26.5
%
27.4
%
 
26.2
%
Net income
 
$
187.1

 
$
285.5

$
565.3

 
$
833.0

Net income, as a percent of sales
 
6.6
%
 
9.0
%
6.7
%
 
8.7
%

Net sales for the current-year quarter and first nine months of fiscal 2016 decreased from the comparable prior-year periods primarily due to lower sales in the Diversified Industrial Segment. The effect of currency rate changes decreased net sales by approximately $47 million in the current-year quarter ($36 million of which was attributable to the Diversified Industrial International businesses) and $372 million for the first nine months of fiscal 2016 ($315 million of which was attributable to the Diversified Industrial International businesses). Acquisitions made in the last 12 months contributed approximately $9 million and $31 million in sales in the current-year quarter and first nine months of fiscal 2016, respectively.
Gross profit margin decreased in the current-year quarter and first nine months of fiscal 2016 primarily due to the lower sales volume in the Diversified Industrial Segment, resulting in manufacturing inefficiencies, and an unfavorable product mix in the Diversified Industrial International businesses, partially offset by a favorable product mix in the Aerospace Systems Segment and lower operating expenses resulting from the Company's Simplification initiative and prior-year restructuring activities. Foreign currency transaction gain (loss) (primarily relating to cash, marketable securities and other investments and intercompany transactions) included in cost of sales for the current-year quarter and prior-year quarter were $(17.5) million and $56.4 million, respectively, and $(25.7) million and $79.6 million for the first nine months of fiscal 2016 and 2015, respectively. Pension cost included in cost of sales for the current-year quarter and prior-year quarter were $40.3 million and

- 19 -



$39.2 million, respectively, and $128.1 million and $121.0 million for the first nine months of fiscal 2016 and 2015, respectively. Cost of sales for the current-year quarter and prior-year quarter also included business realignment charges of $21.6 million and $4.8 million, respectively, and $54.6 million and $15.4 million for the first nine months of fiscal 2016 and 2015, respectively.
Selling, general and administrative expenses decreased for the current-year quarter and first nine months of fiscal 2016 primarily due to lower selling expenses resulting from the decrease in sales, lower expenses resulting from the Company's Simplification initiative, lower incentive compensation expense and lower research and development expenses, partially offset by higher net expenses associated with the Company's deferred compensation programs. Pension cost included in selling, general and administrative expenses for the current-year quarter and prior-year quarter was $18.2 million and $15.4 million, respectively, and $55.8 million and $46.7 for the first nine months of fiscal 2016 and 2015, respectively. Business realignment charges included in selling, general and administrative expenses were $5.5 million and $2.9 million for the current-year quarter and prior-year quarter, respectively, and $17.6 million and $7.3 million for the first nine months of fiscal 2016 and 2015, respectively.
Interest expense for the current-year quarter decreased from the prior-year quarter primarily due to a lower weighted-average interest rate for the Company's debt portfolio. Interest expense for the first nine months of fiscal 2016 increased from the comparable prior-year period primarily due to higher weighted-average borrowings and higher weighted-average interest rates.
Other (income), net in the current-year quarter and first nine months of fiscal 2016 includes income of $6.1 million and $16.7 million, respectively, related to equity method investments, and a gain of $10.0 million and $11.5 million, respectively, related to the sale of businesses. Other (income), net in the prior-year quarter and first nine months of fiscal 2015 included income of $4.9 million and $16.1 million, respectively, related to equity method investments, a gain of $1.3 million and $8.9 million, respectively, related to the sale of businesses, and expenses of $0.8 million and $7.9 million, respectively, related to asset writedowns.
Effective tax rate for the current-year quarter and first nine months of fiscal 2016 was higher than the comparable prior-year periods primarily due to a decrease in estimated foreign earnings in lower tax jurisdictions, partially offset by an increase in the U.S. Research and Development tax credit. The Company expects the effective tax rate for fiscal 2016 will be approximately 28 percent.
RESULTS BY BUSINESS SEGMENT
Diversified Industrial Segment
 
 
 
Three Months Ended
March 31,
 
Nine Months Ended
March 31,
(dollars in millions)
 
2016
 
2015
 
2016
 
2015
Net sales
 
 
 
 
 
 
 
 
North America
 
$
1,247.9

 
$
1,441.6

 
$
3,695.0

 
$
4,302.6

International
 
1,019.8

 
1,148.2

 
3,050.7

 
3,599.1

Operating income
 
 
 
 
 
 
 
 
North America
 
202.2

 
235.5

 
568.5

 
726.6

International
 
$
105.2

 
$
139.5

 
$
329.8

 
$
465.8

Operating margin
 
 
 
 
 
 
 
 
North America
 
16.2
%
 
16.3
%
 
15.4
%
 
16.9
%
International
 
10.3
%
 
12.1
%
 
10.8
%
 
12.9
%
Backlog
 
$
1,518.6

 
$
1,662.9

 
$
1,518.6

 
$
1,662.9













- 20 -






The Diversified Industrial Segment operations experienced the following percentage changes in net sales in the current-year period versus the comparable prior-year period:
 
 
 
Period Ending March 31,
 
 
Three Months
 
Nine Months
Diversified Industrial North America – as reported
 
(13.4
)%
 
(14.1
)%
Acquisitions
 
0.1
 %
 
0.2
 %
Currency
 
(0.8
)%
 
(1.2
)%
Diversified Industrial North America – without acquisitions and currency
 
(12.7
)%
 
(13.1
)%
 
 
 
 
 
Diversified Industrial International – as reported
 
(11.2
)%
 
(15.2
)%
Acquisitions
 
0.6
 %
 
0.7
 %
Currency
 
(3.1
)%
 
(8.8
)%
Diversified Industrial International – without acquisitions and currency
 
(8.7
)%
 
(7.1
)%
 
 
 
 
 
Total Diversified Industrial Segment – as reported
 
(12.4
)%
 
(14.6
)%
Acquisitions
 
0.4
 %
 
0.4
 %
Currency
 
(1.8
)%
 
(4.6
)%
Total Diversified Industrial Segment – without acquisitions and currency
 
(11.0
)%
 
(10.4
)%
The above presentation reconciles the percentage changes in net sales of the Diversified Industrial Segment reported in accordance with U.S. GAAP to percentage changes in net sales adjusted to remove the effects of acquisitions made within the prior four fiscal quarters as well as the effects of currency exchange rates. The effects of acquisitions and currency exchange rates are removed to allow investors and the Company to meaningfully evaluate the percentage changes in net sales on a comparable basis from period to period.
Excluding the effects of acquisitions and changes in currency exchange rates, Diversified Industrial North American sales decreased for the current-year quarter and first nine months of fiscal 2016 primarily due to lower demand from both distributors and end-users in most markets. The markets that experienced the largest decline in end-user demand were the oil and gas, construction equipment and farm and agriculture equipment markets. Excluding the effects of acquisitions and changes in currency exchange rates, Diversified Industrial International sales for the current-year quarter and first nine months of fiscal 2016 decreased primarily due to lower volume in all regions. During the current-year quarter, approximately 60 percent of the decrease occurred in Europe and approximately 30 percent occurred in the Asia Pacific region. During the first nine months of fiscal 2016, approximately half of the decrease occurred in Europe and approximately one-third of the decrease occurred in the Asia Pacific region. Within these regions, the largest decrease in sales during the current-year quarter and first nine months of fiscal 2016 was experienced from both distributors and end-users in the oil and gas, marine and construction equipment markets.
The decrease in operating margin in the Diversified Industrial North American businesses for the current-year quarter and first nine months of fiscal 2016 was primarily due to the lower sales volume and higher business realignment charges, partially offset by lower operating expenses primarily resulting from the Company's Simplification initiative. The decrease in operating margin in the Diversified Industrial International businesses for the current-year quarter and first nine months of fiscal 2016 was primarily due to the lower sales volume and an unfavorable product mix, partially offset by lower operating expenses primarily resulting from the Company's Simplification initiative and prior-year restructuring activities.

The following business realignment expenses are included in Diversified Industrial North America and Diversified Industrial International operating income:
 
 
Three Months Ended
March 31,
 
Nine Months Ended
March 31,
(dollars in millions)
 
2016
 
2015
 
2016
 
2015
Diversified Industrial North America
 
$
8.5

 
$
0.7

 
$
25.5

 
$
1.0

Diversified Industrial International
 
15.9

 
6.5

 
41.9

 
21.1



- 21 -



The business realignment charges primarily consist of severance costs related to actions taken under the Company's Simplification initiative implemented by operating units throughout the world as well as plant closures. The majority of the Diversified Industrial International business realignment charges were incurred in Europe. In addition to the business realignment charges presented in the table above, the Company recognized $11.6 million of expense associated with enhanced retirement benefits in connection with a plant closure during the nine months ended March 31, 2016. The Company anticipates that cost savings realized from the work force reduction measures taken during the first nine months of fiscal 2016 will increase fiscal 2016 and fiscal 2017 annual operating income by approximately four percent and eight percent, respectively, in both the Diversified Industrial North American and Diversified Industrial International businesses. The Company expects to continue to take the actions necessary to structure appropriately the operations of the Diversified Industrial Segment. Such actions are expected to result in approximately $35 million of additional business realignment charges in the remainder of fiscal 2016.
Diversified Industrial Segment backlog decreased from the prior-year quarter and from the June 30, 2015 amount of $1,585.8 million as shipments exceeded orders in both the North American and International businesses. Backlog in Europe represented approximately 50 percent and 80 percent of the decline in the International businesses from the prior-year quarter and from June 30, 2015, respectively. Backlog consists of written firm orders from a customer to deliver products and, in the case of blanket purchase orders, only includes the portion of the order for which a schedule or release date has been agreed to with the customer. The dollar value of backlog is equal to the amount that is expected to be billed to the customer and reported as a sale. The Company anticipates Diversified Industrial North American sales for fiscal 2016 will decrease between 14.5 percent and 12.5 percent and Diversified Industrial International sales for fiscal 2016 will decrease between 14.2 percent and 12.2 percent from their fiscal 2015 levels. Diversified Industrial North American operating margins in fiscal 2016 are expected to range from 15.7 percent to 15.9 percent and Diversified Industrial International operating margins in fiscal 2016 are expected to range from 10.7 percent to 10.8 percent.
Aerospace Systems Segment 
 
 
Three Months Ended
March 31,
 
Nine Months Ended
March 31,
(dollars in millions)
 
2016
 
2015
 
2016
 
2015
Net sales
 
$
561.0

 
$
572.4

 
$
1,657.9

 
$
1,665.4

Operating income
 
$
84.2

 
$
73.3

 
$
240.0

 
$
205.5

Operating margin
 
15.0
%
 
12.8
%
 
14.5
%
 
12.3
%
Backlog
 
$
1,794.9

 
$
1,848.3

 
$
1,794.9

 
$
1,848.3

The decrease in net sales in the Aerospace Systems Segment for the current-year quarter and first nine months of fiscal 2016 was due to lower volume in the commercial and military original equipment manufacturer (OEM) businesses and military aftermarket business, partially offset by higher volume in the commercial aftermarket business. The higher margins in both the current-year quarter and first nine months of fiscal 2016 were primarily due to a favorable product mix, favorable contract settlements and lower engineering and development expenses.
The decrease in backlog from the prior-year quarter is due to shipments exceeding orders in the commercial OEM business, partially offset by orders exceeding shipments in the military OEM business and commercial and military aftermarket businesses. The increase in backlog from the June 30, 2015 amount of $1,755.8 million was primarily due to orders exceeding shipments in the military OEM business and commercial and military aftermarket businesses, partially offset by shipments exceeding orders in the commercial OEM business. Backlog consists of written firm orders from a customer to deliver products and, in the case of blanket purchase orders, only includes the portion of the order for which a schedule or release date has been agreed to with the customer. The dollar value of backlog is equal to the amount that is expected to be billed to the customer and reported as a sale. For fiscal 2016, sales are expected to range from a decrease of 0.4 percent to an increase of 1.2 percent from the fiscal 2015 level and operating margins are expected to range from 14.7 percent to 14.9 percent. A higher concentration of commercial OEM volume in future product mix and higher than expected new product development costs could result in lower margins.





- 22 -



Corporate general and administrative expenses
Corporate general and administrative expenses were $42.3 million in the current-year quarter compared to $45.5 million in the comparable prior-year quarter and were $126.6 million for the first nine months of fiscal 2016 compared to $152.3 million for the first nine months of fiscal 2015. As a percent of sales, corporate general and administrative expenses increased to 1.5 percent in the current-year quarter from 1.4 percent in the prior-year quarter and decreased to 1.5 percent in the first nine months of fiscal 2016 from 1.6 percent in the first nine months of fiscal 2015. The lower expense in the current-year quarter and first nine months of fiscal 2016 is primarily due to lower incentive compensation expense and lower research and development expenses, partially offset by higher net expenses associated with the Company's deferred compensation programs.

Other expense (in the Results By Business Segment) included the following:
 
(dollars in millions)
 
Three Months Ended
March 31,
 
Nine Months Ended
March 31,
Expense (income)
 
2016
 
2015
 
2016
 
2015
Foreign currency transaction
 
$
17.5

 
$
(56.4
)
 
$
25.7

 
$
(79.6
)
Stock-based compensation
 
8.5

 
9.2

 
41.2

 
48.6

Pensions
 
26.8

 
23.5

 
83.9

 
73.0

Divestitures and asset sales and writedowns
 
(9.6
)
 
0.9

 
(11.4
)
 
1.3

Other items, net
 
(0.7
)
 
2.3

 
(10.0
)
 
(9.6
)
 
 
$
42.5

 
$
(20.5
)
 
$
129.4

 
$
33.7

Foreign currency transaction primarily relates to the impact of changes in foreign exchange rates on cash, marketable securities and other investments and intercompany transactions. A significant portion of the foreign currency transaction gain for the prior-year quarter and first nine months of fiscal 2015 related to intercompany loans and was attributable to the Swiss National Bank lifting the cap on the fluctuation of the exchange rate used to measure the Swiss Franc against the Euro. The Company has since settled these particular intercompany loans.


CONSOLIDATED BALANCE SHEET
 
(dollars in millions)
 
March 31,
2016
 
June 30,
2015
Cash
 
$
2,104.6

 
$
1,914.1

Trade accounts receivable, net
 
1,587.8

 
1,620.2

Inventories
 
1,248.2

 
1,300.5

Notes payable and long-term debt payable within one year
 
576.6

 
233.1

Shareholders’ equity
 
5,023.6

 
5,104.3

Working capital
 
$
2,956.2

 
$
3,233.0

Current ratio
 
2.18

 
2.38

Cash (comprised of cash and cash equivalents and marketable securities and other investments) includes $2,079 million and $1,777 million held by the Company's foreign subsidiaries at March 31, 2016 and June 30, 2015, respectively. Generally, cash and cash equivalents and marketable securities and other investments held by foreign subsidiaries are not readily available for use in the United States without adverse tax consequences. The Company's principal sources of liquidity are its cash flows provided by operating activities, commercial paper borrowings or borrowings directly from its line of credit. The Company does not believe the amount of cash held outside the U.S. will have an adverse effect on working capital needs, planned growth, repayment of maturing debt, benefit plan funding, dividend payments or share repurchases.




- 23 -



Trade accounts receivable, net are receivables due from customers for sales of product. Days sales outstanding relating to trade accounts receivable was 51 days at March 31, 2016 and 48 days at June 30, 2015. The Company believes that its receivables are collectible and appropriate allowances for doubtful accounts have been recorded.
Inventories as of March 31, 2016 decreased $52 million (which includes a decrease of $9 million from the effect of foreign currency translation and an increase of $7 million from current-year acquisitions) compared to June 30, 2015. The decrease in inventories was primarily in the Diversified Industrial Segment, with the decrease occurring evenly between the Diversified Industrial North American businesses and the Diversified Industrial International businesses. Days' supply of inventory was 69 days at March 31, 2016, 65 days at June 30, 2015 and 68 days at March 31, 2015.
Notes payable and long-term debt payable within one year as of March 31, 2016 increased from the June 30, 2015 amount due primarily to higher commercial paper notes outstanding and reclassification of the Company's Japanese credit facility as current due to its repayment being within one year, partially offset by the repayment of the Company's Euro bonds. The Company from time to time will utilize short-term intercompany loans to repay commercial paper borrowings. At times, the short-term intercompany loans are outstanding at the end of a fiscal quarter.
Shareholders’ equity activity during the first nine months of fiscal 2016 included a decrease of approximately $450 million as a result of share repurchases and a decrease of approximately $74 million related to foreign currency translation adjustments.


CONSOLIDATED STATEMENT OF CASH FLOWS
 
 
 
Nine Months Ended
March 31,
(dollars in millions)
 
2016
 
2015
Cash provided by (used in):
 
 
 
 
Operating activities
 
$
681.5

 
$
791.1

Investing activities
 
(394.5
)
 
(797.4
)
Financing activities
 
(392.6
)
 
(461.9
)
Effect of exchange rates
 
(40.0
)
 
(128.2
)
Net (decrease) in cash and cash equivalents
 
$
(145.6
)
 
$
(596.4
)
Cash flows provided by operating activities for the first nine months of fiscal 2016 was lower than the prior-year first nine months primarily due to a decrease in net income and a $200 million voluntary cash contribution made in fiscal 2016 to the Company's domestic qualified defined benefit pension plan. Cash flows provided by operating activities in the first nine months of fiscal 2016 benefited from a decrease in cash used by working capital items as compared to the first nine months of fiscal 2015. The Company continues to focus on managing its inventory and other working capital requirements.
Cash flows used in investing activities was lower in the first nine months of fiscal 2016 due primarily to a decrease in capital expenditures and marketable securities and other investments activity, partially offset by an increase in acquisition activity.
Cash flows used in financing activities for the first nine months of fiscal 2016 includes $474 million of net commercial paper borrowings versus $365 million of net commercial paper repayments in first nine months of fiscal 2015. Cash flows used in financing activities for the first nine months of fiscal 2016 included the repayment of long-term debt of $219 million and for the first nine months of fiscal 2015 included the issuance of $1,500 million of medium-term notes. Cash flows used in financing activities included repurchase activity under the Company's share repurchase program. The Company repurchased 4.2 million common shares for $450 million in the first nine months of fiscal 2016 as compared to the repurchase of 10.7 million common shares for $1,344 million in the first nine months of fiscal 2015.






- 24 -



The Company’s goal is to maintain no less than an “A” rating on senior debt to ensure availability and reasonable cost of external funds. As a means of achieving this objective, the Company has established a financial goal of maintaining a ratio of debt to debt-shareholders’ equity of no more than 37 percent. From time to time, such as at March 31, 2016, fluctuations in cash flows from operations or capital deployment actions may cause the ratio of debt to debt-shareholders' equity to exceed the 37 percent goal. The Company does not believe that its ability to borrow funds at affordable interest rates will be impacted if the debt to debt-shareholders' ratio temporarily exceeds the 37 percent goal.
(dollars in millions)
Debt to Debt-Shareholders’ Equity Ratio
 
March 31,
2016
 
June 30,
2015
Debt
 
$
3,252

 
$
2,947

Debt & Shareholders’ equity
 
$
8,275

 
$
8,051

Ratio
 
39.3
%
 
36.6
%
At March 31, 2016, the Company had a line of credit totaling $2,000 million through a multi-currency revolving credit agreement with a group of banks, $1,526 million of which was available. The credit agreement expires in October 2017; however, the Company has the right to request a one-year extension of the expiration date on an annual basis, which request may result in changes to the current terms and conditions of the credit agreement. Advances from the credit agreement can be used for general corporate purposes, including acquisitions, and for the refinancing of existing indebtedness. The credit agreement requires the payment of an annual facility fee, the amount of which may increase in the event the Company’s credit ratings are lowered. Although a lowering of the Company’s credit ratings would likely increase the cost of future debt, it would not limit the Company’s ability to use the credit agreement nor would it accelerate the repayment of any outstanding borrowings.
As of March 31, 2016, the Company was authorized to sell up to $1,850 million of short-term commercial paper notes. As of March 31, 2016, $474 million commercial paper notes were outstanding and the largest amount of commercial paper notes outstanding during the third quarter of fiscal 2016 was $600 million.
The Company’s credit agreements and indentures governing certain debt securities contain various covenants, the violation of which would limit or preclude the use of the credit agreements for future borrowings, or might accelerate the maturity of the related outstanding borrowings covered by the indentures. Based on the Company’s rating level at March 31, 2016, the most restrictive financial covenant provides that the ratio of secured debt to net tangible assets be less than 10 percent. However, the Company currently does not have secured debt in its debt portfolio. The Company is in compliance with all covenants and expects to remain in compliance during the term of the credit agreements and indentures.













- 25 -



FORWARD-LOOKING STATEMENTS
Forward-looking statements contained in this and other written and oral reports are made based on known events and circumstances at the time of release, and as such, are subject in the future to unforeseen uncertainties and risks. All statements regarding future performance, earnings projections, events or developments are forward-looking statements. It is possible that the future performance and earnings projections of the Company, including its individual segments, may differ materially from current expectations, depending on economic conditions within its mobile, industrial and aerospace markets, and the Company’s ability to maintain and achieve anticipated benefits associated with announced realignment activities, strategic initiatives to improve operating margins, actions taken to combat the effects of the current economic environment, and growth, innovation and global diversification initiatives. A change in the economic conditions in individual markets may have a particularly volatile effect on segment performance.
Among other factors which may affect future performance are:
changes in business relationships with and purchases by or from major customers, suppliers or distributors, including delays or cancellations in shipments, disputes regarding contract terms or significant changes in financial condition, changes in contract cost and revenue estimates for new development programs, and changes in product mix;
ability to identify acceptable strategic acquisition targets;
uncertainties surrounding timing, successful completion or integration of acquisitions and similar transactions;
the ability to successfully divest businesses planned for divestiture and realize the anticipated benefits of such divestitures;
the determination to undertake business realignment activities and the expected costs thereof and, if undertaken, the ability to complete such activities and realize the anticipated cost savings from such activities;
ability to implement successfully the Company's capital allocation initiatives, including timing, price and execution of share repurchases;
increases in raw material costs that cannot be recovered in product pricing;
the Company’s ability to manage costs related to insurance and employee retirement and health care benefits;
threats associated with and efforts to combat terrorism and cyber-security risks;
uncertainties surrounding the ultimate resolution of outstanding legal proceedings, including the outcome of any appeals;
competitive market conditions and resulting effects on sales and pricing; and
global economic factors, including manufacturing activity, air travel trends, currency exchange rates, difficulties entering new markets and general economic conditions such as inflation, deflation, interest rates and credit availability.
The Company makes these statements as of the date of this disclosure, and undertakes no obligation to update them unless otherwise required by law.


- 26 -



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company manages foreign currency transaction and translation risk by utilizing derivative and non-derivative financial instruments, including forward exchange contracts, costless collar contracts, cross-currency swap contracts and certain foreign denominated debt designated as net investment hedges. The derivative financial instrument contracts are with major investment grade financial institutions and the Company does not anticipate any material non-performance by any of the counterparties. The Company does not hold or issue derivative financial instruments for trading purposes.
Derivative financial instruments are recognized on the Consolidated Balance Sheet as either assets or liabilities and are measured at fair value. Further information on the fair value of these contracts is provided in Note 13 to the Consolidated Financial Statements. Gains or losses on derivatives that are not hedges are adjusted to fair value through the Consolidated Statement of Income. Gains or losses on derivatives that are hedges are adjusted to fair value through accumulated other comprehensive (loss) in the Consolidated Balance Sheet until the hedged item is recognized in earnings. The translation of the foreign denominated debt that has been designated as a net investment hedge is recorded in accumulated other comprehensive (loss) and remains there until the underlying net investment is sold or substantially liquidated.
The Company’s debt portfolio contains variable rate debt, inherently exposing the Company to interest rate risk. The Company’s objective is to maintain a 60/40 mix between fixed rate and variable rate debt thereby limiting its exposure to changes in near-term interest rates.

ITEM 4. CONTROLS AND PROCEDURES