QuickLinks-- Click here to rapidly navigate through this documentUNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549FORM 10-K
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended 12/31/00 or |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
ý | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2003 | |
or | |
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission file number 0-14787
1-11499
WATTS INDUSTRIES,WATER TECHNOLOGIES, INC.
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(Exact
(Exact name of registrant as specified in its charter)
Delaware 04-2916536
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(State of incorporation) (I.R.S. Employer Identification No.)
815 Chestnut Street, North Andover, MA 01845
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (978) 688-1811
Securities registered pursuant to Section 12(b) of the Act:
Class A Common Stock, par value $.10 per share
Name of exchange on which registered: New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
| Delaware (State of incorporation) | 04-2916536 (I.R.S. Employer Identification No.) | |
815 Chestnut Street, North Andover, MA (Address of principal executive offices) | 01845 (Zip Code) | |
Registrant's telephone number, including area code:(978) 688-1811 | ||
Securities registered pursuant to Section 12(b) of the Act: Class A Common Stock, par value $.10 per share Name of exchange on which registered: New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act:None | ||
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X|ý No |_|o
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. |_|ý
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes ý Noo
Aggregate market value of the voting common stock of the Registrant held by non-affiliates of the Registrant on June 30, 2003 was $294,099,291.$342,879,115.
As of February 15, 2001, 17,376,81029, 2004, 24,709,427 shares of Class A Common Stock, $.10 par value, 9,085,2247,471,700 shares of Class B Common Stock, $.10 par value, of the Registrant were outstanding.
Documents Incorporated by Reference
Portions of the Registrant's Proxy Statement for its Annual Meeting of Stockholders to be held on April 25, 2001,May 5, 2004, are incorporated by reference into Part III of this Report.
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Item 1. BUSINESS.
General
Watts Industries, Inc., (the "Company") designs, manufactures
This annual report on Form 10-K contains statements which are not historical facts and sells an
extensive lineare considered forward-looking within the meaning of valvesthe Private Securities Litigation Reform Act of 1995. These forward-looking statements contain projections of our future results of operations, our financial position or state other forward-looking information. In some cases you can identify these statements by forward-looking words such as "anticipate," "believe," "could," "estimate," "expect," "intend," "may," "should," "will" and "would" or similar words. You should not rely on forward-looking statements, because they involve known and unknown risks, uncertainties and other products forfactors, some of which are beyond our control. These risks, uncertainties and other factors may cause our actual results, performance or achievements to differ materially from the water quality, water safety,
water flow control and water conservation markets. The Company is a leading
manufacturer and supplier of these products in both North America and Europe.
The Company's growth strategy emphasizes expanding brand preference with
customers, focusing on code development and enforcement, internal development of
new valve products and entry into new markets for specialized valves and related
products through diversification of its existing business, strategic
acquisitions in related business areas, both domestically and abroad, and
continued development of products and services foranticipated future results, performance or achievements expressed or implied by the home improvement, do it
yourself (DIY) retail market. Watts has focused on the valve industry since its
inception in 1874, when it was founded to design and produce steam regulators
for New England textile mills and power plants. The Company was incorporated in
Delaware in 1985.
The business description that follows describes the general developmentforward-looking statements. Some of the Company's water markets, which it has addressed primarily through the
plumbing and heating and water quality products business for fiscal 2000. The
Company's former industrial, oil and gas businesses were spun-off from the
Company on October 18, 1999 andfactors that might cause these differences are described as appropriate, as discontinued
operations. Seeunder Item 7. "Management's7—"Management's Discussion and Analysis of Financial Condition and Results of Operations"Operations—Certain Factors Affecting Future Results." You should carefully review all of these factors, and you should be aware that there may be other factors that could cause these differences. These forward-looking statements were based on information, plans and estimates at the date of this report, and we undertake no obligation to update any forward-looking statements to reflect changes in underlying assumptions or factors, new information, future events or other changes.
In this annual report on Form 10-K, references to "the Company," "we" or "us" refer to Watts Water Technologies, Inc. and its consolidated subsidiaries.
Overview
Watts Water Technologies, Inc. was founded by Joseph E. Watts in 1874 in Lawrence, Massachusetts, as Watts Regulator Co. The Company started as a small machine shop supplying parts to the New England textile mills of the 19th century and has grown into a global manufacturer of safety and flow control products for further information on these
discontinued operations.
The Company'sthe residential and commercial plumbing, and heating and water quality markets. The Company was incorporated in Delaware in 1985 under the name Watts Industries, Inc. The Company's name was changed to Watts Water Technologies, Inc. in October 2003.
Our "Water by Watts" strategy is to be the leading provider of water quality, water conservation, water safety and water flow control products for the residential and commercial markets in North America and Europe. Our primary objective is to grow earnings by increasing sales within existing markets, expanding into new markets, making selected acquisitions and reducing manufacturing costs. We intend to continue to introduce products in existing markets by enhancing our preferred brands, developing new complementary products, promoting plumbing code development to drive sales of safety and water quality products and continuously improving merchandising in both the do-it-yourself (DIY) and wholesale distribution channels. We also target selected new markets based on growth potential and intend to continue to introduce new products appropriate for these new markets. We intend to continue to generate additional growth through selected acquisitions, both in our core markets as well as in new complementary markets. Lastly, we are committed to reducing our manufacturing costs through a combination of expanding manufacturing in lower-cost countries and consolidating our diverse manufacturing operations in North America and Europe.
Our products are sold to wholesale distributors, major DIY chains and original equipment manufacturers (OEMs). Most of our sales are for products that have been approved under regulatory standards incorporated into state and municipal plumbing, heating, building and fire protection codes in North America and Europe. We consistently advocate the development and enforcement of plumbing codes and are committed to providing products to meet these standards, particularly for safety and control valve products. We maintain quality control and testing procedures at each of our manufacturing facilities in order to manufacture products in compliance with code requirements.
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Additionally, a majority of our manufacturing facilities are ISO 9000, 9001 or 9002 certified by the International Organization for Standardization.
Our business is reported in three geographic segments: North America, Europe and China. The contributions of each segment to net sales, operating income and the presentation of certain other financial information by segment are reported in Note 17 of the Notes to Consolidated Financial Statements and in the Management's Discussion and Analysis included elsewhere in this report.
Recent Developments
On February 20, 2004, we entered into an agreement with Yuhuan County Cheng Guan Metal Hose Factory to acquire its 40% equity interest in our Taizhou Shida Plumbing Manufacturing Co., Ltd. (Shida) joint venture for an expected purchase price of $3.0 million, the assumption of approximately $6.0 million of debt and the payment of $3.5 million in connection with a three-year non-compete agreement. After the transaction, we will own 100% of Shida. The closing of the transaction is subject to the satisfaction of certain closing conditions and is expected to occur during the second quarter of 2004.
On January 5, 2004, we acquired substantially all of the assets of Flowmatic Systems, Inc. located in Dunnellon, Florida, for approximately $16.5 million in cash. Flowmatic designs and distributes a complete line of high quality reverse osmosis components and filtration equipment. Flowmatic's product line includes stainless steel and plastic housings, filter cartridges, storage tanks, control valves, as well as complete reverse osmosis systems for residential and commercial applications.
On December 15, 2003, we completed a public offering of 4.6 million shares of our Class A Common Stock resulting in net proceeds of approximately $82.5 million in cash.
In October 2003, we changed our name from Watts Industries, Inc. to Watts Water Technologies, Inc. to more accurately reflect our strategic focus on providing solutions to our customers' water based needs.
On July 30, 2003, we acquired Giuliani Anello S.r.l. located in Cento Bologna, Italy, for approximately $10.6 million in cash net of acquired cash of $1.4 million. Giuliani Anello manufactures and distributes valves and filters utilized in heating applications including strainer filters, solenoid valves, flow stop valves, stainless steel water filter elements and steam cleaning filters.
On May 15, 2003 we refinanced our $75.0 million 83/8% notes due December 1, 2003 through a private placement of $50.0 million 4.87% senior notes due May 15, 2010 and $75.0 million 5.47% senior notes due May 15, 2013.
On April 18, 2003, we acquired Martin Orgee U.K. Ltd. located in Kidderminster, West Midlands, United Kingdom for approximately $1.6 million in cash. Martin Orgee distributes a line of plumbing and heating products to the wholesale, commercial and OEM markets in the United Kingdom and Southern Ireland. Martin Orgee also assembles pumping systems for under-floor radiant heat applications.
Over the last 25 months, we have consolidated several of our manufacturing plants in North America and Europe and expanded our manufacturing capacity in lower cost countries such as China, Tunisia and Bulgaria. These manufacturing plant relocations and consolidations are an important part of our ongoing commitment to reduce production costs. We anticipate recording a pre-tax charge of approximately $6.0 million for additional manufacturing restructuring costs during 2004. These charges will be attributable to accelerated depreciation associated with the expected closure of one of our U.S. manufacturing plants and a reduction in estimated useful lives of manufacturing equipment due to the transfer of production to lower cost countries.
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Products
We believe that we have the broadest product lines include
temperaturein terms of design distinction, size and pressure safety relief valves; water pressure regulators;
configuration within a majority of the product lines we manufacture and market. Our principal product lines include:
Customers and high
purity process installations; water heater seismic-restraint straps, and water
heater stands and enclosures; and hydronic and electric radiantMarkets
We sell our products to plumbing, heating and snow
melting systems.
Within a majoritymechanical wholesale distributors, major DIY chains and OEMs.
Wholesalers. Approximately 62% of the product lines the Company manufacturesour 2003 sales were to wholesale distributors for both commercial and markets, the Company believes that it has one of the broadest product lines in
terms of the distinct designs, sizes and configurations of its valves. Products
representing a majority of the Company's sales have been approved under
regulatory standards incorporated into state and municipal plumbing and heating,
building and fire protection codes, and similar approvals have been obtained
from various agencies in the European market. The Company has consistently
advocated the development and enforcement of performance and safety standards,
and is committed to providing products to meet these standards, particularly for
safety and control valve products. The Company maintains quality control and
testing procedures at each of its manufacturing facilities in order to produce
products in compliance with code requirements. Additionally, a majority of the
Company's manufacturing subsidiaries have either acquired or are working to
acquire ISO 9000, 9001 or 9002 certification from the International Organization
for Standardization (ISO).
On May 12, 2000 a wholly owned subsidiary of the Company acquired
McCraney, Inc. doing business as Spacemaker, located in Santa Ana, California.
Spacemaker's flagship product is a line of patented seismic water heater
restraint straps marketed under the Bear-Claw(R) brand. Spacemaker also
manufactures easy-to-assemble and install steel water heater stands and water
heater enclosures for outdoorresidential applications. Spacemaker had twelve (12) months
sales prior to the acquisition of approximately $5 million. On August 30, 2000,
a wholly owned subsidiary of the Company acquired certain assets of Chiles Power
Supply, formerly doing business as Heatway, and its sister company Bask LLC,
both located in Springfield, Missouri. The Company now operates these assets in
a new company, Watts Heatway, Inc. Watts Heatway's key product lines are
hydronic radiant heating and snow melting systems and electric radiant floor
warming systems. Heatway's annualized sales prior to the acquisition were
approximately $11 million.
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On January 5, 2001, the Company acquired Dumser Metallbau GmbH & Co. KG
located in Landau, Germany. The main products of Dumser are brass, steel, and
stainless steel manifolds used as the prime distribution device in hydronic
heating systems, for which it has gained the reputation as a market leader in
the European hydronic heating industry. A second range of products produced by
Dumser are "Boiler Sets" which comprise a wall-mounted cabinet to be installed
in the vicinity of the boiler, containing the factory assembled set of the
circulation pump, as well as the pressure, temperature and flow controls. This
"Boiler Set" is designed to save the installer time in the installation of a
hydronic heating circuit and changes a time-consuming and sometimes complex
series of tasks into one simple task. Dumser had approximately $24 million
(U.S.) total sales for the twelve months ended December, 2000. Dumser has a 51%
controlling share of Stern Rubinetti, a $4 million Italian manufacturing company
producing brass components located in Brescia, Italy.
The Company relies primarilyWe rely on commissioned representative organizations,manufacturers' representatives, some of whomwhich maintain a consigned inventory of the Company'sour products, to market itsour product lines. These organizations, which
DIY. Approximately 20% of our 2003 sales were to DIY customers, primarily in North America. Our DIY customers demand less technical products, but are highly receptive to innovative designs and new product ideas. Our DIY sales over the past several years have increased as a result of our development of unique new products and successful merchandising efforts and the expansion of the market with the large national chains.
OEMs. Approximately 18% of our 2003 sales were to OEMs in both North America and Europe. In North America, our typical OEM customers are water heater manufacturers, equipment manufacturers needing flow control devices and water systems manufacturers needing backflow preventers. Our sales to OEMs in Europe are primarily to boiler manufacturers and radiant systems manufacturers.
Our largest customer, The Home Depot, Inc., accounted for approximately 74%$74.8 million, or 10.6%, of the Company'sour total net sales in fiscal 2000,2003. Our top ten customers accounted for approximately $176.3 million, or 25.0%, of our total net sales in 2003. Thousands of other customers comprised the remaining 75.0% of our net sales in 2003.
Marketing and Sales
We rely primarily on commissioned manufacturers' representatives, some of which maintain a consigned inventory of our products. These representatives sell primarily to plumbing and heating wholesalers andor service DIY Market accounts. The Companystore locations in North America. We also sellssell products for the residential construction and home repair and remodeling industries through do-it-yourselfDIY plumbing retailers, national catalog distribution companies, hardware stores, building material outlets and retail home center chains ("DIY
Markets") and through the Company'sour existing plumbing and heating wholesalers. In addition, the Company sellswe sell products directly to certain large original
equipment manufacturers (OEM's)OEMs and private label accounts, and maintains direct
and indirect sales channels for water valves, relief valves, shut-off valves,
check valves, butterfly valves, ball valves and flow meters to the heating,
irrigation, and fire protection industries. The Company believes that sales to
the residential construction market may be subject to cyclical variations to a
greater extent than its other targeted markets. However, because the Company
sells into different geographic areas, to large and diverse customers, and has a
large replacement market, the potential adverse effects from cyclical variations
tend to be mitigated. No assurance can be given that the Company will be
protected from a broad downturn in the economy. There was no single customer
which accounted for more than 10% of the Company's net sales in the fiscal 2000.
The Company has a fullyaccounts.
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Manufacturing
We have integrated and highly automated manufacturing capabilitycapabilities, including bronze and iron foundry operations,foundries, machining, operations, plastic injection molding and assembly. The Company'sassembly operations. Our foundry operations include metal pouring systems, automatic core making, yellow brass forging and brass and bronze die casting. The Company'scastings. Our machining operations feature computer-controlled machine tools, high-speed chucking machines with robotics and automatic screw machines for machining bronze, brass and steel components. The Company hasWe have invested heavily in recent years to expand itsour manufacturing base and to ensure the availability of the most efficient and productive equipment. The Company isWe are committed to maintaining itsour manufacturing equipment at a level consistent with current technology in order to maintain high levels of quality and manufacturing efficiencies. As part of this commitment, the Company has spent a total of
$69,119,000 on capital expenditures over the last three and one half years. The
Company has budgeted $18,100,000 for fiscal 2001 primarily for manufacturing
machinery and equipment. See "Properties" below. Except for Heatway and
Spacemaker, the Company has substantially completed its implementation of
We continue to implement an integrated enterprise-wide software system in its U.S. and Canadianour North American locations with a focus on inventory management,management; production scheduling and electronic data interchange. This system has enabled the Companyus to provide better service to our customers, improve working capital management, lower transaction costs and improve e-commerce capabilities.
Capital expenditures were $14,238,000,
$10,293,000, $21,532,000 and $23,056,000 for fiscal 2000, 1999.5, 1999 and 1998,
respectively. Depreciationdepreciation and amortization for suchthe following periods were $20,071,000,
$9,225,000, $17,456,000as follows:
| Period | Capital Expenditures | Depreciation and Amortization | ||||
|---|---|---|---|---|---|---|
| Year ended December 31, 2003 | $ | 20.0 million | $ | 21.3 million | ||
| Year ended December 31, 2002 | $ | 19.6 million | $ | 22.3 million | ||
| Year ended December 31, 2001 | $ | 16.0 million | $ | 23.7 million | ||
Our capital expenditure budget for 2004 is approximately $18.5 million, primarily for manufacturing machinery and $15,341,000 respectively.
Threeequipment.
Raw Materials
The five significant raw materials used in the Company'sour production processes are bronze ingot, brass rod, cast iron, steel and cast iron. While the Companyplastic. We historically hashave not experienced significant difficulties in obtaining these commodities in quantities sufficient for its operations, thereour operations. There have been significant changes in their prices. The Company'sthe costs of certain of these materials, including recent increases in the costs of bronze, brass, cast iron and steel. Our gross profit margins are adversely affected to the extent that the selling prices of itsour products do not increase proportionately with increases in the costs of bronze ingot, brass rod, and cast iron.these raw materials. Any significant unanticipated increase or decrease in the pricescosts of these commodities could materially affect the Company'sour results of operations. The
Company managesWe manage this risk by monitoring related market prices, working with itsour suppliers to achieve the maximum level of stability in their costs and related pricing, seeking alternative supply sources when necessary and passing increases in commodity costs to itsour customers, to the maximum extent possible, when they occur. Additionally,In addition, on a limited basis, the Company useswe use commodity futures contracts to manage this risk. No assurances can be given that such factors will
protect the Company from future changes in the prices for such raw materials.We did not purchase any commodity futures contracts during 2003. See Item 7A. "Quantitative"Management's Discussion and Analysis of Financial Condition and Results of Operations—Quantitative and Qualitative Disclosures About Market Risk." 3
Code Compliance
Products representing a majority of our sales are subject to regulatory standards and code enforcement which typically requires that these products meet stringent performance criteria. Standards are established by such industry test and certification organizations as the American Society of Mechanical Engineers (A.S.M.E.), the Canadian Standards Association (C.S.A.), the American Society
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of Sanitary Engineers (A.S.S.E.), the University of Southern California Foundation for Cross-Connection Control (USC FCC&HR), the International Association of Plumbing and Mechanical Officials (I.A.P.M.O.), Factory Mutual (F.M.), the National Sanitation Foundation (N.S.F.) and Underwriters Laboratory (U.L.). These standards are incorporated into state and municipal plumbing and heating, building and fire protection codes.
National regulatory standards in Europe vary by country. The major standards and/or guidelines which our products must meet are AFNOR (France), DVGW (Germany), UNI/ICIN (Italy), KIWA (Netherlands), SVGW (Switzerland), SITAC (Sweden) and WRAS (United Kingdom). Through the Committee for European Normalization (CEN) European applications and product standards will be adopted in each country and implemented in each certification system.
Together with our commissioned manufacturers' representatives, we have consistently advocated the development and enforcement of plumbing codes. We maintain stringent quality control and testing procedures at each of our manufacturing facilities in order to manufacture products in compliance with code requirements. We believe that significant product testing capability and investment in plant and equipment is needed to manufacture products in compliance with code requirements, which creates a barrier to entry for competitors. Additionally, a majority of our manufacturing facilities are ISO 9000, 9001 or 9002 certified by the International Organization for Standardization.
Product Development and Engineering
We maintain our own product development and design teams in North America, Europe and China that continuously enhance our existing products and develop new products. We maintain sophisticated product development and testing laboratories. Our efforts in this area have been particularly successful in the DIY market, which values innovation in product design.
Competition
The domestic and international markets for valveswater safety and flow control devices are intensely competitive and includerequire us to compete against some companies possessing greater financial, marketing and other resources than the Company. Managementours. Our management considers product reputation,brand preference, engineering specifications, plumbing code requirements, price, effectiveness of distributiontechnological expertise, delivery times and breadth of product lineofferings to be the primary competitive factors. The Company believesWe believe that new product development and product engineering are also important to success in the valvewater industry and that the Company'sour position in the industry is attributable in significant part to itsour ability to develop new and innovative products quickly and to adapt and enhance existing products. During fiscal 2000, the Company continuedWe continue to develop new and innovative products to enhance market position and isare continuing to implement manufacturing and design programs to reduce costs. The CompanyWe cannot be certain that itsour efforts to develop new products will be successful or that itsour customers will accept itsour new products. The Company employs approximately 47
engineers and technicians, excluding engineers working at Tianjin Tanggu, Watts
Valve Company Limited ("Tanguu Watts") the Company's joint venture, located in
the Peoples Republic of China, who engage primarily in these activities.
Although the Company ownswe own certain patents and trademarks that it considerswe consider to be of importance, it doeswe do not believe that itsour business and competitiveness as a whole isare dependent on any one or moreof our patents or trademarks or on patent or trademark protection generally.
The Company's financial information by geographic business segment is
contained in Note 17 of Notes to Consolidated Financial Statements incorporated
herein by reference. From time to time, the Company's results of operations may
be adversely affected by fluctuations in foreign exchange rates.
Backlog
Backlog was $27,265,049$40.0 million at February 9, 200120, 2004 and $28,889,000$42.7 million at February 14, 2000. The
Company does2003. We do not believe that itsour backlog at any point in time is indicative of future operating results. The Company expects that available funds and funds
provided from the Company's operations are sufficient to meet anticipated
capital requirements. See Item 7. "Management's Discussion and Analysis of
Financial Condition and Results of Operations", below as it relates to the
impact of foreign exchange rates and capital requirements.
As previously announced, on October 18, 1999, the Company spun-off its
industrial, oil and gas businesses into a separate publicly traded company,
CIRCOR International, Inc. ("CIRCOR"). Under the terms of the spin-off
transaction, the Company distributed to shareholders a tax-free dividend of one
share of CIRCOR common stock for every two shares of Company common stock owned
as of the record date by that shareholder (the "Distribution"). The Company
continues to manufacture and distribute plumbing and heating and water quality
products through its three geographic business segments: North America, Europe,
and Asia.
Employees
As of December 31, 2000, the Company's2003, our domestic and foreign operations employed approximately 2,6683,700 people, plus 7321,400 employees at Tanggu Watts. There
are noin our joint ventures in China. None of our employees thatin North America are covered by collective bargaining agreements. The
Company believesOur European employees are subject to the traditional national collective bargaining agreements. We believe that itsour employee relations are good.
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Available Information
We maintain a website with the addresswww.wattswater.com. The information contained on our website is not included as a part of, or incorporated by reference into, this Annual Report on Form 10-K. Other than an investor's own internet access charges, we make available free of charge through our website our Annual Report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we have electronically filed such material with, or furnished such material to, the Securities and Exchange Commission.
Executive Officers Information with respect toand Directors
Set forth below are the names of our executive officers and directors, their respective ages and positions with our Company and a brief summary of their business experience for the Company is set forth
below:
past five years:
| Name | Age | Position | ||
|---|---|---|---|---|
| Patrick S. O'Keefe | 51 | Chief Executive Officer, | ||
William C. McCartney | 50 | Chief Financial Officer, Treasurer and Secretary | ||
Ernest E. Elliott | 52 | Executive Vice President | ||
Jeffrey A. Polofsky | 45 | Executive Vice President of Retail Sales and Marketing | ||
Lynn A. McVay | 36 | Executive Vice President of Wholesale Sales | ||
Paul A. Lacourciere | 48 | Corporate Vice President of | ||
J. Dennis Cawte | 53 | Group Managing Director Europe | ||
Lester J. Taufen | 60 | General Counsel and Vice President of Legal Affairs | ||
Douglas T. White | 59 | Group Vice President | ||
J. Timothy McCullough | 62 | Vice President of Human Resources | ||
Timothy P. Horne | 65 | Director | ||
Kenneth J. McAvoy(1)(2)(3) | 63 | Director | ||
Gordon W. Moran(1)(2)(3) | 65 | Non-Executive Chairman of the Board and | ||
Daniel J. Murphy, III(1)(2)(3) | 62 | Director | ||
Roger A. Young(1)(3) | 58 | Director | ||
John K. McGillicuddy(1)(3) | 60 | Director |
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Patrick S. O'Keefe joined theour Company in September 1959 and has been a
Director since 1962. Mr. HorneAugust 2002. Prior to joining our Company, he served as the Company's President, Chief Executive Officer and Director of Industrial Distribution Group, a supplier of maintenance, repair, operating and production products, from 19761999 to 1978,2001. He was Chief Executive Officer of Zep Manufacturing, a unit of National Service Industries and a manufacturer of specialty chemicals throughout North America, Europe and Australia, from 1997 to 1999. He has also held various senior management positions with Crane Co. from 1994 to April 1997 and again since October 1999. He has served as
Chief
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Executive Officer since 1978 and he became the Company's Chairman of the Board
in April 1986. He has served as a Director of CIRCOR since its inception, in
1999.
1997.
William C. McCartney joined theour Company in 1985 as Controller. He was appointed the Company'sour Vice President of Finance in 1994 and served as our Corporate Controller of the Company from April 1988 to December 1999. Mr.
McCartneyHe was appointed Chief Financial Officer, Treasurer and Secretary on January 1, 2000.
Michael O. Fifer
Ernest E. Elliott joined theour Company in May 19941986, serving in a variety of sales and marketing roles. He was appointed the
Company's Vice President of Corporate Development. He was appointed CorporateSales in 1991 and Executive Vice President of Wholesale Sales and Marketing in October 1999.1996. Prior to joining theour Company, Mr. Fiferhe was Associate DirectorVice President of Corporate Development with Dynatech Corp.,BTR Inc.'s Valve Group, a diversified high-tech manufacturer of industrial and commercial valve products.
Jeffrey A. Polofsky joined our Company in October 1998 as the Vice President and General Manager of Anderson Barrows Metals Company. He was named Executive Vice President of Retail Sales and Marketing in January 2000. Prior to joining our Company, he was employed at Desa International, a manufacturer of consumer hard goods, from 1988 to 1998.
Lynn A. McVay joined our Company as Executive Vice President of Wholesale Sales in March 2003. Prior to joining our Company, he was the Vice President of Sales and Marketing for Little Giant Pump Company, a water pump manufacturing company and a wholly-owned subsidiary of Tecumseh Products Company.
Paul A. Lacourciere joined our Company in 1986 as Vice President of New Hampshire operations in 1989. He also served our wholly-owned subsidiary Watts Regulator Co. as Vice President of Manufacturing from 1991 to April 1994.
Robert T. McLaurin1993; Executive Vice President from 1993-1995 and President from 1995-1997. In 1997 he was appointed Corporate Vice President of Asian
OperationsManufacturing of our Company.
J. Dennis Cawtejoined our Company in August 1994. He served as the Senior ViceOctober 2001 and was appointed Group Managing Director Europe. Prior to joining our Company, he was European President of ManufacturingPCC Valve and Controls, a division of Watts Regulator Co.Precision Castparts Corp., a manufacturer of components and castings to the aeronautical industry, from 19831999 to August 1994.2001. He joined Watts
Regulator Company as Vice Presidenthad also worked for Keystone Valve International, a manufacturer and distributor of Manufacturing in 1978.
industrial valves, for 20 years, his most recent position was the Director of Northern European Operations.
Lester J. Taufen joined theour Company in January 1999 as Associate Corporate Counsel. He was appointed General Counsel and Vice President of Legal Affairs, and Assistant Secretary in January 2000. Prior to joining theour Company, Mr.
Taufenhe was employed for 13 years at Elf Atochem North America, Inc.a chemical manufacturing company, serving as Senior Counsel.
Douglas T. White joined our Company in September 2001 as Group Vice President. Prior to joining our Company he was employed by Honeywell International, Inc., a diversified technology and manufacturing company, as Vice President of Marketing—Consumer Products Group.
J. Timothy McCullough joined our Company as Director of Human Resources in May 1998. He was appointed Vice President of Human Resources in November 2003.
Timothy P. Horne has been a Director since 1962. He was employed by our Company since September 1959 and served as our President from 1976 to 1978, from 1994 to April 1997 and from October 1999 to August 2002. He served as Chief Executive Officer from 1978 to August 2002, and he served as Chairman of our Board of Directors from April 1986 to August 2002. He retired from our Company on December 31, 2002.
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Kenneth J. McAvoy was Controller of our Company from 1981 to 1986 and Chief Financial Officer and Treasurer from 1986 to 1999. He also served the offices of Vice President of Finance from 1984 to 1994; Executive Vice President of European Operations from 1994 to 1996; and Secretary from 1985 to 1999. He retired from our Company on December 31, 1999.
Gordon W. Moran has been the Chairman of Hollingsworth & Vose Company, a paper manufacturer, since 1997, and served as its President and Chief Executive Officer from 1983 to 1998.
Daniel J. Murphy, III has been the Chairman of Northmark Bank, a commercial bank, since August 1987. Prior to forming Northmark Bank in 1987, he was a Managing Director of Knightsbridge Partners, a venture capital firm, from January to August 1987, and President and a Director of Arltru Bancorporation, a bank holding company, and its wholly-owned subsidiary, Arlington Trust Company from 1980 to 1986.
Roger A. Young served as Chairman of the Board of Directors of Bay State Gas Company, a wholly-owned subsidiary of NiSource, Inc., from 1996 to 2003 and served on its Board from 1975 to 2003. He was elected President and Chief Operating Officer of Bay State Gas Company in 1981 and Chief Executive Officer in 1990, serving in such positions until 1999. He has also been a Director of NiSource, Inc. since 1999.
John K. McGillicuddy was employed by KPMG LLP, a public accounting firm, from June 1965 until his retirement in June 2000. He was elected into the Partnership at KPMG LLP in June 1975 where he served as Audit Partner, SEC Reviewing Partner, Partner-in-Charge of Professional Practice, Partner-in-Charge of College Recruiting and Partner-in-Charge of Staff Scheduling. He is a Director of Brooks Automation, Inc.
Product Liability, Environmental and Other Litigation Matters
The Company is
We are subject to a variety of potential liabilities connected with itsour business operations, including potential liabilities and expenses associated with possible product defects or failures and compliance with environmental laws. The Company maintainsWe maintain product liability and other insurance coverage, which it believeswe believe to be generally in accordance with industry practices. Nonetheless, such insurance coverage may not be adequate to protect the Companyus fully against substantial damage claims, which may arise from product defects and failures.
Contingencies
James Jones Litigation
On
As previously disclosed, on June 25, 1997, Nora Armenta (the Relator) sued James Jones Company, Watts Industries,
Inc.,Water Technologies, Inc, which formerly owned James Jones, Mueller Co., and Tyco International (U.S.) Inc. in the California Superior Court for Los Angeles County with a
complaint that sought tens of millions of dollars in damages.County. By this complaint and an amended complaint filed on November 4, 1998 ("First(First Amended Complaint")Complaint), Armenta, a former employee of James Jones, sued on behalf of 34 municipalities as a qui tam plaintiff under the California False Claims Act.Act (the Armenta case). Late in 1998, the Los Angeles Department of Water and Power ("DWP")(LADWP) intervened. To date, less than
half a dozen of the original thirty-four municipalities have subsequently
intervened.
The First Amended Complaint alleges that the Company's former subsidiary
(James Jones Company) sold products that did not meet contractually specified
standards used by the named municipalities for their water systems and falsely
certified that such standards had been met. Armenta claims that these
municipalities were damaged by their purchase of these products, and seeks
treble damages, legal costs, attorneys' fees and civil penalties under the False
Claims Act.
The DWP's intervention filed on December 9, 1998 adopted the First Amended
Complaint and added claims for breach of contract, fraud and deceit, negligent
misrepresentation, and unjust enrichment. The DWP original sought past and
future reimbursement costs, punitive damages, contract difference in value
damages, treble damages, civil penalties under the False Claims Act and costs of
the suit.
One of the First Amended Complaint's allegations is the suggestion that
because some of the purchased James Jones products are out of specification and
contain more lead than the `85 bronze specified, a risk to public health might
exist. The allegation is predicated on the average difference of about 2% lead
content in `81 bronze (6% to 8% lead) and `85 bronze (4% to 6% lead) alloys and
the assumption that this would mean increased lead levels in public drinking
water. This contention is not supported by the evidence and discovery available
to date.
5
In addition, bronze that does not contain more than 8% lead, like '81
bronze, is approved for home plumbing systems by the City of Los Angeles, and
the Federal Environmental Protection Agency defines metal for pipe fittings with
no more than 8% lead as "lead free" under Section 1417 of the Federal Safe
Drinking Water Act. In December 2000, the court allowed the Relator to file a Second Amended Complaint, which added a number of new cities and water districts as plaintiffs and brought the total number of plaintiffs to 161. DuringOn June 3, 2002, the quarter endedCalifornia Superior Court excluded 47 cities from this total of 161. The Relator was not able to obtain appellate modification of this order. To date, 11 of the total number of plaintiffs have intervened.
The First Amended Complaint alleges that our former subsidiary (James Jones Company) sold products that did not meet contractually specified standards used by the named municipalities for their water systems and falsely certified that such standards had been met. The Relator claims that these
9
municipalities were damaged by their purchase of these products and seeks treble damages, legal costs, attorneys' fees and civil penalties under the False Claims Act.
The LADWP's intervention, filed on December 9, 1998, adopted the First Amended Complaint and added claims for breach of contract, fraud and deceit, negligent misrepresentation and unjust enrichment. The LADWP also sought past and future reimbursement costs, punitive damages, contract difference in value damages, treble damages, civil penalties under the False Claims Act and costs of the suit.
One of the allegations in the First Amended Complaint is the suggestion that because some of the purchased James Jones products were made of '81 bronze (UNS No. C8440) and contain more lead than the specified '85 bronze (UNS No. C83600), a risk to public health might exist. This contention is predicated on the average difference of about 2% lead content in '81 bronze (6% to 8% lead) and '85 bronze (4% to 6% lead) alloys and the assumption that this would mean increased consumable lead in public drinking water. We believe the evidence and discovery available to date indicate that this is not the case.
In addition, bronze that does not contain more than 8% lead, like '81 bronze, is approved for municipal and home plumbing systems by municipalities and national and local codes, and the Federal Environmental Protection Agency defines metal for pipe fittings with no more than 8% lead as "lead free" under Section 1417 of the Federal Safe Drinking Water Act.
In June 2001, we and the other defendants reached a proposed settlement with the LADWP, one of the plaintiffs, which was approved by the California Superior Court on October 31, 2000,2001 and by the Los Angeles City Council on December 14, 2001.
In this case, the Relator seeks three times an unspecified amount of actual damages and alleges that the municipalities have suffered hundreds of millions of dollars in damages. The Relator also seeks civil penalties of $10,000 for each false claim and alleges that defendants are responsible for tens of thousands of false claims. We settled with the City of Los Angeles, by far the most significant city, for $5.7 million plus the Relator's statutory share and attorneys' fees. Co-defendants will contribute $2.0 million toward this settlement. In August 2003, an additional settlement payment was made for $13 million ($11 million from us and $2 million from the James Jones Company) which settled the claims of the three Phase I cities (Santa Monica, San Francisco and East Bay Municipal Water District) chosen by the Relator as having the strongest claims to be tried first. This settlement payment included the Relator's statutory share, and the claims of these three cities have been dismissed. In addition to this $13 million payment, we are obligated to pay the Relator's attorney's fees.
After the Phase I settlement, the Court permitted the Company and the other defendants madeto select five additional cities (Contra Costa, Corona, Santa Ana, Santa Cruz and Vallejo) to serve as the plaintiffs in a second trial phase of the case. The Company and James Jones subsequently reached an offeragreement to settle allthe City of Santa Ana's claims for $45,000, and we are responsible for $38,000 of this settlement amount. Santa Ana has submitted this claim to the Court for approval in March 2004. The trial of the claims of the DWPremaining Phase II cities is scheduled for September 2004.
We have a reserve of approximately $9.3 million with respect to the James Jones Litigation in our consolidated balance sheet as of December 31, 2003. We believe, on the basis of all available information, that this reserve is adequate to cover the probable and reasonably estimable losses resulting from the James Jones Litigation and the insurance coverage litigation with Zurich discussed below. We are currently unable to make an estimate of the range of any additional losses.
On February 14, 2001, we filed a complaint in the California Superior Court against our insurers for coverage of the claims in the Armenta case. The DWP has indicated that it views
this offer favorablyJames Jones Company filed a similar complaint, the cases were consolidated, and that it intends to seek the offer's approval. On
January 19,on October 30, 2001 the California False Claims Act claims filedSuperior Court made a summary adjudication ruling that Zurich American Insurance Company (Zurich) must pay all reasonable defense
10
costs incurred by us in the Armenta case since April 23, 1998 as well as our future defense costs in this case until its final resolution. On October 24, 2002, the California Superior Court made another summary adjudication ruling that Zurich must indemnify and pay us for the amounts we must pay under our settlement agreement with the City of Pomona were dismissed. The Company expectsLos Angeles. Zurich has asserted that all amounts (both defense costs and indemnity amounts paid for settlements) paid by it to us are subject to reimbursement under Deductible Agreements between Zurich and us. However, management and counsel anticipate that we will ultimately prevail on reimbursement issues. Zurich appealed the orders requiring it to pay defense costs, the California Court of Appeal accepted that appeal, and it is currently pending. Zurich also sought appellate review of the order that found coverage and required Zurich to indemnify us for the settlement with the City of Pomona to fileLos Angeles. On March 26, 2003, the California Court of Appeal denied Zurich's petition for appellate review of this order, andbut Zurich will still be able to appeal this order at the Company isend of the case. We are currently unable to predict the finality of the order on indemnity for the Los Angeles settlement. We have recorded reimbursed indemnity settlement amounts (but not reimbursed defense costs) as a liability. We intend to contest vigorously the Armenta case and its related litigation.
Based on management's assessment, we do not believe that the ultimate outcome of any appeal. On the present record, the vast majorityJames Jones case will have a material adverse effect on our liquidity, financial condition or results of other
cities named in this lawsuit are subject to a legal challenge similar to that
which resulted in the dismissal of Pomona's False Claims Act case. As a result
of these developments and management's current assessment of the case, the
Company recorded a charge of $7,170,000 after tax in the quarter ended December
31, 2000, which represents the after tax impact of the Company's current
estimate of the cost to bring the entire case to resolution. This charge is
reported as a loss from discontinued operations. While this charge represents
the after tax impact of the Company's current estimateassessment is based on all available information, litigation is inherently uncertain, and the actual liability to the
Companyus to fully resolve this litigation cannot be predicted with any certainty and there exists a reasonable possibility that we may ultimately incur losses in the litigation could be materially higher than this
estimate.
The Company intendsJames Jones Litigation in excess of the amount accrued. We intend to continue to contest this matter vigorously.
vigorously the James Jones case and its related litigation.
Environmental Certain of the Company's operations generate solid and hazardous wastes,
which are disposed of elsewhere by arrangementRemediation
We have been named as a potentially responsible party (PRP) with the owners or operators of
disposal sites or with transporters of such waste. The Company's foundry and
other operations are subjectrespect to various federal, state and local laws and
regulations relating to environmental quality. Compliance with these laws and
regulations requires the Company to incur expenses and monitor its operations on
an ongoing basis. The Company cannot predict the effect of future requirements
on its capital expenditures, earnings or competitive position due to any changes
in federal, state or local environmental laws, regulations or ordinances.
The Company is currently a party to or otherwise involved in various
administrative or legal proceedings under federal, state or local environmental
laws or regulations involving a limited number of identified contaminated sites. The level of contamination varies significantly from site to site as do the related levels of remediation efforts. Environmental liabilities are recorded based on the most probable cost, if known, or on the estimated minimum cost of remediation. We accrue estimated environmental liabilities based on assumptions, which are subject to a number of factors and uncertainties. Circumstances which can affect the reliability and precision of these estimates include identification of additional sites, environmental regulations, level of cleanup required, technologies available, number and financial condition of other contributors to remediation and the time period over which remediation may occur. We recognize changes in estimates as new remediation requirements are defined or as new information becomes available. We have a reserve of approximately $2.5 million, and we estimate that our accrued environmental remediation liabilities will likely be paid over the next five to ten years. Based on the facts presentlycurrently known to it, the Company doesus, we do not believe that the ultimate outcome of these environmental proceedingsclaims will have a material adverse effect on itsour liquidity, financial condition or results of operations. Given
For several years, the natureNew York Attorney General (NYAG) has threatened to bring suit against approximately 16 PRPs, including Watts Water Technologies, Inc as successor to Jameco Industries, Inc., for incurred remediation costs and scopefor operation and maintenance costs that will be incurred in connection with the cleanup of a landfill site in Babylon, New York. The NYAG has identified recovery numbers between $19 million and $24 million, but it is too early to know what the final recovery number will be, what the final number of PRPs will be or what proportion of the Company's
manufacturing operations, there canfinal costs may be no assuranceallocated to us. In 2003, 139 PRPs were identified by our defense group, and they are in the process of being invited to join the PRPs identified so far by the NYAG. Based on the facts currently known to us, we do not believe that the ultimate outcome of the Babylon matter will have a material adverse effect on our liquidity, financial condition or results of operations.
11
Asbestos Litigation
We are a defendant in approximately 115 actions filed primarily, but not exclusively, in Mississippi and New Jersey state courts alleging injury or death as a result of exposure to asbestos. These filings typically name multiple defendants, and are filed on behalf of many plaintiffs. They do not identify any particular products of ours as a source of asbestos exposure. To date the Company has been dismissed from each case when the scheduled trial date comes near. Based on the facts currently known to us, we do not believe that the ultimate outcome of these claims will not
become subject to other environmental proceedings and liabilitieshave a material adverse effect on our liquidity, financial condition or results of operations.
Other Litigation
On or about March 26, 2003, a class action complaint was filed against the Company by North Carolina Hospitality Group, Inc. in the future
which may be materialCircuit Court of Maryland, Prince George's County. It alleges that certain commercial valve models contain a design defect that causes them to the Company. See Note 15fail prematurely. Our extensive investigation of the Notesevidence, including the physical evidence presented so far by the plaintiff, demonstrates that the allegations in the complaint are without merit, and we intend to defend this lawsuit vigorously. Based on the Consolidated Financial Statements.
Other Litigationfacts currently known to us, we do not believe that the ultimate outcome of this matter will have a material adverse effect on our liquidity, financial condition or results of operations.
Other lawsuits and proceedings or claims, arising from the ordinary course of operations, are also pending or threatened against the Company and its
subsidiaries.us. Based on the facts currently known to it, the Company doesus, we do not believe that the ultimate outcome of these other litigation matters will have a material adverse effect on itsour financial condition or results of operation. See
Note 15operations.
However, litigation is inherently uncertain, and we believe that there exists a reasonable possibility that we may ultimately incur losses in other litigation in excess of the Notes to the Consolidated Financial Statements.
amount accrued.
12
Item 2. PROPERTIES.
The Company maintains 24
We maintain 45 facilities worldwide with itsour corporate headquarters located in North Andover, Massachusetts. TheOur manufacturing operations include four casting foundries, two of which are located in the United States oneand two in Europe and one at Tianjin, Tanggu Watts Valve Company
Limited ("Tanggu Watts"), a joint venture located in the People's Republic of
China, and it maintainsChina. Additionally, we maintain one yellow brass forging foundry located in Italy. Castings and forgings from these foundries and other components are machined and assembled into finished valves at 1825 manufacturing facilities located in the United States, Canada, Europe, China and China.Tunisia. Many of these facilities contain sales offices, warehouses, or warehousessales and distribution centers from which the Company shipswe ship finished goods to customers and commissioned representative organizations.manufacturers' representatives. All the Company'sour operating facilities and the related real estate are 6
the Company,us, except the buildings and land operated by one of our joint ventures located in Tianjin, People's
Republic of China, arewhich is leased by Tanggu Watts, underwith a lease agreement, the remaining term of approximately 22 years, the land on which is approximately 25 years and the Company'sour manufacturing facility is located in Woodland, California, theTaizhou, China with a remaining term of 49 years and except for the following facilities, each of which is 3
years.leased:
| Type of Facility | Location | Lease Expiration | |||
|---|---|---|---|---|---|
| Manufacturing | Springfield, MO | 2004 | |||
| Manufacturing | Phoenix, AZ | 2010 | |||
| Manufacturing | Woodland, CA | 2008 | |||
| Manufacturing | Sacramento, CA | 2005 | |||
| Manufacturing | Santa Ana, CA | 2008 | |||
| Warehouse | Reno, NV | 2005 | |||
| Warehouse | Dallas, TX | 2006 | |||
| Warehouse | Alsip, IL | 2008 | |||
| Sales Office | Kennesaw, GA | 2007 | |||
| Sales Office | Des Plaines, IL | 2008 | |||
| Manufacturing | Rosieres, France | 2015 | |||
| Manufacturing | Monastir, Tunisia | 2004 | |||
| Manufacturing | Neuenburg am Rhein, Germany | 2004 | |||
| Sales/Distribution | Barcelona, Spain | 2004 | |||
| Sales/Distribution | Evesham, UK | 2016 | |||
| Sales/Distribution | Molndal, Sweden | 2007 | |||
| Sales/Distribution | Gliwice, Poland | (1 | ) | ||
| Sales/Distribution | Vilnius, Lithuania | (1 | ) | ||
| Sales/Distribution | Wingene, Belgium | (2 | ) | ||
| Sales/Distribution | Chartres, France | 2004 | |||
| Sales/Distribution | Calgary, Alberta, Canada | 2006 | |||
| Sales/Distribution | Worcestershire, U.K. | 2005 |
Certain of the Company'sour facilities are subject to mortgages and collateral assignments under loan agreements with long-term lenders. In general, the Company believeswe believe that itsour properties, including machinery, tools and equipment, are in good condition, well maintained and adequate and suitable for their intended uses. The Company believesWe believe that theour manufacturing facilities are currently operating at a level that our management considers normal capacity.capacity, except for our two recently expanded plants in China which are under utilized. Management believes capacity utilization will be increasing in 2004 at these plants. This utilization is subject to change as a result of increases or decreases in sales.
13
Item 3. LEGAL PROCEEDINGS.
Item 3(a). The Company is from time to time involved in various legal and
administrative procedures. See Part I, Item 1, "Product Liability,
Environmental and Other Litigation Matters".
Item 3(b). See Part I, Item 1, "Product Liability, Environmental and Other
Litigation Matters".
| Item 3(a). | We are from time to time involved in various legal and administrative procedures. See Part I, Item 1, "Business��Product Liability, Environmental and Other Litigation Matters." | |
Item 3(b). | See Part I, Item 1, "Business—Product Liability, Environmental and Other Litigation Matters." |
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There were no matters submitted during the fourth quarter of the fiscal year covered by this Annual Report to a vote of security holders through solicitation of proxies or otherwise.
7
14
Item 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Market Information
The following tabulationtable sets forth the high and low sales prices of the
Company'sour Class A Common Stock on the New York Stock Exchange during fiscal
2000, fiscal 1999.52003 and fiscal 19992002 and cash dividends paid per share. The
prices of the Company's Class A Common Stock reported below were retroactively
adjusted to reflect the effect of the spin-off of CIRCOR on October 18, 1999. No
adjustments were made to the dividends reported.
| | 2003 | 2002 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | High | Low | Dividend | High | Low | Dividend | ||||||||||||
| First Quarter | $ | 16.75 | $ | 13.53 | $ | 0.06 | $ | 17.22 | $ | 13.82 | $ | 0.06 | ||||||
| Second Quarter | 19.00 | 15.40 | 0.06 | 20.00 | 16.05 | 0.06 | ||||||||||||
| Third Quarter | 19.55 | 17.27 | 0.06 | 20.12 | 15.82 | 0.06 | ||||||||||||
| Fourth Quarter | 22.50 | 17.48 | 0.07 | 18.30 | 14.80 | 0.06 | ||||||||||||
There is no established public trading market for theour Class B Common Stock,
of the Company, which is held exclusively by members of the Horne family and
management.family. The principal holders of such stock are subject to restrictions on transfer with respect to their shares. Each share of our Class B Common Stock (10 votes per share) of the Company is convertible into one share of Class A Common Stock (1 vote per share).
Aggregate common stock dividend payments for fiscal
2000, 1999.52003 and 19992002 were $7,107,000, $4,656,000$6,859,000 and $9,358,000,$6,490,000, respectively. While the Companywe presently intendsintend to continue to pay cash dividends, the payment of future cash dividends depends upon the Board of Directors' assessment of the Company'sour earnings, financial condition, capital requirements and other factors.
The number of record holders of the Company'sour Class A Common Stock as of February 15, 200129, 2004 was 154. The Company believes that the number of beneficial
shareholders of the Company's Class A Common Stock was approximately 3,200 as of
February 15, 2001.132. The number of record holders of the Company'sour Class B Common Stock as of February 15, 200119, 2004 was 9.
8
15
Item 6. SELECTED FINANCIAL DATA.
The selected financial data set forth below should be read in conjunction with the Company'sour consolidated financial statements, related Notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included herein.
FIVE YEAR FINANCIAL SUMMARY
(Amounts
(Amounts in thousands, except per share information)
Twelve Six(1) (2) -------------Twelve Months----------------
Months Months Ended
Ended Ended June 30,
12/31/00 12/31/99 1999 1998 1997 1996(3)
-------- -------- ---- ---- ---- -------
Selected Data
Net sales $516,100 $261,019 $477,869 $444,735 $449,617 $413,961
Income (loss) from continuing operations 31,171 16,468 29,454 28,123 26,515 (24,824)
Income (loss) from discontinued operations,
net of taxes (7,170) (1,226) 6,502 25,246 25,232 (25,461)
Net income (loss) 24,001 15,242 35,956 53,369 51,747 (50,285)
Total assets 482,025 487,078 637,742 552,896 526,366 370,454
Long-term debt, net of current portion 105,377 123,991 118,916 71,647 94,841 111,715
Income (loss) per share from continuing
operations-diluted 1.17 0.61 1.10 1.03 0.97 (0.84)
Income (loss) per share from discontinued
operations - diluted (0.27) (0.05) 0.24 0.92 0.92 (0.86)
Net income (loss) per share-diluted 0.90 0.56 1.34 1.95 1.89 (1.70)
Cash dividends declared per common share .2675 0.175 0.350 0.330 0.295 0.265
1)
| | Year Ended 12/31/03(1)(4) | Year Ended 12/31/02(2) | Year Ended 12/31/01(3) | Year Ended 12/31/00(4) | Six Months Ended 12/31/99(5)(6)(7) | Year Ended 6/30/99(4)(6) | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Selected Data | ||||||||||||||||||
| Net sales | $ | 705,651 | $ | 615,526 | $ | 548,940 | $ | 516,100 | $ | 261,019 | $ | 477,869 | ||||||
| Income from continuing operations | 36,473 | 32,622 | 26,556 | 31,171 | 16,468 | 29,454 | ||||||||||||
| Income (loss) from discontinued operations, net of taxes | (3,111 | ) | — | — | (7,170 | ) | (1,226 | ) | 6,502 | |||||||||
| Net income | 33,362 | 32,622 | 26,556 | 24,001 | 15,242 | 35,956 | ||||||||||||
| Total assets | 838,643 | 635,472 | 520,470 | 482,025 | 487,078 | 637,742 | ||||||||||||
| Long-term debt, net of current portion | 179,061 | 56,276 | 123,212 | 105,377 | 123,991 | 118,916 | ||||||||||||
| Income per share from continuing operations—diluted | 1.32 | 1.21 | 0.99 | 1.17 | 0.61 | 1.10 | ||||||||||||
| Income (loss) per share from discontinued operations—diluted | (0.11 | ) | — | — | (0.27 | ) | (0.05 | ) | 0.24 | |||||||||
| Net income per share—diluted | 1.21 | 1.21 | 0.99 | 0.90 | 0.56 | 1.34 | ||||||||||||
| Cash dividends declared per common share | $ | 0.25 | $ | 0.24 | $ | 0.24 | $ | 0.268 | $ | 0.175 | $ | 0.35 | ||||||
16
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
On
Overview
We are a leading supplier of products for use in the water quality, water safety, water flow control and water conservation markets in both North America and Europe. For more than 125 years, we have designed and manufactured products that promote the comfort and safety of people and the quality and conservation for water used in commercial, residential and light industrial applications. We earn revenue and income almost exclusively from the sale of our products. Our principal product lines include:
Our business is reported in three geographic segments, North America, Europe and China. We distribute our products through three primary distribution channels, wholesale, DIY and OEMs. Increases in Gross National Product (GNP) indicate a healthy economic environment which we believe positively impacts our results of operations. The economic factors that we believe have the most significant direct effect on the demand for our products are the number of new housing construction starts and non-residential, or commercial, construction starts. Interest rates have a significant indirect effect on the demand for our products due to the effect such rates have on the number of new residential and commercial construction starts and remodeling projects. An additional factor that has had a significant effect on our sales is fluctuations in foreign currencies, as a significant portion of our sales and certain portions of our costs, assets and liabilities are denominated in currencies other than the U.S. dollar. Approximately 37.2% of our sales during the year ended December 15, 1998,31, 2003 were from sales outside of the Company announced its planU.S. compared to spin-off its31.4% for the year ended December 31, 2002.
We believe that the most significant factors relating to our future growth include our ability to continue to make selected acquisitions, both in our core markets as well as new complementary markets, regulatory requirements relating to the quality and conservation of water and increased demand for clean water and continued enforcement of plumbing and building codes. We have completed fourteen acquisitions since divesting our industrial and oil and gas business as a separately traded public company, CIRCOR
International, Inc. Under the termsin 1999. Our acquisition strategy focuses on businesses that manufacture preferred brand name products that address our themes of water quality, water safety, water conservation and water flow control. We target businesses that will provide us with one or more of the spin-off,following: an entry to new markets, an increase in shelf space with existing customers, a new or improved technology or an expansion of the breadth of our water quality, water conservation, water safety and water flow control products for the residential and commercial markets.
Products representing a majority of our sales are subject to regulatory standards and code enforcement, which wastypically require that these products meet stringent performance criteria. Together with our commissioned manufacturers' representatives, we have consistently advocated the development and enforcement of such plumbing codes. We are focused on maintaining stringent quality control and
17
testing procedures at each of our manufacturing facilities in order to manufacture products in compliance with code requirements and take advantage of the resulting demand for compliant products. We believe that significant product development, product testing capability and investment in plant and equipment is needed to manufacture products in compliance with code requirements, which represents a significant barrier to entry for competitors. We believe there is an increasing demand among consumers for products to ensure water quality, which creates growth opportunities for our products.
A significant risk we face is our ability to deal effectively with increases in raw material costs. We require substantial amounts of raw materials, including bronze, brass, cast iron, steel and plastic to produce our products and substantially all of the raw materials we require are purchased from outside sources. Recently, we have experienced increases in the costs of bronze, brass, cast iron and steel. If we are not able to reduce or eliminate the effect of these cost increases by reducing production costs or successfully implementing price increases, these increases in raw material costs could reduce our profit margins.
Another significant risk we face in all areas of our business is competition. We consider brand preference, engineering specifications, plumbing code requirements, price, technological expertise, delivery times and breadth of product offerings to be the primary competitive factors. As mentioned previously, we believe that significant product development, product testing capability and investment in plant and equipment is needed to manufacture products in compliance with code requirements, which represents a significant barrier to entry for competitors. We are committed to maintaining our capital equipment at a level consistent with current technologies and we have invested $20.0 million in capital equipment in 2003 and we expect to invest approximately $18.5 million in 2004. We are also committed to expanding our manufacturing capacity in lower cost countries such as China, Tunisia and Bulgaria. These manufacturing plant relocations and consolidations are an important part of our ongoing commitment to reduce production costs.
2003 Highlights
Highlights for the year ended December 31, 2003 include the following:
| | (in millions) | | |||
|---|---|---|---|---|---|
| Foreign Exchange | $ | 35.0 | 5.7% | ||
| Internal Growth | 27.4 | 4.4% | |||
| Acquisitions | 23.9 | 3.9% | |||
| Impact of FIN 46R | 3.8 | 0.6% | |||
| $ | 90.1 | 14.6% | |||
18
Recent Developments
On February 20, 2004, we entered into an agreement with Yuhuan County Cheng Guan Metal Hose Factory to acquire its 40% equity interest in our Shida joint venture for an expected purchase price of $3.0 million, the assumption of approximately $6.0 million of debt and the payment of $3.5 million in connection with a three-year non-compete agreement. After the transaction, we will own 100% of Shida. The closing of the transaction is subject to the satisfaction of certain closing conditions and is expected to occur during the second quarter of 2004.
On January 5, 2004, we acquired substantially all of the assets of Flowmatic Systems, Inc. located in Dunnellon, Florida, for approximately $16.5 million in cash. Flowmatic designs and distributes a complete line of high quality reverse osmosis components and filtration equipment. Their product line includes stainless steel and plastic housings, filter cartridges, storage tanks, control valves, as well as complete reverse osmosis systems for residential and commercial applications.
We continue to implement a plan to consolidate several of our manufacturing plants in North America and Europe. At the same time we are expanding our manufacturing capacity in China and other low cost areas of the world. The implementation of this manufacturing restructuring plan began during the fourth quarter of 2001 and will continue in 2004. The projects for which charges were recorded in the fourth quarter of 2001 are essentially complete. During 2002, we decided to expand the scope of the manufacturing restructuring plan and transfer certain production to low cost
19
manufacturing plants in Tunisia and Bulgaria. We expect to record an additional $6.0 million in 2004 attributable to accelerated depreciation associated with the anticipated closure of one of our U.S. manufacturing plants and a reduction in estimated useful lives of manufacturing equipment due to the transfer of production to lower cost countries. The Company recorded pre-tax manufacturing restructuring and other costs of $1.7 million net of recoveries for 2003. The manufacturing restructuring and other costs recorded consist primarily of severance costs, asset write-downs and accelerated depreciation. The severance costs, which have been recorded as restructuring, are for 48 employees in manufacturing and administration groups. We expect to make all of these severance payments during the first quarter of 2004. Asset write-downs consist primarily of write-offs of inventory related to product lines that we have discontinued as part of this restructuring plan and are recorded in cost of goods sold. Accelerated depreciation is based on shorter remaining estimated useful lives of certain fixed assets and has reported a six month transition
period ending December 31, 1999.
9
Results of Operations
Twelve Months
Year Ended December 31, 20002003 Compared to Twelve MonthsYear Ended December 31, 19992002
Net Sales. Our business is reported in three geographic segments: North America, Europe and China. Our net sales in each of these segments for each of the twelve monthsyears ended December 31, 2000 increased
$6,444,000 (1.3%) to $516,100,000 compared to the same period in 1999.2003 and 2002 were as follows:
| | Year Ended December 31, | Year Ended December 31, | | | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | % Sales | 2002 | % Sales | Change | % Change | ||||||||||
| | (in thousands) | |||||||||||||||
| North America | $ | 476,310 | 67.5 | % | $ | 450,233 | 73.1 | % | $ | 26,077 | 4.2 | % | ||||
| Europe | 210,614 | 29.8 | % | 145,629 | 23.7 | % | 64,985 | 10.6 | % | |||||||
| China | 18,727 | 2.7 | % | 19,664 | 3.2 | % | (937 | ) | (0.2 | )% | ||||||
| Total | $ | 705,651 | 100 | % | $ | 615,526 | 100 | % | $ | 90,125 | 14.6 | % | ||||
The increase in net sales is attributablein North America in 2003 compared to the following:
Internal Growth $ 7,456 1.5%
Acquisitions 15,030 2.9%
Foreign Exchange (16,042) (3.1%)
-------- ----
Total Change $ 6,444 1.3%
======== ====
The increase in net sales from internal growth is attributable to
increased unit shipments of North American and European plumbing and heating
valves. North American increases were offset by recent softness in the housing
market resulting from increased interest rates during 2000. The growth in net
sales from acquired companies2002 is due to internal growth of $18,381,000, or 3.0%, the inclusionappreciation of Heatway, Spacemaker and
Cazzaniga S.p.Athe Canadian dollar against the U.S. dollar, which accounted for $3,904,000, or 0.6%, of Biassono, Italy which was acquired March 9, 1999. Excluding
the acquired revenue of Cazzanigaincrease and the impact of foreign exchange, shipmentsthe adoption of European plumbing and heating valves were 3.1% higher than last year. The
decrease in sales due to foreign exchange is principally due to the devaluationFIN 46R which accounted for $3,792,000, or 0.6%, of the Euro, which depreciated almost 13%increase. We cannot predict whether the Canadian dollar will continue to appreciate against the U.S. dollar during the
twelve month period ended December 31, 2000.
Watts monitors itsin future periods or whether future foreign exchange rate fluctuations will have a positive or negative impact on our net sales in three geographical segments: North
America, Europe and Asia. As outlined below, North America, Europe and Asia
accounted for 77.6%, 20.0%, and 2.4% of net sales, respectively,sales. The increase in the twelve
months ended December 31, 2000 compared to 76.1%, 21.3%, and 2.6% respectively,
in the twelve months ended December 31, 1999. The Company's net sales in these
groups for the twelve months ended December 31, 2000 and 1999 were as follows:
12/31/00 12/31/99 Change
-------- -------- ------
North America $400,384 $388,049 $12,335
Europe 103,085 108,579 (5,494)
Asia 12,631 13,028 (397)
-------- -------- -------
Total $516,100 $509,656 $ 6,444
======== ======== =======
The increaseinternal growth rate in North America is primarily due to the Watts Heatway and
Spacemaker acquisitions and to a lesser extent from increased unit sales. The
decreasesales into the DIY and wholesale markets. Our sales into the North American DIY market grew by 12.8% in Europe is2003 over 2002 due to the impactincreasing store count of our large customers, the Euro's devaluation against the
U.S. dollar. This was substantially offsetsuccessful introduction of new products and consistent and reliable delivery of our products. Our wholesale market grew by increased unit sales and the
inclusion of Cazzaniga. The decrease2.1% in Asia is primarily due to reduced demand
in the North American export market.
Gross profit for the twelve months ended December 31, 2000 decreased
$1,414,000 (0.8%), to $185,304,000 compared to the same period in 1999 and
decreased as a percentage of net sales from 36.6 percent to 35.9 percent. This
percentage reduction is attributable to price competition in certain markets the
company serves and additional production costs associated with new product
introductions in Europe. This was partially offset by the inclusion of acquired
companies currently operating at higher gross margins than the rest of the
Company.
Selling, general and administrative expenses for the twelve months
decreased $3,666,000 (2.8%) to $125,317,000 compared to the same period in 1999.
This decrease is attributable to decreased corporate headquarters expenses
resulting from the CIRCOR spinoff, the Euro's devaluation against the U.S.
dollar and reduced variable selling expenses. This was partially offset by the
inclusion of selling, general and administrative expenses of acquired companies.
Selling, general and administrative expenses for the twelve months decreased as
a percentage of sales from 25.3% in the twelve months ended December 31, 1999 to
24.3% in the twelve months ended December 31, 2000. This decreased percentage is
primarily due to decreased corporate headquarters expenses resulting from the
CIRCOR spin-off.
Operating income in the twelve months ended December 31, 2000 increased
$3,712,000 (6.6%) to $59,987,000 and increased as a percentage of sales to 11.6%
from 11.0% compared to the same period in 19992003 over 2002 due to increased net sales of backflow preventors. A significant increase or decrease in interest rates or an increase or drop in the new housing construction market could have a positive or negative impact on our sales. Not included in either the DIY or wholesale market comparisons are fourth quarter sales of $3,792,000 from Jameco International LLC. In October 2003 we determined that our 49% minority interest in Jameco International, LLC qualified as a variable interest in a variable interest entity under FIN 46R and, decreased selling, general and administrative expenses.
10
The Company's operating income by segmentas we are the primary beneficiary, should be consolidated into our North American results. Jameco International LLC's annual sales for the twelve monthsyear ended December 31, 2000 and 19992003 were approximately $16,079,000. Since the adoption was as follows:
12/31/00 12/31/99 Change
-------- -------- ------
North America $55,661 $ 56,439 $ (778)
Europe 13,225 12,560 665
Asia 882 1,519 (637)
Corporate (9,781) (14,243) 4,462
------- -------- -------
Total $59,987 $ 56,275 $ 3,712
======= ======== =======
The decrease in North America is dueeffective October 1, 2003, we should continue to decreased unit prices in certain
markets. The increase in Europe is primarily due to increased net sales and the
Cazzaniga acquisition, substantially offset by the Euro's devaluation against
the U.S. dollar. The decrease in Asia is due to decreased net sales. The
decrease in corporate is to due reduced headquarter expenses attributable to the
CIRCOR spin-off.
Interest expense increased $1,964,000 to $9,897,000 in the twelve months
ended December 31, 2000 compared to the same period in 1999, primarily due to
increased effective interest rates.
The Company's effective tax rate for continuing operations increased from
35.9 percent to 36.7 percent in the twelve months ended December 31, 2000
compared to the same period in 1999. The increase is primarily attributable to a
revised tax structure required to execute the CIRCOR spin-off.
Income from continuing operationshave this impact for the twelve months ended December 31,
2000 increased $474,000 (1.5%)next three quarters as we continue to $31,171,000 or $1.17 per common share compared
to $1.15 per common share for the twelve months ended December 31, 1999 on a
diluted basis. The impact of foreign exchange, primarily due to the devaluation
of the Euro against the U.S. dollar, decreased income approximately $1,331,000
or $.05 per common share on a diluted basisconsolidate Jameco International LLC in the period ended December 31,
2000.
For the twelve months ended December 31, 2000, discontinued operations
reported a net loss of $7,170,000 or $0.27 per share, on a diluted basis. This
loss results from a charge recorded during the fiscal year representing the
Company's current estimate of the after tax impact of the cost to bring the
James Jones Litigation to resolution. Additional details of the James Jones
litigation are provided in Part I, Item 1, Product Liability, Environmental and
Other Litigation Matters and in Note 15 of the Notes to the Consolidated
Financial Statements. For twelve months ended December 31, 1999, discontinued
operations reported a net loss of $3,143,000 or $0.12 per share, on a diluted
basis. Results for the twelve months ended December 31, 1999 were negatively
impacted by after tax charges of $11,599,000 for spin-off related costs,
including professional fees, facility relocation costs and income tax costs
associatedaccordance with the reorganizing the Company's legal entity structure in
anticipation of the spin-off as well as legal fees associated with the James
Jones Litigation. Excluding these charges, discontinued operations would have
had net income of $8,456,000 ($0.32 per share) for the twelve months ended
December 31, 1999. Additional details of the spin-off transaction are provided
in Note 3 of the Notes to the Consolidated Financial Statements.
Results of Operations
Six Months Ended December 31, 1999 Compared to
Six Months Ended December 31, 1998
Net sales increased $31,869,000 (13.9%) to $261,019,000.FIN 46R.
20
The increase in net sales in Europe in 2003 compared to 2002 is attributableprimarily due to the following:
Internal Growth $20,234 8.8%
Acquisitions 17,061 7.4%
Foreign Exchange (5,426) (2.3%)
------- ----
Total Change $31,869 13.9%
======= ====
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Theappreciation of the euro against the U.S. dollar, which accounted for $31,107,000, or 5.1% of the increase, inthe inclusion of net sales fromof acquired companies of $21,313,000, or 3.5%, and internal growth of $12,565,000, or 2.0%. The foreign exchange growth is primarily attributabledue to increased unit shipmentsour average year to date euro rate increasing 20.6% over the average year to date rate for 2002. We cannot predict whether the euro will continue to appreciate against the U.S. dollar in the North American segment.future periods or whether future foreign exchange rate fluctuations will have a positive or negative impact on our net sales. The growth in net
sales from acquired companiesgrowth is due to the inclusion of the net sales of Cazzaniga S.p.A.ADEV Electronic SA and E.K. Eminent A.B. both acquired on July 15, 2002, F&R Foerster and Rothman GmbH, acquired on July 29, 2002, Martin Orgee, acquired on April 18, 2003, and Giuliani Anello, acquired on July 30, 2003. We expect these recent acquisitions will have a positive impact on sales for the next two quarters. The internal growth in sales is primarily due to increased sales into the European OEM market. Inclusive of Biassono, Italy, which was acquired March 9, 1999. Thethe acquisitions, and exclusive of the impact of foreign exchange, impact reflectsour sales into the adverse affectsEuropean OEM market increased approximately $28,900,000, or 37.2%.
The decrease in net sales in China in 2003 compared to 2002 is primarily due to an adjustment of $2,200,000 made in the second quarter of 2003 for previously recorded sales and increased sales rebates and returns recorded at our TWT joint venture in Tianjin. This was partially offset by the inclusion of net sales of our Shida joint venture, which we established on March 5, 2002, of approximately $2,636,000.
Gross Profit. Gross profit for 2003 increased $31,941,000, or 15.3%, compared to 2002. This increase is primarily due to internal growth of $12,007,000, the change in foreign exchange rates, which accounted for $11,075,000 of the Euro's devaluationincrease, the inclusion of gross profit from acquired companies of $5,961,000, a reduction of restructuring and other charges of $2,103,000 in 2003 compared to 2002, and the inclusion of the gross profit of Jameco International LLC of $795,000. Excluding the costs of restructuring for both periods, gross profits would have increased $29,838,000, or 14.1%. The internal growth is primarily due to the North American segment, which increased internal gross profits by $11,408,000. This increase is primarily due to improved manufacturing efficiencies and increased sales volume. The internal growth in gross profit was offset by a loss in our China segment of $3,873,000. This loss is due to start-up costs and under absorbed manufacturing costs due to a delay in production at our new wholly-owned manufacturing plant in China. We believe capacity utilization will be increasing in 2004 at this plant. It was also offset by inventory write-downs, increased sales rebates and returns and other net adjustments at our TWT joint venture located in Tianjin, China.
Selling, General and Administrative Expenses. Selling, General and Administrative, or SG&A, expenses for 2003 increased $19,642,000, or 13.0%, compared to 2002. This increase is primarily due to an internal increase of $8,386,000, the change in foreign exchange rates, which accounted for $6,935,000 of the increase, and the inclusion of operating expenses of acquired companies and Jameco International LLC, which together accounted for $4,321,000 of the increase. The internal increase in SG&A expenses is primarily due to increased product liability expense, workers compensation expenses, professional fees, which include legal and audit expenses, pension costs and variable selling expenses due to increased sales volumes. Although there is an absolute increase in our SG&A expense over 2002, our SG&A expense as a percent of sales for 2003 decreased to 24.1% compared to 24.5% for 2002.
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Operating Income. Operating income by geographic segment for each of the years ended December 31, 2003 and 2002 was as follows:
| | Years Ended December 31, | | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | Change | |||||||
| | (in thousands) | |||||||||
| North America | $ | 64,414 | $ | 55,313 | $ | 9,101 | ||||
| Europe | 22,592 | 13,608 | 8,984 | |||||||
| China | (3,834 | ) | (625 | ) | (3,209 | ) | ||||
| Corporate | (13,132 | ) | (10,767 | ) | (2,365 | ) | ||||
| Total | $ | 70,040 | $ | 57,529 | $ | 12,511 | ||||
The increase in operating income in North America in 2003 compared to 2002 is primarily due to internal growth of $6,754,000, a reduction of restructuring and other charges of $1,691,000, the appreciation of the Canadian dollar against the U.S. dollar, duringwhich accounted for $618,000 of the period.increase, and inclusion of income from Jameco International LLC of $38,000. The internal growth is due to our increased gross profit partially offset by increased SG&A expense. To the extent we are unable to recover raw material cost increases from our customer these cost increases would adversely affect our operating income. For 2003, we recorded $162,000 compared to $1,853,000 in 2002 for costs associated with our manufacturing restructuring plan. Excluding Cazzaniga, shipmentsthese costs, the operating income in North America would have been $64,576,000 for 2003 compared to $57,166,000 for 2002. We expect to record approximately $6,000,000 in 2004 for additional manufacturing restructuring expenses primarily attributable to accelerated depreciation associated with the anticipated closure of one of our U.S. manufacturing plants and a reduction in estimated useful lives of manufacturing equipment due to the transfer of production to lower cost countries.
The increase in operating income in Europe in 2003 compared to 2002 is due to the euro appreciating against the U.S. dollar, which accounted for $3,522,000 of the increase, internal growth of $2,744,000, the inclusion of income from acquired companies of $1,932,000, and a reduction of restructuring and other charges of $786,000. We cannot predict whether the euro will continue to appreciate against the U.S. dollar in future periods or whether future foreign exchange rate fluctuations will have a positive or negative impact on our operating income. The internal operating profit is primarily due to the increased sales volume partially offset by increased SG&A expenses. We recorded $906,000 in 2003 compared to $1,692,000 in 2002 for costs associated with our manufacturing restructuring plan. Excluding these costs associated in both periods, operating income in Europe would have increased to $23,498,000 in 2003 from $15,300,000 in 2002. We do not anticipate recording any additional manufacturing restructuring costs in 2004 for our European operations.
The increase in operating losses in China in 2003 compared to 2002 is due to an increase in internal operating losses of $3,512,000 partially offset by the inclusion of income from acquired companies of $465,000. In December 2003, we incurred a restructuring charge in our TWT facility of $162,000 for severance. The internal operating loss was due to inventory write-downs, increased sales rebates and returns and other net adjustments at our TWT joint venture and under absorbed manufacturing costs due to a delay in production and start up costs associated with our new wholly-owned manufacturing plant in China.
Corporate expenses are primarily for compensation expense, professional fees, including legal and audit expenses and benefit administration costs. The increase in corporate expenses is primarily due to increased legal and audit expenses in 2003.
22
Interest Expense. Interest expense increased $3,422,000, or 39.4%, in 2003 compared to 2002, primarily due to the inclusion of the interest expense on the $125,000,000 senior notes issued on May 15, 2003. On December 1, 2003, we repaid our $75,000,000 83/8% notes and expect that interest expense will decrease as a result of this repayment. On September 1, 2001, we entered into an interest rate swap with respect to our $75,000,000 83/8% notes due December 2003. The swap converted the interest from fixed to floating. On August 5, 2002, we sold the swap and received $2,315,000 in cash. In the year ended December 31, 2003, we reduced interest expense by $1,420,000 by amortizing the adjustment to the fair value of the swap. In the year ended December 31, 2002, we reduced interest expense by $1,711,000 for the effectiveness of the swap. The amortization of the swap was completed upon repayment of the $75,000,000 83/8% notes. On July 1, 2003, we entered into an interest rate swap for a notional amount of 25,000,000 euros outstanding on our Revolving Credit Facility. We swapped the variable rate from the Revolving Credit Facility, which is three month EURIBOR plus 0.7%, for a fixed rate of 2.33%. The impact of swap was immaterial to the overall interest expense.
Income Taxes. Our effective tax rate for continuing operations for 2003 increased to 38.0% from 35.0% for 2002. The increase is primarily due to losses in China, for which we have not received a tax benefit in accordance with FAS 109 and because certain of our Chinese entities are in a tax holiday.
Income From Continuing Operations. Income from continuing operations for 2003 increased $3,851,000, or 11.8%, to $36,473,000 or $1.32 per common share, from $32,622,000 or $1.21 per common share, for 2002, in each case, on a diluted basis. The appreciation of the euro against the U.S. dollar resulted in a positive impact on income from continuing operations of $0.07 per share for the year ended December 31, 2003 compared to the prior year. We cannot predict whether the euro will continue to appreciate against the U.S. dollar in future periods or whether future foreign exchange rate fluctuations will have a positive or negative impact on our net income. Excluding the manufacturing restructuring costs incurred in both periods, income from continuing operations would have increased $2,383,000 or 6.8%.
To supplement our consolidated financial statements presented in accordance with accounting principles generally accepted in the European plumbingUnited States of America (GAAP) we sometimes use non-GAAP measures of net income, net income per share, income from continuing operations or income from continuing operations per share, and heatingnet cash provided by continuing operations that we believe are appropriate to enhance an overall understanding of our historical financial performance and future prospects. The non-GAAP results, which are adjusted to exclude certain costs, expenses, gains and losses from the comparable GAAP measures, are an indication of our baseline performance before gains, losses or other charges that are considered by management to be outside of our core operating results. These non-GAAP results are among the primary indicators management uses as a basis for evaluating our financial performance as well as for forecasting future periods. For these reasons, management believes these non-GAAP measures can be useful to investors, potential investors and
23
others. The presentation of this additional information is not meant to be considered in isolation or as a substitute for net income or income per share prepared in accordance with GAAP.
| | Years Ended December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||
| | (in thousands, except per share information) | |||||||||
| Net income | $ | 33,362 | $ | 32,622 | $ | 26,556 | ||||
| Add back: loss from discontinued operations | 3,111 | — | — | |||||||
| Income from continuing operations | 36,473 | 32,622 | 26,556 | |||||||
| Add back: cost of restructuring and other charges | 1,084 | 2,552 | 3,593 | |||||||
| Add back: goodwill amortization | — | — | 3,220 | |||||||
| Adjusted income from continuing operations | $ | 37,557 | $ | 35,174 | $ | 33,369 | ||||
| Diluted earnings per share: | ||||||||||
| Net income | $ | 1.21 | $ | 1.21 | $ | 0.99 | ||||
| Add back: discontinued operations | 0.11 | — | — | |||||||
| Continuing operations | 1.32 | 1.21 | 0.99 | |||||||
| Add back: cost of restructuring and other charges | 0.04 | 0.09 | 0.13 | |||||||
| Add back: goodwill amortization | — | — | 0.12 | |||||||
| Adjusted income from continuing operations | $ | 1.36 | $ | 1.30 | $ | 1.24 | ||||
Loss From Discontinued Operations. We recorded a charge net of tax to discontinued operations for 2003 of $3,111,000, or $0.11 per common share on a diluted basis. The charge is primarily attributable to legal expenses associated with the litigation involving the James Jones Company. We also recorded a charge in the second quarter of 2003 attributed to payments to be made to the selling shareholders of the James Jones Company pursuant to our original purchase agreement. See Part I, Item 1, "Business—Product Liability, Environmental and other Litigation Matters".
Year Ended December 31, 2002 Compared to Year Ended December 31, 2001
Net Sales. Net sales for the year ended December 31, 2002 increased $66,586,000, or 12.1%, to $615,526,000 compared to $548,940,000 for the same period in 2001. The increase in net sales was attributable to the following:
| | (in thousands) | |||||
|---|---|---|---|---|---|---|
| Internal Growth | $ | 11,773 | 2.1 | % | ||
| Acquisitions | 47,080 | 8.6 | % | |||
| Foreign Exchange | 7,733 | 1.4 | % | |||
| Total Change | $ | 66,586 | 12.1 | % | ||
The increase in net sales from internal growth was primarily attributable to increased unit sales in the DIY market were 9.2% higher than last year.
Watts monitors itsin North America. The growth in net sales from acquired businesses was due to the inclusion of the net sales from Powers Process Controls of Skokie, Illinois, acquired on September 28, 2001; Premier Manufactured Systems of Phoenix, Arizona, acquired on June 13, 2001; Fimet of Milan, Italy, acquired on June 1, 2001; Shida, our joint venture, which we established on March 5, 2002; ADEV and Eminent, acquired on July 15, 2002; and F&R acquired on July 29, 2002. The increase in foreign exchange was due primarily to the euro appreciating against the U.S. dollar compared to the same period in 2001.
24
We monitor our net sales in three geographicalgeographic segments: North America, Europe and Asia.China. As outlined below, North America, Europe and AsiaChina accounted for 73.9%73.1%, 22.6%,23.7% and 3.5%3.2% of net sales, respectively, in the six
monthsyear ended December 31, 19992002 compared to 77.2%75.7%, 19.0%22.1%, and 3.8%2.2%, respectively, in the six monthsyear ended in December 31, 2001.
Our net sales in each of these geographic segments for the years ended December 31, 1998.2002 and 2001 were as follows:
| | Years Ended December 31, | | |||||||
|---|---|---|---|---|---|---|---|---|---|
| | 2002 | 2001 | Change | ||||||
| | (in thousands) | ||||||||
| North America | $ | 450,233 | $ | 415,689 | $ | 34,544 | |||
| Europe | 145,629 | 121,228 | 24,401 | ||||||
| China | 19,664 | 12,023 | 7,641 | ||||||
| Total | $ | 615,526 | $ | 548,940 | $ | 66,586 | |||
The Company'sincrease in net sales in these
groupsNorth America was due to the inclusion of Powers Process Controls and Premier Manufactured Systems, as well as increased unit sales to the DIY market. The increase in net sales in Europe was due to the inclusion of Fimet, ADEV, Eminent and F&R and the appreciation of the euro against the U.S. dollar. The increase in net sales in China was primarily due to the inclusion of our Chen Guan joint venture.
Gross Profit. Gross profit for the six monthsyear ended December 31, 19992002 increased $25,188,000, or 13.7%, from the prior year and 1998increased as a percentage of net sales to 33.9% from 33.4%. We charged $2,907,000 and $4,253,000 of costs associated with our manufacturing restructuring plan to cost of sales in 2002 and 2001, respectively. Excluding the cost associated with the manufacturing restructuring plan in 2002 and 2001, gross profit would have increased $23,842,000, or 12.7%, and would have increased as a percentage of net sales to 34.4% from 34.2%.
Selling, General and Administrative Expenses. SG&A expenses increased $18,758,000, or 14.2%, to $150,553,000 from $131,795,000 for the comparable prior year period. This increase was attributable to the inclusion of the SG&A expenses of acquired companies, an increase in the cost of product and general liability insurance and administrative start-up costs associated with our new manufacturing plant in China. We adopted Financial Accounting Standards Board Statement No. 142 "Goodwill and Other Intangibles" (FAS142) on January 1, 2002, and accordingly did not record any goodwill amortization for 2002. We recorded goodwill amortization of $3,220,000 as part of our SG&A expenses for 2001.
Restructuring and Other Charges. Restructuring and other charges for the year ended December 31, 2002 decreased $816,000, or 56.1%, to $638,000 compared to $1,454,000 for the same period in 2001. These costs are primarily for severance costs. The costs related to the year ended December 31, 2002 were for 24 employees, 12 of which have been terminated as of December 31, 2002, compared to the costs related to December 31, 2001 which were for 14 employees, all of which have been terminated as of December 31, 2002.
Operating Income. Operating income for the year ended December 31, 2002 increased $7,246,000, or 14.4%, to $57,529,000 compared to $50,283,000 for the same period in 2001 due to increased gross profit and the cessation of goodwill amortization, partially offset by increased other selling, general and
25
administrative expenses. Operating income by segment for the years ended December 31, 2002 and 2001 was as follows:
12/31/99 12/31/98 Change
-------- -------- -------
| | Years Ended December 31, | | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2002 | 2001 | Change | |||||||
| | (in thousands) | |||||||||
| North America | $ | 55,313 | $ | 47,294 | $ | 8,019 | ||||
| Europe | 13,608 | 11,308 | 2,300 | |||||||
| China | (625 | ) | 1,365 | (1,990 | ) | |||||
| Corporate | (10,767 | ) | (9,684 | ) | (1,083 | ) | ||||
| Total | $ | 57,529 | $ | 50,283 | $ | 7,246 | ||||
The increase in North America $192,975 $176,918 $16,057was due to increased gross profit, primarily due to the inclusion of operating results of acquired companies partially offset by increased premiums for product and general liability insurance. The increase in Europe 58,934 43,598 15,336
Asia 9,110 8,634 476
-------- -------- -------
Total $261,019 $229,150 $31,869
======== ======== =======was due to the inclusion of the operating results of acquired companies and the euro appreciating against the U.S. dollar compared to the prior year. The decrease in China was primarily due to increased bad debt and warranty expense. Corporate expenses are primarily for compensation expense, professional fees, including legal and audit expenses and benefit administration costs. The increase in corporate expenses was primarily due to increased legal and audit expenses and administrative start-up costs associated with our new manufacturing plant in China.
Interest Expense. Interest expense for the year ended December 31, 2002 decreased $730,000, or 7.7%, to $8,692,000 compared to $9,422,000 for the same period in 2001, primarily due to lower interest rates on variable rate indebtedness and capitalized construction period interest on our startup manufacturing plant in China, partially offset by the increased levels of debt incurred to fund acquisitions. On September 1, 2001, we entered into an interest rate swap with respect to our $75,000,000 83/8% notes due December 2003. The swap converted the interest from fixed to floating. On August 5, 2002, we sold the swap and received $2,315,000 in cash. Interest expense for the year ended December 31, 2002 had been reduced by $1,711,000 from the benefit of the swap while active and by the amortization of the adjustment to the fair value subsequent to the sale of the swap.
Income Taxes. Our effective tax rate for continuing operations for the year ended December 31, 2002, increased to 35.0% from 33.9% for the comparable prior year period. The increase was primarily due to a change in our earnings mix to jurisdictions with higher tax rates. Also in 2001, the costs for the manufacturing restructuring plan were recorded in tax jurisdictions with tax rates higher than our effective rate, which caused the overall effective rate for 2001 to be lower than would normally be expected. Excluding the impact of the after-tax manufacturing costs and goodwill amortization in both 2002 and 2001, the effective tax rate would have increased to 35.2% from 32.2%.
Income From Continuing Operations and Net Income. Income from continuing operations for the year ended December 31, 2002 increased $6,066,000, or 22.8%, to $32,622,000, or $1.21 per common share compared to $26,556,000, or $0.99 per common share, for the year ended December 31, 2001 on a diluted basis.
Liquidity and Capital Resources
We generated $49,990,000 of net cash from continuing operations for 2003. We experienced an increase in inventories in North America, Europe and China. The increase in inventory in North America is primarily due to planned increases in imported raw materials and finished goods to support our delivery capability as we extend our supply chain to lower cost regions, as well as an increase in inventory to support increased retail business. The increase in inventory in Europe is primarily due to increased safety stock growth to cover planned distribution relocations and to support the delivery
26
requirements of OEM customers in Europe. The increase in inventory in China is the result of our wholly-owned manufacturing plant start-up operations. We had reductions in accounts receivable in Europe and China, partially offset by increased accounts receivable in North America. The increase in North America is due to increased unit sales. The increasesales volume. We funded $6,800,000 into our pension plans in Europe is due to the Cazzaniga acquisition and increased unit sales, which
were partially offset by the devaluation of the Euro against the U.S. dollar.
Gross profit increased $11,676,000 (14.0%) to $95,166,000 and remained
constant as a percentage of net sales at 36.4 percent. This increase is
attributable to increased net sales during the period.
During the periodyear ended December 31, 19992003.
We used $37,045,000 of net cash for investing activities. We invested $20,035,000 in capital equipment for the Company recorded a
restructuring charge of $1,460,000 before taxes. The charge was comprised of
severance costs of $1,299,000, and contract termination costs of $134,000 and
other exit costs of $27,000. The Company consolidated certain Italian
manufacturing and warehouse facilities into the Cazzaniga facility in Biassono,
Italy. This project, which included the termination of 29 employees, was
completed during Fiscal 2000. Total program costs did not differ materially from
the original estimate.
Selling, general and administrative expenses increased $5,779,000 (9.9%)
to $64,148,000. This increase is primarily attributable to inclusion of the
selling, general and administrative expenses of Cazzaniga and increased variable
selling expenses, primarily commissions and freight costs.
Operating income in the six monthsyear ended December 31, 1999 increased
$4,437,000 (17.7%) to $29,558,000 due to the increased gross profit. Without the
restructuring charge operating income would have increased by 23.5% and
increased as a percentage of sales from 11.0% to 11.9%.
The Company's operating income by segment for the six months ended
December 31, 1999 and 1998 was as follows:
12/31/99 12/31/98 Change
-------- -------- ------
North America $27,793 $25,684 $2,109
Europe 7,252 5,682 1,570
Asia 731 822 (91)
Corporate (6,218) (7,067) 849
------- ------- ------
Total $29,558 $25,121 $4,437
======= ======= ======
The increase in North America is due to increased net sales. The increase
in Europe is primarily due to increased net sales and the Cazzaniga acquisition,
which were partially offset by the restructuring charge.
Interest expense increased $1,783,000 in the six months ended December 31,
1999, primarily due to increased levels of debt associated with the acquisition
of Cazzaniga.
12
The Company's effective tax rate for continuing operations increased from
32.1% to 35.2%. The increase is attributable to acquired companies operating in
higher tax rate jurisdictions than the rest of the Company, tax planning
strategies favorably impacting fiscal 1998 only and a revised tax structure
required to effect the Distribution.
Net income from continuing operations for the six months ended December
31, 1999 increased $1,243,000 (8.2%) to $16,468,000 or $.61 per common share
compared to $.56 per common share for the six months ended December 31, 1998 on
a diluted basis. Net income from continuing operations exclusive of the
restructuring charge would have increased $2,104,000 to $17,329,000 or $.64 per
common share on a diluted basis. The impact of foreign exchange, primarily due
to the devaluation of the Euro against the U.S. dollar, decreased net income
$.02 per common share on a diluted basis in the period ended December 31, 1999.
For the six months ended December 31, 1999, discontinued operations
generated a net loss of $1,226,000 ($0.05 per share), compared to net income of
$8,419,000 ($0.31 per share) for six months ended December 31, 1998. Results for
the six months ended December 31, 1999 were negatively impacted by an after tax
charge of $2,433,000 for spin-off related costs, including professional fees,
facility relocation costs and income tax costs associated with the reorganizing
the Company's legal entity structure in anticipation of the spin-off. Excluding
this charge, discontinued operations would have had net income of $1,207,000
($0.05 per share) for the six months ended December 31, 1999. Net sales for the
discontinued operations for the three months ended September 30, 1999 were
$76,957,000, a decrease of $3,699,000 (4.6%) from the comparable period in 1998.
The decrease in net sales is primarily attributable to lower demand for oil and
gas valve products. Declining prices, resulting from increased competition;
reduced manufacturing levels, resulting in lower absorption of fixed
manufacturing costs; and costs associated with the integration of acquired
companies negatively impacted operating profits during the six months ended
December 31, 1999. Additional details of the spin-off transaction are provided
in Note 3 of the Notes to the Consolidated Financial Statements.
Results of Operations
Twelve Months Ended June 1999 Compared to
Twelve Months Ended June 1998
Net sales for the twelve months ended June 30, 1999 increased by
$33,134,000 (7.5%) to $477,869,000 from $444,735,000 in the fiscal year ended
June 30, 1998. The increase in net sales is attributable to the following:
Internal Growth $26,208 5.9%
Acquisitions 10,095 2.3%
Divestitures (3,386) (0.8%)
Foreign Exchange 217 0.1%
------- ----
Total Change $33,134 7.5%
======= ====
The increase in net sales from internal growth is primarily attributable
to increased unit shipments in the North American segment. The growth in net
sales due to acquired companies is primarily attributable to the inclusion of
Cazzaniga S.p.A. of Biassono, Italy, which was acquired in March, 1999.
Excluding Cazzaniga, shipments in the European segment were consistent with the
prior year.
The Company monitors its net sales in three geographical segments: North
America, Europe and Asia. As outlined below, North America, Europe and Asia
accounted for 77.9%, 19.4% and 2.7% of net sales, respectively, in the twelve
months ended June 30, 1999 compared to 78.2%, 18.7% and 3.1%, respectively in
the twelve months ended June 30, 1998. The Company's net sales in these groups
for fiscal 1999 and 1998 were as follows:
6/30/99 6/30/98 Change
-------- -------- -------
North America $372,220 $348,004 $24,216
Europe 92,631 82,837 9,794
Asia 13,018 13,894 (876)
-------- -------- -------
Total $477,869 $444,735 $33,134
======== ======== =======
13
The increase in net sales in North America is primarily due to increased
unit shipments. The increase in Europe is due primarily to the acquisition of
Cazzaniga.
The Company's gross profit increased $12,541,000 (7.7%) to $175,124,000.
The increased gross profit is primarily attributable to increased sales. Gross
margin remained consistent at 36.6% in both fiscal 1999 and 1998.
Selling general and administrative expenses increased $7,774,000 (6.7%) to
$123,286,000. This increase is attributable to the inclusion of the expenses of
Cazzaniga, and increased variable selling expenses including commissions and
freight costs.
Operating income from continuing operations increased $4,767,000 (10.1%)
from $47,071,000 to $51,838,000 primarily due to increased gross profit.
The Company's operating income by segment for the twelve months ended June
30, 1999 and 1998 were as follows:
6/30/99 6/30/98 Change
-------- -------- ------
North America $ 54,094 $ 51,456 $2,638
Europe 11,228 8,258 2,970
Asia 1,608 1,984 (376)
Corporate (15,092) (14,627) (465)
-------- -------- ------
Total $ 51,838 $ 47,071 $4,767
======== ======== ======
The increase in North America is due to increased net sales and increased
gross profit. The increase in Europe is primarily due to the inclusion
Cazzaniga.
Other expense from continuing operations increased $1,256,000 to
$1,688,000. This increase is attributable to the Company's share of losses
related to its equity investment in Jameco International LLC. Increased minority
interest expense resulting from the improved performance at the Company's joint
venture in China also contributed to the increase in other expense.
Income from continuing operations increased $1,331,000 (4.7%) to
$29,454,000. This increase is primarily attributable to the income generated by
acquired companies and increased gross profit from existing companies.
The Company's consolidated results of operations are impacted by the
effect that changes in foreign exchange rates have on its international
subsidiaries operating results. Changes in foreign exchange rates had an
immaterial impact on net income in fiscal 1999.
Net income from discontinued operations was $6,502,000 ($0.24 per share)
for fiscal 1999, compared to $25,246,000 ($0.92 per share) for fiscal 1998 on a
diluted basis. Fiscal 1999 results were negatively impacted by an after tax
charge of $6,166,000 for spin-off related costs, including professional fees,
facility relocation costs and income tax costs associated with the reorganizing
of the Company's legal entity structure in anticipation of the spin-off. The
Company also recorded a charge to discontinued operations of $5,000,000
($3,000,000 net of tax), for legal expenses associated with the litigation
involving James Jones Company. James Jones Company was a subsidiary of the
Company in the municipal water works division until September 1996 when it was
sold to Tyco International Ltd. See Part I, Item 1, "Product Liability,
Environmental and Other Litigation Matters." Excluding these charges,
discontinued operations would have had net income of $15,668,000 ($0.58 per
share) for fiscal 1999. Net sales for the discontinued operations for fiscal
1999 were $321,711,000, an increase of $33,822,000 (11.7%) from fiscal 1998. The
increase in net sales is primarily attributable to the inclusion of net sales
from acquired companies. Excluding the impact of acquisitions, net sales of
domestic oil and gas valves declined 29.8% and net sales of international oil
and gas valves declined 20.9% during fiscal 1999. Declining prices, resulting
from increased competition; and reduced manufacturing levels, resulting in lower
absorption of fixed manufacturing costs, negatively impacted operating profits
during fiscal 1999. Additional details of the spin-off transaction are provided
in the Notes to the Consolidated Financial Statements (Note 3).
14
Liquidity and Capital Resources
During the twelve month period ended December 31, 2000, the Company
generated $57,754,000 in cash flow from continuing operations, an increase of
$15,554,000 (36.9%) over the comparable prior year period. The company's
continued emphasis on asset management has increased free cash flow (cash
provided by continuing operations less dividends and capital expenditures)
during the twelve months ended December 31, 2000 to $36,409,000 versus
$8,616,000 in the comparable prior year period. The Company has also increased
earnings before interest, taxes, depreciation and amortization (EBITDA) for
continuing operations 7.0% to $78,353,000 for the twelve months ended December
31, 2000 compared with $73,195,000 for the twelve months ended December 31,
1999. This improvement in cash flow has enabled the Company to reduce its long
term debt by $21,430,000 while completing and funding the acquisitions of
Heatway and Spacemaker, funding the purchase of $14,238,000 in capital equipment
and paying cash dividends to common shareholders.2003. Capital expenditures were primarily for manufacturing machinery and equipment as part of the Company'sour ongoing commitment to continuously improve itsour manufacturing capabilities. The Company'stwo largest components of this expenditure were for a building added to our Shida joint venture facility in Taizhou, China and for additional machinery and equipment for our wholly-owned manufacturing plant in Tianjin, China. We expect to invest approximately $18,500,000 in capital expenditure budgetequipment in 2004.
On January 29, 2003, we invested an additional $3,040,000 in our Shida joint venture, bringing our total amount to approximately $8,040,000. This joint venture is owned 60% by us and 40% by our Chinese partner. On May 6, 2003 we paid $3,750,000 of debt owed to the former shareholders of Hunter Innovations, leaving a balance of $11,250,000 remaining to be paid. In addition, on April 18, 2003, we paid approximately $1,600,000 to acquire Martin Orgee UK Limited, and on July 30, 2003, we paid approximately $10,600,000, which is net of cash acquired of $1,400,000, to acquire Giuliani Anello S.r.l.
We generated $128,050,000 of net cash in financing activities. On December 10, 2003, we completed a public offering of 4,600,000 shares of newly issued Class A Common Stock at $19.00 per share. Net proceeds were approximately $82,500,000, after taking into account underwriter discounts and expenses associated with the transaction. We intend to use the net proceeds from the offering to fund potential acquisitions and for general corporate purposes.
On May 15, 2003, we completed a private placement of $125,000,000 of senior unsecured notes consisting of $50,000,000 principal amount of 4.87% senior notes due 2010 and $75,000,000 principal amount of 5.47% senior notes due 2013. We used the twelve months endednet proceeds from the private placement to purchase restricted treasury securities for repayment of principal of, and interest on, our $75,000,000 principal amount of 83/8% notes due December 31, 20011, 2003. On December 1, 2003 the principal of, and interest on, our $75,000,000 83/8% notes were paid with our restricted treasury securities. Additional net proceeds were used to repay approximately $32,000,000 outstanding under our Revolving Credit Facility. The balance of the net proceeds will be used for general corporate purposes. The payment of interest on the senior unsecured notes is $18,100,000.due semi-annually on May 15th and November 15th of each year. The senior unsecured notes were issued by the Company maintains aand are subordinated to our revolving line of credit facility, which is at the subsidiary level. The senior unsecured notes allow us to have (i) debt senior to the new notes in an amount up to $150,000,000 plus 5% of $100,000,000,our stockholders' equity and (ii) debtpari passu or junior to the senior unsecured notes to the extent we maintain compliance with a 2.00 to 1.00 fixed charge coverage ratio. The notes include a prepayment provision which expires March 2003,might require a make-whole payment to the note holders. Such payment is dependent upon the level of the respective treasuries. The notes include other customary terms and conditions, including events of default.
Our revolving credit facility with a syndicate of banks (as amended, the Revolving Credit Facility) provides for borrowings of up to $150,000,000 which includes a $75,000,000 tranche for euro-based borrowings and matures in February 2005. The Revolving Credit Facility is being used to support the Company'sour acquisition program, working capital requirements of acquired companies, and for general corporate purposes.
At December 31, 2000, the Company had $5,000,000 outstanding on the line of
credit and was in compliance with all banking covenants related to this
facility.
As of December 31, 2000, the Company maintained a syndicated credit
facility with a group of European banks in the amount of 23,600,000 Euros. This
credit facility has several tranches which provide credit to the Company for a
period through September 2004. The purpose of this credit facility is to fund
acquisitions in Europe, support the working capital requirements of acquired
companies, and for general corporate purposes. As of December 31, 2000,
19,000,000 Euros ($17,837,000)2003, long-term debt included $44,089,000 outstanding on the Revolving Credit Facility for euro-based borrowings and no amounts were borrowedoutstanding for U.S. dollar borrowings. This facility was amended during the fourth quarter of 2003 to permit us to enter into a guarantee of a $2,000,000
27
credit line utilized by our European subsidiaries and to allow us to use the proceeds from our December 2003 public offering for purposes other than the repayment of our credit facility.
Outstanding indebtedness under this linethe Revolving Credit Facility bears interest at a rate determined by the type (currency) of credit. On
January 4, 2001,loan plus an applicable margin determined by the Company increased this credit facility to 40,000,000 Euros.
This increaseCompany's debt rating, depending on the applicable base rate and our bond rating. The average interest rate for borrowings under the Revolving Credit Facility was utilized to fund the acquisition of Dumser Metallbau GmbH &
Co., KG on January 5, 2001. Dumser, located in Landau, Germany is a European
market leader in the manufacture and distribution of brass, steel, and stainless
steel manifolds used as the prime distribution device in hydronic heating
systems.
Working capitalapproximately 2.8% at December 31, 2000 was $137,142,000 compared to
$141,740,0002003. We have $105,911,000 of unused and available revolving credit at December 31, 1999.2003. The Revolving Credit Facility includes operational and financial covenants customary for facilities of this type, including, among others, restrictions on additional indebtedness, liens and investments and maintenance of certain leverage ratios. At December 31, 2003, we were in compliance with all covenants related to the Revolving Credit Facility.
Effective July 1, 2003, we entered into an interest rate swap for a notional amount of 25,000,000 euros outstanding under our Revolving Credit Facility. We swapped the variable rate from the Revolving Credit Facility which is three month EURIBOR plus 0.7% for a fixed rate of 2.33%. The term of the swap is two years. We have designated the swap as a hedging instrument using the cash flow method. The swap hedges the cash flows associated with interest payments on the first 25,000,000 euros of our Revolving Credit Facility. We mark to market the changes in value of the swap through other comprehensive income. Any ineffectiveness has been recorded in income. The fair value recorded in other comprehensive income as of December 31, 2003 was $46,000.
On November 4, 2003, we declared a quarterly dividend of $0.07 per share on our common stock. This was an increase of $0.01 per share over the dividends paid in each of the ten previous quarters. Dividends increased to $6,859,000 in 2003 from $6,490,000 in 2002.
We used $6,643,000 of net cash for discontinued operations. During the year ended December 31, 2003, we received $3,139,000 in cash as an indemnification payment for settlement costs we incurred in the James Jones case. This cash has been recorded as a liability at December 31, 2003 because of the possibility that we might have to reimburse the insurance company if it is ultimately successful with a future appeal. We also received $2,932,000 in cash for reimbursement of defense costs related to the James Jones case. We paid $2,283,000 for defense costs and $2,859,000 for indemnity costs we incurred in the James Jones case. Additionally, on September 2, 2003 we paid $11,000,000 relating to a settlement agreement in the James Jones case. See Part I, Item 1, "Business—Product Liability, Environmental and Other Litigation Matters."
Working capital (defined as current assets less current liabilities) as of December 31, 2003 was $308,135,000 compared to $71,384,000 as of December 31, 2002. This increase is primarily due to the net proceeds received from the $125,000,000 private placement and the stock offering that raised net cash of approximately $82,500,000. The ratio of current assets to current liabilities was 2.22.8 to 1 atas of December 31, 2000 and 2.32003 compared to 1.3 to 1 atas of December 31, 1999.2002. Cash and cash equivalents were $15,235,000 at$149,361,000 as of December 31, 2000,2003 compared to $13,016,000 at$10,973,000 as of December 31, 1999. Debt2002. Our total debt increased to $192,312,000 as a percentage of totalDecember 31, 2003 from $138,487,000 as of December 31, 2002 primarily due to the issuance of our $125,000,000 senior notes reduced by the repayment of our $75,000,000 principal amount of 83/8% notes due December 1, 2003.
We had positive free cash flow of $24,861,000 (defined as net cash provided by continuing operations minus capital employed
(short termexpenditures and dividends plus proceeds from sale of assets) during the year ended December 31, 2003 versus positive free cash flow of $28,536,000 in the comparable prior year period. This decrease in 2003 compared to 2002 was primarily due to increased inventories, pension funding of $6,800,000 and increased dividends partially offset by increases in accounts payable and reductions in accounts receivable. The effect of the free cash flow and proceeds from our stock offering has been to reduce our net debt to capitalization ratio (defined as short and long term debtinterest-bearing liabilities less cash and cash equivalents as a percentage of the sum of short term and long term interest-
28
bearing liabilities less cash and cash equivalents plus total stockholders equity, including minority interest) to 8.8% for 2003 from 29.4% for 2002.
We believe free cash flow to be an appropriate supplemental measure of the operating performance of our Company because it provides investors with a measure of our ability to repay debt plus equity) was 31.4% at December 30, 2000 comparedand to 37.1% at
December 31, 1999.
The Company anticipatesfund acquisitions. Our computation may not be comparable to other companies that may define free cash flow differently. Free cash flow does not represent cash generated from operating activities in accordance with GAAP. Therefore it should not be considered an alternative to net cash flows from operating activities as an indication of our performance. Free cash flow should also not be considered an alternative to net cash flows from operating activities as defined by GAAP.
A reconciliation of free cash flow to net cash provided by continuing operations is provided below:
| | Years Ended December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||
| | (in thousands) | |||||||||
| Net cash provided by continuing operations | $ | 49,990 | $ | 51,425 | $ | 51,237 | ||||
| Less: additions to property, plant, and equipment | (20,035 | ) | (19,593 | ) | (16,047 | ) | ||||
| Plus: proceeds from the sale of property, plant, and equipment | 1,765 | 3,194 | 267 | |||||||
| Less: dividends | (6,859 | ) | (6,490 | ) | (6,422 | ) | ||||
| Free cash flow | $ | 24,861 | $ | 28,536 | $ | 29,035 | ||||
Our net debt to capitalization is not computed in accordance with GAAP. Management believes it to be an appropriate supplemental measure because it helps investors understand our ability to meet our financing needs. Our computation may not be comparable to other companies that may define debt to capitalization differently.
A reconciliation of net debt is provided below:
| | December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||
| | (in thousands) | ||||||
| Current portion of long-term debt | $ | 13,251 | $ | 82,211 | |||
| Plus: long-term debt, net of current portion | 179,061 | 56,276 | |||||
| Less: cash and cash equivalents | (149,361 | ) | (10,973 | ) | |||
| Net debt | $ | 42,951 | $ | 127,514 | |||
A reconciliation of capitalization is provided below:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Net debt | $ | 42,951 | $ | 127,514 | ||
| Total stockholders' equity | 436,391 | 295,936 | ||||
| Plus: minority interest | 9,286 | 10,134 | ||||
| Capitalization | $ | 488,628 | $ | 433,584 | ||
We anticipate that available funds and those funds provided from current operations, existing cash and other sources of liquidity will be sufficient to meet current operating requirements and anticipated capital expenditures for at least the next 2412 months. However, we may have to consider external sources of financing for any large future acquisitions. Our current Revolving Credit Facility expires in February 2005. We are
29
currently reviewing proposals from our syndicate of banks with the intention of structuring a new revolving line of credit.
Our long-term contractual obligations as of December 31, 2003 are presented in the following table:
| | Payments Due by Period | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Contractual Obligations | Total | Less than 1 year | 1-3 years | 3-5 years | More than 5 years | ||||||||||
| | (in thousands) | ||||||||||||||
| Long-term debt obligations, including current maturities(a) | $ | 192,312 | $ | 13,251 | $ | 52,551 | $ | 1,111 | $ | 125,399 | |||||
| Operating lease obligations | 9,615 | 1,992 | 3,531 | 2,362 | 1,730 | ||||||||||
| Capital lease obligations | 1,364 | 653 | 579 | 132 | — | ||||||||||
| Total | $ | 203,291 | $ | 15,896 | $ | 56,661 | $ | 3,605 | $ | 127,129 | |||||
We maintain letters of credit that guarantee our performance or payment to third parties in accordance with specified terms and conditions. Amounts outstanding were approximately $29,880,000 as of December 31, 2003 and $19,522,000 as of December 31, 2002. Our letters of credit are primarily letters of credit associated with insurance coverage and to a lesser extent foreign purchases. Our letters of credits generally expire within one year of issuance. The Companyincrease is primarily associated with insurance coverage. These instruments may exist or expire without being drawn down. Therefore, they do not necessarily represent future cash flow obligations.
Critical Accounting Policies and Key Estimates
The preparation of our consolidated financial statements in accordance with GAAP requires management to make judgments, assumptions and estimates that effect the amounts reported. A critical accounting estimate is an assumption about highly uncertain matters and could have a material effect on the consolidated financial statements if another, also reasonable, amount were used, or, a change in the estimate is reasonably likely from timeperiod to time is involved withperiod. We base our assumptions on historical experience and on other estimates that we believe are reasonable under the circumstances. Actual results could differ significantly from these estimates. Except as noted in product liability environmental proceedingsand pension benefits below, there were no changes in accounting policies or significant changes in accounting estimates during 2003.
We have discussed the development, selection and disclosure of the estimates with the Audit Committee. Management believes the following critical accounting policies reflect its' more significant estimates and assumptions.
Revenue recognition
We recognize revenue when all of the following criteria are met: (1) we have entered into a binding agreement, (2) the product has shipped and title has passed, (3) the sales price to the customer is fixed or is determinable and (4) collectibility is reasonably assured. We recognize revenue based upon a determination that all criteria for revenue recognition have been met, which, based on the majority of our shipping terms, is considered to have occurred upon shipment of the finished product. Some shipping terms require the goods to be received by the customer before title passes. In those instances, revenues are not recognized until the customer has received the goods. We record estimated reductions to revenue for customer returns and allowances and for customer programs. Provisions for returns and allowances are made at the time of sale, derived from historical trends and form a portion of the
30
allowance for doubtful accounts. Customer programs, which are primarily annual volume incentive plans, allow customers to earn credit for attaining agreed upon purchase targets from us. We record customer programs as an adjustment to net sales.
Allowance for doubtful accounts
The allowance for doubtful accounts is established to represent our best estimate of the net realizable value of the outstanding accounts receivable. The development of our allowance for doubtful accounts varies by region but in general is based on a review of past due amounts, historical write-off experience, as well as aging trends affecting specific accounts and general operational factors affecting all accounts. In North America, management specifically analyzes individual accounts receivable and establishes specific reserves against financially troubled customers. In addition, factors are developed utilizing historical trends in bad debts, returns and allowances. The ratio of these factors to sales on a rolling twelve-month basis is applied to total outstanding receivables (net of accounts specifically identified) to establish a reserve. In Europe, management develops their bad debt allowance through an aging analysis of all their accounts, with analysis on the aging of specific delinquent accounts. In China, where payment terms are generally extended, we reserve all accounts receivable in excess of one year from the invoice date and specifically reserve for identified uncollectible accounts receivable less than one year old.
We uniformly consider current economic trends and changes in customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. We also aggressively monitor the credit worthiness of our largest customers, and periodically review customer credit limits to reduce risk. If circumstances relating to specific customers change or unanticipated changes occur in the general business environment, our estimates of the recoverability of receivables could be further adjusted.
Inventory valuation
Inventories are stated at the lower of cost or market with costs generally determined on a first-in first-out basis. We utilize both specific product identification and historical product demand as the basis for determining our excess or obsolete inventory reserve. We identify all inventories that exceed a range of one to three years in sales. This is determined by comparing the current inventory balance against unit sales for the trailing twelve months. New products added to inventory within the past twelve months are excluded from this analysis. A portion of our products contain recoverable materials, therefore the excess and obsolete reserve is established net of any recoverable amounts. Changes in market conditions, lower than expected customer demand or changes in technology or features could result in additional obsolete inventory that is not saleable and could require additional inventory reserve provisions.
In certain countries, additional inventory reserves are maintained for potential losses experienced in the manufacturing process. The reserve is established based on the prior year's inventory losses adjusted for any change in the gross inventory balance.
Goodwill and other litigation proceedingsintangibles
We adopted Financial Accounting Standards Board Statement No. 142 "Goodwill and incurs costsOther Intangible Assets" (FAS 142) on an ongoing basis related to these matters. WithJanuary 1, 2002, and as a result we no longer amortize goodwill. Goodwill and intangible assets with indefinite lives are tested annually for impairment in accordance with the exceptionprovisions of the charge
related to the James Jones Litigation, the Company has not incurred material
expendituresFAS 142. We use judgment in fiscal 2000assessing whether assets may have become impaired between annual impairment tests.
Intangible assets such as purchased technology are generally recorded in connection with any of these matters. See Part I,
Item 1, "Product Liability, Environmental and Other Litigation Matters".
Conversion To The Euro
On January 1, 1999, 11 ofa business acquisition. In our larger, more complex acquisitions, the 15 member countries of the European Union
adopted the Euro as their common legal currency and established fixed conversion
rates between their existing sovereign currencies and the Euro. The Euro tradesvalue assigned to intangible assets is
31
determined by an independent valuation firm based on currency exchanges and is available for non-cash transactions. The Euro
effects the Company as the Company has manufacturing and distribution facilities
in several of the member countries and trades extensively across Europe. The
long-term competitive implications of the conversion are currently being
assessed by the Company, however, the Company has experienced a reduction in the
risks associated with foreign exchange. At this time, the Company is not
anticipating that any significant costs will be incurred due to the introduction
and conversion to the Euro. The Company is in the process of implementing
systems to receive and make payments in Euros. The Company anticipates these
systems will be in place by January 1, 2002.
15
Responsibility for Financial Statements
The Company is responsible for the objectivity and integrity of the
accompanying consolidated financial statements, which have been prepared in
conformity with accounting principles generally accepted in the United States.
The financial statements of necessity include the Company's estimates and judgments relating to matters not concluded by year-end. Financial information
contained elsewhere in the Annual Report and Form 10-K is consistent with that
included in the financial statements.
The Company maintains a system of internal accounting controls. Although
there are inherent limitations to the effectiveness of any system of accounting
controls, the Company believes that its system provides reasonable, but not
absolute, assurance that its assets are safeguarded from unauthorized use or
disposition and that its accounting records are sufficiently reliable to permit
the preparation of financial statements that conform in all material respects
with accounting principles generally accepted in the United States.
KPMG LLP, independent auditors, are engaged to render an independent
opinion regarding the fair presentation in the financial statementsexpectations of the Company's financial conditionsuccess and operating results. Their report appears on
page 27. Their examination was made in accordance with auditing standards
generally accepted inlife cycle of products and technology acquired.
This is the United Statessecond year since adoption, and included a reviewfor both years we have had excess economic support for the carrying value of the systemour goodwill and intangibles. While we believe that our estimates of internal accounting controls to the extent they considered necessary to
determine the audit procedures required to support their opinion.
The Audit Committee of the Board of Directors is composed solely of
independent directors,future cash flows are reasonable, different assumptions regarding such factors as defined by the New York Stock Exchange. The Committee
meets periodicallyfuture sales volume, selling price changes, material cost changes, cost savings programs and privately with the independent auditors and financial
officers of the Company, as it deems necessary, to review the quality of the
financial reporting of the Company and the internal accounting controls. The
Committee also reviews compliance with the Company's relationship with the
independent auditors. In addition, the Committee is responsible for recommending
the appointment of the Company's independent auditors.capital expenditures could significantly affect our valuations. Other This report on Form 10-Kchanges that may include statements which are not historical
facts and are considered forward looking within the meaning of the Private
Securities Litigation Reform Act of 1995. These forward looking statements
reflect Watts Industries' current views about future events and financial
performance. Investors should not rely on forward looking statements, because
they are subject to a variety of risks, uncertainty, and other factors that
could cause actual results to differ materially from Watts Industries
expectations and Watts Industries expressly does not undertake any duty to
update forward looking statements. These factorsaffect our valuations include, but are not limited to product acceptances and regulatory approval. If actual product acceptance differs significantly from the following:estimates, we may be required to record an impairment charge to write down the assets to their realizable value. A severe decline in market value could result in an unexpected impairment charge to goodwill, which could have a material impact on the results of operations and financial position.
Product liability and workers compensation costs
Because of retention requirements associated with our insurance policies, we are generally self-insured for potential product liability claims and for workers' compensation costs associated with workplace accidents. For product liability cases in the U.S., management estimates expected settlement costs by utilizing stop loss reports provided by our third party administrators as well as developing internal historical trend factors based on our specific claims experience. Prior to 2003, we used insurance carrier trend factors to determine our product liability reserves. However, we determined circumstances inherent in those trends were not necessarily indicative of market share through competition, introductionour own circumstances regarding our claims. Management believes the internal trend factors will more accurately reflect final expected settlement costs. In other countries, we maintain insurance coverage with relatively high deductible payments, as product liability claims tend to be smaller than those experienced in the U.S. Changes in the nature of competing products by other companies, pressure on prices from competitors,
suppliers, and/claims or customers regulatory obstacles, lackthe actual settlement amounts could affect the adequacy of acceptance of new
products,this estimate and require changes to the provisions.
Workers compensation liabilities in plumbingthe U.S. are recognized for claims incurred (including claims incurred but not reported) and heating markets, changes in global demand for
the Company's products, changes for distribution of the Company's products,
interest rates, foreign exchange fluctuations, cyclicality of industries in
which the Company markets certain of its products, and general economic factors
in markets where the Company's products are sold, manufactured, or marketed, changes in the status of current litigations, includingindividual case reserves. At the James Jones case,time a workers' compensation claim is filed, a liability is estimated to settle the claim. The liability for workers' compensation claims is determined based on management's estimates of the nature and severity of the claims and based on analysis provided by third party administrators and by various state statutes and reserve requirements. We have developed our own trend factors based on our specific claims experience. In other factors discussed incountries where workers compensation costs are applicable, we maintain insurance coverage with limited deductible payments. Because the Company's report filed withliability is an estimate, the Securities
and Exchange Commission.
Certain Factors Affecting Future Results
This report includes forward looking statements which reflect Watts
Industries' current views about future events and financial performance. Forward
looking statements do not relate strictly to historical or current facts andultimate liability may be identified by their usemore or less than reported.
We maintain excess liability insurance with outside insurance carriers to minimize our risks related to catastrophic claims in excess of words like "plan", "believe", "expect", "will",
"anticipate", "estimate" and other words of similar meaning. Investors should
not rely on forward looking statements because they are subject to a variety of
risks, uncertainties, and other factors that could cause actual results to
differ materially from our expectations. Some important factors that could cause
our actual results to differ materially from those projected in any such forward
looking statements are as follows:
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Down economic cycles, particularly reduced levels of housing starts and
remodeling, have an adverse affect on our business and revenues.
The businesses of most of our customers, particularly plumbing and heating
wholesalers and home improvement retailers, is cyclical. Therefore, the level of
the Company's business activity has been cyclical, fluctuating with economic
cycles, in particular, with housing starts and remodeling levels. Housing starts
and remodeling are, in turn, heavily influenced by mortgage interest rates,
consumer debt levels, changes in disposable income, employment growth, consumer
confidence and, on a short term basis, weather conditions. There can be no
assurance that a downturn in these factors affecting housing starts and
remodeling will not occur and if housing and remodeling starts are materially
reduced, it is likely such reduction would have aall self-insured positions. Any material adverse effect on the
Company due to reduced revenue.
Economic, Political And Other Risks Associated With International Sales And
Operations Could Adversely Affect Our Business
Since we sell our products worldwide, our business is subject to risks
associated with doing business internationally. Our sales outside North America,
as a percentage of our total sales, was 22% in 2000. Accordingly, our future
results could be harmed by a variety of factors, including:
o changes in foreign currency exchange rates;
o changes in a specific country's or region's political or economic
conditions, particularly in emerging markets;
o trade protection measures and import or export licensing
requirements;
o potentially negative consequences from changes in tax laws;
o difficulty in staffing and managing widespread operations;
o differing labor regulations;
o differing protection of intellectual property; and
o unexpected changes in regulatory requirements.
Reductions in the supply of raw materials and increases in the prices of raw
materials could adversely affect our operating results
We require substantial amounts of raw materials (bronze, brass, cast iron)
and substantially all raw materials we require are purchased from outside
sources. The availability and prices of raw materials may be subject to
curtailment or change due to, among other things, new laws or regulations,
suppliers' allocations to other purchasers, interruptions in production by
suppliers, changes in exchange rates and worldwide price levels. Any change in the supply of, or price for, these raw materialsaforementioned factors could adversely affect our
operating results.
Fluctuations in Foreign Exchange Rates could materially affect our reported
results
Exchange rates between the United States dollar, in which our results are
and will be reported, and the local currency in the countries in which we
provide many of our services, may fluctuate from quarter to quarter. Since we
report our interim and annual results in United States dollars, we are subject
to the risk of currency fluctuations. When the dollar appreciates against the
applicable local currency in any reporting period, the actual earnings generated
by our services in that country are diminished in the conversion.
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We are exposed to fluctuations in foreign currencies as a significant
portion of our revenue, and certain of our costs, assets and liabilities, are
denominated in currencies other than U.S. dollars. Approximately 22% of our
revenue during 2000 was from sales outside of North America. For the twelve
months ended December 31, 2000 the depreciation of the Euro against the U.S.
dollar hadhave an adverse impact on revenueour operating results.
Legal contingencies
We are a defendant in numerous legal matters including those involving environmental law and product liability as discussed further in Note 15 of $15,958,000Notes to Consolidated Financial Statements. As required by Financial Accounting Standards Board Statement No. 5 "Accounting for Contingencies" (FAS 5), we determine whether an estimated loss from a loss contingency should be accrued by assessing whether a loss is deemed probable and on earnings per sharethe loss amount can be reasonably estimated, net of $.05. Our shareany applicable insurance proceeds. Estimates of revenuepotential outcomes of these contingencies are developed in non-dollar denominated currencies may continueconsultation with outside counsel. While this assessment is based upon all available information, litigation is inherently uncertain and the actual liability to increasefully resolve this litigation
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cannot be predicted with any assurance of accuracy. Final settlement of these matters could possibly result in future periods. We can offer no assurance that exchange rate
fluctuations will not have a material adverse effectsignificant effects on our results of operations, cash flows and financial condition.position.
Pension benefits
We Face Intense Competitionaccount for our pension plans in accordance with Financial Accounting Standards Board Statement No. 87 "Employers Accounting for Pensions" (FAS 87). In applying FAS 87, assumptions are made regarding the valuation of benefit obligations and the performance of plan assets. The primary assumptions are as follows:
We determine these assumptions based on consultation with outside actuaries and investment advisors. Any variance in the above assumptions could have a significant impact on future recognized pension costs, assets and liabilities.
Income taxes
We estimate and use our expected annual effective income tax rates to accrue income taxes. Effective tax rates are determined based on budgeted earnings before taxes including our best estimate of permanent items that will impact the effective rate for the year. Management periodically reviews these rates with outside tax advisors and changes are made if material discrepancies from expectations are identified.
We recognize deferred taxes for the expected future consequences of events that have been reflected in the consolidated financial statements in accordance with the rules of Financial Accounting Standards Board Statement No. 109 "Accounting for Income Taxes" (FAS 109). Under FAS 109, deferred tax assets and liabilities are determined based on differences between the book values and tax bases of particular assets and liabilities, using tax rates in effect for the years in which the differences are expected to reverse. A valuation allowance is provided to offset any net deferred tax assets if, based upon the available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized. We consider estimated future taxable income and ongoing prudent tax planning strategies in assessing the need for a valuation allowance.
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Certain Factors Affecting Future Results
We face intense competition and, if we are not able to respond to competition in our markets, our revenues may decrease.
Competitive pressures in our markets could adversely affect our competitive position, leading to a possible loss of market share or a decrease in prices, either of which could result in decreased revenues and profits. We encounter intense competition in all areas of our business. Additionally, customers for our products are attempting to reduce the number of vendors from which they purchase in order to reduce the size and diversity of their inventory.inventories and their transaction costs. To remain competitive, we will need to invest continuously in manufacturing, marketing, customer service and support and our distribution networks. We may not have sufficient resources to continue to make such investments and we may be unable to maintain our competitive position. In addition, we anticipate that we may have to adjustreduce the prices of some of our products to stay competitive.competitive, potentially resulting in a reduction in the profit margin for, and inventory valuation of, these products. Some of our competitors are based in foreign countries and have cost structures and prices in foreign currencies. Accordingly, currency fluctuations could cause our U.S. dollar-priced products to be less competitive than our competitors' products which are priced in other currencies.
Reductions or interruptions in the supply of raw materials and increases in the costs of raw materials could reduce our profit margins and adversely impact our ability to meet our customer delivery commitments.
We require substantial amounts of raw materials, including bronze, brass, cast iron, steel and plastic and substantially all of the raw materials we require are purchased from outside sources. The availability and costs of raw materials may be subject to curtailment or change due to, among other things, new laws or regulations, suppliers' allocations to other purchasers, interruptions in production by suppliers and changes in exchange rates and worldwide price and demand levels. We are not currently party to any long-term supply agreements. Our inability to obtain adequate supplies of raw materials for our products at favorable costs, or at all, could have a material adverse effect on our business, financial condition or results of operations by decreasing our profit margins and by hindering our ability to deliver products to our customers on a timely basis. Recently, we have experienced an increase in the costs of bronze, brass, cast iron, and steel. If we are not able to reduce or eliminate the effect of these cost increases through lowering other costs of production or successfully implementing price increases to our customers, such cost increases from our vendors could have a negative effect on our financial results.
Implementation of our acquisition strategy may not be successful, which could affect our ability to increase our revenues or our profitability.
One of our strategies is to increase our revenues and profitability and expand our markets through acquisitions that will provide us with complementary water-related products. We cannot assure yoube certain that we will be able to identify, acquire or profitably manage additional companies or successfully integrate such additional companies without substantial costs, delays or other problems. Also, companies acquired recently and in the future may not achieve revenues, profitability or cash flows that justify our investment in them. We expect to spend significant time and effort in expanding our existing businesses and identifying, completing and integrating acquisitions. We have sufficient
resourcesfaced increasing competition for acquisition candidates which have resulted in significant increases in the purchase prices of many acquisition candidates. This competition, and the resulting purchase price increases, may limit the number of acquisition opportunities available to us, possibly leading to a decrease in the rate of growth of our revenues and profitability. In addition, acquisitions may involve a number of special risks, including, but not limited to:
34
Down economic cycles, particularly reduced levels of housing starts and remodeling, could have an adverse effect on our revenues and operating results.
We have experienced and expect to continue to make such investmentsexperience fluctuations in revenues and operating results due to economic and business cycles. The businesses of most of our customers, particularly plumbing and heating wholesalers and home improvement retailers, are cyclical. Therefore, the level of our business activity has been cyclical, fluctuating with economic cycles. We also believe our level of business activity is influenced by housing starts and renovation and remodeling, which are, in turn, heavily influenced by interest rates, consumer debt levels, changes in disposable income, employment growth and consumer confidence. If these and other factors cause a material reduction in housing and remodeling starts, our revenues and profits would decrease and result in a material adverse effect on our financial condition and results of operations.
Economic, political and other risks associated with international sales and operations could adversely affect our business and future operating results.
Since we sell and manufacture our products worldwide, our business is subject to risks associated with doing business internationally. Our business and future operating results could be harmed by a variety of factors, including:
Fluctuations in foreign exchange rates could materially affect our reported results.
We are exposed to fluctuations in foreign currencies, as a significant portion of our sales and certain portions of our costs, assets and liabilities are denominated in currencies other than U.S. dollars. Approximately 37.2% of our sales during the year ended December 31, 2003 were from sales outside of the U.S. compared to 31.4% for the year ended December 31, 2002. For the year ended December 31, 2003, the appreciation of the euro against the U.S. dollar had a positive impact on sales
35
of approximately $31.1 million. For the year ended December 31, 2002, the appreciation of the euro against the U.S. dollar had a positive impact on sales of approximately $7.9 million. For the year ended December 31, 2001, the depreciation of the euro against the U.S. dollar had an adverse impact on sales of approximately $3.4 million. If our share of revenue in non-dollar denominated currencies continues to increase in future periods, exchange rate fluctuations will likely have a greater impact on our results of operations and financial condition. Further, the Chinese government may cease its utilization of a fixed rate of exchange of the Chinese RMB against the U.S. dollar which could adversely affect our current favorable cost structure for goods we source from our joint ventures, our wholly-owned subsidiary in China and our outside vendors.
There are significant risks in expanding our manufacturing operations in China.
As part of our strategy, we are shifting a significant portion of our manufacturing operations to China to reduce our production costs. Due to the outbreak of the SARS virus, some of these cost reduction efforts were delayed, and there can be no assurance that we will not experience additional delays. This shift will subject a greater portion of our operations to the risks of doing business in China. The Chinese legal system is relatively new and lacks transparency, which gives the Chinese central and local government authorities a higher degree of control over our business in China than is customary in developed economies and makes the process of obtaining necessary regulatory approval in China inherently unpredictable. In addition, the protection accorded our proprietary technology and know-how under the Chinese legal system is not as strong as in the United States and, as a result, we may lose valuable trade secrets and competitive advantage.
Although the Chinese government has been pursuing economic reform and a policy of welcoming foreign investments for the past two decades, there can be no assurance that the Chinese government will not change its current policies in the future, making continued business operations in China difficult or unprofitable.
To the extent we are not successful in implementing our manufacturing restructuring plan, our results of operations and financial condition could be adversely affected.
Our manufacturing restructuring plan, which we began in 2001, was initiated to reduce our manufacturing costs. If our planned manufacturing plant consolidations in the United States and Europe and our production capability expansion in China are not successful, our results of operations and financial condition could be materially adversely affected.
If we cannot continue operating our manufacturing facilities at current or higher utilization levels, our results of operations could be adversely affected.
The equipment and management systems necessary for the operation of our manufacturing facilities may break-down, perform poorly or fail, resulting in fluctuations in our ability to manufacture our products and to achieve manufacturing efficiencies. We operate a number of manufacturing facilities, all of which are subject to this risk, and such fluctuations at any of these facilities could cause an increase in our production costs and a corresponding decrease in our profitability. For example, in 2001 one of our manufacturing facilities was shut down for a period of time as a result of a fire and we were required to source products from external vendors at substantially higher costs. We also have a vertically-integrated manufacturing process. Each segment is dependent upon the prior process and any breakdown in one segment will adversely affect all later components. Fluctuations in our production process may affect our ability to deliver products to our customers on a timely basis. Our inability to meet our delivery obligations could result in a loss of our customers and negatively impact our business, financial condition and results of operations.
36
If we experience delays in introducing new products or if our existing or new products do not achieve or maintain market acceptance and regulatory approvals, our revenues and our profitability may decrease.
Our failure to develop new and innovative products or to custom design existing products could result in the loss of existing customers to competitors or the inability to attract new business, either of which may adversely affect our revenues. Our industry is characterized by:
We believe our future success will depend, in part, on our ability to anticipate or adapt to these factors and to offer, on a timely basis, products that meet customer demands and the requirements of plumbing codes and/or regulatory agencies. The development of new or enhanced products is a complex and uncertain process requiring the anticipation of technological and market trends. We may experience design, manufacturing, marketing or other difficulties, such as an inability to attract a sufficient number of experienced engineers, that could delay or prevent our development, introduction, approval or marketing of new products or enhancements and result in unexpected expenses. Such difficulties could cause us to lose business from our customers and could adversely affect our competitive position.
position; in addition, added expenses could decrease the profitability associated with those products that do not gain market acceptance.
Environmental Compliance Costs And Liabilities Could Adversely Affect Our
Financial Conditioncompliance costs and liabilities could increase our expenses or reduce our profitability.
Our operations and properties are subject to extensive and increasingly stringent laws and regulations relating to environmental protection, including laws and regulations governing air emissions, water discharges, waste management and disposal and workplace safety. Such laws and regulations can impose substantial fines and sanctions for violations and require the installation of costly pollution control equipment or operational changes to limit pollution emissions and/or decrease the likelihood of accidental hazardous substance releases. We must
conformalso could be required to halt one or more portions of our operations until a violation is cured. We could also be liable for the costs of property damage or personal injury to others. Although we attempt to operate in compliance with these environmental laws, we may not succeed in this effort at all times. The costs of curing violations or resolving enforcement actions that might be initiated by government authorities could be substantial.
Under certain environmental laws, the current and propertiespast owners or operators of real property may be liable for the costs of cleaning up contamination, even if they did not know of or were not responsible for such contamination. These laws also impose liability on any person who arranges for the disposal or treatment of hazardous waste at any site. Therefore, our ownership and operation of real property and our disposal of waste could lead to liabilities under these laws, and adapt to regulatory
requirements in all countries as these requirements change.laws.
We have experienced,incurred, and expect to continue to experience, operatingincur, costs relating to comply withthese environmental laws and regulations.matters. In addition, new laws and regulations, stricter enforcement of existing laws and regulations, the discovery of previously unknown contamination or the imposition of new clean up requirements could require us to incur additional costs or become the basis for new or increased liabilities that could have a material adverse effect onbe significant. Environmental litigation, enforcement and compliance are inherently uncertain and we may experience significant costs in connection with environmental matters. For more information, see Part I, Item 1, "Business—Product Liability, Environmental, and Other Litigation Matters."
37
Third parties may infringe our business,
financial conditionintellectual property and we may expend significant resources enforcing our rights or results of operations.
Third Parties May Infringe Our Intellectual Property, And We May Expend
Significant Resources Enforcing Our Rights Or Suffer Competitive Injury
Our success depends in part on our proprietary technology.suffer competitive injury.
We rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality provisions and licensing arrangements to establish and protect our proprietary rights. We may be required to spend significant resources to monitor and police our intellectual property rights. If we fail to successfully enforce our intellectual property rights, our competitive position could suffer, which could harm our operating results. We may be required to spend significant resources to monitor and police our
intellectual property rights.
If We Cannot Continue Operating Our Manufacturing Facilities At Current Or
Higher Levels, Our Results Of Operations Could Be Adversely Affected.
We operate a number of manufacturing facilities for the production of our
products. The equipment and management systems necessary for such operations may
break down, perform poorly or fail resulting in fluctuations in manufacturing
efficiencies. Such fluctuations may affect our ability to deliverhave been limited from selling products to
our customers on a timely basis which could have a material adverse effect on
our business, financial condition or results of operations.
18
If We Experience Delays In Introducing New Products Or If Our Existing Or New
Products Do Not Achieve Or Maintain Market Acceptance, Our Revenues May
Decrease.
Our industry is characterized by:
o intense competition;
o changes in end-user requirements;
o technically complex products; and
o evolving product offerings and introductions.
We believe our future success will depend, in part, on our ability to
anticipate or adapt to these factors and to offer, on a timely basis, products
that meet customer demands. Failure to develop new and innovative products or to
custom design existing products could result in the lossfrom time-to-time because of existing customers
to competitors or the inability to attract new business, either ofpatents.
We face risks from product liability and other lawsuits, which may adversely affect our revenues.
Implementation Of Our Acquisition Strategy May Not Be Successful Which Could
Affect Our Ability To Increase Our Revenues Or Reduce Our Profitability.
One of our strategies is to increase our revenues and expand our markets
through acquisitions that will provide us with complementary water related
products. We expect to spend significant time and effort in expanding our
existing businesses and identifying, completing and integrating acquisitions. We
expect to face competition for acquisition candidates which may limit the number
of acquisition opportunities available to us and may result in higher
acquisition prices. We cannot be certain that we will be able to identify,
acquire or profitably manage additional companies or successfully integrate such
additional companies without substantial costs, delays or other problems. Also,
there can be no assurance that companies acquired in the future will achieve
revenues, profitability or cash flows that justify our investment in them. In
addition, acquisitions may involve a number of special risks, including:
o adverse short-term effects on our reported operating results;
o diversion of management's attention;
o loss of key personnel at acquired companies; or
o unanticipated management or operational problems or legal
liabilities.
Some or all of the above special risks could have a material adverse
effect on our business, financial condition or results of operations.
If We Fail To Manufacture And Deliver High Quality Products, We May Lose
Customers.
Product quality and performance are a priority for our customers. Our
products are used in control of temperature and pressure of water as well as
water quality and safety. These applications require products that meet
stringent performance and safety standards. If we fail to maintain and enforce
quality control and testing procedures, our products will not meet these
stringent performance and safety standards. Substandard products would seriously
harm our reputation resulting in both a loss of current customers to our
competitors and damage to our ability to attract new customers, which could have
a material adverse effect on our business, financial condition or results of
operations.
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We Face Risks From Product Liability And Other Lawsuits Which May Adversely
Affect Our Business.
We, like other manufacturers and distributors of products designed to
control and regulate water, face an inherent risk of exposure to product
liability claims in the event that the use of our products results in personal
injury, property damage or business interruption to our customers.business.
We may be subjected to various product liability claims or other lawsuits, including, among others that our products include inadequate or improper instructions for use or installation, or inadequate warnings concerning the effects of the failure of our products. In the event that we do not have adequate insurance or contractual indemnification, damages from these claims would have to be paid from our assets and could have a material adverse effect on our results of operations, liquidity and financial condition. In particular, if we settle or conclude litigation in a quarterly or annual reporting period, there could be a material impact on our operating results for that quarter or year. We, like other manufacturers and distributors of products designed to control and regulate fluids, face an inherent risk of exposure to product liability claims and other lawsuits in the event that the use of our products results in personal injury, property damage or business interruption to our customers. Although we maintain strict quality controls and procedures, including the testing of raw materials and safety testing of selected finished products, we cannot be certain that our products will be completely free from defect. In addition, in certain cases, we rely on third-party manufacturers for our products or components of our products. Although we have product liability and general insurance coverage, we cannot be certain that this insurance coverage will continue to be available to us at a reasonable cost, or, if available, will be adequate to cover any such liabilities. One particular products liability case in which the Company is a defendant
is Los Angeles Department of Water and Power, EX Rel. Nora Armenta v. James
Jones Company, ET AL. The Company recorded a charge of $7.1 million after tax in
the quarter ended December 31, 2000, which is management's estimate of the after
tax cost to bring this case to resolution. While this charge represents the
after tax impact of the Company's current estimate based on all availableFor more information, litigation is inherently uncertain and the actual liability to the
Company to fully resolve the litigation could be materially higher than this
estimate. Seesee Part I, Item 1, Part I - "Product"Business—Product Liability, Environmental, and Other Litigation Matters."
The requirements of FAS 142 may result in a write-off of all or a portion of our goodwill, which would negatively impact our operating results and financial condition.
If we are required to take an impairment charge to our goodwill in connection with the requirements of FAS 142, our operating results may decrease and our financial condition may be harmed. As of December 31, 2003, we had goodwill of $184.9 million, or 22.1% of our total assets and 42.4% of our total stockholders' equity. Under FAS 142, goodwill and identifiable intangible assets that have indefinite useful lives are no longer amortized. In lieu of amortization, we were required to perform an initial impairment review of goodwill and are required to perform annual impairment reviews thereafter. We have concluded that no impairment existed at January 1, 2002, the time of adoption of FAS 142 and at October 26, 2003, the time of our annual review. We perform our annual test for indications of goodwill impairment in the fourth quarter of our fiscal year or sooner if indicators exist.
The loss of a major customer could have an adverse effect on our results of operations.
Our largest customer, The Home Depot, Inc., accounted for approximately $74.8 million, or 10.6%, of our total net sales for the year ended December 31, 2003, and $63.0 million, or 10.2%, of our total net sales for year ended December 31, 2002. Our customers generally are not obligated to purchase any minimum volume of products from us and are able to terminate their relationships with us at any time. A significant reduction in orders or change in terms from The Home Depot, Inc. could have a material adverse effect on our future results of operations.
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Certain indebtedness may limit our ability to pay dividends, incur additional debt and make acquisitions and other investments.
Our revolving credit facility and other senior indebtedness contain operational and financial covenants that restrict our ability to make distributions to stockholders, incur additional debt and make acquisitions and other investments unless we satisfy certain financial tests and comply with various financial ratios. If we do not maintain compliance with these covenants, our creditors could declare a default under our revolving credit facility and our indebtedness could be declared immediately due and payable. Our ability to comply with the provisions of our indebtedness may be affected by changes in economic or business conditions beyond our control.
One of our Shareholders Can Exercise Substantial Influence Over Our Companystockholders can exercise substantial influence over our company.
As of February 15, 2001,1, 2004, Timothy P. Horne, a member of our Chairman and Chief
Executiveboard of directors, beneficially owned 35.2%approximately 23.8% of our outstanding shares of common stock,Class A Common Stock (assuming conversion of all shares of Class B Common Stock beneficially owned by Mr. Horne into Class A Common Stock) and approximately 96.8% of our outstanding shares of Class B Common Stock, which 81.2%represents approximately 73.2% of the total outstanding voting power. As a result, Mr. Horne
effectively controls all matters affecting us. As long as Mr. Horne controls shares representing at least a majority of the total voting power of our outstanding stock, Mr. Horne will be able to unilaterally determine the outcome of all stockholder votes and other stockholders will not be able to affect the outcome of any stockholder vote.
Shares of our Class A Common Stock eligible for public sale could adversely affect the market price of our Class A Common Stock.
As of February 1, 2004 there were outstanding 24,607,425 shares of our Class A Common Stock and 7,471,700 shares of our Class B Common Stock. Shares of our Class B Common Stock may be converted into Class A Common Stock at any time on a one for one basis. All of the shares of Class A Common Stock are freely transferable without restriction or further registration under the federal securities laws, except for any shares held by our affiliates, sales of which will be limited by Rule 144 under the Securities Act. In addition, under the terms of a registration rights agreement with respect to outstanding shares of our class B common stock, the holders of our Class B Common Stock have rights with respect to the registration of the underlying Class A Common Stock. Under these registration rights, the holders of Class B Common Stock may require, on up to two occasions, that we register their shares for public resale. If Mr. Horne werewe are eligible to selluse Form S-3 or a significant amountsimilar short-form registration statement, the holders of common stockClass B Common Stock may require that we register their shares for public resale up to two times per year. If we elect to register any shares of Class A Common Stock for any public offering, the holders of Class B Common Stock are entitled to include shares of Class A Common Stock into which such shares of Class B Common Stock may be converted in such registration. However, we may reduce the number of shares proposed to be registered in view of market conditions. We will pay all expenses in connection with any registration, other than underwriting discounts and commissions. Pursuant to the exercise of these registration rights, we have registered the resale of 1,200,000 shares of our Class A Common Stock on a Form S-3 shelf registration statement, of which 610,000 shares remained available for resale as of February 29, 2004. If all of the available registered shares are sold into the public market the trading price of our Class A Common Stock could decline.
Our Class A Common Stock has insignificant voting power.
Our Class B Common Stock entitles its holders to ten votes for each share and our Class A Common Stock entitles its holders to one vote per share. As of January 31, 2004, our Class B Common Stock constituted 23.3% of our total outstanding common stock and 75.2% of the total outstanding voting power and thus is able to exercise a controlling influence over our business.
39
The trading price of our Class A Common Stock may be volatile.
The trading price of our Class A Common Stock may be volatile and fluctuations in the trading price may result in substantial losses for investors. The trading price of our Class A Common Stock could decline. See Part III, Item 12, "Security Ownershipdecline or fluctuate in response to a variety of Certain Beneficial
Ownersfactors, including, but not limited to, our failure to meet the performance estimates of securities analysts, changes in financial estimates of our revenues and Management"operating results and/or buy/sell recommendations by securities analysts, the timing of announcements by us or our competitors concerning significant product line developments, contracts or acquisitions or publicity regarding actual or potential results or performance, fluctuation in our quarterly operating results caused by fluctuations in revenues and expenses, substantial sales of our Class A Common Stock by our existing shareholders, general stock market conditions and other economic or external factors.
Provisions in our charter documents and Delaware law may prevent or delay an acquisition of us, which could decrease the value of our Class A Common Stock.
Our certificate of incorporation and bylaws and Delaware law contain provisions that could make it more difficult for a third party to acquire us without the consent of our board of directors. These provisions include those that:
Delaware law also imposes restrictions on mergers and other business combinations between us and any holder of 15% or more of our outstanding common stock.
New Accounting Standards
In August 2001, the Financial Accounting Standards Board (FASB) issued Financial Accounting Standards Board Statement No. 143, "Accounting for Asset Retirement Obligations" (FAS 143) which requires companies to record the fair value of an asset retirement obligation as a liability in the period it incurs a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development and/or normal use of the assets. The company must also record a corresponding increase in the carrying value of the related long-lived asset and depreciate that cost over the remaining useful life of the asset. The liability must be increased each period for the passage of time with the offset recorded as an operating expense. The liability must also be adjusted for changes in the estimated future cash flows underlying the initial fair value measurement. Companies must also recognize a gain or loss on the settlement of the liability. The provisions of FAS 143 are effective for fiscal years beginning after June 15, 2002. At the date of the adoption of FAS 143, companies are required to recognize a liability for all existing asset retirement obligations and the associated asset retirement costs. We have adopted FAS 143 effective January 1, 2003 and its adoption was not material to our consolidated financial statements.
In July 2002, the FASB issued Financial Accounting Standards Board Statement No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" (FAS 146). The foregoing list sets forth many, butprincipal difference between this Statement and Emerging Issues Task Force (EITF) Issue No. 94-3 "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit on Activity (including Certain Costs Incurred in a Restructuring)" (Issue 94-3) relates to its requirements for recognition of a liability for a cost associated with an exit or disposal activity. This Statement requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue
40
94-3, a liability for an exit cost was recognized at the date of an entity's commitment to an exit plan. The provisions of this statement are effective for exit or disposal activities that are initiated after December 31, 2002. We adopted FAS 146 effective January 1, 2003 and its adoption was not all,material to our consolidated financial statements.
In November 2002, the FASB issued Financial Accounting Standards Board Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 requires that a liability be recorded in the guarantor's balance sheet upon issuance of certain guarantees. In addition, FIN 45 requires disclosures about the guarantees that an entity has issued, including a roll-forward of the factors that could
impact upon our ability to achieve results described in any forward looking
statements. Investors are cautioned not to place undue reliance on such
statements that speak only asentity's product warranty liabilities. FIN 45 required the application of the date made. Investors also should understand
that it is not possiblerecognition provisions of FIN 45 prospectively to predict or identify all such factors and that this
list should not be considered a complete statementguarantees issued after December 31, 2002. We adopted the disclosure provisions of all potential risks and
uncertainties. Investors should also realize that if underlying assumptions
prove inaccurate or unknown risks or uncertainties materialize, actual results
could vary materially from our projections.FIN 45 effective December 31, 2002. We do offer warranties on our products, but the returns under warranty have been immaterial. The warranty reserve is part of the sales returns and allowances, a component of our allowance for doubtful accounts. We adopted FIN 45 effective January 1, 2003 and its adoption was not undertake any obligationmaterial to update any forward lookingour consolidated financial statements.
In December 2002, the FASB issued Financial Accounting Standards Board Statement No. 148, "Accounting for Stock-Based Compensation, Transition and Disclosure" (FAS 148). FAS 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. FAS 148 also requires that disclosures of the pro forma effect of using the fair value method of accounting for stock-based employee compensation be displayed more prominently and in a tabular format. Additionally, FAS 148 requires disclosure of the pro forma effect in interim financial statements. The additional disclosure requirements of FAS 148 were effective for fiscal years ended after December 15, 2002. We are currently continuing to account for stock-based compensation in accordance with Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued to Employees" (APB No. 25) and we provided the disclosures required by FAS 148.
In December 2002, the EITF issued EITF 00-21, "Accounting for Revenue Arrangements with Multiple Deliverables." This consensus provides guidance in determining when a revenue arrangement with multiple deliverables should be divided into separate units of accounting, and, if separation is appropriate, how the arrangement consideration should be allocated to the identified accounting units. The provisions of EITF 00-21 are effective for revenue arrangements entered during fiscal periods beginning after June 15, 2003. We adopted EITF 00-21 effective July 1, 2003 and its adoption was not material to our consolidated financial statements.
In January 2003, the FASB issued Financial Accounting Standards Board Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46) which requires the consolidation of variable interest entities (VIE) by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 was effective for all new VIEs created or acquired after January 31, 2003. In October 2003, the FASB delayed the effective date for some VIEs that existed prior to February 1, 2003, provided the reporting entity had not "issued" financial statements reporting the VIE in accordance with Interpretation 46. FIN 46 was effective for the first interim or annual period ending after December 15, 2003. In December 2003, the FASB issued a revision to FIN 46 (FIN 46R). Under the revised provisions, public entities are required to apply the guidance if the entity has interests in VIEs commonly referred to as special-purpose entities for periods ending after December 15, 2003. We adopted FIN 46R and as a result have consolidated Jameco International, LLC (the LLC) effective October 1, 2003 (the fourth quarter of future events or
developments.
New Accounting Pronouncementsfiscal 2003). The LLC imports and sells vitreous china, imported faucets and faucet parts and imported bathroom accessories to the North American home improvement retail market. Its annual sales for the twelve months ended December 31, 2003, were approximately $16,079,000. The LLC maintains a line of credit with a financial institution collateralized by a first
41
security interest in the LLC's assets. The creditors have no recourse to the Company. The assets as of December 31, 2003 of $3,960,000 are comprised primarily of accounts receivable and inventory which we believe are collectable and saleable, respectively, within the normal course of business. We have a subordinated security interest in the assets of the LLC pertaining to our loan receivable of $2,230,680 at December 31, 2003, which eliminates in consolidation as the result of the application of FIN 46R. Prior to the adoption of FIN 46R, we accounted for our investment of 49% in the LLC using the equity method.
We also maintain another variable interest in a VIE. In June 1998, Statement2000 we entered into an agreement with Plumworld.co.uk Ltd in which we maintain a 20% interest in Plumbworld. Plumbworld is primarily an e-business that sells bathroom and sanitary appliances, as well as, plumbing and heating products, tools and plumbing consumables. Its annualized sales are approximately $7,100,000. We maintain a notional amount of approximately $500 investment in Plumbworld and maintain a loan receivable in the amount of approximately $850,000 with Plumbworld. We continue to account for our investment in Plumbworld using the equity method.
In April 2003, the FASB issued Financial Accounting Standards (SFAS)Board Statement No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" (FAS 149). FAS 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under FAS 133, "Accounting for Derivative Instruments and Hedging Activities."Activities" (FAS 133). FAS 149 has multiple effective date provisions depending on the nature of the amendments to FAS 133, including one for contracts entered into or modified after June 30, 2003. We adopted FAS 149 and its adoption was issued.not material to our consolidated financial statements.
In May 2003, the FASB issued Financial Accounting Standards Board Statement No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity" (FAS 150). FAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. FAS 150 is effective for certain financial instruments entered into or modified after May 31, 2003. For unmodified financial instruments existing at May 31, 2003, FAS 150 is effective at the beginning of the first interim period beginning after June 15, 2003. The Company adopted SFAS No. 133, as amendedFAS 150 apart from the deferral by SFAS No. 137FASB Staff Position 150-3 (FAS 150-3) of certain mandatorilly redeemable non controlling interests and SFAS No. 138, on
January 1, 2001. Theits adoption of SFAS No. 133 haswas not had a material impact on
the Company's financial position or overall trends in results of operations and
has not resulted in significant changes to its financial risk management
practices. However, the adoption of SFAS No. 133 could result in more pronounced
quarterly fluctuations in other income and expense.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin (SAB) No. 101. "Revenue Recognition." An amendment in June
2000 delayed the effective date until the fourth quarter of 2000. The adoption
of SAB 101 did not have a material impact on the consolidated financial statements.
20
In May 2000, the Financial Accounting Standards Board's Emerging Issues
Task Force (EITF) reached a consensus on Issue No. 00-14, "Accounting for
Certain Sales Incentives." This issue addresses the recognition, measurement and
income statement classification for various types of sales incentives, including
discounts, coupons, rebates and free products. In November 2000, the EITF
revised the transition date such that the Company must adopt EITF 00-14 no later
than the second quarter of 2001. The Company will adopt the consensus in the
second quarter of 2001 and it is not expected to have a material impact on the
Company's financial statements
In July and September 2000, the EITF reached consensus on Issue No 00-10,
"Accounting for Shipping and Handling Fees and Costs." This issue addresses the
income statement classification for shipping and handling fees and costs. The
Company adopted the consensus in the fourth quarter of 2000. The adoption of
EITF Issue No. 00-10 did not have a material impact on the consolidated
financial statements.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company uses
We use derivative financial instruments primarily to reduce exposure to adverse fluctuations in foreign exchange rates, interest rates and pricescosts of certain raw materials used in the manufacturing process. The Company
doesWe do not enter into derivative financial instruments for trading purposes. As a matter of policy, all derivative positions are used to reduce risk by hedging underlying economic exposure. The derivatives the Company useswe use are instruments with liquid markets.
The Company manages most of its foreign currency exposures on a
consolidated basis. The Company identifies all of its known exposures. As part
of that process, all natural hedges are identified. The Company then nets these
natural hedges from its gross exposures.
The Company's
Our consolidated earnings, which are reported in United States dollardollars are subject to translation risks due to changes in foreign currency exchange rates. However, its overall exposure to such fluctuationsThis risk is reduced byconcentrated in the diversity of its foreign operating locations which encompass a number of
different European locations, Canada,exchange rate between the U.S. dollar and China.
The Company'sthe euro; the U.S. dollar and the Canadian dollar; and the U.S. dollar and the Chinese RMB.
Our foreign subsidiaries transact most business, including certain intercompany transactions, in foreign currencies. Such transactions are principally purchases or sales of materials and are denominated in European currencies or the U.S. or Canadian dollar. The Company usesWe use foreign currency forward exchange contracts to manage the risk related to intercompany purchases that occur during the course of a fiscal year and certain open foreign currency denominated commitments to sell products to third parties.
42
At December 31, 2000,
the Company2003, we had no forward contracts to buy foreign currencies and no unrealized gains or losses. See Note 16 of the Notes to the Consolidated Financial
Statements.
The Company has
We have historically had a very low exposure on the cost of our debt to changes in interest rates. Interest rate swaps are used to mitigate the impact of interest rate fluctuations on certain variable rate debt instruments and reduce interest expense on certain fixed rate instruments. Information about the Company'sour long-term debt including principal amounts and related interest rates appears in Note 11 of the Notes to the Consolidated Financial Statements included herein.
The Company purchases
We purchase significant amounts of bronze ingot, brass rod, and
cast iron, steel and plastic, which are utilized in manufacturing itsour many product lines. The
Company'sOur operating results can be adversely affected by changes in commodity prices if it iswe are unable to pass on related price increases to itsour customers. The
Company managesWe manage this risk by monitoring related market prices, working with itsour suppliers to achieve the maximum level of stability in their costs and related pricing, seeking alternative supply sources when necessary and passing increases in commodity costs to itsour customers, to the maximum extent possible, when they occur. Additionally, on a limited basis, the Company useswe use commodity futures contracts to manage this risk. See Note 16 of the Notes to the Consolidated
Financial Statements.
21
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The index to financial statements is included in page 2345 of this Report.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
Item 9A. CONTROLS AND PROCEDURES.
As required by Rule 13a-15(b) under the Securities Exchange Act of 1934, as of the end of the period covered by this report, we carried out an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. In designing and evaluating our disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and our management necessarily was required to apply its judgment in evaluating and implementing possible controls and procedures. The effectiveness of our disclosure controls and procedures is necessarily limited by the staff and other resources available to us and, although we have designed our disclosure controls and procedures to address the geographic diversity of our operations, this diversity inherently may limit the effectiveness of those controls and procedures. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective, in that they provide reasonable assurance that information required to be disclosed by us in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. There was no change in our internal control over financial reporting that occurred during the period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. In connection with these rules, we will continue to review and document our disclosure controls and procedures, including our internal controls and procedures for financial reporting, and may from time to time make changes aimed at enhancing their effectiveness and to ensure that our systems evolve with our business.
43
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Directors
The information appearing under the caption "Information as to Nominees for Director" in the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders to be held on April 25, 2001May 5, 2004 is incorporated herein by reference. With respect to Directors and Executive Officers, the information appearing under the caption "Section 16(a) Beneficial Ownership Reporting Compliance" in the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders to be held on April 25, 2001May 5, 2004 is incorporated herein by reference.
Executive Officers
Information with respect to the executive officers of the Company is set forth in Item 1 of this Report under the caption "Executive Officers".
Officers and Directors."
Code of Ethics
We have adopted a Code of Business Conduct and Ethics applicable to all officers, employees and Board members. The Code of Business Conduct and Ethics is posted on our website, www.wattswater.com. In order to access this portion of our website, click on the "Investor Relations" tab. The Code of Business Conduct and Ethics is located under the "Corporate Governance" caption. Any amendments to, or waivers of, the Code of Business Conduct and Ethics which applies to our chief executive officer, chief financial officer, corporate controllers or any person performing similar functions will be disclosed on our website promptly following the date of such amendment or waiver.
Item 11. EXECUTIVE COMPENSATION.
The information appearing under the caption "Compensation Arrangements" in the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders to be held on April 25, 2001May 5, 2004 is incorporated herein by reference.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information appearing under the caption "Principal and Management Stockholders" in the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders to be held on April 25, 2001May 5, 2004 is incorporated herein by reference.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information appearing under the caption "Compensation Arrangements-Certain Relationships and Related Transactions" in the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders to be held on April 25, 2001May 5, 2004 is incorporated herein by reference.
22
PART IV
Item 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The information appearing under the caption "Ratification of Independent Auditors" in the Registrant's Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 5, 2004 is incorporated herein by reference.
44
Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a)(1) Financial Statements
The following financial statements are included in a separate section of this Report commencing on the page numbers specified below:
| Report of Independent Auditors | 50 | |
Consolidated Statements of Operations for the | 51 | |
Consolidated Balance Sheets as of December 31, | 52 | |
Consolidated Statements of Stockholders' Equity for the | 53 | |
Consolidated Statements of Cash Flows for the | 54 | |
Notes to Consolidated Financial Statements | 55-83 |
(a)(2) Schedules
| Schedule II—Valuation and Qualifying Accounts for the years ended December 31, 2003, 2002 and 2001 | 84 |
All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are included in the Notes to the Consolidated Financial Statements, or are not required under the related instructions or are inapplicable, and therefore have been omitted.
(a)(3) Exhibits
Exhibits 10.1-10.6, 10.8, 10.16, and 10.23 constitute all of the
management contracts and compensation plans and arrangements of the Company
required to be filed as exhibits to this Annual Report. Upon written request of
any stockholder
| Exhibit No. | Description | |
|---|---|---|
2.1 | Distribution Agreement dated as of October 1, 1999 between the Registrant and CIRCOR International, Inc. (17) | |
3.1 | Restated Certificate of Incorporation, as amended (1) | |
3.2 | Amended and Restated By-Laws, as amended (1) | |
9.1 | The Amended and Restated George B. Horne Voting Trust Agreement—1997 dated as of September 14, 1999 (18) | |
10.1* | Supplemental Compensation Agreement effective as of September 1, 1996 between the Registrant and Timothy P. Horne (11), Amendment No. 1, dated July 25, 2000 (19), and Amendment No. 2 dated October 23, 2002 (3) | |
10.2* | Deferred Compensation Agreement between the Registrant and Timothy P. Horne, as amended (4) | |
10.3* | Form of Indemnification Agreement between the Registrant and certain directors and officers of the Registrant dated February 10, 2004 | |
45
10.4* | 1996 Stock Option Plan, dated October 15, 1996 (12), and First Amendment dated February 28, 2003 (3) | |
10.5* | 1986 Incentive Stock Option Plan, as amended | |
10.6* | Watts Industries, Inc. Retirement Plan for Salaried Employees dated December 30, 1994, as amended and restated effective as of January 1, 1994 (9), Amendment No. 1 (11), Amendment No. 2 (11), Amendment No. 3 (11), Amendment No. 4 dated September 4, 1996 (15), Amendment No. 5 dated January 1, 1998 (18), Amendment No. 6 dated May 3, 1999 (18), and Amendment No. 7 dated June 7, 1999 (18) | |
10.7* | Watts Industries, Inc. Pension Plan (amended and restated effective as of January 1, 1997) (3) and First Amendment dated October 25, 2002 (3) | |
10.8 | Registration Rights Agreement dated July 25, 1986 (5) | |
10.9* | Executive Incentive Bonus Plan, as amended (9) | |
10.10 | Amended and Restated Stock Restriction Agreement dated October 30, 1991 (2), and Amendment dated August 26, 1997 (15) | |
10.11* | Watts Industries, Inc. 1991 Non-Employee Directors' Nonqualified Stock Option Plan (6), and Amendment No. 1 (11) | |
10.12* | Watts Industries, Inc. 2003 Non-Employee Directors' Stock Option Plan (3) | |
10.13 | Letter of Credit issued by Fleet National Bank (as successor to BankBoston, N.A.) for the benefit of Zurich-American Insurance Company dated June 25, 1999, as amended January 22, 2001 | |
10.14 | Form of Stock Restriction Agreement for management stockholders (5) | |
10.15 | Letter of Credit issued by Fleet National Bank for the benefit of ACE Property and Casualty Insurance Company and Pacific Employers' Insurance Company dated January 23, 2002, as amended February 6, 2003 | |
10.16 | Revolving Credit Agreement dated as of February 28, 2002 among the Registrant, Watts Regulator Co., Watts Industries Europe B.V., the lenders listed therein and Fleet National Bank, as Administrative Agent (20), First Amendment dated March 28, 2003 (7), Second Amendment dated July 25, 2003 (8), and Third Amendment dated December 16, 2003 | |
10.17* | Watts Industries, Inc. Management Stock Purchase Plan dated October 17, 1995 (10), Amendment No. 1 dated August 5, 1997 (15), Amendment No 2 dated November 1, 1999 (14), Amendment No. 3 dated March 1, 2001 (3) | |
10.18 | Stock Purchase Agreement dated as of June 19, 1996 by and among Mueller Co., Tyco Valves Limited, Watts Investment Company, Tyco International Ltd. and the Registrant (13) | |
10.19 | Guaranty dated as of February 28, 2002 among the Registrant, Watts Investment Company, Watts Spacemaker, Inc., Watts Distribution Company, Inc., Anderson-Barrows Metals Corporation, Watts Drainage Products, Inc., Webster Valve, Inc. and Jameco Industries, Inc. in favor of Fleet National Bank and the lenders under the Revolving Credit Agreement dated February 28, 2002 (20), and Ratification of Guaranty dated as of February 28, 2002 (7) | |
10.20 | Form of Promissory Note dated as of May 9, 2002 issued by Watts Regulator Company and the Registrant as borrowers, to the former shareholders of Hunter Innovations, Inc. (21) | |
46
10.21 | Note Purchase Agreement dated as of May 15, 2003 between the Registrant and the Purchasers named in Schedule A thereto relating to the Registrant's $50,000,000 4.87% Senior Notes, Series A, due May 15, 2010 and $75,000,000 5.47% Senior Notes, Series B, due May 15, 2013 (7) | |
10.22 | Form of 4.87% Senior Note due May 15, 2010 (7) | |
10.23 | Form of 5.47% Senior Note due May 15, 2013 (7) | |
10.24* | Watts Water Technologies, Inc. 2004 Stock Incentive Plan | |
11 | Statement Regarding Computation of Earnings per Common Share (16) | |
21 | Subsidiaries | |
23 | Consent of KPMG LLP | |
31.1 | Certification of Principal Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended | |
31.2 | Certification of Principal Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended | |
32.1 | Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350 | |
32.2 | Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350 |
47
(b) Reports on Form 8-K
There were no reports filed
The following Current Reports on Form 8-K forwere filed by the Registrant during the quarter endingended December 31, 2000.
25
48
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
WATTS INDUSTRIES, INC.
By: /s/ Timothy P. Horne
--------------------
Timothy P. Horne
Chairman of the Board,
Chief Executive Officer and
President
DATED: March 14, 2001
| WATTS WATER TECHNOLOGIES, INC. | |||
By: | /s/ PATRICK S. O'KEEFE Patrick S. O'Keefe Chief Executive Officer President and Director | ||
DATED: March 12, 2004 | |||
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Timothy P. Horne Chairman of the Board, March 14, 2001
- -------------------- Chief Executive Officer,
Timothy P. Horne President (Principal
Executive Officer)
and Director
/s/ William C. McCartney Chief Financial Officer March 14, 2001
- ------------------------ and Treasurer (Principal
William C. McCartney Financial and Accounting
Officer),
Secretary
/s/ Kenneth J. McAvoy Director March14, 2001
- ---------------------
Kenneth J. McAvoy
/s/ Gordon W. Moran Director March 14, 2001
- -------------------
Gordon W. Moran
/s/ Daniel J. Murphy, III Director March 14, 2001
- -------------------------
Daniel J. Murphy, III
/s/ Roger A. Young Director March 14, 2001
- ------------------
Roger A. Young
26
| Signature | Title | Date | ||
|---|---|---|---|---|
| /s/ PATRICK S. O'KEEFE Patrick S. O'Keefe | Chief Executive Officer President and Director | March 12, 2004 | ||
/s/ WILLIAM C. MCCARTNEY William C. McCartney | Chief Financial Officer and Treasurer (Principal Financial and Accounting Officer), Secretary | March 12, 2004 | ||
/s/ GORDON W. MORAN Gordon W. Moran | Chairman of the Board | March 12, 2004 | ||
/s/ TIMOTHY P. HORNE Timothy P. Horne | Director | March 12, 2004 | ||
/s/ KENNETH J. MCAVOY Kenneth J. McAvoy | Director | March 12, 2004 | ||
/s/ DANIEL J. MURPHY, III Daniel J. Murphy, III | Director | March 12, 2004 | ||
/s/ ROGER A. YOUNG Roger A. Young | Director | March 12, 2004 | ||
/s/ JOHN K. MCGILLICUDDY John K. McGillicuddy | Director | March 12, 2004 |
49
The Board of Directors and Stockholders
Watts Industries,Water Technologies, Inc.:
We have audited the accompanying consolidated balance sheets of Watts Industries,Water Technologies, Inc. and subsidiaries as of December 31, 20002003 and 1999, and June 30,
1999,2002, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the year ended December 31, 2000,years in the six monththree-year period ended December 31, 1999 and2003. In connection with our audits of the fiscal years ended June 30, 1999 and
1998.consolidated financial statements, we have also audited the financial statement schedule. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Watts Industries,Water Technologies, Inc. and subsidiaries as of December 31, 20002003 and 1999, and June 30, 1999,2002, and the results of their operations and their cash flows for each of the year ended December
31, 2000,years in the six monththree-year period ended December 31, 1999, and the fiscal years
ended June 30, 1999 and 19982003, in conformity with accounting principles generally accepted in the United States of America. /s/ KPMG LLP
Also, in our opinion, the financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
As discussed in Note 2 to the financial statements, effective January 1, 2002, the Company changed its method of accounting for goodwill and other intangible assets based on the adoption of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets."
Boston, Massachusetts
February 9, 2001
27
except as to the first
paragraph of Note 19,
which is as of
February 20, 2004.
50
Watts Industries,Water Technologies, Inc. and Subsidiaries
Consolidated Statements of Operations
(Amounts
(Amounts in thousands, except per share information)
------------For the Twelve Months Ended--------- For the Six Months Ended
December 31, June 30, June 30, December 31,
2000 1999 1999 1998 1999 1998
--------- --------- --------- --------- --------- ---------
(unaudited) (unaudited)
Net sales ...................................... $ 516,100 $ 509,656 $ 477,869 $ 444,735 $ 261,019 $ 229,150
Cost of goods sold ............................. 330,796 322,938 302,745 282,152 165,853 145,660
--------- --------- --------- --------- --------- ---------
GROSS PROFIT .............................. 185,304 186,718 175,124 162,583 95,166 83,490
Selling, general and administrative expenses ... 125,317 128,983 123,286 115,512 64,148 58,369
Restructuring Charge ........................... -- 1,460 -- -- 1,460 --
--------- --------- --------- --------- --------- ---------
OPERATING INCOME .......................... 59,987 56,275 51,838 47,071 29,558 25,121
--------- --------- --------- --------- --------- ---------
Other (income) expense:
Interest income ........................... (827) (841) (923) (1,228) (331) (413)
Interest expense .......................... 9,897 7,933 6,150 6,514 4,456 2,673
Other ..................................... 1,705 1,276 1,688 432 22 434
--------- --------- --------- --------- --------- ---------
10,775 8,368 6,915 5,718 4,147 2,694
--------- --------- --------- --------- --------- ---------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES ....................... 49,212 47,907 44,923 41,353 25,411 22,427
Provision for income taxes ..................... 18,041 17,210 15,469 13,230 8,943 7,202
--------- --------- --------- --------- --------- ---------
INCOME FROM CONTINUING
OPERATIONS ................................ 31,171 30,697 29,454 28,123 16,468 15,225
Income (loss) from discontinued
operations, net of taxes .................. (7,170) (3,143) 6,502 25,246 (1,226) 8,419
--------- --------- --------- --------- --------- ---------
NET INCOME ................................ $ 24,001 $ 27,554 $ 35,956 $ 53,369 $ 15,242 $ 23,644
========= ========= ========= ========= ========= =========
Basic EPS
Income (loss) per share:
Continuing operations ..................... $ 1.18 $ 1.16 $ 1.10 $ 1.04 $ 0.62 $ 0.57
Discontinued operations ................... (0.27) (0.12) 0.24 0.93 (0.05) 0.31
--------- --------- --------- --------- --------- ---------
NET INCOME ................................ $ 0.91 $ 1.04 $ 1.34 $ 1.97 $ 0.57 $ 0.88
========= ========= ========= ========= ========= =========
Weighted average number of shares .............. 26,409 26,498 26,736 27,109 26,453 26,935
========= ========= ========= ========= ========= =========
Diluted EPS
Income (loss) per share:
Continuing operations ..................... $ 1.17 $ 1.15 $ 1.10 $ 1.03 $ 0.61 $ 0.56
Discontinued operations ................... (0.27) (0.12) 0.24 0.92 (0.05) 0.31
--------- --------- --------- --------- --------- ---------
NET INCOME ................................ $ 0.90 $ 1.03 $ 1.34 $ 1.95 $ 0.56 $ 0.87
========= ========= ========= ========= ========= =========
Weighted average number of shares .............. 26,551 26,684 26,799 27,423 27,081 27,062
========= ========= ========= ========= ========= =========
Dividends per share ....................... $ 0.268 $ 0.350 $ 0.350 $ 0.330 $ 0.175 $ 0.175
========= ========= ========= ========= ========= =========
| | Years Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||||||
| Net sales | $ | 705,651 | $ | 615,526 | $ | 548,940 | |||||
| Cost of goods sold | 464,990 | 406,806 | 365,408 | ||||||||
| GROSS PROFIT | 240,661 | 208,720 | 183,532 | ||||||||
| Selling, general and administrative expenses | 170,195 | 150,553 | 131,795 | ||||||||
| Restructuring and other charges | 426 | 638 | 1,454 | ||||||||
| OPERATING INCOME | 70,040 | 57,529 | 50,283 | ||||||||
| Other (income) expense: | |||||||||||
| Interest income | (1,021 | ) | (992 | ) | (685 | ) | |||||
| Interest expense | 12,114 | 8,692 | 9,422 | ||||||||
| Minority interest | (463 | ) | (117 | ) | 198 | ||||||
| Other | 581 | (272 | ) | 1,180 | |||||||
| 11,211 | 7,311 | 10,115 | |||||||||
| INCOME FROM CONTINUING OPERATIONS | |||||||||||
| BEFORE INCOME TAXES | 58,829 | 50,218 | 40,168 | ||||||||
| Provision for income taxes | 22,356 | 17,596 | 13,612 | ||||||||
| INCOME FROM CONTINUING OPERATIONS | 36,473 | 32,622 | 26,556 | ||||||||
| Loss from discontinued operations, net of taxes of $1,947 | (3,111 | ) | — | — | |||||||
| NET INCOME | $ | 33,362 | $ | 32,622 | $ | 26,556 | |||||
Basic EPS | |||||||||||
| Income (loss) per share: | |||||||||||
| Continuing operations | $ | 1.33 | $ | 1.22 | $ | 1.00 | |||||
| Discontinued operations | (0.11 | ) | — | — | |||||||
| NET INCOME | $ | 1.22 | $ | 1.22 | $ | 1.00 | |||||
| Weighted average number of shares | 27,455 | 26,718 | 26,497 | ||||||||
Diluted EPS | |||||||||||
| Income (loss) per share: | |||||||||||
| Continuing operations | $ | 1.32 | $ | 1.21 | $ | 0.99 | |||||
| Discontinued operations | (0.11 | ) | — | — | |||||||
| NET INCOME | $ | 1.21 | $ | 1.21 | $ | 0.99 | |||||
| Weighted average number of shares | 27,692 | 27,056 | 26,802 | ||||||||
Dividends per share | $ | 0.25 | $ | 0.24 | $ | 0.24 | |||||
The accompanying notes are an integral part of these consolidated financial statements.
28
51
Watts Industries,Water Technologies, Inc. and Subsidiaries
Consolidated Balance Sheets
(Amounts
(Amounts in thousands, except share information)
December 31, December 31, June 30,
2000 1999 1999
------------ ------------ ---------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents .......................................... $ 15,235 $ 13,016 $ 12,774
Trade accounts receivable, less allowance for doubtful accounts
of $6,614, $6,730 and $7,747, respectively ...................... 97,718 94,305 89,315
Inventories ........................................................ 108,951 112,821 110,552
Prepaid expenses and other assets .................................. 6,850 12,922 10,193
Deferred income taxes .............................................. 20,486 19,774 21,271
Net current assets of discontinued operations ...................... -- -- 122,971
--------- --------- ---------
Total Current Assets ............................................... 249,240 252,838 367,076
PROPERTY, PLANT AND EQUIPMENT, NET ....................................... 125,810 130,231 129,163
OTHER ASSETS:
Goodwill, net of accumulated amortization
of $14,665, $11,997, and $10,921, respectively .................. 98,179 95,311 96,285
Other .............................................................. 8,796 8,698 9,027
Net noncurrent assets of discontinued operations ................... -- -- 36,191
--------- --------- ---------
TOTAL ASSETS ............................................................. $ 482,025 $ 487,078 $ 637,742
========= ========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable ................................................... $ 39,569 $ 46,904 $ 35,579
Accrued expenses and other liabilities ............................. 59,088 48,629 48,843
Accrued compensation and benefits .................................. 12,200 9,882 12,692
Current portion of long-term debt .................................. 1,241 5,683 2,050
--------- --------- ---------
Total Current Liabilities ...................................... 112,098 111,098 99,164
LONG-TERM DEBT, NET OF CURRENT PORTION ................................... 105,377 123,991 118,916
DEFERRED INCOME TAXES .................................................... 15,463 13,630 13,070
OTHER NONCURRENT LIABILITIES ............................................. 9,770 11,150 11,450
MINORITY INTEREST ........................................................ 6,775 7,707 7,487
STOCKHOLDERS' EQUITY:
Preferred Stock, $.10 par value; 5,000,000 shares
authorized; no shares issued or outstanding ..................... -- -- --
Class A Common Stock, $.10 par value; 80,000,000 shares
authorized; 1 vote per share; 17,225,965; 16,888,507 and
16,158,807 shares,respectively, issued and outstanding .......... 1,723 1,689 1,616
Class B Common Stock, $.10 par value; 25,000,000 shares
authorized; 10 votes per share; 9,235,224; 9,485,247 and
10,285,247 shares, respectively,issued and outstanding .......... 924 949 1,029
Additional paid-in capital ......................................... 35,996 35,330 36,069
Retained earnings .................................................. 213,627 196,733 364,089
Treasury stock ..................................................... -- -- --
Accumulated Other Comprehensive Income ............................. (19,728) (15,199) (15,148)
--------- --------- ---------
Total Stockholders' Equity ...................................... 232,542 219,502 387,655
--------- --------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ............................... $ 482,025 $ 487,078 $ 637,742
========= ========= =========
| | December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||||
| ASSETS | |||||||||
| CURRENT ASSETS: | |||||||||
| Cash and cash equivalents | $ | 149,361 | $ | 10,973 | |||||
| Trade accounts receivable, less allowance for doubtful accounts of $7,772 in 2003 and $7,322 in 2002 | 136,064 | 123,504 | |||||||
| Inventories, net | 156,599 | 133,415 | |||||||
| Prepaid expenses and other assets | 8,500 | 8,818 | |||||||
| Deferred income taxes | 23,552 | 21,927 | |||||||
| Assets held for sale | 1,938 | 2,464 | |||||||
| Assets of discontinued operations | 4,460 | 8,655 | |||||||
| Total Current Assets | 480,474 | 309,756 | |||||||
PROPERTY, PLANT AND EQUIPMENT, NET | 145,711 | 134,376 | |||||||
OTHER ASSETS: | |||||||||
| Goodwill | 184,901 | 163,226 | |||||||
| Other | 27,557 | 28,114 | |||||||
| TOTAL ASSETS | $ | 838,643 | $ | 635,472 | |||||
LIABILITIES AND STOCKHOLDERS' EQUITY | |||||||||
| CURRENT LIABILITIES: | |||||||||
| Accounts payable | $ | 74,068 | $ | 64,704 | |||||
| Accrued expenses and other liabilities | 55,252 | 57,037 | |||||||
| Accrued compensation and benefits | 18,466 | 15,514 | |||||||
| Current portion of long-term debt | 13,251 | 82,211 | |||||||
| Liabilities of discontinued operations | 11,302 | 18,906 | |||||||
| Total Current Liabilities | 172,339 | 238,372 | |||||||
LONG-TERM DEBT, NET OF CURRENT PORTION | 179,061 | 56,276 | |||||||
| DEFERRED INCOME TAXES | 15,978 | 15,011 | |||||||
| OTHER NONCURRENT LIABILITIES | 25,588 | 19,743 | |||||||
| MINORITY INTEREST | 9,286 | 10,134 | |||||||
STOCKHOLDERS' EQUITY: | |||||||||
| Preferred Stock, $.10 par value; 5,000,000 shares authorized; no shares issued or outstanding | — | — | |||||||
| Class A Common Stock, $.10 par value; 80,000,000 shares authorized; 1 vote per share; issued and outstanding, 24,459,121 shares in 2003 and 18,863,482 shares in 2002 | 2,446 | 1,886 | |||||||
| Class B Common Stock, $.10 par value; 25,000,000 shares authorized; 10 votes per share; issued and outstanding, 7,605,224 shares in 2003 and 8,185,224 shares in 2002 | 761 | 819 | |||||||
| Additional paid-in capital | 132,983 | 45,132 | |||||||
| Retained earnings | 286,396 | 259,893 | |||||||
| Accumulated other comprehensive income (loss) | 13,805 | (11,794 | ) | ||||||
| Total Stockholders' Equity | 436,391 | 295,936 | |||||||
| TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | 838,643 | $ | 635,472 | |||||
The accompanying notes are an integral part of these consolidated financial statements.
29
52
Watts Industries,Water Technologies, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(Amounts
(Amounts in thousands, except share information)
Class A Class B
Common Stock Common Stock
--------------------------------------------------
Shares Amount Shares Amount
---------------------------------------------------
Balance at June 30, 1997 ....................................................... 15,797,460 $ 1,580 11,215,627 $ 1,121
Comprehensive income:
Net income .........................................................
Cumulative translation adjustment ..................................
Comprehensive income .........................................
Shares of Class B Common Stock converted to Class A Common Stock ......... 918,800 91 (918,800) (91)
Shares of Class A Common Stock issued upon the exercise of stock options.. 153,400 16
Shares of Class A Common Stock exchanged upon the exercise of
stock options and retired .......................................... (10,633) (1)
Purchase of treasury stock, 100,000 shares @ cost ........................
Net change in restricted stock units .....................................
Common Stock dividends ...................................................
---------------------------------------------------
Balance at June 30, 1998 ....................................................... 16,859,027 1,686 10,296,827 1,030
Comprehensive income:
Net income .........................................................
Cumulative translation adjustment ..................................
Comprehensive income .........................................
Shares of Class B Common Stock converted to Class A Common Stock ......... 11,580 1 (11,580) (1)
Shares of Class A Common Stock issued upon the exercise of stock options.. 3,700 1
Purchase of treasury stock, 615,000 shares @ cost ........................
Retirement of treasury stock ............................................. (715,500) (72)
Net change in restricted stock units .....................................
Common Stock dividends ...................................................
---------------------------------------------------
Balance at June 30, 1999 ....................................................... 16,158,807 1,616 10,285,247 1,029
Comprehensive income:
Net income .........................................................
Cumulative translation adjustment ..................................
Comprehensive income .........................................
Shares of Class B Common Stock converted to Class A Common Stock ......... 800,000 80 (800,000) (80)
Shares of Class A Common Stock issued upon the exercise
of stock options ................................................... 29,700 3
Purchase of treasury stock, 100,000 shares @ cost ........................
Retirement of treasury stock ............................................. (100,000) (10)
Net change in restricted stock units .....................................
Spin off of Industrial, Oil and Gas Group ................................
Common Stock dividends ...................................................
---------------------------------------------------
Balance at December 31, 1999 ................................................... 16,888,507 1,689 9,485,247 949
Comprehensive income:
Net income .........................................................
Cumulative translation adjustment ..................................
Comprehensive income .........................................
Shares of Class B Common Stock converted to Class A Common Stock ......... 250,023 25 (250,023) (25)
Shares of Class A Common Stock issued upon the exercise of stock options.. 39,609 4
Purchase of treasury stock, 10,000 shares @ cost .........................
Retirement of treasury stock ............................................. (10,000) (1)
Net change in restricted stock units ..................................... 57,826 6
Common Stock dividends ...................................................
---------------------------------------------------
Balance at December 31, 2000 ................................................... 17,225,965 $ 1,723 9,235,224 $ 924
===================================================
30
Accumulated
Additional Other
Paid-In Retained Comprehensive
Capital Earnings Income
---------------------------------------------
Balance at June 30, 1997 ......................................................... $44,643 $293,170 ($ 6,875)
Comprehensive income:
Net income ........................................................... 53,369
Cumulative translation adjustment .................................... (4,455)
Comprehensive income ...........................................
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise of stock options.... 2,998
Shares of Class A Common Stock exchanged upon the exercise of
stock options and retired ............................................ (265)
Purchase of treasury stock, 100,000 shares @ cost ..........................
Net change in restricted stock units ....................................... 271
Common Stock dividends ..................................................... (8,974)
---------------------------------------------
Balance at June 30, 1998 ......................................................... 47,647 337,565 (11,330)
Comprehensive income:
Net income ........................................................... 35,956
Cumulative translation adjustment .................................... (3,818)
Comprehensive income ...........................................
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise of stock options.... 60
Purchase of treasury stock, 615,000 shares @ cost ..........................
Retirement of treasury stock ............................................... (11,926)
Net change in restricted stock units ....................................... 288
Common Stock dividends ..................................................... (9,432)
---------------------------------------------
Balance at June 30, 1999 ......................................................... 36,069 364,089 (15,148)
Comprehensive income:
Net income ........................................................... 15,242
Cumulative translation adjustment .................................... (51)
Comprehensive income ...........................................
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise
of stock options ..................................................... 511
Purchase of treasury stock, 100,000 shares @ cost ..........................
Retirement of treasury stock ............................................... (1,295)
Net change in restricted stock units ....................................... 45
Spin off of Industrial, Oil and Gas Group .................................. (177,942)
Common Stock dividends ..................................................... (4,656)
---------------------------------------------
Balance at December 31, 1999 ..................................................... 35,330 196,733 (15,199)
Comprehensive income:
Net income ........................................................... 24,001
Cumulative translation adjustment .................................... (4,529)
Comprehensive income ...........................................
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise of stock options.... 309
Purchase of treasury stock, 10,000 shares @ cost ...........................
Retirement of treasury stock ............................................... (104)
Net change in restricted stock units ....................................... 461
Common Stock dividends ..................................................... (7,107)
---------------------------------------------
Balance at December 31, 2000 ..................................................... $35,996 $213,627 ($19,728)
=============================================
Total
Treasury Stockholders'
Stock Equity
---------------------------
Balance at June 30, 1997 ......................................................... $ -- $333,639
Comprehensive income:
Net income ........................................................... 53,369
Cumulative translation adjustment .................................... (4,455)
--------
Comprehensive income ........................................... 48,914
--------
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise of stock options.... 3,014
Shares of Class A Common Stock exchanged upon the exercise of
stock options and retired ............................................ (266)
Purchase of treasury stock, 100,000 shares @ cost .......................... (2,583) (2,583)
Net change in restricted stock units ....................................... 271
Common Stock dividends ..................................................... (8,974)
------------------------
Balance at June 30, 1998 ......................................................... (2,583) 374,015
Comprehensive income:
Net income ........................................................... 35,956
Cumulative translation adjustment .................................... (3,818)
--------
Comprehensive income ........................................... 32,138
--------
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise of stock options.... 61
Purchase of treasury stock, 615,000 shares @ cost .......................... (9,415) (9,415)
Retirement of treasury stock ............................................... 11,998
Net change in restricted stock units ....................................... 288
Common Stock dividends ..................................................... (9,432)
------------------------
Balance at June 30, 1999 ......................................................... -- 387,655
Comprehensive income:
Net income ........................................................... 15,242
Cumulative translation adjustment .................................... (51)
--------
Comprehensive income ........................................... 15,191
--------
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise
of stock options ..................................................... 514
Purchase of treasury stock, 100,000 shares @ cost .......................... (1,305) (1,305)
Retirement of treasury stock ............................................... 1,305
Net change in restricted stock units ....................................... 45
Spin off of Industrial, Oil and Gas Group .................................. (177,942)
Common Stock dividends ..................................................... (4,656)
------------------------
Balance at December 31, 1999 ..................................................... -- 219,502
Comprehensive income:
Net income ........................................................... 24,001
Cumulative translation adjustment .................................... (4,529)
--------
Comprehensive income ........................................... 19,472
--------
Shares of Class B Common Stock converted to Class A Common Stock ...........
Shares of Class A Common Stock issued upon the exercise of stock options.... 313
Purchase of treasury stock, 10,000 shares @ cost ........................... (105) (105)
Retirement of treasury stock ............................................... 105
Net change in restricted stock units ....................................... 467
Common Stock dividends ..................................................... (7,107)
------------------------
Balance at December 31, 2000 ..................................................... $ -- $232,542
========================
31
Watts Industries, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Amounts in thousands)
For the Six
---------For the Twelve Months Ended--------- Months Ended
December 31, June 30, June 30, December 31,
2000 1999 1999 1998 1999
-------- --------- -------- -------- --------
(unaudited)
OPERATING ACTIVITIES
Income from continuing operations ............................... $ 31,171 $ 30,697 $ 29,454 $ 28,123 $ 16,468
Adjustments to reconcile income from continuing operations
to net cash provided by operating activities:
Depreciation .............................................. 16,963 15,495 14,745 12,908 7,869
Amortization .............................................. 3,108 2,701 2,711 2,433 1,356
Deferred income taxes (benefit) ........................... 1,380 (2,983) (2,823) 884 154
Gain/Loss on disposal of property, plant and equipment .... 296 18 (19) (1,152) 23
Equity in undistributed earnings of affiliates ............ (120) 747 712 (192) (78)
Changes in operating assets and liabilities, net of
effects from business acquisitions and divestures:
Accounts receivable ................................. (5,544) (2,343) (876) (2,493) (5,883)
Inventories ......................................... 3,648 (13,589) (532) (8,959) (2,830)
Prepaid expenses and other assets ................... 5,529 (4,478) (1,050) 408 (2,456)
Accounts payable, accrued expenses and
other liabilities ................................. 1,323 15,935 5,964 6,275 14,386
-------- --------- -------- -------- --------
Net cash provided by operating activities .................... 57,754 42,200 48,286 38,235 29,009
-------- --------- -------- -------- --------
INVESTING ACTIVITIES
Additions to property, plant and equipment ...................... (14,238) (24,283) (21,532) (23,056) (10,293)
Proceeds from sale of property, plant and equipment ............. 587 2,291 2,337 7,253 --
Increase in other assets ........................................ (616) (617) (415) (578) (862)
Business acquisitions, net of cash acquired ..................... (9,982) (27,935) (28,422) (1,129) --
-------- --------- -------- -------- --------
Net cash used in investing activities ........................ (24,249) (50,544) (48,032) (17,510) (11,155)
-------- --------- -------- -------- --------
FINANCING ACTIVITIES
Proceeds from long-term borrowings .............................. 71,000 112,453 81,121 68,779 59,089
Payments of long-term debt ...................................... (92,430) (77,697) (47,138) (85,971) (49,831)
Proceeds from exercise of stock options ......................... 675 556 61 2,715 556
Dividends ....................................................... (7,107) (9,301) (9,358) (8,936) (4,656)
Purchase and retirement of common stock ......................... -- (6,849) (9,415) (2,583) (1,305)
-------- --------- -------- -------- --------
Net cash provided by (used in) financing activities .......... (27,862) 19,162 15,271 (25,996) 3,853
-------- --------- -------- -------- --------
Effect of exchange rate changes on cash and cash equivalents .......... (496) 1,437 2,620 (207) 302
Net cash used in discontinued operations .............................. (2,928) (13,852) (16,138) (2,412) (21,767)
-------- --------- -------- -------- --------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ...................... 2,219 (1,597) 2,007 (7,890) 242
Cash and cash equivalents at beginning of year .................. 13,016 14,613 10,767 18,657 12,774
-------- --------- -------- -------- --------
CASH AND CASH EQUIVALENTS AT END OF YEAR .............................. $ 15,235 $ 13,016 $ 12,774 $ 10,767 $ 13,016
======== ========= ======== ======== ========
NON CASH INVESTING AND FINANCING ACTIVITIES
Acquisition of businesses
Fair value of assets acquired ............................... $ 10,826 $ 61,303 $ 61,963 $ 1,129 --
Cash paid ................................................... 9,982 27,935 28,422 1,129 --
-------- --------- -------- -------- --------
Liabilities assumed ......................................... 844 33,368 33,541 -- --
| | Class A Common Stock | Class B Common Stock | | | | | | ||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | | Accumulated Other Comprehensive Income (loss) | | | ||||||||||||||||||||||||
| | Additional Paid-In Capital | Retained Earnings | Treasury Stock | Total Stockholders' Equity | |||||||||||||||||||||||||
| | Shares | Amount | Shares | Amount | |||||||||||||||||||||||||
| Balance at December 31, 2000 | 17,225,965 | $ | 1,723 | 9,235,224 | $ | 924 | $ | 35,996 | $ | 213,627 | $ | (19,728 | ) | $ | — | $ | 232,542 | ||||||||||||
| Comprehensive income: | |||||||||||||||||||||||||||||
| Net income | 26,556 | 26,556 | |||||||||||||||||||||||||||
| Cumulative translation adjustment | (4,553 | ) | (4,553 | ) | |||||||||||||||||||||||||
| Comprehensive income | 22,003 | ||||||||||||||||||||||||||||
| Shares of Class B Common Stock converted to Class A Common Stock | 500,000 | 50 | (500,000 | ) | (50 | ) | |||||||||||||||||||||||
| Shares of Class A Common Stock issued upon the exercise of stock options | 110,510 | 11 | 1,572 | 1,583 | |||||||||||||||||||||||||
| Purchase of treasury stock, 110,300 shares at cost | (1,385 | ) | (1,385 | ) | |||||||||||||||||||||||||
| Retirement of treasury stock | (110,300 | ) | (11 | ) | (1,374 | ) | 1,385 | ||||||||||||||||||||||
| Net change in restricted stock units | 50,334 | 5 | 988 | 993 | |||||||||||||||||||||||||
| Common Stock dividends | (6,422 | ) | (6,422 | ) | |||||||||||||||||||||||||
| Balance at December 31, 2001 | 17,776,509 | $ | 1,778 | 8,735,224 | $ | 874 | $ | 37,182 | $ | 233,761 | $ | (24,281 | ) | $ | — | $ | 249,314 | ||||||||||||
| Comprehensive income: | |||||||||||||||||||||||||||||
| Net income | 32,622 | 32,622 | |||||||||||||||||||||||||||
| Cumulative translation adjustment | 16,475 | 16,475 | |||||||||||||||||||||||||||
| Pension plan additional minimum liability, net of tax of $2,444 | (3,988 | ) | (3,988 | ) | |||||||||||||||||||||||||
| Comprehensive income | 45,109 | ||||||||||||||||||||||||||||
| Shares of Class B Common Stock converted to Class A Common Stock | 550,000 | 55 | (550,000 | ) | (55 | ) | |||||||||||||||||||||||
| Shares of Class A Common Stock issued upon the exercise of stock options | 501,646 | 50 | 6,297 | 6,347 | |||||||||||||||||||||||||
| Tax benefit for stock options exercised | 855 | 855 | |||||||||||||||||||||||||||
| Net change in restricted stock units | 35,327 | 3 | 798 | 801 | |||||||||||||||||||||||||
| Common Stock dividends | (6,490 | ) | (6,490 | ) | |||||||||||||||||||||||||
| Balance at December 31, 2002 | 18,863,482 | $ | 1,886 | 8,185,224 | $ | 819 | $ | 45,132 | $ | 259,893 | $ | (11,794 | ) | $ | — | $ | 295,936 | ||||||||||||
| Comprehensive income: | |||||||||||||||||||||||||||||
| Net income | 33,362 | 33,362 | |||||||||||||||||||||||||||
| Cumulative translation adjustment and other | 27,440 | 27,440 | |||||||||||||||||||||||||||
| Pension plan additional minimum liability, net of tax of $1,205 | (1,841 | ) | (1,841 | ) | |||||||||||||||||||||||||
| Comprehensive income | 58,961 | ||||||||||||||||||||||||||||
| Shares of Class B Common Stock converted to Class A Common Stock | 580,000 | 58 | (580,000 | ) | (58 | ) | |||||||||||||||||||||||
| Shares of Class A Common Stock issued upon the exercise of stock options | 301,011 | 30 | 4,029 | 4,059 | |||||||||||||||||||||||||
| Tax benefit for stock options exercised | 423 | 423 | |||||||||||||||||||||||||||
| Net change in restricted stock units | 114,628 | 12 | 1,333 | 1,345 | |||||||||||||||||||||||||
| Shares of Class A Common Stock issued in Stock Offering net of offering costs of $4,874 | 4,600,000 | 460 | 82,066 | 82,526 | |||||||||||||||||||||||||
| Common Stock dividends | (6,859 | ) | (6,859 | ) | |||||||||||||||||||||||||
| Balance at December 31, 2003 | 24,459,121 | $ | 2,446 | 7,605,224 | $ | 761 | $ | 132,983 | $ | 286,396 | $ | 13,805 | $ | — | $ | 436,391 | |||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
32
53
Watts Industries,Water Technologies, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Amounts in thousands)
| | Years Ended December 31, | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||||||
| OPERATING ACTIVITIES | ||||||||||||||
| Income from continuing operations | $ | 36,473 | $ | 32,622 | $ | 26,556 | ||||||||
| Adjustments to reconcile net income from continuing operations to net cash provided by continuing operating activities: | ||||||||||||||
| Depreciation | 20,521 | 21,817 | 19,971 | |||||||||||
| Amortization | 763 | 477 | 3,704 | |||||||||||
| Deferred income taxes (benefit) | (75 | ) | 1,884 | (3,421 | ) | |||||||||
| Loss (gain) on disposal of property, plant and equipment | 156 | (134 | ) | 1,923 | ||||||||||
| Assets held for sale | 946 | — | — | |||||||||||
| Equity in undistributed earnings (loss) of affiliates | (37 | ) | (101 | ) | 6 | |||||||||
| Changes in operating assets and liabilities, net of effects from business acquisitions and divestures: | ||||||||||||||
| Accounts receivable | 2,180 | (13,762 | ) | 6,295 | ||||||||||
| Inventories | (8,367 | ) | (2,764 | ) | 4,213 | |||||||||
| Prepaid expenses and other assets | (2,556 | ) | (3,405 | ) | (780 | ) | ||||||||
| Accounts payable, accrued expenses and other liabilities | (14 | ) | 14,791 | (7,230 | ) | |||||||||
| Net cash provided by continuing operations | 49,990 | 51,425 | 51,237 | |||||||||||
| INVESTING ACTIVITIES | ||||||||||||||
| Additions to property, plant and equipment | (20,035 | ) | (19,593 | ) | (16,047 | ) | ||||||||
| Proceeds from the sale of property, plant and equipment | 1,765 | 3,194 | 267 | |||||||||||
| Decrease (increase) in other assets | (191 | ) | (1,189 | ) | 508 | |||||||||
| Business acquisitions, net of cash acquired | (18,584 | ) | (26,233 | ) | (42,977 | ) | ||||||||
| Net cash used in investing activities | (37,045 | ) | (43,821 | ) | (58,249 | ) | ||||||||
| FINANCING ACTIVITIES | ||||||||||||||
| Proceeds from long-term borrowings | 220,722 | 122,917 | 124,992 | |||||||||||
| Payments of long-term debt | (174,166 | ) | (137,513 | ) | (114,033 | ) | ||||||||
| Proceeds from exercise of stock options | 5,404 | 7,148 | 2,576 | |||||||||||
| Tax benefit of stock options exercised | 423 | 855 | — | |||||||||||
| Proceeds from stock offering, net | 82,526 | — | — | |||||||||||
| Dividends | (6,859 | ) | (6,490 | ) | (6,422 | ) | ||||||||
| Purchase and retirement of common stock | — | — | (1,385 | ) | ||||||||||
| Net cash provided by (used in) financing activities | 128,050 | (13,083 | ) | 5,728 | ||||||||||
| Effect of exchange rate changes on cash and cash equivalents | 3,856 | 2,281 | (214 | ) | ||||||||||
| Net cash provided by (used in) discontinued operations | (6,463 | ) | 2,174 | (1,740 | ) | |||||||||
| INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | 138,388 | (1,024 | ) | (3,238 | ) | |||||||||
| Cash and cash equivalents at beginning of year | 10,973 | 11,997 | 15,235 | |||||||||||
| CASH AND CASH EQUIVALENTS AT END OF YEAR | $ | 149,361 | $ | 10,973 | $ | 11,997 | ||||||||
| NON CASH INVESTING AND FINANCING ACTIVITIES | ||||||||||||||
| Acquisition of businesses | ||||||||||||||
| Fair value of assets acquired | $ | 22,604 | $ | 66,176 | $ | 64,951 | ||||||||
| Cash paid, net of cash acquired | 18,584 | 26,233 | 42,977 | |||||||||||
| Liabilities assumed | $ | 4,020 | $ | 39,943 | $ | 21,974 | ||||||||
| CASH PAID FOR: | ||||||||||||||
| Interest | $ | 13,499 | $ | 10,084 | $ | 10,416 | ||||||||
| Taxes | $ | 17,700 | $ | 16,400 | $ | 19,700 | ||||||||
The accompanying notes are an integral part of these consolidated financial statements.
54
Watts Water Technologies, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(1) Description of Business
Watts Industries,Water Technologies, Inc. (the Company) designs, manufactures and sells an extensive line of valveswater safety and flow control products for the plumbing and heatingwater quality, water safety, water flow control and water qualityconservation markets located predominatelypredominantly in North America, Europe, and Asia.
China.
On October 15, 2003, the Company changed its name from Watts Industries, Inc. to Watts Water Technologies, Inc. to more accurately reflect its strategic focus on providing solutions to its customers' water based needs.
(2) Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its majority and wholly-ownedwholly owned subsidiaries. Upon consolidation, all significant intercompany accounts and transactions are eliminated. The
financial statements of the Company reflect the industrial oil and gas
businesses as discontinued operations for periods prior to a spin-off
transaction that was completed on October 18, 1999 (see Note 3).
Change in Fiscal Year
Effective July 1, 1999, the Company changed its fiscal year end from June
30 to December 31. Accordingly, the audited financial statements include
the results for the twelve month period ended December 31, 2000, ("fiscal
2000") the six month period ended December 31, 1999 ("transition period"),
and the prior fiscal years ended June 30, 1999 ("fiscal 1999") and June
30, 1998 ("fiscal 1998"). In addition to the basic audited financial
statements and related notes, unaudited financial information for the
twelve-month period ended December 31, 1999 and the six month period ended
December 31, 1998 have been presented to enhance comparability.
Cash Equivalents
Cash equivalents consist of highly liquid investments with maturities of three months or less at the date of original issuance.
Allowance for Doubtful Accounts
Allowance for doubtful accounts includes reserves for bad debts and sales returns and allowances. The Company analyzes the aging of accounts receivable, individual accounts receivable, historical bad debts, concentration of receivables by customer, customer credit worthiness, current economic trends and changes in customer payment terms. The Company specifically analyzes individual accounts receivable and establishes specific reserves against financially troubled customers. In addition, factors are developed in certain regions utilizing historical trends of sales and returns and allowances to derive a reserve for returns and allowances.
Concentration of Credit
The Company sells products to a diversified customer base and, therefore, has no significant concentrations of credit risk, except that approximately 10.6% and 10.2% of the Company's total sales in 2003 and 2002, respectively, are to one company.
Inventories
Inventories are stated at the lower of cost (first-in, first-out method) or market. Market value is determined by replacement cost or net realizable value. Historical experience is used as the basis for determining the reserve for excess or obsolete inventories.
Goodwill and Other Intangible Assets
Goodwill representsis recorded when the excess of cost overconsideration paid for acquisitions exceeds the fair value of net tangible and intangible assets acquired. In June 2001, the Financial Accounting Standards Board (FASB) issued Financial Accounting Standards Board Statement No. 141 "Business Combinations" (FAS 141) and Financial Accounting Standards Board Statement No. 142 "Goodwill and Other
55
Intangible Assets" (FAS 142). FAS 141 requires that the purchase method of businesses acquired. This balance isaccounting be used for all business combinations completed after June 30, 2001. FAS 142 requires that goodwill and other intangible assets with indefinite useful lives no longer be amortized, but rather be tested annually for impairment.
Prior to the adoption of FAS 142, goodwill was amortized over 40 years using the straight-line method. TheAlso, the Company assessespreviously assessed the recoverability of this
intangible assetassets by determining whether the amortization of the goodwillintangible asset balance over its remaining life cancould be recovered through undiscounted
future operating cash flows of the acquired businesses. The amount of goodwill impairment, if any, iswas measured based on projected discounted future operating cash flows using a discount rate reflecting the Company's average cost of funds.
Impairment of Goodwill and Long-Lived Assets
Goodwill and intangible assets with indefinite lives are tested annually for impairment in accordance with the provisions of FAS 142. The Company's impairment review is based on a discounted cash flow approach at the reporting unit level that requires management judgment with respect to revenue and expense growth rates, changes in working capital and the selection and use of an appropriate discount rate. The Company uses its judgment in assessing whether assets may have become impaired between annual impairment tests. Indicators such as unexpected adverse business conditions, economic factors, unanticipated technological change or competitive activities, loss of key personnel and acts by governments and courts, may signal that an asset has become impaired.
Intangible assets with estimable lives and other long-lived assets are reviewed for impairment whenever events of changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable in accordance with Financial Accounting Standards Board Statement No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" (FAS 144). Recoverability of intangible assets with estimable lives and other long-lived assets is measured by a comparison of the carrying amount of an asset or asset group to future net undiscounted pretax cash flows expected to be generated by the asset or asset group. If these comparisons indicate that an asset is not recoverable, the impairment loss recognized is the amount by which the carrying amount of the asset or asset group exceeds the related estimated fair value. Estimated fair value is based on either discounted future pretax operating cash flows or appraised values, depending on the nature of the asset. The Company determines the discount rate for this analysis based on the expected internal rate of return for the related business and does not allocate interest charges to the asset or asset group being measured. Judgment is required to estimate discounted future operating cash flows.
56
The following table adjusts net income in 2001 to reflect what it would have been if FAS 142 was adopted on January 1, 2001:
| | Years Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||||
| | (in thousands, except per share information) | ||||||||
| Net income, as reported | $ | 33,362 | $ | 32,622 | $ | 26,556 | |||
| Add back: goodwill amortization, net of tax | — | — | 3,220 | ||||||
| Adjusted net income | $ | 33,362 | $ | 32,622 | $ | 29,776 | |||
| Basic earnings per share: | |||||||||
| Net income, as reported | $ | 1.22 | $ | 1.22 | $ | 1.00 | |||
| Goodwill amortization | — | — | 0.12 | ||||||
| Adjusted net income | $ | 1.22 | $ | 1.22 | $ | 1.12 | |||
| Diluted earnings per share: | |||||||||
| Net income, as reported | $ | 1.21 | $ | 1.21 | $ | 0.99 | |||
| Goodwill amortization | — | — | 0.12 | ||||||
| Adjusted net income | $ | 1.21 | $ | 1.21 | $ | 1.11 | |||
The changes in the carrying amount of goodwill are as follows:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Carrying amount at the beginning of year | $ | 163,226 | $ | 124,544 | ||
| Goodwill acquired during the year | 8,451 | 30,662 | ||||
| Adjustments to goodwill during the period | (130 | ) | — | |||
| Effect of change in exchange rates used for translation | 13,354 | 8,020 | ||||
| Carrying amount at end of year | $ | 184,901 | $ | 163,226 | ||
Other intangible assets include the following and are presented in "Other Assets: "Other", in the Consolidated Balance Sheets:
| | December 31, | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||||||||||
| | Gross Carrying Amount | Accumulated Amortization | Gross Carrying Amount | Accumulated Amortization | ||||||||||
| | (in thousands) | |||||||||||||
| Patents | $ | 8,449 | $ | (3,862 | ) | $ | 8,353 | $ | (3,445 | ) | ||||
| Other | 3,377 | (1,245 | ) | 4,888 | (917 | ) | ||||||||
| Total amortizable intangibles | 11,826 | (5,107 | ) | 13,241 | (4,362 | ) | ||||||||
| Intangible assets not subject to amortization. | 10,029 | — | 10,256 | — | ||||||||||
| Total | $ | 21,855 | $ | (5,107 | ) | $ | 23,497 | $ | (4,362 | ) | ||||
57
Aggregate amortization expense for amortized other intangible assets for the year ended December 31, 2003, 2002 and 2001 was $763,000, $477,000 and $484,000, respectively. Additionally, future amortization expense on other intangible assets approximates $517,000 for 2004, $511,000 for 2005 and $472,000 for 2006 and 2007 and $448,000 for 2008.
Property, Plant and Equipment
Property, plant and equipment are recorded at cost. Depreciation is provided on a straight-line basis over the estimated useful lives of the assets, which range from 10 to 40 years for buildings and improvements and 3 to 15 years for machinery and equipment.
Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
33
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Statements (continued)
Foreign Currency Translation
The financial statements of subsidiaries located outside the United States generally are measured using the local currency as the functional currency. Balance sheet accounts, including goodwill, of foreign subsidiaries are translated into United States dollars at fiscal year endyear-end exchange rates. Operating accountsIncome and expense items are translated at weighted average exchange rates for each period. Net translation gains or losses are adjusted directly toincluded in other comprehensive income, a separate component of stockholders' equity. The Company does not provide for U.S. income taxes on foreign currency translation adjustments since it does not provide for such taxes on undistributed earnings of foreign subsidiaries. Gains and losses from foreign currency transactions of these subsidiaries are included in net earnings.
Stock Based Compensation
As allowed
The Company accounts for stock based compensations in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB No. 25), and related interpretations. The Company records stock based compensation expense associated with its Management Stock Purchase Plan due to the discount from market price. Stock-based compensation expense is amortized to expense on a straight-line basis over the vesting period. The following table illustrates the effect on reported net income and earnings per common share if the Company had applied the fair value method to measure stock-based compensation, which is described more fully in Note 13 as required under Statementthe disclosure provisions of Financial Accounting Standards (SFAS)Board No. 123,
58
"Accounting for Stock-Based Compensation the Company accounts" (FAS 123) as amended by Financial Accounting Standards Board No. 148 "Accounting for its
stock-based employee compensation plans in accordance with the provisions
of APB Opinion No. 25, Accounting for Stock Issued to Employees.
Stock-Based Compensation Transition and Disclosure" (FAS 148).
| | Years Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||||||
| | (in thousands) | ||||||||||
| Net income, as reported | $ | 33,362 | $ | 32,622 | $ | 26,556 | |||||
Add: Stock-based employee compensation expense from the Management Stock Purchase Plan included in reported net income, net of tax | 131 | 164 | 184 | ||||||||
Deduct: Stock-based employee expense determined under the fair value method, net of tax: | |||||||||||
Restricted stock units (Management Stock Purchase Plan) | (271 | ) | (220 | ) | (192 | ) | |||||
| Employee stock options | (575 | ) | (573 | ) | (551 | ) | |||||
| Proforma net income | $ | 32,647 | $ | 31,993 | $ | 25,997 | |||||
| Earnings per share: | |||||||||||
| Basic—as reported | $ | 1.22 | $ | 1.22 | $ | 1.00 | |||||
| Basic—proforma | 1.19 | 1.20 | 0.98 | ||||||||
| Dilutive—as reported | 1.21 | 1.21 | 0.99 | ||||||||
| Dilutive—proforma | $ | 1.18 | $ | 1.19 | $ | 0.97 | |||||
Net Income Per Common Share
Basic net income per common share is calculated by dividing net income by the weighted average number of common shares outstanding. The calculation of diluted earnings per share assumes the conversion of all dilutive securities (see Note 13).
Income
Net income and number of shares used to compute net earnings per share, from
continuing operations, basic and assuming full dilution, are reconciled below:
| | Years Ended December 31, | |||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||||||||||||||||
| | Net Income | Shares | Per Share Amount | Net Income | Shares | Per Share Amount | Net Income | Shares | Per Share Amount | |||||||||||||||
| | (Amounts in thousands, except per share information) | |||||||||||||||||||||||
| Basic EPS | $ | 33,362 | 27,455 | $ | 1.22 | $ | 32,622 | 26,718 | $ | 1.22 | $ | 26,556 | 26,497 | $ | 1.00 | |||||||||
| Dilutive securities principally common stock options | — | 237 | 0.01 | — | 338 | 0.01 | — | 305 | 0.01 | |||||||||||||||
| Diluted EPS | $ | 33,362 | 27,692 | $ | 1.21 | $ | 32,622 | 27,056 | $ | 1.21 | $ | 26,556 | 26,802 | $ | 0.99 | |||||||||
Stock options to purchase 706,656 shares of common stock were outstanding at December 31, 2001, but were not included in the computation of diluted earnings per share because the options exercise price was greater than the average market price of the common shares and therefore, the effect would have been antidilutive. There were none outstanding at December 31, 2003 and 2002.
59
Derivative Financial Instruments
In the normal course of business, the Company manages risks associated with commodity prices, foreign exchange rates and interest rates through a variety of strategies, including the use of hedging transactions, executed in accordance with the Company's policies. The Company's hedging transactions include, but are not limited to, the use of various derivative financial and commodity instruments. As a matter of policy, the Company usesdoes not use derivative instruments principally swaps, forward
contracts and options to achieve its financing strategy and to hedge
foreign currency and commodity exposures. These contracts hedge
transactions and balances for periods consistent with their committed
exposures, and do not constitute investments independentunless there is an underlying exposure. Any change in the value of these
exposures.our derivative instruments would be substantially offset by an opposite change in the value of the underlying hedged items. The Company does not hold or issue financialuse derivative instruments for trading purposes, nor is it a party to any leveraged contracts.
Realizedor speculative purposes.
Using qualifying criteria defined in Financial Accounting Standards Board Statement No. 133 "Accounting for Derivative Instruments and unrealized foreign exchange gains and losses on financialHedging Activities" (FAS 133), derivative instruments are designated and accounted for as either a hedge of a recognized asset or liability (fair value hedge) or a hedge of a forecasted transaction (cash flow hedge). For a fair value hedge, both the effective and offset foreign exchange gains and losses onineffective portions of the change in fair value of the derivative instrument, along with an adjustment to the carrying amount of the hedged item for fair value changes attributable to the hedged risk, are recognized in earnings. For a cash flow hedge, changes in the fair value of the derivative instrument that are highly effective are deferred in accumulated other comprehensive income or loss until the underlying exposures. Any gain or loss from a financial instrument
that ceases to be an effective hedgehedged item is recognized in earnings.
The ineffective portion of fair value changes on qualifying hedges is recognized in earnings immediately. If a fair value or cash flow hedge were to cease to qualify for hedge accounting or be terminated, it would continue to be carried on the statementbalance sheet at fair value until settled, but hedge accounting would be discontinued prospectively. If a forecasted transaction were no longer probable of operations.occurring, amounts previously deferred in accumulated other comprehensive income would be recognized immediately in earnings. On occasion, the Company may enter into a derivative instrument for which hedge accounting is not required because it is entered into to offset changes in the fair value of an underlying transaction which is required to be recognized in earnings (natural hedge). These instruments are reflected in the Consolidated Balance Sheets at fair value with changes in fair value recognized in earnings.
Certain forecasted transactions, primarily intercompany sales between the United States and Canada, and assets are exposed to foreign currency risk. The Company monitors its foreign currency exposures on an ongoing basis to maximize the overall effectiveness of its foreign currency hedge positions. During 2003, the Company used foreign currency forward contracts as a means of hedging exposure to foreign currency risks. The Company's foreign currency forwards have been designated and qualify as cash flow hedges under the criteria of FAS 133. FAS 133 requires that changes in fair value of derivatives that qualify as cash flow hedges be recognized in other comprehensive income while the ineffective portion of the derivative's change in fair value be recognized immediately in earnings.
Portions of the Company's outstanding debt are exposed to interest rate differential paid or receivedrisks. The Company monitors its interest rate exposures on an ongoing basis to maximize the overall effectiveness of its interest rates. During 2003, the Company entered into an interest rate swap agreements is recognized as an adjustmenta means of hedging exposure to interest expense.
rate risks (see Note 11). The Company's swap was designated as a cash flow hedge under the criteria of FAS 133.
60
Shipping and Handling
Shipping and handling costs included in selling, general and administrative expense amounted to $19,492,000$22,111,000, $20,900,000 and $21,002,000 for the yearyears ended December 31, 2000, $9,053,0002003, 2002 and 2001, respectively.
Research and Development
Research and development costs included in selling, general, and administrative expense amounted to $9,178,000, $9,132,000 and $6,584,000 for the six month periodyears ended December 31, 1999,2003, 2002 and $17,943,000 and $14,961,000 for2001, respectively.
Revenue Recognition
The Company recognizes revenue when all of the fiscal years ended June 30, 1999 and
1998, respectively.
Revenue Recognition
Revenue from sale of products is recognized when goods arefollowing criteria have been met: the Company has entered into a binding agreement, the product has been shipped and title passes, the sales price to the customer.
34
Watts Industries, Inc.customer is fixed or is determinable, and Subsidiaries
Notescollectability is reasonably assured. Provisions for estimated returns and allowances are made at the time of sale, and are recorded as a reduction of sales and included in the allowance for doubtful accounts in the Consolidated Balance Sheets. The Company records provisions for sales incentives (primarily volume rebates), as an adjustment to Consolidated Statements (continued)
net sales in accordance with the Financial Accounting Standards Board's Emerging Issues Task Force (EITF) Issue 00-14, "Accounting for Certain Sales Incentives"(EITF 00-14) and EITF Issue No 01-9, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products".
Advertising
The Company records advertising expense as incurred.
Basis of Presentation
Certain amounts in fiscal years 1999.5, 19992002 and 19982001 have been reclassified to permit comparison with the 20002003 presentation.
Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
New Accounting Standards
In June 1998, Statement ofAugust 2001, the Financial Accounting Standards (SFAS)Board (FASB) issued Financial Accounting Standards Board Statement No. 143, "Accounting for Asset Retirement Obligations" (FAS 143) which requires companies to record the fair value of an asset retirement obligation as a liability in the period it incurs a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development and/or normal use of the assets. The company must also record a corresponding increase in the carrying value of the related long-lived asset and depreciate that cost over the remaining useful life of the asset. The liability must be increased each period for the passage of time with the offset recorded as an operating expense. The liability must also be adjusted
61
for changes in the estimated future cash flows underlying the initial fair value measurement. Companies must also recognize a gain or loss on the settlement of the liability. The provisions of FAS 143 are effective for fiscal years beginning after June 15, 2002. At the date of the adoption of FAS 143, companies are required to recognize a liability for all existing asset retirement obligations and the associated asset retirement costs. The Company has adopted FAS 143 effective January 1, 2003 and its adoption was not material to the consolidated financial statements.
In July 2002, the FASB issued Financial Accounting Standards Board Statement No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" (FAS 146). The principal difference between this Statement and Emergency Issues Task Force (EITF) Issue No. 94-3 "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring) (Issue 94-3) relates to its requirements for recognition of a liability for a cost associated with an exit or disposal activity. This Statement requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of an entity's commitment to an exit plan. The provisions of this statement are effective for exit or disposal activities that are initiated after December 31, 2002. The Company adopted FAS 146 effective January 1, 2003 and its adoption was not material to the consolidated financial statements.
In November 2002, the FASB issued Financial Accounting Standards Board Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, including Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 requires that a liability be recorded in the guarantor's balance sheet upon issuance of certain guarantees. In addition, FIN 45 requires disclosures about the guarantees that an entity has issued, including a roll-forward of the entity's product warranty liabilities. FIN 45 required the application of the recognition provisions of FIN 45 prospectively to guarantees issued after December 31, 2002. The Company adopted the disclosure provisions of FIN 45 effective December 31, 2002. The Company does offer warranties for its products, but the returns under warranty have been immaterial. The warranty reserve is part of the sales returns and allowances reserve, a component of the Company's allowance for doubtful accounts. The Company adopted FIN 45 effective January 1, 2003 and its adoption was not material to the consolidated financial statements.
In December 2002, the FASB issued Financial Accounting Standards Board Statement No. 148, "Accounting for Stock-Based Compensation, Transition and Disclosure" (FAS 148). FAS 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. FAS 148 also requires that disclosures of the pro forma effect of using the fair value method of accounting for stock-based employee compensation be displayed more prominently and in a tabular format. Additionally, FAS 148 requires disclosure of the pro forma effect in interim financial statements. The additional disclosure requirements of FAS 148 were effective for fiscal years ended after December 15, 2002. The Company currently continues to account for stock-based compensation in accordance with Accounting Principles Board Opinion No. 25 and the Company provided the disclosures required by FAS 148.
In December 2002, the EITF issued EITF 00-21, "Accounting for Revenue Arrangements with Multiple Deliverables." This consensus provides guidance in determining when a revenue arrangement with multiple deliverables should be divided into separate units of accounting, and, if separation is appropriate, how the arrangement consideration should be allocated to the identified accounting units. The provisions of EITF 00-21 are effective for revenue arrangements entered during fiscal periods beginning after June 15, 2003. The Company adopted EITF 00-21, effective July 1, 2003, and its adoption was not material to the consolidated financial statements.
62
In January 2003, the FASB issued Financial Accounting Standards Board Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46) which requires the consolidation of variable interest entities (VIE) by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 was effective for all new VIEs created or acquired after January 31, 2003. In October 2003, the FASB delayed the effective date for some VIEs that existed prior to February 1, 2003, provided the reporting entity had not "issued" financial statements reporting the VIE in accordance with Interpretation 46. FIN 46 was effective for the first interim or annual period ending after December 15, 2003. In December 2003, the FASB issued a revision to FIN 46 (FIN 46R). Under the revised provisions, public entities are required to apply the guidance if the entity has interests in VIEs commonly referred to as special-purpose entities for periods ending after December 15, 2003. The Company adopted FIN 46R and as a result has consolidated Jameco International, LLC (the LLC) effective October 1, 2003 (the fourth quarter of fiscal 2003). The LLC imports and sells vitreous china, imported faucets and faucet parts and imported bathroom accessories to the North American home improvement retail market. Its annual sales for the twelve months ended December 31, 2003, were approximately $16,079,000. The LLC maintains a line of credit with a financial institution collateralized by a first security interest in the LLC's assets. The creditors have no recourse to the Company. The assets as of December 31, 2003 of $3,960,000 are comprised primarily of accounts receivable and inventory which the Company believes are collectable and saleable, respectively, within the normal course of business. The Company has a subordinated security interest in the assets of the LLC pertaining to its loan receivable of $2,230,680 at December 31, 2003, which eliminates in consolidation as the result of the application of FIN 46R. Prior to the adoption of FIN 46R, the Company accounted for its investment of 49% in the LLC using the equity method.
The Company also maintains another variable interest in a VIE. In 2000 the Company entered into an agreement with Plumworld.co.uk Ltd in which the Company maintains a 20% interest in Plumbworld. Plumbworld is primarily an e-business that sells bathroom and sanitary appliances, as well as, plumbing and heating products, tools and plumbing consumables. Its annualized sales are approximately $7,100,000. The Company maintains a notional amount of approximately $500 investment in Plumbworld and maintains a loan receivable in amount of approximately $850,000 with Plumbworld. The Company continues to account for its investment in Plumbworld using the equity method.
In April 2003, the FASB issued Financial Accounting Standards Board Statement No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" (FAS 149). FAS 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under FAS 133, "Accounting for Derivative Instruments and Hedging Activities." was
issued.Activities" (FAS 133). FAS 149 has multiple effective date provisions depending on the nature of the amendments to FAS 133, including one for contracts entered into or modified after June 30, 2003. The Company adopted SFAS No. 133, as amended by SFAS No. 137FAS 149 and SFAS No. 138, on January 1, 2001. Theits adoption of SFAS No. 133 haswas not had
a material impact on the Company's financial position or overall trends in
results of operations and has not resulted in significant changes to its
financial risk management practices. However, the adoption of SFAS No. 133
could result in more pronounced quarterly fluctuations in other income and
expense.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin (SAB) No. 101. "Revenue Recognition." An amendment in
June 2000 delayed the effective date until the fourth quarter of 2000. The
adoption of SAB 101 did not have a material impact on the consolidated financial statements.
63
In May 2000,2003, the FASB issued Financial Accounting Standards Board's Emerging Issues
Task Force (EITF) reached a consensus on IssueBoard Statement No. 00-14,150, "Accounting for Certain Sales Incentives." This issue addressesFinancial Instruments with Characteristics of both Liabilities and Equity" (FAS 150). FAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. FAS 150 is effective for certain financial instruments entered into or modified after May 31, 2003. For unmodified financial instruments existing at May 31, 2003, FAS 150 is effective at the recognition,
measurement and income statement classification for various typesbeginning of sales
incentives, including discounts, coupons, rebates and free products. In
November 2000, the EITF revised the transition date such that the Company
must adopt EITF 00-14 no later than the second quarter of 2001. The
Company will adopt the consensus in the second quarter of 2001 and it is
not expected to have a material impact on the Company's financial
statements
In July and September 2000, the EITF reached consensus on Issue No 00-10,
"Accounting for Shipping and Handling Fees and Costs." This issue
addresses the income statement classification for shipping and handling
fees and costs.first interim period beginning after June 15, 2003. The Company adopted FAS 150 apart from the consensus in the fourth quarterdeferral by FASB Staff Position 150-3 (FAS 150-3) of 2000. Thecertain mandatorilly redeemable non controlling interests and its adoption of EITF Issue No. 00-10 didwas not have a material impact
onto the consolidated financial statements.
(3) Discontinued Operations
On December 18, 1998, the Company announced its intention to spin-off its
industrial, oil and gas businesses to its shareholders as an independent
publicly traded company. The spin-off was effected as a tax-free
distribution on October 18, 1999 ("Distribution Date"). Owners of Watts
common stock as of October 6, 1999 received one share of common stock of
CIRCOR International, Inc. ("CIRCOR"), the new company, for every two
shares of Watts Class A or Class B common stock held. Coincident with the
Distribution Date, the Company received $96.0 million in cash from CIRCOR
as repayment of inter-company loans and advances.
The historical operating results of CIRCOR are shown, net of tax, as
discontinued operations in the consolidated statements of operations. Net
assets of discontinued operations in the consolidated balance sheet
include those assets and liabilities attributable to the CIRCOR businesses
at June 30, 1999. Included in the historical operating results of the
discontinued operations is an allocation of the Company's interest expense
based on an allocation of the Company's debt to discontinued operations.
Income taxes have been allocated to discontinued operations based on their
pretax income and calculated on a separate company basis pursuant to the
requirements of Statement of Financial Accounting Standards No. 109.
In September 1996, the Company divested its MunicipleMunicipal Water Group of businesses, which included Henry Pratt, James Jones Company and Edward Barber and Company Ltd. Costs and expenses related to the Municipal Water 35
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Statements (continued)
Group for fiscal 2000 and 19992003 relate to legal and settlement costs associated with the James Jones litigationLitigation (see Note 15). Specifically, in 2003, a settlement payment of $13,000,000, of which the Company paid $11,000,000, has been made to settle the claims of the three cities (Santa Monica, San Francisco and East Bay Municipal Water District) chosen by the Relator as having the strongest claims. This settlement, which was primarily expensed in prior years, and other legal fees, required the Company to record additional net of tax charges for the year ended December 31, 2003, of $2,665,000.
The Company also recorded a charge attributable to payments to be made to the selling shareholders of the James Jones Company pursuant to the Company's original purchase agreement. For the year ended December 31, 2003, the Company recorded a net of tax charge of $446,000.
Condensed operating statement data of thestatements and balance sheets for discontinued operations is summarized below:
| | Years Ended December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||
| | (in thousands) | |||||||||
| Net sales | $ | — | $ | — | $ | — | ||||
| Costs and expenses | ||||||||||
| Municipal Water Group | (5,058 | ) | — | — | ||||||
| Loss before income taxes | (5,058 | ) | — | — | ||||||
| Income tax benefit | 1,947 | — | — | |||||||
| Loss from discontinued operations, net of taxes | $ | (3,111 | ) | $ | — | $ | — | |||
| | December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||
| | (in thousands) | ||||||
| Prepaid expenses and other assets | $ | 875 | $ | 1,914 | |||
| Deferred income taxes | 3,585 | 6,741 | |||||
| Assets of discontinued operations | $ | 4,460 | $ | 8,655 | |||
| Accrued expenses and other liabilities | 11,302 | 18,906 | |||||
| Liabilities of discontinued operations | $ | 11,302 | $ | 18,906 | |||
64
(4) Restructuring Activities
On December 2, 1999,and Other Charges
The Company continues to implement a plan to consolidate several of its manufacturing plants both in North America and Europe. At the same time it is expanding its manufacturing capacity in China and other low cost areas of the world. The implementation of this manufacturing restructuring plan began during the fourth quarter of 2001. The projects for which charges were recorded in the fourth quarter of 2001 are essentially complete. During 2002, the Company announced adecided to expand the scope of the manufacturing restructuring plan and transfer certain production to low cost manufacturing plants in Tunisia and Bulgaria. The expanded plan is essentially complete as of its
operationsDecember 31, 2003. The Company recorded pre-tax manufacturing restructuring and other costs of $1,655,000, net of recoveries, for the year ended December 31, 2003. The manufacturing restructuring and other costs recorded consist primarily of severance costs, asset write-downs and accelerated depreciation. The severance costs, which have been recorded as restructuring, are for 48 employees in Italymanufacturing and administration groups. The Company expects to consolidatecomplete severance payments by the warehousing and manufacturing
operationsend of its existing Italian operation into the facilitiesfirst quarter of its
newly acquired Italian subsidiary, Cazzaniga S.p.A. This restructuring
program, which included the termination2004. Asset write-downs consist primarily of 29 employees (primarily
manufacturing) was completed during 2000, however, actual cash payments
for severancewrite-offs of inventory related to terminated employeesproduct lines that the Company has discontinued as part of this restructuring plan and leaseare recorded in cost of goods sold. Accelerated depreciation is based on shorter remaining estimated useful lives of certain fixed assets and has been recorded in cost of goods sold. Other costs related to
vacated facilities will continue for several quarters. Program spending
for employee severanceconsist primarily of removal and related benefits, lease terminationshipping costs associated with relocation of manufacturing equipment and other exit costs did not differ materially from the original estimates.have been recorded in cost of goods sold and have been expensed as incurred.
Details of the Company's manufacturing restructuring plan through December 31, 2003 are as follows:
| | Balance 12/31/01 | Provisions 2002 | Utilized 2002 | Balance 12/31/02 | Provisions 2003 | Utilized 2003 | Balance 12/31/03 | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | (in thousands) | ||||||||||||||||||||
| Restructuring | $ | 762 | $ | 638 | $ | 981 | $ | 419 | $ | 426 | $ | 804 | $ | 41 | |||||||
| Asset write-downs | — | 2,491 | 2,491 | — | 479 | 479 | — | ||||||||||||||
| Other costs | — | 960 | 960 | — | 750 | 750 | — | ||||||||||||||
| Total | $ | 762 | $ | 4,089 | $ | 4,432 | $ | 419 | $ | 1,655 | $ | 2,033 | $ | 41 | |||||||
(5) Business Acquisitions
On AugustJuly 30, 2000,2003, a wholly ownedwholly-owned subsidiary of the Company acquired certain assets of Chiles Power Supply and Bask LLC,Giuliani Anello S.r.l. located in Springfield, MissouriCento Bologna, Italy for approximately $3 million. The$10,600,000 in cash net of acquired business,
now operating under the name Watts Heatway,cash of $1,400,000. Giuliani Anello manufactures and distributes valves and filters utilized in heating applications including strainer filters, solenoid valves, flow stop valves, stainless steel water filter elements and steam cleaning filters.
On April 18, 2003, a complete line of hydronic and electric radiant heating and snow melting
systems. Heatway's annualized sales prior to acquisition were
approximately $11 million.
On May 12, 2000, a wholly ownedwholly-owned subsidiary of the Company acquired McCraney, Inc.,Martin Orgee UK Ltd. located in Santa Ana, CaliforniaKidderminster, West Midlands, United Kingdom for approximately $7
million. McCraney, doing business as Spacemaker, manufactures$1,600,000 in cash. Martin Orgee distributes a complete
line of
36
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Statements (continued)
seismic restraint straps for water heaters as well as water heater stands
and enclosures. Spacemaker's last twelve months sales were approximately
$5 million.
During 1999, the Company acquired Cazzaniga S.p.A. located in Biassono,
Italy for approximately $28 million. Cazzaniga is an integrated
manufacturer of plumbing and heating products withto the wholesale, commercial and OEM markets in the United Kingdom and Southern Ireland. Martin Orgee also assembles pumping systems for under-floor radiant heat applications.
On July 29, 2002 a wholly-owned subsidiary of the Company acquired F&R Foerster and Rothmann GmbH (F&R) located in Neuenburg am Rhein, Germany, for approximately $2,300,000 in cash less assumed net debt of $800,000. F&R manufactures and distributes a line of gauges predominately to the French and German OEM markets.
65
On July 15, 2002, a wholly-owned subsidiary of the Company acquired ADEV Electronic SA (ADEV) located in Rosieres, France and its closely affiliated distributor, E.K. Eminent A.B. (Eminent) located in Gothenburg, Sweden for approximately $12,900,000 in cash less assumed net debt of $3,500,000. ADEV also has a low cost manufacturing facility located in Tunisia. ADEV manufactures and distributes electronic systems predominantly to the OEM market. Their product lines include thermostats and controls for heating, ventilation and air conditioning, control systems for hydronic and electric floor warming systems, and controls for other residential applications. Eminent distributes electronic controls, mechanical thermostats and other electric control related products throughout the European Nordic countries.
On May 9, 2002, a wholly-owned subsidiary of the Company acquired Hunter Innovations of Sacramento, California for $25,000,000, of which approximately $10,000,000 was paid in cash at the closing and the balance in interest bearing notes, payable in equal annual salesinstallments through 2006. Hunter Innovations was founded in 1995 and has developed a line of large backflow prevention devices that represent a significant advance in technology. The improved product features that are important to the backflow prevention markets include lighter weight, more compact design, better flow characteristics, improved serviceability and multiple end-connection and shutoff valve options. On May 9, 2003, the Company made an additional payment of approximately $35 million.
During fiscal 1999 and 1998,$3,750,000 for the first installment on the interest bearing notes.
In March 5, 2002, the Company also acquired several valve
companies which were included as partentered into a joint venture with the Yuhuan County Cheng Guan Metal Hose Factory (Cheng Guan) located in Taizhou, Zhejiang Province of the industrial, oilPeople's Republic of China. Cheng Guan, is a manufacturer of a variety of plumbing products sold both into the Chinese domestic market and gas
businesses thatexport markets. Its product lines were spun-off intocontributed to the joint venture and include hose, hose connectors, multi-layer tubing and stainless steel braided hose. The joint venture is owned 60% by the Company and 40% by its Chinese partner. On January 29, 2003, the Company made an additional payment of $3,000,000 associated with the Cheng Guan joint venture bringing the aggregate cash investment to $8,000,000 for the 60% interest.
On September 28, 2001, a separate publicly tradedwholly-owned subsidiary of the Company acquired the assets of the Powers Process Controls Division of Mark Controls Corporation, a subsidiary of Crane Co. located in Skokie, Illinois and Mississauga, Ontario, Canada for approximately $13,000,000 in cash. Powers designs and manufactures thermostatic mixing valves for personal safety and process control applications in commercial and institutional facilities. It also manufactures control valves and commercial plumbing brass products including shower valves and lavatory faucets.
On June 13, 2001, a wholly-owned subsidiary of the Company acquired Premier Manufactured Systems, Inc., located in Phoenix, Arizona for approximately $5,000,000 in cash. Premier manufactures water filtration systems for both residential and commercial applications and other filtration products including under-the-counter ultraviolet filtration as well as a variety of sediment and carbon filters.
On June 1, 2001, a wholly-owned subsidiary of the Company acquired Fimet S.r.l. (Fabbrica Italiana Manometri e Termometri) located in Milan, Italy and its wholly-owned subsidiary, MTB AD, which is located in Bulgaria for approximately $6,000,000. The acquired business manufactures pressure and temperature gauges for use in the HVAC market.
On January 5, 2001, a wholly-owned subsidiary of the Company acquired Dumser Metallbau GmbH & Co. KG located in Landau, Germany for approximately $20,000,000 in cash. The main products of Dumser include brass, steel and stainless steel manifolds used as a prime distribution device in hydronic heating systems. Dumser has a 51% controlling share of Stern Rubinetti. Stern Rubinetti is an Italian manufacturing company CIRCOR.producing brass components located in Brescia, Italy.
66
The aggregate purchase price of these acquisitions was
approximately $118 million.
All acquisitionsabove have been accounted for underutilizing the purchase method of accounting. TheirThe pro-forma results of operations since acquisition, which have been
included in the Company's consolidated financial statements, have not materially affectedbeen displayed, as the consolidated financial position,combined results of
operations or liquidityare not significant.
(6) Other Comprehensive Income (Loss)
Other comprehensive income (loss) consist of the Company.
(6) Allowance for Doubtful Trade Accounts Receivable
Activity in the allowance for doubtful trade accounts receivable is a
follows:
| | Foreign Currency Translation | Pension Adjustment | Cash Flow Hedges | Accumulated Other Comprehensive Income (Loss) | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Balance December 31, 2001 | $ | (24,281 | ) | $ | — | $ | — | $ | (24,281 | ) | |||
| Change in period | 16,475 | (3,988 | ) | — | 12,487 | ||||||||
| Balance December 31, 2002 | (7,806 | ) | (3,988 | ) | — | (11,794 | ) | ||||||
| Change in period | 27,394 | (1,841 | ) | 46 | 25,599 | ||||||||
| Balance December 31, 2003 | $ | 19,588 | $ | (5,829 | ) | $ | 46 | $ | 13,805 | ||||
(7) Inventories
Inventories consist of the following:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Raw materials | $ | 41,998 | $ | 40,591 | ||
| Work in process | 24,348 | 17,289 | ||||
| Finished goods | 90,253 | 75,535 | ||||
| $ | 156,599 | $ | 133,415 | |||
Finished goods of $11,015,000 and Subsidiaries
Notes to Consolidated Statements (continued)
$13,774,000 as of December 31, 2003 and 2002, respectively, were consigned.
(8) Property, Plant and Equipment
Property, plant and equipment consists of the following:
| | December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||
| | (in thousands) | ||||||
| Land | $ | 9,354 | $ | 8,980 | |||
| Buildings and improvements | 75,428 | 64,935 | |||||
| Machinery and equipment | 194,248 | 166,684 | |||||
| Construction in progress | 5,220 | 8,334 | |||||
| 284,250 | 248,933 | ||||||
| Accumulated Depreciation | (138,539 | ) | (114,557 | ) | |||
| $ | 145,711 | $ | 134,376 | ||||
67
The Company also maintains assets held for sale of $1,938,000 and $2,464,000 as of December 31, 2003 and 2002, respectively. These amounts are primarily for the Company's former distribution center for the German market that was closed during 2002 due to the Company's manufacturing restructuring plan. In accordance with FAS 144, the Company has classified this asset as an "Assets held for Sale" in the Consolidated Balance Sheets as of December 31, June 30,
2000 1999 1999
------------ ------------ ---------
(in thousands)
Land $ 8,297 $ 7,937 $ 7,964
Buildings2003 and improvements 55,779 56,478 53,867
Machinery2002 and equipment 131,642 154,490 148,952
Constructionis carrying the asset at the estimated fair market value less costs to sell. The Company has kept this asset held for sale beyond one year as it is still actively marketing the building. During 2003, the Company reduced the asking price and in progress 6,774 7,787 7,932
--------- --------- ---------
202,492 226,692 218,715
Accumulated Depreciation (76,682) (96,461) (89,552)
--------- --------- ---------
$ 125,810 $ 130,231 $ 129,163
========= ========= =========
accordance with FAS 144 wrote down the asset to the estimated fair market value less costs to sell.
(9) Income Taxes
The significant components of the Company's deferred income tax liabilities and assets are as follows:
| | December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||||
| | (in thousands) | ||||||||
| Deferred income tax liabilities: | |||||||||
| Excess tax over book depreciation | $ | 16,447 | $ | 13,806 | |||||
| Intangibles | 4,400 | 4,496 | |||||||
| Other | 2,598 | 2,490 | |||||||
| Total deferred tax liabilities | 23,445 | 20,792 | |||||||
| Deferred income tax assets: | |||||||||
| Accrued expenses | 13,166 | 12,189 | |||||||
| Net operating loss carry-forward | 4,384 | 4,664 | |||||||
| Inventory reserves | 4,545 | 4,056 | |||||||
| Other | 9,481 | 7,508 | |||||||
| Total deferred tax assets | 31,576 | 28,417 | |||||||
| Less: valuation allowance | (557 | ) | (709 | ) | |||||
| Net deferred tax | 31,019 | 27,708 | |||||||
| Net deferred tax assets | $ | 7,574 | $ | 6,916 | |||||
The provision for income taxes from continuing operations is based on the following pre-tax income:
| | Years Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||||
| | (in thousands) | ||||||||
| Domestic | $ | 40,457 | $ | 37,931 | $ | 30,152 | |||
| Foreign | 18,372 | 12,287 | 10,016 | ||||||
| $ | 58,829 | $ | 50,218 | $ | 40,168 | ||||
68
The provision for income taxes from continuing operations consists of the following:
| | Years Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||||||
| | (in thousands) | ||||||||||
| Current tax expense | |||||||||||
| Federal | $ | 12,195 | $ | 12,408 | $ | 11,411 | |||||
| Foreign | 6,256 | 4,241 | 4,238 | ||||||||
| State | 2,436 | 2,139 | 2,125 | ||||||||
| 20,887 | 18,788 | 17,774 | |||||||||
| Deferred tax expense (benefit) | |||||||||||
| Federal | 802 | (358 | ) | (2,096 | ) | ||||||
| Foreign | 509 | (630 | ) | (1,593 | ) | ||||||
| State | 158 | (204 | ) | (473 | ) | ||||||
| 1,469 | (1,192 | ) | (4,162 | ) | |||||||
| $ | 22,356 | $ | 17,596 | $ | 13,612 | ||||||
Actual income taxes reported from continuing operations are different than would have been computed by applying the federal statutory tax rate to income from continuing operations before income taxes. The reasons for this difference are as follows:
| | Years Ended December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||
| | (in thousands) | |||||||||
| Computed expected federal income expense | $ | 20,590 | $ | 17,576 | $ | 14,059 | ||||
| State income taxes, net of federal tax benefit | 1,686 | 1,257 | 1,074 | |||||||
| Goodwill amortization | — | — | 751 | |||||||
| Foreign tax rate differential | 335 | (862 | ) | (1,025 | ) | |||||
| Other, net | (255 | ) | (375 | ) | (1,247 | ) | ||||
| $ | 22,356 | $ | 17,596 | $ | 13,612 | |||||
At December 31, 2000,2003, the Company has foreignhad net operating loss carryforwards of $10.8 million$11,500,000 for income tax purposes. $10.6 millionAll of the foreign net operating losses are foreign losses and can be carried forward indefinitely,indefinitely. The net operating losses relate to European operations. The Company had a valuation allowance of $557,000 and $709,000 as of December 31, 2003 and 2002, respectively, against a portion of the net operating loss carryforwards. The valuation allowance is primarily attributable to net operating losses generated in locations in which the Company has not yet been able to determine with certainty the remainder expiring in fiscal years 2001 through 2003.recoverability. Undistributed earnings of the Company's foreign subsidiaries amounted to approximately $57 million$100,800,000 at December 31, 2000, and $43 million2003, $78,100,000 at December 31, 1999,
$45 million2002, and $55,500,000 at June 30, 1999 and $33 million at June 30, 1998,
respectively.December 31, 2001. Those earnings are considered to be indefinitely reinvested, and, accordingly, no provision for U.S. federal and state income taxes has been recorded thereon. Upon distribution of those earnings, in the form of dividends or otherwise, the Company will be subject to both U.S. income
taxes (subject to an adjustment for foreign tax credits) and withholding taxes payable to the various foreign countries. Determination of the amount of U.S. income tax liability that would be incurred is not practicable because of the complexities associated with its hypothetical calculation; however, unrecognized foreign tax credits would be available to reduce some portion of any U.S. income tax liability. Withholding taxes of approximately $2.9 million$3,900,000 would be payable upon remittance of all previously unremitted earnings at December 31, 2000.2003.
69
The Company made incomebelieves that it is more likely than not that it will be able to recover the deferred tax payments of $18.4 million for the fiscal year
ended December 31, 2000, $11.2 million for the six month period ended
December 31, 1999 and $24.8 million for the fiscal year ended June 30,
1999 and $17.2 million for the fiscal year ended June 30, 1998.
assets not subject to valuation allowance.
(10) Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consist of the following:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Commissions and sales incentives payable | $ | 18,869 | $ | 13,370 | ||
| Accrued insurance | 16,104 | 14,168 | ||||
| Pension liability | 1,501 | 5,259 | ||||
| Other | 15,689 | 22,380 | ||||
| Income taxes payable | 3,089 | 1,860 | ||||
| $ | 55,252 | $ | 57,037 | |||
(11) Financing Arrangements
Long-term debt consists of the following:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2002 | 2001 | ||||
| | (in thousands) | |||||
| 83/8% notes due December 2003 | $ | — | $ | 75,000 | ||
4.87% notes due May 2010 | 50,000 | — | ||||
5.47% notes due May 2013 | 75,000 | — | ||||
Hunter Innovations notes with principal payable in three equal annual installments, accruing interest monthly, due May 2006 (annual interest rate of 2.70% and 4.11% at December 31, 2003 and 2002, respectively) | 11,250 | 15,000 | ||||
$150 million revolving credit facility maturing in February 2005, amended to include a $75 million tranche for euro based borrowing. U.S. loan interest accruing at a variable rate (4.25% at December 31, 2002) of either Eurocurrency rate loans at a LIBOR rate plus the applicable margin with respect to eurocurrency rate loans in effect for that period, or the U.S. base rate, which is the higher of the "prime rate" or (0.5%) above the Federal Funds Effective Rate. European loan interest accruing at a variable rate (2.83% at December 31, 2003 and 3.84% at December 31, 2002) of either eurocurrency rate loans at a EURIBOR rate plus the applicable margin with respect to eurocurrency rate loans in effect for that period, or the euro base rate plus the greater of 1.0% and the applicable margin with respect to euro base rate loans in effect for that period. At December 2003, $44,089,000 was borrowed for euro based borrowings and there were no outstanding U.S. borrowings. At December 2002, of the $41,649,000, $6,000,000 was borrowed under the U.S. tranche and $35,649,000 was borrowed for euro based borrowings | 44,089 | 41,649 | ||||
Other—which consists primarily of loans held by our Chinese joint ventures (at interest rates ranging from 3.00% to 11.28%) | 11,973 | 6,838 | ||||
192,312 | 138,487 | |||||
Less Current Maturities | 13,251 | 82,211 | ||||
$ | 179,061 | $ | 56,276 | |||
70
Principal payments during each of the next five fiscal years and thereafter are due as follows (in thousands): 2001 - $1,241; 2002 - $9,341;2004—$13,251; 2005—$48,357; 2006—$4,194; 2007—$867; 2008—$244 and thereafter—$125,399.
On May 15, 2003, - $80,017;the Company completed a private placement of $125,000,000 of senior unsecured notes consisting of $50,000,000 principal amount of 4.87% senior notes due 2010 and 2004 - $14,662 and 2205 - $17. Interest paid for all periods presented in$75,000,000 principal amount of 5.47% senior notes due 2013. The Company used the accompanying consolidated financial statements approximates interest
expense.
Certainnet proceeds from the private placement to purchase treasury securities to repay the $75,000,000 principal amount of 83/8% Notes due December 2003. Additional net proceeds were used to repay approximately $32,000,000 outstanding under the Revolving Credit Facility. The balance of the net proceeds will be used for general corporate purposes. The payment of interest on the senior unsecured notes is due semi-annually on May 15th and November 15th of each year. The senior unsecured notes were issued by Watts Water Technologies, Inc. and are subordinated to the Revolving Credit Facility, which is at the subsidiary level. The senior unsecured notes allow the Company to have (i) debt senior to the new notes in an amount up to $150,000,000 plus 5% of stockholders' equity and (ii) debtpari passu or junior to the senior unsecured notes to the extent the Company maintains compliance with a 2.00 to 1.00 fixed charge coverage ratio. The notes include a prepayment provision which might require a make-whole payment to the note holders. Such payment is dependent upon the level of the respective treasuries. The notes include other customary terms and conditions, including events of default.
On February 28, 2002, the Company entered into a revolving credit facility with a syndicate of banks (as amended, the Revolving Credit Facility). The Revolving Credit Facility provides for borrowings of up to $150,000,000, which includes a $75,000,000 tranche for euro-based borrowings, and matures in February 2005. The Revolving Credit Facility is being used to support the Company's acquisition program, working capital requirements and for general corporate purposes.
Effective July 1, 2003, the Company entered into an interest rate swap for a notional amount of 25,000,000 euro outstanding on our Revolving Credit Facility. The Company swapped the variable rate from the Revolving Credit Facility which is three month EURIBOR plus 0.7% for a fixed rate of 2.33%. The term of the swap is two years. The Company has designated the swap as a hedging instrument using the cash flow method. The swap hedges the cash flows associated with interest payments on the first 25,000,000 euro of the Revolving Credit Facility. The Company marks to market the changes in value of the swap through other comprehensive income. Any ineffectiveness has been recorded in income. The fair value of the swap recorded in other comprehensive income as of December 31, 2003 was $46,000.
Outstanding indebtedness under the Revolving Credit Facility bears interest at a rate determined by the type (currency) of loan agreements containplus an applicable margin determined by the Company's debt rating. The average interest rate for borrowings under the Revolving Credit Facility was approximately 2.8% at December 31, 2003. The Revolving Credit Facility includes operational and financial covenants that require,customary for facilities of this type, including, among other items, theothers, restrictions on additional indebtedness, liens and investments and maintenance of certain financial ratios,leverage ratios. As of December 31, 2003, The Company was in compliance with all covenants related to the Revolving Credit Facility.
The Company maintains letters of credit that guarantee its performance or payment to third parties in accordance with specified terms and limit
theconditions. Amounts outstanding were approximately $29,880,000 as of December 31, 2003 and $19,522,000 as of December 31, 2002. The Company's abilityletters of credit are primarily letters of credit associated with insurance coverage and to enter into secured borrowing arrangements.
a lesser extent foreign purchases. The Company's letters of credit generally expire within one year of issuance. The increase is
71
primarily associated with insurance coverage. These instruments may exist or expire without being drawn down. Therefore, they do not necessarily represent future cash flow obligations.
(12) Common Stock
Since fiscal 1997, the Company's Board of Directors has authorized the repurchase of 4,380,200 shares of the Company's common stockCommon Stock in the open market and through private purchases. Since the inception of this repurchase program, 3,605,7003,716,000 shares of the Company's common stockCommon Stock have been repurchased and retired.
The Class A Common Stock and Class B Common Stock have equal dividend and liquidation rights. Each share of the Company's Class A Common Stock is entitled to one vote on all matters submitted to stockholders and each share of Class B Common Stock is entitled to ten votes on all such matters. Shares of Class B Common Stock are convertible into shares of Class A Common Stock, on a one-to-one basis, at the option of the holder. TheAs of December 31, 2003, the Company has reserved a total of 5,925,664 shares3,528,825 of Class A Common Stock for issuance under its stock-based compensation plans and 9,235,2247,605,224 shares for conversion of Class B Common Stock to Class A Common Stock.
41
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Statements (continued)
(13) Stock-Based Compensation
The Company has severalmaintains four stock option plans under which key employees and outside directors have been granted incentive (ISOs) and nonqualified (NSOs) options to purchase the Company's Class A common stock.Common Stock. Generally, options become exercisable over a five-yearfive year period at the rate of 20% per year and expire ten years after the date of grant. ISOs and NSOs granted under the plans have exercise prices of not less than 100% and 50% of the fair market value of the common stock on the date of grant, respectively. At December 31, 2000; 3,212,0192003, 3,528,825 shares of Class A common stockCommon Stock were authorized for future grants of options under the Company's stock option plans.
The following is a summary of stock option activity and related information:
| | Years Ended December 31, | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||||||||||
| | Options | Weighted Average Exercise Price | Options | Weighted Average Exercise Price | Options | Weighted Average Exercise Price | |||||||||
| | (Options in thousands) | ||||||||||||||
| Outstanding at beginning of year | 1,455 | $ | 14.29 | 1,757 | $ | 13.31 | 1,714 | $ | 13.03 | ||||||
| Granted | 248 | 16.70 | 273 | 15.50 | 230 | 15.19 | |||||||||
| Cancelled | (387 | ) | 13.35 | (73 | ) | 11.75 | (76 | ) | 13.89 | ||||||
| Exercised | (301 | ) | 14.98 | (502 | ) | 11.88 | (111 | ) | 12.54 | ||||||
| Outstanding at end of year | 1,015 | $ | 14.90 | 1,455 | $ | 14.29 | 1,757 | $ | 13.31 | ||||||
| Exercisable at end of year | 504 | $ | 13.92 | 858 | $ | 14.11 | 1,171 | $ | 13.20 | ||||||
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The following table summarizes information about options outstanding at December 31, 2000:
| | Options Outstanding | Options Exercisable | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Range of Exercise Prices | Number Outstanding | Weighted Average Remaining Contractual Life (years) | Weighted Average Exercise Price | Number Exercisable | Weighted Average Exercise Price | ||||||||
| | (Options in thousands) | ||||||||||||
| $ | 9.20—$10.59 | 90 | 5.2 | $ | 10.58 | 90 | $ | 10.58 | |||||
| $ | 10.72—$14.05 | 153 | 6.7 | 12.08 | 111 | 12.10 | |||||||
| $ | 14.29—$17.50 | 772 | 7.0 | 16.05 | 303 | 15.57 | |||||||
| 1,015 | 6.3 | $ | 14.90 | 504 | $ | 13.92 | |||||||
The Company also has a Management Stock Purchase Plan that allows for the granting of Restricted Stock Units (RSUs) to key employees to purchase up to 1,000,000 shares of Class A common stockCommon Stock at 67% of the fair market value on the date of grant. RSUs vest annually over a three-yearthree year period from the date of grant. The difference between the RSU price and fair market value at the date of awardgrant is amortized to compensation expense ratably over the vesting period. At December 31, 2000, 244,0002003, 200,692 RSUs were outstanding. Dividends declared for RSUs that remain unpaid at December 31, 20002003 total $78,000.
Pro forma information regarding net income$62,172.
The Company has elected to follow APB No. 25 and net income per share is
required by SFAS No. 123related interpretations in accounting for its stock-based compensation. In addition the Company provides proforma disclosure of stock-based compensation, as measured under the fair value requirements of FAS 123. These proforma disclosures, which are calculated for awards granted after June 30, 1995, are provided in Footnote 2 as if the
Company had accounted for its stock-based awards to employeesrequired under the
fair value method of SFAS 123.FAS 148. The weighted average grant date fair value of options granted are $2.02 at$4.48, $4.43 and $6.74 for the years ending December 31, 20002003, 2002 and $3.04, $2.47, $3.50
at2001, respectively. Also, the weighted average grant date fair value of RSUs related to Management Stock Purchase Plan are $6.55, $5.48 and $7.30 for the years ending December 31, 19992003, 2002 and June 30, 1999 and 1998,2001, respectively.
The fair value of the Company's stock-based awards to employees (used in reconciliation of Footnote 2) was estimated using a Black-Scholes option pricing model and the following assumptions:
| | Years Ended December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||
| Expected life (years) | 5.0 | 5.0 | 5.0 | ||||
| Expected stock price volatility | 28.3 | % | 33.2 | % | 52.4 | % | |
| Expected dividend yield | 1.4 | % | 1.6 | % | 1.6 | % | |
| Risk-free interest rate | 3.25 | % | 2.65 | % | 4.36 | % | |
The fair value of the Company's pro forma information follows:
| | Years Ended December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||
| Expected life (years) | 3.0 | 3.0 | 3.0 | ||||
| Expected stock price volatility | 28.3 | % | 33.2 | % | 52.4 | % | |
| Expected dividend yield | 1.5 | % | 1.7 | % | 1.6 | % | |
| Risk-free interest rate | 5.63 | % | 2.65 | % | 4.36 | % | |
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(14) Employee Benefit Plans
The Company sponsors funded and unfunded defined benefit pension plans covering substantially all of its domestic employees. Benefits are based primarily on years of service and employees' compensation. The funding policy of the Company for these plans is to contribute annuallyan annual amount that does not exceed the maximum amount that can be deducted for federal income tax purposes. The Company uses a September 30 measurement date for its plans.
The funded status of the defined benefit plans and amounts recognized in the balance sheet are as follows:
| | December 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||||
| | (in thousands) | |||||||
| Change in projected benefit obligation | ||||||||
| Balance at beginning of the year | $ | 41,961 | $ | 36,038 | ||||
| Service cost | 2,021 | 1,512 | ||||||
| Interest cost | 2,789 | 2,683 | ||||||
| Actuarial loss | 6,550 | 3,495 | ||||||
| Amendments/curtailments | 150 | 96 | ||||||
| Benefits paid | (1,730 | ) | (1,863 | ) | ||||
| Balance at end of year | $ | 51,741 | $ | 41,961 | ||||
| Change in fair value of plan assets | ||||||||
| Balance at beginning of the year | $ | 25,535 | $ | 28,724 | ||||
| Actual gain (loss) on assets | 4,611 | (1,514 | ) | |||||
| Employer contributions | 3,773 | 188 | ||||||
| Benefits paid | (1,730 | ) | (1,863 | ) | ||||
| Fair value of plan assets at end of the year | $ | 32,189 | $ | 25,535 | ||||
Funded Status | $ | (19,552 | ) | $ | (16,426 | ) | ||
| Unrecognized transition obligation | (148 | ) | (403 | ) | ||||
| Unrecognized prior service costs | 1,498 | 1,567 | ||||||
| Unrecognized net actuarial gain | 13,681 | 10,003 | ||||||
| Contributions after measurement date and on or before fiscal year end | 3,020 | — | ||||||
| Net amount recognized | $ | (1,501 | ) | $ | (5,259 | ) | ||
Amounts recognized in the statement of financial position are as follows:
| | December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||
| | (in thousands) | ||||||
| Accrued benefit costs | $ | (1,501 | ) | $ | (5,259 | ) | |
| Minimum pension liability | $ | (10,551 | ) | $ | (7,526 | ) | |
| Intangible assets | $ | 1,073 | $ | 1,073 | |||
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Information for pension plans with an accumulated benefit obligation in excess of plan assets are as follows:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Projected benefit obligation | $ | 51,741 | $ | 41,961 | ||
| Accumulated benefit obligation | $ | 47,260 | $ | 38,320 | ||
| Fair value of plan assets | $ | 32,189 | $ | 25,535 | ||
The components of net periodic benefit cost are as follows:
| | Years Ended December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | |||||||
| | (in thousands) | |||||||||
| Service cost—benefits earned | $ | 2,021 | $ | 1,512 | $ | 1,383 | ||||
| Interest costs on benefits obligation | 2,789 | 2,683 | 2,487 | |||||||
| Estimated return on assets | (2,281 | ) | (2,520 | ) | (3,003 | ) | ||||
| Transitional obligation/(asset) amortization | �� | (255 | ) | (255 | ) | (255 | ) | |||
| Prior service cost amortization | 219 | 205 | 146 | |||||||
| Net loss/(gain) amortization | 521 | — | (173 | ) | ||||||
| Net periodic benefit cost | $ | 3,014 | $ | 1,625 | $ | 585 | ||||
Additional Information:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Increase in minimum liability included in other comprehensive income | $ | 3,046 | $ | 6,432 | ||
Assumptions:
Weighted-average assumptions used to determine benefit obligations:
| | December 31, | ||||
|---|---|---|---|---|---|
| | 2003 | 2002 | |||
| Discount rate | 6.00 | % | 6.75 | % | |
| Rate of compensation increase | 4.00 | % | 4.00 | % | |
Weighted-average assumptions used to determine net periodic benefit costs:
| | December 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2001 | ||||
| Discount rate | 6.75 | % | 7.50 | % | 7.50 | % | |
| Long-term rate of return on asset | 8.50 | % | 9.00 | % | 9.00 | % | |
| Rate of compensation increase | 4.00 | % | 4.50 | % | 4.50 | % | |
In selecting the expected long-term rate of return on assets, the Company considers the average rate of earnings expected on the funds invested or to be invested to provide for the benefits of this
75
plan. This includes considering the trust's asset allocation and the expected returns likely to be earned over the life of the plan. This basis is consistent with the prior year.
Plan assets:
The weighted average asset allocations by asset category is as follows:
| | Plan Assets At December 31, | ||||
|---|---|---|---|---|---|
| Asset Category | |||||
| 2003 | 2002 | ||||
| Equity securities | 74.8 | % | 52.8 | % | |
| Debt securities | 25.2 | % | 44.2 | % | |
| Real estate | — | % | — | % | |
| Other/cash | — | % | 3.0 | % | |
| Total | 100.0 | % | 100.0 | % | |
The Company's written Retirement Plan Investment Policy sets forth the investment policy, objectives and constraints of the Watts Water Technologies, Inc. Pension Plan. This Retirement Plan Investment Policy, set forth by the Pension Plan Committee, defines general investment principles and directs investment management policy, addressing preservation of capital, risk aversion and adherence to investment discipline. Investment managers are to make a reasonable effort to control risk and are evaluated quarterly against commonly accepted benchmarks to ensure that the risk assumed is commensurate with the given investment style and objectives.
The portfolio is designed to achieve a balanced return of current income and modest growth of capital, while achieving returns in excess of the rate of inflation over the investment horizon in order to preserve purchasing power of Plan assets. All Plan assets are required to be invested in liquid securities. Derivative investments will not be allowed.
Prohibited investments include, but are not limited to the following: commodities and futures contracts, private placements, options, limited partnerships, venture-capital investments, real estate properties, interest-only (IO), principal-only (PO), and residual tranche CMOs, and Watts Water Technologies, Inc. stock.
Prohibited transactions include, but are not limited to the following: short selling and margin transactions.
Allowable assets include: cash equivalents, fixed income securities, equity securities, mutual funds, and GICs.
Specific guidelines regarding allocation of assets are as follows: equities shall comprise between 25% and 75% of the total portfolio, while fixed income shall comprise between 30% and 65%. Investment performance is monitored on a regular basis and investments are re-allocated to stay within specific guidelines. An equity/fixed income allocation of 55%/45% is preferred. The securities of any one company or government agency should not exceed 10% of the total fund, and no more than 20% of the total fund should be invested in any one industry. Individual treasury securities may represent 50% of the total fund, while the total allocation to treasury bonds and notes may represent up to 100% of the Plan's aggregate bond position.
76
Cash flows:
The information related to the Company's pension funds cash flow is as follows:
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Employer Contributions | $ | 6,793 | $ | 188 | ||
| Benefit Payments | $ | 1,730 | $ | 1,863 | ||
Contributions expected to be paid during 2004 are approximately $105,000.
Additionally, substantially all of the Company's domestic employees are eligible to participate in a 401(k) savings plan. Under this plan, the Company matches a specified percentage of employee contributions, subject to certain limitations. 43
Watts Industries, Inc.The Company's match expenses for the years ended December 31, 2003, 2002, and Subsidiaries
Notes2001 were $300,000, $330,000, and $324,000, respectively.
The Company entered into a Supplemental Compensation Agreement (the Agreement) with Timothy P. Horne on September 1, 1996. Per the Agreement, upon ceasing to Consolidated Statements (continued)
The components of benefit expense are as follows:
(15) Contingencies and Environmental Remediation
Contingencies
In April 1998, the Company became aware of a complaint (the Armenta case) that was filed by Nora Armenta (the Relator) under seal in the State of California alleging violations of the California False Claims Act. The complaint alleges that a former subsidiary of the Company (James Jones Company) sold products utilized in municipal water systems that failed to meet contractually specified standards and falsely certified that such standards had been met. The complaint further alleges that the municipal entities have suffered tens
of millions of dollars in damages as a result of defective products and seeks treble damages, reimbursement of legal costs and penalties. DuringThe original complaint has been amended, and the quarter ended December 31, 2000,total number of named plaintiffs is 161, 11 of which have intervened and 47 of which have been ordered excluded from the case. In June 2001, the Company made an offer to
settle all of the claims ofand other defendants reached a proposed settlement with the Los Angeles Department of Water and Power, one of the plaintiffs in the James Jones case, (Loswhich was approved by the California Superior Court on October 31, 2001 and by the Los Angeles DepartmentCity Council on December 14, 2001. The other plaintiffs remain, and the Company is vigorously contesting this matter.
77
In this case, the Relator seeks three times an unspecified amount of actual damages and alleges that the municipalities have suffered hundreds of millions of dollars in damages. The Relator also seeks civil penalties of $10,000 for each false claim and alleges that defendants are responsible for tens of thousands of false claims. The Company settled with the City of Los Angeles, by far the most significant city, for $5.7 million plus the Relator's statutory share and attorneys' fees. Co-defendants will contribute $2.0 million toward this settlement. In August 2003, an additional settlement payment was made for $13 million ($11 million from the Company and $2 million from the James Jones Company) which settled the claims of the three Phase I cities (Santa Monica, San Francisco and East Bay Municipal Water District) chosen by the Relator as having the strongest claims to be tried first. This settlement payment included the Relator's statutory share, and Power, ex
rel. Nora Amenta v.the claims of these three cities have been dismissed. In addition to this $13 million payment, the Company is obligated to pay the Relator's attorney's fees.
After the Phase I settlement, the Court permitted the Company and the other defendants to select five additional cities (Contra Costa, Corona, Santa Ana, Santa Cruz and Vallejo) to serve as the plaintiffs in a second trial phase of the case. The Company and James Jones subsequently reached an agreement to settle the City of Santa Ana's claims for $45,000, and the Company is responsible for $38,000 of this settlement amount. Santa Ana has submitted this claim to the Court for approval in March 2004. The trial of the claims of the remaining Phase II cities is scheduled for September 2004.
The Company has a reserve of approximately $9.3 million with respect to the James Jones Litigation in its consolidated balance sheet as of December 31, 2003. The Company believes, on the basis of all available information, that this reserve is adequate to cover its probable and reasonably estimable losses resulting from the James Jones Litigation and the insurance coverage litigation with Zurich discussed below. The Company is currently unable to make an estimate of the range of any additional losses.
On February 14, 2001, the Company filed a complaint in the California Superior Court against its insurers for coverage of the claims in the Armenta case. The James Jones Company et al). The Los Angeles
Department of Waterfiled a similar complaint, the cases were consolidated, and Power has indicated that it views this offer
favorably and that it intends to seek its approval. On January 19,on October 30, 2001 the California False Claims Act claims filedSuperior Court made a summary adjudication ruling that Zurich American Insurance Company (Zurich) must pay all reasonable defense costs incurred by the Company in the Armenta case since April 23, 1998 as well as the Company's future defense costs in this case until its final resolution. On October 24, 2002, the California Superior Court made another summary adjudication ruling that Zurich must indemnify and pay the Company for the amounts the Company must pay under its settlement agreement with the City of Pomona were
dismissed. TheLos Angeles. Zurich has asserted that all amounts (both defense costs and indemnity amounts paid for settlements) paid by it to the Company expectsare subject to reimbursement under Deductible Agreements between the Company and Zurich. However, management and counsel anticipate that the Company will ultimately prevail on reimbursement issues. Zurich appealed the orders requiring it to pay defense costs, the California Court of Appeal accepted that appeal, and it is currently pending. Zurich also sought appellate review of the order that found coverage and required Zurich to indemnify the Company for the settlement with the City of Pomona to fileLos Angeles. On March 26, 2003, the California Court of Appeal denied Zurich's petition for appellate review of this order, andbut Zurich will still be able to appeal this order at the end of the case. The Company is currently unable to predict the finality of the order on indemnity for the Los Angeles settlement. The Company has recorded reimbursed indemnity settlement amounts (but not reimbursed defense costs) as a liability. The Company intends to contest vigorously the Armenta case and its related litigation.
Based on management's assessment, the Company does not believe that the ultimate outcome of any appeal. On the present record, the vast majority of the
other cities named in this lawsuit are subject toJames Jones case would have a legal challenge
similar to that which resulted in the dismissal material adverse effect on its liquidity, financial condition or results
78
of Pomona's False Claims
Act case. As a result of these developments and management's current
assessment of the case, the Company recorded a charge of $7,170,000 after
tax in the quarter ended December 31, 2000 which represents the Company's
current estimate of the cost to bring the entire case to resolution. This
charge is reported as loss from discontinued operations. While this charge
represents the after tax impact of the Company's current estimateassessment is based on all available information, litigation is inherently uncertain, and the actual liability to the Company to fully resolve this litigation cannot be predicted with any certainty and there exists a reasonable possibility that the litigation could be
materially higher than this estimate.
Company may ultimately incur losses in the James Jones Litigation in excess of the amount accrued. The Company intends to continue to contest vigorously the James Jones case and its related litigation.
Environmental Remediation
The Company has been named as a potentially responsible party (PRP) with respect to a limited number of identified contaminated sites. The level of contamination varies significantly from site to site as do the related levels of remediation efforts. Environmental liabilities are recorded based on the most probable cost, if known, or on the estimated minimum cost of remediation. The Company's accrued estimated environmental liabilities are based on assumptions, which are subject to a number of factors and uncertainties. Circumstances which can affect the reliability and precision of these estimates include identification of additional sites, environmental regulations, level of cleanup required, technologies available, number and financial condition of other contributors to remediation and the time period over which remediation may occur. The Company recognizes changes in estimates as new remediation requirements are defined or as new information becomes available. The Company has a reserve of approximately $2.5 million and estimates that its accrued environmental remediation liabilities will likely be paid over the next five to ten years. 45
For several years, the New York Attorney General (NYAG) has threatened to bring suit against approximately 16 PRPs, including Watts Water Technologies, Inc as successor to Jameco Industries, Inc., for incurred remediation costs and Subsidiaries
Notesfor operation and maintenance costs that will be incurred in connection with the cleanup of a landfill site in Babylon, New York. The NYAG has identified recovery numbers between $19 million and $24 million, but it is too early to Consolidated Statements (continued)
know what the final recovery number will be, what the final number of PRPs will be or what proportion of the final costs may be allocated to the Company. In 2003, 139 PRPs were identified by the Company's defense group, and they are in the process of being invited to join the PRPs identified so far by the NYAG. Based on the facts currently known to it, the Company does not believe that the ultimate outcome of the Babylon matter will have a material adverse effect on the Company's liquidity, financial condition or results of operations.
Asbestos Litigation
The Company is a defendant in approximately 115 actions filed primarily, but not exclusively, in Mississippi and New Jersey state courts and alleging injury or death as a result of exposure to asbestos. These filings typically name multiple defendants, and are filed on behalf of many plaintiffs. They do not identify any particular products of the Company as a source of asbestos exposure. To date the Company has been dismissed from each case when the scheduled trial date comes near. Based on the facts currently known to it, the Company does not believe that the ultimate outcome of these claims will have a material adverse effect on the Company's liquidity, financial condition or results of operations.
Other Litigation
On or about March 26, 2003, a class action complain was filed against the Company by North Carolina Hospitality Group, Inc. in the Circuit Court of Maryland, Prince George's County. It alleges
79
that certain commercial valve models contain a design defect that causes them to fail prematurely. Based on the Company's extensive investigation of the evidence, including the physical evidence presented so far by the plaintiff, management believes that the allegations in the complaint are without merit, and the Company intends to defend this lawsuit vigorously. Based on the facts currently known to it, the Company does not believe that the ultimate outcome of these claims will have a material adverse effect on the Company's liquidity, financial condition or results of operations.
Other lawsuits and proceedings or claims, arising from the ordinary course of operations, are also pending or threatened against the Company and its subsidiaries. Based on the facts currently known to it, the Company does not believe that the ultimate outcome of these matters will have a material adverse effect on its financial condition or results of operation.
However, litigation is inherently uncertain, and the Company believes that there exists a reasonable possibility that it may ultimately incur losses in other litigation in excess of the amount accrued.
(16) Financial Instruments
Fair Value
The carrying amounts of cash and cash equivalents, trade receivables and trade payables approximate fair value because of the short maturity of these financial instruments.
The fair value of the Company's 8-3/8%4.87% senior notes, due December 2003,2010 and 5.47% senior notes due 2013, is based on quoted market prices. The fair value of the Company's variable rate debt approximates its carrying value. The carrying amount and the estimated fair market value of the Company's long-term debt, including the current portion, are as follows:
December 31, December 31, June 30,
2000 1999 1999
------------ ------------ ---------
(in thousands)
Carrying amount $ 106,618 $ 129,674 $ 217,963
Estimated fair value $ 109,768 $ 131,452 $ 222,441
| | December 31, | |||||
|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||
| | (in thousands) | |||||
| Carrying amount | $ | 192,312 | $ | 138,487 | ||
| Estimated fair value | $ | 193,130 | $ | 142,162 | ||
Derivative Instruments
The Company uses foreign currency forward exchange contracts to reduce the impact of currency fluctuations on certain anticipated intercompany purchase transactions that are expected to occur within the fiscal year and certain other foreign currency transactions. Related gains and losses are recognized in other income/expense when the contracts expire, which is generally in the same period as the underlying foreign currency denominated transaction. These contracts do not subject the Company to significant market risk from exchange movement because they offset gains and losses on the related foreign currency denominated transactions. At June 30, 1999, the Company
had forward contracts to buy foreign currencies with a notional value $9.0
million and a fair market value (loss) of ($0.6) million. These contracts
were transferred to CIRCOR as part of the spin-off transaction. At
December 31, 20002003, 2002 and 1999,2001, the Company had no outstanding forward contracts to buy foreign currencies.
The Company uses commodity futures contracts to fix the price on a certain portion of certain raw materials used in the manufacturing process. These contracts highly correlate to the actual purchases of the commodity and the contract values are reflected in the cost of the commodity as it is actually purchased. At June 30, 1999, the Company had outstanding
contracts with a notional value of $3.5 million and a fair value of $0.2
million. In December 1999, these contacts were sold and the Company
realized a gain of approximately $0.5 million. This gain was deferred at
December 31, 1999 and was off-set against the costs of January and
February 2000 raw material purchases, hedged in the original transaction.
There were no commodity contracts outstanding atutilized for years ended December 31, 20002003, 2002 and 1999.2001.
Effective July 1, 2003, the Company entered into an interest rate swap for a notional amount of 25,000,000 euro outstanding on our Revolving Credit Facility. The Company also enters into derivative contracts that convert specificswapped the variable rate borrowings into
80
from the Revolving Credit Facility which is three month EURIBOR plus 0.7% for a fixed rate debt instruments.of 2.33%. The term of the swap is two years. The Company designated the swap as a hedging instrument using the cash flow method. The swap hedges the cash flows associated with interest payments on the first 25,000,000 euro of our Revolving Credit Facility. The Company marks to market the changes in value of the swap through other comprehensive income. Any ineffectiveness has been recorded in income. The fair value recorded in other comprehensive income as of December 31, 2003 was $46,000.
At December 31, 2000,2001, the Company had an outstanding interest rate swap that converted 20
million Euro20,000,000 euro of the borrowings under variable rate EUROeuro Line of Credit to a fixed rate borrowings at 4.3%. This swap agreement expiresexpired in SeptemberMarch 2002 and has a fairits value of $ 0.2 millionand its impact on the Company's results was not material at December 31, 2000.
46
Watts Industries, Inc.2002.
In September 2001, the Company entered an interest rate swap for its $75,000,000 83/8% notes. The Company swapped the fixed interest rate of 83/8% to floating LIBOR plus 3.74%. On August 5, 2002, the Company sold the swap and Subsidiariesreceived $2,315,000 in cash. Based on the Company terminating this hedge transaction, the adjustment to the fair value was amortized, over the term of the Notes which matured December 1, 2003.
Leases
The Company leases certain manufacturing facilities, sales offices, warehouses, and equipment. Generally the leases carry renewal provisions and require the Company to Consolidated Statements (continued)
pay maintenance costs. Future minimum lease payments under capital leases and non-cancelable operating leases as of December 31, 2003 are as follows:
| | Operating Leases | Capital Leases | ||||
|---|---|---|---|---|---|---|
| 2004 | $ | 1,992 | $ | 653 | ||
| 2005 | 1,834 | 356 | ||||
| 2006 | 1,697 | 223 | ||||
| 2007 | 1,175 | 132 | ||||
| 2008 | 1,187 | — | ||||
| Thereafter | 1,730 | — | ||||
| Total | $ | 9,615 | $ | 1,364 | ||
(17) Segment Information
The following table presents certain operating segment information:
North Corporate/
America Europe Asia Other Consolidated
-------- -------- -------- ---------- ------------
Twelve Months Ended (in thousands)
December 31, 2000
Net Sales $400,384 $103,085 $ 12,631 $ -- $516,100
Operating income 55,661 13,225 882 (9,781) 59,987
Identifiable assets 332,621 125,213 24,191 -- 482,025
Capital expenditures 11,466 2,558 214 -- 14,238
Depreciation and amortization 14,229 5,185 657 -- 20,071
Six Months Ended December 31, 1999
Net Sales $192,975 $ 58,934 $ 9,110 $ -- $261,019
Operating income 27,793 7,252 731 (6,218) 29,558
Identifiable assets 327,431 136,246 23,401 -- 487,078
Capital expenditures 8,764 1,396 133 -- 10,293
Depreciation and amortization 6,373 2,537 315 -- 9,225
Twelve Months Ended June 30, 1999
Net Sales $372,220 $ 92,631 $ 13,018 $ -- $477,869
Operating income 54,094 11,228 1,608 (15,092) 51,838
Identifiable assets 481,648 133,720 22,374 -- 637,742
Capital expenditures 17,987 3,471 74 -- 21,532
Depreciation and amortization 12,851 3,921 684 -- 17,456
Twelve Months Ended June 30, 1998
Net Sales $348,004 $ 82,837 $ 13,894 $ -- $444,735
Operating income 51,456 8,258 1,984 (14,627) 47,071
Identifiable assets 441,714 87,463 23,719 -- 552,896
Capital expenditures 19,839 2,621 596 -- 23,056
Depreciation and amortization 11,491 3,182 668 -- 15,341
Under the criteria set forth in Financial Accounting Standards Board No.131 "Disclosure about Segments of an Enterprise and Related Information", the Company operates in three geographic segments: North America, Europe, and China. Each operating segmentof these segments is individually managed separately and has separate financial results that are reviewed by the Company's chief operating decision-maker. Sales by region are based upon location of the entity recording the sale. The accounting policies for each segment are the same as those described in the summary of significant accounting policies (see Note 2).
81
The following is a summary of our significant accounts and balances by segment, reconciled to our consolidated totals:
| | North America | Europe | China | Corporate(*) | Consolidated | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | (in thousands) | ||||||||||||||
| Year ended December 31, 2003 | |||||||||||||||
| Net sales | $ | 476,310 | $ | 210,614 | $ | 18,727 | $ | — | $ | 705,651 | |||||
| Operating income (loss) | 64,414 | 22,592 | (3,834 | ) | (13,132 | ) | 70,040 | ||||||||
| Identifiable assets | 509,010 | 266,849 | 62,784 | — | 838,643 | ||||||||||
| Long-lived assets | 72,592 | 48,882 | 24,237 | — | 145,711 | ||||||||||
| Capital expenditures | 6,500 | 4,832 | 8,703 | — | 20,035 | ||||||||||
| Depreciation and amortization | 12,542 | 6,593 | 2,149 | — | 21,284 | ||||||||||
Year ended December 31, 2002 | |||||||||||||||
| Net sales | $ | 450,233 | $ | 145,629 | $ | 19,664 | $ | — | $ | 615,526 | |||||
| Operating income (loss) | 55,313 | 13,608 | (625 | ) | (10,767 | ) | 57,529 | ||||||||
| Identifiable assets | 375,202 | 206,146 | 54,124 | — | 635,472 | ||||||||||
| Long-lived assets | 78,333 | 40,295 | 15,748 | — | 134,376 | ||||||||||
| Capital expenditures | 5,718 | 6,171 | 7,704 | — | 19,593 | ||||||||||
| Depreciation and amortization | 14,731 | 6,370 | 1,193 | — | 22,294 | ||||||||||
Year ended December 31, 2001 | |||||||||||||||
| Net sales | $ | 415,689 | $ | 121,228 | $ | 12,023 | $ | — | $ | 548,940 | |||||
| Operating income (loss) | 47,294 | 11,308 | 1,365 | (9,684 | ) | 50,283 | |||||||||
| Identifiable assets | 343,187 | 153,007 | 24,276 | — | 520,470 | ||||||||||
| Long-lived assets | 86,409 | 36,495 | 5,702 | — | 128,606 | ||||||||||
| Capital expenditures | 10,508 | 3,351 | 2,188 | — | 16,047 | ||||||||||
| Depreciation and amortization | 16,109 | 6,820 | 746 | — | 23,675 | ||||||||||
* Corporate expenses are primarily for compensation expense, professional fees, including legal and audit expenses and benefit administration costs. These costs are not allocated to the geographic segments as they are viewed as corporate functions that support all activities.
The North American segment consists of U.S. net sales of $443,228,000, $422,703,000 and $393,455,000 for the years ended December 31, 2003, 2002 and 2001, respectively. The North American segment also consists of long-lived assets of $67,595,000, $73,907,000 and $81,723,000 for the years ended December 31, 2003, 2002 and 2001, respectively.
Goodwill amounts to $184,901,000 of which $100,017,000 is reported in the North American segment, $81,812,000 is reported in the European segment, and $3,072,000 is reported in the Chinese segment as of December 31, 2003.
All intercompany transactions have been eliminated, and intersegment revenues are not significant.
47
Watts Industries, Inc. and Subsidiaries
Notes to Consolidated Statements (continued)
82
(18) Quarterly Financial Information (unaudited)
First Second Third Fourth
Quarter Quarter Quarter Quarter
-------- -------- -------- --------
(in thousands, except per share information)
Twelve Months ended December 31, 2000:
Net sales $131,651 $131,184 $125,656 $127,609
Gross profit 47,374 47,229 45,856 44,845
Net income from continuing operations 7,940 8,027 7,670 7,534
Net income 7,940 8,027 7,670 364
Per common share:
Basic
Income from continuing operations .30 .30 .29 .28
Net income .30 .30 .29 .01
Diluted
Income from continuing operations .30 .30 .29 .28
Net income .30 .30 .29 .01
Dividends per common share .0875 .0600 .0600 .0600
Six months ended December 31, 1999:
Net sales $131,375 $129,644
Gross profit 47,940 47,226
Net income from continuing operations 9,042 7,426
Net income 8,297 6,945
Per common share:
Basic
Income from continuing operations .34 .28
Net income .31 .26
Diluted
Income from continuing operations .34 .28
Net income .31 .26
Dividends per common share .0875 .0875
Twelve Months ended June 30, 1999:
Net sales $114,007 $115,225 $117,855 $130,782
Gross profit 41,824 41,748 42,771 48,781
Net income from continuing operations 7,893 7,332 6,905 7,324
Net income 12,388 11,256 6,905 5,407
Per common share:
Basic
Income from continuing operations .29 .27 .26 .27
Net income .46 .42 .26 .20
Diluted
Income from continuing operations .29 .27 .26 .27
Net income .46 .42 .26 .20
Dividends per common share .0875 .0875 .0875 .0875
Twelve Months ended June 30, 1998:
Net sales $112,495 $112,498 $108,802 $110,940
Gross profit 41,819 41,150 39,664 39,950
Net income from continuing operations 7,326 7,613 7,259 5,925
Net income 13,620 13,609 14,041 12,099
Per common share:
Basic
Income from continuing operations .27 .28 .27 .22
Net income .50 .50 .52 .45
Diluted
Income from continuing operations .27 .28 .26 .22
Net income .50 .50 .51 .44
Dividends per common share .0775 .0775 .0875 .0875
48
| | First Quarter | Second Quarter | Third Quarter | Fourth Quarter | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | (in thousands, except per share information) | ||||||||||||
| Year ended December 31, 2003 | |||||||||||||
| Net sales | $ | 165,692 | $ | 173,512 | $ | 175,509 | $ | 190,938 | |||||
| Gross profit | 55,764 | 58,565 | 59,373 | 66,959 | |||||||||
| Income from continuing operations | 8,936 | 8,680 | 9,019 | 9,838 | |||||||||
| Net income | 6,610 | 8,106 | 8,905 | 9,741 | |||||||||
| Per common share: | |||||||||||||
| Basic | |||||||||||||
| Income from continuing operations | 0.33 | 0.32 | 0.33 | 0.35 | |||||||||
| Net income | 0.24 | 0.30 | 0.33 | 0.35 | |||||||||
| Diluted | |||||||||||||
| Income from continuing operations | 0.33 | 0.32 | 0.33 | 0.34 | |||||||||
| Net income | 0.24 | 0.30 | 0.32 | 0.34 | |||||||||
| Dividends per common share | 0.06 | 0.06 | 0.06 | 0.07 | |||||||||
Year ended December 31, 2002 | |||||||||||||
| Net sales | $ | 143,320 | $ | 151,505 | $ | 159,811 | $ | 160,890 | |||||
| Gross profit | 49,479 | 52,232 | 53,507 | 53,502 | |||||||||
| Income from continuing operations | 8,056 | 8,633 | 8,773 | 7,160 | |||||||||
| Net income | 8,056 | 8,633 | 8,773 | 7,160 | |||||||||
| Per common share: | |||||||||||||
| Basic | |||||||||||||
| Income from continuing operations | 0.30 | 0.32 | 0.33 | 0.27 | |||||||||
| Net income | 0.30 | 0.32 | 0.33 | 0.27 | |||||||||
| Diluted | |||||||||||||
| Income from continuing operations | 0.30 | 0.32 | 0.32 | 0.26 | |||||||||
| Net income | 0.30 | 0.32 | 0.32 | 0.26 | |||||||||
| Dividends per common share | 0.06 | 0.06 | 0.06 | 0.06 | |||||||||
(19) Subsequent Events
On February 20, 2004, the Company entered into an agreement with Yuhuan County Cheng Guan Metal Hose Factory to acquire its 40% equity interest in its Taizhou Shida Plumbing Manufacturing Co., Ltd. (Shida) joint venture for an expected purchase price of $3,000,000, the assumption of approximately $6,000,000 of debt and the payment of $3,500,000 in connection with a three-year non-compete agreement. After the transaction the Company will own 100% of Shida. The closing of the transaction is subject to the satisfaction of certain closing conditions and is expected to occur during the second quarter of 2004.
On January 5, 2004, a wholly-owned subsidiary of the Company acquired substantially all of the assets of Flowmatic Systems, Inc. located in Dunnellon, Florida, for approximately $16,500,000 in cash. Flowmatic designs and distributes a complete line of high quality reverse osmosis components and filtration equipment. Their product line includes stainless steel and plastic housings, filter cartridges, storage tanks, control valves, as well as complete reverse osmosis systems for residential and commercial applications.