UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For quarterly period ended September 28, 2002
Commission File Number 1-7724
SNAP-ON INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware 39-0622040
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10801 Corporate Drive, Pleasant Prairie, Wisconsin 53158-1603
(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (262) 656-5200
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date:
Class Outstanding at October 26, 2002
- ------------------------------- -------------------------------
Common stock, $1 par value 58,404,556 shares
SNAP-ON INCORPORATED
INDEX
Page
Part I. Financial Information
Consolidated Statements of Earnings -
Three and Nine Months Ended
September 28, 2002, and September 29, 2001 3
Consolidated Balance Sheets -
September 28, 2002, and December 29, 2001 4-5
Consolidated Statements of Cash Flows -
Nine Months Ended
September 28, 2002, and September 29, 2001 6
Notes to Consolidated Financial Statements 7-17
Management's Discussion and Analysis of
Financial Condition and Results of Operations 18-31
Quantitative and Qualitative Disclosures
About Market Risk 32-33
Part II. Other Information 34
2
PART I. FINANCIAL INFORMATION
Item 1: Financial Statements
SNAP-ON INCORPORATED
CONSOLIDATED STATEMENTS OF EARNINGS
(Amounts in millions except per share data)
(Unaudited)
Three Months Ended Nine Months Ended
------------------------------- ------------------------------
Sept. 28, Sept. 29, Sept. 28, Sept. 29,
2002 2001 2002 2001
------------ ------------ ----------- ------------
Net sales $ 502.4 $ 508.1 $ 1,559.6 $ 1,561.1
Cost of goods sold (274.6) (285.7) (844.7) (855.7)
Operating expenses (197.2) (199.0) (597.9) (607.4)
Net finance income 10.3 7.7 26.4 27.7
Restructuring and other non-recurring charges (1.6) (18.0) (6.4) (32.4)
Interest expense (6.9) (9.1) (22.2) (27.2)
Other income (expense) - net (2.3) (.8) (5.3) (.5)
----------- ---------- ---------- ---------
Earnings before income taxes 30.1 3.2 109.5 65.6
Income taxes 10.9 2.6 39.4 26.7
----------- ---------- ---------- ---------
Earnings before cumulative effect of a change in
accounting principle 19.2 0.6 70.1 38.9
Cumulative effect of a change in accounting principle
for goodwill in 2002 (net of tax of $0 million), and
for derivatives in 2001 (net of $1.6 million tax benefit) - - 2.8 (2.5)
----------- ---------- ---------- ---------
Net earnings $ 19.2 $ 0.6 $ 72.9 $ 36.4
=========== ========== ========== =========
Net earnings per share - basic and diluted:
Earnings before cumulative effect of a change in
accounting principle $ .33 $ .01 $ 1.20 $ .67
Cumulative effect of a change in accounting
principle, net of tax - - .05 (.05)
----------- ---------- ---------- ----------
Net earnings per share $ .33 $ .01 $ 1.25 $ .62
=========== ========== ========== ==========
Weighted-average shares outstanding:
Basic 58.4 58.0 58.2 57.9
Effect of dilutive options .3 .2 .3 .2
----------- ---------- ---------- ----------
Diluted 58.7 58.2 58.5 58.1
=========== ========== ========== ==========
Dividends declared per common share $ - $ - $ .72 $ .72
=========== ========== ========== ==========
See Notes to Consolidated Financial Statements.
3
SNAP-ON INCORPORATED
CONSOLIDATED BALANCE SHEETS
(Amounts in millions except share data)
Sept. 28, Dec. 29,
2002 2001
------------ --------------
(Unaudited)
ASSETS
Current Assets
Cash and cash equivalents $ 6.9 $ 6.7
Accounts receivable - net of allowances 591.8 615.2
Inventories
Finished goods 362.7 351.4
Work in process 46.2 41.5
Raw materials 92.4 77.2
Excess of current cost over LIFO cost (95.4) (94.9)
------------ ------------
Total inventory 405.9 375.2
Prepaid expenses and other assets 128.1 142.3
------------ ------------
Total current assets 1,132.7 1,139.4
Property and equipment
Land 23.4 23.4
Buildings and improvements 196.1 195.5
Machinery and equipment 534.4 501.3
------------ ------------
753.9 720.2
Accumulated depreciation (426.1) (392.5)
------------ ------------
Property and equipment - net 327.8 327.7
Deferred income tax benefits 28.9 27.7
Goodwill - net 353.6 331.2
Other intangibles - net 63.0 60.7
Other assets 91.2 87.6
------------ ------------
Total assets $ 1,997.2 $ 1,974.3
============ ============
See Notes to Consolidated Financial Statements.
4
SNAP-ON INCORPORATED
CONSOLIDATED BALANCE SHEETS
(Amounts in millions except share data)
Sept. 28, Dec. 29,
2002 2001
----------- -----------------
(Unaudited)
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities
Accounts payable $ 186.2 $ 141.2
Notes payable and current maturities of long-term debt 103.0 29.1
Accrued compensation 59.0 58.7
Dealer deposits 41.2 42.0
Deferred subscription revenue 43.9 45.0
Accrued restructuring reserves 6.8 23.1
Other accrued liabilities 198.5 210.3
---------- ----------
Total current liabilities 638.6 549.4
Long-term debt 304.8 445.5
Deferred income taxes 32.9 24.7
Retiree health care benefits 93.8 92.7
Pension liability 53.7 54.5
Other long-term liabilities 25.9 31.7
---------- ----------
Total liabilities 1,149.7 1,198.5
---------- ----------
SHAREHOLDERS' EQUITY
Preferred stock - authorized 15,000,000 shares
of $1 par value; none outstanding - -
Common stock - authorized 250,000,000 shares
of $1 par value; issued 66,883,542 and 66,847,107 shares 66.9 66.8
Additional paid-in capital 48.2 108.0
Retained earnings 1,045.7 1,014.7
Accumulated other comprehensive income (loss) (90.8) (120.6)
Grantor stock trust at fair market value - 5,358,869
and 5,984,145 shares (126.0) (203.0)
Treasury stock at cost - 3,121,462 and 2,923,435 shares (96.5) (90.1)
---------- ----------
Total shareholders' equity 847.5 775.8
---------- ----------
Total liabilities and shareholders' equity $ 1,997.2 $ 1,974.3
========== ==========
See Notes to Consolidated Financial Statements.
5
SNAP-ON INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in millions)
(Unaudited)
Nine Months Ended
-------------------------------------
Sept. 28, Sept. 29,
2002 2001
-------------- -------------
OPERATING ACTIVITIES
Net earnings $ 72.9 $ 36.4
Adjustments to reconcile net earnings to net cash
provided (used) by operating activities:
Cumulative effect of a change in accounting principle
(net of tax) for goodwill in 2002 and for derivatives in 2001 (2.8) 2.5
Depreciation 37.8 38.1
Amortization of goodwill - 10.4
Amortization of intangibles 1.3 3.1
Deferred income tax provision 26.3 6.5
Gain on sale of assets (.5) (.2)
Mark-to-market on cash flow hedges, net of tax (1.6) (2.0)
Restructuring and other non-recurring charges, net of tax (4.1) 29.8
Changes in operating assets and liabilities, net of effects of acquisitions:
(Increase) decrease in receivables 38.5 14.5
(Increase) decrease in inventories (19.0) (30.4)
(Increase) decrease in prepaid and other assets (7.5) (13.6)
Increase (decrease) in accounts payable 40.4 (10.0)
Increase (decrease) in accruals and other liabilities (55.9) (10.6)
------- --------
Net cash provided by operating activities 125.8 74.5
INVESTING ACTIVITIES
Capital expenditures (37.3) (33.6)
Acquisitions of businesses - net of cash acquired (.8) (.9)
Proceeds from disposal of property and equipment 6.8 5.4
------- --------
Net cash used in investing activities (31.3) (29.1)
FINANCING ACTIVITIES
Payment of long-term debt (3.1) (4.8)
Increase in long-term debt 4.3 200.1
Decrease in short-term borrowings - net (65.3) (200.2)
Purchase of treasury stock (6.4) (7.5)
Proceeds from stock purchase and option plans 17.2 8.6
Cash dividends paid (41.8) (41.7)
------- --------
Net cash used in financing activities (95.1) (45.5)
Effect of exchange rate changes on cash .8 (.5)
------- --------
Increase (decrease) in cash and cash equivalents .2 (.6)
Cash and cash equivalents at beginning of period 6.7 6.1
------- --------
Cash and cash equivalents at end of period $ 6.9 $ 5.5
======= ========
Supplemental cash flow disclosures:
Cash paid for interest $ 24.2 $ 25.3
Cash paid (refunded) for income taxes $ (2.4) $ 14.5
See Notes to Consolidated Financial Statements.
6
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. This report should be read in conjunction with the consolidated financial
statements and related notes included in Snap-on Incorporated's
("Snap-on") Annual Report on Form 10-K for the year ended December 29,
2001.
In the opinion of management, all adjustments (consisting only of normal
recurring adjustments and adjustments related to restructuring and other
non-recurring charges) necessary to a fair statement of financial
condition and results of operations for the three and nine months ended
September 28, 2002, have been made. Management also believes that the
results of operations for the three and nine months ended September 28,
2002, are not necessarily indicative of the results to be expected for the
full year.
2. On December 30, 2001, the beginning of Snap-on's 2002 fiscal year, Snap-on
adopted Statement of Financial Accounting Standards ("SFAS") No. 142,
"Goodwill and Other Intangible Assets." This Statement applies to all
goodwill and other intangible assets recognized by the corporation as of
December 30, 2001, and it changed the subsequent accounting for these
assets in the following significant respects:
The provisions of SFAS No. 142 require that (i) goodwill no longer be
amortized, (ii) negative goodwill be recorded as a cumulative effect of an
accounting change as of the beginning of the 2002 fiscal year, (iii) other
intangible assets be evaluated on an annual basis to determine whether
they have finite or indefinite useful lives, and (iv) goodwill and other
intangible assets deemed to have indefinite lives be evaluated on an
annual basis for impairment based on their fair value. Intangible assets
determined to have finite lives are amortized over those estimated lives,
and intangible assets that have indefinite useful lives are not amortized.
SFAS No. 142 sets forth a number of factors to be considered in
establishing the useful life of intangible assets. These factors include
product life cycles, market competition and other economic trends, as well
as the level of maintenance required to obtain future cash flows. The
useful lives of all intangible assets as of December 30, 2001, were
assessed using these criteria.
In accordance with the adoption provisions of SFAS No. 142, Snap-on
completed the transitional assessment of its other intangible assets in
evaluating and assigning a finite or indefinite useful life. Snap-on also
completed the transitional goodwill and other intangibles fair value
impairment evaluation required by this standard during the second quarter
of 2002, the results of which indicated that the carrying values of
goodwill and other intangibles were not impaired.
Snap-on recorded a cumulative effect of a change in accounting principle
transition adjustment that increased net earnings in the first quarter of
2002 by $2.8 million, on both a pretax and after-tax basis, from the
recognition of negative goodwill as prescribed by SFAS No. 142.
Snap-on ceased amortizing goodwill and certain other intangibles at the
beginning of its 2002 fiscal year as required by SFAS No. 142. The
following is a reconciliation of earnings before cumulative effect of a
change in accounting principle, net earnings, and earnings per share data
for the three and nine months ended September 28, 2002, and September 29,
2001, reflecting the
7
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
impact of this standard on prior-year reported results as if SFAS No. 142 had
been in effect during these periods.
Three Months Ended Nine Months Ended
------------------------------ ---------------------------
Sept. 28, Sept. 29, Sept. 28, Sept. 29,
(Amounts in millions except per share data) 2002 2001 2002 2001
--------- --------- --------- ---------
Earnings before cumulative effect of a
change in accounting principle as reported: $19.2 $ 0.6 $70.1 $38.9
Goodwill amortization, net of tax - 3.0 - 8.9
Trademark amortization, net of tax - 0.2 - 0.6
----- ------ ----- -----
Adjusted earnings before cumulative
effect item $19.2 $ 3.8 $70.1 $48.4
===== ====== ===== =====
Net earnings as reported: $19.2 $ 0.6 $72.9 $36.4
Goodwill amortization, net of tax - 3.0 - 8.9
Trademark amortization, net of tax - 0.2 - 0.6
----- ------ ------ -----
Adjusted net earnings $19.2 $ 3.8 $72.9 $45.9
===== ====== ===== =====
Earnings per share before cumulative effect of
a change in accounting
principle as reported:
Basic $0.33 $0.01 $1.20 $0.67
Diluted 0.33 0.01 1.20 0.67
Adjusted earnings per share before
cumulative effect item:
Basic $0.33 $0.06 $1.20 $0.83
Diluted 0.33 0.06 1.20 0.83
Net earnings per share as reported:
Basic $0.33 $0.01 $1.25 $0.62
Diluted 0.33 0.01 1.25 0.62
Adjusted earnings per share:
Basic $0.33 $0.06 $1.25 $0.78
Diluted 0.33 0.06 1.25 0.78
8
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Additional disclosures related to acquired intangible assets are as
follows:
September 28, 2002 December 29, 2001
-------------------------------------- --------------------------------------
Gross Carrying Accumulated Gross Carrying Accumulated
(Amounts in millions) Value Amortization Value Amortization
------------------ ---------------- ------------------ ----------------
Amortized intangible assets:
Trademarks $ 1.9 $ (.3) $ 1.7 $ (.2)
Patents 28.9 (7.7) 27.2 (6.3)
------ -------- ------ --------
Total 30.8 (8.0) 28.9 (6.5)
Unamortized intangible assets:
Trademarks 45.1 (4.9) 42.8 (4.5)
------ -------- ------ --------
Total intangible assets $ 75.9 $ (12.9) $ 71.7 $ (11.0)
====== ======== ====== ========
The weighted-average amortization period is 34 years for trademarks and 16
years for patents. The weighted-average amortization period for trademarks
and patents on a combined basis is 19 years.
Goodwill as of September 28, 2002, was $353.6 million, up $22.4 million
from year-end 2001 levels, reflecting increases of $1.1 million from a
first-quarter 2002 acquisition and $21.3 million from currency translation
impacts.
The aggregate amortization expense for the three and nine months ended
September 28, 2002, was $.5 million and $1.3 million. Total estimated
annual amortization expense expected for the fiscal years 2002 through
2006, based on current levels of amortized intangible assets, is as
follows:
Estimated
Amortization
(Amounts in millions) Expense
--------------
Fiscal year
2002 $1.8
2003 1.5
2004 1.4
2005 1.4
2006 1.4
3. Snap-on announced in the second quarter of 2001 that it was taking
significant action to (i) reduce costs companywide to adjust to the slower
sales environment and (ii) improve operational performance in businesses
not earning acceptable financial returns. As a result of selective
rationalization and consolidation actions, Snap-on recorded $62.0 million
in pretax restructuring and other non-recurring charges in 2001 for
actions that included the consolidation or closure of 35 facilities, asset
write-downs and severance costs to effect a 6% reduction in workforce. The
$62.0 million charge included restructuring charges of $40.3 million and
non-recurring charges of $21.7 million. The restructuring charge of $40.3
million included $27.1 million for severance costs associated with the
planned elimination of 796 salaried and hourly positions, $6.0 million for
non-
9
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
cancelable lease agreements, $5.9 million for facility asset write-downs,
and $1.3 million for exit-related legal and professional services. The
$21.7 million of other non-recurring charges included $12.6 million
(recorded in cost of goods sold) primarily for inventory write-downs and
warranty costs associated with Snap-on's exiting of an unprofitable
segment of the emissions-testing business, $8.4 million for management
transition costs associated with the appointment of Dale F. Elliott as
successor to the chief executive officer position, and $.7 million for
equipment and employee relocation costs associated with the facility
consolidations.
The composition of Snap-on's restructuring charge activity for the third
quarter ended September 28, 2002, was as follows:
Restructuring Reserve Restructuring Reserve
(Amounts in millions) As of June 29, 2002 Usage as of September 28, 2002
--------------------- -------- -------------------------
Severance costs $ 9.5 $(3.5) $6.0
Facility consolidation
or closure costs 1.0 (.2) .8
------ ----- ----
Total restructuring reserves $ 10.5 $(3.7) $6.8
====== ===== ====
The restructuring reserve usage for the third quarter ended September 28,
2002, of $3.7 million represents $3.5 million for severance payments
related to the separation of 143 employees and $.2 million for facility
consolidation and closure costs. Restructuring reserve usage for the nine
months ended September 28, 2002, of $16.3 million represents $15.1 million
for severance payments related to the separation of 410 employees and $1.2
million for facility consolidation and closure costs. Of the $40.3 million
of restructuring reserves established in 2001, $33.5 million has been used
to date, consisting of $21.1 million for severance payments related to the
separation of 682 of the 796 identified employees, $6.5 million for
facility consolidation and closure costs related to 31 of the 35
facilities identified, and $5.9 million for asset write-downs.
Snap-on has funded and expects to continue to fund the remaining cash
requirements of its 2001 restructuring activities with cash flows from
operations and borrowings under the company's existing credit facilities.
The specific restructuring measures and estimated costs were based on
management's best business judgment under prevailing circumstances. If
future events warrant changes to the reserve, such adjustments will be
reflected as "Restructuring and other non-recurring charges" in the
applicable Consolidated Statements of Earnings.
Snap-on expects to incur an estimated $7 million to $8 million in
restructuring-related costs in 2002 for the completion of its 2001
restructuring and other activities. These costs do not qualify for
restructuring accrual treatment and are expensed as incurred.
Snap-on incurred $1.6 million in restructuring-related expenses for
employee and equipment relocation costs and professional fees in the third
quarter of 2002. For the first nine months of 2002, Snap-on incurred
restructuring and non-recurring expenses of $6.4 million, including $3.0
million related to the 2002 resignation of Snap-on's former chief
financial officer and $3.4 million for employee and equipment relocation
costs and professional fees. These costs are included in "Restructuring
and other non-recurring charges" on the accompanying Consolidated
Statements of Earnings.
10
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
4. Notes payable and long-term debt at the end of September 2002 totaled
$407.8 million, down $66.8 million from the $474.6 million reported at
year-end 2001. Borrowings under commercial paper programs totaled $82.7
million at the end of September 2002 as compared to $142.2 million at
year-end 2001. Snap-on classified its outstanding commercial paper as long
term at year-end 2001, as it was Snap-on's intent and it had the ability
(supported by its long-term revolving credit facilities) to refinance this
debt on a long-term basis. Snap-on's increased net earnings and improved
working capital management in 2002 has resulted in increased cash provided
by operating activities, and the increased cash has been used primarily to
reduce commercial paper borrowings. The company currently anticipates that
it will continue to have strong cash flow and debt reduction and, as a
result, commercial paper borrowings at September 28, 2002, of $82.7
million are included in "Notes payable and current maturities of long-term
debt" on the accompanying Consolidated Balance Sheets.
In August 2002, Snap-on entered into a $200 million, 364-day revolving
credit facility that replaced the company's $250 million, 364-day
revolving credit facility that expired on August 19, 2002. In addition to
the $200 million facility, Snap-on has a five-year, $208 million revolving
credit facility that terminates on August 20, 2005.
5. Snap-on accounts for its hedging activities under SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended
by SFAS No. 138. These standards require that all derivative instruments
be reported in the consolidated financial statements at fair value.
Changes in the fair value of derivatives are to be recorded each period in
earnings or "Accumulated other comprehensive income (loss)," depending on
the type of hedged transaction and whether the derivative is designated
and effective as part of a hedged transaction. Gains or losses on
derivative instruments reported in "Accumulated other comprehensive income
(loss)" must be reclassified as earnings in the period in which earnings
are affected by the underlying hedged item, and the ineffective portion of
all hedges must be recognized in earnings in the current period.
In accordance with the provisions of SFAS No. 133, Snap-on recorded a
transition adjustment on December 31, 2000, the beginning of Snap-on's
2001 fiscal year, to recognize its derivative instruments at fair value,
and to recognize the difference between the carrying values and fair
values of related hedged assets and liabilities upon adoption of these
standards. The cumulative effect of this transition adjustment was to
decrease reported net income in the first quarter of 2001 by $2.5 million
after tax related to a hedge strategy that did not qualify for hedge
accounting under SFAS No. 133. Snap-on also recorded in the first quarter
of 2001 a transition adjustment of $1.2 million, after tax, in accumulated
other comprehensive income (loss) to recognize previously deferred net
gains on derivatives designated as cash flow hedges that qualify for hedge
accounting under SFAS No. 133.
Snap-on uses derivative instruments to manage well-defined interest rate
and foreign currency exposures. Snap-on does not use derivative
instruments for speculative or trading purposes. The criteria used to
determine if hedge accounting treatment is appropriate are (i) the
designation of the hedge to an underlying exposure, (ii) whether or not
overall risk is being reduced, and (iii) if there is a correlation between
the value of the derivative instrument and the underlying obligation. On
the date a derivative contract is entered into, Snap-on designates the
derivative as a fair value hedge, a cash flow hedge, a hedge of a net
investment in a foreign operation, or a natural hedging instrument whose
11
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
change in fair value is recognized as an economic hedge against changes in
the values of the hedged item.
Foreign Currency Derivative Instruments: Snap-on has operations in a
number of countries that have transactions outside their functional
currencies and, as a result, is exposed to changes in foreign currency
exchange rates. In addition, Snap-on hedges the anticipated repayment of
intercompany loans to foreign subsidiaries denominated in foreign
currencies. Snap-on manages most of these exposures on a consolidated
basis, which allows for netting of certain exposures to take advantage of
natural offsets. Forward exchange contracts are used to hedge the net
exposures. Gains or losses on net foreign currency hedges are intended to
offset losses or gains on the underlying net exposures in an effort to
reduce the earnings volatility resulting from fluctuating foreign currency
exchange rates.
At September 28, 2002, Snap-on had net outstanding foreign exchange
forward contracts totaling $185.1 million comprised of buy contracts of
$64.6 million in Swedish kronor and sell contracts of $118.0 million in
euros, $69.6 million in British pounds, $33.1 million in Canadian dollars,
$9.8 million in Singapore dollars, $5.6 million in Australian dollars,
$4.4 million in Danish kronor, $3.6 million in Norwegian kronor and $5.6
million in other currencies. At December 29, 2001, Snap-on had net
outstanding foreign exchange forward contracts totaling $191.3 million
comprised of buy contracts of $55.1 million in Swedish kronor and sell
contracts of $113.6 million in euros, $73.8 million in British pounds,
$31.2 million in Canadian dollars, $8.8 million in Singapore dollars, $4.9
million in Danish kronor, $4.4 million in Australian dollars and $9.7
million in other currencies.
Snap-on classifies the majority of its forward exchange contracts as
natural hedges and therefore these contracts are excluded from the
assessment of effectiveness. The fair value changes of these contracts are
reported in earnings as foreign exchange gain or loss, which is included
in "Other income (expense) - net" on the accompanying Consolidated
Statements of Earnings. Those forward exchange contracts that qualify for
hedge accounting treatment are accounted for as cash flow hedges where the
effective portion of the changes in fair value of the derivative is
recorded in "Accumulated other comprehensive income (loss)." When the
hedged item is realized in income, the gain or loss included in
"Accumulated other comprehensive income (loss)" is reclassified to income
in the same financial statement caption as the hedged item. The
ineffective portion of changes in fair value of the cash flow hedges is
reported in earnings as foreign exchange gain or loss, which is included
in "Other income (expense) - net" and which were not material.
Non-Derivative Instruments Designated in Hedging Relationships: Snap-on
uses non-U.S. dollar financing transactions as net investment hedges of
long-term investments in the corresponding foreign currency. Hedges that
meet the effectiveness requirements are accounted for under net investment
hedging rules. The effective portion of the net investment hedge of a
foreign operation is recorded in "Accumulated other comprehensive income
(loss)" as a cumulative translation adjustment. When applicable, the
ineffective portion of the net investment hedge is recorded in earnings as
foreign exchange gain or loss, which is included in "Other income
(expense) - net" and which were not material. Net losses arising from
effective hedges of net investments have been reflected in the cumulative
translation adjustment account as a component of "Accumulated other
comprehensive income (loss)" and which were not material.
12
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Interest Rate Swap Agreements: Snap-on enters into interest rate swap
agreements to manage interest costs and risks associated with changing
interest rates. Interest rate swap agreements are accounted for as either
cash flow hedges or fair value hedges. The differentials paid or received
on interest rate swap agreements are accrued and recognized as adjustments
to interest expense. For fair value hedges the effective portion of the
change in fair value of the derivative is recorded in "Long-term debt,"
while any ineffective portion is recorded as an adjustment to interest
expense. For cash flow hedges the effective portion of the change in fair
value of the derivative is recorded in "Accumulated other comprehensive
income (loss)," while any ineffective portion is recorded as an adjustment
to interest expense. The notional amount of interest rate swaps was $50.0
million at September 28, 2002, and $25.0 million at December 29, 2001.
For all derivatives qualifying for hedge accounting under SFAS No. 133,
the net accumulated derivative loss at September 28, 2002, was $3.7
million, after tax, and is reflected in "Accumulated other comprehensive
income (loss)." At September 28, 2002, the maximum maturity date of any
cash flow hedge and fair value hedge was approximately 30 months and 9
years, respectively. During the next 12 months, Snap-on expects to
reclassify into earnings net losses from "Accumulated other comprehensive
income (loss)" of approximately $2.4 million after tax at the time the
underlying hedged transactions are realized.
During the third quarter ended September 28, 2002, cash flow hedge and
fair value hedge ineffectiveness was not material.
6. Snap-on normally declares and pays in cash four regular, quarterly
dividends. However, the third quarter dividend in each year is declared in
June, giving rise to two regular quarterly dividends appearing in the
second quarter, no regular quarterly dividends appearing in the third
quarter, and three regular dividends appearing in the first nine months'
financial statements.
7. Basic and diluted earnings per share were computed by dividing net
earnings by the corresponding weighted-average common shares outstanding
for the period. The dilutive effect of the potential exercise of
outstanding options to purchase shares of common stock is calculated using
the treasury stock method.
8. Accounting Pronouncements
In June 2002, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 146, "Accounting for Exit or Disposal Activities." SFAS No. 146
addresses significant issues regarding the recognition, measurement, and
reporting of costs that are associated with exit and disposal activities,
including restructuring activities that are currently accounted for
pursuant to the guidance that the Emerging Issues Task Force ("EITF") set
forth in 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)." The scope of SFAS No. 146
also includes (i) costs related to terminating a contract that is not a
capital lease and (ii) termination benefits that employees who are
involuntarily terminated receive under the terms of a one-time benefit
13
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
arrangement that is not an ongoing benefit arrangement or an individual
deferred-compensation contract. SFAS No. 146 is effective for exit or
disposal activities that are initiated after December 31, 2002 with early
adoption allowed.
On December 30, 2001, the beginning of its 2002 fiscal year, Snap-on
adopted SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets," which supersedes SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
Of." The statement provides a single accounting model for long-lived
assets to be disposed of. The effect of this change in accounting
principle was not material to Snap-on's financial position or results of
operations.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible
long-lived assets. The statement requires that the fair value of a
liability for an asset's retirement obligation be recognized in the period
in which it is incurred and capitalized as part of the carrying amount of
the long-lived asset. The statement will be effective at the beginning of
Snap-on's 2003 fiscal year. Snap-on believes that the effects of this
pronouncement will not be material to Snap-on's financial position or
results of operations.
9. Total comprehensive income for the three- and nine-month periods ended
September 28, 2002, and September 29, 2001, was as follows:
Three Months Ended Nine Months Ended
-------------------------------- -------------------------------
Sept. 28, Sept. 29, Sept. 28, Sept. 29,
(Amounts in millions) 2002 2001 2002 2001
-------------- ------------- ------------ --------------
Net earnings $ 19.2 $ .6 $ 72.9 $ 36.4
Foreign currency translation (8.0) 11.2 31.5 (21.1)
Change in fair value of derivative
instruments, net of tax (.9) (1.2) (1.7) (2.0)
-------- --------- ------- -------
Total comprehensive income $ 10.3 $ 10.6 $ 102.7 $ 13.3
======== ========= ======= =======
10. In February 1998, Snap-on filed a complaint alleging infringement of
certain of Snap-on's patents by Hunter Engineering Company ("Hunter").
Hunter counterclaimed, alleging infringement of certain of its patents and
one trademark. In April 2002, the court set a trial date of October 14,
2002, for various patents. In previously filed expert reports, Snap-on
claimed damages in excess of $50 million and Hunter claimed damages of less
than $30 million, exclusive of prejudgment interest, penalties for alleged
willful infringement and/or the value of injunctive relief. In May 2002,
Hunter alleged infringement of two additional patents for which a March
2003 trial date was later set. That trial date was vacated when the case
was consolidated with the above litigation in October 2002.
The October 14, 2002, trial date was later postponed by the court to
October 30, 2002. On October 22, 2002, a settlement was reached between
Snap-on and Hunter for all of the above-mentioned matters. In accordance
with the terms of the confidential settlement and subject to a final,
comprehensive
14
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
agreement, Snap-on expects to realize a favorable outcome from these
matters in the fourth quarter of 2002. It was not possible at the end of
the third quarter of 2002 to predict the outcome of the collective Hunter
matters. Accordingly, Snap-on did not record any gain or loss
contingencies at September 28, 2002, relative to the Hunter litigation.
Snap-on holds a vast patent portfolio and vigorously prosecutes its claims
and defends its patents in the ordinary course of business.
Snap-on is involved in various other legal matters that are being defended
and handled in the ordinary course of business, and Snap-on maintains
accruals for such costs that are expected to be incurred. Although it is
not possible to predict the outcome of these matters, management believes
that the results will not have a material impact on Snap-on's financial
statements.
During 2001, Snap-on entered into a binding arbitration process with SPX
Corporation ("SPX") related to infringement of patents. The arbitrator
ruled in favor of SPX and Snap-on paid damages of $44.0 million in January
2002 to SPX.
11. Snap-on's business segments are based on the organization structure used
by management for making operating and investment decisions and for
assessing performance. Snap-on previously reported two business segments:
the Snap-on Dealer Group, which represented the worldwide franchised
dealer van channel, and the Commercial and Industrial Group, which
included all of Snap-on's non-dealer businesses. Due to recent changes in
Snap-on's management organization structure, coupled with the growth in
the company's diagnostics and vehicle-service information products,
Snap-on changed its reportable business segments in the third quarter of
2002 to include the following: (i) the Snap-on Dealer Group; (ii) the
Commercial and Industrial Group; and (iii) the Diagnostics and Information
Group. The Snap-on Dealer Group consists of Snap-on's business operations
serving the worldwide franchised dealer van channel. The Commercial and
Industrial Group consists of the business operations providing tools and
equipment products to a broad range of industrial and commercial customers
worldwide through direct, distributor and other non-franchised
distribution channels. The Diagnostics and Information Group consists of
the business operations providing diagnostics equipment, vehicle-service
information, business management systems, equipment repair services and
other solutions for vehicle service to customers in the worldwide vehicle
service and repair marketplace. The accompanying financial information for
the three- and nine-month periods ended September 28, 2002, and September
29, 2001, is presented in the new segment structure.
Snap-on evaluates the performance of its operating segments based on
segment net sales and operating earnings. Segment net sales are defined as
total net sales, including both net sales from external customers and
intersegment sales, before elimination of intersegment activity. Segment
operating earnings are defined as segment net sales less cost of goods
sold and operating expenses. Snap-on accounts for intersegment sales and
transfers based primarily on standard costs with reasonable mark-ups
established between the segments. Snap-on allocates shared services
expenses to those segments that utilize the services based on a percentage
of either cost of goods sold or segment net sales, as appropriate.
Restructuring and other non-recurring charges are not allocated to the
reportable segments.
15
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Neither Snap-on nor any of its segments depends on any single customer,
small group of customers or government for more than 10% of its sales.
Financial data by segment was as follows:
Three Months Ended Nine Months Ended
------------------------------ --------------------------------
Sept. 28, Sept. 29, Sept. 28, Sept. 29,
(Amounts in millions) 2002 2001 2002 2001
-------------- -------------- ---------------- ------------
Net sales from external customers:
Snap-on Dealer Group $ 240.4 $ 254.6 $ 771.9 $ 758.4
Commercial and Industrial Group 220.3 212.0 667.3 683.4
Diagnostics and Information Group 41.7 41.5 120.4 119.3
-------- -------- ---------- ----------
Total net sales from external customers $ 502.4 $ 508.1 $ 1,559.6 $ 1,561.1
======== ======== ========== ==========
Intersegment sales:
Snap-on Dealer Group $ 6.1 $ 5.6 $ 15.7 $ 19.8
Commercial and Industrial Group 29.0 29.1 89.7 86.9
Diagnostics and Information Group 43.3 37.2 135.1 117.3
-------- -------- ---------- ----------
Total intersegment sales $ 78.4 $ 71.9 $ 240.5 $ 224.0
======== ======== ========== ==========
Total net sales:
Snap-on Dealer Group $ 246.5 $ 260.2 $ 787.6 $ 778.2
Commercial and Industrial Group 249.3 241.1 757.0 770.3
Diagnostics and Information Group 85.0 78.7 255.5 236.6
-------- -------- ---------- ----------
Total net sales 580.8 580.0 1,800.1 1,785.1
Intersegment eliminations (78.4) (71.9) (240.5) (224.0)
-------- -------- ---------- ----------
Total consolidated net sales $ 502.4 $ 508.1 $ 1,559.6 $ 1,561.1
======== ======== ========== ==========
16
SNAP-ON INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Three Months Ended Nine Months Ended
------------------------------ --------------------------------
Sept. 28, Sept. 29, Sept. 28, Sept. 29,
(Amounts in millions) 2002 2001 2002 2001
-------------- -------------- ---------------- ------------
Operating earnings:
Snap-on Dealer Group $ 12.6 $ 30.9 $ 67.8 $ 88.9
Commercial and Industrial Group 9.7 3.7 31.6 21.0
Diagnostics and Information Group 8.3 1.2 17.6 .5
-------- -------- ---------- ----------
Segment operating earnings 30.6 35.8 117.0 110.4
Net finance income 10.3 7.7 26.4 27.7
Restructuring and other
non-recurring charges (1.6) (30.4) (6.4) (44.8)
Interest expense (6.9) (9.1) (22.2) (27.2)
Other income (expense) - net (2.3) (.8) (5.3) (.5)
-------- -------- ---------- ----------
Earnings before income taxes $ 30.1 $ 3.2 $ 109.5 $ 65.6
======== ======== ========== ==========
Snap-on does not allocate restructuring and other non-recurring charges to its
reportable segments. Had it been Snap-on's policy to allocate such charges to
its reportable segments, the restructuring and other non-recurring charges for
the three- and nine-month periods ended September 28, 2002, and September 29,
2001, would have been allocated as follows:
Three Months Ended Nine Months Ended
------------------------------ --------------------------------
Sept. 28, Sept. 29, Sept. 28, Sept. 29,
(Amounts in millions) 2002 2001 2002 2001
-------------- -------------- ---------------- ------------
Restructuring and other non-recurring charges:
Snap-on Dealer Group $ .8 $ 3.8 $ 2.4 $ 12.2
Commercial and Industrial Group .6 10.4 3.8 15.4
Diagnostics and Information Group .2 16.2 .2 17.2
-------- -------- ---------- ----------
Total restructuring and other
non-recurring charges $ 1.6 $ 30.4 $ 6.4 $ 44.8
======== ======== ========== ==========
As of
-------------------------------
Sept. 29, Dec. 29,
2002 2001
----------- ---------------
Assets:
Snap-on Dealer Group $ 818.1 $ 805.0
Commercial and Industrial Group 1,004.6 921.8
Diagnostics and Information Group 207.4 208.7
-------- --------
Total from reportable segments 2,030.1 1,935.5
Financial Services 74.8 82.0
Elimination of intersegment receivables (107.7) (43.2)
-------- --------
Total assets $1,997.2 $1,974.3
======== ========
17
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Item 2: Management's Discussion and Analysis of Financial Condition and Results
of Operations
Snap-on Incorporated ("Snap-on") is a leading global innovator, manufacturer and
marketer of high-quality tool, diagnostic and equipment solutions for
professional tool and equipment users. Product lines include hand and power
tools, tool storage, saws and cutting tools, pruning tools, diagnostics
equipment, under-car equipment, wheel-service equipment, safety-testing
equipment, collision repair equipment, shop equipment, vehicle-service
information, business management systems, repair services, and other solutions
for vehicle service, industrial, government and agricultural customers, and
commercial applications, including construction and electrical.
Snap-on's business segments are based on the organization structure used by
management for making operating and investment decisions and for assessing
performance. Snap-on previously reported two business segments: the Snap-on
Dealer Group, which represented the worldwide franchised dealer van channel, and
the Commercial and Industrial Group, which included all of Snap-on's non-dealer
businesses. Due to recent changes in Snap-on's management organization
structure, coupled with the growth in the company's diagnostics and
vehicle-service information products, Snap-on changed its reportable business
segments in the third quarter of 2002 to include the following: (i) the Snap-on
Dealer Group; (ii) the Commercial and Industrial Group; and (iii) the
Diagnostics and Information Group. The Snap-on Dealer Group consists of
Snap-on's business operations serving the worldwide franchised dealer van
channel. The Commercial and Industrial Group consists of the business operations
providing tools and equipment products to a broad range of industrial and
commercial customers worldwide through direct, distributor and other
non-franchised distribution channels. The Diagnostics and Information Group
consists of the business operations providing diagnostics equipment,
vehicle-service information, business management systems, equipment repair
services and other solutions for vehicle service to customers in the worldwide
vehicle service and repair marketplace. The accompanying financial information
and discussions for the three- and nine-month periods ended September 28, 2002,
and September 29, 2001, are presented in the new segment structure.
RESULTS OF OPERATIONS
Consolidated
Net sales were $502.4 million in the third quarter of 2002, down 1.1% from
$508.1 million in the comparable prior-year period. Lower third-quarter sales in
the Snap-on Dealer Group were partially offset by higher year-over-year sales in
both the Commercial and Industrial and the Diagnostics and Information Groups.
On a consolidated basis, currency translation had a two percent positive impact
on net sales in the quarter. For the first nine months of 2002, net sales of
$1,559.6 million were essentially flat versus the $1,561.1 million reported in
the comparable 2001 period. Currency translation had a negligible impact on 2002
year-to-date consolidated sales.
Net earnings for the third quarter of 2002 were $19.2 million, or $.33 per
diluted share, as compared with $.6 million, or $.01 per diluted share, in the
third quarter of 2001. The increase in year-over-year net
18
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
earnings reflects lower restructuring and non-recurring charges in 2002,
improvements from Snap-on's restructuring and cost reduction initiatives, the
elimination of goodwill and certain other intangible amortization related to the
fiscal-year 2002 adoption of Statement of Financial Accounting Standards
("SFAS") No. 142, "Goodwill and Other Intangible Assets," higher net finance
income and lower interest expense. Benefits from Snap-on's focus on Operational
Fitness activities, including savings realized from its 2001 restructuring
initiatives, were more than offset by higher expenses associated with
unfavorable manufacturing cost absorption, increased pension and bad debt
expense, and continued higher spending for new product development and the
company's "More Feet on the Street" dealer expansion and enhancement initiative.
Operational Fitness is Snap-on's focused initiative towards improving the
performance of its current business portfolio by continually evaluating
processes and practices to reduce waste and enhance operations. Snap-on's 2001
third-quarter results were reduced by $34.4 million ($23.3 million after tax or
$0.40 per diluted share) for restructuring and associated other non-comparable
costs, including inventory write-downs, bad debt and warranty.
Snap-on ceased amortizing goodwill and certain other intangibles at the
beginning of its 2002 fiscal year as prescribed by SFAS No. 142. Had SFAS No.
142 been in effect for 2001, net earnings for the third quarter of 2001 would
have been $3.8 million, or $.06 per diluted share. Snap-on completed the
transitional goodwill and other intangibles fair value impairment evaluation
required by SFAS No. 142 during the second quarter of 2002, the results of which
indicated that the carrying values of goodwill and other intangibles were not
impaired. For more information on the adoption of SFAS No. 142, refer to Note 2
to the interim Consolidated Financial Statements.
In the 2002 third quarter, Snap-on incurred restructuring and other
non-recurring charges of $1.6 million ($1.1 million after tax or $.02 per share)
for employee and equipment relocation costs and professional fees associated
with its previously announced 2001 restructuring activities. In the third
quarter of 2001 Snap-on incurred charges of $34.4 million ($23.3 million after
tax or $.40 per share) including restructuring and other non-recurring charges
of $30.4 million for various exit-related costs and asset impairment write-downs
and $4.0 million in operating expenses for bad debts associated with the
company's exit of an unprofitable segment of the emissions-testing business in
the fourth quarter of 2000.
Net earnings, before cumulative effect of a change in accounting principle, were
$70.1 million or $1.20 per diluted share for the first nine months of 2002, as
compared with $38.9 million or $.67 per diluted share in 2001. The increase in
2002 earnings reflects lower restructuring and non-recurring charges in 2002,
improvements from Operational Fitness activities and lower interest expense. In
addition, year-to-date 2002 net earnings were favorably impacted by the
elimination of goodwill and certain other intangible amortization under SFAS No.
142. These benefits were partially offset by increased dealer expansion costs,
higher net pension and bad debt expenses, and increased new product spending.
Earnings for the first nine months of 2001 were reduced by $54.9 million ($37.7
million after tax or $0.65 per diluted share) for restructuring and other
non-comparable costs, including management transition costs and other costs
(inventory write-downs, bad debt and warranty) associated with Snap-on's
restructuring and other exit activities.
Snap-on ceased amortizing goodwill and certain other intangibles at the
beginning of its 2002 fiscal year as prescribed by SFAS No. 142. Had SFAS No.
142 been in effect for the first nine months of 2001, net earnings, before
cumulative effect item, would have been $48.4 million, or $.83 per diluted
share.
19
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
Net earnings for the first nine months of 2002 were $72.9 million or $1.25 per
diluted share, as compared with $36.4 million or $.62 per diluted share in 2001.
Snap-on recorded a cumulative effect of a change in accounting principle
transition adjustment that increased net earnings in the first quarter of 2002
by $2.8 million, or $.05 per diluted share, on both a pretax and after-tax
basis, from the elimination of negative goodwill as required by SFAS No. 142. In
the first quarter of 2001, Snap-on recorded a cumulative effect of a change in
accounting principle transition adjustment that decreased net earnings by $2.5
million after tax, or $.05 per diluted share, related to a hedge strategy that
did not qualify for hedge accounting under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." Snap-on adopted SFAS No. 133 at
the beginning of its 2001 fiscal year. For more information on the adoption of
SFAS No. 133, refer to Note 5 to the interim Consolidated Financial Statements.
Gross profit for the third quarter of 2002 was $227.8 million, up 2.4% from
$222.4 million in the prior-year period. As a percentage of sales, gross profit
margin in the third quarter of 2002 increased to 45.3%, as compared to 43.8% in
the comparable prior-year period. In the third quarter of 2001, gross margin was
negatively impacted by $12.4 million in non-comparable charges, including $2.1
million for inventory write-downs associated with restructuring activities and
$10.3 million for other inventory write-downs and warranty costs associated with
the exiting of a segment of the emissions-testing business. Gross profit for the
first nine months of 2002 was $714.9 million, up 1.3% from $705.4 million in the
prior-year period, and gross profit margin increased to 45.8%, as compared to
45.2% in the first nine months of 2001. Gross profit margins in both the third
quarter and first nine months of 2002 benefited from the company's restructuring
and Operational Fitness activities, including cost controls and improvements in
manufacturing operations. Lower manufacturing cost absorption and increased
expenses to better align production to the reduced demand, as well as the
unfavorable impact associated with improving inventory turns in a slow sales
environment, lessened the impact of the year-over-year improvements in gross
margin on both a quarter and year-to-date basis. In addition to the $12.4
million of non-comparable charges incurred in the third quarter of 2001, gross
margins for the first nine months of 2001 were adversely impacted by $1.5
million of non-comparable charges related to the termination of a European
supplier arrangement.
Operating expenses for the third quarter of 2002 were $197.2 million, or 39.3%
of sales, as compared to $199.0 million, or 39.2% of sales, in the comparable
prior-year period. The $1.8 million decrease in operating expenses reflects the
benefits from restructuring and Operational Fitness initiatives and the
elimination of $3.8 million of goodwill and certain other intangible
amortization under SFAS No. 142. In addition, operating expenses in the third
quarter of 2001 were adversely impacted by $4.0 million of non-comparable costs
for emissions-related bad debts. These improvements in year-over-year operating
expenses were largely offset by higher costs in fiscal 2002 related to the More
Feet on the Street dealer expansion and enhancement program, including
additional training, development, recruitment and dealer turnover costs,
increased new product spending, and higher year-over-year pension and bad debt
expenses.
Operating expenses for the first nine months of 2002 were $597.9 million, or
38.3% of net sales, as compared to $607.4 million, or 38.9% of sales, in the
comparable prior-year period. The improvement in year-over-year operating
expenses includes $9.5 million from the elimination of goodwill and certain
other intangible amortization, the elimination of non-comparable charges of $8.6
million incurred in 2001 related to the termination of a European supplier
arrangement and emissions-related bad debts, as well as savings in 2002 from
fiscal 2001 restructuring actions, reduced discretionary spending and other
cost-
20
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
reduction initiatives. These decreases to operating expenses were largely
offset by increased expenses for the More Feet on the Street initiative, higher
net pension costs, increased spending for new product development and higher bad
debt expense, including $2.6 million for the first quarter 2002 write-down of a
receivable related to the closure of auto service centers associated with a
major retailer's bankruptcy.
Segment Results
Snap-on's business segments are based on the organization structure used by
management for making operating and investment decisions and for assessing
performance. As a result of recent management organization changes coupled with
the significant growth in the company's diagnostics and information-products
businesses, Snap-on changed its reportable segments in the third quarter of 2002
to include the following: (i) the Snap-on Dealer Group, (ii) the Commercial and
Industrial Group, and (iii) the Diagnostics and Information Group.
Snap-on evaluates the performance of its operating segments based on segment net
sales and operating earnings. Segment net sales are defined as total net sales,
including both net sales from external customers and intersegment sales, before
elimination of intersegment activity. Segment operating earnings are defined as
segment net sales less cost of goods sold and operating expenses. Snap-on
accounts for intersegment sales and transfers based primarily on standard costs
with reasonable mark-ups established between the segments. Snap-on allocates
shared services expenses to those segments that utilize the services based on a
percentage of either cost of goods sold or segment net sales, as appropriate.
Restructuring and other non-recurring charges are not allocated to the
reportable segments.
21
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
The following discussion focuses on Snap-on's net sales and operating earnings
by reportable segment.
Three Months Ended Nine Months Ended
------------------------------------ --------------------------------------
Sept. 28 Sept. 29, Sept. 28, Sept. 29,
(Amounts in millions) 2002 2001 2002 2001
----------------- -------------- ------------------ ----------------
Total net sales:
Snap-on Dealer Group $246.5 $260.2 $ 787.6 $ 778.2
Commercial and Industrial Group 249.3 241.1 757.0 770.3
Diagnostics and Information Group 85.0 78.7 255.5 236.6
------ ------ --------- ---------
Total net sales 580.8 580.0 1,800.1 1,785.1
Intersegment eliminations (78.4) (71.9) (240.5) (224.0)
------ ------ --------- ---------
Total consolidated net sales $502.4 $508.1 $ 1,559.6 $ 1,561.1
====== ====== ========= =========
Operating earnings:
Snap-on Dealer Group $ 12.6 $ 30.9 $ 67.8 $ 88.9
Commercial and Industrial Group 9.7 3.7 31.6 21.0
Diagnostics and Information Group 8.3 1.2 17.6 .5
------ ------ --------- ---------
Total operating earnings $ 30.6 $ 35.8 $ 117.0 $ 110.4
====== ====== ========= =========
Snap-on Dealer Group
In the worldwide Snap-on Dealer Group, net sales for the third quarter of 2002
were $246.5 million, down 5.3% from $260.2 million in the comparable prior-year
period. The decline in year-over-year net sales reflects both a decrease in
big-ticket sales through the tech rep organization and lower sales to U.S.
dealers. Snap-on has been assisting its dealers in better managing their working
capital through enhanced business training - a near-term consequence of which is
lower year-over-year sales as dealers actively work to reduce their inventory
levels. While net sales were down for the third quarter of 2002, end-market
demand for tools and tool storage products remained strong, as sell-through by
the dealers was up a mid-single digit percent when compared with the third
quarter of 2001. Currency translation had a negligible impact on sales in the
quarter.
For the first nine months of 2002, net sales were $787.6 million, up 1.2% from
$778.2 million in 2001, reflecting continued strength in tools and tool storage,
the successful launch of new products, including new handheld diagnostics
equipment, and the increased service and marketplace coverage being achieved as
a result of the More Feet on the Street U.S. dealer expansion initiative. In the
third quarter of 2002, a net increase of 28 dealers was achieved in the U.S.
dealer business, primarily through the use of second vans and second franchises,
bringing the 2002 year-to-date net increase to 144 dealers. The success of this
initiative is continuing to lead to improved customer service and marketplace
penetration, as well as higher sales. Despite the third quarter shortfall, sales
in the tech rep organization for the first nine months of 2002 were up year over
year compared with depressed sales in the prior year. The increase in U.S.
dealer sales is being partially offset by a decline in non-U.S. dealer
operations. For both the third quarter
22
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
and first nine months of 2002, sales declines in Canada were partially offset by
stronger sales in the U.K. and Australia. Currency translation had a negligible
impact on 2002 year-to-date sales.
Segment earnings for the third quarter of 2002 were $12.6 million, down from
$30.9 million in the third quarter of 2001, reflecting the lower sales volume
and additional cost pressure from lower manufacturing cost absorption, including
expenses associated with reducing inventory levels. Segment earnings were also
adversely impacted by higher year-over-year pension and bad debt expenses, and
continued higher spending for the More Feet on the Street dealer initiative.
Segment earnings as a percentage of net sales were 5.1% in the quarter, as
compared to 11.9% in the prior year.
Segment earnings for the first nine months of 2002 were $67.8 million, as
compared to $88.9 million in the comparable prior-year period. Segment earnings
as a percentage of net sales were 8.6% for the first nine months of 2002, as
compared to 11.4% in the same period last year. Operating margins in 2002
continue to be compressed due to lower manufacturing cost absorption and
expenses associated with improving working capital management, particularly
increasing inventory turns. Segment earnings were also adversely impacted by
higher year-over-year pension and bad debt expenses, and continued higher
spending for the dealer expansion and enhancement initiative. Benefits from
higher U.S. sales volumes in the first half of 2002, as well as benefits from
productivity savings and tighter control on discretionary spending, partially
offset the year-over-year decline in segment earnings.
Commercial and Industrial Group
In the Commercial and Industrial Group, net sales for the third quarter of 2002
increased to $249.3 million, up 3.4%, over the prior-year period of $241.1
million. The increase primarily reflects a three percent benefit from favorable
currency translations, higher sales to new-vehicle dealerships under
facilitation agreements, and sales gains in equipment and international
industrial tool markets. These increases were partially offset by the continued
soft demand in the North American industrial marketplace.
For the first nine months of 2002, net sales were $757.0 million, down $13.3
million, or 1.7%, from the prior-year period of $770.3 million. The decrease in
net sales primarily reflects the continued weak demand for big-ticket capital
goods equipment. Sales worldwide of equipment and professional tools in the
industrial and commercial marketplace declined, reflecting the continued
softness in many industry sectors. Partially offsetting the decline was growth
in the facilitation business. Currency translation had a negligible impact on
year-to-date 2002 sales.
Segment earnings for the third quarter of 2002 were $9.7 million, a significant
increase from $3.7 million a year ago. The operating margin improved to 3.9%
from 1.5% a year ago, reflecting benefits from restructuring savings and other
productivity benefits from Operational Fitness activities, the elimination of
$2.3 million in goodwill and other intangible amortization, and the absence of
$1.6 million in non-comparable charges incurred in 2001, primarily related to
the write-off of bad debts associated with the company's exit of an unprofitable
segment of the emissions-testing business.
Segment earnings for the first nine months of 2002 were $31.6 million compared
to $21.0 million a year ago. The operating margin improved to 4.2% from 2.7% a
year ago, reflecting benefits from restructuring and Operational Fitness
activities, the elimination of $7.0 million in goodwill and other intangible
23
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
amortization, and the absence of $2.4 million in non-comparable charges for the
write-off of bad debts and legal costs associated with the emissions-testing
business. These items were partially offset by the unfavorable operating
leverage related to lower sales and inventory reduction initiatives and the
effect of having manufacturing operations based in strong currency countries.
Diagnostics and Information Group
In the Diagnostics and Information Group, net sales for the third quarter of
2002 were $85.0 million, up 8.0%, as compared to $78.7 million in the third
quarter of 2001. For the first nine months of 2002, net sales were $255.5
million, up 8.0%, versus $236.6 million in the same period of last year. The
year-over-year sales increase for both periods was primarily attributed to
strong demand for the company's information-based products and new handheld
diagnostics equipment.
Segment earnings for the third quarter of 2002 were $8.3 million, as compared to
$1.2 million in the third quarter of last year. Operating margin in the
Diagnostics and Information Group improved from 1.5% in the third quarter of
2001 to 9.8% in the third quarter of 2002. The increase in both year-over-year
segment earnings and operating margin reflects the higher sales volumes and
benefits from productivity improvements and cost savings realized from fiscal
2001 restructuring initiatives and from ongoing cost-reduction efforts, as well
as the absence of $2.1 million in non-comparable costs incurred in the third
quarter of 2001 for the write-off of bad debts associated with the company's
exit of an unprofitable segment of the emissions-testing business. In addition,
2002 segment earnings were favorably impacted by $1.1 million due to the
elimination of goodwill amortization. Continued high investment spending on new
product research and development activities partially offset the year-over-year
improvement in segment earnings.
Segment earnings for the first nine months of 2002 were $17.6 million, as
compared to $.5 million in the comparable nine months of 2001. Operating margin
for the first nine months of 2002 was 6.9% versus .2% in the first nine months
of 2001. The significant increase in both year-over-year earnings and operating
margin reflects the higher sales volumes and benefits realized from the 2001
restructuring initiatives and other ongoing cost-reduction efforts, as well as
the absence of $6.5 million in non-comparable costs incurred in the first nine
months of 2001 for inventory write-downs, bad debts and legal costs related to
the termination of a European supplier arrangement and the exiting of a segment
of the emissions-testing business. Segment earnings in 2002 were also favorably
impacted by the elimination of $3.3 million in goodwill amortization. These
items were partially offset by a $2.6 million charge in the first quarter of
2002 for the write-down of a receivable related to the closure of auto service
centers associated with a major retailer's bankruptcy.
Restructuring and Other Non-recurring Charges
Snap-on announced in the second quarter of 2001 that it was taking significant
action to (i) reduce costs companywide to adjust to the slower sales environment
and (ii) improve operational performance in businesses not earning acceptable
financial returns. As a result of selective rationalization and consolidation
actions, Snap-on recorded $62.0 million in pretax restructuring and other
non-recurring charges in 2001 for actions that included the consolidation or
closure of 35 facilities, asset write-downs
24
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
and severance costs to effect a 6% reduction in workforce. The $62.0 million
charge included restructuring charges of $40.3 million and non-recurring charges
of $21.7 million. The restructuring charge of $40.3 million included $27.1
million for severance costs associated with the planned elimination of 796
salaried and hourly positions, $6.0 million for non-cancelable lease agreements,
$5.9 million for facility asset write-downs, and $1.3 million for exit-related
legal and professional services. The $21.7 million of other non-recurring
charges included $12.6 million (recorded in cost of goods sold) primarily for
inventory write-downs and warranty costs associated with Snap-on's exiting of an
unprofitable segment of the emissions-testing business, $8.4 million for
management transition costs associated with the appointment of Dale F. Elliott
as successor to the chief executive officer position, and $.7 million for
equipment and employee relocation costs associated with the facility
consolidations.
The composition of Snap-on's restructuring charge activity for the third quarter
ended September 28, 2002, was as follows:
Restructuring Reserve Restructuring Reserve
(Amounts in millions) As of June 29, 2002 Usage as of September 28, 2002
------------------------- --------- ----------------------------
Severance costs $ 9.5 $(3.5) $6.0
Facility consolidation
or closure costs 1.0 (.2) .8
----- ----- -----
Total restructuring reserves $10.5 $(3.7) $6.8
===== ===== ====
The restructuring reserve usage for the third quarter ended September 28, 2002,
of $3.7 million represents $3.5 million for severance payments related to the
separation of 143 employees and $.2 million for facility consolidation and
closure costs. Restructuring reserve usage for the nine months ended September
28, 2002, of $16.3 million represents $15.1 million for severance payments
related to the separation of 410 employees and $1.2 million for facility
consolidation and closure costs. Of the $40.3 million of restructuring reserves
established in 2001, $33.5 million has been used to date, consisting of $21.1
million for severance payments related to the separation of 682 of the 796
identified employees, $6.5 million for facility consolidation and closure costs
related to 31 of the 35 facilities identified, and $5.9 million for asset
write-downs.
Snap-on has funded and expects to continue to fund the remaining cash
requirements of its 2001 restructuring activities with cash flows from
operations and borrowings under the company's existing credit facilities. The
specific restructuring measures and estimated costs were based on management's
best business judgment under prevailing circumstances. If future events warrant
changes to the reserve, such adjustments will be reflected as "Restructuring and
other non-recurring charges" in the applicable Consolidated Statements of
Earnings.
Snap-on expects to incur an estimated $7 million to $8 million in
restructuring-related costs in 2002 for the completion of its 2001 restructuring
and other activities. These costs do not qualify for restructuring accrual
treatment and are expensed as incurred. In the third quarter of 2002, Snap-on
incurred $1.6 million in restructuring-related expenses for employee and
equipment relocation costs and professional fees. For the first nine months of
2002, Snap-on incurred restructuring and non-recurring expenses of $6.4 million,
including $3.0 million related to the 2002 resignation of Snap-on's former chief
financial
25
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
officer and $3.4 million for employee and equipment relocation costs and
professional fees. These costs are included in "Restructuring and other
non-recurring charges" on the accompanying Consolidated Statements of Earnings.
Other
Net finance income was $10.3 million in the third quarter of 2002, up $2.6
million from $7.7 million in the comparable prior-year period. Higher
originations related to the U.S. dealer business and the continued strong
end-user demand, along with improved year-over-year interest rate spreads on
originated loans, contributed to the increase. For the first nine months of
2002, net finance income was $26.4 million, compared to $27.7 million in 2001.
Credit originations for the first nine months of 2002 have increased year over
year, while prior-year results benefited from a more highly favorable interest
rate environment in the first quarter of 2001.
Interest expense for the third quarter of 2002 was $6.9 million, a decrease of
$2.2 million from the prior-year period. For the first nine months of 2002,
interest expense of $22.2 million was down $5.0 million from $27.7 million in
the prior year. The reduction in interest expense in both the third quarter and
year-to-date periods is due to continued debt reduction funded by cash flow from
operating activities and lower average interest rates relative to the comparable
periods in the prior year.
Other income (expense) - net was an expense of $2.3 million for the third
quarter of 2002 as compared to an expense of $.8 million in the comparable 2001
period. For the first nine months of 2002, Other income (expense) - net was an
expense of $5.3 million, as compared to $.5 million of expense for 2001. This
line item includes the impact of all non-operating items such as interest
income, license fees, disposal of fixed assets, hedging and exchange rate
transaction gains and losses, other miscellaneous non-operating items, and
adjustments for minority interests. Minority interests for the three months
ended September 28, 2002, totaled $.9 million, up $.3 million from the same
prior-year period. For the nine months ended September 28, 2002, minority
interests totaled $2.0 million compared with $1.6 million for the same period in
2001.
Snap-on's effective income tax rate, before cumulative effect, restructuring,
non-recurring and other non-comparable items, was 36.0% for both the third
quarter and first nine months of 2002 and 36.5% for both the third quarter and
first nine months of 2001. Including the restructuring, non-recurring and other
non-comparable charges, Snap-on's overall effective tax rate, before cumulative
effect of accounting change, was 36.2% in the third quarter of 2002 and 36.0%
for the first nine months of 2002. For 2001, Snap-on's effective tax rate was
81.3% in the third quarter of 2001 and 40.7% for the first nine months of 2001.
The effective tax rates for both the third quarter and first nine months of 2001
were adversely impacted by restructuring, non-recurring and other non-comparable
charges incurred in certain foreign jurisdictions that were not tax benefited.
The year-over-year reduction in Snap-on's effective rate for both the third
quarter and first nine months of 2002 also reflects the elimination of goodwill
amortization in 2002.
26
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
FINANCIAL CONDITION
Cash and cash equivalents were $6.9 million at September 28, 2002, up $.2
million from $6.7 million at year-end 2001. Despite a $44.0 million payment
($39.0 million net of tax benefit) in the first quarter of 2002 for the December
2001 resolution of an arbitration matter, net cash provided by operating
activities increased to $125.8 million in the first nine months of 2002,
compared with $74.5 million in the prior year, primarily due to better
management of working capital elements (particularly inventories and trade
payables). Working capital was $494.1 million at the end of the third quarter of
2002, a decrease of $95.9 million from $590.0 million at year-end 2001, and a
decrease of $172.3 million from $666.4 million in the third quarter of 2001.
The total-debt-to-total-capital ratio at the end of the third quarter of 2002
was 32.5%, as compared to 38.0% at year-end 2001 and 39.5% at the end of the
third quarter of 2001, reflecting lower debt levels and increased shareholders'
equity. Total notes payable and long-term debt was $407.8 million at the end of
the third quarter of 2002, as compared to $474.6 million at year-end 2001 and
$532.6 million at the end of the third quarter of 2001. Total debt levels
decreased $66.8 million from year end and $124.8 million from the third quarter
of 2001, reflecting the strengthened cash flow. Total capital was $1,255.3
million, up $4.9 million from year-end 2001 and down $94.0 million from $1,349.3
million at the end of the third quarter of 2001.
Notes payable and long-term debt at the end of September 2002 totaled $407.8
million, down $66.8 million from the $474.6 million reported at year-end 2001.
Borrowings under commercial paper programs totaled $82.7 million at the end of
September 2002, as compared to $142.2 million at year-end 2001. Snap-on
classified its outstanding commercial paper as long term at year-end 2001, as it
was Snap-on's intent and it had the ability (supported by its long-term
revolving credit facilities) to refinance this debt on a long-term basis.
Snap-on's increased net earnings and improved working capital management in 2002
has resulted in increased cash provided by operating activities, and the
increased cash has been used primarily to reduce commercial paper borrowings.
The company currently anticipates that it will continue to have strong cash flow
and debt reduction and, as a result, commercial paper borrowings at September
28, 2002, of $82.7 million are included in "Notes payable and current maturities
of long-term debt" on the accompanying Consolidated Balance Sheets.
In August 2002, Snap-on entered into a $200 million, 364-day revolving credit
facility that replaced the company's $250 million, 364-day revolving credit
facility that expired on August 19, 2002. In addition to the $200 million
facility, Snap-on has a five-year, $208 million revolving credit facility that
terminates on August 20, 2005. At September 28, 2002, Snap-on had $408 million
of revolving credit facilities to support its commercial paper programs.
In August 2001, Snap-on issued $200 million of unsecured notes pursuant to a
$300 million shelf registration statement filed with the Securities and Exchange
Commission in 1994. In October 1995, Snap-on issued $100 million of unsecured
notes to the public under this shelf registration statement. The August 2001
notes require semiannual interest payments at the rate of 6.25% and mature in
their entirety on August 15, 2011. The October 1995 notes require semiannual
interest payments at a rate of 6.625% and mature in their entirety on October 1,
2005. The proceeds from these issuances were used to repay a portion of
Snap-on's outstanding commercial paper and for working capital and general
corporate purposes.
27
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
Accounts receivable-net at the end of the third quarter were $591.8 million,
down $23.4 million from year-end 2001 levels and down $30.6 million from
September of the prior year, due to the decline in sales volumes and the
company's continued emphasis on reducing days sales outstanding.
Inventories at the end of the third quarter of 2002 were $405.9 million, down
$23.7 million from $429.6 million at the end of the third quarter 2001.
Inventories have increased $30.7 million from year-end 2001 levels due to
typical seasonal buildups and the impact of the weaker U.S. dollar at quarter
end.
Capital expenditures were $37.3 million in the first nine months of 2002,
compared with $33.6 million in the comparable prior-year period. Investments
primarily included ongoing replacements and upgrades of manufacturing and
distribution facilities and equipment, restructuring-related and new
product-related capital investments. Snap-on anticipates fiscal 2002 capital
expenditures will be in the range of $45 million to $50 million. Capital
expenditures were $53.6 million in fiscal 2001.
Snap-on believes that its sources of borrowings, coupled with cash from
operations, are sufficient to support its working capital requirements, finance
capital expenditures and restructuring activities, fund acquisitions, repurchase
common stock and pay dividends, at expected levels.
Snap-on has undertaken stock repurchases from time to time to prevent dilution
created by shares issued for employee and dealer stock purchase plans, stock
options, and other corporate purposes, as well as to repurchase shares when
market conditions are favorable. During the first nine months of 2002, Snap-on
repurchased 200,000 shares of common stock for $6.4 million under its previously
announced share repurchase programs. As of the end of the third quarter of 2002,
Snap-on has remaining availability to repurchase up to an additional $143
million in common stock pursuant to the Board of Director's authorizations. The
purchase of Snap-on common stock is at the company's discretion, subject to
prevailing financial and market conditions. During the third quarter of 2002,
Snap-on did not repurchase any of its common stock.
Outlook: Snap-on expects no improvement in the general worldwide economic
environment for the remainder of 2002, and currently sees little indication for
improvement early in 2003. Based on the general economic outlook and typical
sequential seasonal sales increase in the fourth quarter, Snap-on expects its
earnings to be consistent with the range of analyst estimates for the fourth
quarter of 2002, which is $.50 to $.56 per share.
28
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
CRITICAL ACCOUNTING POLICIES
The consolidated financial statements and related notes contain information that
is pertinent to management's discussion and analysis. The preparation of
financial statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities, the 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.
In December 2001, the Securities and Exchange Commission issued Financial
Reporting Release No. 60 ("FRR 60"), "Cautionary Advice Regarding Disclosure
About Critical Accounting Policies," suggesting that companies provide
additional disclosure and commentary on those accounting policies considered
most critical in their Management's Discussion and Analysis of Financial
Condition and Results of Operations. The FRR 60 considers an accounting policy
to be critical if it is important to the company's financial condition and
results of operations and requires significant judgment and estimates on the
part of management in its application.
Snap-on believes that the following represent the critical accounting policies
of the company:
Revenue Recognition: Snap-on recognizes revenues at the time that products are
shipped or services are performed, and accrues for estimated future returns in
the period in which the sale is recorded. Franchise fee revenue is recognized as
the fees are earned. Revenue from franchise fees was not material in any year.
Subscription revenue is deferred and recognized over the life of the
subscription.
Allowance for Doubtful Accounts: Snap-on's accounts receivable are reported net
of bad debt reserves. Snap-on's bad debt reserve estimates are regularly
evaluated by management for adequacy. The evaluations take into consideration
various financial and qualitative factors that may affect the customers' ability
to pay. These factors may include the customers' financial condition,
collateral, debt-servicing capacity, past payment experience and credit bureau
information. Snap-on regularly reviews the estimation process and adjusts the
reserves as appropriate. It is possible, however, that the accuracy of Snap-on's
estimation process could be adversely impacted if the existing financial
condition of its customers were to deteriorate.
Inventory Reserves: Snap-on's inventories, which are reported net of inventory
reserves, consist of manufactured products and merchandise for resale and are
stated at the lower of cost or market. Manufactured products include the costs
of materials, labor and manufacturing overhead. Inventories accounted for using
the first-in, first-out (FIFO) method approximated 65% of total inventory as of
year-end 2001. All other inventories are generally determined using the last-in,
first-out (LIFO) cost method. Snap-on values its inventory at the lower of cost
or market, and regularly reviews the book value of discontinued product lines
and stock keeping units to determine if these items are properly valued. If
market value is less than cost, the company establishes inventory reserves to
write down the related inventory to the lower of market or net realizable value.
Snap-on regularly evaluates the composition of its inventory to determine
slow-moving and obsolete inventories to determine if
29
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
additional reserves are required. Changes in consumer purchasing patterns,
however, could result in the need for additional reserves.
Warranties: Snap-on provides product warranties for specific product lines and
accrues for estimated future warranty costs in the period in which the sale is
recorded.
Valuation of Long-lived and Intangible Assets: Snap-on periodically evaluates
its long-lived assets for potential impairment. If impairment exists, an
impairment loss is recognized and the carrying amount of the asset is adjusted
to its new accounting basis. Judgments regarding the existence of impairment are
based on legal factors, market conditions and operational performance. Future
events could cause Snap-on to conclude that impairment exists. Snap-on uses the
undiscounted cash flow method to determine if potential impairment exists. If
impairment is determined to exist, its extent is measured using future
discounted cash flows. This requires management to make estimates and
assumptions regarding future income, working capital and discount rates, which
affect the impairment calculation.
Pension and Other Postretirement Benefits: Snap-on has significant pension and
postretirement benefit liabilities and costs that are developed from actuarial
valuations. Inherent in these valuations are key assumptions including discount
rates, expected return on plan assets and medical trend rates. Changes in these
assumptions are primarily influenced by factors outside of Snap-on's control and
can have a significant effect on the amounts reported in the financial
statements. Snap-on reviews its actuarial valuations annually and believes that
it will experience an increase in pension expense for 2003 due to lower than
expected returns on invested plan assets and changes to the discount rate.
Derivatives: Snap-on utilizes derivative financial instruments, including
interest rate swaps and foreign exchange contracts, to manage its exposure to
interest rate and foreign currency exchange rate risks. Snap-on accounts for its
derivatives in accordance with SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," as amended by SFAS No. 138. The adoption of
this standard in 2001 resulted in a transition adjustment to decrease reported
net income in 2001 by $2.5 million related to a hedge strategy that did not
qualify for hedge accounting under SFAS No. 133. Snap-on also recorded in 2001 a
transition adjustment of $1.2 million, after tax, in Accumulated other
comprehensive income (loss) to recognize previously deferred net gains on
derivatives designated as cash flow hedges that qualify for hedge accounting
under SFAS No. 133. Snap-on does not hold or issue financial instruments for
trading purposes. For detailed financial instrument information, refer to Note 5
to the interim Consolidated Financial Statements.
Commitments and Contingencies: Snap-on is subject to lawsuits and other claims
related to product and other matters that are being defended and handled in the
ordinary course of business. Snap-on maintains reserves for such costs that it
estimates may be incurred, which estimates are determined on a case-by-case
basis, taking into consideration the likelihood of adverse judgments or
outcomes, as well as the potential range of probable loss. The reserves are
monitored on an ongoing basis and are updated for new developments or new
information as appropriate.
Safe Harbor: Statements in this document that are not historical facts,
including statements (i) that include the words "expects," "targets,"
"anticipates," or similar words that reference Snap-on or its
30
SNAP-ON INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)
management; (ii) specifically identified as forward-looking; or (iii) describing
Snap-on's or management's future outlook, plans, estimates, objectives or goals,
are forward-looking statements. Snap-on or its representatives may also make
similar forward-looking statements from time to time orally or in writing.
Snap-on cautions the reader that these statements are subject to risks,
uncertainties or other factors that could cause (and in some cases have caused)
actual results to differ materially from those described in any such statement.
Those important factors include the validity of the assumptions set forth above
and the timing and progress with which Snap-on can continue to achieve further
cost benefits from its restructuring and other Operational Fitness initiatives;
Snap-on's capability to retain and attract dealers, and effectively implement
new programs; the capture of new business, the success of new products and other
Profitable Growth initiatives; and Snap-on's ability to withstand external
negative factors including terrorist disruptions on business; consequences of
the change in public accounting firms or a change in regulatory reporting
requirements; changes in trade, monetary and fiscal policies, laws and
regulations, or other activities of governments or their agencies; and the
absence of material changes in inflation, the current competitive environment,
energy supply or pricing, legal proceedings, supplier disruptions, currency
fluctuations or the material worsening of economic and political situations
around the world.
These factors may not constitute all factors that could cause actual results to
differ materially from those discussed in any forward-looking statement. Snap-on
operates in a continually changing business environment and new factors emerge
from time to time. Snap-on cannot predict such factors nor can it assess the
impact, if any, of such factors on Snap-on's financial position or its results
of operations. Accordingly, forward-looking statements should not be relied upon
as a prediction of actual results. Snap-on disclaims any responsibility to
update any forward-looking statement provided in this document.
31
Item 3: Quantitative and Qualitative Disclosures About Market Risk
Market, Credit and Economic Risks
Market risk is the potential economic loss that may result from adverse changes
in the fair value of financial instruments. Snap-on is exposed to market risk
from changes in both foreign currency exchange rates and interest rates. Snap-on
monitors its exposure to these risks and manages the underlying economic
exposures through the use of financial instruments such as forward exchange
contracts and interest rate swap agreements. Snap-on does not use derivative
instruments for speculative or trading purposes. Snap-on's broad-based business
activities help to reduce the impact that volatility in any particular area or
related areas may have on its operating earnings as a whole. Snap-on's
management takes an active role in the risk management process and has developed
policies and procedures that require specific administrative and business
functions to assist in the identification, assessment and control of various
risks.
FOREIGN CURRENCY RISK MANAGEMENT: Snap-on has significant international
operations. Foreign exchange risk exists to the extent that Snap-on has payment
obligations or receipts denominated in currencies other than the functional
currency. To manage these exposures, Snap-on identifies naturally offsetting
positions and then purchases hedging instruments to protect the residual net
anticipated exposures. For additional information, refer to Note 5 to the
interim Consolidated Financial Statements.
INTEREST RATE RISK MANAGEMENT: Snap-on's interest rate risk management policies
are designed to reduce the potential volatility of earnings that could arise
from changes in interest rates. Through the use of interest rate swaps, Snap-on
aims to stabilize funding costs by managing the exposure created by the
differing maturities and interest rate structures of Snap-on's assets and
liabilities. For additional information, refer to Note 5 to the interim
Consolidated Financial Statements.
Snap-on utilizes a Value-at-Risk ("VAR") model to determine the potential
one-day loss in the fair value of its interest rate and foreign
exchange-sensitive financial instruments from adverse changes in market factors.
The VAR model estimates were made assuming normal market conditions and a 95%
confidence level. Snap-on's computations are based on the inter-relationships
among movements in various currencies and interest rates (variance/co-variance
technique). These inter-relationships were determined by observing interest rate
and foreign currency market changes over the preceding quarter.
The estimated maximum potential one-day loss in fair value, calculated using the
VAR model, at September 28, 2002, was $.7 million on interest rate-sensitive
financial instruments and $2.0 million on foreign currency-sensitive financial
instruments. The VAR model is a risk management tool and does not purport to
represent actual losses in fair value that will be incurred by Snap-on, nor does
it consider the potential effect of favorable changes in market factors.
32
Item 3: Quantitative and Qualitative Disclosures About Market Risk (continued)
CREDIT RISK: Credit risk is the possibility of loss from a customer's failure to
make payments according to contract terms. Prior to granting a loan, each
customer is evaluated, taking into consideration the borrower's financial
condition, collateral, debt-servicing capacity, past payment experience, credit
bureau information and numerous other financial and qualitative factors that may
affect the borrower's ability to repay. Specific credit reviews and standard
industry credit scoring models are used in performing this evaluation. Loans
that have been granted are typically monitored through an asset-quality-review
process that closely monitors past due accounts and initiates collection actions
when appropriate. In addition to credit risk exposure from its on-balance-sheet
receivables, Snap-on also has credit risk exposure for certain loan originations
with recourse provisions from Snap-on Credit LLC ("the LLC"), a 50%-owned joint
venture with CIT Group, Inc. At September 28, 2002, $38.2 million of loans
originated by the LLC have a recourse provision to Snap-on if the receivables
become more than 90 days past due. In addition, there were $25.2 million of
dealers' customer-originated loans that have a primary recourse provision
directly to the dealer, with secondary recourse to Snap-on in the event of
dealer default.
ECONOMIC RISK: Economic risk is the possibility of loss resulting from economic
instability in certain areas of the world. Economic instability from time to
time may cause Snap-on to react to such market conditions. The economic
uncertainty in Argentina prompted Snap-on to resize its operations there in
2001, shifting a portion of its manufacturing to other existing Snap-on
facilities. The Bahco Argentina facility will continue to operate with about
one-half of its previous workforce for the foreseeable future, manufacturing
product at a level to support its local market. Snap-on will continue to assess
Argentina's economic situation to determine if any future actions or impairment
write-downs are warranted.
As a result of the above market, credit and economic risks, net income and
revenues in any particular period may not be representative of full-year results
and may vary significantly from year to year and from quarter to quarter.
33
PART II. OTHER INFORMATION
Item 4: Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures. The Company's Chief
Executive Officer and Acting Principal Financial Officer have evaluated the
effectiveness of the Company's disclosure controls and procedures (as such term
is defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of
1934, as amended (the "Exchange Act")) as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"). Based on such
evaluation, such officers have concluded that, as of the Evaluation Date, the
Company's disclosure controls and procedures are effective in alerting them on a
timely basis to material information relating to the Company (including its
consolidated subsidiaries) required to be included in the Company's reports
filed or submitted under the Exchange Act.
(b) Changes in Internal Controls. Since the Evaluation Date, there have not been
any significant changes in the Company's internal controls or in other factors
that could significantly affect such controls.
Item 6. Exhibits and Reports on Form 8-K
Item 6(a): Exhibits
Exhibit 10(a) Amended and Restated 364-Day Credit Agreement between the
Corporation and Salomon Smith Barney Inc., Banc One Capital
Markets, Inc., Citibank, N.A. and Bank One, N.A.
Exhibit 12 Computation of Ratio of Earnings to Fixed Charges
34
Item 6(b): Reports on Form 8-K Filed During the Reporting Period
During the third quarter of 2002, the Corporation reported on Form 8-K the
following:
Date Filed Date of Report Item
July 25, 2002 July 25, 2002 The Corporation filed a press release
entitled "Snap-on Reports Improved
Second Quarter EPS and Continues to
Strengthen Cash Flow and Balance
Sheet."
August 13, 2002 August 13, 2002 The Corporation furnished copies,
pursuant to Item 9 of Form 8-K, of the
certifications required pursuant to
18 U.S.C. Section 1350 (Section 906 of
the Sarbanes-Oxley Act of 2002) for
the Corporation's Quarterly Report on
Form 10-Q for the period ended June
29, 2002.
September 9, 2002 September 9, 2002 The Corporation filed a press release
entitled "Snap-on Updates Third-
quarter Earnings Outlook; Takes
actions to bolster performance in
light of continued soft economy;
Continues course to drive Operational
Fitness and Profitable Growth."
35
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, Snap-on
Incorporated has duly caused this report to be signed on its behalf by the
undersigned duly authorized person.
SNAP-ON INCORPORATED
Date: November 7, 2002 /s/ Blaine A. Metzger
------------------- -------------------------------------------
Blaine A. Metzger, Acting Principal
Financial Officer, Principal Accounting
Officer, Vice President and Controller
36
CERTIFICATIONS
I, Dale F. Elliott, Chief Executive Officer of Snap-on Incorporated, certify
that:
1. I have reviewed this quarterly report on Form 10-Q of Snap-on Incorporated;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 7, 2002
By /s/ Dale F. Elliott
Dale F. Elliott
Chief Executive Officer
37
I, Blaine A. Metzger, Acting Principal Financial Officer of Snap-on
Incorporated, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Snap-on Incorporated;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 7, 2002
By /s/ Blaine A. Metzger
Blaine A. Metzger
Acting Principal Financial Officer
38
EXHIBIT INDEX
Exhibit No. Exhibit
10(a) Amended and Restated 364-Day Credit Agreement between the
Corporation and Salomon Smith Barney Inc., Banc One Capital
Markets, Inc., Citibank, N.A. and Bank One, N.A.
12 Computation of Ratio of Earnings to Fixed Charges
39