- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
<Table>
<Caption>
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2005
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
</Table>
COMMISSION FILE NUMBER 1-5672
ITT INDUSTRIES, INC.
<Table>
INCORPORATED IN THE STATE OF INDIANA 13-5158950
(I.R.S. Employer
Identification Number)
</Table>
4 WEST RED OAK LANE, WHITE PLAINS, NY 10604
(Principal Executive Office)
TELEPHONE NUMBER: (914) 641-2000
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 and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
As of July 31, 2005, there were outstanding 92,711,782 shares of common
stock ($1 par value per share) of the registrant.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
ITT INDUSTRIES, INC.
TABLE OF CONTENTS
<Table>
<Caption>
PAGE
----
Part I. FINANCIAL INFORMATION:
Item 1. Financial Statements:
Consolidated Condensed Income Statements -- Three and Six
Months Ended June 30, 2005 and 2004......................... 2
Consolidated Condensed Balance Sheets -- June 30, 2005 and
December 31, 2004........................................... 4
Consolidated Condensed Statements of Cash Flows -- Six
Months Ended June 30, 2005 and 2004......................... 5
Notes to Consolidated Condensed Financial Statements........ 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations: Three and Six Months Ended June
30, 2005 and 2004........................................... 23
Item 3. Quantitative and Qualitative Disclosures about Market
Risk........................................................ 38
Item 4. Controls and Procedures..................................... 38
Part II. OTHER INFORMATION:
Item 1. Legal Proceedings........................................... 38
Item 2. Unregistered Sales of Equity Securities and Use of
Proceeds.................................................... 39
Item 4. Submission of Matters to a Vote of Security Holders......... 39
Item 6. Exhibits.................................................... 39
Signature................................................... 40
Exhibit Index............................................... 41
</Table>
1
PART I.
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
The following unaudited consolidated condensed financial statements have
been prepared pursuant to the rules and regulations of the Securities and
Exchange Commission (SEC) and, in the opinion of management, reflect all
adjustments (which include normal recurring adjustments) necessary for a fair
presentation of the financial position, results of operations, and cash flows
for the periods presented. Certain information and note disclosures normally
included in financial statements prepared in accordance with accounting
principles generally accepted within the United States have been condensed or
omitted pursuant to such SEC rules. The Company believes that the disclosures
herein are adequate to make the information presented not misleading. Certain
amounts in the prior periods' consolidated condensed financial statements have
been reclassified to conform to the current period presentation. These financial
statements should be read in conjunction with the financial statements and notes
thereto included in the Company's 2004 Annual Report on Form 10-K.
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED INCOME STATEMENTS
(IN MILLIONS, EXCEPT PER SHARE)
(UNAUDITED)
<Table>
<Caption>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------- -------------------
2005 2004 2005 2004
-------- -------- -------- --------
Sales and revenues................................... $1,983.2 $1,646.8 $3,866.3 $3,157.9
-------- -------- -------- --------
Costs of sales and revenues.......................... 1,318.1 1,074.6 2,605.8 2,078.0
Selling, general, and administrative expenses........ 271.6 235.7 542.5 463.7
Research, development, and engineering expenses...... 180.1 166.4 332.9 311.0
Restructuring and asset impairment charges........... 6.6 14.0 26.0 18.7
-------- -------- -------- --------
Total costs and expenses............................. 1,776.4 1,490.7 3,507.2 2,871.4
-------- -------- -------- --------
Operating income..................................... 206.8 156.1 359.1 286.5
Interest expense..................................... 13.9 10.8 34.0 21.1
Interest income...................................... 5.5 5.4 19.7 14.6
Miscellaneous expense, net........................... 5.7 3.1 10.7 6.7
-------- -------- -------- --------
Income from continuing operations before income
taxes.............................................. 192.7 147.6 334.1 273.3
Income tax expense................................... 55.8 34.0 70.0 70.7
-------- -------- -------- --------
Income from continuing operations.................... 136.9 113.6 264.1 202.6
Discontinued operations:
Income (loss) from discontinued operations,
including a tax benefit (expense) of $(0.5),
$0.8, $5.2 and $0.8............................. 0.8 (1.6) (9.9) (1.7)
-------- -------- -------- --------
Net income........................................... $ 137.7 $ 112.0 $ 254.2 $ 200.9
======== ======== ======== ========
</Table>
2
<Table>
<Caption>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------- -------------------
2005 2004 2005 2004
-------- -------- -------- --------
EARNINGS PER SHARE:
Income from continuing operations:
Basic.............................................. $ 1.48 $ 1.23 $ 2.85 $ 2.20
Diluted............................................ $ 1.45 $ 1.20 $ 2.80 $ 2.15
Discontinued operations:
Basic.............................................. $ 0.01 $ (0.02) $ (0.10) $ (0.02)
Diluted............................................ $ 0.01 $ (0.02) $ (0.10) $ (0.02)
Net income:
Basic.............................................. $ 1.49 $ 1.21 $ 2.75 $ 2.18
Diluted............................................ $ 1.46 $ 1.18 $ 2.70 $ 2.13
Cash dividends declared per common share............. $ 0.18 $ 0.17 $ 0.36 $ 0.34
Average Common Shares -- Basic....................... 92.3 92.4 92.3 92.3
Average Common Shares -- Diluted..................... 94.2 94.5 94.2 94.5
</Table>
- ---------------
The accompanying notes to consolidated condensed financial statements are an
integral part of the above income statements.
3
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
(IN MILLIONS, EXCEPT FOR SHARES AND PER SHARE)
(UNAUDITED)
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2005 2004
--------- ------------
ASSETS
Current Assets:
Cash and cash equivalents................................. $ 384.2 $ 262.9
Receivables, net.......................................... 1,309.3 1,174.3
Inventories, net.......................................... 696.1 708.4
Current assets of discontinued operations................. -- 7.3
Deferred income taxes..................................... 99.3 107.2
Other current assets...................................... 93.9 69.1
-------- --------
Total current assets............................... 2,582.8 2,329.2
-------- --------
Plant, property and equipment, net.......................... 909.3 980.9
Deferred income taxes....................................... 233.2 212.1
Goodwill, net............................................... 2,447.3 2,514.1
Other intangible assets, net................................ 231.1 240.3
Other assets................................................ 1,092.8 1,000.1
-------- --------
Total non-current assets........................... 4,913.7 4,947.5
-------- --------
Total assets....................................... $7,496.5 $7,276.7
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable.......................................... $ 764.3 $ 719.8
Accrued expenses.......................................... 729.0 717.2
Accrued taxes............................................. 269.8 277.4
Notes payable and current maturities of long-term debt.... 887.7 729.2
Other current liabilities................................. 10.3 2.2
-------- --------
Total current liabilities.......................... 2,661.1 2,445.8
-------- --------
Pension benefits............................................ 1,060.4 1,079.7
Postretirement benefits other than pensions................. 302.5 298.8
Long-term debt.............................................. 561.3 542.8
Other liabilities........................................... 554.4 566.6
-------- --------
Total non-current liabilities...................... 2,478.6 2,487.9
-------- --------
Total liabilities.................................. 5,139.7 4,933.7
Shareholders' Equity:
Cumulative Preferred Stock: Authorized 50,000,000 shares,
no par value, none issued............................... -- --
Common stock:
Authorized: 250,000,000 shares, $1 par value per share
Outstanding: 92,364,033 shares and 92,289,113
shares................................................ 92.4 92.3
Capital Surplus........................................... -- 35.6
Retained earnings......................................... 2,770.7 2,553.5
Accumulated other comprehensive loss:
Unrealized loss on investment securities and cash flow
hedges................................................ (0.7) (0.6)
Minimum pension liability............................... (520.4) (520.4)
Cumulative translation adjustments...................... 14.8 182.6
-------- --------
Total accumulated other comprehensive loss......... (506.3) (338.4)
-------- --------
Total shareholders' equity......................... 2,356.8 2,343.0
-------- --------
Total liabilities and shareholders' equity......... $7,496.5 $7,276.7
======== ========
</Table>
- ---------------
The accompanying notes to consolidated condensed financial statements are an
integral part of the above balance sheets.
4
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(IN MILLIONS)
(UNAUDITED)
<Table>
<Caption>
SIX MONTHS ENDED
JUNE 30,
-----------------
2005 2004
------- -------
OPERATING ACTIVITIES
Net income.................................................. $ 254.2 $ 200.9
Loss from discontinued operations........................... 9.9 1.7
------- -------
Income from continuing operations........................... 264.1 202.6
Adjustments to income from continuing operations:
Depreciation and amortization............................. 108.8 96.6
Restructuring and asset impairment charges................ 26.0 18.7
Payments for restructuring................................ (23.4) (17.7)
Change in receivables..................................... (197.6) (193.6)
Change in inventories..................................... (28.3) (37.3)
Change in accounts payable and accrued expenses........... 105.2 63.9
Change in accrued and deferred taxes...................... 16.2 38.0
Change in other current and non-current assets............ (107.1) (104.8)
Change in non-current liabilities......................... (1.8) (9.1)
Other, net................................................ 1.0 1.9
------- -------
Net cash -- operating activities.......................... 163.1 59.2
------- -------
INVESTING ACTIVITIES
Additions to plant, property, and equipment................. (71.8) (63.4)
Acquisitions, net of cash acquired.......................... (1.5) (257.3)
Proceeds from sale of assets and businesses................. 7.7 4.7
Other, net.................................................. 0.1 0.3
------- -------
Net cash -- investing activities.......................... (65.5) (315.7)
------- -------
FINANCING ACTIVITIES
Short-term debt, net........................................ 162.6 199.6
Long-term debt repaid....................................... (4.6) (36.2)
Long-term debt issued....................................... 0.4 0.9
Repurchase of common stock.................................. (118.2) (114.7)
Proceeds from issuance of common stock...................... 56.3 56.4
Dividends paid.............................................. (49.8) (30.5)
Other, net.................................................. (0.1) (0.1)
------- -------
Net cash -- financing activities.......................... 46.6 75.4
------- -------
EXCHANGE RATE EFFECTS ON CASH AND CASH EQUIVALENTS.......... (21.9) (7.6)
NET CASH FROM OPERATIONS -- DISCONTINUED OPERATIONS......... (1.0) (6.0)
------- -------
Net change in cash and cash equivalents..................... 121.3 (194.7)
Cash and cash equivalents -- beginning of period............ 262.9 414.2
------- -------
CASH AND CASH EQUIVALENTS -- END OF PERIOD.................. $ 384.2 $ 219.5
======= =======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest.................................................. $ 25.3 $ 21.5
======= =======
Income taxes.............................................. $ 53.8 $ 32.3
======= =======
</Table>
- ---------------
The accompanying notes to consolidated condensed financial statements are an
integral part of the above cash flow statements.
5
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
1) RECEIVABLES, NET
Net receivables consist of the following:
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2005 2004
-------- ------------
Trade....................................................... $1,246.8 $1,124.4
Other....................................................... 99.8 84.6
Less: allowance for doubtful accounts and cash discounts.... (37.3) (34.7)
-------- --------
$1,309.3 $1,174.3
======== ========
</Table>
2) INVENTORIES, NET
Net inventories consist of the following:
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2005 2004
-------- ------------
Finished goods.............................................. $165.0 $187.9
Work in process............................................. 300.2 294.6
Raw materials............................................... 325.3 324.9
Less: progress payments..................................... (94.4) (99.0)
------ ------
$696.1 $708.4
====== ======
</Table>
3) PLANT, PROPERTY AND EQUIPMENT, NET
Net plant, property and equipment consist of the following:
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2005 2004
--------- ------------
Land and improvements....................................... $ 60.8 $ 65.3
Buildings and improvements.................................. 506.2 527.1
Machinery and equipment..................................... 1,680.9 1,757.4
Furniture, fixtures and office equipment.................... 244.1 246.3
Construction work in progress............................... 81.2 69.7
Other....................................................... 55.3 58.7
--------- ---------
2,628.5 2,724.5
Less: accumulated depreciation and amortization............. (1,719.2) (1,743.6)
--------- ---------
$ 909.3 $ 980.9
========= =========
</Table>
6
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
4) SALES AND REVENUES AND COSTS OF SALES AND REVENUES
Sales and revenues and costs of sales and revenues consist of the
following:
<Table>
<Caption>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------- -------------------
2005 2004 2005 2004
-------- -------- -------- --------
Product sales.................................. $1,614.0 $1,368.2 $3,153.0 $2,616.2
Service revenues............................... 369.2 278.6 713.3 541.7
-------- -------- -------- --------
Total sales and revenues....................... $1,983.2 $1,646.8 $3,866.3 $3,157.9
======== ======== ======== ========
Costs of product sales......................... $1,059.8 $ 879.7 $2,104.8 $1,692.6
Costs of service revenues...................... 258.3 194.9 501.0 385.4
-------- -------- -------- --------
Total costs of sales and revenues.............. $1,318.1 $1,074.6 $2,605.8 $2,078.0
======== ======== ======== ========
</Table>
The Defense Electronics & Services segment comprises $330.8 and $643.1 of
total service revenues for the three and six months ended June 30, 2005,
respectively, and $225.7 and $442.3 of total costs of service revenues,
respectively, during the same period. The Fluid Technology segment comprises the
remaining balances of service revenues and costs of service revenues.
The Defense Electronics & Services segment comprises $249.3 and $484.4 of
total service revenues for the three and six months ended June 30, 2004,
respectively, and $169.8 and $331.7 of total costs of service revenues,
respectively, during the same period. The Fluid Technology segment comprises the
remaining balances of service revenues and costs of service revenues.
5) COMPREHENSIVE INCOME
<Table>
<Caption>
PRETAX TAX
INCOME (EXPENSE) NET-OF-TAX
(EXPENSE) BENEFIT AMOUNT
--------- --------- ----------
Three Months Ended June 30, 2005
Net income.................................................. $ 137.7
Other comprehensive income (loss):
Foreign currency translation adjustments.................. $(101.4) $ -- (101.4)
Unrealized gain (loss) on investment securities and cash
flow hedges............................................ -- -- --
------- ----- -------
Other comprehensive income (loss)...................... $(101.4) $ -- (101.4)
-------
Comprehensive income........................................ $ 36.3
=======
</Table>
<Table>
<Caption>
PRETAX TAX
INCOME (EXPENSE) NET-OF-TAX
(EXPENSE) BENEFIT AMOUNT
--------- --------- ----------
Three Months Ended June 30, 2004
Net income.................................................. $112.0
Other comprehensive income (loss):
Foreign currency translation adjustments.................. $(5.3) $ -- (5.3)
Unrealized (loss) gain on investment securities and cash
flow hedges............................................ (0.5) 0.2 (0.3)
----- ------ ------
Other comprehensive (loss) income...................... $(5.8) $ 0.2 (5.6)
------
Comprehensive income........................................ $106.4
======
</Table>
7
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
<Table>
<Caption>
PRETAX TAX
INCOME (EXPENSE) NET-OF-TAX
(EXPENSE) BENEFIT AMOUNT
--------- --------- ----------
Six Months Ended June 30, 2005
Net income.................................................. $ 254.2
Other comprehensive (loss) income:
Foreign currency translation adjustments.................. $(167.8) $ -- (167.8)
Unrealized (loss) gain on investment securities and cash
flow hedges............................................ (0.2) 0.1 (0.1)
------- ---- -------
Other comprehensive (loss) income...................... $(168.0) $0.1 (167.9)
-------
Comprehensive income........................................ $ 86.3
=======
</Table>
<Table>
<Caption>
PRETAX TAX
INCOME (EXPENSE) NET-OF-TAX
(EXPENSE) BENEFIT AMOUNT
--------- --------- ----------
Six Months Ended June 30, 2004
Net income.................................................. $200.9
Other comprehensive income (loss):
Foreign currency translation adjustments.................. $(43.2) $ -- (43.2)
Unrealized (loss) gain on investment securities and cash
flow hedges............................................ (0.3) 0.1 (0.2)
------ ---- ------
Other comprehensive (loss) income...................... $(43.5) $0.1 (43.4)
------
Comprehensive income........................................ $157.5
======
</Table>
6) EARNINGS PER SHARE
The following is a reconciliation of the shares used in the computation of
basic and diluted earnings per share ("EPS") for the three and six months ended
June 30, 2005 and 2004:
<Table>
<Caption>
THREE MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, JUNE 30,
------------- -----------
2005 2004 2005 2004
----- ----- ---- ----
Weighted average shares of common stock outstanding used in
the computation of basic earnings per share............... 92.3 92.4 92.3 92.3
Common stock equivalents.................................... 1.9 2.1 1.9 2.2
---- ---- ---- ----
Shares used in the computation of diluted earnings per
share..................................................... 94.2 94.5 94.2 94.5
==== ==== ==== ====
</Table>
There were no significant amounts of outstanding antidilutive common stock
options excluded from the computation of diluted EPS for the three months ended
June 30, 2005 and 2004, respectively.
Options to purchase 1.8 shares of common stock at an average price of
$91.07 per share were outstanding for the six months ended June 30, 2005 but
were not included in the computation of diluted EPS, because the options'
exercise prices were greater than the average market price of the common shares.
These options expire in 2012.
There were no significant amounts of outstanding antidilutive common stock
options excluded from the computation of diluted EPS for the six months ended
June 30, 2004.
The amount of antidilutive restricted common stock excluded from the
computation of diluted EPS for the three months and six months ended June 30,
2005 and 2004 was zero.
8
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
7) STOCK-BASED EMPLOYEE COMPENSATION
At June 30, 2005, the Company has one stock-based employee compensation
plan that is issuing new options and restricted shares of common stock. The
Company also has one stock-based employee compensation plan and two stock-based
non-employee director's compensation plans that have options and restricted
shares outstanding, but will not be issuing additional stock-based compensation.
These plans are described more fully in Note 20, "Shareholders' Equity," within
the Notes to Consolidated Financial Statements of the 2004 Annual Report on Form
10-K. The Company accounts for these plans under the recognition and measurement
principles of APB Opinion No. 25, "Accounting for Stock Issued to Employees,"
and related interpretations. Had compensation expense for these plans been
determined based on the fair value recognition provisions of Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based
Compensation," the Company's net income and earnings per share would have been
reduced to the following pro forma amounts:
<Table>
<Caption>
THREE MONTHS SIX MONTHS ENDED
ENDED JUNE 30, JUNE 30,
--------------- -----------------
2005 2004 2005 2004
------ ------ ------- -------
Net income as reported............................... $137.7 $112.0 $254.2 $200.9
Deduct: Total stock-based employee compensation
expense determined under the fair value based
method for awards not reflected in net
income -- net of tax............................... (17.6) (15.0) (20.2) (18.1)
------ ------ ------ ------
Pro forma net income................................. $120.1 $ 97.0 $234.0 $182.8
Basic earnings per share
As reported........................................ $ 1.49 $ 1.21 $ 2.75 $ 2.18
Pro forma.......................................... $ 1.30 $ 1.05 $ 2.54 $ 1.98
Diluted earnings per share
As reported........................................ $ 1.46 $ 1.18 $ 2.70 $ 2.13
Pro forma.......................................... $ 1.28 $ 1.03 $ 2.48 $ 1.93
</Table>
The Company used the binomial lattice option pricing model to calculate the
fair value of all options granted during the first six months of 2005 as of the
applicable grant dates. During 2004, the Company used the Black-Scholes
option-pricing model to calculate the fair value of each option grant as of the
applicable grant dates. The Company used the following weighted-average
assumptions for grants in the three and six months ended June 30, 2005 and 2004:
<Table>
<Caption>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------- ---------------------
2005 2004 2005 2004
--------- --------- --------- ---------
Dividend yield............................... 0.73% 1.37% 0.79% 1.40%
Expected volatility.......................... 23.00% 25.84% 23.00% 25.84%
Expected life................................ 5.1 years 6.0 years 4.6 years 6.0 years
Risk-free rates.............................. 3.84% 4.30% 3.99% 3.66%
</Table>
9
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
The value of stock-based compensation that was recognized in selling,
general and administrative expenses within the Consolidated Condensed Income
Statements during the three month and six month periods ended June 30, 2005 and
2004 was:
<Table>
<Caption>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
- -------------- --------------
2005 2004 2005 2004
- ------ ------ ------ ------
$0.7 $0.2 $1.4 $0.3
---- ---- ---- ----
</Table>
8) RESTRUCTURING AND ASSET IMPAIRMENT CHARGES
2005 RESTRUCTURING ACTIVITIES
During the second quarter of 2005, the Company recognized a $6.8
restructuring charge. New actions represent $6.3 of the charge. Severance costs
associated with actions announced during the first quarter of 2005 represent
$0.5 of the charge. The actions by segment are as follows:
- The Fluid Technology segment recorded $1.4 of severance costs for the
termination of 36 employees, including 14 factory workers, 21 office
workers and 1 management employee. Lease cancellation costs and other
costs were $0.7. Additionally, asset impairment costs were $0.4. The
charges reflect a reduction in structural costs.
- The Electronic Components segment recorded $2.6 of the charge for the
reduction of 38 employees, including 21 factory workers, 14 office
workers and 3 management employees. Other costs totaling $0.4 were also
recognized during the quarter. These actions reflect the reorganization
of the segment and a consolidation of functions.
- The Motion & Flow Control segment recognized $0.8 primarily for the
termination of 10 employees, including 5 factory workers, 4 office
workers and 1 management employee. The headcount reductions relate to
workforce reductions and the consolidation of functions.
During the first quarter of 2005, the Company recognized a $19.4
restructuring charge. New actions represent $18.6 of the charge. Other costs
totaling $0.8 relate to actions announced prior to 2005. The actions by segment
are as follows:
- The Fluid Technology segment recorded $6.5 primarily for the termination
of 105 employees, including 33 factory workers, 62 office workers and 10
management employees. The charge reflects a reduction in structural
costs.
- The Electronic Components segment recorded $6.5 of the charge primarily
for the reduction of 155 employees, including 36 factory workers, 101
office workers and 18 management employees. These actions reflect the
reorganization of the segment and a consolidation of functions.
- The Motion & Flow Control segment recognized $5.0 for the termination of
115 employees, including 49 factory workers, 58 office workers and 8
management employees. The headcount reductions relate to the closure of
one facility, the transfer of production of selected products from France
to Holland, the outsourcing of selected functions to Eastern Europe, and
the consolidation of other functions. Additionally, lease cancellation
costs of $0.2 and other costs of $0.4 were recorded during the first
quarter of 2005.
2004 RESTRUCTURING ACTIVITIES
During 2004, the Company recognized $38.8 of restructuring charges. Of this
amount, $37.7 related to new actions announced during 2004, primarily the
planned severance of 1,319 employees and lease
10
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
cancellation costs. Additionally, $1.1 of expenditures were incurred relating to
actions announced prior to 2004.
The actions announced during 2004 by segment are as follows:
- The Fluid Technology segment recorded $17.7 for the planned termination
of 211 employees, including 52 factory workers, 155 office workers and
four management employees. Additionally, $0.7 of lease costs, $0.6 of
asset write-offs and $0.7 of other costs were also recognized during
2004.
- The Electronic Components segment recorded a $4.5 charge for the
recognition of lease cancellation costs and a $4.5 charge for the planned
termination of 972 employees, including 883 factory workers, 84 office
workers and five management employees. The segment also recorded $1.1 and
$0.8 for the disposal of machinery and equipment, and other costs,
respectively.
- The Motion & Flow Control segment recorded $4.6 for the planned
termination of 133 employees, including 47 factory workers, 77 office
workers and nine management employees. Other cost totaling $0.7 were also
recognized during 2004.
- Corporate headquarters recorded $1.8 for the planned termination of one
office worker and two management employees.
The following table summarizes the accrued cash restructuring balances for
the first six months of 2005:
<Table>
<Caption>
DEFENSE MOTION
FLUID ELECTRONICS & FLOW ELECTRONIC CORPORATE
TECHNOLOGY & SERVICES CONTROL COMPONENTS AND OTHER TOTAL
---------- ----------- ------- ---------- --------- ------
Balance January 1, 2005.......... $11.1 $ 0.1 $ 4.2 $ 6.2 $ 1.1 $ 22.7
Additional charges for prior year
plans.......................... -- -- -- 0.8 -- 0.8
Payments for prior year plans.... (7.4) (0.1) (2.7) (4.5) (0.8) (15.5)
2005 restructuring charges....... 8.6 -- 6.6 9.8 -- 25.0
Reversals........................ (0.2) -- -- -- -- (0.2)
Payments for 2005 charges........ (2.8) -- (2.4) (2.7) -- (7.9)
Translation...................... (0.8) -- (0.3) -- -- (1.1)
Other............................ -- -- 0.1 0.1 0.2 0.4
----- ----- ----- ----- ----- ------
Balance June 30, 2005............ $ 8.5 $ -- $ 5.5 $ 9.7 $ 0.5 $ 24.2
===== ===== ===== ===== ===== ======
</Table>
During the second quarter of 2005, $0.2 of restructuring accruals were
reversed into income reflecting lower than anticipated severance costs (due to
employee attrition). During the first half of 2004, $0.9 of restructuring
accruals related to 2003, 2002 and 2001 restructuring actions were reversed into
income. The reversals related to lower than anticipated severance costs on
completed actions due to favorable employee attrition and lower than anticipated
closed facility costs.
As of December 31, 2004, remaining actions under restructuring activities
announced in 2004 and earlier were to reduce headcount by 685 employees. During
the first six months of 2005, the Company announced the additional planned
termination of 459 employees, and reduced headcount by 384 employees related to
all plans, leaving a balance of 760 planned reductions. Actions announced during
2005 will be completed by early 2006. Actions announced during 2004 will be
substantially completed by the end of 2005. Future restructuring expenditures
will be funded with cash from operations, supplemented on an interim basis, if
required, with commercial paper borrowings.
11
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
9) DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The nature of the Company's business activities necessarily involves the
management of various financial and market risks, including those related to
changes in interest rates, currency exchange rates, and commodity prices. As
discussed more completely in Notes 1, "Summary of Significant Accounting
Policies," and 18, "Financial Instruments," within the Notes to Consolidated
Financial Statements of the 2004 Annual Report on Form 10-K, the Company uses
derivative financial instruments to mitigate or eliminate certain of those
risks.
A reconciliation of current period changes contained in the accumulated
other comprehensive loss component of shareholders' equity is not required as no
material activity occurred during the first six months of 2005 and 2004.
Additional disclosures required by SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," as amended, are presented below.
HEDGES OF FUTURE CASH FLOWS
At June 30, 2005 the Company had no foreign currency cash flow hedges
outstanding. At December 31, 2004 the Company had one foreign currency cash flow
hedge outstanding with a notional amount of $0.1.
HEDGES OF RECOGNIZED ASSETS, LIABILITIES AND FIRM COMMITMENTS
At June 30, 2005 and December 31, 2004, the fair values of the Company's
interest rate swaps were $103.5 and $84.9, including $2.7 and $3.3 of accrued
interest, respectively.
At June 30, 2005 and December 31, 2004, the Company had foreign currency
forward contracts with notional amounts of $128.8 and $93.3, respectively, to
hedge the value of recognized assets, liabilities and firm commitments. The fair
value of the 2005 and 2004 contracts were $(2.5) and $(0.4) at June 30, 2005 and
December 31, 2004, respectively. The ineffective portion of changes in fair
values of such hedge positions reported in operating income during the first six
months of 2005 and 2004 amounted to $(0.2) for both periods. There were no
amounts excluded from the measure of effectiveness.
The fair values associated with the foreign currency contracts have been
valued using the net position of the contracts and the applicable spot rates and
forward rates as of the reporting date.
10) GOODWILL AND OTHER INTANGIBLE ASSETS
The Company follows the provisions of Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets," which requires that
goodwill and indefinite-lived intangible assets be tested for impairment on an
annual basis, or more frequently if circumstances warrant. Annual goodwill
impairment tests were completed in the first quarters of 2005 and 2004 (as of
the beginning of the year) and it was determined that no impairment exists.
12
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
Changes in the carrying amount of goodwill for the six months ended June
30, 2005, by business segment, are as follows:
<Table>
<Caption>
DEFENSE MOTION
FLUID ELECTRONICS & FLOW ELECTRONIC CORPORATE
TECHNOLOGY & SERVICES CONTROL COMPONENTS AND OTHER TOTAL
---------- ----------- ------- ---------- --------- --------
Balance as of January 1,
2005......................... $1,080.9 $904.8 $187.3 $336.1 $5.0 $2,514.1
Goodwill acquired during the
period....................... -- -- -- -- -- --
Other, including foreign
currency translation......... (57.9) 1.1 (3.8) (6.2) -- (66.8)
-------- ------ ------ ------ ---- --------
Balance as of June 30, 2005.... $1,023.0 $905.9 $183.5 $329.9 $5.0 $2,447.3
======== ====== ====== ====== ==== ========
</Table>
The Company's other intangible assets are summarized as follows:
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2005 2004
-------- ------------
Finite-lived intangibles --
Customer Relationships.................................... $138.8 $138.8
Proprietary Technology.................................... 21.4 21.4
Patents and other......................................... 45.3 44.1
Accumulated amortization.................................. (28.3) (18.8)
Indefinite-lived intangibles --
Brands and trademarks..................................... 28.8 29.7
Pension related........................................... 25.1 25.1
------ ------
Net intangibles........................................... $231.1 $240.3
====== ======
</Table>
During the first quarter of 2004, the Company completed the acquisition of
WEDECO AG Water Technology ("WEDECO"). As of June 30, 2005, intangible assets
related to the acquisition of WEDECO include $219.5 of goodwill, $11.1 of
intangibles for tradenames, $21.4 of proprietary technology, $18.8 of customer
relationships and $4.4 of patents and other. During the third quarter of 2004,
the Company completed the acquisition of Remote Sensing Systems ("RSS"). As of
June 30, 2005, intangible assets related to the acquisition of RSS include
$598.7 of goodwill, $120.0 of intangible assets related to customer
relationships and $4.9 of other intangible assets.
Amortization expense related to intangible assets for the six month periods
ended June 30, 2005 and 2004 was $9.5 and $2.4, respectively.
Estimated amortization expense for each of the five succeeding years is as
follows:
<Table>
<Caption>
2006 2007 2008 2009 2010
- ---- ---- ---- ---- ----
$22.3 $20.2 $17.4 $15.7 $14.3
</Table>
11) DISCONTINUED OPERATIONS
AUTOMOTIVE -- DISCONTINUED OPERATIONS
In September of 1998, the Company completed the sales of its automotive
Electrical Systems business to Valeo SA for approximately $1,700 and its Brake
and Chassis unit to Continental AG of Germany for approximately $1,930. These
dispositions were treated as discontinued operations. In 1998 and 1999, the
13
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
Company received notifications of claims from the buyers of the automotive
business requesting post-closing adjustments to the purchase prices under the
provisions of the sales agreements. In 1999, those claims were submitted to
arbitration. In 2001 and early in 2002, both claims were favorably resolved.
At June 30, 2005, the Company had automotive discontinued operations
accruals of $188.6 that are primarily related to tax matters of $154.1, product
recalls of $7.8, environmental obligations of $14.1 and employee benefits of
$12.6. The Company expects that it will resolve the $154.1 of tax matters in the
second half of 2005.
12) PENSION AND POSTRETIREMENT MEDICAL BENEFIT EXPENSES
The components of net periodic pension cost consisted of the following:
<Table>
<Caption>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
--------------- -----------------
2005 2004 2005 2004
------ ------ ------- -------
Components of net periodic pension cost:
Service cost........................................... $ 24.0 $ 20.8 $ 48.0 $ 41.6
Interest cost.......................................... 70.5 66.1 141.0 132.2
Expected return on plan assets......................... (90.2) (83.7) (180.4) (167.4)
Amortization of prior service cost..................... 1.2 1.7 2.4 3.4
Recognized actuarial loss.............................. 17.8 12.7 35.6 25.4
------ ------ ------- -------
Net periodic pension cost.............................. $ 23.3 $ 17.6 $ 46.6 $ 35.2
====== ====== ======= =======
</Table>
Net periodic pension expense increased in the first six months of 2005 as a
result of the lower discount rate adopted at year end 2004, higher average
foreign exchange rates, a higher amortization of actuarial losses and an
increase in costs associated with the 2004 acquisition of RSS.
The Company contributed approximately $111.6 to its various plans during
the first six months of 2005. Additional contributions ranging between $11.0 and
$31.0 are expected over the balance of 2005.
The components of net periodic postretirement cost consisted of the
following:
<Table>
<Caption>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
--------------- --------------
2005 2004 2005 2004
------ ------ ------ -----
Components of net periodic postretirement cost:
Service cost.............................................. $ 1.9 $ 1.8 $ 3.8 $ 3.6
Interest cost............................................. 10.8 9.8 21.6 19.6
Expected return on plan assets............................ (5.2) (4.7) (10.4) (9.4)
Amortization of prior service benefit..................... (0.5) (1.0) (1.0) (2.0)
Recognized actuarial loss................................. 3.6 3.5 7.2 7.0
----- ----- ------ -----
Net periodic postretirement cost.......................... $10.6 $ 9.4 $ 21.2 $18.8
===== ===== ====== =====
</Table>
Net periodic expense increased in the first six months of 2005 as a result
of lower discount rates and an increase in the assumed rate of medical inflation
adopted at year end 2004 and the inclusion of costs associated with the 2004
acquisition of RSS.
In January 2004, FASB Staff Position ("FSP") No. 106-1, "Accounting and
Disclosure Requirements Related to the Medicare Prescription Drug, Improvement
and Modernization Act of 2003" ("FSP
14
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
No. 106-1") was issued. Subsequently, FSP No. 106-2 was issued, which amends FSP
No. 106-1 and discusses the recognition of the effects for the Medicare
Prescription Drug, Improvement and Modernization Act of 2003 (the "Medicare
Modernization Act") in the accounting for postretirement health care plans under
SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other Than
Pensions," and in providing disclosures related to the plan required by SFAS No.
132. The Company adopted this pronouncement effective July 1, 2004, but was
unable to conclude whether benefits of its plans are actuarially equivalent
based on the proposed regulations released in August 2004. Currently, the
Company is analyzing the effect of the Medicare Modernization Act on the
Company's plans based on the final regulations issued at the end of January 2005
and has not taken any action at this time to reflect the Medicare Modernization
Act changes. In addition, it was assumed that the adoption of this pronouncement
did not affect demographic factors used to determine plan assets and obligations
at December 31, 2004, the Company's measurement date. See Note 19, "Employee
Benefit Plans," in the Notes to Consolidated Financial Statements of the 2004
Annual Report on Form 10-K for discussion of postretirement benefits.
13) COMMITMENTS AND CONTINGENCIES
The Company and its subsidiaries are from time to time involved in legal
proceedings that are incidental to the operation of their businesses. Some of
these proceedings allege damages against the Company relating to environmental
liabilities, employment and pension matters, government contract issues and
commercial or contractual disputes, sometimes related to acquisitions or
divestitures. The Company will continue to vigorously defend itself against all
claims. Accruals have been established where the outcome of the matter is
probable and can be reasonably estimated. Although the ultimate outcome of any
legal matter cannot be predicted with certainty, based on present information
including the Company's assessment of the merits of the particular claim, as
well as its current reserves and insurance coverage, the Company does not expect
that such legal proceedings will have any material adverse impact on the cash
flow, results of operations or financial condition of the Company on a
consolidated basis in the foreseeable future.
ENVIRONMENTAL
The Company has accrued for environmental remediation costs associated with
identified sites consistent with the policy set forth in Note 1, "Summary of
Significant Accounting Policies" in the Notes to Consolidated Financial
Statements of the 2004 Annual Report on Form 10-K. In management's opinion, the
total amount accrued and related receivables are appropriate based on existing
facts and circumstances. It is difficult to estimate the total costs of
investigation and remediation due to various factors, including incomplete
information regarding particular sites and other potentially responsible
parties, uncertainty regarding the extent of contamination and the Company's
share, if any, of liability for such conditions, the selection of alternative
remedies, and changes in clean-up standards. In the event that future
remediation expenditures are in excess of amounts accrued, management does not
anticipate that they will have a material adverse effect on the consolidated
financial position, results of operations or cash flows.
In the ordinary course of business, and similar to other industrial
companies, the Company is subject to extensive and changing federal, state,
local, and foreign environmental laws and regulations. The Company has received
notice that it is considered a potentially responsible party ("PRP") at a
limited number of sites by the United States Environmental Protection Agency
("EPA") and/or a similar state agency under the Comprehensive Environmental
Response, Compensation and Liability Act ("CERCLA" or "Superfund") or its state
equivalent. As of June 30, 2005, the Company is responsible, or is alleged to be
responsible, for approximately 80 environmental investigation and remediation
sites in various countries. In many of these proceedings, the Company's
liability is considered de minimis. At June 30, 2005, the Company calculated a
best estimate of $96.3, which approximates its accrual, related to the cleanup
of soil and ground water. The low range estimate for its environmental
liabilities is $73.3 and the high range estimate for those liabilities is
15
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
$150.2. On an annual basis the Company spends between $8.0 and $11.0 on its
environmental remediation liabilities. These estimates, and related accruals,
are reviewed periodically and updated for progress of remediation efforts and
changes in facts and legal circumstances. Liabilities for environmental
expenditures are recorded on an undiscounted basis.
The Company is involved in an environmental proceeding in Glendale,
California relating to the San Fernando Valley aquifer. The Company is one of
numerous PRPs who are alleged by the EPA to have contributed to the
contamination of the aquifer. In January 1999, the EPA filed a complaint in the
United States District Court for the Central District of California against the
Company and Lockheed Martin Corporation, United States v. ITT Industries, Inc.
and Lockheed Martin Corp. CV99-00552 SVW AIJX, to recover costs it incurred in
connection with the foregoing. In May 1999, the EPA and the PRPs, including the
Company and Lockheed Martin, reached a settlement, embodied in a consent decree,
requiring the PRPs to perform additional remedial activities. Pursuant to the
settlement, the PRPs, including the Company, have constructed and are operating
a water treatment system. The operation of the water treatment system is
expected to continue until 2013. ITT and the other PRPs continue to pay their
respective allocated costs of the operation of the water treatment system and
the Company does not anticipate a default by any of the PRPs which would
increase its allocated share of the liability. As of June 30, 2005, the
Company's accrual for this liability was $9.9 representing its best estimate;
its low estimate for the liability is $6.5 and its high estimate is $15.4.
ITT Corporation operated a facility in Madison County, Florida from 1968
until 1989. In 1995, elevated levels of contaminants were detected at the site.
Since then, ITT has completed the investigation of the site in coordination with
state and federal environmental authorities and is in the process of evaluating
various remedies. A remedy for the site has not yet been selected. Currently,
the estimated range for the remediation is between $4.8 and $18.7. The Company
has accrued $7.4 for this matter, which approximates its best estimate.
The Company is involved with a number of PRPs regarding property in the
City of Bronson, Michigan operated by a former subsidiary of ITT Corporation,
Higbie Manufacturing, prior to the time ITT acquired Higbie. The Company and
other PRPs are investigating and remediating discharges of industrial waste
which occurred in the 1930's. The Company's current estimates for its exposure
are between $6.6 and $13.8. It has an accrual for this matter of $10.0 which
represents its best estimate of its current liabilities. The Company does not
anticipate a default on the part of the other PRPs.
In a suit filed in 1991 by the Company, in the California Superior Court,
Los Angeles County, ITT Corporation, et al. v. Pacific Indemnity Corporation et
al., against its insurers, the Company is seeking recovery of costs it incurred
in connection with its environmental liabilities including the three listed
above. Discovery, procedural matters, changes in California law, and various
appeals have prolonged this case. Currently, the matter is before the California
Court of Appeals from a decision by the California Superior Court dismissing
certain claims of the Company. The dismissed claims were claims where the costs
incurred were solely due to administrative (versus judicial) actions. A hearing
is expected in the second half of 2005. In the event the appeal is successful,
the Company will pursue the administrative claims against its excess insurers.
During the course of the litigation the Company has negotiated settlements with
certain defendant insurance companies and is prepared to pursue its legal
remedies where reasonable negotiations are not productive.
PRODUCT LIABILITY
The Company and its subsidiary Goulds Pumps, Inc. ("Goulds") have been
joined as defendants with numerous other industrial companies in product
liability lawsuits alleging injury due to asbestos. These claims stem primarily
from products sold prior to 1985 that contained a part manufactured by a third
party, e.g., a
16
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
gasket, which allegedly contained asbestos. The asbestos was encapsulated in the
gasket (or other material) and was non-friable. In certain other cases, it is
alleged that former ITT companies were distributors for other manufacturers'
products that may have contained asbestos.
Frequently, the plaintiffs are unable to demonstrate any injury or do not
identify any ITT or Goulds product as a source of asbestos exposure. During
2004, ITT and Goulds resolved in excess of 4,200 claims through settlement or
dismissal. The average amount of settlement per plaintiff has been nominal and
substantially all defense and settlement costs have been covered by insurance.
Based upon past claims experience, available insurance coverage, and after
consultation with counsel, management believes that these matters will not have
a material adverse effect on the Company's consolidated financial position,
results of operations, or cash flows.
The Company is involved in two actions, Cannon Electric, Inc. et al. v. Ace
Property & Casualty Company ("ACE") et al. Superior Court, County of Los
Angeles, CA., Case No. BC 290354, and Pacific Employers Insurance Company et
al., v. ITT Industries, Inc., et al., Supreme Court, County of New York, N.Y.,
Case No. 03600463. The parties in both cases are seeking an appropriate
allocation of responsibility for the Company's historic asbestos liability
exposure among its insurers. The California action is filed in the same venue
where the Company's environmental insurance recovery litigation has been pending
since 1991. The New York action has been stayed in favor of the California suit.
ITT and ACE have successfully resolved the matter and the Company is working
with other parties in the suit to resolve the matter as to those insurers. In
addition, Utica National, Goulds' historic insurer, has requested that the
Company negotiate a coverage in place agreement to allocate the Goulds' asbestos
liabilities between insurance policies issued by Utica and those issued by
others. The Company is continuing to receive the benefit of insurance payments
during the pendency of these proceedings. The Company believes that these
actions will not materially affect the availability of its insurance coverage
and will not have a material adverse effect on the Company's consolidated
financial position, results of operations or cash flows.
The Company is one of several defendants in a suit filed in El Paso, Texas,
Bund zur Unterstutzung Radargeschadigter et al. v. ITT Industries et al., Sup.
Ct., El Paso, Texas, C.A. No. 2002-4730. This Complaint, filed by both U.S. and
German citizens, alleges that ITT and four other major companies failed to warn
the plaintiffs of the dangers associated with exposure to x-ray radiation from
radar devices. The Complaint also seeks the certification of a class of
similarly injured persons. Numerous motions are currently pending before the
Court. A hearing on class certification is expected in late 2005. On October 5,
2004, the Company filed an action, ITT Industries, Inc. et al. v. Fireman's Fund
Insurance Company et al., Superior Court, County of Los Angeles, C.A. No. B.C.
322546, against various insurers who issued historic aircraft products coverage
to the Company seeking a declaration that each is liable for the costs of
defense of the El Paso matter. The parties have an agreement in principle to
resolve this matter whereby the Company will continue to receive the cost of
defense of this matter from the insurers. Management believes that the El Paso
suit will not have a material adverse effect on the Company's consolidated
financial position, results of operations or cash flows.
The Company has received demands from U.S. Silica for partial indemnity
regarding personal injury actions alleging injury due to silica. In 1985, the
Company sold the stock of its subsidiary Pennsylvania Glass Sand to U.S. Silica.
As part of that transaction, the Company provided an indemnity to U.S. Silica
for silica personal injury suits. That indemnity expires in September 2005.
Costs incurred in these matters related to the defense, settlements or judicial
awards are allocated between U.S. Silica and the Company. The Company's
allocated portion is paid in part by its historic product liability carriers and
then shared pursuant to the Distribution Agreement. See "Company History and
Certain Relationships" within Part I, Item 1 of the 2004 Annual Report on Form
10-K for a description of the Distribution Agreement. Management believes
17
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
that these matters will not have a material adverse effect on the Company's
consolidated financial position, results of operations or cash flows.
OTHER
The Company is involved in an arbitration with Rayonier, Inc., a former
subsidiary of the Company's predecessor ITT Corporation. On May 2, 2005 the
arbitrator issued an award directing the Company to make a payment to Rayonier
in the amount of $16.2. The Company's appeal of the award was rejected by the
United States District Court for the Southern District of New York on July 22,
2005 C.A. No. 05-CV-4322 (CLB). The award will not have a material adverse
effect on the Company's consolidated financial position, results of operations
or cash flows.
14) GUARANTEES, INDEMNITIES AND WARRANTIES
GUARANTEES & INDEMNITIES
In September of 1998, the Company completed the sale of its automotive
electrical systems business to Valeo SA for approximately $1,700. As part of the
sale, the Company provided Valeo SA with representations and warranties with
respect to the operations of the Business, including: Conveyance of Title,
Employee Benefits, Tax, Product Liability, Product Recall, Contracts,
Environmental, Intellectual Property, etc. The Company also indemnified Valeo SA
for losses related to a misrepresentation or breach of the representations and
warranties. With a few limited exceptions, the indemnity periods within which
Valeo SA may assert new claims have expired. Under the terms of the sales
contract, the original maximum potential liability to Valeo SA on an
undiscounted basis is $680. However, because of the lapse of time, or the fact
that the parties have resolved certain issues, at June 30, 2005 the Company has
an accrual of $7.8 which is its best estimate of the potential exposure.
In September of 1998, the Company completed the sale of its brake and
chassis unit to Continental AG for approximately $1,930. As part of the sale,
the Company provided Continental AG with representations and warranties with
respect to the operations of that Business, including: Conveyance of Title,
Employee Benefits, Tax, Product Liability, Product Recall, Contracts,
Environmental, Intellectual Property, etc. The Company also indemnified
Continental AG for losses related to a misrepresentation or breach of the
representations and warranties. With a few limited exceptions, the indemnity
periods within which Continental AG may assert new claims have expired. Under
the terms of the sales contract, the original maximum potential liability to
Continental AG on an undiscounted basis is $950. However, because of the lapse
of time, or the fact that the parties have resolved certain issues, at June 30,
2005 the Company has an accrual of $14.1 which is its best estimate of the
potential exposure.
Since its incorporation in 1920, the Company has acquired and disposed of
numerous entities. The related acquisition and disposition agreements contain
various representation and warranty clauses and may provide indemnities for a
misrepresentation or breach of the representations and warranties by either
party. The indemnities address a variety of subjects; the term and monetary
amounts of each such indemnity are defined in the specific agreements and may be
affected by various conditions and external factors. Many of the indemnities
have expired either by operation of law or as a result of the terms of the
agreement. The Company does not have a liability recorded for the historic
indemnifications and is not aware of any claims or other information that would
give rise to material payments under such indemnities. The Company has
separately discussed material indemnities provided within the last nine years.
The Company provided three guarantees with respect to its real estate
development activities in Flagler County, Florida. Two of these guarantee bonds
were issued by the Dunes Community Development District. The bond issuances were
used primarily for the construction of infrastructure, such as water and sewage
18
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
utilities and a bridge. The Company has been released from its obligation to
perform under both of these guarantees in the third quarter of 2004. The third
guaranty is a performance bond in the amount of $10.0 in favor of Flagler
County, Florida. The Company would be required to perform under this guarantee
if certain parties did not satisfy all aspects of the development order, the
most significant aspect being the expansion of a bridge. The maximum amount of
the undiscounted future payments on the third guarantee equals $10.0. At June
30, 2005, the Company has an accrual related to the expansion of a bridge in the
amount of $10.0.
In December of 2002, the Company entered into a sales-type lease agreement
for its corporate aircraft and then leased the aircraft back under an operating
lease agreement. The Company has provided, under the agreement, a residual value
guarantee to the counterparty in the amount of $44.8, which is the maximum
amount of undiscounted future payments. The Company would have to make payments
under the residual value guarantee only if the fair value of the aircraft was
less than the residual value guarantee upon termination of the agreement. At
June 30, 2005, the Company does not believe that a loss contingency is probable
and therefore does not have an accrual recorded in its financial statements.
The Company has a number of individually immaterial guarantees outstanding
at June 30, 2005, that may be affected by various conditions and external
forces, some of which could require that payments be made under such guarantees.
The Company does not believe these payments will have any material adverse
impact on the cash flow, results of operations or financial condition of the
Company on a consolidated basis in the foreseeable future.
PRODUCT WARRANTIES
Accruals for estimated expenses related to product warranties are made at
the time products are sold or services are rendered. These accruals are
established using historical information on the nature, frequency, and average
cost of warranty claims. The Company warrants numerous products, the terms of
which vary widely. In general, the Company warrants its products against defect
and specific nonperformance. In the automotive businesses, liability for product
defects could extend beyond the selling price of the product and could be
significant if the defect shuts down production or results in a recall. At June
30, 2005, the Company has a product warranty accrual in the amount of $39.2.
PRODUCT WARRANTY LIABILITIES
<Table>
<Caption>
ACCRUALS FOR
PRODUCT CHANGES IN PRE-EXISTING
BEGINNING BALANCE WARRANTIES ISSUED WARRANTIES INCLUDING ENDING BALANCE
JANUARY 1, 2005 IN THE PERIOD CHANGES IN ESTIMATES (PAYMENTS) JUNE 30, 2005
----------------- ----------------- ----------------------- ---------- --------------
$40.3 $15.2 $(1.5) $(14.8) $39.2
----- ----- ----- ------ -----
</Table>
<Table>
<Caption>
ACCRUALS FOR
PRODUCT CHANGES IN PRE-EXISTING
BEGINNING BALANCE WARRANTIES ISSUED WARRANTIES INCLUDING ENDING BALANCE
JANUARY 1, 2004 IN THE PERIOD CHANGES IN ESTIMATES (PAYMENTS) JUNE 30, 2004
----------------- ----------------- ----------------------- ---------- --------------
$34.3 $13.0 $(0.5) $(12.4) $34.4
----- ----- ----- ------ -----
</Table>
15) ACQUISITIONS
During the first six months of 2004, the Company spent $257.3 primarily for
the acquisitions of the following:
- WEDECO AG Water Technology ("WEDECO"), the world's largest manufacturer
of UV disinfection and ozone oxidation systems, which are alternatives to
chlorine treatment.
19
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
- Shanghai Hengtong Purified Water Development Co. Ltd. and Shanghai
Hengtong Water Treatment Engineering Co. Ltd. ("Hengtong"), a
Shanghai-based producer of reverse-osmosis, membrane and other water
treatment systems for the power, pharmaceutical, chemical and
manufacturing markets in China.
As of June 30, 2005, the excess of the purchase price over the fair value
of net assets acquired of $221.3 is recorded as goodwill.
OTHER 2004 ACQUISITIONS
On August 13, 2004, the Company purchased all of the RSS business from
Eastman Kodak for $736.9 in cash. RSS is a leading supplier of high resolution
satellite imaging systems and information services. Management believes that the
acquisition of RSS will enhance the Company's competitive position in the space
payload and service product offering industry and create a full spectrum
provider with the latest visible and infrared satellite imaging technology in
the remote sensing market.
As of June 30, 2005, the excess of the purchase price of RSS over the fair
value of net assets acquired of $598.7 is recorded as goodwill and is deductible
for tax purposes. The entire goodwill balance is reflected in the Defense
Electronics & Services segment.
The Company has assigned preliminary values to the assets and liabilities
of RSS; however, the allocation is subject to further refinement.
16) BUSINESS SEGMENT INFORMATION
Unaudited financial information of the Company's business segments for the
three and six months ended June 30, 2005 and 2004 were as follows:
<Table>
<Caption>
DEFENSE MOTION & CORPORATE,
THREE MONTHS ENDED FLUID ELECTRONICS & FLOW ELECTRONIC ELIMINATIONS &
JUNE 30, 2005 TECHNOLOGY SERVICES CONTROL COMPONENTS OTHER TOTAL
- ------------------ ---------- ------------- -------- ---------- -------------- --------
Sales and revenues....... $ 734.5 $ 779.5 $290.9 $181.7 $ (3.4) $1,983.2
-------- -------- ------ ------ -------- --------
Costs of sales and
revenues............... 485.7 494.7 208.6 133.4 (4.3) 1,318.1
Selling, general, and
administrative
expenses............... 136.8 56.3 24.9 29.6 24.0 271.6
Research, development,
and engineering
expenses............... 15.4 143.6 11.4 9.7 -- 180.1
Restructuring and asset
impairment charges..... 2.5 -- 1.0 3.3 -- 6.8
Reversal of restructuring
charge................. (0.2) -- -- -- -- (0.2)
-------- -------- ------ ------ -------- --------
Total costs and
expenses............... 640.2 694.6 245.9 176.0 19.7 1,776.4
-------- -------- ------ ------ -------- --------
Operating income
(expense).............. $ 94.3 $ 84.9 $ 45.0 $ 5.7 $ (23.1) $ 206.8
======== ======== ====== ====== ======== ========
Total assets............. $2,499.4 $1,868.8 $752.3 $742.4 $1,633.6 $7,496.5
</Table>
20
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
<Table>
<Caption>
DEFENSE MOTION & CORPORATE,
THREE MONTHS ENDED FLUID ELECTRONICS & FLOW ELECTRONIC ELIMINATIONS &
JUNE 30, 2004 TECHNOLOGY SERVICES CONTROL COMPONENTS OTHER TOTAL
- ------------------ ---------- ------------- -------- ---------- -------------- --------
Sales and revenues....... $ 650.9 $530.7 $281.3 $186.6 $ (2.7) $1,646.8
-------- ------ ------ ------ -------- --------
Costs of sales and
revenues............... 429.5 315.3 201.4 131.6 (3.2) 1,074.6
Selling, general, and
administrative
expenses............... 127.5 28.0 25.5 34.6 20.1 235.7
Research, development,
and engineering
expenses............... 15.0 131.6 10.7 9.1 -- 166.4
Restructuring and asset
impairment charges..... 3.4 -- 2.4 6.9 1.6 14.3
Reversal of restructuring
charge................. (0.2) -- -- (0.1) -- (0.3)
-------- ------ ------ ------ -------- --------
Total costs and
expenses............... 575.2 474.9 240.0 182.1 18.5 1,490.7
-------- ------ ------ ------ -------- --------
Operating income
(expense).............. $ 75.7 $ 55.8 $ 41.3 $ 4.5 $ (21.2) $ 156.1
======== ====== ====== ====== ======== ========
Total assets............. $2,430.4 $924.3 $740.2 $767.8 $1,462.7 $6,325.4
</Table>
<Table>
<Caption>
DEFENSE MOTION & CORPORATE,
SIX MONTHS ENDED FLUID ELECTRONICS & FLOW ELECTRONIC ELIMINATIONS &
JUNE 30, 2005 TECHNOLOGY SERVICES CONTROL COMPONENTS OTHER TOTAL
- ---------------- ---------- ------------- -------- ---------- -------------- --------
Sales and revenues....... $1,374.1 $1,555.2 $588.5 $355.4 $ (6.9) $3,866.3
-------- -------- ------ ------ -------- --------
Costs of sales and
revenues............... 903.8 1,027.5 424.7 258.2 (8.4) 2,605.8
Selling, general, and
administrative
expenses............... 279.9 105.7 50.6 60.5 45.8 542.5
Research, development,
and engineering
expenses............... 31.3 259.3 23.0 19.3 -- 332.9
Restructuring and asset
impairment charges..... 9.0 -- 6.6 10.6 -- 26.2
Reversal of restructuring
charge................. (0.2) -- -- -- -- (0.2)
-------- -------- ------ ------ -------- --------
Total costs and
expenses............... 1,223.8 1,392.5 504.9 348.6 37.4 3,507.2
-------- -------- ------ ------ -------- --------
Operating income
(expense).............. $ 150.3 $ 162.7 $ 83.6 $ 6.8 $ (44.3) $ 359.1
======== ======== ====== ====== ======== ========
Total assets............. $2,499.4 $1,868.8 $752.3 $742.4 $1,633.6 $7,496.5
</Table>
21
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS -- (CONTINUED)
(IN MILLIONS, EXCEPT PER SHARE, UNLESS OTHERWISE STATED)
<Table>
<Caption>
DEFENSE MOTION & CORPORATE,
SIX MONTHS ENDED FLUID ELECTRONICS & FLOW ELECTRONIC ELIMINATIONS &
JUNE 30, 2004 TECHNOLOGY SERVICES CONTROL COMPONENTS OTHER TOTAL
- ---------------- ---------- ------------- -------- ---------- -------------- --------
Sales and revenues....... $1,225.8 $1,037.2 $555.3 $344.0 $ (4.4) $3,157.9
-------- -------- ------ ------ -------- --------
Costs of sales and
revenues............... 810.5 629.3 400.0 240.8 (2.6) 2,078.0
Selling, general, and
administrative
expenses............... 251.7 60.7 51.2 65.1 35.0 463.7
Research, development,
and engineering
expenses............... 29.0 242.7 21.1 18.2 -- 311.0
Restructuring and asset
impairment charges..... 6.6 -- 2.6 8.6 1.8 19.6
Reversal of restructuring
charge................. (0.4) -- -- (0.5) -- (0.9)
-------- -------- ------ ------ -------- --------
Total costs and
expenses............... 1,097.4 932.7 474.9 332.2 34.2 2,871.4
-------- -------- ------ ------ -------- --------
Operating income
(expense).............. $ 128.4 $ 104.5 $ 80.4 $ 11.8 $ (38.6) $ 286.5
======== ======== ====== ====== ======== ========
Total assets............. $2,430.4 $ 924.3 $740.2 $767.8 $1,462.7 $6,325.4
</Table>
17) QUARTERLY FINANCIAL PERIODS
The Company's 2005 quarterly financial periods end on the Saturday after
the last day of the quarter, except for the last quarterly period of the fiscal
year, which ends on December 31st. During 2004, the Company's quarterly
financial periods ended on the Saturday before the last day of the quarter,
except for the last quarterly period of the fiscal year, which ended on December
31st. For simplicity of presentation, the quarterly financial statements
included herein are presented as ending on the last day of the quarter.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
EXECUTIVE SUMMARY
THREE MONTHS
The Company had strong operating performance in the second quarter of 2005.
Revenues grew 20.4% from the comparable prior year quarter. The contributions
from the Company's existing businesses, led by the Defense Electronics &
Services and Fluid Technology segments, accounted for 12.2% of the growth.
Acquisitions and foreign currency translations comprised the remaining 8.2% of
the growth. These results reflect the strength of the Company's portfolio of
businesses and the introduction of new products.
Operating income in the second quarter of 2005 was 32.5% higher than the
second quarter of 2004. The increase reflects higher volume including the impact
of a Defense Electronic & Services related acquisition. This was partially
offset by higher employee benefit costs, additional expenditures for process
improvements, and increased marketing costs.
Diluted earnings per share were $1.46 for the second quarter of 2005 and
include the favorable settlement of a tax matter and interest income $0.07,
restructuring $(0.05) and discontinued operations $0.01. Diluted earnings per
share for the comparable prior year quarter were $1.18 and include the impact of
favorable tax settlements, $0.12, restructuring $(0.10) and discontinued
operations $(0.02).
SIX MONTHS
The Company's revenues grew 22.4% in the first six months of 2005 from the
comparable prior year period. Higher volume in all segments contributed 12.6% of
the growth and acquisitions and foreign currency translations contributed the
remaining 9.8% of the growth. Based on these results and current and projected
market conditions, the Company forecasts full year 2005 revenue to be between
$7,660 million and $7,800 million.
Operating income in the first six months of 2005 was 25.3% higher than the
first six months of 2004. The increase reflects higher volume, partially offset
by higher employee benefit costs, additional expenditures for process
improvements, and increased marketing costs. The Company forecasts full year
2005 segment operating income to be between approximately $870 million and $905
million.
Diluted earnings per share were $2.70 for the first six months of 2005 and
include the favorable settlement of a tax matter and interest income $0.43,
restructuring $(0.19) and discontinued operations $(0.10). Diluted earnings per
share for the comparable prior year period were $2.13 and include the impact of
favorable tax settlements/rulings, $0.16, restructuring $(0.14) and discontinued
operations $(0.02). Full year 2005 diluted earnings per share are forecasted to
be between $5.30 and $5.40.
THREE MONTHS ENDED JUNE 30, 2005 COMPARED WITH THREE MONTHS ENDED JUNE 30,
2004
Sales and revenues for the second quarter of 2005 were $1,983.2 million, an
increase of $336.4 million, or 20.4%, from the same period for 2004. Costs of
sales and revenues of $1,318.1 million for the second quarter of 2005 increased
$243.5 million, or 22.7%, from the comparable 2004 period. The increases in
sales and revenues and costs of sales and revenues are primarily attributable to
higher volume in most segments, contributions from a 2004 acquisition made by
the Defense Electronics & Services segment and the impact of foreign currency
translation. The increase in costs of sales and revenues also reflects a change
in product mix.
Selling, general and administrative ("SG&A") expenses for the second
quarter of 2005 were $271.6 million, an increase of $35.9 million, or 15.2%,
from the second quarter of 2004. The increase in SG&A expenses was primarily due
to increased marketing expense in most segments, including expenses from a 2004
acquisition, higher general and administrative expenses and the impact of
foreign currency translation. Higher general and administrative costs reflect
additional employee benefit costs, the cost of process improvement
23
initiatives, administrative expenses related to a 2004 acquisition and increased
expenditures for tax planning initiatives.
Research, development and engineering ("RD&E") expenses for the second
quarter of 2005 increased $13.7 million, or 8.2%, compared to the second quarter
of 2004. The increase is attributable to increased spending in all segments.
During the second quarter of 2005, the Company recorded a $6.8 million
restructuring charge to streamline its operating structure. The charge primarily
reflects severance costs for the planned termination of 84 employees.
Additionally, $0.2 million of restructuring accruals related to first quarter
2005 restructuring actions were reversed into income during the second quarter
of 2005, as management determined that certain cash expenditures would not be
incurred. During the second quarter of 2004, the Company recorded a $14.3
million restructuring charge. The charge primarily reflected the planned
reduction of 418 employees, the closure of two facilities and lease cancellation
costs. Additionally, $0.3 million of restructuring accruals related to 2003 and
2002 restructuring actions were reversed into income during the second quarter
of 2004, as management determined that certain cash expenditures would not be
incurred. Refer to the section entitled "Status of Restructuring and Asset
Impairments" and Note 8, "Restructuring and Asset Impairment Charges," in the
Notes to Consolidated Condensed Financial Statements for additional information.
Operating income for the second quarter of 2005 was $206.8 million, an
increase of $50.7 million, or 32.5%, over the second quarter of 2004. The
increase is primarily due to improved sales and revenues at most of the segments
offset by increased SG&A and RD&E expenses. Segment operating margin for the
second quarter of 2005 was 11.6%, or 80 basis points above the comparable prior
year quarter. The variance in segment operating margin is due to a reduction in
SG&A expenses as a percentage of sales and a decrease in restructuring charges.
Interest expense during the second quarter of 2005 was $13.9 million, an
increase of $3.1 million, or 28.7% from the comparable prior year period. This
increase reflects higher interest rates and higher debt balances (reflecting a
2004 acquisition). Additionally, the Company recognized $5.5 million of interest
income during the second quarter of 2005 compared to $5.4 million during the
second quarter of 2004.
During the second quarter of 2005, income tax expense was $55.8 million, or
64.1% more than the applicable prior year period due to the increase in taxable
income during the second quarter of 2005 compared to the second quarter of 2004
and the net impact of a favorable tax ruling in 2004.
Income from continuing operations for the second quarter of 2005 was $136.9
million, or $1.45 per diluted share compared to $113.6 million, or $1.20 per
diluted share for the second quarter of 2004. The increase reflects the results
discussed above.
During the second quarter of 2005, the Company recognized $0.8 million of
income from discontinued operations compared to a loss of $1.6 million in the
comparable prior year period. The 2005 income primarily relates to a legal
settlement.
Fluid Technology's sales and revenues and costs of sales and revenues
increased $83.6 million, or 12.8%, and $56.2 million, or 13.1%, respectively, in
the second quarter of 2005 compared to the second quarter of 2004. Higher sales
in the water/wastewater markets and industrial products businesses, and the
impact of foreign currency translation were the primary factors for the
increases. SG&A expenses for the second quarter of 2005 increased $9.3 million,
or 7.3%, compared to the same period in 2004, mainly due to increased
advertising costs, sales commissions and administrative costs in most businesses
and foreign currency translation. During the second quarter of 2005, the segment
recorded a $2.5 million restructuring charge related to activities to reduce
structural costs. Additionally, during the second quarter of 2005, $0.2 million
of restructuring accruals were reversed into income. During the second quarter
of 2004, the segment recorded a $3.4 million restructuring charge mainly related
to a planned reduction in headcount and the closure of two facilities.
Additionally, during 2004, $0.2 million of restructuring accruals were reversed
into income as costs were less than initially anticipated (refer to the section
entitled "Status of Restructuring and Asset Impairments" and Note 8,
"Restructuring and Asset Impairment Charges," in the Notes to Consolidated
Condensed Financial Statements for additional information). Operating income for
the second quarter of 2005
24
increased $18.6 million, or 24.6%, compared to the second quarter of 2004 due to
the activities discussed above.
Defense Electronics & Services' sales and revenues and costs of sales and
revenues for the second quarter of 2005 increased $248.8 million, or 46.9%, and
$179.4 million, or 56.9%, respectively, from the comparable prior year period.
The increases are primarily due to higher volume in the night vision,
communications, electronic warfare and systems businesses. A third quarter 2004
acquisition also provided $108.8 million of the increase in revenues.
Additionally, a change in product mix also contributed to the increase in costs
of sales and revenues. SG&A expenses increased $28.3 million, primarily due to
increased employee benefit and administrative costs, higher marketing costs and
administrative costs associated with a third quarter 2004 acquisition. RD&E
expenses increased $12.0 million, or 9.1%, primarily due to increased spending
in the segment's electronic warfare business. Operating income for the second
quarter of 2005 was $84.9 million, an increase of $29.1 million, or 52.2%,
compared to the same quarter in 2004. The increase reflects the results
discussed above.
Motion & Flow Control recorded sales and revenues and costs of sales and
revenues of $290.9 million and $208.6 million, respectively, during the second
quarter of 2005, reflecting increases of $9.6 million, or 3.4%, and $7.2
million, or 3.6%, from the second quarter of 2004. The increases were mainly due
to higher volume in the friction material and aerospace controls businesses and
the impact of foreign currency translation partially offset by volume declines
in the fluid handling business. SG&A expenses decreased $0.6 million, or 2.4%,
compared to the prior year period. During the second quarters of 2005 and 2004,
the segment recorded $1.0 million and $2.4 million of restructuring charges,
respectively, mainly related to actions to reduce operating costs (refer to the
section entitled "Status of Restructuring and Asset Impairments" and Note 8,
"Restructuring and Asset Impairment Charges," in the Notes to Consolidated
Condensed Financial Statements for additional information). Operating income of
$45.0 million was $3.7 million, or 9.0%, higher in the second quarter of 2005
compared to the second quarter of 2004 primarily due to the items mentioned
above.
Electronic Components' sales and revenues of $181.7 million and costs of
sales and revenues of $133.4 million in the second quarter of 2005, decreased
$4.9 million, or 2.6%, and increased $1.8 million, or 1.4%, respectively, from
the comparable prior year period. The decrease in sales reflects lower volume in
most businesses. The increase in costs of sales and revenues was due to
manufacturing inefficiencies in the Company's keypads business. SG&A expenses
decreased $5.0 million due to lower marketing and administrative costs. During
the second quarters of 2005 and 2004, the segment recorded $3.3 million and $6.9
million of restructuring charges, respectively, relating to planned actions to
reduce structural costs. Additionally, during 2004, $0.1 million of
restructuring accruals were reversed into income reflecting lower than
anticipated severance costs (refer to the section entitled "Status of
Restructuring and Asset Impairments" and Note 8, "Restructuring and Asset
Impairment Charges," in the Notes to Consolidated Condensed Financial Statements
for additional information). Operating income for the second quarter of 2005
increased $1.2 million, or 26.7%, from the second quarter of 2004. The increase
was due to the factors discussed above.
Corporate expenses increased $1.9 million in the second quarter of 2005,
primarily due to costs related to process improvement initiatives in 2005,
employee benefit costs and increased expenditures for tax planning.
SIX MONTHS ENDED JUNE 30, 2005 COMPARED WITH SIX MONTHS ENDED JUNE 30, 2004
Sales and revenues for the first six months of 2005 were $3,866.3 million,
an increase of $708.4 million, or 22.4%, from the same period for 2004. Costs of
sales and revenues of $2,605.8 million for the first six months of 2005
increased $527.8 million, or 25.4%, from the comparable 2004 period. The
increases in sales and revenues and costs of sales and revenues are primarily
attributable to higher volume in all segments, contributions from a 2004
acquisition made by the Defense Electronics & Services segment and the impact of
foreign currency translation. The increase in costs of sales and revenues also
reflects a change in product mix.
SG&A expenses for the first six months of 2005 were $542.5 million, an
increase of $78.8 million, or 17.0%, from the first six months of 2004. The
increase in SG&A expenses was primarily due to increased marketing expense in
most segments, including expenses from a 2004 acquisition, higher general and
25
administrative expenses and the impact of foreign currency translation. Higher
general and administrative costs reflect additional employee benefit costs, the
cost of process improvement initiatives, administrative expenses related to a
2004 acquisition and increased expenditures for tax planning initiatives.
RD&E expenses for the first six months of 2005 increased $21.9 million, or
7.0%, compared to the first six months of 2004. The increase is attributable to
increased spending in all segments.
During the first six months of 2005, the Company recorded a $26.2 million
restructuring charge to streamline its operating structure. The charge primarily
reflects severance costs for the planned termination of 459 employees.
Additionally, $0.2 million of restructuring accruals related to first quarter
2005 restructuring actions were reversed into income during the first six months
of 2005, as management determined that certain cash expenditures would not be
incurred. During the first six months of 2004, the Company recorded a $19.6
million restructuring charge. The charge primarily reflected the planned
reduction of 521 employees, the closure of two facilities and lease cancellation
costs. Additionally, $0.9 million of restructuring accruals related to 2003,
2002 and 2001 restructuring actions were reversed into income during the first
quarter of 2004, as management determined that certain cash expenditures would
not be incurred. Refer to the section entitled "Status of Restructuring and
Asset Impairments" and Note 8, "Restructuring and Asset Impairment Charges," in
the Notes to Consolidated Condensed Financial Statements for additional
information.
Operating income for the first six months of 2005 was $359.1 million, an
increase of $72.6 million, or 25.3%, over the first six months of 2004. The
increase is primarily due to improved sales and revenues at each of the segments
offset by increased SG&A and RD&E expenses. Segment operating margin for the
first six months of 2005 was 10.4%, or 10 basis points above the comparable
prior year period.
Interest expense during the first six months of 2005 was $34.0 million, an
increase of $12.9 million, or 61.1% from the comparable prior year period. This
increase reflects higher interest rates and higher debt balances (reflecting
2004 acquisitions). Additionally, the Company recognized $19.7 million of
interest income during the first six months of 2005 compared to $14.6 million
during the first six months of 2004. The increase of $5.1 million, or 34.9%,
primarily reflects the recognition of interest income associated with tax
settlements related to prior year tax filings.
During the first six months of 2005, income tax expense was $70.0 million,
or 1.0% less than the applicable prior year period. The variance primarily
reflects the recognition of tax settlements relating to prior year tax filings.
Partially offsetting these items is the increase in taxable income during the
first six months of 2005 compared to the first six months of 2004.
Income from continuing operations was $264.1 million, or $2.80 per diluted
share for the first six months of 2005 compared to $202.6 million, or $2.15 per
diluted share for the first six months of 2004. The increase reflects the
results discussed above.
During the first six months of 2005, the Company recognized a $9.9 million
loss from discontinued operations compared to a loss of $1.7 million in the
comparable period. The 2005 loss primarily relates to losses and asset
write-downs associated with the Company's Network Systems & Services business
and costs related to other discontinued operations.
Fluid Technology's sales and revenues and costs of sales and revenues
increased $148.3 million, or 12.1%, and $93.3 million, or 11.5%, respectively,
in the first six months of 2005 compared to the first six months of 2004. Higher
sales in the water/wastewater markets and industrial products businesses,
acquisition revenue from the water treatment business and the impact of foreign
currency translation were the primary factors for the increases. SG&A expenses
for the first six months of 2005 increased $28.2 million, or 11.2%, compared to
the same period in 2004, mainly due to increased advertising costs, sales
commissions and administrative costs in most businesses, and foreign currency
translation. During the first six months of 2005, the segment recorded a $9.0
million restructuring charge related to activities to reduce structural costs.
Additionally, during the first six months of 2005, $0.2 million of restructuring
accruals were reversed into income. During the first six months of 2004, the
segment recorded a $6.6 million restructuring charge mainly related to a planned
reduction in headcount and the closure of two facilities. Additionally, during
the first six months of 2004, $0.4 million of restructuring accruals were
reversed into income as closed facility and severance costs were less
26
than initially anticipated (refer to the section entitled "Status of
Restructuring and Asset Impairments" and Note 8, "Restructuring and Asset
Impairment Charges," in the Notes to Consolidated Condensed Financial Statements
for additional information). Operating income for the first six months of 2005
increased $21.9 million, or 17.1%, compared to the first six months of 2004 due
to the activities discussed above.
Defense Electronics & Services' sales and revenues and costs of sales and
revenues for the first six months of 2005 increased $518.0 million, or 49.9%,
and $398.2 million, or 63.3%, respectively, from the comparable prior year
period. The increases are primarily due to higher volume in the night vision,
communications, electronic warfare and systems businesses. A third quarter 2004
acquisition also provided $244.6 million of the increase in revenues.
Additionally, a change in product mix also contributed to the increase in costs
of sales and revenues. SG&A expenses increased $45.0 million, or 74.1%,
primarily due to increased employee benefit and administrative costs, higher
marketing costs and costs associated with a third quarter 2004 acquisition. RD&E
expenses increased $16.6 million, or 6.8%, primarily due to increased spending
in most businesses. Operating income for the first six months of 2005 was $162.7
million, an increase of $58.2 million, or 55.7%, compared to the same period in
2004. The increase reflects the results discussed above.
Motion & Flow Control recorded sales and revenues and costs of sales and
revenues of $588.5 million and $424.7 million, respectively, during the first
six months of 2005, reflecting increases of $33.2 million, or 6.0%, and $24.7
million, or 6.2%, from the first six months of 2004. The increases were mainly
due to higher volume in the friction material and aerospace controls businesses
and the impact of foreign currency translation partially offset by volume
declines in the fluid handling business. SG&A expenses decreased $0.6 million,
or 1.2%, compared to the prior year period. During the first six months of 2005
and 2004, the segment recorded $6.6 million and $2.6 million of restructuring
charges, respectively, mainly related to actions to reduce operating costs
(refer to the section entitled "Status of Restructuring and Asset Impairments"
and Note 8, "Restructuring and Asset Impairment Charges," in the Notes to
Consolidated Condensed Financial Statements for additional information).
Operating income of $83.6 million was $3.2 million, or 4.0%, higher in the first
six months of 2005 compared to the first six months of 2004 primarily due to the
items mentioned above.
Electronic Components' sales and revenues of $355.4 million and costs of
sales and revenues of $258.2 million in the first six months of 2005, increased
$11.4 million, or 3.3%, and $17.4 million, or 7.2%, respectively, from the
comparable prior year period. The increases reflect higher volume in most
businesses and the impact of foreign currency translation. Additionally, a
change in product mix also contributed to the increase in costs of sales and
revenues. SG&A expenses decreased $4.6 million due to lower marketing and
administrative costs. During the first six months of 2005 and 2004, the segment
recorded $10.6 million and $8.6 million of restructuring charges, respectively,
relating to planned actions to reduce structural costs. Additionally, during the
first six months of 2004, $0.5 million of restructuring accruals were reversed
into income reflecting lower than anticipated severance costs (refer to the
section entitled "Status of Restructuring and Asset Impairments" and Note 8,
"Restructuring and Asset Impairment Charges," in the Notes to Consolidated
Condensed Financial Statements for additional information). Operating income for
the first six months of 2005 decreased $5.0 million, or 42.4%, from the first
six months of 2004. The decrease was due to the factors discussed above.
Corporate expenses increased $5.7 million in the first six months of 2005,
primarily due to costs related to process improvement initiatives, employee
benefit costs and increased expenditures for tax planning.
STATUS OF RESTRUCTURING AND ASSET IMPAIRMENTS
2005 RESTRUCTURING ACTIVITIES
During the second quarter of 2005, the Company recognized a $6.8 million
restructuring charge. New actions represent $6.3 million of the charge.
Severance costs associated with actions announced during the first quarter of
2005 represent $0.5 million of the charge. The actions by segment are as
follows:
- The Fluid Technology segment recorded $1.4 million of severance costs for
the termination of 36 employees, including 14 factory workers, 21 office
workers and 1 management employee. Lease
27
cancellation costs and other costs were $0.7 million. Additionally, asset
impairment costs were $0.4 million. The charges reflect a reduction in
structural costs.
- The Electronic Components segment recorded $2.6 million of the charge
primarily for the reduction of 38 employees, including 21 factory
workers, 14 office workers and 3 management employees. Other costs
totaling $0.4 million were also recognized during the quarter. These
actions reflect the reorganization of the segment and a consolidation of
functions.
- The Motion & Flow Control segment recognized $0.8 million primarily for
the termination of 10 employees, including 5 factory workers, 4 office
workers and 1 management employee. The headcount reductions relate to
workforce reductions and the consolidation of functions.
During the second quarter of 2005, the Company made $1.1 million of
payments attributable to the 2005 second quarter restructuring actions. Future
restructuring expenditures will be funded with cash from operations,
supplemented on an interim basis, if required, with commercial paper borrowings.
The projected future cash savings from the restructuring actions announced
during the second quarter of 2005 are approximately $2.8 million during 2005 and
$26.4 million between 2006 and 2010. The savings primarily represents lower
salary and wage expenditures and will be reflected in "Costs of Sales and
Revenues" and "Selling, General and Administrative Expenses".
During the first quarter of 2005, the Company recognized a $19.4 million
restructuring charge. New actions represent $18.6 million of the charge. Other
costs totaling $0.8 million relate to actions announced prior to 2005. The
actions by segment are as follows:
- The Fluid Technology segment recorded $6.5 million primarily for the
termination of 105 employees, including 33 factory workers, 62 office
workers and 10 management employees. The charge reflects a reduction in
structural costs.
- The Electronic Components segment recorded $6.5 million of the charge
primarily for the reduction of 155 employees, including 36 factory
workers, 101 office workers and 18 management employees. These actions
reflect the reorganization of the segment and a consolidation of
functions.
- The Motion & Flow Control segment recognized $5.0 million for the
termination of 115 employees, including 49 factory workers, 58 office
workers and 8 management employees. The headcount reductions relate to
the closure of one facility, the transfer of production of selected
products from France to Holland, the outsourcing of selected functions to
Eastern Europe, and the consolidation of other functions. Additionally,
lease cancellation costs of $0.2 million and other costs of $0.4 million
were recorded during the first quarter of 2005.
During the first half of 2005, the Company made $6.8 million of payments
attributable to the 2005 first quarter restructuring actions. Future
restructuring expenditures will be funded with cash from operations,
supplemented on an interim basis, if required, with commercial paper borrowings.
The projected future cash savings from the restructuring actions announced
during the first quarter of 2005 are approximately $16.1 million during 2005 and
$128.7 million between 2006 and 2010. The savings primarily represent lower
salary and wage expenditures and will be reflected in "Costs of Sales and
Revenues" and "Selling, General and Administrative Expenses".
28
The following table displays a rollforward of the restructuring accruals
for the 2005 restructuring programs (in millions):
<Table>
<Caption>
CASH CHARGES
---------------------------------------
LEASE
SEVERANCE COMMITMENTS OTHER TOTAL
--------- ----------- ----- -----
Establishment of 2005 Plans............................ $23.3 $ 0.8 $ 0.9 $25.0
Reversal of Charges.................................... (0.2) -- -- (0.2)
Payments............................................... (6.7) (0.3) (0.9) (7.9)
Rounding............................................... -- 0.1 -- 0.1
Other, including translation........................... (0.3) -- -- (0.3)
----- ----- ----- -----
Balance June 30, 2005.................................. $16.1 $ 0.6 $ -- $16.7
===== ===== ===== =====
</Table>
During the second quarter of 2005, $0.2 million of restructuring accruals
were reversed into income reflecting lower than anticipated severance costs (due
to employee attrition).
During the first half of 2005, headcount was reduced by 328 persons and the
Company experienced employee attrition, leaving a balance of 131 planned
reductions related to the 2005 restructuring plans.
2004 RESTRUCTURING ACTIVITIES
During 2004, the Company recognized $38.8 million of restructuring charges.
Of this amount, $37.7 million related to new actions announced during 2004,
primarily the planned severance of 1,319 employees and lease cancellation costs.
Additionally, $1.1 million of expenditures were incurred relating to actions
announced prior to 2004.
The actions announced during 2004 by segment are as follows:
- The Fluid Technology segment recorded $17.7 million for the planned
termination of 211 employees, including 52 factory workers, 155 office
workers and four management employees. Additionally, $0.7 million of
lease costs, $0.6 million of asset write-offs and $0.7 million of other
costs were also recognized during 2004.
- The Electronic Components segment recorded a $4.5 million charge for the
recognition of lease cancellation costs and a $4.5 million charge for the
planned termination of 972 employees, including 883 factory workers, 84
office workers and five management employees. The segment also recorded
$1.1 million and $0.8 million for the disposal of machinery and
equipment, and other costs, respectively.
- The Motion & Flow Control segment recorded $4.6 million for the planned
termination of 133 employees, including 47 factory workers, 77 office
workers and nine management employees. Other cost totaling $0.7 million
were also recognized during 2004.
- Corporate headquarters recorded $1.8 million for the planned termination
of one office worker and two management employees.
During the first half of 2005, the Company made $13.6 million of payments
attributable to 2004 restructuring actions. Future restructuring expenditures
will be funded with cash from operations, supplemented on an interim basis, if
required, with commercial paper borrowings.
The projected future cash savings from the restructuring actions announced
during 2004 are approximately $30.9 million during 2005 and $130.5 million
between 2006 and 2009. The savings primarily represent lower salary and wage
expenditures and will be reflected in "Costs of Sales and Revenues" and
"Selling, General and Administrative Expenses".
29
The following table displays a rollforward of the restructuring accruals
for the 2004 restructuring programs (in millions):
<Table>
<Caption>
CASH CHARGES
----------------------------------------
LEASE
SEVERANCE COMMITMENTS OTHER TOTAL
--------- ----------- ----- ------
Establishment of 2004 Plans........................... $ 28.6 $ 5.2 $ 2.2 $ 36.0
Payments.............................................. (14.5) (0.7) (1.8) (17.0)
Reversals............................................. (0.2) -- -- (0.2)
Translation........................................... 0.5 -- -- 0.5
------ ----- ----- ------
Balance December 31, 2004............................. $ 14.4 $ 4.5 $ 0.4 $ 19.3
------ ----- ----- ------
Additional charges.................................... 0.8 -- -- 0.8
Payments.............................................. (9.8) (3.7) (0.1) (13.6)
Translation & Other................................... (0.8) -- 0.1 (0.7)
------ ----- ----- ------
Balance June 30, 2005................................. $ 4.6 $ 0.8 $ 0.4 $ 5.8
====== ===== ===== ======
</Table>
During the first half of 2005, headcount was reduced by 56 persons and the
Company experienced employee attrition, leaving a balance of 628 planned
reductions related to the 2004 restructuring plans.
DISCONTINUED OPERATIONS
In September of 1998, the Company completed the sales of its automotive
Electrical Systems business to Valeo SA for approximately $1,700 million and its
Brake and Chassis unit to Continental AG of Germany for approximately $1,930
million. These dispositions were treated as discontinued operations. In
connection with the sale of these businesses, the Company established accruals
for taxes of $972.7 million, representation and warranty and contract purchase
price adjustments of $148.8 million, direct costs and other accruals of $102.0
million and environmental obligations of $16.1 million.
In 1998 and 1999, the Company received notifications of claims from the
buyers of the automotive businesses requesting post-closing adjustments to the
purchase prices under the provisions of the sales agreements. During 1999, those
claims were submitted to arbitration. In 2001 and early in 2002, both claims
were favorably resolved.
The following tables display a rollforward of the automotive discontinued
operations accruals from January 1, 2005 to June 30, 2005 (in thousands):
<Table>
<Caption>
2005
BEGINNING BALANCE 2005 2005 OTHER ENDING BALANCE
AUTOMOTIVE DISCONTINUED OPERATIONS ACCRUALS JANUARY 1, 2005 SPENDING SETTLEMENTS ACTIVITY JUNE 30, 2005
- ------------------------------------------- ----------------- -------- ----------- -------- --------------
Other Deferred Liabilities............... $ -- $ -- $ -- $ -- $ --
Accrued Expenses......................... 20,370 -- -- -- 20,370
Environmental............................ 14,156 (46) -- -- 14,110
Income Tax............................... 154,151 -- -- -- 154,151
-------- ---- ----- ----- --------
Total.................................... $188,677 $(46) $ -- $ -- $188,631
======== ==== ===== ===== ========
</Table>
At June 30, 2005, the Company has automotive discontinued operations
accruals of $188.6 million that primarily relate to the following: tax matters
$154.1 million -- which are related to the original transaction and are recorded
in Accrued Taxes; product recalls $7.8 million -- related to nine potential
product recall issues which are recorded in Accrued Expenses; environmental
obligations $14.1 million -- for the remediation and investigation of
groundwater and soil contamination at thirteen sites which are recorded in Other
Liabilities; employee benefits $12.6 million -- for workers compensation issues
which are recorded in Accrued Expenses. The Company expects that it will settle
the $154.1 million of tax matters in the second half of 2005. The
30
Company forecasts that it will spend between $1.0 million and $4.0 million in
2005 related to its other remaining automotive obligations.
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOW OVERVIEW
The Company realized $163.1 million of cash from operating activities
during the first six months of 2005. Net income generated from continuing
operations of $264.1 million, which includes $108.8 million of depreciation and
amortization, and an increase in accounts payable were the primary factors for
this performance. A $100.0 million prepaid pension contribution and a $197.6
million increase in accounts receivable, reflecting increased sales volume and
the timing of collections, partially offset these items.
The Company projects cash from operating activities to be between $625.0
million and $660.0 million for the twelve months ending December 31, 2005.
Cash Flows: Cash generated by operating activities during the first six
months of 2005 was $163.1 million, or a $103.9 million improvement over the
first six months of 2004. The improvement is primarily attributable to a $61.5
million increase in income from operations, including an increase in non-cash
charges of $19.5 million, and a $29.0 million increase in accrued expenses.
Other factors contributing to the positive variance in cash from operations
include a $12.3 million increase in accounts payable and a $9.0 million
reduction in the funding of inventory levels. A $21.5 million increase in tax
payments partially offset these items.
Status of Restructuring Activities: Restructuring payments during the
first six months of 2005 totaled $23.4 million and were comprised of $7.9
million of expenditures for 2005 plans and $15.5 million of expenditures for
prior years plans. Future restructuring expenditures will be funded with cash
from operations, supplemented on an interim basis, if required, with commercial
paper borrowings.
Additions to Plant, Property and Equipment: Capital expenditures during
the first six months of 2005 were $71.8 million, an increase of $8.4 million
from the first six months of 2004. The increase was seen across several
operating segments.
Acquisitions: During the first six months of 2005, the Company spent $1.5
million in additional payments related to the 2004 purchases of WEDECO AG Water
Technology ("WEDECO") and Remote Sensing System ("RSS").
During the first six months of 2004, the Company spent $257.3 million
primarily for the acquisitions of the following:
- WEDECO, the world's largest manufacturer of UV disinfection and ozone
oxidation systems, which are alternatives to chlorine treatment.
- Shanghai Hengtong Purified Water Development Co. Ltd. and Shanghai
Hengtong Water Treatment Engineering Co. Ltd. ("Hengtong"), a
Shanghai-based producer of reverse-osmosis, membrane and other water
treatment systems for the power, pharmaceutical, chemical and
manufacturing markets in China.
Divestitures: During the first six months of 2005, the Company generated
$2.5 million from the sale of one property and $5.2 million from the sales of
plant and equipment. In the first six months of 2004, the Company generated $4.7
million of cash proceeds primarily from the sale of two properties.
Financing Activities: Debt at June 30, 2005 was $1,449.0 million, compared
with $1,272.0 million at December 31, 2004. Cash and cash equivalents were
$384.2 million at June 30, 2005, compared to $262.9 million at December 31,
2004. The change in debt and cash levels primarily reflects the utilization of
cash from operating activities and additional debt to fund capital expenditures,
the repurchase of common stock, and the payment of dividends. Additionally, the
increase in cash balances at June 30, 2005 versus December 31, 2004 is a result
of the above-mentioned activities. At June 30, 2005, the Company had $1.4
billion of revolving credit agreements, which provide back-up for the Company's
commercial paper program.
31
Status of Automotive Discontinued Operations: During the first six months
of 2005, the Company made immaterial payments for matters attributable to its
automotive discontinued operations. Tax obligations of $154.1 million are
expected to be resolved in the second half of 2005. In addition, the Company
forecasts between $1.0 million and $4.0 million of annual spending related to
its remaining automotive obligations. All payments are forecast to be paid with
future cash from operations supplemented as required, by commercial paper
borrowings.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements, in conformity with generally
accepted accounting principles, requires management to make estimates and
assumptions that affect the reported value of assets and liabilities and the
disclosure of contingent assets and liabilities.
The Company has identified three accounting policies where estimates are
used that require assumptions or factors that are of an uncertain nature, or
where a different estimate could have been reasonably utilized or changes in the
estimate are reasonably likely to occur from period to period.
ENVIRONMENTAL
Accruals for environmental matters are recorded on a site by site basis
when it is probable that a liability has been incurred and the amount can be
reasonably estimated. The Company calculates the liability by utilizing a cost
estimating and weighting matrix that separates costs into recurring and
non-recurring categories. The Company then uses internal and external experts to
assign confidence levels based on the site's development stage, type of
contaminant found, applicable laws, existing technologies and the identification
of other potentially responsible parties. This methodology produces a range of
estimates, including a best estimate. At June 30, 2005, the Company's best
estimate for environmental liabilities is $96.3 million, which approximates the
accrual related to the remediation of ground water and soil. The low range
estimate for environmental liabilities is $73.3 million and the high range
estimate is $150.2 million. On an annual basis the Company spends between $8.0
million and $11.0 million on its environmental remediation liabilities. These
estimates, and related accruals, are reviewed periodically and updated for
progress of remediation efforts and changes in facts and legal circumstances.
Liabilities for environmental expenditures are recorded on an undiscounted
basis.
The Company is currently involved in the environmental investigation and
remediation of 80 sites, including certain instances where it is considered to
be a potentially responsible party by the United States Environmental Protection
Agency ("EPA") or similar state agency.
At present, the Company is involved in litigation against its insurers for
reimbursement of environmental response costs. Recoveries from insurance
companies or other third parties are recognized in the financial statements when
it is probable that they will be realized.
In the event that future remediation expenditures are in excess of the
amounts accrued, management does not anticipate that they will have a material
adverse effect on the consolidated financial position, results of operations or
liquidity of the Company.
For additional details on environmental matters see Note 13, "Commitments
and Contingencies," in the Notes to Consolidated Condensed Financial Statements.
EMPLOYEE BENEFIT PLANS
The Company sponsors numerous employee pension and welfare benefit plans.
The determination of projected benefit obligations and the recognition of
expenses related to pension and other postretirement obligations are dependent
on assumptions used in calculating these amounts. These assumptions include:
discount rates, expected rates of return on plan assets, rate of future
compensation increases, mortality, termination, health care inflation trend
rates (some of which are disclosed in Note 19, "Employee Benefit Plans," within
the Notes to Consolidated Financial Statements of the 2004 Annual Report on Form
10-K) and other factors.
32
KEY ASSUMPTIONS
The Company determines its expected return on plan assets assumption by
evaluating both historical returns and estimates of future returns.
Specifically, the Company analyzes the Plan's actual historical annual return on
assets over the past 10, 15, 20 and 25 years; makes estimates of future returns
using a Capital Asset Pricing Model; and evaluates historical broad market
returns over the past 75 years based on the Company's strategic asset
allocation, which is detailed in Note 19, "Employee Benefit Plans," in the Notes
to Consolidated Financial Statements of the 2004 Annual Report on Form 10-K.
Based on the approach described above, the Company estimates the long-term
annual rate of return on assets for domestic pension plans at 9.0%. For
reference, the Company's actual geometric average annual return on plan assets
for domestic pension plans stood at 12.1%,11.2%, 12.6% and 12.7%, for the past
10, 15, 20, and 25 year periods, respectively. The Company's weighted average
expected return on plan assets for all pension plans, including foreign
affiliate plans, at December 31, 2004, is 8.89%.
The Company utilizes the assistance of its plan actuaries in determining
the discount rate assumption. As a service to its clients, the plan actuaries
have developed and published an interest rate yield curve to enable companies to
make judgments pursuant to EITF Topic No. D-36, "Selection of Discount Rates
Used for Measuring Defined Benefit Pension Obligations and Obligations of Post
Retirement Benefit Plans Other Than Pensions." The yield curve is comprised of
AAA/AA bonds with maturities between zero and thirty years. The plan actuaries
then discount the annual benefit cash flows of the Company's pension plan using
this yield curve and develop a single-point discount rate matching the plan's
characteristics.
At December 31, 2004, the Company lowered the discount rate on most of its
domestic pension plans, which represent about 90% of the Company's total pension
obligations, from 6.25% to 6.00%. The Company's weighted average discount rate
for all pension plans, including foreign affiliate plans, at December 31, 2004,
is 5.94%. Also, at December 31, 2004, the Company lowered the discount rate on
its postretirement welfare plans from 6.25% to 5.75% and increased the medical
trend rate for 2005 to 10% decreasing ratably to 5% in 2010.
At December 31, 2003, the Company also lowered its expected rate of future
compensation increases for its domestic plan participants to 4.5%, from 5.0%,
based on recent historical experience and expectations for future economic
conditions.
<Table>
<Caption>
ASSUMPTION 2004 2003
- ---------- ---- ----
Long-Term Rate of Return on Assets at Dec. 31............... 8.89% 8.86%
Discount Rate used to determine benefit obligation at Dec.
31........................................................ 5.94% 6.18%
Discount Rate used to determine net periodic benefit cost... 6.18% 6.44%
Rate of future compensation increase used to determine
benefit obligation at Dec. 31............................. 4.41% 4.42%
</Table>
Management develops each assumption using relevant Company experience in
conjunction with market related data for each individual country in which such
plans exist. All assumptions are reviewed periodically with third party
actuarial consultants and adjusted as necessary.
PENSION PLAN ACCOUNTING AND INFORMATION
With respect to its qualified U.S. defined benefit pension plans and one of
its retiree medical plans, the Company has set up a U.S. Master Trust to pay
future benefits to eligible retirees and dependents.
The Company's strategic asset allocation target for its U.S. domestic plans
apportions 70% of all assets to equity instruments and the remaining 30% to
fixed income instruments. At December 31, 2004, the Company's actual asset
allocation was 66.2% in equity instruments, 16.4% in fixed income instruments
and 9.9% in hedge funds, with the remainder in cash and other.
On an annual basis, the Company's long-term expected return on plan assets
will often differ from the actual return on plan assets. The chart below shows
actual returns versus the expected long-term returns for
33
the Company's domestic pension plans that are utilized in the calculation of the
net periodic benefit cost. Please see Note 19, "Employee Benefit Plans," in the
Notes to Consolidated Financial Statements of the 2004 Annual Report on Form
10-K for more information.
<Table>
<Caption>
2004 2003 2002 2001 2000
---- ---- ----- ---- ----
Expected Return on Assets.............................. 9.00% 9.00% 9.75% 9.75% 9.75%
Actual Return on Assets................................ 15.2% 27.5% (11.4)% (4.0)% (0.7)%
</Table>
The Company's Defense Electronics & Services segment represents
approximately 60% of the active U.S. Salaried Pension Plan participants. As a
result, the Company has sought and will continue to seek reimbursement from the
Department of Defense for a portion of its pension costs, in accordance with
government regulations. U.S. Government Cost Accounting Standards (CAS) govern
the extent to which pension costs are allocable to and recoverable under
contracts with the U.S. Government. Reimbursements of pension costs are made
over time through the pricing of the Company's products and services on U.S.
Government contracts, and therefore, are recognized in the Defense Electronics &
Services segment's net sales.
Funding requirements under IRS rules are a major consideration in making
contributions to our domestic pension plans. With respect to its qualified
pension plans, the Company intends to contribute annually not less than the
minimum required by applicable law and regulations. The Company contributed
$120.1 million to the U.S. Master Trust in 2004, and an additional $105.2
million in the first six months of 2005. As a result, the Company will not face
material minimum required contributions to its U.S. Salaried Pension Plan in
2006 and 2007, under current IRS contribution rules and barring any major
disruptions in the equity and bond markets. Furthermore, we currently estimate
that we will not make significant additional contributions to the Company's U.S.
Salaried Pension Plan during the remainder of 2005.
FUNDED STATUS
Funded status is derived by subtracting the value of the projected benefit
obligations at December 31, 2004 from the end of year fair value of plan assets.
The Company's U.S. Salaried Pension Plan represents approximately 80% of the
Company's total pension obligation, and therefore the funded status of the U.S.
Salaried Pension Plan has a considerable impact on the overall funded status of
the Company's pension plans.
During 2004, the Company's U.S. Salaried Pension Plan assets grew by $575.4
million to $3,564.6 million at the end of 2004. This increase primarily
reflected return on assets of $474.3 million, Company contributions of $100.0
million and the addition of $235.0 million in assets as a result of the
acquisition of RSS, offset by payments to plan beneficiaries of $233.6 million.
Also during 2004, the projected benefit obligation for the U.S. Salaried
Pension Plan increased by $458.2 million to $3,907.6 million. The increase
included the $126.4 million impact of a 25 basis point decline in the discount
rate at year-end and the assumption of $260.0 million in liabilities as part of
the acquisition of RSS. As a result, the funded status for the Company's U.S.
Salaried Pension Plan improved by $116.6 million to $(343.0) million at the end
of 2004. Funded status for the Company's total pension obligations, including
foreign and affiliate plans, improved by $105.5 million to $(754.9) million at
the end of 2004.
Funded status at the end of 2005 will depend primarily on the actual return
on assets during the year and the discount rate at the end of the year. The
Company estimates that every 25 basis point change in the discount rate impacts
the funded status of the U.S. Salaried Pension Plan, which represents about 80%
of the Company's pension obligations, by approximately $126 million. Similarly,
every five percentage point change in the actual 2005 rate of return on assets
impacts the same plan by approximately $178 million.
34
MINIMUM PENSION LIABILITY
SFAS No. 87 "Employers' Accounting for Pensions," ("SFAS No. 87"), requires
that a minimum pension liability be recorded if a plan's market value of assets
falls below the plan's accumulated benefit obligation.
In 2002, the combination of a decline in the discount rate and a decline in
assets caused several of the Company's plans to be in a deficit position.
Accordingly, during 2002, the Company recorded a total after-tax reduction of
$765.5 million to its shareholders' equity. As a result of the improved
financial markets in 2003 and 2004, the Company recorded total after-tax
increases to its shareholders' equity of $182.5 and $81.8 million at year-end
2003, and 2004, respectively. It is important to note that these actions did not
cause a default in any of the Company's debt covenants.
Future recognition or reversal of additional minimum pension liabilities
will depend primarily on the rate of return on assets and the prevailing
discount rate.
PENSION EXPENSE
The Company uses the market-related value of assets method, as described in
paragraph 30 of SFAS No. 87, for the calculation of pension expense. This method
recognizes investment gains or losses over a five-year period from the year in
which they occur. In addition, in accordance with paragraph 32 of SFAS No. 87, a
portion of the Company's unrecognized net actuarial loss is amortized and this
cost is included in the net periodic benefit cost.
The Company recorded $62.1 million of net periodic pension cost ($65.4
million after considering the effects of curtailment losses and settlements)
into its Consolidated Income Statement in 2004, compared with pension cost of
$33.0 million ($35.4 million including curtailments) in 2003. The 2004 net
periodic pension cost reflected benefit service cost of $87.9 million and
interest cost on accrued benefits of $267.9 million, offset by the expected
return on plan assets of $344.2 million. In addition, the 2004 pension expense
included $43.3 million of amortization of past losses, up from $23.5 million in
2003. The primary drivers behind the increase in the net periodic pension cost
were the effect of the change in the discount rate, the increase in amortization
of past losses in 2004 and the inclusion of RSS in the cost from the date of
acquisition.
In 2005, the Company expects to incur approximately $93.0 million of
pension expense that will be recorded into its Consolidated Income Statement.
The increase in pension expense is primarily due to the effect of the change in
discount rate, higher amortization of past losses and the full year impact of
the RSS acquisition.
REVENUE RECOGNITION
The Company recognizes revenue as services are rendered and when title
transfers for products, subject to any special terms and conditions of specific
contracts. For the majority of the Company's sales, title transfers when
products are shipped. Under certain circumstances, title passes when products
are delivered. In the Defense Electronics & Services segment, certain contracts
require the delivery, installation, testing, certification and customer
acceptance before revenue can be recorded. Further, some sales are recognized
when the customer picks up the product.
The Defense Electronics & Services segment typically recognizes revenue and
anticipated profits under long-term, fixed-price contracts based on units of
delivery or the completion of scheduled performance milestones. Estimated
contract costs and resulting margins are recorded in proportion to recorded
sales. During the performance of such contracts, estimated final contract prices
and costs (design, manufacturing, and engineering and development costs) are
periodically reviewed and revisions are made when necessary. The effect of these
revisions to estimates is included in earnings in the period in which revisions
are made. There were no material revisions to estimates in the covered periods.
Accruals for estimated expenses related to warranties are made at the time
products are sold or services are rendered. These accruals are established using
historical information on the nature, frequency and average cost of warranty
claims and estimates of future costs. Management believes the warranty accruals
are adequate; however, actual warranty expenses could differ from estimated
amounts. The accrual for product
35
warranties at June 30, 2005 and 2004 was $39.2 million and $34.4 million,
respectively. See Note 14, "Guarantees, Indemnities and Warranties," in the
Notes to Consolidated Condensed Financial Statements for additional details.
ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 123 (revised 2004) "Share-Based Payment" ("SFAS 123R") which is a
revision of SFAS No. 123, "Accounting for Stock-Based Compensation." This
statement eliminates the option of using the intrinsic value method of
accounting for employee stock options (historically utilized by the Company),
which generally resulted in the recognition of no compensation cost. The
provisions of SFAS No. 123R require the recognition of employee services
received in exchange for awards of equity instruments based on the grant-date
fair value of the awards as determined by option pricing models. The calculated
compensation cost is recognized over the period that the employee is required to
provide services per the conditions of the award. SFAS No. 123R is effective for
the Company on January 1, 2006. The Company is currently in the process of
determining the impact of this statement on its financial statements.
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs -- an
amendment of ARB No. 43, Chapter 4" ("SFAS No. 151"). This statement clarifies
the criteria of "abnormal amounts" of freight, handling costs, and spoilage that
are required to be expensed as current period charges rather than deferred in
inventory. In addition, this statement requires that allocation of fixed
production overheads to the costs of conversion be based on the normal capacity
of the production facilities. SFAS No. 151 is effective for the Company as of
July 1, 2005. The Company is currently in the process of determining the impact
of this statement on the Company's financial statements.
In January 2004, FASB Staff Position ("FSP") No. 106-1, "Accounting and
Disclosure Requirements Related to the Medicare Prescription Drug, Improvement
and Modernization Act of 2003" ("FSP No. 106-1") was issued. Subsequently, FSP
No. 106-2 was issued, which amends FSP No. 106-1 and discusses the recognition
of the effects for the Medicare Prescription Drug, Improvement and Modernization
Act of 2003 (the "Medicare Modernization Act") in the accounting for
postretirement health care plans under SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than Pensions," and in providing disclosures
related to the plan required by SFAS No. 132. The Company adopted this
pronouncement effective July 1, 2004, but was unable to conclude whether
benefits of its plans are actuarially equivalent based on the proposed
regulations released in August 2004. Currently, the Company is analyzing the
effect of the Medicare Modernization Act on the Company's plans based on the
final regulations issued at the end of January 2005 and has not taken any action
at this time to reflect the Medicare changes. In addition, it was assumed that
the adoption of this pronouncement did not affect demographic factors used to
determine plan assets and obligations at December 31, 2004, the Company's
measurement date. See Note 12, "Pension and Postretirement Medical Benefit
Expenses," in the Notes to Consolidated Condensed Financial Statements for
discussion of postretirement benefits.
In December 2004, the FASB issued FSP 109-1, "Application of FASB Statement
No. 109, Accounting for Income Taxes, to the Tax Deduction on Qualified
Production Activities Provided by the American Jobs Creation Act of 2004 ("FSP
109-1")." The American Jobs Creation Act of 2004 (the "AJCA") provides for a tax
relief for U.S. domestic manufacturers. FSP 109-1 states that tax benefit should
be recorded in the year in which it can be taken in the Company's tax return
rather than reflecting a deferred tax asset in the period the AJCA was enacted.
FSP 109-1 was effective upon issuance. Adoption of FSP 109-1 did not have a
material effect on the Company's financial statements.
In December 2004, the FASB issued FSP 109-2, "Accounting Disclosures
Guidance for the Foreign Earnings Repatriation Provision within the American
Jobs Creation Act of 2004 ("FSP 109-2"). The Foreign Earnings Repatriation
Provision Within the Act (the "Provision") provides a special limited-time
dividends received deduction on the repatriation of certain foreign earnings to
a U.S. taxpayer. FSP 109-2 states that a company should recognize the income tax
effect related to the Provision when it decides on a plan for
36
reinvestment or repatriation of foreign earnings. At this time, the Company does
not expect to elect to apply the Provision.
In March 2005, the FASB issued Interpretation No. 47, "Accounting for
Conditional Asset Retirement Obligations (an interpretation of FASB Statement
No. 143)" (the "Interpretation"). This Interpretation provides clarification
with respect to the timing of liability recognition for legal obligations
associated with the retirement of tangible long-lived assets when the timing
and/or method of settlement of the obligation are conditional on a future event.
The Company is currently evaluating the potential impact of the Interpretation.
In May 2005, the FASB issued SFAS No. 154, "Accounting Changes and Error
Corrections" ("SFAS No. 154"), which replaces Accounting Principles Board
("APB") Opinion No. 20 "Accounting Changes," and SFAS No. 3 "Reporting
Accounting Changes in Interim Financial Statements." SFAS No. 154 changes the
requirements for the accounting and reporting of a change in accounting
principle, and applies to all voluntary changes in accounting principles, as
well as changes required by an accounting pronouncement in the unusual instance
that it does not include specific transition provisions. Specifically, SFAS No.
154 requires retrospective application to prior periods' financial statements,
unless it is impracticable to determine the period specific effects or the
cumulative effect of the change. SFAS No. 154 does not change the transition
provisions of any existing pronouncement. SFAS No. 154 is effective for the
Company for all accounting changes and corrections of errors made beginning
January 1, 2006.
RISKS AND UNCERTAINTIES
ENVIRONMENTAL MATTERS
The Company is subject to stringent environmental laws and regulations that
affect its operating facilities and impose liability for the cleanup of past
discharges of hazardous substances. In the United States, these laws include the
Federal Clean Air Act, the Clean Water Act, the Resource Conservation and
Recovery Act, and the Comprehensive Environmental Response, Compensation and
Liability Act. Management believes that the Company is in substantial compliance
with these and all other applicable environmental requirements. Environmental
compliance costs are accounted for as normal operating expenses.
In estimating the costs of environmental investigation and remediation, the
Company considers, among other things, regulatory standards, its prior
experience in remediating contaminated sites, and the professional judgment of
environmental experts. It is difficult to estimate the total costs of
investigation and remediation due to various factors, including incomplete
information regarding particular sites and other potentially responsible
parties, uncertainty regarding the extent of contamination and the Company's
share, if any, of liability for such problems, the selection of alternative
remedies, and changes in cleanup standards. When it is possible to create
reasonable estimates of liability with respect to environmental matters, the
Company establishes accruals in accordance with accounting principles generally
accepted within the United States. Insurance recoveries are included in other
assets when it is probable that a claim will be realized. Although the outcome
of the Company's various remediation efforts presently cannot be predicted with
a high level of certainty, management does not expect that these matters will
have a material adverse effect on the Company's consolidated financial position,
results of operations, or cash flows. For disclosure of the Company's
commitments and contingencies, see Note 21, "Commitments and Contingencies" in
the Notes to Consolidated Financial Statements of the 2004 Annual Report on Form
10-K.
FORWARD-LOOKING STATEMENTS
"Safe Harbor Statement" under the Private Securities Litigation Reform Act
of 1995 ("the Act"):
Certain material presented herein includes forward-looking statements
intended to qualify for the safe harbor from liability established by the Act.
These forward-looking statements include statements that describe the Company's
business strategy, outlook, objectives, plans, intentions or goals, and any
discussion of future operating or financial performance. Whenever used words
such as "anticipate," "estimate," "expect," "project," "intend," "plan,"
"believe," "target" and other terms of similar meaning are intended to identify
such forward-looking statements. Forward-looking statements are uncertain and to
some extent unpredictable,
37
and involve known and unknown risks, uncertainties and other important factors
that could cause actual results to differ materially from those expressed in, or
implied from, such forward-looking statements. Factors that could cause results
to differ materially from those anticipated by the Company include general
global economic conditions, decline in consumer spending, interest and foreign
currency exchange rate fluctuations, availability of commodities, supplies and
raw materials, competition, acquisitions or divestitures, changes in government
defense budgets, employment and pension matters, contingencies related to actual
or alleged environmental contamination, claims and concerns, intellectual
property matters, personal injury claims, governmental investigations, tax
obligations, and changes in generally accepted accounting principles. Other
factors are more thoroughly set forth in Item 1. Business and Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Forward-Looking Statements in the ITT Industries, Inc. Annual
Report on Form 10-K for the fiscal year ended December 31, 2004, and other of
its filings with the Securities and Exchange Commission. The Company undertakes
no obligation to update any forward-looking statements, whether as a result of
new information, future events or otherwise.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in the information concerning market
risk as stated in the Company's 2004 Annual Report on Form 10-K.
ITEM 4. CONTROLS AND PROCEDURES
(a) The Chief Executive Officer and Chief Financial Officer of the Company
have evaluated the effectiveness of our disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end
of the period covered by this report. Based on such evaluation, such officers
have concluded that, as of the end of the period covered by this report the
Company's disclosure controls and procedures are effective in identifying, on a
timely basis, material information required to be disclosed in our reports filed
or submitted under the Exchange Act.
(b) There have been no changes in our internal control over financial
reporting during the last fiscal quarter that have materially affected or are
reasonably likely to materially affect the Company's internal control over
financial reporting.
PART II.
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The following should be read in conjunction with Note 13 to the unaudited
interim consolidated condensed financial statements in Part I of this Report, as
well as Part I, Item 3 of the 2004 Annual Report on Form 10-K.
The Company and its subsidiaries from time to time are involved in legal
proceedings that are incidental to the operation of their businesses. Some of
these proceedings allege damages against the Company relating to environmental
liabilities, intellectual property matters, copyright infringement, personal
injury claims, employment and pension matters, government contract issues and
commercial or contractual disputes, sometimes related to acquisitions or
divestitures. The Company will continue to vigorously defend itself against all
claims. Although the ultimate outcome of any legal matter cannot be predicted
with certainty, based on present information including the Company's assessment
of the merits of the particular claim, as well as its current reserves and
insurance coverage, the Company does not expect that such legal proceedings will
have any material adverse impact on the cash flow, results of operations, or
financial condition of the Company on a consolidated basis in the foreseeable
future.
38
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
ISSUER PURCHASES OF EQUITY SECURITIES
<Table>
<Caption>
TOTAL NUMBER OF AVERAGE PRICE PAID
PERIOD SHARES PURCHASED(1) PER SHARE(2)
- ------ ------------------- ------------------
4/1/05 - 4/30/05................................... 59,497 $89.32
5/1/05 - 5/31/05................................... 147,367 $91.84
6/1/05 - 6/30/05................................... 257,083 $97.15
</Table>
- ---------------
(1) All share repurchases were made in open-market transactions. None of these
transactions were made pursuant to a publicly announced repurchase plan.
(2) Average price paid per share is calculated on a settlement basis and
excludes commission.
The Company's strategy for cash flow utilization is to pay dividends first
and then repurchase Company common stock to cover option exercises made pursuant
to the Company's stock option programs. The remaining cash is then available for
strategic acquisitions and discretionary repurchases of the Company's common
stock.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At ITT Industries' annual meeting of shareholders held on May 10, 2005, the
persons whose names are set forth below were elected as directors, constituting
the entire Board of Directors. Relevant voting information for each person
follows:
<Table>
<Caption>
VOTES
----------------------
FOR WITHHELD
---------- ---------
Curtis J. Crawford.......................................... 79,231,468 1,010,415
Christina A. Gold........................................... 79,286,419 955,464
Ralph F. Hake............................................... 79,309,316 932,567
John J. Hamre............................................... 76,577,998 3,663,885
Raymond W. LeBoeuf.......................................... 78,129,155 2,112,728
Steven R. Loranger.......................................... 78,623,058 1,618,825
Frank T. MacInnis........................................... 79,190,284 1,051,599
Linda S. Sanford............................................ 79,279,665 962,218
Markos I. Tambakeras........................................ 79,179,491 1,062,392
</Table>
In addition to the election of directors, two other votes were taken at the
meeting: 1) The appointment of Deloitte & Touche LLP as the Company's
independent registered public accounting firm for 2005 was ratified by a vote of
78,897,442 shares in favor, 675,852 shares against, and 668,589 shares
abstained; and 2) The Amendment to the Restated Articles of Incorporation was
approved with the following votes: for approval of the amendment: 77,273,014
shares voted; against approval of the amendment: 2,119,941 shares voted and
abstained: 848,928 shares. There were no other matters presented for a vote at
the meeting.
ITEM 6. EXHIBITS
(a) See the Exhibit Index for a list of exhibits filed herewith.
39
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ITT Industries, Inc.
(Registrant)
By /s/ ROBERT J. PAGANO, JR.
------------------------------------
Robert J. Pagano, Jr.
Vice President and Corporate
Controller
(Principal accounting officer)
August 5, 2005
40
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
- ------- ----------- --------
(3) (a) ITT Industries, Inc.'s Restated Articles of Incorporation...... Attached
(b) Form of Rights Agreement between ITT Indiana, Inc. and The Bank
of New York, as Rights Agent................................... Incorporated by reference to Exhibit 1
to ITT Industries' Form 8-A dated
December 20, 1995 (CIK No. 216228, File
No. 1-5672).
(c) ITT Industries, Inc.'s By-laws, as amended December 7, 2004.... Incorporated by reference to Exhibit
99.2 to ITT Industries' Form 8-K Current
Report dated December 9, 2004. (CIK No.
216228, File No. 1-5672).
(4) Instruments defining the rights of security holders, including
indentures......................................................... Not required to be filed. The Registrant
hereby agrees to file with the
Commission a copy of any instrument
defining the rights of holders of
long-term debt of the Registrant and its
consolidated subsidiaries upon request
of the Commission.
(10) Material contracts.................................................
(10.1)* Employment Agreement dated as of February 5, 2004 between ITT
Industries, Inc. and Edward W. Williams............................ Incorporated by reference to Exhibit
10.1 of ITT Industries' Form 10-K for
the year ended December 31, 2004 (CIK
No. 216228, File No. 1-5672).
(10.2)* Employment Agreement dated as of June 28, 2004 between ITT
Industries, Inc. and Steven R. Loranger............................ Incorporated by reference to Exhibit
10.2 of ITT Industries' Form 10-Q for
the quarter ended June 30, 2004 (CIK No.
216228, File No. 1-5672).
(10.3)* Form of Non-Qualified Stock Option Award Agreement for Band A
Employees.......................................................... Incorporated by reference to Exhibit
10.3 of ITT Industries' Form 10-K for
the year ended December 31, 2004 (CIK
No. 216228, File No. 1-5672).
(10.4)* Form of Non-Qualified Stock Option Award Agreement for Band B
Employees.......................................................... Incorporated by reference to Exhibit
10.4 of ITT Industries' Form 10-K for
the year ended December 31, 2004 (CIK
No. 216228, File No. 1-5672).
(10.5)* ITT Industries, Inc. 2003 Equity Incentive Plan (amended and
restated as of July 13, 2004)...................................... Incorporated by reference to Exhibit
10.4 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
</Table>
41
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
- ------- ----------- --------
(10.6)* ITT Industries, Inc. 1997 Long-Term Incentive Plan (amended and
restated as of July 13, 2004)...................................... Incorporated by reference to Exhibit
10.5 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.7)* ITT Industries, Inc. 1997 Annual Incentive Plan for Executive
Officers (amended and restated as of July 13, 2004)................ Incorporated by reference to Exhibit
10.6 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.8)* 1994 ITT Industries Incentive Stock Plan (amended and restated as
of July 13, 2004).................................................. Incorporated by reference to Exhibit
10.7 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.9)* ITT Industries Special Senior Executive Severance Pay Plan (amended
and restated as of July 13, 2004).................................. Incorporated by reference to Exhibit
10.8 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.10)* ITT Industries 1996 Restricted Stock Plan for Non-Employee
Directors (amended and restated as of July 13, 2004)............... Incorporated by reference to Exhibit
10.9 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.11)* ITT Industries Enhanced Severance Pay Plan (amended and restated as
of July 13, 2004).................................................. Incorporated by reference to Exhibit
10.10 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.12)* ITT Industries Deferred Compensation Plan (Effective as of January
1, 1995 including amendments through July 13, 2004)................ Incorporated by reference to Exhibit
10.11 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.13)* ITT Industries 1997 Annual Incentive Plan (amended and restated as
of July 13, 2004).................................................. Incorporated by reference to Exhibit
10.12 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
</Table>
42
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
- ------- ----------- --------
(10.14)* ITT Industries Excess Pension Plan IA.............................. Incorporated by reference to Exhibit
10.13 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.15)* ITT Industries Excess Pension Plan IB.............................. Incorporated by reference to Exhibit
10.14 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.16)* ITT Industries Excess Pension Plan II (as amended and restated as
of July 13, 2004).................................................. Incorporated by reference to Exhibit
10.15 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.17)* ITT Industries Excess Savings Plan (as amended and restated as of
July 13, 2004)..................................................... Incorporated by reference to Exhibit
10.16 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.18)* ITT Industries Excess Benefit Trust................................ Incorporated by reference to Exhibit
10.17 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(10.19) Form of indemnification agreement with directors................... Incorporated by reference to Exhibit
10(h) to ITT Industries' Form 10-K for
the fiscal year ended December 31, 1996
(CIK No. 216228, File No. 1-5672).
(10.20) Distribution Agreement among ITT Corporation, ITT Destinations,
Inc. and ITT Hartford Group, Inc. ................................. Incorporated by reference to Exhibit
10.1 listed under ITT Industries' Form
8-B dated December 20, 1995 (CIK No.
216228, File No. 1-5672).
(10.21) Intellectual Property License Agreement between and among ITT
Corporation, ITT Destinations, Inc. and ITT Hartford Group,
Inc. .............................................................. Incorporated by reference to Exhibit
10.2 to ITT Industries' Form 8-B dated
December 20, 1995 (CIK No. 216228, File
No. 1-5672).
</Table>
43
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
- ------- ----------- --------
(10.22) Tax Allocation Agreement among ITT Corporation, ITT Destinations,
Inc. and ITT Hartford Group, Inc. ................................. Incorporated by reference to Exhibit
10.3 to ITT Industries' Form 8-B dated
December 20, 1995 (CIK No. 216228, File
No. 1-5672).
(10.23) Employee Benefit Services and Liability Agreement among ITT
Corporation, ITT Destinations, Inc. and ITT Hartford Group,
Inc. .............................................................. Incorporated by reference to Exhibit
10.7 to ITT Industries' Form 8-B dated
December 20, 1995 (CIK No. 216228, File
No. 1-5672).
(10.24) Five-year Competitive Advance and Revolving Credit Facility
Agreement dated as of November 10, 2000............................ Incorporated by reference to Exhibit 10
to ITT Industries' Form 8-K Current
Report dated November 20, 2000 (CIK No.
216228, File No. 1-5672).
(10.25) Agreement with Valeo SA with respect to the sale of the Automotive
Electrical Systems Business........................................ Incorporated by reference to Exhibit
10(b) to ITT Industries' Form 10-Q
Quarterly Report for the quarterly
period ended June 30, 1998 (CIK No.
216228, File No. 1-5672).
(10.26) Agreement with Continental AG with respect to the sale of the
Automotive Brakes and Chassis Business............................. Incorporated by reference to Exhibit 2.1
to ITT Industries' Form 8-K Current
Report dated October 13, 1998 (CIK No.
216228, File No. 1-5672).
(10.27) Participation Agreement among ITT Industries, Rexus L.L.C. (Rexus)
and Air Bail S.A.S. and RBS Lombard, Inc., as investors, and master
lease agreement, lease supplements and related agreements between
Rexus as lessor and ITT Industries, as lessee...................... Incorporated by Reference to Exhibits at
Item 9.01 to ITT Industries Form 8-K
Current Report dated December 20, 2004
(CIK No. 216228, File No. 1-5672).
(10.28)* Form of Restricted Stock Award for Non-Employee Directors.......... Incorporated by reference to Exhibit
10.28 of ITT Industries' Form 10-Q for
the quarter ended March 31, 2005 (CIK
No. 216228, File No. 1-5672).
(10.29)* Form of Restricted Stock Award for Employees....................... Incorporated by reference to Exhibit
10.29 of ITT Industries' Form 10-Q for
the quarter ended March 31, 2005 (CIK
No. 216228, File No. 1-5672).
</Table>
44
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
- ------- ----------- --------
(10.30) Amended and Restated 364-day Revolving Credit Agreement............ Incorporated by reference to Exhibits
10.1 and 10.2 to ITT Industries' Form
8-K dated March 28, 2005 (CIK No.
216228, File No. 1-5672).
(10.31)* Employment Agreement dated as of May 31, 2005 and effective as of
July 1, 2005 between ITT Industries, Inc. and George E. Minnich.... Attached
(11) Statement re computation of per share earnings..................... Not required to be filed.
(18) Letter re change in accounting principles.......................... None.
(22) Published report regarding matters submitted to vote of security
holders............................................................ Not required to be filed.
(24) Power of attorney.................................................. None.
(31.1) Certification pursuant to Rule 13a-14(a)/15d-14(a) of the
Securities Exchange Act of 1934, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.................................. Filed herewith.
(31.2) Certification pursuant to Rule 13a-14(a)/15d-14(a) of the
Securities Exchange Act of 1934, as adopted pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.................................. Filed herewith.
(32.1) Certification Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.......... This Exhibit is intended to be furnished
in accordance with Regulation S-K Item
601(b)(32)(ii) and shall not be deemed
to be filed for purposes of Section 18
of the Securities Exchange Act of 1934
or incorporated by reference into any
filing under the Securities Act of 1933
or the Securities Exchange Act of 1934,
except as shall be expressly set forth
by specific reference.
(32.2) Certification Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.......... This Exhibit is intended to be furnished
in accordance with Regulation S-K Item
601(b)(32)(ii) and shall not be deemed
to be filed for purposes of Section 18
of the Securities Exchange Act of 1934
or incorporated by reference into any
filing under the Securities Act of 1933
or the Securities Exchange Act of 1934,
except as shall be expressly set forth
by specific reference.
</Table>
- ---------------
* Management compensatory plan
45