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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-K
ANNUAL REPORT
<Table>
<Caption>
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005
OR
[ ] 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 NO. 1-5672
---------------------
ITT INDUSTRIES, INC.
<Table>
INCORPORATED IN THE STATE OF INDIANA 13-5158950
(I.R.S. EMPLOYER IDENTIFICATION NO.)
</Table>
4 WEST RED OAK LANE, WHITE PLAINS, NY 10604
(PRINCIPAL EXECUTIVE OFFICE)
TELEPHONE NUMBER: (914) 641-2000
---------------------
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT, ALL OF WHICH ARE
REGISTERED ON THE NEW YORK STOCK EXCHANGE, INC.:
COMMON STOCK, $1 PAR VALUE (ALSO REGISTERED ON PACIFIC STOCK EXCHANGE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
NONE.
Indicate by check mark if the registrant is a well-known seasoned issuer,
as defined in Rule 405 of the Securities Act. Yes [X] No [ ]
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Securities Exchange Act. Yes [ ]
No [X]
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (sec.229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. [X]
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
[X] Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated
filer [ ]
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
The aggregate market value of the Common Stock of the registrant held by
non-affiliates of the registrant on June 30, 2005 was approximately $9.0
billion.
As of February 28, 2006, there were outstanding 184,707,010 shares of
Common Stock, $1 par value, of the registrant.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive proxy statement filed or to be
filed with the Securities and Exchange Commission pursuant to Regulation 14A
involving the election of directors at the annual meeting of the shareholders of
the registrant scheduled to be held on May 9, 2006, are incorporated by
reference in Part III of this Form 10-K.
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TABLE OF CONTENTS
<Table>
<Caption>
ITEM PAGE
PART 1 Business 2
I 1A Risk Factors 11
1B Unresolved Staff Comments 12
2 Properties 12
3 Legal Proceedings 12
4 Submission of Matters to a Vote of Security Holders 14
* Executive Officers of the Registrant 14
PART 5 Market for Registrant's Common Equity and Related
II Stockholder Matters 15
6 Selected Financial Data 16
7 Management's Discussion and Analysis of Financial Condition
and Results of Operations 16
7A Quantitative and Qualitative Disclosures About Market Risk 32
8 Financial Statements and Supplementary Data 33
9 Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 33
9A Controls and Procedures 33
9B Report of Independent Registered Public Accounting Firm 34
PART 10 Directors and Executive Officers of the Registrant 36
III 11 Executive Compensation 36
12 Security Ownership of Certain Beneficial Owners and
Management 36
13 Certain Relationships and Related Transactions 36
14 Principal Accounting Fees and Services 36
PART 15 Exhibits, Financial Statement Schedules, and Reports on Form
IV 8-K 36
</Table>
<Table>
<Caption>
Signatures II-1
Exhibit Index II-2
</Table>
* Included pursuant to Instruction 3 to Item 401(b) of Regulation S-K.
1
PART I
ITEM 1. BUSINESS
ITT Industries, Inc., with 2005 sales and revenues of approximately $7.43
billion, is a global multi-industry company engaged directly and through its
subsidiaries in the design and manufacture of a wide range of engineered
products and the provision of related services. Our four principal business
segments are Fluid Technology, Defense Electronics & Services, Motion & Flow
Control, and Electronic Components. Prior to January 1, 2002, these segments
were named, respectively, Pumps & Complementary Products, Defense Products &
Services, Specialty Products and Connectors & Switches. Also prior to January 1,
2002, Engineered Process Solutions Group (formerly named Engineered Valves) and
now part of our Fluid Technology Segment, reported into Specialty Products (now,
Motion & Flow Control). Material herein is presented on a basis consistent with
those business segment changes.
Our World Headquarters is located at 4 West Red Oak Lane, White Plains, NY
10604. We have approximately 40,900 employees based in 57 countries. Unless the
context otherwise indicates, references herein to "ITT Industries," the
"Company," and such words as "we," "us," and "our" include ITT Industries, Inc.
and its subsidiaries. ITT Industries, Inc. was incorporated on September 5, 1995
in Indiana. Reference is made to "-- COMPANY HISTORY AND CERTAIN RELATIONSHIPS."
Our telephone number is (914) 641-2000.
The table below shows, in percentage terms, our consolidated sales and
revenues and operating income attributable to each of our ongoing lines of
business for the last three years. In 2005 Electronic Components operating
income included a $222.7 million impairment charge.
<Table>
<Caption>
Year Ended
December 31,
------------------------
2005 2004 2003
- ---------------------------------------------------------------
SALES AND REVENUES
Fluid Technology 38% 41% 44%
Defense Electronics & Services 43 38 35
Motion & Flow Control 9 10 10
Electronic Components 10 11 11
------ ------ ------
100% 100% 100%
====== ====== ======
OPERATING INCOME
Fluid Technology 65% 47% 54%
Defense Electronics & Services 72 42 38
Motion & Flow Control 24 20 20
Electronic Components (43) 5 3
Other (18) (14) (15)
------ ------ ------
100% 100% 100%
====== ====== ======
</Table>
BUSINESS AND PRODUCTS
FLUID TECHNOLOGY
Fluid Technology is a leading global provider of fluid systems and
solutions for the Residential & Commercial Water, Building Trades, Wastewater
Handling, Treatment, and Industrial & BioPharm markets. Sales and revenues were
approximately $2.84 billion, $2.59 billion, and $2.25 billion for 2005, 2004 and
2003, respectively.
Fluid Technology is engaged in the design, development, production, sale,
and after-sale support of a broad range of pumps, mixers, controls and treatment
systems for municipal, industrial, residential, agricultural, and commercial
applications.
Major production and assembly facilities are located in Argentina,
Australia, Austria, Brazil, Canada, China, England, Germany, Italy, Malaysia,
Mexico, the Philippines, South Korea, Sweden, Poland and the United States.
Principal customers are in North America, Europe, the Middle East, Africa,
Latin and South America, and the Asia/Pacific region. No single customer
accounted for more than 1.8% of 2005 sales for Fluid Technology. Sales are made
directly to customers or through independent distributors and representatives.
As one of the world's leading producers of fluid handling equipment and
related products for treating and recycling wastewater, ITT Industries actively
promotes more efficient use and re-use of water and endeavors to raise the level
of awareness of the need to preserve and protect the earth's water resources.
Residential & Commercial Water
ITT Industries' broad range of pumps, systems and accessories for
residential, municipal and commercial applications including water, wells,
pressure boosters, and agriculture packages and systems are branded Goulds
Pumps, Red Jacket Water Products, Marlow Pumps, Lowara, and Vogel.
Flowtronex is the product brand for package systems for turf irrigation and
water booster systems for municipal systems, golf courses and irrigation
systems.
Building Trades
Leading product brands such as Bell & Gossett(R), McDonnell & Miller(R),
and Hoffman Specialty(R), provide a broad variety of products for environmental
control in buildings and for building service and utility applications including
liquid-based heating and air conditioning systems, liquid level control, and
steam trap products for boiler and steam systems. ITT Industries services the
2
European and Middle East building trade markets with pressure boosting pumps
under the Lowara and Vogel names and A-C Fire Pump is a global UL/FM Fire pump
package provider.
Wastewater Handling
The Flygt Group is the originator and largest manufacturer of submersible
pumps and mixers which form the heart of many of the world's sewage and
wastewater treatment facilities. Combining Flygt's submersible pumps and mixers
with Sanitaire and ABJ products (discussed below) provides a solution to
customers' needs for complete system wastewater treatment. Dry mount pumps from
A-C Pump provide an alternative technical solution to submersible pumps. Flygt
is a market leader and respected brand for commercial and municipal submersible
wastewater pumps. ITT Industries' strong position in the dewatering market is
generated by Flygt, Robot and Grindex and, in the residential effluent and
sewage pumps systems area, Goulds Pumps and Lowara are market leaders.
Treatment
Through the Sanitaire(R), and ABJ(R) brands, ITT Industries is a leader in
biological treatment systems for municipal and industrial wastewater treatment.
The broad range of products includes ceramic and membrane fine bubble diffusers,
and stainless steel coarse bubble diffusers. Aquious provides advanced membrane
filtration engineered systems, reverse osmosis systems and portable filtration
technology. Flygt's submersible mixers and Sanitaire's diffused aeration systems
play a crucial role in the biological treatment phase ensuring that incoming
flows reach optimal nitrification and prevent sedimentation in the aeration
tank. ABJ is a unique Sequence Batch Reactor (SBR) allowing a continuous inflow.
Through the addition of Aquious in 2004, ITT Industries offers advanced membrane
filtration for both municipal and industrial applications. WEDECO is a leading
provider of ultraviolet disinfection and ozone oxidation systems.
Industrial & BioPharm
ITT Industries, under the Goulds Pumps brand name, offers standard as well
as application specific pumps for the industrial marketplace. Examples of
typical applications include general industrial, mining, chemical, pulp and
paper, power, oil refining and gas processing. Fabri-Valve knife gate valves are
designed to handle demanding applications found in pulp and paper plants
including pulping, recovery and bleaching.
ITT Industries offers a wide array of valve and turnkey systems that are at
the heart of extremely demanding manufacturing processes, especially of
biological and pharmaceutical compounds. The design, engineering, fabrication,
and installation of high purity process modules, skid systems and stainless
steel vessels for the biopharm and hygienic industries are marketed under the
Pure-Flo brand.
Global Service and Customer Care
Fluid Technology has a global network of service centers for aftermarket
customer care. Our aftermarket capabilities include the repair and service of
all brands of pumps and rotating equipment, engineering upgrades, contract
maintenance, and service.
System Solutions
ITT Industries strives to provide its global customer base with the systems
and solutions they need to meet their ever increasing demands on cost control
and efficiencies. Through the overarching strategic Value Based Six Sigma
program, ITT Industries now has in place company wide systems for rapid product
development.
Our strategy to expand downstream to better service our customers has moved
us from a product producer to a solution provider. This strategy has guided us
in our acquisitions. For example, today ITT Industries can extend its core
offering of submersible pumps and mixers with systems to control plant
operation, technologies that analyze the waste stream, and products and systems
to treat water through biological, treatment, filtration, oxidation and
disinfection processes.
In the industrial markets, our pump systems are now supplied with
intelligent control systems and predictive conditioning monitoring. Customers
engaging our "total systems approach" generally find dramatically lower energy
consumption, maintenance and overall life cycle costs.
The following table illustrates the percentage of sales and revenues for
the listed categories for the periods specified:
<Table>
<Caption>
Year Ended
December 31,
------------------------
2005 2004 2003
- -----------------------------------------------------------------
Residential & Commercial Water 19% 19% 21%
Building Trades 12 12 13
Wastewater Handling 31 31 31
Treatment 17 16 11
Industrial & BioPharm 21 22 24
------ ------ ------
100% 100% 100%
====== ====== ======
</Table>
Management believes that Fluid Technology has a solid technology base and
proven expertise in designing its products to meet customer needs. Management
also believes that the continuing development of new products will enable Fluid
Technology to maintain and build market leadership positions in served markets.
Order backlog for Fluid Technology was $556.2 million in 2005, compared
with $575.5 million in 2004, and $374.6 million in 2003.
3
Brand names include Aquious(TM), ABJ(R), A-C Pump(R), Bell & Gossett(R),
Flygt(R), Goulds Pumps(R), Hoffman Specialty(R), ITT Standard(R), Lowara(R),
Marlow Pumps, McDonnell & Miller(R), Pure-Flo, Sanitaire(R), Vogel(R) and
WEDECO.
The level of activity in Fluid Technology is dependent upon economic
conditions in the markets served, weather conditions, and in the case of
municipal markets, the ability of municipalities to fund projects for our
products and services, and other factors. See "-- COMPETITION."
Fluid Technology companies have approximately 11,800 employees and have 46
major facilities in 16 countries.
DEFENSE ELECTRONICS & SERVICES
Defense Electronics & Services, with sales and revenues of approximately
$3.22 billion, $2.41 billion, and $1.79 billion for 2005, 2004 and 2003,
respectively, develops, manufactures, and supports high technology electronic
systems and components for worldwide defense and commercial markets, and
provides communications systems and engineering and applied research. Operations
are in North America, Europe, and the Middle East.
Defense Electronics & Services consists of the two major areas of (i)
Systems and Services and (ii) Defense Electronics. Systems and Services consists
of our systems and Advanced Engineering and Sciences businesses. Defense
Electronics consists of our Aerospace and Communications, Space Systems, Night
Vision, Avionics and Radar businesses.
Systems and Services
The Systems Division provides a broad range of systems integration,
communications, engineering and technical support solutions ranging from
strategic command and control and tactical warning and attack assessment, to
test, training and range evaluation. The Systems Division also provides total
systems support solutions for combat equipment, tactical information systems and
facilities management.
The Advanced Engineering & Sciences Division provides a wide range of
research, technologies and engineering support services to government,
industrial and commercial customers. In addition, the division provides products
and services for information collection, information processing and control,
information security and telecommunications.
Defense Electronics
The ITT Aerospace/Communications Division ("A/CD") develops wireless
networking systems for tactical communications. A/CD is the creator of the core
technology used in the world's two largest tactical digitization programs: the
U.S. Tactical Internet and the U.K. Bowman program. This technology has created
a family of interconnected products including the Single Channel Ground and
Airborne Radio System (SINCGARS). A/CD is at the leading edge of networking with
its routers and algorithms. These devices permit self-organizing and
self-healing connections all across the battlespace. A/CD is also developing the
newest ground to air radios for the Federal Aviation Administration.
The Space Systems Division ("SSD") provides innovative solutions to
customers in the Department of Defense, intelligence, space science, and
commercial aerospace communities to help them visualize and understand critical
events anywhere on earth, in the air, or in space. SSD's offering includes
intelligence, surveillance and reconnaissance systems, image information
solutions, sophisticated meteorological imagers and sounders, GPS navigation
payload systems and components, commercial remote sensing and space science
systems.
The Night Vision Division supplies the most advanced night vision equipment
available to U.S. and allied military forces. The equipment includes night
vision goggles for fixed and rotary-wing aviators; night vision goggles,
monoculars and weapon sights for ground forces, and image intensifier tubes
required for all of these systems. Night Vision is developing the Enhanced Night
Vision Goggle (ENVG) which optically combines image intensification and infrared
technology allowing for improved mobility and situational awareness. The
division is also supplying high-performance night vision devices to federal,
state and local law enforcement officers in support of homeland security.
The Avionics Division produces information and electronic warfare
technologies for a broad range of military aircraft to help protect aircraft
from radar-guided weapons. The Avionics Division is developing for the United
States Army and Special Operations Forces the next-generation fully integrated
airborne electronic warfare system for rotary wing aircraft called the Suite of
Integrated Radio Frequency Countermeasures ("SIRFC"). In addition, the Avionics
Division has developed a SIRFC based system for fixed wing aircraft such as the
F-16, and is also the supplier for the United States Integrated Defensive
Countermeasures ("IDECM") system for fixed wing aircraft such as the F/A-18 E/F
fighter fleet. The Avionics Division is a co-developer of the integrated
communications, navigation and identification system for the U.S. Air Force F-22
Raptor.
The ITT Gilfillan Division produces military and civilian air traffic
control systems and air defense radars. Gilfillan's latest generation of air
traffic control radar systems includes fixed and mobile terminal airport
surveillance radars and precision approach radars for landing
4
assistance in extreme physical environments. Gilfillan also produces and
installs air surveillance and weapons control for both ship and land-based
applications.
The following table illustrates the percentage of sales and revenues for
the listed categories for the periods specified:
<Table>
<Caption>
Year Ended
December 31,
------------------------
2005 2004 2003
- ---------------------------------------------------------------
SYSTEMS AND SERVICES
Systems 33% 35% 32%
Advanced Engineering & Services 9 11 13
DEFENSE ELECTRONICS
A/CD 17 15 15
SSD 20 14 10
Night Vision 10 11 11
Avionics 8 9 12
Gilfillan 3 5 7
------ ------ ------
100% 100% 100%
====== ====== ======
</Table>
Defense Electronics & Services sells its products to a wide variety of
governmental and non-governmental entities located throughout the world.
Approximately 94% of 2005 sales and revenues of Defense Electronics & Services
were to governmental and international entities; approximately 83% of 2005 total
sales & revenues were to the United States Government (principally in defense
programs).
A substantial portion of the work of Defense Electronics & Services is
performed in the United States under prime contracts and subcontracts, some of
which by statute are subject to profit limitations and all of which are subject
to termination by the United States Government. Apart from the United States
Government, international customers and commercial customers accounted for
approximately 11% and 6%, respectively, of 2005 sales and revenues for Defense
Electronics & Services.
Sales and revenues to non-governmental entities as a percentage of total
sales and revenues for Defense Electronics & Services were 6% in 2005, 1% in
2004 and 5% in 2003. Certain products sold by Defense Electronics & Services
have particular commercial application, including night vision devices. In
addition, Defense Electronics & Services, in partnership with California
Commercial Spaceport, Inc. in a venture known as Spaceport Systems
International, provides full service payload processing and launch capability
for small to medium satellite systems in low polar earth orbits.
Funded order backlog for Defense Electronics & Services was $3.48 billion
in 2005 compared with $3.46 billion in 2004 and $3.19 billion in 2003.
The level of activity in Defense Electronics & Services is affected by
overall defense budgets, the portion of those budgets devoted to products and
services of the type provided by Defense Electronics & Services, the Company's
ability to win new award contracts, demand and budget availability for such
products and services in areas other than defense, and other factors. See
"-- COMPETITION."
Defense Electronics & Services companies have approximately 15,300
employees and are present in 208 facilities in 21 countries.
MOTION & FLOW CONTROL
The results for the Motion & Flow Control segment have been restated to
exclude the results of the Automotive Tubing business. The results of the
Automotive Tubing Operations are reflected in Discontinued Operations for 2005
and all comparative periods.
Motion & Flow Control, with sales and revenues of approximately $670.0
million, $633.8 million and $545.0 million for 2005, 2004 and 2003,
respectively, comprises a group of units operating in the motion control and
flow control market segments. Operations are located principally in North
America and Europe, with sales in Latin America and Asia supported through joint
ventures or distribution arrangements. Motion & Flow Control consists of the
Motion Control, Marine & Leisure and Flow Control groups.
Motion Control:
ITT Industries Friction Products designs and manufactures friction pads and
backplates for braking applications on vehicles. From three facilities in Italy
and one in the United States, Friction Products services most European "OEM"
(Original Equipment Manufacturers) auto makers and also operates a substantial
facility for research and testing of new materials. Approximately 53% of
Friction Products' 2005 business is in aftermarket activity.
Koni designs and markets adjustable shock absorbers under the brand name
KONI(R) for high performance vehicles, trucks, buses, railway equipment and
specialty applications such as bridges. Customers are principally in Europe,
North America, and Asia.
Marine & Leisure:
The Marine & Leisure division is the world's leading producer of pumps and
related products for the marine and leisure markets. Products sold worldwide
under the brand names Jabsco(R), Rule(R), Flojet(R), and Danforth(R) also serve
the recreational vehicle market. Flojet is also a leading producer of pumps and
components for beverage applications. Both Jabsco and Flojet also produce pumps
for other specialty industrial fluid dispensing applications.
The HydroAir Division designs and manufacturers jets, pumps and other
components for manufacturers of whirlpool baths and hot tub spas.
5
Flow Control:
ITT Aerospace Controls is a worldwide supplier of valves, actuators and
switches for the commercial, military, regional, business and general aviation
markets. Products are principally sold to OEMs and the aftermarket in North and
South America, Europe and Asia. Aerospace Controls also sells switches and
regulators into the oil and gas, fluid power, power generation, and chemical
markets.
ITT Conoflow markets pressure regulators and diaphragm seals for industrial
applications and natural gas vehicles.
The following table illustrates the percentage of sales and revenues for
the listed categories for the periods specified:
<Table>
<Caption>
Year Ended
December 31,
------------------------
2005 2004 2003
- ---------------------------------------------------------------
Motion Control 57% 57% 54%
Marine & Leisure 32 33 35
Flow Control 11 10 11
------------------------
100% 100% 100%
========================
</Table>
The level of activity for Motion & Flow Control depends upon economic
conditions in the served markets, particularly the automotive, aerospace, and
marine and leisure markets, weather conditions and natural disasters. See
"-- COMPETITION." Order backlog is not a significant factor in this segment.
Motion & Flow Control companies have approximately 2,800 employees and have
20 facilities located in 8 countries.
ELECTRONIC COMPONENTS
Electronic Components, with sales and revenues of approximately $708.9
million, $696.9 million, and $585.7 million for 2005, 2004 and 2003,
respectively, designs and manufactures connectors, interconnects, cable
assemblies, switches, keypads, multi-function grips, panel switch assemblies,
dome arrays, input/output (I/O) card kits and smart card systems.
Electronic Components provides products and services for the areas of
communications, industrial, transportation, military/aerospace, commercial
aircraft, computer, and consumer uses.
In the communications area, Electronic Components designs products and
provides services specifically for today's telecommunications infrastructure and
networking industries. These products and services include connectors,
interconnects, cable assemblies, keypads, switches, panel switch assemblies, I/O
card kits, and smart card systems. They are used in wireless networks, carrier
networks, enterprise networks, datacommunications, and subscriber equipment
applications.
In the industrial area, Electronic Components' products are incorporated in
various industrial equipment and process control products, including DL zero
insertion force connectors, cable assemblies, electromechanical switches, and
device control interfaces. They are used in industrial controls, production
equipment, instrumentation and medical equipment.
In the transportation area, Electronic Components' products are
incorporated in heavy-vehicles and equipment, mass transit, agriculture
construction equipment and automotive applications. The products include high
reliability connectors, multi-function control assemblies, and switches used in
powertrain, instrument controls, and chassis applications.
In the military/aerospace area, Electronic Components supplies products for
mission-critical applications ranging from below the ocean to deep in space. The
products include circular, rack and panel, microminiature, fiber optic, and
"special" connectors used in military electronics, missiles, and space
applications.
In the commercial aircraft area, Electronic Components supplies highly
reliable light, space-saving products for technically advanced aircraft. The
products include rack and panel, circular, and fiber optic connectors. Their
applications range from avionics (flight control, communications and navigation)
to passenger in-flight entertainment systems.
In the computer area, Electronic Components supplies connectors and
switches for computers and computer peripherals.
In the consumer area, Electronic Components primarily supplies keypads for
remote control devices, switches for appliances and audio circular connectors.
The following table illustrates the percentage of sales and revenues for
the listed categories for the periods specified:
<Table>
<Caption>
Year Ended
December 31,
------------------------
2005 2004 2003
- ---------------------------------------------------------------
Communications 28% 29% 27%
Industrial 21 24 25
Transportation 23 18 18
Military/Aerospace 15 14 13
Commercial Aircraft 5 5 5
Computer 4 5 5
Consumer 4 5 7
------ ------ ------
100% 100% 100%
====== ====== ======
</Table>
Electronic Components' products are marketed primarily under the Cannon(R)
brand name.
The level of activity for Electronic Components is affected by overall
economic conditions in the markets served and the competitive position with
respect to price, quality, technical expertise, and customer service. See
"-- COMPETITION."
6
Electronic Components companies have approximately 8,200 employees and have
26 facilities located in 10 countries.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and see Note 23, "Business Segment Information," in the
Notes to Consolidated Financial Statements for further details with respect to
business segments.
ACQUISITIONS, DIVESTITURES, RESTRUCTURING, AND RELATED MATTERS
We have been involved in an ongoing program of acquiring businesses that
provide a rational fit with businesses we presently conduct and divesting
businesses that do not enhance that fit.
After completing a strategic review of the Electronic Components segment,
in the fourth quarter of 2005, the Company has decided to dispose of the
Switches component, which accounted for approximately 50% of the Electronics
Components segment revenue. The Company is in the process of preparing this
business for sale.
On February 7, 2006, the Company completed the sale of its automotive brake
& fuel tubing and components business to Cooper-Standard Automotive, a
privately-held company, for $205 million in cash, subject to certain
post-closing adjustments.
During 2005, the Fluid Technology Segment acquired Ellis K. Phelps and
Co.("Phelps"), the largest U.S. distributor of products sold under ITT's Flygt
brand for the wastewater pumping and treatment market.
On January 19, 2004 we announced the acquisition of over 81.4% of the
outstanding shares of WEDECO, which manufactures ultraviolet disinfection and
ozone oxidation systems, and of Shanghai Hengtong Purified Water Development Co.
Ltd. and Shanghai Hengtong Water Treatment Engineering Co. Ltd., a producer of
reverse-osmosis, membrane and other water treatment systems for the power,
pharmaceutical, chemical and manufacturing markets in China. In 2005, Fluid
Technology purchased additional shares of WEDECO. As a result of subsequent
purchases, we now own all of the outstanding shares of WEDECO.
On August 6, 2004, we acquired Allen Osborne Associates, Inc. a
manufacturer of high precision GPS systems receivers for our Defense Electronics
& Services business segment.
On August 13, 2004, we acquired Eastman Kodak Company's Remote Sensing
Systems business, which provides large scale optical and electro-optical high-
resolution satellite imaging. The acquisition is included in the Company's
Defense Electronics & Services business segment.
On December 20, 2004, we acquired Cleghorn Waring & Co. (Pumps) Limited, a
supplier of marine and industrial pumps in the United Kingdom for our Motion &
Flow Control segment.
On December 21, 2004 we disposed of our equity interest in Mesh Networks,
Inc. to Motorola, Inc.
During 2003, we acquired the business and assets of Uniserve Wellpoint
Srl., which produces a range of high quality diesel and electric powered, vacuum
primed centrifugal pumps and spear or well point dewatering systems for our
Fluid Technology segment.
On January 31, 2003, we acquired the VEAM/TEC division of Northrop
Grumman's Component Technologies sector, which manufactures cylindrical, filter
and fiber optic connectors for the military/aerospace, industrial, mass transit,
entertainment and nuclear markets, for our Electronic Components segment.
In 2003, we sold substantially all of our interest in DigitalGlobe, Inc., a
developmental stage company providing high resolution satellite images to the
commercial markets.
See Note 4, "Restructuring and Asset Impairment Charges," in the Notes to
Consolidated Financial Statements regarding restructuring matters. See also
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources -- Status of Restructuring
Activities."
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Risks and Uncertainties -- Status of Automotive
Discontinued Operations" and Note 5, "Discontinued Operations," in the Notes to
Consolidated Financial Statements for information regarding the resolution of
certain disputes relating to the sales of automotive businesses during 1998 and
further information regarding discontinued operations.
GEOGRAPHIC MARKETS
In 2005, approximately 48% of the sales and revenues of Fluid Technology
was derived from North America, approximately 34% was derived from Europe, and
the Asia/ Pacific region accounted for approximately 9%. The geographic sales
mix differs among products and among divisions of Fluid Technology. Our
management anticipates growth opportunities in Eastern Europe, Central Asia,
Africa/ Middle East, Latin America, and the Asia/Pacific region. In China, Fluid
Technology has manufacturing and distribution facilities to produce and sell
both submersible pumps for the sewage handling and mining markets and vertical
turbine pumps including a foundry operation. The Company also has joint venture
sales and manufacturing and other operations in Eastern Europe, Latin America,
Africa/Middle East, and other locations in the Asia/Pacific region.
7
The geographic sales base of Defense Electronics & Services is
predominantly the United States, which accounted for approximately 89% of 2005
sales and revenues. Management of Defense Electronics & Services has been in the
process of increasing its international defense business and anticipates growth
opportunities in the Asia/Pacific region, Europe, and the Middle East.
The geographic sales base of Motion & Flow Control is predominantly in
North America and Europe. In 2005, approximately 31% of sales and revenues of
Motion & Flow Control were to customers in North America, approximately 63% of
sales were to customers in Europe and 4% were in Asia.
The geographic sales base of Electronic Components in Europe accounted for
34% of 2005 sales and revenues, North America accounted for 40% of 2005 sales
and revenues, and the Asia/Pacific region accounted for 24% of 2005 sales and
revenues. Electronic Components has manufacturing facilities within North
America, Central America, Europe, and the Asia/Pacific region.
See Note 23, "Business Segment Information," in the Notes to Consolidated
Financial Statements for further geographical information concerning sales and
revenues and long-lived assets.
COMPETITION
Substantially all of our operations are in highly competitive businesses.
The nature of the competition varies across all business segments. A number of
large companies engaged in the manufacture and sale of similar lines of products
and the provision of similar services are included in the competition, as are
many small enterprises with only a few products or services. Technological
innovation, price, quality, reliability, and service are primary factors in the
markets served by the various segments of our businesses. The Company's many
products and services go to market collectively linked by the ITT Industries
brand, the engineered blocks symbol, and the tagline "Engineered for life." The
brand has been enhanced and strengthened over the years through a coordinated
effort that includes advertising, public relations activities, trade exhibits,
and point of sale material.
The Fluid Technology segment is affected by strong competition, changing
economic conditions, industry overcapacity that leads to intense pricing
pressures, and public bidding in some markets. Management of Fluid Technology
responds to competitive pressures by utilizing strong distribution networks,
strong brand names, broad product lines focused on market niches, a global
customer base, a continuous stream of new products developed from a strong
technology base, a focus on quality and customer service, and through continuous
cost improvement programs and life cycle cost initiatives.
In Defense Electronics & Services, government defense budgets, particularly
in the United States, generally have increased after years of significant
declines. Business consolidations continue to change the competitive
environment. We have adjusted to these changes by focusing on the defense
electronics and services markets, by making process improvements, and through
capacity rationalization. In most of the markets served by Defense Electronics &
Services, competition is based primarily upon price, quality, technological
expertise, cycle time, and service.
In Motion & Flow Control, competition is a significant factor which has
resulted in increased pressure to reduce prices and, therefore, costs. Product
capability, quality, engineering support, and experience are also important
competitive factors.
In Electronic Components, competitive pressures continue on a global basis.
In most of the markets served, competition is based primarily upon price,
quality, technical expertise, and customer service.
EXPOSURE TO CURRENCY FLUCTUATIONS
Our companies conduct operations worldwide. We, therefore, are exposed to
the effects of fluctuations in relative currency values. Although our companies
engage in various hedging strategies with respect to their foreign currency
exposure where appropriate, it is not possible to hedge all such exposure.
Accordingly, our operating results may be impacted by fluctuations in relative
currency values.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Market Risk Exposures" and Note 18, "Financial
Instruments," in the Notes to Consolidated Financial Statements.
CYCLICALITY
Many of the markets in which our businesses operate are cyclical and can be
affected by general economic conditions in those markets. Since we manufacture
and sell products used in historically cyclical industries, such as the
construction, mining and minerals, transportation, defense, automotive, and
aerospace industries, as well as other industries served by our Electronic
Components business, we could be adversely affected by negative cycles affecting
those and other industries.
GOVERNMENTAL REGULATION AND RELATED MATTERS
A number of our businesses are subject to governmental regulation by law or
through contractual arrangements. Our Defense Electronics & Services businesses
perform work under contracts with the United States Department of Defense or
other agencies of the United States government and similar agencies in certain
other countries. These contracts are subject to security and facility clearances
under applicable governmental regulations, including regulations requiring
background investigations for high-level
8
security clearances for our executive officers. Most of such contracts are
subject to termination by the respective governmental parties on various
grounds, although such terminations have rarely occurred in the past.
A portion of our business is classified by the government and cannot be
specifically described. The operating results of these classified programs are
included in our consolidated financial statements. The business risks associated
with classified programs, as a general matter, do not differ materially from
those of our other government programs and products.
ENVIRONMENTAL MATTERS
We are subject to stringent environmental laws and regulations concerning
air emissions, water discharges and waste disposal. In the United States such
environmental laws and regulations 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 ("CERCLA" or
"Superfund"). Environmental requirements are significant factors affecting all
operations. Management believes that our companies closely monitor all of their
respective environmental responsibilities, together with trends in environmental
laws. We have established an internal program to assess compliance with
applicable environmental requirements for all of our facilities, both domestic
and overseas. The program is designed to identify problems in a timely manner,
correct deficiencies and prevent future noncompliance. Over the past several
years we have conducted regular, thorough audits of our major operating
facilities. As a result, management believes that our companies are in
substantial compliance with current environmental regulations. Management does
not believe, based on current circumstances, that we will incur compliance costs
pursuant to such regulations that will have a material adverse effect on our
financial position, results of operations or cash flows. In addition, we have
purchased insurance protection against certain unknown risks.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Risks and Uncertainties -- Environmental Matters" and
"Legal Proceedings".
RAW MATERIALS
All of our businesses require various raw materials (e.g., metals and
plastics), the availability and prices of which may fluctuate. Although some
cost increases may be recovered through increased prices to customers, our
operating results are exposed to such fluctuations. We attempt to control such
costs through purchasing and various other programs. In recent years, our
businesses have not experienced significant difficulties in obtaining an
adequate supply of raw materials necessary for our manufacturing processes.
RESEARCH, DEVELOPMENT, AND ENGINEERING
Our businesses require substantial commitment of resources for research,
development, and engineering activities to maintain significant positions in the
markets we serve. Such activities are conducted in laboratory and engineering
facilities at several of our major manufacturing locations. Research,
development, and engineering activities are important in all of our business
segments. During 2005, 2004 and 2003, the Company spent $177.6, $145.1 and
$115.2, respectively, on research and development. The Company also spent
$472.7, $473.2 and $430.4, respectively, on research, development and
engineering pursuant to customer contracts.
INTELLECTUAL PROPERTY
While we own and control a number of patents, trade secrets, confidential
information, trademarks, trade names, copyrights, and other intellectual
property rights which, in the aggregate, are of material importance to our
business, management believes that our business, as a whole, is not materially
dependent upon any one intellectual property or related group of such
properties. We are licensed to use certain patents, technology, and other
intellectual property rights owned and controlled by others, and, similarly,
other companies are licensed to use certain patents, technology, and other
intellectual property rights owned and controlled by us.
Patents, patent applications, and license agreements will expire or
terminate over time by operation of law, in accordance with their terms or
otherwise. Such expiration or termination of patents, patent applications, and
license agreements is not expected by our management to have a material adverse
effect on our financial position, results of operations or cash flows.
At the time of the Distribution (see -- "Company History and Certain
Relationships"), we obtained from ITT Destinations certain exclusive rights and
licenses to use the "ITT" name, mark, and logo. In 1999, we acquired all right,
title, and interest in and to the "ITT" name, mark, and logo and an assignment
of certain agreements granting The Hartford and ITT Educational Services, Inc.
(ESI) limited rights to use the "ITT" name, mark, and logo in their businesses.
These agreements are perpetual, and the licenses are subject to maintenance of
certain quality standards by both The Hartford and ESI.
EMPLOYEES
As of December 31, 2005, ITT Industries and its subsidiaries employed
approximately 40,900 people. Of this number, approximately 20,000 are employees
in the United States, of whom approximately 20% are represented by labor unions.
Generally, labor relations have been maintained in a normal and satisfactory
manner.
9
COMPANY HISTORY AND CERTAIN RELATIONSHIPS
ITT Industries, Inc. is an Indiana corporation incorporated on September 5,
1995 as ITT Indiana, Inc. It is the successor pursuant to a statutory merger of
ITT Corporation, a Delaware corporation ("ITT Delaware"), into ITT Indiana, Inc.
effective December 20, 1995, whereupon its name became ITT Industries, Inc. ITT
Delaware, originally incorporated in Maryland in 1920 as International Telephone
and Telegraph Corporation, was reincorporated in Delaware in 1968. It changed
its name to ITT Corporation in 1983. On December 19, 1995, ITT Delaware made a
distribution (the "Distribution") to its stockholders consisting of all the
shares of common stock of ITT Destinations, Inc., a Nevada corporation ("ITT
Destinations"), and all the shares of common stock of ITT Hartford Group, Inc.,
a Delaware corporation (now known as The Hartford Financial Services Group, Inc.
or "The Hartford"), both of which were wholly-owned subsidiaries of ITT
Delaware. In connection with the Distribution, ITT Destinations changed its name
to ITT Corporation. On February 23, 1998, ITT Corporation was acquired by
Starwood Hotels & Resorts Worldwide, Inc.
ITT Delaware, ITT Destinations, and The Hartford entered into a
Distribution Agreement (the "Distribution Agreement") providing for, among other
things, certain corporate transactions required to effect the Distribution and
other arrangements among the three parties subsequent to the Distribution.
The Distribution Agreement provides for, among other things, assumptions of
liabilities and cross-indemnities generally designed to allocate the financial
responsibility for the liabilities arising out of or in connection with (i) the
former automotive, defense & electronics, and fluid technology segments to ITT
Industries and its subsidiaries, (ii) the hospitality, entertainment, and
information services businesses to ITT Destinations and its subsidiaries, and
(iii) the insurance businesses to The Hartford and its subsidiaries. The
Distribution Agreement also provides for the allocation of the financial
responsibility for the liabilities arising out of or in connection with former
and present businesses not described in the immediately preceding sentence to or
among ITT Industries, ITT Destinations, and The Hartford on a shared basis. The
Distribution Agreement provides that neither ITT Industries, ITT Destinations
nor The Hartford will take any action that would jeopardize the intended tax
consequences of the Distribution.
ITT Industries, ITT Destinations, and The Hartford also entered into
agreements in connection with the Distribution relating to intellectual
property, tax, and employee benefit matters.
AVAILABLE INFORMATION, INTERNET ADDRESS AND INTERNET ACCESS TO CURRENT AND
PERIODIC REPORTS
ITT Industries' website address is www.itt.com. ITT Industries makes
available free of charge on or through www.itt.com/ir our annual report on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all
amendments to those reports as soon as reasonably practicable after such
material is electronically filed with or furnished to the Securities and
Exchange Commission (the "SEC"). Information contained on the Company's website
is not incorporated by reference unless specifically stated herein. As noted, we
file the above reports electronically with the SEC, and they are available on
the SEC's web site (http://www.sec.gov). In addition, all reports filed by the
Company with the SEC may be read and copied at the SEC's Public Reference Room
located at 100 F Street, N.E., Room 1580, Washington, D.C. 20549. Information on
the operation of the Public Reference Room may be obtained by calling the SEC at
1-800-SEC-0330.
------------------------
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Forward-looking Statements" for information regarding
forward-looking statements and cautionary statements relating thereto.
------------------------
10
ITEM 1A. RISK FACTORS
The Company is subject to various risks and uncertainties relating to or
arising out of the nature of our businesses, financial conditions and results of
operations, including those discussed below, which may affect the value of our
securities. We believe the risks discussed below are currently the most
significant, although additional risks not presently known to us or that we
currently deem less significant may also impact our business, financial
condition and results of operations, perhaps materially.
Factors that could cause results to differ materially from those
anticipated by the Company include:
- - General global economic conditions, particularly in the local economies of the
countries or regions in which we sell our products, including declines in
consumer spending which could have a negative impact on the results of all of
our businesses.
- - We manufacture and sell products used in cyclical businesses including in the
construction, defense, mining and minerals, transportation, automotive and
aerospace industries. Downturns in these industries could adversely affect our
businesses.
- - Many of our government contracts are subject to profit limitations, which
limit our upside potential on a per contract basis, and all are subject to
termination by our customers, Termination of key government contracts or a
significant number of government contracts would have a negative impact on our
businesses.
- - Competition pressures in all our businesses include product capability,
technological innovation, cycle time, price pressures, quality and the
reliability of services we offer. In our Fluid Technology business competition
includes public bidding on many contracts. Our revenues and profitability
could be negatively impacted as a result of competition.
- - Weather conditions including drought, natural disasters, and excessive rains
may negatively affect our Fluid Technology and Motion & Flow Control
businesses.
- - Industry overcapacity in the Fluid Technology market could have an adverse
impact on the results of our Fluid Technology business.
- - Decrease in demand for replacement parts and services would adversely affect
our Fluid Technology business.
- - Our Fluid Technology business depends upon the ability of municipal markets to
fund products and services and a significant decline in funding available to
these markets would have an adverse effect on the results of the Fluid
Technology business.
- - Economic downturns in automotive, aerospace and marine and leisure markets
could negatively affect our Motion & Flow Control businesses.
- - Because 83% of our Defense Electronics & Services sales are to the U.S.
government, changes in the portion of the U.S. Defense budget devoted to
products and services of the types of products provided by the Company would
adversely impact our business.
- - Many Defense Electronics & Services contracts are subject to security and
facility clearances, as well as export licences, which, if withdrawn or
restricted, would adversely affect our business.
- - Our business could be adversely affected if we are not able to integrate
acquisitions that we make or negotiate favorable terms for our divestitures.
- - Employment and pension matters, including changes in laws relating to pension
reform, could increase our costs of operations.
- - Interest and foreign currency exchange rate fluctuations may adversely affect
our results. We engage in hedging strategies but it is not possible to hedge
against all eventualities.
- - The commodities, supplies and raw materials that we use in our operations may
not be available or may only be available at increased prices which would have
a negative affect on our results of operations.
- - Governmental investigations could increase our costs of regulatory compliance
and could have a negative effect on our brand name and on our ability to win
new business.
- - Our liability for actual or alleged environmental contamination, claims and
concerns may exceed our reserves which would negatively impact our results of
operations.
- - Our inability to protect our intellectual property could have a material
adverse effect on our business. In addition, third parties may claim that we
infringe their intellectual property, and we could suffer significant
litigation or licensing expense as a result.
- - Personal injury claims against us may exceed our reserves which would
negatively impact our results of operations.
- - Unanticipated changes in our tax rate or exposure to additional tax
liabilities could negatively affect our profitability.
- - Oil and geopolitical risks including global terrorism could adversely affect
all our businesses.
These risk factors are discussed in more detail under the captions
"BUSINESS -- Competition; -- Exposure to Currency Fluctuations; -- Cyclicality;
- -- Governmental Regulations and Related Matters; -- Environmental Mat-
11
ters; -- Raw Materials; and -- Intellectual Property" and "LEGAL PROCEEDINGS".
ITEM 1B. UNRESOLVED STAFF COMMENTS
NONE
ITEM 2. PROPERTIES
Our principal executive offices are in leased premises located in White
Plains, NY. We consider the many offices, plants, warehouses, and other
properties that we own or lease to be in good condition and generally suitable
for the purposes for which they are used. These properties are located in
several states in the United States, as well as in numerous countries throughout
the world. See "BUSINESS" for further information with respect to properties in
each of our business segments, including the numbers of facilities and countries
in which they are located. See also Note 15, "Leases and Rentals," in the Notes
to Consolidated Financial Statements for further information.
ITEM 3. LEGAL PROCEEDINGS
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 intends to 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 a material adverse impact on the cash flow, results of
operations, or financial condition of the Company on a consolidated basis in the
foreseeable future.
The Company is responsible, in whole or in part, or is alleged to be
responsible for environmental investigation and remediation at approximately 58
sites in various countries. Of those sites, it 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 CERCLA or its state equivalent. Other situations generally
involve either actions brought by private parties relating to sites formerly
owned or operated by subsidiaries of the Company seeking to recoup incurred
costs or shift environmental liability to the Company pursuant to contractual
language, or situations discovered by the Company through its internal
environmental assessment program.
In Glendale, California the Company has been involved in an environmental
proceeding 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 ITT
Industries and Lockheed Martin Corporation, United States v. ITT Industries,
Inc. and Lockheed Martin Corp. CV99-00552 SVW AIJX, to recover costs it has
incurred in connection with the foregoing. In May 1999, the EPA and the PRPs,
including ITT Industries 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 Corporation operated a facility in Madison County, Florida from 1968
until 1991. In 1995, elevated levels of contaminants were detected at the site.
Since then, the Company has completed the investigation of the site and is in
the process of evaluating various remedies in coordination with state and
federal environmental authorities.
The Company has been 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 it was acquired by ITT. The
Company and other PRPs are investigating and remediating discharges of
industrial waste which occurred in the 1930s.
In a suit filed in 1991 by ITT Corporation 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
12
judicial) actions. A hearing is expected in 2006. 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.
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 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
2005, ITT and Goulds resolved in excess of 16,000 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 and Nationwide Indemnity 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 and Goulds are negotiating 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,
Irwin Bast 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. In late
2005, the Court dismissed the Bund zur Unterstutzung Radargeschadigter from the
case and also dismissed all claims relating to medical monitoring. Numerous
other motions are currently pending before the Court. A hearing on class
certification is expected in 2006. 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 resolved this matter whereby the Company will receive 82.5% of
the cost of defense of this matter from these insurers. The Company is pursuing
other insurers for the remaining costs. 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 provides an indemnity to U.S. Silica for silica personal injury
suits against its former subsidiary Pennsylvania Glass Sand filed prior to
September 12, 2005. ITT sold the stock of Pennsylvania Glass Sand to U.S. Silica
in 1985. The Company's indemnity had been paid in part by its historic product
liability carrier, however, in September 2005, the carrier communicated to ITT
that it would no longer pay a share of the costs. On October 4, 2005, ITT filed
a suit against its insurer, ITT v. Pacific Employers Insurance Co., CA No. 05CV
5223, seeking its defense costs and indemnity from the carrier for Pennsylvania
Glass Sand product liabilities. All silica related costs, net of insurance
recoveries, are shared pursuant to the Distribution Agreement. See "Company
History and Certain Relationships" within Part I, Item 1 of this Annual Report
on Form 10-K for a description of the Distribution Agreement. 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.
Our Defense Electronics & Services company is subject to the export control
regulations of the U.S. Department of State and the Department of Commerce.
Currently, the U.S. Attorney for the Western District of Virginia is
investigating ITT Night Vision's compliance with International Traffic in Arms
Regula-
13
tions. The Company is cooperating with the investigation and recently, with the
Government's consent, it began its own investigation of Night Vision's
compliance with the federal laws utilizing outside counsel. Data and information
derived from the investigation is shared with the U.S. Attorney. The Company
will continue to assist the Government in its investigation, however at this
time, it is not possible to predict the outcome of the investigation or what
action, if any, the Government may take at the conclusion of the investigation.
Reference is made to "BUSINESS -- Company History and Certain
Relationships" for information concerning the allocation of certain liabilities
among the parties to the Distribution Agreement.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of our shareholders during the fourth
quarter of the fiscal year covered by this report.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following information is provided regarding the executive officers of
ITT Industries:
<Table>
<Caption>
Date of
Age at Year of Initial Election to
February 1, Election as an Present
Name 2006 Position Officer Officership
- -------------------------------------------------------------------------------------------------------------------
Scott A. Crum 49 Senior Vice President and Director, Human 2002 10/29/02
Resources
Henry J. Driesse 62 Senior Vice President, ITT Industries; 2000 12/4/01
President, Fluid Technology
Donald E. Foley 54 Senior Vice President, Treasurer and 1996 2/11/03
Director of Taxes
Steven F. Gaffney 46 Vice President, ITT Industries; President 2005 10/4/05
Defense Electronics & Services
Nicholas P. Hill 51 Senior Vice President, ITT Industries; 2004 10/3/05
President, Motion & Flow Control
Steven R. Loranger 53 Chairman, President and Chief Executive 2004 6/28/04
Officer and Director
Vincent A. Maffeo 55 Senior Vice President and General Counsel 1995 12/19/95
Thomas R. Martin 52 Senior Vice President and Director of 1996 3/9/99
Corporate Relations
George E. Minnich 56 Senior Vice President and Chief Financial 2005 7/1/05
Officer
Robert J. Pagano, Jr. 43 Vice President and Corporate Controller 2004 10/05/04
Brenda L. Reichelderfer 47 Senior Vice President, Chief Technology 2002 12/3/02
Officer and Director of Engineering
</Table>
Each of the above-named officers was elected to his or her present position
to serve at the pleasure of the Board of Directors.
Throughout the past five years, all of the above-named officers have held
executive positions with ITT Industries bearing at least substantially the same
responsibilities as those borne in their present offices, except that (i) Mr.
Crum, prior to his election as Senior Vice President (2002), was Corporate Vice
President, Motorola Corporation Broadband Communications Sector (2000) and
Senior Vice President for Administration and Employee Resources at General
Instrument Corporation (1997); (ii) Mr. Driesse was elected Senior Vice
President (2001). He was appointed President, Fluid Technology in 2005. Prior to
his election as Senior Vice President, Mr. Driesse was Vice President and
President of Defense (2000), and, prior to that, was President of ITT Avionics
(1991); (iii) Mr. Foley, prior to his election as Senior Vice President (2003),
was Vice President, Treasurer and, Director of Taxes. Mr. Foley was elected Vice
President and Treasurer in 1996, and was named to the position of Director of
Taxes in 2001; (iv) Mr. Gaffney was elected Vice President, ITT Industries and
President, ITT Defense Electronics & Services in 2005. Prior to this position,
he was President and General Manager of ITT Industries System Division (2003),
Vice President, ITT Industries, Value Based Six Sigma (2002) and Vice President
and Director of Programs, ITT Industries' Avionics Division (1998). Prior to his
positions with ITT Industries, Mr. Gaffney held progressively responsible
positions at Litton and Allied Signal; (v) Mr. Hill, prior to his election as
Senior Vice President, ITT Industries
14
(2005) and President, Motion & Flow Control (2004) was President, ITT Jabsco
Worldwide (2003) and Vice President and General Manager, ITT Industries Cannon
(1999); (vi) Mr. Minnich, prior to his election as Senior Vice President and
Chief Financial Officer (2005) was Vice President and Chief Financial Officer of
Otis Elevator Company, from 2001, and prior to that was Vice President and Chief
Financial Officer of Carrier Corporation from 1996-2001. Both Otis Elevator
Company and Carrier Corporation are divisions of United Technologies
Corporation, (vii) Mr. Loranger, prior to his election as Chairman, President,
Chief Executive Officer and Director (2004), was Executive Vice President and
Chief Operating Officer of Textron, Inc. (2002) and held executive positions at
Honeywell International, Inc. and its predecessor from 1981 to 2002; (viii) Mr.
Pagano, prior to his election as Vice President and Corporate Controller (2004)
was President, ITT Industries' Fluid Technology Industrial Products Group (2002)
and Vice President -- Finance and Controller, ITT Fluid Technology (1998); (ix)
Ms. Reichelderfer, was elected Senior Vice President, (2002) and appointed Chief
Technology Officer and Director of Engineering in 2005. Prior to that she was
President, Electronic Components (2003), and President, Motion & Flow Control
(2002). Prior to these positions she was Vice President, Flow Control and has
held other executive positions with ITT Industries.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY,
RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES
COMMON STOCK -- MARKET PRICES AND DIVIDENDS
<Table>
<Caption>
2005 2004
--------------- ---------------
(In Dollars) High Low High Low
- --------------------------------------------------------
Three Months Ended
March 31 $45.88 $40.24 $39.26 $35.52
June 30 49.68 42.27 42.99 37.82
September 30 57.73 48.57 42.31 37.59
December 31 58.05 47.13 43.36 38.70
</Table>
The above table reflects the range of market prices of our common stock as
reported in the consolidated transaction reporting system of the New York Stock
Exchange, the principal market in which this security is traded (under the
trading symbol "ITT"). During the period from January 1, 2006 through February
28, 2006, the high and low reported market prices of our common stock were
$55.00 and $49.85, respectively. On February 21, 2006, the Company split its
stock on a two-for-one basis. Reported market prices reflect the split price.
ISSUER PURCHASES OF EQUITY SECURITIES
<Table>
<Caption>
Total Average
Number Price
of Paid
Shares Per
Period Purchased(1) Share(2)
- --------------------------------------------------------------
10/1/05-10/31/05 242,200 $55.23
11/1/05-11/30/05 372,124 $51.93
12/1/05-12/31/05 164,200 $53.32
</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.
We declared dividends of $0.085 per share of common stock in each of the
four quarters of 2004. We declared dividends of $0.09 per share of common stock
in each of the four quarters of 2005. In the first quarter of 2006, we declared
a dividend of $0.11 per share for shareholders of record on March 10, 2006.
Dividend decisions are subject to the discretion of our Board of Directors
and will be based on, and affected by, a number of factors, including operating
results and financial requirements. Therefore, there can be no assurance as to
what level of dividends, if any, will be paid in the future.
There were 25,985 holders of record of our common stock on February 28,
2006.
ITT Industries common stock is listed on the following exchanges:
Frankfurt, London, New York, Pacific, and Paris.
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 and repayment of debt.
15
ITEM 6. SELECTED FINANCIAL DATA
<Table>
<Caption>
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 2005 2004 2003 2002 2001
- ----------------------------------------------------------------------------------------------------------------
RESULTS AND POSITION
Sales and revenues $ 7,427.3 $ 6,327.4 $ 5,163.5 $ 4,492.4 $ 4,202.1
Operating income(a) 500.1 609.6 499.0 496.5 356.8
Income from continuing operations(a) 314.4 420.1 370.3 350.6 184.1
Net income 359.5 432.3 403.9 379.9 276.7
Additions to plant, property and equipment 179.2 145.4 136.3 130.7 154.1
Depreciation and amortization 196.6 175.1 162.3 145.2 192.7
Total assets 7,063.4 7,282.6 5,946.1 5,396.3 4,512.6
Long-term debt 516.3 542.8 460.9 492.2 456.4
Total debt 1,267.7 1,272.0 602.4 791.8 973.4
Cash dividends declared per common share 0.36 0.34 0.32 0.30 0.30
EARNINGS PER SHARE(C)
Income from continuing operations
Basic $ 1.70 $ 2.28 $ 2.01 $ 1.93 $ 1.04
Diluted $ 1.67 $ 2.23 $ 1.97 $ 1.87 $ 1.02
Net income
Basic $ 1.95 $ 2.34 $ 2.19 $ 2.09 $ 1.57
Diluted $ 1.91 $ 2.29 $ 2.15 $ 2.03 $ 1.53
----------- ----------- ----------- ----------- -----------
PRO FORMA RESULTS
Reported net income(b) $ 359.5 $ 432.3 $ 403.9 $ 379.9 $ 276.7
Add back goodwill amortization net of
tax -- -- -- -- 35.9
----------- ----------- ----------- ----------- -----------
Adjusted net income $ 359.5 $ 432.3 $ 403.9 $ 379.9 $ 312.6
=========== =========== =========== =========== ===========
Adjusted basic earnings per share $ 1.95 $ 2.34 $ 2.19 $ 2.09 $ 1.77
Adjusted diluted earnings per share $ 1.91 $ 2.29 $ 2.15 $ 2.03 $ 1.72
</Table>
(a) The Company recorded a $(214.4) pretax and $(205.6) after-tax charge for the
impairment of goodwill in 2005. Operating income and income from continuing
operations in 2005, 2004, 2003, 2002 and 2001 includes (expense) income of
$(74.1), $(33.8), $(27.6), $6.3 and $(96.3) pretax, respectively, or
$(53.7), $(23.3), $(19.1), $4.2 and $(62.6), after-tax, respectively, for
restructuring and asset impairment charges. See Note 4, "Restructuring and
Asset Impairment Charges," in the Notes to Consolidated Financial Statements
for additional information on these topics.
(b) The Company adopted Statement of Financial Accounting Standards No. 142 and
discontinued the amortization of goodwill as of January 1, 2002 (see Note 1,
"Summary of Significant Accounting Policies," in the Notes to Consolidated
Financial Statements for additional information). Reported net income for
2001 includes goodwill amortization expense.
(c) Restated for two-for-one stock split effective February 21, 2006.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
BUSINESS OVERVIEW
The business overview provides information on the Company's four principal
operating segments: Fluid Technology, Defense Electronics & Services, Motion &
Flow Control and Electronic Components, including their markets served, goods
and services provided, relevant factors that could impact results, business
challenges and areas of focus and selected financial data. This section also
provides a forecast of the Company's 2006 consolidated results.
FLUID TECHNOLOGY
Fluid Technology is a leading global provider of fluid systems and
solutions. Markets served and goods and services provided include: Residential &
Commercial Water (pumps and accessories for residential, municipal and
commercial applications), Building Trades (products for environmental control in
buildings and for building services, Wastewater Handling (submersible pumps and
mixers for sewage and wastewater treatment facilities), Treatment
(biological\ozone\UV treatment systems for municipal and industrial wastewater
treatment), and Industrial & BioPharm (pumps\valves for the industrial, mining,
chemical, pulp and
16
paper/solutions for process modules, skid systems and stainless steel vessels.)
Factors that could impact Fluid Technology's financial results include:
broad economic conditions in markets served, weather conditions, the ability of
municipalities to fund projects, raw material prices and continued demand for
replacement parts and servicing. Primary areas of business focus include: new
product development, geographic expansion into new markets, facility
rationalization and global sourcing of direct material purchases. The Company
forecasts revenues for the Fluid Technology segment to be between $2.96 billion
and $3.00 billion with an operating income margin rate of 13.0% to 13.1%.
DEFENSE ELECTRONIC & SERVICES
Defense Electronics & Services develops, manufactures, and supports high
technology electronic systems and components for worldwide defense and
commercial markets as well as provides communications systems, engineering and
applied research. Defense Electronics & Services consists of two major areas;
Systems and Services (Systems, Advanced Engineering and Sciences businesses) and
Defense Electronics (Aerospace and Communications, Night Vision, Avionics, Radar
and Space Systems businesses.)
Factors that could impact Defense Electronics & Services financial results
include: the level of defense funding by domestic and foreign governments, the
Company's ability to receive contract awards and the ability to develop and
market products and services for customers outside of traditional markets.
Primary areas of business focus include: new or improved product offerings, new
contract wins, successful program execution and capacity expansion. The Company
forecasts revenues for the Defense Electronics & Services segment to be between
$3.48 billion and $3.54 billion with an operating income margin rate of 10.9% to
11.0%.
MOTION & FLOW CONTROL
Motion & Flow Control is comprised of a group of units operating in the
motion control and flow control market segments. Markets served and goods and
services provided for the Motion Control businesses include: the design and
manufacture of friction pads for braking applications, the production of pumps
and related products for the leisure marine and recreational vehicle markets,
pumps and components for beverage applications and the design and manufacturing
of jets, pumps and other components for whirlpool baths and hot tub spas.
Markets served and goods and services provided for the Flow Control businesses
include: valves, actuators and switches for the commercial, military, regional,
business and general aviation markets; switches and regulators for the oil and
gas, power generation and chemical markets; pressure regulators and diaphragm
seals for industrial applications and natural gas vehicles.
The Motion & Flow Control business financial results are driven by the
cyclical nature of the transportation industry, production levels of major auto
producers, demand for marine and leisure products, weather conditions and raw
material prices. Primary areas of business focus include: expansion into
adjacent markets, new product development, manufacturing footprint optimization
and lean fulfillment. The Company forecasts revenues for the Motion & Flow
Control segment to be between $675 million and $695 million with an operating
income margin rate of 20.3% to 20.5%.
ELECTRONIC COMPONENTS
Electronic Components provides products and services for the areas of
communications, industrial, transportation, military/aerospace, commercial
aircraft, computer, and consumer uses. Business activities in the communications
area include: connectors, interconnects, cable assemblies, keypads, switches,
panel switch assemblies and smart card systems. In addition, products
manufactured for the industrial markets include: industrial controls, production
equipment, instrumentation, medical applications, ultrasound, and other
diagnostic equipment. Products manufactured for the transportation market
include: high reliability connectors, multi-function control assemblies, and
switches used in power train, instrument controls and chassis applications.
Military/aerospace products include: circular, rack and panel, micro miniature,
fiber optic, and "special" connectors used in military electronics, missiles,
and space applications. Commercial aircraft products include: rack and panel,
circular, and fiber optic connectors. In the computer and consumer area,
products include: connectors and switches for computers and computer
peripherals, and keypads for remote control devices, switches for appliances and
audio circular connectors.
The Electronic Components business financial results are driven by economic
conditions in its major markets, success of new product development, product
life in the mobile phone markets and changes in technology. Primary areas of
business focus include: global sourcing of direct material purchases,
manufacturing footprint rationalization and new product development. The Company
forecasts revenues for the Electronic Components segment to be between $710
million and $730 million with an operating income margin rate of 6.4% to 6.5%.
CONSOLIDATED FINANCIAL RESULTS
The Company forecasts 2006 total consolidated sales and revenues to be
between $7.8 billion and $8.0 billion with a segment operating income margin
rate of 12.1% to 12.2%.
17
<Table>
<Caption>
SALES AND REVENUES 2005 2004 2003
- ------------------ -------- -------- --------
(IN MILLIONS OF DOLLARS)
Sales and revenues... $7,427.3 $6,327.4 $5,163.5
-------- -------- --------
</Table>
The Company's revenues grew 17.4% in the year ended December 31, 2005 to
$7.43 billion. Higher volume in all business segments contributed 12.0% of the
growth. Revenue from acquisitions, including a 2004 Defense, Electronics and
Services acquisition and foreign currency translations contributed the remaining
5.4% of the growth.
During 2004, the Company's sales and revenues increased 22.5% to $6.33
billion. Approximately 12.9% of the growth was generated by the Company's
existing businesses and reflects increased volume in all four segments.
Contributions from acquisitions primarily by the Fluid Technology and Defense
Electronics & Services segments accounted for growth of approximately 6.3% and
foreign currency represented the remaining growth.
<Table>
<Caption>
COSTS OF SALES
AND REVENUES 2005 2004 2003
- -------------- -------- -------- --------
(IN MILLIONS OF DOLLARS)
Costs of sales and
revenues........... $5,389.9 $4,575.5 $3,733.1
Percentage of
Sales.............. 72.6% 72.3% 72.3%
-------- -------- --------
</Table>
The Company's costs of sales and revenues ("CGS") increased $814.4 million
or 17.8% in 2005 due to higher volume in all segments and contributions from a
2004 acquisition in the Defense Electronics & Services segment. CGS as a
percentage of sales increased 30 basis points in 2005 reflecting increased
contributions from the Defense Electronics & Services segment and manufacturing
inefficiencies in the Electronic Components segment.
In 2004, CGS increased $842.4 million, or 22.6% due to higher volume in all
business segments and contributions from acquisitions in the Defense Electronics
& Services and Fluid Technology segments. CGS as a percentage of sales was flat
in 2004 compared to 2003.
<Table>
<Caption>
SELLING, GENERAL AND
ADMINISTRATIVE 2005 2004 2003
- -------------------- -------- ------ ------
(IN MILLIONS OF DOLLARS)
Selling, General and
Administrative..... $1,071.2 $963.4 $788.6
Percentage of
Sales.............. 14.4% 15.2% 15.3%
-------- ------ ------
</Table>
Selling, general and administrative expenses ("SG&A") increased $107.8
million, or 11.2% in 2005. The increase in SG&A expenses was primarily due to
increased marketing expense in most segments, including expenses from a 2004
acquisition made by the Defense Electronics & Services segment, higher general
and administrative expenses and the impact of foreign currency translation.
Higher general and administrative costs reflect additional employee benefit
costs, and the cost of process improvement initiatives.
SG&A expenses increased $174.8 million, or 22.2% during 2004. The increase
in SG&A expenses was primarily due to the impact of foreign currency
translation, increased marketing expense in all segments, including expenses
from five acquisitions, and higher general and administrative expenses. Higher
general and administrative costs reflect additional employee benefit costs, the
cost of process improvement initiatives, administrative expenses related to the
2004 acquisitions and increased other administrative expenses.
<Table>
<Caption>
RESEARCH & DEVELOPMENT 2005 2004 2003
- ---------------------- ------ ------ ------
(IN MILLIONS OF DOLLARS)
Internally funded...... $177.6 $145.1 $115.2
Percentage of Sales.... 2.4% 2.3% 2.2%
------ ------ ------
</Table>
Research and Development expenses ("R&D") increased $32.5 million, or 22.4%
during 2005. The increase is attributable to increased spending in most
segments. The increase in internally funded R&D reflects the Company's
commitment to the development of new products and technology.
During 2004, Research and Development expenses increased $29.9 million, or
26.0%. The increase is attributable to increased spending in all segments.
During the fourth quarter of 2005, the Company conducted a strategic review
of the Electronic Components segment because certain businesses within the
segment were experiencing lower than expected financial results. As a result of
the study, the Company determined that certain long-lived assets and a portion
of goodwill were impaired and recorded a $222.7 million charge. As a result of
the strategic review, described above, the Company has decided to dispose of the
Switches component of the Electronic Components segment. The Company is in the
process of preparing this business for sale. Additionally, during 2005, the
Company recorded a $72.0 million restructuring charge to reduce operating costs.
During 2004, the Company recorded a $34.9 million restructuring charge to
streamline its operating structure. During 2003, the Company recorded a $30.8
million restructuring charge to reduce operating costs and streamline its
operating structure. See the section entitled "Restructuring and Asset
Impairment Charges" and Note 4, "Restructuring and Asset Impairment Charges," in
the Notes to Consolidated Financial Statements for additional information.
Operating income for the year ended December 31, 2005 was $500.1 million, a
decrease of $109.5 million, or 18.0%, compared to $609.6 million for 2004. The
decrease is primarily due to the asset impairment and restructuring charges
partially offset by improved operating profit at each of the segments. Segment
operating margin for the year ended December 31, 2005 was 8.0%, or 290 basis
points below the comparable prior year period. The variance in
18
segment operating margin is primarily due to increased restructuring and asset
impairment charges. Operating income for 2004 was $609.6 million, an increase of
$110.6 million, or 22.2%, compared to $499.0 million for 2003. The increase is
primarily due to improved sales and revenues at each of the segments offset by
increased SG&A and R&D expenses. Segment operating margin for 2004 was 10.9%,
which was relatively flat with the segment operating margin for the comparable
2003 period.
Interest expense during the year ended December 31, 2005 was $75.0 million,
an increase of $24.6 million, or 48.8% from the comparable prior year period.
This increase reflects higher interest rates and higher average debt balances
(reflecting 2004 acquisitions). Additionally, the Company recognized $42.7
million of interest income during the year ended December 31, 2005 compared to
$22.5 million during 2004. The increase of $20.2 million, or 89.8%, primarily
reflects the recognition of interest income during 2005 associated with tax
settlements related to the closure of the IRS tax audit for the years 1998
through 2000. Interest expense was $50.4 million in 2004 compared to $43.2
million in 2003. Interest income was $22.5 million for 2004 compared to $53.3
million in the comparable prior year period. The variance in interest expense is
primarily attributable to higher average debt balances, reflecting the impact of
2004 acquisitions. The reduction in interest income in 2004, compared to 2003,
is primarily due to interest income of $32.3 million, related to two 2003 tax
settlements.
During 2004, the Company sold its interest in Mesh Networks, a technology
company in the wireless telecommunications market, for $31.2 million and
recorded a gain on the transaction of $19.8 million.
During the year ended December 31, 2005, income tax expense was $133.7
million, or 18.8% less than the applicable prior year period. The variance
primarily reflects the recognition of tax settlements relating to prior year tax
filings. Lower taxable income during the year ended December 31, 2005 compared
to 2004 also contributed to the variance. Income tax expense was $164.7 million
in 2004, an increase of $34.4 million from the prior year period. The increase
is primarily attributable to higher pretax income and an increase in the
Company's effective tax rate. The increase in the effective tax rate from 26.2%
in 2003 to 28.0% in 2004 is predominantly due to the occurrence and magnitude of
one-time items in each of those years. In 2003, these one-time items included
tax benefits realized from the filing of amended returns, foreign sales
corporation redeterminations, the effects of the closing of the 1996 and 1997
IRS audit cycle and the settlement of IRS refund claims for the years 1986-1995.
The one-time items occurring in 2004 included the filing of foreign sales
corporation redeterminations, favorable foreign tax credit utilizations and the
settlement of a claim. The tax benefits produced by the one-time items realized
in 2003 exceeded those generated in 2004.
Income from continuing operations was $314.4 million, or $1.67 per diluted
share for the year ended December 31, 2005 compared to $420.1 million, or $2.23
per diluted share for 2004. The decrease reflects the results discussed above.
Income from continuing operations was $420.1 million, or $2.23 per diluted share
in 2004, compared to $370.3 million or $1.97 per diluted share for 2003. The
increase reflects the results discussed above.
During the year ended December 31, 2005, the Company recorded a cumulative
effect of a change in accounting principle of $6.5 million, net of a tax benefit
of $2.2 million. This is in accordance with FASB Interpretation 47, "Accounting
for Conditional Asset Retirement Obligations -- an Interpretation of FASB
Statement No. 143" ("FIN 47"). FIN 47 requires the liability recognition for
conditional obligations associated with the retirement of a tangible long-lived
asset.
During the year ended December 31, 2005, the Company recognized $51.6
million of income from discontinued operations compared to income of $12.2
million in the comparable prior year. The 2005 income primarily relates to the
discontinued operations of the Company's automotive brake and fuel tubing and
components businesses and a tax settlement offset by losses and asset
write-downs associated with the Company's Network Systems & Services business
and costs related to other discontinued operations. During 2004, the Company
recognized $12.2 million of income from discontinued operations. The 2004 income
primarily relates to the discontinued operations of the Company's automotive
brake and fuel tubing and components businesses offset by a 2004 loss from the
discontinued operations of the Company's Network Systems & Services business.
During 2003, the Company recognized $33.6 million of income from discontinued
operations. The 2003 income primarily related to the discontinued operations of
the Company's automotive brake and fuel tubing and components businesses, as
well as the collection of a disputed receivable related to the Company's
disposed automotive businesses. Upon collection, the Company reversed the
related valuation allowances, which had been previously established for the
assets, resulting in income of $8.0 million.
19
SEGMENT REVIEW
<Table>
<Caption>
REVENUE OPERATING INCOME OPERATING MARGIN
------------------------------- ------------------------- ---------------------
2005 2004 2003 2005 2004 2003 2005 2004 2003
(IN MILLIONS OF DOLLARS) --------- -------- -------- ------- ------ ------ ----- ----- -----
Fluid Technology $ 2,837.1 $2,594.1 $2,249.9 $ 324.5 $285.9 $271.4 11.4% 11.0% 12.1%
Defense Electronics & Services 3,224.2 2,414.0 1,790.9 363.7 254.1 187.1 11.3% 10.5% 10.4%
Motion & Flow Control 670.0 633.8 545.0 119.7 122.5 100.5 17.9% 19.3% 18.4%
Electronic Components 708.9 696.9 585.7 (216.7) 29.5 14.7 (30.6)% 4.2% 2.5%
</Table>
FLUID TECHNOLOGY
The Fluid Technology segment had revenues of $2.84 billion, an increase of
9.4% from 2004. Revenue growth of 8.2% represented contributions from existing
businesses, of which the water/wastewater treatment and industrial and biopharm
businesses were the largest contributors. Revenues from acquisitions and foreign
currency translation provided the remaining growth. During 2004 revenues
increased $344.2 million or 15.3% compared to 2003. Revenues from acquisitions
contributed growth of 6.2% and foreign currency translation provided growth of
4.7%. The remaining revenue growth of 4.4% represented contributions from
existing businesses including the water/wastewater, industrial products and
fluid handling businesses.
Operating income increased $38.6 million or 13.5% in 2005 compared to 2004.
Higher volume and operational efficiencies represents 17.9% of growth. Foreign
currency translation and acquisitions account for 0.6% of growth. Incremental
restructuring costs (5.0%) partially offset the improvements. In 2004 operating
income increased $14.5 million, or 5.3% compared to 2003. Foreign currency
translation represents 5.8% of growth and higher volume and operational
efficiencies account for 2.8% of growth. Operating losses from 2004 acquisitions
(1.7%) and incremental restructuring costs (1.6%) partially offset the
improvements.
DEFENSE, ELECTRONICS & SERVICES
The Defense Electronics & Services segment increased revenues 33.6% in 2005
to $3.22 billion. Higher volume in the tactical communications, night vision,
and systems and services businesses represented 21.0% of the growth. A third
quarter 2004 acquisition also contributed to the increase in revenues,
accounting for 12.6% of the revenue growth. During 2004 revenues increased 34.8%
to $2.41 billion. Increased volume in all existing businesses represented 24.5%
of the growth and the acquisition of the Remote Sensing Systems business ("RSS")
accounted for 10.3% of revenue growth.
In 2005, operating income increased $109.6 million or 43.1% compared to
2004. Higher volume, favorable mix reflecting increased contributions from the
defense products businesses and positive experience on existing long term
contracts represent 37.8% of growth. Additionally, 2004 acquisitions contributed
5.3% of growth. In 2004 operating income increased $67.0 million, or 35.8%.
Higher volume represents 29.3% of growth and 2004 acquisitions contributed 6.5%
of growth.
MOTION & FLOW CONTROL
Motion & Flow Control revenues increased 5.7% to $670.0 million. Increased
volume in existing businesses, including the friction material, aerospace
controls, marine and leisure businesses accounted for 4.6% of revenue growth.
Revenue from a 2004 acquisition and foreign currency translation drive the
remaining 1.1% of growth. In 2004 revenues were $633.8 million, or 16.3% higher
than 2003. Higher volume in existing businesses, including the friction
products, aerospace controls and spa and whirlpool businesses contributed 8.6%
of revenue growth. Foreign currency translation and acquisition revenue
accounted for the remaining revenue growth of 7.7%.
Operating income decreased $2.8 million or 2.3% in 2005 compared to 2004.
Higher restructuring costs in 2005 decreased operating income by 5.6%. Higher
volume resulted in 2.7% operating income growth and foreign currency translation
accounted for the remaining growth of 0.6%. Operating income increased $22.0
million, or 21.9% in 2004 compared to 2003. Higher volume resulted in income
growth of 12.0%. A 2004 acquisition and foreign currency translation contributed
0.9% and 9.0% of income growth, respectively.
ELECTRONIC COMPONENTS
The Electronic Components segment's revenue increased 1.7% to $708.9
million in 2005 primarily due to higher volume in commercial businesses,
partially offset by lower volume in the industrial businesses. During 2004
revenue increased 19.0% to $696.9 million. Higher volume in existing businesses
contributed 14.6% of revenue growth and foreign currency translation accounted
for 4.4% of growth.
Operating income decreased $246.2 million in 2005 compared to 2004. The
decrease reflects a $222.7 million asset impairment charge in the Company's
Switch business and incremental restructuring charges of $12.9 million.
Manufacturing inefficiencies also contributed to the decline in operating
income. In 2004 operating income increased $14.8 million compared to 2003.
Higher
20
volume, product pruning and foreign currency translation contributed to the
increase in income.
RESTRUCTURING AND ASSET IMPAIRMENT CHARGES
2005 RESTRUCTURING ACTIVITIES
During 2005, the Company recognized a $72.0 million restructuring charge.
New actions represent $70.7 million of the charge. Costs associated with actions
announced during previous year plans represent $1.3 million of the charge. The
actions by segment are as follows:
- The Fluid Technology segment recorded $29.7 million of severance costs
for the termination of 474 employees, including 242 factory workers, 208
office workers and 24 management employees. Lease cancellation and other
costs were $0.9 million and $0.8 million respectively. Additionally,
assets write-offs totaling $1.4 million were also recorded. The charges
reflect a reduction in structural costs, including the closure of four
facilities.
- The Electronic Components segment recorded $25.8 million for the
reduction of 1,246 employees, including 926 factory workers, 286 office
workers and 34 management employees. Other costs totaling $1.9 million,
primarily representing contract termination costs, lease costs, and other
were also recognized during the year. Asset write-offs associated with
the restructuring actions totaled $0.1 million. These actions reflect the
continued reorganization of the segment, including the closure of three
facilities.
- The Motion & Flow Control segment recognized $8.9 million for the
termination of 274 employees, including 163 factory workers, 97 office
workers and 14 management employees. Other costs totaling $0.6 million
and lease costs of $0.2 million were also recognized during the year. The
headcount reductions relate to workforce reductions, the consolidation of
functions, the transfer of functions from France to Holland, and the
outsourcing of selected functions to Eastern Europe.
- Corporate headquarters recorded $0.4 million for the termination of one
management employee.
During 2005, the Company made $33.8 million of payments attributable to
2005 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 2005 are approximately $64 million during 2006 and $267 million between
2007 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".
2005 ASSET IMPAIRMENT CHARGES
During the fourth quarter of 2005, the Company conducted a strategic review
of the Electronic Components segment because certain businesses within the
segment were experiencing lower than expected financial results. As a result,
the Company recorded an impairment charge amounting to $8.3 million to write
down certain long-lived assets to fair value. The applicable assets were written
down to their fair values based upon management's comparison of projected future
discounted cash flows generated by each asset to the applicable asset's carrying
value. This impairment was unrelated to the Company's restructuring activities.
The long-lived asset impairment coupled with updated financial forecasts
generated in the fourth quarter represented an indicator that goodwill may also
be impaired. Accordingly, the Company assessed goodwill allocated to the
Switches component of the Electronic Components segment and recorded an
impairment charge of $214.4 million in the fourth quarter of 2005. (Total asset
impairment charges recorded in the Electronics Components segment in the fourth
quarter of 2005 were $222.7 million.) The estimated fair value of Switches was
computed principally based upon the present value of future cash flows
(Discounted Cash Flow Method), historical results and comparative market data.
This impairment was also unrelated to the Company's restructuring activities.
As a result of the strategic review, described above, the Company has
decided to dispose of the Switches component of the Electronic Components
segment. The Company is in the process of preparing this business for sale.
2004 RESTRUCTURING ACTIVITIES
During 2004, the Company recognized $34.9 million of restructuring charges.
Of this amount, $34.8 million related to new actions announced during 2004,
primarily the planned severance of 1,235 employees and lease cancellation costs.
Additionally, $0.1 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
21
$0.7 million of other costs were also recognized during 2004. These
charges include the impact of two facility closures (one in Sweden and
one in Florida).
- 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 $2.2 million for the planned
termination of 49 employees, including 7 factory workers, 37 office
workers and five management employees. Other costs totaling $0.2 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 2005, the Company made $14.7 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 $28 million during 2006 and $81 million between
2007 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".
2003 RESTRUCTURING ACTIVITIES
During 2003, the Company recognized $30.8 million of restructuring charges
primarily related to the planned severance of 730 employees.
The actions announced during 2003 by segment are as follows:
- The Fluid Technology segment recorded $12.9 million for the planned
termination of 161 employees, including 52 factory workers, 104 office
workers and five management employees. Additionally, $0.5 million of
lease costs, and $0.4 million of other costs, including a $0.2 million
charge associated with the disposal of machinery and equipment, were also
recognized during 2003.
- - The Electronic Components segment recorded $11.7 million for the planned
termination of 479 employees, including 263 factory workers, 199 office
workers and 17 management employees. The segment also recorded other costs of
$0.5 million, primarily representing idle facility costs, and $0.5 million of
asset disposal costs.
- - The Motion & Flow Control segment recorded $1.2 million for the planned
termination of 51 employees, including 31 factory workers, 13 office workers
and seven management employees. Lease termination costs totaling $0.7 million,
asset disposal costs of $0.1 million, respectively, were also recognized
during 2003.
- - The Defense Electronics & Services segment recorded $1.0 million for the
planned termination of 35 employees, including seven factory workers, 19
office workers and nine management employees.
- - Corporate headquarters recorded $1.3 million for the planned termination of
one office worker and three management employees.
During 2005, the Company made $1.5 million of payments attributable to 2003
restructuring actions. Future restructuring expenditures will be funded with
cash from operations, supplemented on an iterim basis, if required, with
commercial paper borrowings.
The projected future cash savings from the restructuring actions announced
during 2003 are approximately $33 million during 2006 and $65 million between
2007 and 2008. 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".
2003 ASSET IMPAIRMENT CHARGES
During 2003, the Company recorded a $1.4 million asset impairment charge
primarily for the write-off of a technology license that will not be utilized
based on management's projections of future market conditions. The applicable
assets were written down to their fair values based on management's comparison
of projected future discounted cash flows generated by each asset to the
applicable asset's carrying value. These impairments were unrelated to the
Company's restructuring activities.
ITT 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 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.
22
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.
In the third quarter of 2005, the Company finalized an IRS tax settlement
that covered the periods from 1998 to 2000 and included the sale of the
Electrical Systems business and the Brake and Chassis unit. As a result of this
agreement, the Company paid $100.6 million to settle tax matters related to the
sale of the automotive businesses. Remaining tax reserves of $53.6 million
relating to this matter were reversed and included in income from discontinued
operations.
At December 31, 2005, the Company has automotive discontinued operations
accruals of $34.4 million that primarily relate to the following: product
recalls $7.8 million -- related to nine potential product recall issues which
are recorded in Accrued Expenses; environmental obligations $14.0 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.
LIQUIDITY AND CAPITAL RESOURCES
CONTRACTUAL OBLIGATIONS:
The Company's commitment to make future payments under long-term
contractual obligations was as follows, as of December 31, 2005 (in millions):
<Table>
<Caption>
Payments Due by Period
-----------------------------------------------------------------
Less Than More Than
Contractual Obligations Total 1 Year 1-3 Years 3-5 Years 5 Years
- --------------------------------------------------------------------------------------------------------------
Long-Term Debt(1) $ 472.9 $ 9.1 $ 32.9 $ 20.1 $ 410.8
Operating Leases(2) 531.5 92.7 140.2 89.6 209.0
Purchase Obligations(3) 700.4 492.2 204.2 4.0 --
Other Long-Term Obligations Reflected on
Balance Sheet(4) 96.5 12.0 21.5 20.0 43.0
----------- ----------- ----------- ----------- ---------
Total $ 1,801.3 $ 606.0 $ 398.8 $ 133.7 $ 662.8
=========== =========== =========== =========== =========
</Table>
(1) See Note 16, "Debt," in the Notes to Consolidated Financial Statements, for
discussion of the use and availability of debt and revolving credit
agreements.
(2) Refer to Note 15, "Leases and Rentals," in the Notes to Consolidated
Financial Statements, for further discussion of lease and rental agreements.
(3) The unconditional purchase commitments are principally take or pay
obligations related to the purchase of certain raw materials and subcontract
work.
(4) Other long-term liabilities primarily consists of estimated environmental
payments. The Company estimates, based on historical experience, that it
will spend between $8.0 million and $11.0 million per year on environmental
investigation and remediation of its approximately 58 sites. The Company is
contractually required to spend a portion of these monies based on existing
agreements with various governmental agencies and other entities. At
December 31, 2005, the Company has calculated a best estimate to remediate
ground water and soil of $93.0 million and has recorded an accrual that
approximates the estimate.
SOURCES AND USES OF CASH:
OPERATING
The Company generated $745.8 million of cash from operating activities
during 2005. Net income generated from continuing operations plus special
charges (restructuring and asset impairment) and non-cash charges (depreciation
and amortization) contributed approximately $799.5 million of cash flow. The
deferral of tax payments of $89.8 million, the liquidation of interest rate
swaps of $69.5 million and increases in accounts payable and accrued expenses of
$124.1 million, were also positive contributors of cash. Increases in accounts
receivable and inventory of $192.0 million and $18.0 million, respectively,
reflecting increased sales volume, partially offset the cash generated from
operations. Cash from operating activities during 2005 also reflects a $100.0
million pre-funding of pension obligations of the U.S. Salaried Pension Plan.
The Company projects cash from operating activities to be between $670.0
million and $700.0 million for 2006.
INVESTING
ADDITIONS TO PLANT, PROPERTY AND EQUIPMENT:
Capital expenditures during 2005 were $179.2 million, an increase of $33.8
million from 2004. The increase primarily reflects increased investments by the
23
Defense Electronic & Services and Motion & Flow Control segments.
ACQUISITIONS:
2005 ACQUISITIONS
During 2005, the Company made one acquisition for $29.7 million, which is
included in the Fluid Technology segment.
The Company also paid a purchase price adjustment totaling $28.5 million
related to the 2004 acquisition of Remote Sensing Systems business ("RSS") and
purchased additional shares of WEDECO, a company acquired in 2004 for $10.8
million.
2004 ACQUISITIONS
On August 13, 2004, the Company purchased RSS for $736.9 million in cash.
The RSS business 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.
The Company also spent $273.1 million on acquisitions of four entities,
including WEDECO, all of which are included in the Fluid Technology segment.
2003 ACQUISITIONS
During 2003, the Company spent $46.2 million primarily for the acquisition
of two entities, one in the Electronic Components segment and one in the Fluid
Technology segment.
SALE OF INVESTMENTS:
In December 2004, the Company sold its interest in Mesh Networks, Inc., a
technology company in the wireless telecommunications market for $31.2 million,
of which $24.9 million was received in cash and $6.3 million was placed in
escrow.
During 2003, the Company sold substantially all its investment in a defense
related business (DigitalGlobe Inc.) for $43.5 million.
SALE OF PLANT, PROPERTY AND EQUIPMENT:
During 2005, the Company generated $26.9 million of cash proceeds from the
sale of plant, property and equipment primarily by the Electronic Components and
Fluid Technology segments. This is primarily due to the sale of four properties
at Electronic Components for $17.1 million. The remaining $9.8 million of cash
proceeds represents plant, property and equipment sales across most segments.
During 2004, the Company generated $7.2 million from the sale of plant,
property and equipment primarily by the Electronic Components and Fluid
Technology segments.
During 2003, the Company generated $16.9 million of cash proceeds from the
sale of plant, property and equipment. This is primarily due to the sale of land
for $7.3 million at Defense Electronics & Services and the sale of a building at
Electronic Components for $2.8 million. The remaining $6.8 million of cash
proceeds from the sale of assets represents plant, property and equipment sales
across all businesses.
DIVESTITURES:
In the fourth quarter of 2005, the Company announced that it had signed a
definitive agreement to sell its automotive brake & fuel tubing and components
business to Cooper-Standard Automotive, a privately held company, for $205
million in cash, subject to certain post-closing adjustments. The business,
which is a component of the Company's Motion & Flow Control segment,
manufactures steel and plastic tubing for fuel and brake lines, quick-connects,
and serves the transportation industry.
On February 7, 2006, the Company completed the sale of this business to
Cooper-Standard Automotive. The Company is in the process of finalizing certain
calculations and expects after-tax gains on this transaction to be approximately
$25.0 million.
After completing a strategic review of the Electronic Components segment,
in the fourth quarter of 2005, the Company has decided to dispose of the
Switches component of the Electronic Components segment, which accounts for
approximately 50% of the segments revenue. The Company is in the process of
preparing this business for sale.
FINANCING
<Table>
<Caption>
December 31,
-------------------
(in millions) 2005 2004
- -------------------------------------------------
Cash & Cash equivalents $ 451.0 $ 262.9
Total Debt 1,267.7 1,272.0
Net Debt 816.7 1,009.1
Total Shareholders' Equity 2,723.4 2,343.0
Total Capitalization (debt
plus equity) 3,991.1 3,615.0
Net Capitalization (debt
plus equity less cash) 3,540.1 3,352.1
Debt to total capitalization 31.8% 35.2%
Net debt to net
capitalization 23.1% 30.1%
</Table>
24
SHARE REPURCHASES AND OTHER MATTERS:
In 2005, 2004, and 2003, the Company repurchased 6.6 million shares for
$334.4 million, 4.0 million shares for $159.6 million, and 2.0 million shares
for $69.7 million, respectively, to offset the dilutive effect of exercised
stock options.
On February 21, 2006, the Company effected a two-for-one stock split of its
common stock. The financial statements, notes and other references to share and
per share data have been restated to reflect the stock split for all periods
presented.
DEBT AND CREDIT FACILITIES:
Debt at December 31, 2005 was $1,267.7 million, compared with $1,272.0
million at December 31, 2004. Cash and cash equivalents were $451.0 million at
December 31, 2005, compared to $262.9 million at December 31, 2004.
In December 2004, the Company recorded a $120.0 million obligation
associated with a ten year agreement with a major financial
institution-involving the sale and the subsequent leasing back of certain
properties. Under the terms of the agreement, the Company is required to make
annual payments of principal and interest. At the end of the agreement, the
Company has the option to repurchase the applicable properties for a nominal
fee. This transaction is reflected as debt.
The Company maintained two separate revolving credit agreements providing
aggregate commitments of $1.4 billion which expired in the fourth quarter of
2005. In November 2005, these two agreements were replaced by a five-year
revolving credit agreement in the aggregate principal amount of $1.25 billion.
The interest rate for borrowings under these agreements is generally based on
the London Interbank Offered Rate ("LIBOR"), plus a spread, which reflects the
Company's debt rating. The provisions of these agreements require that the
Company maintain an interest coverage ratio, as defined, of 3.5 times. At
December 31, 2005, the Company's coverage ratio was well in excess of the
minimum requirements. The commitment fee on the revolving credit agreements is
0.08% of the total commitment. The revolving credit agreements serve as backup
for the commercial paper program. Borrowing through commercial paper and under
the revolving credit agreements may not exceed $1.25 billion in the aggregate
outstanding at any time. At December 31, 2005 commercial paper borrowings were
$728.8 million.
OFF-BALANCE SHEET ARRANGEMENTS
GUARANTEES & INDEMNITIES:
In September of 1998, the Company completed the sale of its automotive
Electrical Systems business to Valeo SA for approximately $1,700 million. 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 million. However, because of the lapse of time, or
the fact that the parties have resolved certain issues, at December 31, 2005 the
Company has an accrual of $7.8 million 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 million. 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 million. However, because of the
lapse of time, or the fact that the parties have resolved certain issues, at
December 31, 2005 the Company has an accrual of $14.0 million 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
25
give rise to material payments under such indemnities. The Company has
separately discussed material indemnities provided within the last ten years.
The Company provided a performance bond guarantee in the amount of $10.0
million related to its real estate development activities in 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 million. At
December 31, 2005, the Company has an accrual related to the expansion of a
bridge in the amount of $10.0 million.
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 million, 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 December 31, 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 December 31, 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.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements, in conformity with accounting
principles generally accepted in the United States of America, 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 December 31, 2005, the Company's best
estimate for environmental liabilities is $93.0 million, which approximates the
accrual related to the remediation of ground water and soil. The low range
estimate for environmental liabilities is $67.4 million and the high range
estimate is $149.2 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 58 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.
See Note 21, "Commitments and Contingencies," in the Notes to Consolidated
Financial Statements for additional details on environmental matters.
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
26
inflation trend rates (some of which are disclosed in Note 19, "Employee Benefit
Plans," within the Notes to Consolidated Financial Statements), and other
factors.
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.
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 11.4%, 12.3%, 12.0% and 12.0%, 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, 2005, 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 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.
As a result of this process, at December 31, 2005, the Company lowered the
discount rate on its domestic pension plans, which represent about 90% of the
Company's total pension obligations, from 6.00% to 5.75%. The Company's weighted
average discount rate for all pension plans, including foreign affiliate plans,
at December 31, 2005, is 5.64%. Also, at December 31, 2005, the Company lowered
the discount rate on its postretirement welfare plans from 5.75% to 5.50%.
At December 31, 2005, the Company maintained its expected rate of future
compensation increases for its domestic plan participants at 4.5%, based on
recent historical experience and expectations for future economic conditions.
<Table>
<Caption>
Assumption 2005 2004
- ----------------------------------------------
Long-Term Rate of Return on
Assets used to determine net
periodic benefit cost 8.89% 8.86%
Discount Rate used to determine
net periodic benefit cost 5.94% 6.18%
Discount Rate used to determine
benefit obligation at
December 31 5.64% 5.94%
Rate of future compensation
increase used to determine
benefit obligation at
December 31 4.44% 4.41%
</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, 2005, the Company's actual asset
allocation was 69.8% in equity instruments, 14.3% in fixed income instruments
and 15.8% 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 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 for more information.
<Table>
<Caption>
2005 2004 2003 2002 2001
- -----------------------------------------------------------------------------------------------
Expected Return on Assets 9.00% 9.00% 9.00% 9.75% 9.75%
Actual Return on Assets 13.2% 15.2% 27.5% (11.4)% (4.0)%
</Table>
The Company's Defense Electronics & Services segment represents
approximately 60% of the active U.S. Salaried 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
27
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 pension plan. 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 $100.0 million in 2005,
and an additional $100.0 million in the first quarter of 2006 to the U.S. Master
Trust for the U.S. Salaried Pension Plan. 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 2006.
Assuming that current IRS contribution rules continue to apply in the
future, and barring major disruptions in the equity and bond markets, the
Company estimates that it will not be required to make mandatory contributions
in the 2006 to 2007 timeframe.
Funded Status:
Funded status is derived by subtracting the value of the projected benefit
obligations at December 31, 2005 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.
As more fully described in Note 19, "Employee Benefit Plans," in the Notes
to Consolidated Financial Statements, the funded status for the Company's U.S.
Salaried Plan improved by $121.4 million to $(221.5) million at the end of 2005.
Funded status for the Company's total pension obligations, including foreign and
affiliate plans, improved by $117.5 million to $(623.3) million at the end of
2005.
Funded status at the end of 2006 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 $132 million. Similarly,
every five percentage point change in the actual 2006 rate of return on assets
impacts the same plan by approximately $197 million.
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.
At December 31, 2005, the Company's minimum pension liability recorded in
shareholders' equity is $(120.4) million. In 2005, the Company recorded an
after-tax increase to its shareholders' equity of $400.0 million due to the
plan's improved funded status.
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 recorded $82.5 million of net periodic pension cost ($83.0
million after considering the effects of curtailment losses and settlements)
into its Consolidated Income Statement in 2005, compared with net periodic
pension cost of $59.9 million ($63.2 million including curtailments) in 2004. As
more fully described in Note 19, "Employee Benefit Plans," in the Notes to
Consolidated Financial Statements, the primary drivers behind the increase in
the net periodic pension cost were the effect of the change in the discount rate
and the increased amortization of past losses in 2005.
In 2006, the Company expects to incur approximately $95.1 million of net
periodic pension cost that will be recorded into its Consolidated Income
Statement. The increase in net periodic pension cost is primarily due to the
effect of the change in discount rate, and the higher amortization of past
losses.
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
28
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 warranties at December 31, 2005 and 2004 was
$45.6 million and $38.7 million, respectively. See Note 22, "Guarantees,
Indemnities and Warranties," in the Notes to Consolidated Financial Statements
for additional details.
NEW ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 123 (revised 2004) "Share-Based Payment" ("SFAS No. 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 estimates that adoption of this
statement will lead to the recognition of employee compensation equivalent to
$0.09 per share in 2006.
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
January 1, 2006. Adoption of SFAS No. 151 will not have a material effect on the
Company's financial statements.
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.
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 were actuarially equivalent based on the proposed
regulations released in August 2004. The Company has now determined that a
majority of its healthcare plans pass the test of actuarial equivalence and
during the fourth quarter of 2005 made application to Centers for Medicare &
Medicaid Services ("CMS") for the subsidy provided under the Medicare
Modernization Act. Other than the effect of the subsidy, there was no
expectation that retiree participation would be affected in the short-term given
the nature of the Company's healthcare plans. See Note 19, "Employee Benefit
Plans," in the Notes to Consolidated Financial Statements for discussion of
postretirement benefits.
In March 2005, the FASB issued Financial Interpretation No. 47 (FIN 47),
"Accounting for Conditional Asset Retirement Obligations". FIN 47 requires that
the entity recognize a liability for the fair value of a conditional asset
retirement obligation at the point in time when that liability can be reasonably
estimated. The majority of conditional asset retirement obligations incurred by
the Company relates to asbestos-containing materials that exist in certain owned
facilities. The adoption of FIN 47 resulted in the recording of a cumulative
effect of a change in accounting principle of $6.5 million, net of tax and a
conditional asset-retirement obligation liability of $11.2 million. Utilizing
current period assumptions, the Company would have had liabilities for
conditional asset-retirement obligations of
29
$9.3 million and $10.6 million at January 1, 2004 and December 31, 2004,
respectively.
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.
2006 OUTLOOK:
Overall, the Company's revenues are expected to increase to $7.82 billion
to $7.97 billion. Revenue growth in the Defense Electronics & Services segment
is expected to improve to $3.48 billion to $3.54 billion driven by higher
service volume, reflecting a broader range of offerings/capabilities. The Fluid
Technology segment expects to grow revenues to $2.96 billion to $3.00 billion
due to continued growth in the water/wastewater business. Revenues of $675
million to $695 million are expected in Motion & Flow Control reflecting growth
in the aerospace controls and marine and leisure businesses, as well as
expansion in the friction products business. The Electronic Components segment
expects revenues of $710 million to $730 million.
Operating income is projected to increase between 65% and 70% in 2006 due
to the revenue growth discussed above and improved operating margin as described
below. Segment operating margin is projected to increase between approximately
410 and 420 basis points over 2005. The variance primarily reflects the
recognition of a $222.7 million asset impairment charge in 2005, the impact of
process improvement initiatives and the pruning of lower margin products.
FORWARD-LOOKING STATEMENTS
Certain statements contained in this document, including within this
Management's Discussion and Analysis of Financial Condition and Results of
Operations (most particularly, material presented under "Executive Summary,"
"Liquidity and Capital Resources," "Critical Accounting Policies," "Risks and
Uncertainties" and "2006 Outlook"), that are not historical facts, constitute
"Forward-Looking Statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Forward-looking statements, in general, predict,
forecast, indicate or imply future results, performance or achievements and
generally use words so indicative. Such forward- looking statements involve
known and unknown risks, uncertainties and other factors that may cause the
actual results or performance of the Company and its businesses to be materially
different from that expressed or implied by such forward-looking statements.
Such factors may be described or referred to from time to time in filings made
by the Company with the Securities and Exchange Commission. Included in those
factors are the following: general economic and business conditions; foreign
currency exchange rates; political, social and economic conditions and local
regulations in the countries in which the Company conducts its businesses;
government regulations and compliance therewith; demographic changes; sales and
revenues mix; pricing levels; changes in sales and revenues to, or the identity
of, significant customers; changes in technology; industry capacity and
production rates; ability of outside third parties to comply with their
commitments; competition; capacity constraints; availability of raw materials
and adequate labor; availability of appropriate professional expertise;
availability of liquidity sufficient to meet the Company's needs; the ability to
adapt to changes resulting from acquisitions and divestitures and to effect cost
reduction programs; and various other factors referenced in this Management's
Discussion and Analysis and under the caption "Risk Factors". In some areas the
availability of energy sources may affect our production processes or customer
demand for our products or
30
services. In addition to these factors, our business segments may be affected by
the more specific factors referred to below.
The Fluid Technology business will be affected by factors including global
economic conditions; governmental funding levels; international demand for fluid
management products; the ability to successfully expand into new geographic
markets; weather conditions; and continued demand for replacement parts and
servicing.
The Defense Electronics & Services business will be affected by factors
including the level of defense funding by domestic and foreign governments; our
ability to receive contract awards; and our ability to develop and market
products and services for customers outside of traditional markets.
The Motion & Flow Control business will be affected by the cyclical nature
of the transportation industries; strikes at major auto producers; and demand
for marine and leisure products.
The Electronic Components business will be affected by the economic
conditions in its major markets, the success of new products and the cyclical
nature of the industry.
The Company assumes no obligation to update forward-looking statements to
reflect actual results or changes in or additions to the factors affecting such
forward-looking statements.
31
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK EXPOSURES
The Company, in the normal course of doing business, is exposed to the
risks associated with changes in interest rates, currency exchange rates, and
commodity prices. To limit the risks from such fluctuations, the Company enters
into various hedging transactions that have been authorized pursuant to the
Company's policies and procedures. See Note 1, "Accounting Policies," and Note
18, "Financial Instruments," in the Notes to Consolidated Financial Statements.
On October 28, 2005, the Company terminated five interest rate swap
contracts with an aggregate notional value of $333.3 million. These contracts
effectively converted fixed-rate debt to variable rate debt. The Company
realized approximately $77.8 million of proceeds from the transaction. Of the
proceeds received, $69.5 million represented the fair value of the contracts and
$8.3 million of accrued interest earned on the swap prior to the termination
date. The fair value is being amortized over the remaining life of the notes as
a reduction to interest expense. As of December 31, 2004, the swaps had a
notional value of $335.8 million and a carrying value of $84.9 million,
including $3.3 million of accrued interest.
At December 31, 2005 and 2004, the Company's short-term and long-term debt
obligations totaled $1,267.7 million and $1,272.0 million, respectively. In
addition, the Company's cash balances at December 31, 2005 and 2004 were $451.0
million and $262.9 million, respectively. Based on these positions, and the
Company's overall exposure to interest rates, changes of 44 and 24 basis points
(equivalent to 10% of the Company's weighted average short-term interest rates,
including the rates associated with the Company's interest rate swaps, at
December 31, 2004) on the Company's cash and marketable securities and on its
floating rate debt obligations and related interest rate derivatives would have
a $1.3 million and $1.9 million effect on the Company's pretax earnings for the
years ended December 31, 2005 and 2004, respectively. Increases of 59 and 48
basis points in long-term interest rates (equivalent to 10% of the Company's
weighted average long-term interest rates at December 31, 2005 and 2004,
respectively) would have a $24.1 million and $3.4 million reduction in the fair
value of the Company's fixed rate debt as of December 31, 2005 and 2004,
respectively.
The multinational operations of the Company are exposed to foreign currency
exchange rate risk. The Company utilizes foreign currency denominated forward
contracts to hedge against adverse changes in foreign exchange rates. Such
contracts generally have durations of less than one year. The Company has
utilized foreign currency denominated derivative instruments to selectively
hedge certain transactions in foreign countries. During 2005 and 2004, the
Company's largest exposures to foreign exchange rates existed primarily with the
Euro, Swedish Krona, and British Pound against the U.S. Dollar. At December 31,
2005, the Company had six foreign currency derivative contracts outstanding for
a total notional amount of $120.5 million. A 10% depreciation of the Euro
against all other currencies related to the Company's foreign currency
derivatives, held as of December 31, 2005, would cause a net reduction of $4.3
million of the fair value of such instruments. At December 31, 2004, the Company
had eight foreign currency derivative contracts outstanding for a total notional
amount of $93.3 million. A 10% depreciation of the Euro against all other
currencies related to the Company's foreign currency derivatives, held as of
December 31, 2004, would cause a net reduction of $0.5 million of the fair value
of such instruments. The Company uses derivative instruments to hedge exposures
and, as such, the quantification of the Company's market risk for foreign
exchange financial instruments does not account for the offsetting impact of the
Company's underlying investment and transactional positions.
See Note 18, "Financial Instruments," in the Notes to Consolidated
Financial Statements for additional information.
32
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Index to Consolidated Financial Statements and Schedule herein.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Attached as exhibits to the Form 10-K are certifications of the Company's
Chief Executive Officer (CEO) and Chief Financial Officer (CFO) which are
required in accordance with Rule 13a-14 of the Securities Exchange Act of 1934
("Act"), as amended. This section includes information concerning controls and
controls evaluation referred to in the certifications. Part IV of this Form 10-K
contains the report of Deloitte & Touche LLP ("Deloitte & Touche"), our
independent registered public accounting firm, regarding the audit of the
Company's internal control over financial reporting and of management's
assessment of internal control over financial reporting set forth below. This
section should be read in conjunction with the certifications and the Deloitte &
Touche report.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company, with the participation of various levels of management,
including the CEO and CFO, conducted an evaluation of effectiveness of the
design and operation of our disclosure controls and procedures as of December
31, 2005. On the basis of this review, management, including the CEO and the
CFO, concluded that our disclosure controls and procedures are designed, and are
effective, to give reasonable assurance that the information required to be
disclosed in our reports filed under the Act is assembled, recorded, processed,
summarized and reported within the time periods specified in the SEC's forms and
reports, and to ensure that information required to be disclosed in the reports
submitted under the Act is accumulated and communicated to our management,
including our CEO and CFO, in a manner that allows timely decisions regarding
required disclosure.
In 2002, the Company established a Disclosure Committee with responsibility
for considering and evaluating the materiality of information and reviewing
disclosure obligations on a timely basis. The Disclosure Committee meets
regularly, reports to the General Counsel and the CFO and assists the CEO and
the CFO in designing, establishing, reviewing and evaluating the Company's
disclosure controls and procedures.
MANAGEMENT REPORT ON INTERNAL CONTROL OVER
FINANCIAL REPORTING
The Company's management is responsible for establishing and maintaining
adequate internal control over financial reporting as defined in Rules 13a-15(f)
and 15d-15(f) under the Act. The Company's internal control over financial
reporting is a process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements
for external purposes in accordance with accounting principles generally
accepted in the United States of America. Internal control over financial
reporting includes those policies and procedures that (i) pertain to the
maintenance of records that, in reasonable detail, completely, accurately and
fairly reflect the transactions and dispositions of the Company's assets; (ii)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of the financial statements in accordance with accounting
principles generally accepted in the United States of America; (iii) provide
reasonable assurance that Company receipts and expenditures are made only in
accordance with the authorization of management and the directors of the
Company, (iv) and provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use or disposition of assets that could
have a material effect on the consolidated financial statements.
Internal control over financial reporting includes the controls themselves,
monitoring and internal auditing practices and actions taken to correct
deficiencies as identified.
Management assessed the effectiveness of the Company's internal control
over financial reporting as of December 31, 2005. Management based this
assessment on criteria for effective internal control over financial reporting
described in "Internal Control -- Integrated Framework" issued by the Committee
of Sponsoring Organizations (COSO) of the Treadway Commission. Management's
assessment included an evaluation of the design of the Company's internal
control over financial reporting and testing of the operational effectiveness of
its internal control over financial reporting. Management reviewed the results
of its assessment with the Audit Committee of our Board of Directors.
33
Based on this assessment, management determined that, as of December 31,
2005, the Company maintained effective internal control over financial
reporting.
Management's assessment of the effectiveness of the Company's internal
control over financial reporting as of December 31, 2005, has been audited by
Deloitte & Touche, our independent registered public accounting firm, as stated
in their report which is included herein.
INHERENT LIMITATIONS ON EFFECTIVENESS OF CONTROLS
The Company's management, including the CEO and the CFO, does not expect
that our disclosure controls and procedures, because of inherent limitations,
will prevent or detect all error and all fraud. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may be inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There have been no changes in our internal control over financial reporting
during our fourth fiscal quarter that have materially affected, or are
reasonably likely to materially affect our internal control over financial
reporting.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of
ITT Industries, Inc.
White Plains, New York
We have audited management's assessment, included in the accompanying
Management Report on Internal Control Over Financial Reporting, that ITT
Industries, Inc. and subsidiaries (the "Company") maintained effective internal
control over financial reporting as of December 31, 2005, based on the criteria
established in Internal Control -- Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission. The Company's management
is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over
financial reporting. Our responsibility is to express an opinion on management's
assessment and an opinion on the effectiveness of the Company's internal control
over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinions.
A company's internal control over financial reporting is a process designed
by, or under the supervision of, the company's principal executive and principal
financial officers, or persons performing similar functions, and effected by the
company's board of directors, management, and other personnel to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial
reporting, including the possibility of collusion or improper management
override of controls, material misstatements due to error or fraud may not be
prevented or detected on a timely basis. Also, projections of any evaluation of
the effectiveness of the internal control over financial reporting to future
periods are subject to the risk that the controls may become inadequate because
of changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.
In our opinion, management's assessment that the Company maintained
effective internal control over financial reporting as of December 31, 2005, is
fairly stated, in all material respects, based on the criteria established in
Internal Control -- Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Also in our opinion, the Company
maintained, in all material respects, effective internal control over financial
reporting as of December 31, 2005, based
34
on the criteria established in Internal Control -- Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheet of the Company as of December 31, 2005, and the related consolidated
statements of income, comprehensive income, cash flows, and changes in
shareholders' equity for the year then ended and the financial statement
schedule listed on page S-1, and our report dated March 9, 2006 expressed an
unqualified opinion on those financial statements and financial statement
schedule.
/s/ Deloitte & Touche LLP
- -----------------------------
Stamford, Connecticut
March 9, 2006
35
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information called for by Item 10 with respect to directors is
incorporated herein by reference to the portions of the definitive proxy
statement for the Company's 2006 annual meeting of shareholders to be filed
pursuant to Regulation 14A of the Exchange Act set forth under the captions
"Election of Directors", "Information About the Board of Directors" and "Report
of the Audit Committee".
The information called for by Item 10 with respect to executive officers is
set forth above in Part I under the caption "Executive Officers of the
registrant."
ITT Industries has adopted corporate governance principles and charters for
each of its standing committees. The principles address director qualification
standards, responsibilities, access to management and independent advisors,
compensation, orientation and continuing education, management succession
principles and board and committee self-evaluation. The corporate governance
principles and charters are available on the company's website at
http.//www.itt.com/profile/govandcharters.asp. A copy of the corporate
governance principles and charters are also available to any shareholder who
requests them from the Company's secretary.
ITT Industries has also adopted a written code of ethics, the "Code of
Corporate Conduct," which is applicable to all ITT directors, officers and
employees, including the Company's Chief Executive Officer, Chief Financial
Officer, and Principal Accounting Officer and Controller and other executive
officers identified pursuant to this Item 10 (collectively, the "Selected
Officers"). In accordance with the SEC's rules and regulations, a copy of the
code was filed as an exhibit to the 2002 Form 10-K and has been posted on our
website and a copy of the code is also available to any shareholder who requests
it. ITT Industries intends to disclose any changes in or waivers from its code
of ethics applicable to any Selected Officer or director on its website at
http://www.itt.com.
Pursuant to New York Stock Exchange ("NYSE") Listing Company Manual Section
303A.12(a), the Company submitted a Section 12(a) CEO Certification to the NYSE
in 2005. The Company also filed with the SEC, as exhibits to the Company's
current Form 10-K, the certifications required under Section 302 of the
Sarbanes-Oxley Act for its Chief Executive Officer and Chief Financial Officer.
ITEM 11. EXECUTIVE COMPENSATION
The information called for by Item 11 is incorporated herein by reference
to the portions of the definitive proxy statement referred to above in Item 10
set forth under the caption "Executive Compensation."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information called for by Item 12 is incorporated herein by reference
to the portions of the definitive proxy statement referred to above in Item 10
set forth under the captions "Beneficial Ownership of ITT Industries Common
Stock" and "Equity Compensation Plan Information".
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information called for by Item 13 is incorporated herein by reference
to the definitive proxy statement referred to above in Item 10.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information called for by Item 14 is incorporated herein by reference
to the portions of the definitive proxy statement referred to above in Item 10
set forth under the caption "Independent Auditor Fees".
PART IV
ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULE, AND REPORTS ON FORM 8-K
(a) Documents filed as a part of this report:
1. See Index to Consolidated Financial Statements appearing on page F-1 for
a list of the financial statements filed as a part of this report.
2. See Exhibit Index appearing on pages II-2, II-3 and II-4 for a list of
the exhibits filed or incorporated herein as a part of this report.
36
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<Table>
<Caption>
PAGE
----
Report of Independent Registered Public Accounting Firm F-2
Consolidated Income Statements for the years ended December
31, 2005, 2004 and 2003 F-3
Consolidated Statements of Comprehensive Income for the
years ended December 31, 2005, 2004 and 2003 F-4
Consolidated Balance Sheets as of December 31, 2005 and 2004 F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 2005, 2004 and 2003 F-6
Consolidated Statements of Changes in Shareholders' Equity
for the years ended December 31, 2005, 2004 and 2003 F-7
Notes to Consolidated Financial Statements F-8
Business Segment Information F-33
Geographical Information F-33
Sales and Revenues by Product Category F-34
Quarterly Results for 2005 and 2004 F-35
</Table>
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of
ITT Industries, Inc.
White Plains, New York
We have audited the accompanying consolidated balance sheets of ITT
Industries, Inc. and subsidiaries (the "Company") as of December 31, 2005 and
2004, and the related consolidated statements of income, comprehensive income,
cash flows, and changes in shareholders' equity for each of the three years in
the period ended December 31, 2005. Our audits also included the financial
statement schedule listed on page S-1. These financial statements and the
financial statement schedule are the responsibility of the Company's management.
Our responsibility is to express an opinion on the financial statements and the
financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of ITT Industries, Inc. and
subsidiaries as of December 31, 2005 and 2004, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2005, in conformity with accounting principles generally accepted
in the United States of America. Also, in our opinion, such financial statement
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.
We have also audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness of the
Company's internal control over financial reporting as of December 31, 2005,
based on the criteria established in Internal Control -- Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission
and our report dated March 9, 2006 expressed an unqualified opinion on
management's assessment of the effectiveness of the Company's internal control
over financial reporting and an unqualified opinion on the effectiveness of the
Company's internal control over financial reporting.
/s/ Deloitte & Touche LLP
- ----------------------------------------------------------
Stamford, Connecticut
March 9, 2006
F-2
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENTS
<Table>
<Caption>
Year Ended December 31,
---------------------------------------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 2005 2004 2003
- ------------------------------------------------------------------------------------------------------
Sales and revenues $ 7,427.3 $ 6,327.4 $ 5,163.5
----------- ----------- -----------
Costs of sales and revenues 5,389.9 4,575.5 3,733.1
Selling, general and administrative expenses 1,071.2 963.4 788.6
Research and development expenses 177.6 145.1 115.2
Goodwill impairment 214.4 -- --
Restructuring and asset impairment charges, net 74.1 33.8 27.6
----------- ----------- -----------
Total costs and expenses 6,927.2 5,717.8 4,664.5
----------- ----------- -----------
Operating income 500.1 609.6 499.0
Interest income 42.7 22.5 53.3
Interest expense 75.0 50.4 43.2
Gain on sale of investments -- 20.8 --
Miscellaneous expense (income) 19.7 17.7 8.5
----------- ----------- -----------
Income from continuing operations before income tax expense 448.1 584.8 500.6
Income tax expense 133.7 164.7 130.3
----------- ----------- -----------
Income from continuing operations 314.4 420.1 370.3
Cumulative effect of change in accounting principle, net of
tax benefit of $2.2 (6.5) -- --
Discontinued operations:
Income from discontinued operations, including tax benefit
(expense) of $37.6, $(4.9) and $(8.7) 51.6 12.2 33.6
----------- ----------- -----------
Net income $ 359.5 $ 432.3 $ 403.9
=========== =========== ===========
EARNINGS PER SHARE(1)
Income from continuing operations:
Basic $ 1.70 $ 2.28 $ 2.01
Diluted $ 1.67 $ 2.23 $ 1.97
Cumulative effect of change in accounting principle:
Basic $ (0.03) $ -- $ --
Diluted $ (0.03) $ -- $ --
Discontinued operations:
Basic $ 0.28 $ 0.06 $ 0.18
Diluted $ 0.27 $ 0.06 $ 0.18
Net income:
Basic $ 1.95 $ 2.34 $ 2.19
Diluted $ 1.91 $ 2.29 $ 2.15
AVERAGE COMMON SHARES -- BASIC 184.6 184.6 184.2
AVERAGE COMMON SHARES -- DILUTED 188.5 188.8 188.2
----------- ----------- -----------
</Table>
(1)Restated for two-for-one stock split effective February 21, 2006.
The accompanying Notes to Consolidated Financial Statements are an integral part
of the above statements.
F-3
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<Table>
<Caption>
YEAR ENDED DECEMBER 31, 2005
---------------------------------------
PRETAX
(EXPENSE) TAX AFTER-TAX
(IN MILLIONS) INCOME (EXPENSE) AMOUNT
- ------------------------------------------------------------------------------------------------------
NET INCOME $ 359.5
OTHER COMPREHENSIVE INCOME (LOSS):
FOREIGN CURRENCY TRANSLATION ADJUSTMENTS $ (188.9) $ -- (188.9)
UNREALIZED GAIN ON INVESTMENT SECURITIES AND CASH FLOW
HEDGES 0.1 -- 0.1
MINIMUM PENSION LIABILITY 617.4 (217.4) 400.0
----------- ----------- -----------
OTHER COMPREHENSIVE INCOME (LOSS) $ 428.6 $ (217.4) 211.2
----------- ----------- -----------
COMPREHENSIVE INCOME $ 570.7
===========
</Table>
<Table>
<Caption>
Year Ended December 31, 2004
---------------------------------------
Pretax Tax After-Tax
(In Millions) Income (Expense) Amount
- ------------------------------------------------------------------------------------------------------
Net income $ 432.3
Other comprehensive income (loss):
Foreign currency translation adjustments $ 101.5 $ -- 101.5
Minimum pension liability 119.6 (37.8) 81.8
----------- ----------- -----------
Other comprehensive income (loss) $ 221.1 $ (37.8) 183.3
----------- ----------- -----------
Comprehensive income $ 615.6
===========
</Table>
<Table>
<Caption>
Year Ended December 31, 2003
---------------------------------------
Pretax Tax After-Tax
(In Millions) Income (Expense) Amount
- ------------------------------------------------------------------------------------------------------
Net income $ 403.9
Other comprehensive income (loss):
Foreign currency translation adjustments $ 188.3 $ -- 188.3
Unrealized gain (loss) on investment securities and cash
flow hedges 1.7 (0.6) 1.1
Minimum pension liability 282.6 (100.1) 182.5
----------- ----------- -----------
Other comprehensive income (loss) $ 472.6 $ (100.7) 371.9
----------- ----------- -----------
Comprehensive income $ 775.8
===========
</Table>
The accompanying Notes to Consolidated Financial Statements are an integral part
of the above statements.
F-4
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<Table>
<Caption>
December 31,
-------------------------
(IN MILLIONS, EXCEPT SHARE AND PER SHARE AMOUNTS) 2005 2004
- ----------------------------------------------------------------------------------------
ASSETS
Current Assets:
Cash and cash equivalents $ 451.0 $ 262.9
Receivables, net 1,273.7 1,110.9
Inventories, net 666.9 685.7
Current assets of discontinued operations 236.6 262.0
Deferred income taxes 73.7 107.1
Other current assets 70.1 59.7
----------- -----------
Total current assets 2,772.0 2,488.3
----------- -----------
Plant, property and equipment, net 841.0 872.0
Deferred income taxes 87.5 209.6
Goodwill, net 2,253.9 2,492.0
Other intangible assets, net 214.8 236.8
Other assets 894.2 983.9
----------- -----------
Total non-current assets 4,291.4 4,794.3
----------- -----------
TOTAL ASSETS $ 7,063.4 $ 7,282.6
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 799.6 $ 688.1
Accrued expenses 748.4 698.9
Accrued taxes 187.1 283.1
Notes payable and current maturities of long-term debt 751.4 729.2
Current liabilities of discontinued operations 65.4 69.7
Other current liabilities 8.5 2.0
----------- -----------
Total current liabilities 2,560.4 2,471.0
----------- -----------
Pension benefits 432.6 1,063.2
Postretirement benefits other than pensions 305.5 298.8
Long-term debt 516.3 542.8
Other liabilities 525.2 563.8
----------- -----------
Total non-current liabilities 1,779.6 2,468.6
----------- -----------
TOTAL LIABILITIES 4,340.0 4,939.6
Shareholders' Equity:(1)
Common stock: Authorized -- 250,000,000 shares, $1 par
value per share outstanding -- 184,637,920 shares and
184,578,226 shares 184.6 184.6
Retained earnings 2,666.0 2,496.8
Accumulated other comprehensive (loss) income:
Unrealized loss on investment securities and cash flow
hedges (0.5) (0.6)
Minimum pension liability (120.4) (520.4)
Cumulative translation adjustments (6.3) 182.6
----------- -----------
Total accumulated other comprehensive loss (127.2) (338.4)
----------- -----------
Total shareholders' equity 2,723.4 2,343.0
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 7,063.4 $ 7,282.6
=========== ===========
</Table>
(1) Restated for two-for-one stock split effective February 21, 2006.
The accompanying Notes to Consolidated Financial Statements are an integral part
of the above statements.
F-5
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<Table>
<Caption>
Year Ended December 31,
---------------------------------------
(IN MILLIONS) 2005 2004 2003
- ------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 359.5 $ 432.3 $ 403.9
Cumulative effect of change in accounting principle 6.5 -- --
Income from discontinued operations (51.6) (12.2) (33.6)
----------- ----------- -----------
Income from continuing operations 314.4 420.1 370.3
Adjustments to income from continuing operations:
Depreciation and amortization 196.6 175.1 162.3
Restructuring and asset impairments 288.5 33.8 27.6
Payments for restructuring (50.4) (29.3) (21.6)
Change in receivables, inventories, payables, and accrued
expenses (85.9) (89.4) 6.5
Change in accrued and deferred taxes 89.8 101.9 168.0
Change in other current and non-current assets (16.3) (54.9) (201.8)
Change in other non-current liabilities 7.5 (56.1) 24.5
Other, net 1.6 (14.5) 2.2
----------- ----------- -----------
Net Cash -- operating activities 745.8 486.7 538.0
----------- ----------- -----------
INVESTING ACTIVITIES
Additions to plant, property and equipment (179.2) (145.4) (136.3)
Acquisitions, net of cash acquired (69.0) (1,010.0) (46.2)
Proceeds from sale of assets and businesses 26.9 7.2 16.9
Sale of investments -- 24.9 43.5
Other, net (2.2) 0.2 (2.0)
----------- ----------- -----------
Net Cash -- investing activities (223.5) (1,123.1) (124.1)
----------- ----------- -----------
FINANCING ACTIVITIES
Short-term debt, net 26.6 554.2 (144.1)
Long-term debt repaid (18.4) (68.7) (42.7)
Long-term debt issued 0.4 120.3 0.3
Repurchase of common stock (334.4) (159.6) (69.7)
Proceeds from issuance of common stock 151.9 76.8 45.3
Dividends paid (65.6) (61.8) (58.0)
Other, net (0.3) (0.2) --
----------- ----------- -----------
Net Cash -- financing activities (239.8) 461.0 (268.9)
----------- ----------- -----------
EXCHANGE RATE EFFECTS ON CASH AND CASH EQUIVALENTS (25.1) 17.6 35.4
NET CASH -- DISCONTINUED OPERATIONS OPERATING ACTIVITIES (64.1) 26.2 48.6
NET CASH -- DISCONTINUED OPERATIONS INVESTING ACTIVITIES (5.2) (19.7) (17.0)
----------- ----------- -----------
Net change in cash and cash equivalents 188.1 (151.3) 212.0
Cash and cash equivalents -- beginning of year 262.9 414.2 202.2
----------- ----------- -----------
CASH AND CASH EQUIVALENTS -- END OF YEAR $ 451.0 $ 262.9 $ 414.2
=========== =========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 73.8 $ 45.2 $ 43.9
Income taxes (net of refunds received) $ 43.9 $ 70.1 $ (26.6)
----------- ----------- -----------
</Table>
The accompanying Notes to Consolidated Financial Statements are an integral part
of the above statements.
F-6
ITT INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
<Table>
<Caption>
Shares Outstanding Dollars
Year Ended December 31, --------------------------------------- ---------------------------------------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 2005 2004 2003 2005 2004 2003
- ---------------------------------------------------------------------------------------------------------------------------
COMMON STOCK(1)
Beginning balance 184.6 184.6 183.6 $ 184.6 $ 184.6 $ 183.6
Stock incentive plans 6.6 4.0 3.0 6.6 4.0 3.0
Repurchases (6.6) (4.0) (2.0) (6.6) (4.0) (2.0)
----------- ----------- ----------- ----------- ----------- -----------
Ending balance 184.6 184.6 184.6 $ 184.6 $ 184.6 $ 184.6
=========== =========== =========== ----------- ----------- -----------
RETAINED EARNINGS(1)
Beginning balance $ 2,496.8 $ 2,184.8 $ 1,847.3
Net income 359.5 432.3 403.9
Cash dividend declared on common
stock -- $0.36, $0.34 and $0.32 (66.5) (62.8) (59.0)
Issuances (repurchases) (123.8) (57.5) (7.4)
----------- ----------- -----------
Ending balance $ 2,666.0 $ 2,496.8 $ 2,184.8
----------- ----------- -----------
ACCUMULATED OTHER COMPREHENSIVE LOSS
Minimum Pension Liability:
Beginning balance $ (520.4) $ (602.2) $ (784.7)
Recognition of minimum pension
liability 400.0 81.8 182.5
----------- ----------- -----------
Ending balance $ (120.4) $ (520.4) $ (602.2)
----------- ----------- -----------
Unrealized Loss on Investment
Securities and Cash Flow Hedges:
Beginning balance $ (0.6) $ (0.6) $ (1.7)
Unrealized gain (loss) 0.1 -- 1.1
----------- ----------- -----------
Ending balance $ (0.5) $ (0.6) $ (0.6)
----------- ----------- -----------
Cumulative Translation Adjustments:
Beginning balance $ 182.6 $ 81.1 $ (107.2)
Translation of foreign currency
financial statements (188.9) 101.5 188.3
----------- ----------- -----------
Ending balance $ (6.3) $ 182.6 $ 81.1
----------- ----------- -----------
Total accumulated other comprehensive
loss $ (127.2) $ (338.4) $ (521.7)
----------- ----------- -----------
TOTAL SHAREHOLDERS' EQUITY $ 2,723.4 $ 2,343.0 $ 1,847.7
=========== =========== ===========
</Table>
(1) Restated for two-for-one stock split effective February 21, 2006.
The accompanying Notes to Consolidated Financial Statements are an integral part
of the above statements.
F-7
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT SHARE AND PER SHARE AMOUNTS, UNLESS OTHERWISE
STATED)
NOTE 1
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CONSOLIDATION PRINCIPLES:
The consolidated financial statements include the accounts of ITT
Industries, Inc. and all majority owned subsidiaries (the "Company"). The
Company consolidates companies in which it owns more than 50% of the voting
shares. The results of companies acquired or disposed of during the fiscal year
are included in the consolidated financial statements from the effective date of
acquisition or up to the date of disposal. All intercompany transactions have
been eliminated. See Note 23, "Business Segment Information," for a description
of the Company's segments.
SALES AND REVENUE RECOGNITION:
The Company recognizes revenues as services are rendered and when title
transfers for products, subject to any special terms and conditions of specific
contracts. Our Defense Electronics & Services segment generally recognizes sales
and anticipated profits under long-term fixed-price contracts based on the units
of delivery or the completion of scheduled performance milestones. Estimated
contract profits are recorded into earnings in proportion to recorded sales.
During the performance of such contracts, estimated final contract prices and
costs are periodically reviewed and revisions are made as required. The effect
of these revisions to estimates is included in earnings in the period in which
the revisions are made. Sales under cost-reimbursement contracts are recorded as
costs are incurred and include estimated earned fees or profits calculated on
the basis of the relationship between costs incurred and total estimated costs.
For time-and-material contracts, revenue is recognized to the extent of billable
rates times hours incurred plus material and other reimbursable costs incurred.
Anticipated losses on contracts are recorded when first identified by the
Company. Revenue arising from the claims process is not recognized either as
income or as an offset against a potential loss until it can be reliably
estimated and realization is probable.
RESEARCH, DEVELOPMENT AND ENGINEERING:
Significant costs are incurred each year in connection with research,
development, and engineering ("RD&E") programs that are expected to contribute
to future earnings. RD&E costs not specifically covered by contracts are charged
to expense as incurred. RD&E costs incurred under contracts with customers are
charged directly to the related contracts and are reported as a component of
cost of sales and revenues.
CASH AND CASH EQUIVALENTS:
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
INVENTORIES:
Most inventories are valued at the lower of cost (first-in, first-out or
"FIFO") or market. A full absorption policy is employed using standard cost
techniques that are periodically reviewed and adjusted when required. Potential
losses from obsolete and slow-moving inventories are recorded when identified.
Domestic inventories valued under the last-in, first-out ("LIFO") method
represent 10.5% and 11.1% of total 2005 and 2004 inventories, respectively.
There would not have been a material difference in the value of inventories if
the FIFO method had been used by the Company to value all inventories.
LONG-LIVED ASSET IMPAIRMENT LOSSES:
The Company records impairment losses on long-lived assets used in
operations when events and circumstances indicate that the assets may be
impaired and the undiscounted net cash flows estimated to be generated by those
assets are less than their carrying amounts. When the undiscounted net cash
flows are less than the carrying amount, losses are recorded for the difference
between the discounted net cash flows of the assets and the carrying amount. See
Note 4, "Restructuring and Asset Impairment Charges," for further discussions on
impairment losses.
PLANT, PROPERTY AND EQUIPMENT:
Plant, property and equipment, including capitalized interest applicable to
major project expenditures, are recorded at cost. For financial reporting
purposes, depreciation is provided on a straight-line basis over the economic
useful lives of the assets involved as follows: buildings and
improvements -- five to 40 years, machinery and equipment -- two to 10 years,
furniture and office equipment -- three to seven years, and other -- five to 40
years. Gains or losses on sale or retirement of assets are included in selling,
general and administrative expenses.
F-8
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
GOODWILL AND OTHER INTANGIBLE ASSETS:
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"), goodwill, the
excess of cost over the fair value of net assets acquired, and indefinite-lived
intangible assets are tested for impairment on an annual basis, or more
frequently if circumstances warrant. See Note 13, "Goodwill and Other Intangible
Assets," for a description of the Company's goodwill and other intangible
assets.
INVESTMENTS:
Investments for which the Company does not have the ability to exercise
significant influence and for which there is not a readily determinable market
value are accounted for under the cost method of accounting. The Company
periodically evaluates the carrying value of its investments accounted for under
the cost method of accounting. Such investments were recorded at the lower of
cost or estimated net realizable value as of year-end. For investments in which
the Company owns or controls 20% or more of the voting shares, or over which it
exerts significant influence over operating and financial policies, the equity
method is used. The Company's share of net income or losses of equity
investments is included in miscellaneous (income) expense in the Consolidated
Income Statements and was not material in any period presented. Investments are
included in other assets in the Consolidated Balance Sheets.
FOREIGN CURRENCY TRANSLATION:
Balance sheet accounts are translated at the exchange rate in effect at
each year-end; income accounts are translated at the average rates of exchange
prevailing during the year. Gains and losses on foreign currency translations
are reflected in the cumulative translation adjustments component of
shareholders' equity. The national currencies of the foreign companies are
generally the functional currencies. Net (losses)/gains from foreign currency
transactions are reported currently in selling, general and administrative
expenses and were $1.9, $(0.6) and $4.0 in 2005, 2004, and 2003, respectively.
DERIVATIVE FINANCIAL INSTRUMENTS:
The Company uses a variety of derivative financial instruments, including
interest rate swaps and foreign currency forward contracts and/or swaps, as a
means of hedging exposure to interest rate and foreign currency risks. Changes
in the spot rate of instruments designated as hedges of the net investment in a
foreign subsidiary are reflected in the cumulative translation adjustments
component of shareholders' equity. The Company and its subsidiaries are
end-users and do not utilize these instruments for speculative purposes. The
Company has rigorous standards regarding the financial stability and credit
standing of its major counterparties.
Additionally, all derivative instruments are recorded on the balance sheet
at fair value as derivative assets or derivative liabilities. Subject to certain
specific qualifying conditions in SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS No. 133"), a derivative instrument
may be designated either as a hedge of the fair value of an asset or liability
(fair value hedge), or as a hedge of the variability of cash flows of an asset
or liability or forecasted transaction (cash flow hedge). For a derivative
instrument qualifying as a fair value hedge, fair value gains or losses on the
derivative instrument are reported in net income, together with offsetting fair
value gains or losses on the hedged item that are attributable to the risk being
hedged. For a derivative instrument qualifying as a cash flow hedge, fair value
gains or losses associated with the risk being hedged are reported in other
comprehensive income and released to net income in the period(s) in which the
effect on net income of the hedged item is recorded. Fair value gains and losses
on a derivative instrument not qualifying as a hedge are reported in net income.
Interest rate swaps involve the periodic exchange of payments without the
exchange of underlying principal or notional amounts. Net payments are
recognized as an adjustment to interest. When the swaps are terminated,
unrealized gains or losses are deferred and amortized over the shorter of the
remaining original term of the hedging instrument or the remaining life of the
underlying debt instrument. Such gains or losses are reflected in net interest
expense.
ENVIRONMENTAL REMEDIATION COSTS:
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 of the
liability can be reasonably estimated, based on current law and existing
technologies. The Company's estimated liability is reduced to reflect the
anticipated participation of other potentially responsible parties in those
instances where it is probable that such parties are legally responsible and
financially capable of paying their respective shares of the relevant costs.
These accruals are adjusted periodically as assessment and remediation efforts
progress or as additional technical or legal information becomes available.
Actual costs to be incurred at identified sites in future periods
F-9
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
may vary from the estimates, given inherent uncertainties in evaluating
environmental exposures. Accruals for environmental liabilities are generally
included in other liabilities in the Consolidated Balance Sheets at undiscounted
amounts and exclude claims for recoveries from insurance companies or other
third parties. Recoveries from insurance companies or other third parties are
included in other assets when it is probable that a claim will be realized.
STOCK-BASED EMPLOYEE COMPENSATION:
At December 31, 2005, the Company has one stock-based employee compensation
plan that is issuing new options and restricted shares. 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; however no new awards will be granted under these plans. These
plans are described more fully in Note 20, "Shareholders' Equity." 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 cost for these plans been determined based on
the fair value recognition provisions of 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>
2005 2004 2003
- -------------------------------------------------------------
Net income
As reported $359.5 $432.3 $403.9
Deduct: Total stock-based employee
compensation expense determined
under the fair value based
method for awards not reflected
in net income -- net of tax (27.4) (22.1) (6.0)
------ ------ ------
Pro forma net income $332.1 $410.2 $397.9
Basic earnings per share As
reported $ 1.95 $ 2.34 $ 2.19
Pro forma 1.80 2.22 2.16
Diluted earnings per share As
reported $ 1.91 $ 2.29 $ 2.15
Pro forma 1.76 2.17 2.11
------ ------ ------
</Table>
The fair value of each option grant was estimated on the date of grant
using the binomial lattice pricing model in 2005, and the Black-Scholes
option-pricing model in 2004 and 2003. The following weighted-average
assumptions for grants in 2005, 2004 and 2003 were: dividend yield of 0.78%,
1.39% and 1.57%, respectively; expected volatility of 23.09%, 25.77% and 28.72%,
respectively; expected life of 4.6 years, 6.0 years, and 6.0 years,
respectively; and risk-free interest rates of 4.02%, 3.71% and 3.37%,
respectively.
The value of stock-based compensation that was recognized in selling,
general and administrative expenses within the Consolidated Income Statements
during the periods ended December 31, 2005, 2004 and 2003 were $3.2, $1.6, and
$0.7, respectively.
EARNINGS PER SHARE:
Basic earnings per share is based on the weighted average number of common
shares outstanding. Diluted earnings per share is based on the weighted average
number of common shares outstanding and potentially dilutive common shares,
which include stock options and restricted stock.
USE OF ESTIMATES:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities, the disclosure of contingent assets and liabilities at the date of
the financial statements, and the reported amounts of revenues and expenses
during the reporting period. Estimates are revised as additional information
becomes available. Actual results could differ from those estimates.
RECLASSIFICATIONS:
Certain amounts in the prior years' consolidated financial statements have
been reclassified to conform to the current year presentation.
On February 21, 2006, the Company effected a two-for-one stock split of its
common stock. The financial statements, notes and other references to share and
per share data have been restated to reflect the stock split for all periods
presented.
NOTE 2
CHANGES IN 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 123R require the recognition of employee services received in
exchange for awards of equity instruments based on the
F-10
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
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 123R is
effective for the Company beginning January 1, 2006.
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
January 1, 2006. Adoption of SFAS No. 151 will not have a material effect on the
Company's financial statements.
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.
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, "Employers' Disclosures about
Pensions and Other Postretirement Benefits." 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. The Company has now determined that a
majority of its healthcare plans pass the test of actuarial equivalence and
during the fourth quarter of 2005 made application to Centers for Medicare &
Medicaid Services ("CMS") for the subsidy provided under the Medicare
Modernization Act. Other than the effect of the subsidy, there was no
expectation that retiree participation would be affected in the short-term given
the nature of the Company's healthcare plans. See Note 19, "Employee Benefit
Plans," for discussion of postretirement benefits.
In March 2005, the FASB issued Financial Interpretation No. 47 (FIN 47),
"Accounting for Conditional Asset Retirement Obligations". FIN 47 requires that
the entity recognize a liability for the fair value of a conditional asset
retirement obligation at the point in time when that liability can be reasonably
estimated. The majority of conditional asset retirement obligations incurred by
the Company relate to asbestos containing materials that exist in certain owned
facilities. The adoption of FIN 47 resulted in the recording of a cumulative
effect of a change in accounting principle of $6.5, net of tax and a conditional
asset retirement obligation liability of $11.2. Utilizing current period
assumptions, the Company would have had liabilities for conditional asset
retirement obligations of $9.3 and $10.6 at January 1, 2004 and December 31,
2004, respectively.
NOTE 3
ACQUISITIONS
2005 ACQUISITIONS
During 2005, the Company spent $69.0 for acquisitions. Of this amount,
$29.7 was paid for Phelps, the largest U.S. distributor of products sold under
ITT's Flygt brand for the wastewater pumping and treatment market. The Company
has preliminarily assigned values to the assets and liabilities of Phelps,
however, the allocation is subject to further refinement.
The Company also paid a purchase price adjustment totaling $28.5 related to
the 2004 acquisition of Remote Sensing Systems business ("RSS") and purchased
additional shares of WEDECO AG Water Technology ("WEDECO"), a company acquired
in 2004 for $10.8.
In addition, the Company finalized purchase price allocations related to
other acquisitions, which resulted in an increase of goodwill of $11.1.
F-11
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
2004 ACQUISITIONS
On August 13, 2004, the Company purchased RSS for $736.9 in cash. The RSS
business 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 December 31, 2005, the excess of the purchase price of RSS over the
fair value of net assets acquired of $640.1 was recorded as goodwill as of
December 31, 2005 and $626.0 is deductible for tax purposes. The entire goodwill
balance is reflected in the Defense Electronics & Services segment.
Intangible assets of $124.9 were recorded as part of the acquisition. This
balance is comprised of $120.0 of customer relationships (amortized over 16
years), $3.4 of maintenance contracts (amortized over 15 years) and $1.5 of
product software (amortized over 10 years).
The Company also spent $273.1 on additional 2004 acquisitions that it does
not believe are material individually or in the aggregate to its results of
operations or financial condition. These acquisitions include:
- - WEDECO, the world's largest manufacturer of UV disinfection and ozone
oxidation systems, which are alternatives to chlorine treatment.
- - Allen Osborne Associates, Inc. ("AOA"), a leader in the development of global
positioning system receivers for both portable and fixed sites.
- - Shanghai Hengtong Purified Water Development Co. Ltd. and Shanghai Hengtong
Water Treatment Engineering Co. Ltd., a Shanghai-based producer of reverse-
osmosis, membrane and other water treatment systems for the power,
pharmaceutical, chemical and manufacturing markets in China.
- - Cleghorn Waring and Co. (Pumps) Limited, a distributor of pumps and marine
products.
As of December 31, 2005, the excess of the purchase price over the fair
value of net assets acquired in these transactions of $235.6 was recorded as
goodwill, of which $229.3, $3.4 and $2.9 are reflected in the Fluid Technology,
Defense Electronics & Services and Motion & Flow Control segments, respectively.
Intangible assets relating to the acquisitions of WEDECO and AOA, totaled
$54.9. This amount includes $26.2 of proprietary technology and other
identifiable intangible assets (amortized over 15 years), $17.8 of customer
relationships (amortized over 10 years), and $10.9 of indefinite-lived
tradenames.
During 2004, the Company also finalized purchase price allocations related
to the 2003 acquisitions, which resulted in an increase in goodwill of $1.5.
2003 ACQUISITIONS
During 2003, the Company spent $46.2 primarily for the acquisition of two
entities, one in the Electronic Components segment and one in the Fluid
Technology segment. All of the acquisitions were accounted for as purchases and,
accordingly, the results of operations of each acquired company are included in
the Consolidated Income Statements from the date of acquisition. The Company
does not believe the acquisitions are material individually or in the aggregate
to its results of operation or financial condition; however, the larger of the
acquisitions were as follows:
- - The VEAM/TEC Division of the Northrop Grumman Corporation, a designer and
manufacturer of cylindrical, filter and fiber optic connectors for the
military/aerospace, industrial, transit, entertainment and nuclear markets.
- - Uniservice Wellpoint Srl., a manufacturer of high quality diesel and electric
powered, vacuum primed centrifugal pumps, along with spear or well point
dewatering systems for the rental market and sale.
As of December 31, 2005, the excess of the purchase price over the fair
value of net assets acquired in these transactions of $31.0 was recorded as
goodwill, of which $24.0, $5.9 and $1.1 are reflected in the Electronic
Components, Fluid Technology, and Motion & Flow Control segments, respectively.
Additionally, in 2003, the Company finalized purchase price allocations
related to the 2002 acquisitions, which resulted in a decrease in goodwill of
$5.1.
NOTE 4
RESTRUCTURING AND ASSET IMPAIRMENT CHARGES
2005 RESTRUCTURING ACTIVITIES
During 2005, the Company recognized a $72.0 restructuring charge. New
actions represent $70.7 of the charge. Costs associated with previous year plans
represent $1.3 of the charge.
F-12
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The actions announced during 2005 by segment are as follows:
- - The Fluid Technology segment recorded $29.7 of severance costs for the
termination of 474 employees, including 242 factory workers, 208 office
workers and 24 management employees. Lease cancellation and other costs were
$0.9 and $0.8, respectively. Additionally, asset write-offs totaling $1.4 were
also recorded. The charges reflect a reduction in structural costs, including
the closure of four facilities.
- - The Electronic Components segment recorded $25.8 for the reduction of 1,246
employees, including 926 factory workers, 286 office workers and 34 management
employees. Other costs totaling $1.9, primarily representing contract
termination costs, lease costs, and other were also recognized during the
year. Asset write-offs associated with the restructuring actions totaled $0.1.
These actions reflect the continued reorganization of the segment, including
the closure of three facilities.
- - The Motion & Flow Control segment recognized $8.9 for the termination of 274
employees, including 163 factory workers, 97 office workers and 14 management
employees. Other costs totaling $0.6 and lease costs of $0.2 were also
recognized during the year. The headcount reductions relate to workforce
reductions, the consolidation of functions, the transfer of functions from
France to Holland, and the outsourcing of selected functions to Eastern
Europe.
- - Corporate headquarters recorded $0.4 for the termination of one management
employee.
2005 OTHER ASSET IMPAIRMENTS
During the fourth quarter of 2005, the Company determined that certain
businesses within the Electronic Components segment were experiencing lower than
expected financial results and as a result certain long-lived assets of those
businesses may be impaired. After revising the earnings forecast for these
businesses to reflect current business conditions, the Company recorded an
impairment charge of $8.3 million relating to the long-lived assets. These
events and circumstances also caused the Company to record an impairment charge
for goodwill relating to the same business unit. See Note 13, "Goodwill and
Other Intangible Assets," for further discussion of the goodwill impairment
charge.
2004 RESTRUCTURING ACTIVITIES
During 2004, the Company recognized $34.9 of restructuring charges. Of this
amount, $34.8 related to new actions announced during 2004, primarily the
planned severance of 1,235 employees and lease cancellation costs. Additionally,
$0.1 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. These
charges include the impact of two facility closures (one in Sweden and one in
Florida).
- - 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 $2.2 for the planned termination of
49 employees, including seven factory workers, 37 office workers and five
management employees. Other costs totaling $0.2 were also recognized during
2004.
- - Corporate headquarters recorded $1.8 for the planned termination of one office
worker and two management employees.
2003 RESTRUCTURING ACTIVITIES
During 2003, the Company recognized $30.8 of restructuring charges
primarily related to the planned severance of 730 employees.
The actions announced during 2003 by segment are as follows:
- - The Fluid Technology segment recorded $12.9 for the planned termination of 161
employees, including 52 factory workers, 104 office workers and five
management employees. Additionally, $0.5 of lease costs, and $0.4 of other
costs, including a $0.2 charge associated with the disposal of machinery and
equipment, were also recognized during 2003.
- - The Electronic Components segment recorded $11.7 for the planned termination
of 479 employees, including 263 factory workers, 199 office workers and 17
management employees. The segment also recorded other costs of $0.5, primarily
representing idle facility costs, and $0.5 of asset disposal costs.
F-13
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
- - The Motion & Flow Control segment recorded $1.2 for the planned termination of
51 employees, including 31 factory workers, 13 office workers and seven
management employees. Lease termination costs totaling $0.7, asset disposal
costs of $0.1, respectively, were also recognized during 2003.
- - The Defense Electronics & Services segment recorded $1.0 for the planned
termination of 35 employees, including seven factory workers, 19 office
workers and nine management employees.
- - Corporate headquarters recorded $1.3 for the planned termination of one office
worker and three management employees.
2003 OTHER ASSET IMPAIRMENTS
During 2003, the Company recorded a $1.4 asset impairment charge primarily
for the write-off of a technology license that will not be utilized based on
management's projections of future market conditions. The applicable assets were
written down to their fair values based on management's comparison of projected
future discounted cash flows generated by each asset to the applicable asset's
carrying value. These impairments were unrelated to the Company's restructuring
activities.
The following table displays a rollforward of the cash restructuring
accruals:
<Table>
<Caption>
Defense Motion
Fluid Electronics & Flow Electronic Corporate
Technology & Services Control Components and Other Total
- --------------------------------------------------------------------------------------------------------------------
Balance January 1, 2003 $ 6.5 $ -- $ 1.4 $ 4.4 $ 0.9 $ 13.2
Payments and other related to
prior charges (5.3) -- (1.4) (2.1) (0.8) (9.6)
Reversals of prior charges -- -- (0.1) (0.9) -- (1.0)
2003 charges 13.6 1.0 1.9 12.2 1.3 30.0
Reversal of 2003 charges -- -- -- (3.4) -- (3.4)
Payments and other related to
the 2003 charges (3.5) (0.2) (0.7) (6.7) (0.6) (11.7)
----------- ----------- ----------- ------------ ----------- -----------
Balance December 31, 2003 $ 11.3 $ 0.8 $ 1.1 $ 3.5 $ 0.8 $ 17.5
----------- ----------- ----------- ------------ ----------- -----------
Additional charges for prior
year plans -- -- -- 0.1 -- 0.1
Payments and other related to
prior charges (9.9) (0.7) (0.7) (2.2) (0.6) (14.1)
Reversals of prior charges (0.4) -- -- (0.5) -- (0.9)
2004 charges 19.1 -- 2.4 9.8 1.8 33.1
Reversal of 2004 charges -- -- (0.1) -- (0.1) (0.2)
Payments and other related to
the 2004 charges (9.0) -- (0.7) (4.5) (0.8) (15.0)
----------- ----------- ----------- ------------ ----------- -----------
Balance December 31, 2004 $ 11.1 $ 0.1 $ 2.0 $ 6.2 $ 1.1 $ 20.5
----------- ----------- ----------- ------------ ----------- -----------
Additional charges for prior
year plans -- -- -- 1.3 -- 1.3
Payments and other related to
prior charges (8.9) (0.1) (1.7) (5.6) (1.1) (17.4)
Reversals of prior charges -- -- -- (1.1) -- (1.1)
2005 charges 31.4 -- 9.7 27.7 0.4 69.2
Reversal of 2005 charges (0.3) -- (0.2) (4.6) -- (5.1)
Payments and other related to
the 2005 charges (13.7) -- (6.9) (13.4) (0.2) (34.2)
----------- ----------- ----------- ------------ ----------- -----------
Balance December 31, 2005 $ 19.6 $ -- $ 2.9 $ 10.5 $ 0.2 $ 33.2
=========== =========== =========== ============ =========== ===========
</Table>
F-14
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
At December 31, 2004, the accrual balance for restructuring activities was
$20.5. Cash payments of $50.4 and additional cash charges of $70.5 were recorded
in 2005. Also, management reviewed the Company's remaining restructuring actions
and determined actions totaling $6.2 would be completed for less than planned.
Accordingly, restructuring accruals totaling $6.2 were reversed into income
during 2005. The accrual balance decreased by $1.2 due to the effect of foreign
currency translation. The accrual balance at December 31, 2005 is $33.2, which
includes $30.3 for severance and $2.9 for facility carrying costs and other.
As of December 31, 2004, remaining actions under restructuring activities
announced in 2004 and 2002 were to reduce headcount by 675. During 2005, the
Company closed seven facilities, reduced headcount by 2,444 persons related to
all plans and experienced employee attrition, leaving a balance of 219 planned
reductions. Actions announced during 2005 will be completed during 2006. Actions
announced during 2004 and 2003 were substantially completed in 2005 and 2004,
respectively.
NOTE 5
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
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.
During 2005, the Company finalized an IRS tax settlement that covered the
periods from 1998 to 2000 and included the sale of the Electrical Systems
business and the Brake and Chassis unit. As a result of this agreement, the
Company paid $100.6 to settle tax matters related to the sale of the automotive
business. Remaining tax reserves of $53.6 relating to this matter were reversed
and included in income from discontinued operations.
At December 31, 2005, the Company had automotive discontinued operations
accruals of $34.4 that are primarily related to product recalls of $7.8,
environmental obligations of $14.0 and employee benefits of $12.6.
The following tables display a rollforward of the automotive discontinued
operations accruals from January 1, 2003 to December 31, 2005:
<Table>
<Caption>
Beginning Ending
Balance 2003 Balance
Automotive Discontinued January 1, 2003 2003 Other December 31,
Operations Accruals 2003 Spending Settlements Activity 2003
- -----------------------------------------------------------------------------------------------------------
Other Deferred Liabilities $ 0.8 $ -- $ -- $(0.8) $ --
Accrued Expenses 20.6 (1.7) -- (1.2) 17.7
Environmental 14.5 (0.1) -- (0.2) 14.2
Income Tax 154.2 -- -- -- 154.2
----------- -------- ----------- ----- -----------
Total $190.1 $(1.8) $ -- $(2.2) $186.1
=========== ======== =========== ===== ===========
</Table>
In 2003, the Company reassessed its obligations related to the disposal of
the automotive businesses and determined that it would spend $2.2 less on the
disposition, related to favorable spending on professional fees and adjustments
to its environmental exposures. Based on this assessment, $2.2 was reversed into
the 2003 Consolidated Income Statement under income from discontinued
operations.
F-15
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<Table>
<Caption>
Beginning Ending
Balance 2004 Balance
Automotive Discontinued January 1, 2004 2004 Other December 31,
Operations Accruals 2004 Spending Settlements Activity 2004
- -----------------------------------------------------------------------------------------------------------
Other Deferred Liabilities $ -- $ -- $ -- $ -- $ --
Accrued Expenses 17.7 -- -- 2.7 20.4
Environmental 14.2 (0.1) -- -- 14.1
Income Tax 154.2 -- -- -- 154.2
----------- -------- ----------- ----- -----------
Total $186.1 $(0.1) $ -- $ 2.7 $188.7
=========== ======== =========== ===== ===========
</Table>
<Table>
<Caption>
BEGINNING ENDING
BALANCE 2005 BALANCE
AUTOMOTIVE DISCONTINUED JANUARY 1, 2005 2005 OTHER DECEMBER 31,
OPERATIONS ACCRUALS 2005 SPENDING SETTLEMENTS ACTIVITY 2005
- ----------------------------------------------------------------------------------------------------------
OTHER DEFERRED LIABILITIES $ -- $ -- $ -- $ -- $ --
ACCRUED EXPENSES 20.4 -- -- -- 20.4
ENVIRONMENTAL 14.1 (0.1) -- -- 14.0
INCOME TAX 154.2 (100.6) -- (53.6) --
----------- -------- ----------- ------ -----------
TOTAL $188.7 $(100.7) $ -- $(53.6) $34.4
=========== ======== =========== ====== ===========
</Table>
FHS -- DISCONTINUED OPERATIONS
In the fourth quarter of 2005, the Company announced that it had signed a
definitive agreement to sell its automotive brake & fuel tubing and components
business to Cooper-Standard Automotive, a privately held company, for $205 in
cash, subject to certain post-closing adjustments. The business, which is a
component of the Company's Motion & Flow Control segment, manufactures steel and
plastic tubing for fuel and brake lines, quick-connects, and serves the
transportation industry.
On February 7, 2006, the Company completed the sale of this business to
Cooper-Standard Automotive subject to certain post-closing adjustments The
Company expects the after-tax gain on this transaction to approximate $25.0.
Revenues associated with this discontinued operation were $417.4, $436.7
and $447.3 for 2005, 2004 and 2003, respectively. Pretax income associated with
this discontinued operation were $28.0, $25.3, and $34.8 for 2005, 2004 and
2003, respectively.
The following table presents balance sheet information for businesses held
for sale including FHS and NS&S:
<Table>
<Caption>
2005 2004
- ------------------------------------------------------------
Receivables, net $ 68.9 $ 67.9
Inventories, net 23.2 26.1
Prepaid expenses and other current assets 11.7 10.7
Property, plant and equipment, net 106.2 109.4
Goodwill and intangible assets, net 15.9 22.1
Other assets 10.7 25.8
------ ------
Total assets $236.6 $262.0
====== ======
Accounts payable $ 30.3 $ 33.5
Accrued expenses 17.1 19.1
Other liabilities 18.0 17.1
------ ------
Total liabilities $ 65.4 $ 69.7
====== ======
</Table>
NOTE 6
SALES AND REVENUES AND COSTS OF SALES AND REVENUES
Sales and revenues and costs of sales and revenues consist of the
following:
<Table>
<Caption>
For the Years Ended
December 31,
---------------------------------
2005 2004 2003
- ------------------------------------------------------------------
Product sales $5,936.8 $5,108.3 $4,285.1
Service revenues 1,490.5 1,219.1 878.4
--------- --------- ---------
Total sales and revenues $7,427.3 $6,327.4 $5,163.5
========= ========= =========
Costs of product sales $4,140.3 $3,503.5 $2,957.9
Costs of service revenues 1,249.6 1,072.0 775.2
--------- --------- ---------
Total costs of sales and
revenues $5,389.9 $4,575.5 $3,733.1
========= ========= =========
</Table>
F-16
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Defense Electronics & Services segment comprises $1,352.4, $1,103.9 and
$792.2 of total service revenues for the years ended December 31, 2005, 2004 and
2003, respectively, and $1,136.6, $965.1 and $696.7 of total costs of service
revenues, respectively, during the same period. The Fluid Technology segment
comprises the majority of the remaining balances of service revenues and costs
of service revenues.
The Company changed the classification of RD&E costs incurred under
contracts with customers from research, development and engineering expenses to
costs of sales and revenues for all periods presented. The amount of RD&E costs
incurred under contracts with customers amounted to $472.7, $473.2 and $430.4 in
2005, 2004 and 2003, respectively.
NOTE 7
INCOME TAXES
Income tax data from continuing operations is as follows:
<Table>
<Caption>
For the Years Ended
December 31,
------------------------
2005 2004 2003
- ------------------------------------------------------------
United States and foreign
components of income from
continuing operations before
income taxes
U.S. $163.9 $312.5 $249.9
Foreign 284.2 272.3 250.7
------ ------ ------
$448.1 $584.8 $500.6
====== ====== ======
Provision (benefit) for income
tax
Current
U.S. federal $103.5 $ 13.8 $(59.7)
State and local 5.1 2.6 2.7
Foreign 78.3 83.0 87.9
------ ------ ------
$186.9 $ 99.4 $ 30.9
------ ------ ------
Deferred
U.S. federal $(50.9) $ 61.7 $118.2
State and local (0.2) (1.3) (2.7)
Foreign (2.1) 4.9 (16.1)
------ ------ ------
$(53.2) $ 65.3 $ 99.4
------ ------ ------
Total income tax expense $133.7 $164.7 $130.3
====== ====== ======
</Table>
A reconciliation of the tax provision at the U.S. statutory rate to the
effective income tax expense rate as reported is as follows:
<Table>
<Caption>
For the Years Ended
December 31,
------------------------
2005 2004 2003
- --------------------------------------------------------------
Tax provision at U.S. statutory
rate 35.0% 35.0% 35.0%
Foreign tax rate differential (3.6) (2.5) (2.7)
Effect of repatriation of foreign
earnings (0.1) (0.5) (4.2)
Research credit (0.8) (0.5) (0.6)
Tax examinations (12.5) (1.7) 2.5
Export sales (1.7) (1.9) (3.4)
Goodwill impairment 15.4 -- --
Other (1.9) 0.1 (0.4)
------ ------ ------
Effective income tax expense rate 29.8% 28.0% 26.2%
====== ====== ======
</Table>
Deferred income taxes are established for temporary differences between the
amount of assets and liabilities recognized for financial reporting purposes and
for tax reporting purposes and carryforwards.
F-17
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Deferred tax assets (liabilities) include the following:
<Table>
<Caption>
December 31,
-----------------------------------------------
2005 2004
---------------------- ----------------------
DEFERRED DEFERRED DEFERRED DEFERRED
ASSETS LIABILITIES ASSETS LIABILITIES
- ----------------------------------------------------------------------------------------------------------
Employee benefits $ -- $ (48.7) $180.0 $ --
Accelerated depreciation -- (73.1) -- (64.9)
Accruals 246.5 -- 152.1 --
Uniform capitalization 3.0 -- 5.7 --
Partnership investment -- (57.9) -- (59.5)
Loss carryforwards 42.7 -- 35.0 --
Foreign tax credit 3.8 -- 52.1 --
State credit carryforwards 1.7 -- 4.4 --
Intangibles -- (73.2) -- (67.5)
Other 19.2 -- 22.4 --
------ ------- ------ -------
Subtotal 316.9 (252.9) 451.7 (191.9)
Valuation allowance (17.1) -- (43.9) --
------ ------- ------ -------
$299.8 $(252.9) $407.8 $(191.9)
====== ======= ====== =======
</Table>
The Company's deferred taxes in the Consolidated Balance Sheets consist of
the following:
<Table>
<Caption>
December 31,
---------------
2005 2004
- -----------------------------------------------------------
Current assets $ 73.7 $107.1
Non-current assets 87.5 209.6
Other current liabilities (8.5) (2.0)
Other liabilities (105.8) (98.8)
------ ------
$ 46.9 $215.9
====== ======
</Table>
No provision was made for U.S. taxes payable on accumulated undistributed
foreign earnings of certain subsidiaries amounting to approximately $807.9,
because these amounts are permanently reinvested. While the amount of federal
income taxes, if such earnings are distributed in the future, cannot be
determined, such taxes may be reduced by tax credits and other deductions.
As of December 31, 2005, the Company had approximately $3.8 of foreign tax
credit carryforwards which will begin to expire on December 31, 2010. The
Company had approximately $6.3 of general business credit carryforwards which
will expire as follows: $3.0 on December 31, 2022, $2.9 on December 31, 2023 and
$0.4 on December 31, 2024. The Company had net operating losses from some U.S.
subsidiaries in the amount of $27.4 which will begin to expire on December 31,
2020. The Company had state net operating losses of $597.2 which will begin to
expire on December 31, 2006. The Company also had net operating losses from some
foreign subsidiaries in the amount of $43.4, which will begin to expire on
December 31, 2008.
As of December 31, 2005, a valuation allowance of approximately $17.1
exists for deferred income tax benefits related to certain U.S. subsidiary state
net operating loss carryforwards that may not be realized. During 2005, the
valuation allowance decreased by $26.8.
The decrease in the valuation allowance was primarily attributable to the
resolution of the IRS examination for the period ended December 31, 2000 as the
Company was able to utilize foreign tax credits and separate U.S. subsidiary net
operating loss carryforwards for which a valuation allowance had previously been
established. This decrease was reduced as a result of the establishment of a
valuation allowance on certain state net operating loss carryovers.
Shareholders' equity at December 31, 2005 and 2004 reflects tax benefits
related to the stock options exercised in 2005 and 2004 of approximately $56.9
and $26.4, respectively.
Other comprehensive income reflects deferred tax expense for the year ended
December 31, 2005 in the amount of $217.4 as a result of the reduction of the
Company's minimum pension liability.
The IRS is currently examining the federal consolidated tax returns of the
Company for the years ended December 31, 2001 through December 31, 2003. The
F-18
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
IRS has completed its examination of all years through 2000. As of December 31,
2005, the Company believes the accrual for income taxes payable is sufficient to
cover potential liabilities arising from these examinations.
In the third quarter of 2005, the Company finalized an IRS tax settlement
that covered the periods from 1998 to 2000 and included the sale of the
Electrical Systems business and the Brake and Chassis unit. See Note 5,
"Discontinued Operations", for a description of the IRS tax settlement.
In addition, the Company has contingent tax obligations in other
jurisdictions related to the 1998 dispositions and reorganizations of
approximately $85.0. The Company has determined that payment of this amount is
unlikely.
NOTE 8
EARNINGS PER SHARE
A reconciliation of the data used in the calculation of basic and diluted
earnings per share computations for income from continuing operations is as
follows:
<Table>
<Caption>
For the Years Ended
December 31,
------------------------
2005 2004 2003
- -------------------------------------------------------------
Basic Earnings Per Share
Income from continuing
operations available to common
shareholders $314.4 $420.1 $370.3
Average common shares
outstanding 184.6 184.6 184.2
------ ------ ------
Basic earnings per share $ 1.70 $ 2.28 $ 2.01
====== ====== ======
Diluted Earnings Per Share
Income from continuing
operations available to common
shareholders $314.4 $420.1 $370.3
Average common shares
outstanding 184.6 184.6 184.2
Add: Impact of stock options and
restricted stock 3.9(1) 4.2(2) 4.0(3)
------ ------ ------
Average common shares
outstanding on a diluted basis 188.5 188.8 188.2
------ ------ ------
Diluted earnings per share $ 1.67 $ 2.23 $ 1.97
====== ====== ======
</Table>
(1) Options to purchase 208,000 shares of common stock at an average price of
$52.86 per share were outstanding at December 31, 2005 but were not included
in the computation of diluted EPS, because the options' exercise prices were
greater than the annual average market price of the common shares. These
options expire in 2012.
(2) Options to purchase 255,000 shares of common stock at an average price of
$41.51 per share were outstanding at December 31, 2004 but were not included
in the computation of diluted EPS, because the options' exercise prices were
greater than the annual average market price of the common shares. These
options expire in 2014.
(3) Options to purchase 157,880 shares of common stock at an average price of
$32.69 per share were outstanding at December 31, 2003 but were not included
in the computation of diluted EPS, because the options' exercise prices were
greater than the annual average market price of the common shares. These
options expire in 2012 and 2013.
NOTE 9
RECEIVABLES, NET
Receivables consist of the following:
<Table>
<Caption>
December 31,
---------------------
2005 2004
- --------------------------------------------------------------
Trade $ 1,163.1 $ 1,063.4
Other 148.8 81.3
Less -- allowance for doubtful
accounts and cash discounts (38.2) (33.8)
--------- ---------
$ 1,273.7 $ 1,110.9
========= =========
</Table>
NOTE 10
INVENTORIES, NET
Inventories consist of the following:
<Table>
<Caption>
December 31,
---------------------
2005 2004
- --------------------------------------------------------------
Finished goods $ 159.5 $ 181.3
Work in process 269.5 284.3
Raw materials 320.6 319.1
Less -- progress payments (82.7) (99.0)
--------- ---------
$ 666.9 $ 685.7
========= =========
</Table>
NOTE 11
OTHER CURRENT ASSETS
At December 31, 2005 and 2004, other current assets consist primarily of
advance payments on contracts and prepaid expenses.
NOTE 12
PLANT, PROPERTY AND EQUIPMENT, NET
Plant, property and equipment consist of the following:
<Table>
<Caption>
December 31,
---------------------
2005 2004
- --------------------------------------------------------------
Land and improvements $ 58.4 $ 62.0
Buildings and improvements 495.3 478.1
Machinery and equipment 1,422.3 1,532.7
Furniture, fixtures and office
equipment 228.5 235.7
Construction work in progress 70.4 60.7
Other 63.5 57.9
--------- ---------
2,338.4 2,427.1
Less -- accumulated depreciation and
amortization (1,497.4) (1,555.1)
--------- ---------
$ 841.0 $ 872.0
========= =========
</Table>
F-19
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 13
GOODWILL AND OTHER INTANGIBLE ASSETS
Changes in the carrying amount of goodwill for the years ended December 31,
2005 and 2004 by operating 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,
2004 $ 809.4 $ 303.7 $ 161.1 $ 329.4 $ 5.0 $ 1,608.6
Goodwill acquired during the
period 240.1 601.1 3.4 -- -- 844.6
Other, including foreign
currency translation 31.4 -- 0.7 6.7 -- 38.8
----------- ------------- ----------- ---------- ----------- -----------
Balance as of December 31,
2004 1,080.9 904.8 165.2 336.1 5.0 2,492.0
Goodwill acquired during the
period 17.7 -- -- -- -- 17.7
Impairment charge -- -- -- (214.4) -- (214.4)
Other, including foreign
currency translation (53.0) 42.5 (1.4) (29.5) -- (41.4)
----------- ------------- ----------- ---------- ----------- -----------
Balance as of December 31,
2005 $ 1,045.6 $ 947.3 $ 163.8 $ 92.2 $ 5.0 $ 2,253.9
=========== ============= =========== ========== =========== ===========
</Table>
Goodwill of $15.9 and $22.1 as of December 31, 2005 and 2004, respectively,
are excluded from the table above. The amounts are attributable to the Company's
automotive brake and fuel tubing and components business and are reflected in
current assets of discontinued operations in the Consolidated Balance Sheets.
2005 ACTIVITY
During the fourth quarter of 2005, the Company determined that certain
businesses within the Electronic Components segment were experiencing lower than
expected financial results and may be impaired. After revising the earnings
forecast for these businesses to reflect current business conditions, the
Company recorded a $214.4 impairment charge reported within the Electronic
Components segment. The estimated fair value of the reporting unit was computed
principally upon the present value of future cash flows (Discounted Cash Flow
Method), historical results and comparative market data. This impairment was
unrelated to the Company's restructuring activities.
During 2005, the Company recorded purchase price adjustments of $(22.0) and
$13.0 to goodwill related to acquisitions included in the Electronic Components
and Defense Electronics & Services segments, respectively. The adjustments
represent refinements of preliminary data used in the original purchase price
allocations.
During 2005, the Company completed the acquisition of Phelps. As of
December 31, 2005, intangible assets related to the acquisition of Phelps
include $17.7 goodwill and $1.9 of customer relationships and other intangibles
added to the Fluid Technology segment.
2004 ACTIVITY
During the first quarter of 2004, the Company completed the acquisition of
WEDECO. As of December 31, 2005, intangible assets related to the acquisition of
WEDECO include $227.5 of goodwill, $10.9 of intangibles for tradenames, $20.5 of
proprietary technology, $17.8 of customer relationships and $4.4 of patents and
other. During the third quarter of 2004, the Company completed the acquisition
of RSS. As of December 31, 2005, intangible assets related to the acquisition of
RSS include $640.1 of goodwill, $120.0 of intangible assets related to customer
relationships and $4.9 of other intangible assets.
Information regarding the Company's other intangible assets follows:
<Table>
<Caption>
December 31,
---------------
2005 2004
- ------------------------------------------------------------
Finite-lived intangibles --
Customer relationships $138.8 $138.8
Proprietary technology 20.5 21.4
Patents and other 46.2 44.1
Accumulated amortization (40.3) (18.8)
Indefinite-lived intangibles --
Brands and trademarks 28.7 29.7
Pension related 20.9 21.6
------ ------
Net intangibles $214.8 $236.8
====== ======
</Table>
F-20
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Amortization expense related to intangible assets for the years ended
December 31, 2005, 2004 and 2003 was $21.5, $10.4 and $2.7, respectively.
Estimated amortization expense for each of the five succeeding years is as
follows:
<Table>
<Caption>
2006 2007 2008 2009 2010
- -------------------------------------
$22.6 $20.5 $17.7 $15.6 $14.0
</Table>
Customer relationships, proprietary technology and patents and other are
amortized over weighted average lives of 15 years, 15 years and 20 years,
respectively.
NOTE 14
OTHER ASSETS
At December 31, 2005 and 2004, other assets primarily consist of prepaid
pension expense, employee benefit plan costs, investments in unconsolidated
companies, assets held in trusts and other receivables. Assets held in trusts
are restricted for specified reasons, primarily environmental remediation costs
and employee benefits and totaled $10.8 and $17.1 at December 31, 2005 and 2004,
respectively.
Investments in unconsolidated companies consist of the following:
<Table>
<Caption>
December 31,
---------------
2005 2004
- ------------------------------------------------------------
Investments accounted for under the equity
method:
Fluid Technology 40% ownership in Sam
McCoy, Malaysia $ 3.2 $ 3.3
Fluid Technology other investments 5.7 4.2
------ ------
$ 8.9 $ 7.5
====== ======
</Table>
In December 2004, the Company sold its interest in Mesh Networks, a
technology company in the wireless telecommunications market for $31.2,
including $24.9 received in cash and $6.3 placed in escrow.
The Company recorded sales to unconsolidated affiliates during 2005, 2004
and 2003 totaling $9.7, $11.8 and $8.9, respectively. For all investments in
unconsolidated companies, the Company's exposure is limited to the amount of the
investment. All investments accounted for under the cost method represent voting
rights interests of less than 20%.
NOTE 15
LEASES AND RENTALS
The Company leases certain offices, manufacturing buildings, land,
machinery, automobiles, aircraft, computers and other equipment. Such leases
expire at various dates and may include renewals and escalations. The Company
often pays maintenance, insurance and tax expense related to leased assets.
Rental expenses under operating leases were $86.8, $81.1 and $64.5 for 2005,
2004 and 2003, respectively. Future minimum operating lease payments under
long-term operating leases as of December 31, 2005 are shown below.
<Table>
2006 $ 92.7
2007 77.2
2008 63.0
2009 49.5
2010 40.1
2011 and thereafter 209.0
------
Total minimum lease payments $531.5
======
</Table>
NOTE 16
DEBT
Debt consists of the following:
<Table>
<Caption>
December 31,
---------------
2005 2004
- ------------------------------------------------------------
Commercial paper $728.8 $696.3
Short-term loans 13.5 19.8
Current maturities of long-term debt 9.1 13.1
------ ------
Notes payable and current maturities of
long-term debt $751.4 $729.2
====== ======
</Table>
<Table>
<Caption>
Interest
Long-term debt Maturity Rate 2005 2004
- -----------------------------------------------------------------
Notes and debentures: 2/1/2008 8.875% $ 13.2 $ 13.2
5/1/2011 6.500% 31.7 31.7
7/1/2011 7.500% 37.4 37.4
12/15/2014 4.700% 107.4 119.7
11/15/2025 7.400% 250.0 250.0
8/25/2048 (1) 18.1 18.1
Other 2006 - 2014 (2) 15.1 23.3
Interest rate swaps 68.7 81.6
------ ------
Subtotal notes and
debentures 541.6 575.0
Less -- unamortized
discount (16.2) (19.1)
------ ------
Long-term debt 525.4 555.9
Less -- current
maturities (9.1) (13.1)
------ ------
Net long-term debt $516.3 $542.8
====== ======
</Table>
(1) The interest rate for the note/debenture was 4.35% and 2.27% at December 31,
2005 and 2004, respectively.
(2) The weighted average interest rate was 5.30% and 4.72% at December 31, 2005
and 2004, respectively.
Principal payments required on long-term debt for the next five years are:
<Table>
<Caption>
2006 2007 2008 2009 2010
- ------------------------------------
$9.1 $10.4 $22.5 $10.5 $ 9.6
- --- ---- ---- ---- ----
- --- ---- ---- ---- ----
</Table>
F-21
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The weighted average interest rate for short-term borrowings was 4.37% and
2.31% at December 31, 2005 and 2004, respectively. The fair value of the
Company's short-term loans approximates carrying value. The fair value of the
Company's long-term debt is estimated based on comparable corporate debt with
similar remaining maturities. As of December 31, 2005, the fair value of
long-term debt was $506.5, compared to the fair value of $555.7 at December 31,
2004. The year-over-year decrease in fair value primarily reflects the impact of
a decrease in long-term debt levels and an increase in long-term interest rates.
In November 2005, the Company entered into a five-year revolving credit
agreement in the aggregate principal amount of $1.25 billion. The interest rate
for borrowings under these agreements is generally based on the London Interbank
Offered Rate ("LIBOR"), plus a spread, which reflects the Company's debt rating.
The provisions of this agreement requires that the Company maintain an interest
coverage ratio, as defined, of 3.5 times. At December 31, 2005, the Company's
coverage ratio was well in excess of the minimum requirements. The commitment
fee on the revolving credit agreements is 0.08% of the total commitment. The
revolving credit agreement serves as backup for the commercial paper program.
Borrowing through commercial paper and under the revolving credit agreements may
not exceed $1.25 billion in the aggregate outstanding at any time. At December
31, 2005 commercial paper borrowings were $728.8.
As of December 31, 2005, the Company had a $107.4 obligation associated
with a ten year agreement involving the sale and the subsequent lease back of
certain properties. Under the terms of the agreement, the Company is required to
make annual payments of principal and interest. At the end of the agreement, the
Company has the option to repurchase the applicable properties for a nominal
fee. This transaction is reflected as debt.
The book value of assets pledged as collateral amounted to $63.8 as of
December 31, 2005.
NOTE 17
CASH FLOW INFORMATION
The change in receivables, inventories, payables and accrued expenses
listed on the Consolidated Statements of Cash Flows for the year ended December
31, 2005, 2004 and 2003, respectively, consist of the following:
<Table>
<Caption>
Year Ended
DECEMBER 31, 2005 2004 2003
- ----------------------------------------------------------------
Change in accounts receivable $ (192.0) $(28.2) $(63.3)
Change in inventories (18.0) (76.0) 26.7
Change in accounts payable and
accrued expenses 124.1 14.8 43.1
--------- ------ ------
Change in receivables,
inventories, payables and
accrued expenses $ (85.9) $(89.4) $ 6.5
========= ====== ======
</Table>
NOTE 18
FINANCIAL INSTRUMENTS
The Company uses a variety of derivative financial instruments, including
interest rate swaps, foreign currency forward contracts and/or swaps, and on a
limited basis, commodity collar contracts, as a means of hedging exposure to
interest rate, foreign currency and commodity price risks.
The Company's credit risk associated with these derivative contracts is
generally limited to the unrealized gain on those contracts with a positive fair
market value, reduced by the effects of master netting agreements, should any
counterparty fail to perform as contracted. The counterparties to the Company's
derivative contracts consist of a number of major, international financial
institutions. The Company continually monitors the credit quality of these
financial institutions and does not expect non-performance by any counterparty.
FINANCING STRATEGIES AND INTEREST RATE RISK MANAGEMENT:
The Company maintains a multi-currency debt portfolio to fund its
operations. The Company at times uses interest rate swaps to manage the
Company's debt portfolio, the related financing costs and interest rate
structure.
During the fourth quarter of 2005, the Company terminated interest rate
swaps that were entered into to manage the interest rate exposure associated
with certain long-term debt and effectively converted $333.3 of the long-term
debt from fixed to variable rate borrowings. The fair value of these instruments
at the time of termination was $69.5, which will be accreted into income over
the remaining terms of the underlying debt, which mature at various dates
through 2025. At December 31, 2004, these interest rate swaps had notional
values totaling $335.8. The carrying value of the swaps at December 31, 2004 was
$84.9, including $3.3 of accrued interest. The variable interest rates are based
on three-
F-22
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
month LIBOR rates plus a spread, which reflects the Company's debt rating, and
the coupon of the underlying long-term obligations. There were no ineffective
portions of the interest rate swaps and no amounts were excluded from the
assessment of effectiveness.
FOREIGN CURRENCY RISK MANAGEMENT:
The Company has significant foreign operations and conducts business in
various foreign currencies. The Company may periodically hedge net investments
in currencies other than its own functional currency and non-functional currency
cash flows and obligations, including intercompany financings. Changes in the
spot rate of debt instruments designated as hedges of the net investment in a
foreign subsidiary are reflected in the cumulative translation adjustment
component of shareholders' equity. The Company regularly monitors its foreign
currency exposures and ensures that hedge contract amounts do not exceed the
amounts of the underlying exposures.
At December 31, 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 that had no change in value during 2004. There were no changes
in the forecasted transactions during the covered period regarding their
probability of occurring that would require amounts to be reclassified to
earnings.
At December 31, 2005 and 2004, the Company had foreign currency forward
contracts with notional amounts of $120.5 and $93.3, respectively, to hedge the
value of recognized assets, liabilities and firm commitments. The fair values of
the contracts were $0.1 and $(0.4) at December 31, 2005 and 2004, respectively.
The ineffective portion of changes in fair values of such hedge positions
reported in operating income during 2005, 2004 and 2003 amounted to $(0.5),
$(0.4) and $(0.3), respectively. There were no amounts excluded from the measure
of effectiveness.
The fair values associated with the foreign currency contracts have been
determined using the net position of the contracts and the applicable spot rates
and forward rates as of the reporting date.
NOTE 19
EMPLOYEE BENEFIT PLANS
PENSION PLANS:
The Company sponsors numerous defined benefit pension plans. The Company
funds employee pension benefits, except in some countries outside the U.S. where
funding is not required. In addition to Company sponsored pension plans, certain
employees of the Company participate in multi-employer pension plans sponsored
by local or national unions. The Company's contribution to such plans amounted
to $1.3, $1.2 and $0.7 for the years ended 2005, 2004 and 2003, respectively.
POSTRETIREMENT HEALTH AND LIFE INSURANCE PLANS:
The Company provides health care and life insurance benefits for certain
eligible retired employees. The Company has pre-funded a portion of the health
care and life insurance obligations, where such pre-funding can be accomplished
on a tax effective basis.
F-23
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
INVESTMENT AND SAVINGS PLANS:
The Company sponsors numerous defined contribution savings plans, which
allow employees to contribute a portion of their pretax and/or after-tax income
in accordance with specified guidelines. Several of the plans require the
Company to match a percentage of the employee contributions up to certain
limits. Matching contributions charged to income amounted to $32.8, $29.7 and
$25.7 for the years ended 2005, 2004 and 2003, respectively.
Changes in the benefit obligations, changes in plan assets, the
weighted-average assumptions and the components of net periodic benefit cost for
the years ended 2005 and 2004 were as follows:
<Table>
<Caption>
Pension Other Benefits
------------------------- -------------------------
2005 2004 2005 2004
- -------------------------------------------------------------------------------------------------------------
CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year $ 4,851.4 $ 4,300.3 $ 774.2 $ 645.6
Service cost 90.7 86.4 8.2 6.5
Interest cost 281.9 266.1 43.7 39.2
Amendments made during the year/other 3.9 3.6 -- --
Actuarial (gain) loss 237.5 187.1 (12.6) 44.1
Benefits paid (299.3) (290.7) (47.2) (44.0)
Liabilities assumed through acquisition/other 50.0 264.3 -- 82.8
Effect of currency translation (54.9) 34.3 -- --
----------- ----------- ----------- -----------
Benefit obligation at end of year $ 5,161.2 $ 4,851.4 $ 766.3 $ 774.2
=========== =========== =========== ===========
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year $ 4,110.6 $ 3,454.9 $ 235.3 $ 211.5
Actual return on plan assets 554.9 539.3 25.6 32.3
Assets assumed through acquisition/other 37.0 237.9 -- --
Employer contributions 122.5 126.0 -- --
Employee contributions 2.4 2.6 -- --
Benefits paid (271.4) (265.4) (7.9) (8.5)
Effect of currency translation (18.1) 15.3 -- --
----------- ----------- ----------- -----------
Fair value of plan assets at end of year $ 4,537.9 $ 4,110.6 $ 253.0 $ 235.3
=========== =========== =========== ===========
Funded status $ (623.3) $ (740.8) $ (513.3) $ (538.9)
Unrecognized net transition asset 0.1 0.1 -- --
Unrecognized net actuarial (gain) loss 1,059.8 1,108.7 207.4 241.1
Unrecognized prior service cost 22.1 20.1 0.4 (1.0)
----------- ----------- ----------- -----------
Net accrued benefit cost recognized in the balance
sheet $ 458.7 $ 388.1 $ (305.5) $ (298.8)
=========== =========== =========== ===========
</Table>
Amounts recognized in the Consolidated Balance Sheets consist of:
<Table>
<Caption>
Pension Benefits Other Benefits
------------------------- -------------------------
2005 2004 2005 2004
- -------------------------------------------------------------------------------------------------------------
Prepaid benefit cost $ 687.9 $ 637.0 $ -- $ --
Accrued benefit cost (432.6) (1,063.2) (305.5) (298.8)
Intangible assets 20.9 21.6 -- --
Accumulated other comprehensive income 182.5 792.7 -- --
----------- ----------- ----------- -----------
Net amount recognized $ 458.7 $ 388.1 $ (305.5) $ (298.8)
=========== =========== =========== ===========
</Table>
In 2005, the Company recorded a total after tax increase of $400.0 to its
shareholders' equity which reflects a decrease in the minimum pension liability.
F-24
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Information for pension plans with an accumulated benefit obligation in excess
of plan assets:
<Table>
<Caption>
December
------------------
2005 2004
- -------------------------------------------------------------
Projected benefit obligation $852.5 $ 4,728.9
Accumulated benefit obligation $796.2 $ 4,430.4
Fair value of plan assets $428.8 $ 3,973.6
</Table>
ACCUMULATED BENEFIT OBLIGATION:
The accumulated benefit obligation for all defined benefit plans was
$4,849.1 and $4,552.2 at December 31, 2005 and 2004, respectively.
TABLE OF ASSUMPTIONS:
Weighted-average assumptions used to determine benefit obligations at
December 31:
<Table>
<Caption>
Pension
Benefits Other Benefits
--------------- ---------------
2005 2004 2005 2004
- ---------------------------------------------------------------
Discount Rate 5.64% 5.94% 5.50% 5.75%
Rate of future compensation
increase 4.44% 4.41% 4.50% 4.50%
</Table>
Weighted-average assumptions used to determine net periodic benefit cost
for the years ended December 31:
<Table>
<Caption>
Pension Benefits Other Benefits
------------------------ ------------------------
2005 2004 2003 2005 2004 2003
- --------------------------------------------------------------------------
Discount Rate 5.94% 6.18% 6.44% 5.75% 6.25% 6.50%
Expected return on
plan assets 8.89% 8.86% 8.86% 9.00% 9.00% 9.00%
Rate of future
compensation
increase 4.41% 4.42% 4.88% 4.50% 4.50% 5.00%
</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.
<Table>
<Caption>
Pension Other Benefits
--------------------------------------- ---------------------------------------
2005 2004 2003 2005 2004 2003
- -------------------------------------------------------------------------------------------------------------------
COMPONENTS OF NET PERIODIC
BENEFIT COST
Service cost $ 90.7 $ 86.4 $ 71.9 $ 8.2 $ 6.5 $ 6.7
Interest cost 281.9 266.1 254.9 43.7 39.2 38.7
Expected return on plan
assets (361.3) (342.6) (325.5) (20.7) (18.6) (15.6)
Amortization of transitional
asset 0.1 0.1 0.3 -- -- --
Amortization of net actuarial
(gain) loss 66.8 43.2 23.4 14.9 11.4 15.7
Amortization of prior service
cost 4.3 6.7 6.0 (1.3) (3.8) (3.8)
----------- ----------- ----------- ----------- ----------- -----------
Net periodic benefit cost $ 82.5 $ 59.9 $ 31.0 $ 44.8 $ 34.7 $ 41.7
----------- ----------- ----------- ----------- ----------- -----------
Effect of
curtailments/settlements 0.5 3.3 2.4 -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Total benefit expense $ 83.0 $ 63.2 $ 33.4 $ 44.8 $ 34.7 $ 41.7
=========== =========== =========== =========== =========== ===========
</Table>
PLAN ASSETS:
The pension and welfare benefit plans' assets are comprised of a broad
range of domestic and foreign securities, fixed income investments, hedge funds
and cash and cash equivalents. The assets of the domestic pension
F-25
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
U.S. Master Trust which covers all of the domestic pension plans and the various
welfare benefit plan trusts had the following asset allocations:
<Table>
<Caption>
Pension Plan Assets at Other Benefits Plan
December 31, Assets at December 31,
------------------------- -------------------------
ASSET CATEGORY 2005 2004 2005 2004
- -------------------------------------------------------------------------------------------------------------
Equity securities 69.8% 66.2% 74.4% 72.1%
Fixed income securities 14.3% 16.4% 13.1% 14.3%
Hedge funds 15.8% 9.9% 11.6% 6.9%
Cash and other 0.1% 7.5% 0.9% 6.7%
----------- ----------- ----------- -----------
Total 100.0% 100.0% 100.0% 100.0%
=========== =========== =========== ===========
</Table>
The strategic asset allocation target for the Company's domestic pension
funds apportions 70% to equity investments and 30% to fixed income instruments.
The investment in the Company's stock within the U.S. Master Trust approximates
1% in 2005 and 2004.
CONTRIBUTIONS:
The Company currently anticipates making contributions to its pension plans
in a range of $120.0 to $140.0, during 2006, of which $102.3 was made in the
first quarter of 2006, to the U.S. Master Trust.
CASH FLOWS:
ESTIMATED FUTURE BENEFIT PAYMENTS
The following benefit payments covering domestic pension and other benefit
plans have been projected based on benefits earned to date and the expectation
that certain future service will be earned by currently active employees:
<Table>
<Caption>
Pension Other
Benefits Benefits
- ---------------------------------------------------------------
2006 $ 285.6 $ 54.2
2007 290.3 49.1
2008 297.3 50.4
2009 304.5 51.5
2010 311.7 52.8
2011 -- 2015 1,711.6 280.9
</Table>
The assumed rate of future increases in the per capita cost of health care
(the health care trend rate) is 9.0% for 2006, decreasing ratably to 5.0% in
2010. Increasing the health care trend rates by one percent per year would have
the effect of increasing the benefit obligation by $39.8 and the aggregate
service and interest cost components by $3.0. A decrease of one percent in the
health care trend rate would reduce the benefit obligation by $39.7 and the
aggregate service and interest cost components by $2.8. To the extent that
actual experience differs from the inherent assumptions, the effect will be
amortized over the average future service of the covered active employees.
The determination of the assumptions shown in the table above and the
discussion of health care trend rates is based on the provisions of the
applicable accounting pronouncements, the review of various indices, discussion
with our actuaries and the review of competitive surveys in the geographic areas
where the plans are sited. Changes in these assumptions would affect the
financial condition and results of operations of the Company.
On December 8, 2003, the Medicare Modernization Act (MMA) was signed into
law. The MMA introduced a prescription drug benefit under Medicare (Medicare
Part D) that provides several options for Medicare eligible participants and
employers, including a federal subsidy to companies, effective January 1, 2006,
that elect to provide a retiree a prescription drug benefit which is at least
actuarially equivalent to Medicare Part D. There were significant uncertainties
regarding the eventual regulations required to implement the MMA as well as the
MMA's overall effect on plan participant's coverage choices and the related
impact on their health care costs which were, in part, answered by regulations
issued in 2005. The Company has now determined that a majority of it's
healthcare plans pass the test of actuarial equivalence and during the fourth
quarter of 2005 made application to CMS for the subsidy provided under the Act.
The Company's actuary has estimated that the effect of the Act will reduce the
Accumulated Postretirement Benefit Obligation for the subject plans by
approximately $41.0 at December 31, 2005 and that net periodic benefit cost in
2006 will be reduced by $5.4. Other than the effect of the subsidy, there was no
expectation that retiree participation would be affected in the short-term given
the nature of the Company's healthcare plans.
F-26
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 20
SHAREHOLDERS' EQUITY
CAPITAL STOCK:
The Company has authority to issue an aggregate of 300,000,000 shares of
capital stock, of which 250,000,000 shares have been designated as "Common
Stock" having a par value of $1 per share and 50,000,000 shares have been
designated as "Preferred Stock" not having any par or stated value. Of the
shares of Preferred Stock, 300,000 shares have initially been designated as
"Series A Participating Cumulative Preferred Stock" (the "Series A Stock"). Such
Series A Stock is issuable pursuant to the provisions of a Rights Agreement
dated as of November 1, 1995 between the Company and The Bank of New York, as
Rights Agent (the "Rights Agreement"). Capitalized terms herein not otherwise
defined are as defined in the Rights Agreement.
Through November 1, 2005, the rights issued pursuant to the Rights
Agreement (the "Rights") attached to, and traded with, the Common Stock. On
November 1, 2005, all outstanding Rights expired in accordance with their terms.
The Rights Agreement provided, among other things, that if any person acquired
more than 15% of the outstanding Common Stock, the Rights entitled the holders
other than the Acquiring Person (or its Affiliates or Associates) to purchase
Series A Stock at a significant discount to its market value. The Rights did not
become exercisable before they expired.
As of December 31, 2005 and 2004, 52,829,048 and 52,853,895 shares of
Common Stock were held in Treasury, respectively.
STOCK INCENTIVE PLANS:
The Company's stock option incentive plans provide for the awarding of
options on common shares to employees, exercisable over seven to ten-year
periods, except in certain instances of death, retirement or disability. Certain
options become exercisable upon the earlier of the attainment of specified
market price appreciation of the Company's common shares or at six or nine years
after the date of grant. Other options become exercisable upon the earlier of
the attainment of specified market price appreciation of the Company's common
shares or over a three-year period commencing with the date of grant. The
exercise price per share is the fair market value on the date each option is
granted. The Company makes shares available for the exercise of stock options by
purchasing shares in the open market or by issuing shares from Treasury.
A summary of the status of the Company's stock option incentive plans as of
December 31, 2005, 2004 and 2003, and changes during the years then ended is
presented below (shares in thousands):
<Table>
<Caption>
2005 2004 2003
------------------------- ------------------------- -------------------------
WEIGHTED- Weighted- Weighted-
AVERAGE Average Average
EXERCISE Exercise Exercise
SHARES PRICE SHARES PRICE SHARES PRICE
- -------------------------------------------------------------------------------------------------------------------
Outstanding at beginning of
year 15,989 $ 25.92 16,346 $ 21.32 15,774 $ 17.80
Granted 3,803 45.85 3,905 37.75 3,928 30.86
Exercised (6,536) 23.33 (3,996) 19.10 (3,002) 14.99
Canceled or expired (113) 37.41 (266) 19.33 (354) 23.71
----------- ----------- ----------- ----------- ----------- -----------
Outstanding at end of year 13,143 $ 32.88 15,989 $ 25.92 16,346 $ 21.32
=========== =========== =========== =========== =========== ===========
Options exercisable at year-end 9,422 $ 27.75 12,118 $ 22.15 12,510 $ 18.38
=========== =========== =========== =========== =========== ===========
Weighted-average fair value of
options granted during the
year $ 11.21 $ 10.47 $ 8.84
=========== =========== ===========
</Table>
F-27
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table summarizes information about the Company's stock
options at December 31, 2005 (shares in thousands):
<Table>
<Caption>
Options Outstanding Options Exercisable
--------------------------------------- -------------------------
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Contractual Exercise Exercise
Range of Exercise Prices Number Life Price Number Price
- ----------------------------------------------------------------------------------------------------------------
$ 12.44 -- 14.19 328 0.8 years $ 12.65 328 $ 12.65
15.16 -- 19.78 2,706 3.9 years 17.85 2,706 17.85
25.33 -- 29.38 1,486 6.0 years 25.40 1,486 25.40
30.89 -- 34.56 2,074 7.3 years 30.98 2,074 30.98
37.46 -- 39.55 2,569 8.1 years 37.48 2,568 37.48
41.52 -- 42.20 260 8.5 years 41.54 260 41.54
42.54 -- 49.27 3,572 6.2 years 45.52 -- --
50.74 -- 57.46 148 6.7 years 54.32 -- --
----------- -----------
13,143 9,422
----------- -----------
</Table>
The 2003 Equity Incentive Plan was established in May of 2003. This plan
provides for the grant of stock options, stock appreciation rights, restricted
stock and restricted stock units. The number of shares initially available for
awards under this plan was 12,200,000. As of December 31, 2005, 4,315,918 net
shares were available for future grants. During 2005 and 2004, the Company
awarded 12,996 and 12,388 restricted shares with five-year restriction periods,
respectively, in payment of the annual retainer for non-employee directors.
During 2005, the Company awarded 104,000 restricted shares to employees with a
weighted average restriction period of 3.7 years.
The 2003 Equity Incentive Plan replaces the 2002 ITT Industries Stock
Option Plan for Non-Employee Directors, the ITT Industries 1996 Restricted Stock
Plan for Non-Employee Directors and the 1994 ITT Industries Incentive Stock Plan
on a prospective basis. All awards granted under these prior plans will continue
to vest and be exercisable in accordance with their original terms; however, no
future grants will be made from these prior plans.
NOTE 21
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 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.
F-28
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
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 December 31, 2005, the Company is responsible, or is alleged
to be responsible, for approximately 58 environmental investigation and
remediation sites in various countries. In many of these proceedings, the
Company's liability is considered de minimis. At December 31, 2005, the Company
calculated a best estimate of $93.0, which approximates its accrual, related to
the cleanup of soil and ground water. The low range estimate for its
environmental liabilities is $67.4 and the high range estimate for those
liabilities is $149.2. 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 December 31, 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 1991. 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 $4.4 and $18.3. The Company
has accrued $7.0 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 $6.5 and $13.9. It has an accrual for this matter of $10.1 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 2006. 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 AND OTHER MATTERS:
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 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
F-29
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
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
2005, ITT and Goulds resolved in excess of 16,000 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 and Nationwide Indemnity 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 and Goulds are negotiating 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,
Irwin Bast 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. In late
2005, the Court dismissed the Bund zur Unterstutzung Radargeschadigter from the
case and also dismissed all claims relating to medical monitoring. Numerous
other motions are currently pending before the Court. A hearing on class
certification is expected in 2006. 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 resolved this matter whereby the Company will receive 82.5% of
the cost of defense of this matter from these insurers. The Company is pursuing
other insurers for the remaining costs. 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 provides an indemnity to U.S. Silica for silica personal injury
suits against its former subsidiary Pennsylvania Glass Sand filed prior to
September 12, 2005. ITT sold the stock of Pennsylvania Glass Sand to U.S. Silica
in 1985. The Company's indemnity had been paid in part by its historic product
liability carrier, however, in September 2005, the carrier communicated to ITT
that it would no longer pay a share of the costs. On October 4, 2005, ITT filed
a suit against its insurer, ITT v. Pacific Employers Insurance Co., CA No. 05CV
5223, seeking its defense costs and indemnity from the carrier for Pennsylvania
Glass Sand product liabilities. All silica related costs, net of insurance
recoveries, are shared pursuant to the Distribution Agreement. See "Company
History and Certain Relationships" within Part I, Item 1 of this Annual Report
on Form 10-K for a description of the Distribution Agreement. 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.
Our Defense Electronics & Services company is subject to the export control
regulations of the U.S. Department of State and the Department of Commerce.
Currently, the U.S. Attorney for the Western District of Virginia is
investigating ITT Night Vision's compliance with International Traffic in Arms
Regulations. The Company is cooperating with the investigation and recently,
with the Government's consent, it began its own investigation of Night Vision's
compliance with the federal laws utilizing outside counsel. Data and information
derived from the investigation is shared with the U.S. Attorney. The Company
will continue to assist the Government in its investigation, however at this
time, it is not possible to predict the outcome of the investigation or what
action, if any, the Government may take at the conclusion of the investigation.
F-30
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 22
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 December 31, 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, the fact that the parties have resolved certain issues, or the
quantification of certain accepted by ITT, at December 31, 2005 the Company has
an accrual of $14.0 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 ten years.
The Company provided a performance bond guarantee in the amount of $10.0
related to its real estate development activities in 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 equals $10.0. At December 31, 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
December 31, 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 December 31, 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 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
F-31
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
non-performance. 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 December 31, 2005,
the Company has a product warranty accrual in the amount of $45.6.
PRODUCT WARRANTY LIABILITIES
<Table>
<Caption>
ACCRUALS FOR CHANGES IN PRE-EXISTING
BEGINNING BALANCE PRODUCT WARRANTIES WARRANTIES INCLUDING ENDING BALANCE
JANUARY 1, 2005 ISSUED IN THE PERIOD CHANGES IN ESTIMATES (PAYMENTS) DECEMBER 31, 2005
- ------------------------------------------------------------------------------------------------------------
$38.7 $33.3 $(0.7) $(25.7) $45.6
</Table>
<Table>
<Caption>
ACCRUALS FOR CHANGES IN PRE-EXISTING
BEGINNING BALANCE PRODUCT WARRANTIES WARRANTIES INCLUDING ENDING BALANCE
JANUARY 1, 2004 ISSUED IN THE PERIOD CHANGES IN ESTIMATES (PAYMENTS) DECEMBER 31, 2004
- ------------------------------------------------------------------------------------------------------------
$32.8 $24.0 $2.8 $(20.9) $38.7
</Table>
F-32
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 23
BUSINESS SEGMENT INFORMATION
<Table>
<Caption>
DEFENSE MOTION & CORPORATE,
FLUID ELECTRONICS & FLOW ELECTRONIC ELIMINATIONS &
TECHNOLOGY SERVICES CONTROL COMPONENTS OTHER TOTAL
- -------------------------------------------------------------------------------------------------------------------------
2005
SALES AND REVENUES $ 2,837.1 $ 3,224.2 $ 670.0 $ 708.9 $ (12.9) $ 7,427.3
OPERATING INCOME (LOSS) 324.5 363.7 119.7 (216.7) (91.1) 500.1
INTEREST INCOME 42.7
INTEREST EXPENSE 75.0
MISCELLANEOUS EXPENSE (INCOME) 19.7
-----------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAX EXPENSE $ 448.1
===========
PLANT, PROPERTY AND EQUIPMENT, NET 331.4 266.4 123.2 107.7 12.3 841.0
INVESTMENTS IN UNCONSOLIDATED
COMPANIES 8.9 -- -- -- -- 8.9
TOTAL ASSETS 2,526.4 1,950.5 510.6 503.4 1,572.5 7,063.4
GROSS PLANT ADDITIONS 50.2 65.0 37.5 22.9 3.6 179.2
DEPRECIATION 62.4 40.5 26.3 33.1 2.0 164.3
AMORTIZATION 8.7 15.9 0.1 0.1 7.5 32.3
2004
Sales and revenues $ 2,594.1 $ 2,414.0 $ 633.8 $ 696.9 $ (11.4) $ 6,327.4
Operating income (loss) 285.9 254.1 122.5 29.5 (82.4) 609.6
Interest income 22.5
Interest expense 50.4
Gain on sale of investments 20.8
Miscellaneous expense (income) 17.7
-----------
Income from continuing operations
before income tax expense $ 584.8
===========
Plant, property and equipment, net 379.8 218.8 126.2 141.2 6.0 872.0
Investments in unconsolidated
companies 7.5 -- -- -- -- 7.5
Total assets 2,569.7 1,717.1 519.6 796.8 1,679.4 7,282.6
Gross plant additions 53.6 37.4 24.4 28.0 2.0 145.4
Depreciation 63.5 31.8 24.4 33.7 1.1 154.5
Amortization 4.8 4.8 -- 4.7 6.3 20.6
2003
Sales and revenues $ 2,249.9 $ 1,790.9 $ 545.0 $ 585.7 $ (8.0) $ 5,163.5
Operating income (loss) 271.4 187.1 100.5 14.7 (74.7) 499.0
Interest income 53.3
Interest expense 43.2
Miscellaneous expense (income) 8.5
-----------
Income from continuing operations
before income tax expense $ 500.6
===========
Plant, property and equipment, net 365.8 149.9 119.3 143.1 6.1 784.2
Investments in unconsolidated
companies 7.4 11.4 -- -- -- 18.8
Total assets 2,049.0 833.1 476.7 763.2 1,824.1 5,946.1
Gross plant additions 55.1 29.7 21.5 29.3 0.7 136.3
Depreciation 62.9 28.8 22.0 30.5 0.8 145.0
Amortization 6.2 -- -- 5.5 5.6 17.3
</Table>
<Table>
<Caption>
Net Sales and Revenues* Plant, Property and Equipment, Net
--------------------------------------- ---------------------------------------
2005 2004 2003 2005 2004 2003
- ----------------------------------------------------------------------------------------------------------------------
GEOGRAPHICAL INFORMATION
United States $ 4,495.2 $ 3,624.6 $ 2,841.6 $ 455.8 $ 424.0 $ 371.2
Western Europe 1,722.5 1,626.0 1,403.0 319.5 377.0 349.8
Asia Pacific 519.2 472.5 374.6 46.9 52.9 46.6
Other 690.4 604.3 544.3 18.8 18.1 16.6
----------- ----------- ----------- ----------- ----------- -----------
Total Segments $ 7,427.3 $ 6,327.4 $ 5,163.5 $ 841.0 $ 872.0 $ 784.2
=========== =========== =========== =========== =========== ===========
</Table>
* Net sales to external customers are attributed to individual regions based
upon the destination of product or service delivery.
F-33
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Sales and revenues by product category, net of intercompany balances, are
as follows:
<Table>
<Caption>
2005 2004 2003
- ---------------------------------------------------------------
Sales and Revenues by Product
Category Pumps &
Complementary Products $2,837.1 $2,593.9 $2,249.9
Defense Products 1,870.6 1,309.2 997.2
Defense Services 1,352.4 1,103.9 792.2
Connectors & Switches 700.1 689.0 583.0
Flow Control 200.1 194.5 158.6
Brakes 292.1 265.6 206.1
Marine Products 84.9 75.6 86.9
Shock Absorbers 90.0 95.7 89.6
-------- -------- --------
Total $7,427.3 $6,327.4 $5,163.5
======== ======== ========
</Table>
Defense Electronics & Services had sales and revenues from the United
States government of $2,668.3, $2,098.2 and $1,454.7 for 2005, 2004 and 2003,
respectively. Apart from the United States government, no other government or
commercial customer accounted for 10% or more of sales and revenues for the
Company.
FLUID TECHNOLOGY:
This segment contains the Company's pump and pumping system businesses,
including brands such as Flygt(R), Goulds(R), Bell & Gossett(R), A-C Pump(R),
Marlow(R), Flowtronex(R), Lowara(R), Vogel(R), and Richter(R) making the Company
the world's largest pump producer. Businesses within this segment also supply
mixers, heat exchangers, engineered valves and related products as well as
systems for municipal, industrial, residential, agricultural and commercial
applications with brand names such as McDonnell & Miller(R), Hoffman
Specialty(TM) and ITT Standard(R) in addition to those mentioned above.
Additionally, the Fluid Technology segment produces wastewater aeration and
diffuser systems under the brands Sanitaire(R) and ABJ(R), ultraviolet and ozone
water disinfection systems under the WEDECO(R) brand and membrane filtration and
bioreactor systems under the Aquious(TM) brand for the water and wastewater
treatment markets. This segment comprises approximately 38% of the Company's
sales and revenues and approximately 65% of its segment operating income for
2005.
DEFENSE ELECTRONICS & SERVICES:
The businesses in this segment are those that directly serve the military
and government agencies with products and services. These include air traffic
control systems, jamming devices that guard military planes against radar guided
missiles, digital combat radios, night vision devices and satellite instruments.
Approximately 42% of the sales and revenues in this segment are generated
through contracts for technical and support services which the Company provides
for the military and other government agencies. Approximately 83%, 87% and 81%
of 2005, 2004 and 2003 Defense Electronics & Services sales and revenues,
respectively, were to the U.S. government. The Defense Electronics & Services
segment comprises about 43% of the Company's sales and revenues and 72% of its
segment operating income in 2005.
MOTION & FLOW CONTROL:
Businesses in the Motion & Flow Control segment produce switches and valves
for industrial and aerospace applications, products for the marine and leisure
markets under the brands Jabsco(R), Rule(R), Flojet(R) and Danforth(R), system
components for the whirlpool baths, hot tub and spa markets under the
HydroAir(R) brand, specialty shock absorbers under the brand KONI(R) and brake
components for the transportation industry. The Motion & Flow Control segment
comprises approximately 9% of the Company's sales and revenues and approximately
24% of its segment operating income for 2005.
ELECTRONIC COMPONENTS:
This business consists of the Company's products marketed under the
Cannon(R) brand. These products include connectors, switches and cabling used in
communications, computing, aerospace and industrial applications. This segment
comprises about 10% of the Company's sales and revenues for 2005 and the segment
recorded an operating loss of $(216.7), primarily as a result of a $222.7 asset
impairment charge in its Switches component.
CORPORATE AND OTHER:
This primarily includes the operating results and assets of Corporate
Headquarters.
F-34
ITT INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 24
QUARTERLY RESULTS FOR 2005 AND 2004 (UNAUDITED)
<Table>
<Caption>
THREE MONTHS ENDED
-------------------------------------------------------------------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS) MAR. 31 JUNE 30 SEPT. 30 DEC. 31 YEAR
- ----------------------------------------------------------------------------------------------------------------
2005
SALES AND REVENUES $ 1,775.6 $ 1,873.8 $ 1,828.4 $ 1,949.5 $ 7,427.3
COSTS OF SALES AND REVENUES 1,302.0 1,358.7 1,343.3 1,385.9 5,389.9
INCOME (LOSS) FROM CONTINUING OPERATIONS 122.3 131.8 148.6 (88.3) 314.4
NET INCOME (LOSS) 116.5 137.7 189.3 (84.0) 359.5
INCOME (LOSS) FROM CONTINUING OPERATIONS
PER SHARE
-- BASIC $ 0.66 $ 0.72 $ 0.80 $ (0.48) $ 1.70
-- DILUTED(A) $ 0.65 $ 0.70 $ 0.79 $ (0.48) $ 1.67
NET INCOME (LOSS) PER SHARE
-- BASIC(A) $ 0.63 $ 0.75 $ 1.02 $ (0.46) $ 1.95
-- DILUTED(A) $ 0.62 $ 0.73 $ 1.00 $ (0.46) $ 1.91
COMMON STOCK INFORMATION PRICE RANGE:
HIGH $ 45.88 $ 49.68 $ 57.73 $ 58.05 $ 58.05
LOW $ 40.24 $ 42.27 $ 48.57 $ 47.13 $ 40.24
CLOSE $ 45.12 $ 48.82 $ 56.80 $ 51.41 $ 51.41
DIVIDENDS PER SHARE $ 0.09 $ 0.09 $ 0.09 $ 0.09 $ 0.36
----------- ----------- ----------- ----------- -----------
2004
Sales and revenues $ 1,399.6 $ 1,531.9 $ 1,565.1 $ 1,830.8 $ 6,327.4
Costs of sales and revenues 1,020.4 1,108.2 1,126.8 1,320.1 4,575.5
Income from continuing operations 84.1 106.5 108.2 121.3 420.1
Net income 88.9 112.0 109.8 121.6 432.3
Income from continuing operations per
share
-- Basic $ 0.45 $ 0.58 $ 0.59 $ 0.66 $ 2.28
-- Diluted(a) $ 0.44 $ 0.56 $ 0.57 $ 0.64 $ 2.23
Net income per share
-- Basic $ 0.48 $ 0.61 $ 0.59 $ 0.66 $ 2.34
-- Diluted(a) $ 0.47 $ 0.59 $ 0.58 $ 0.64 $ 2.29
Common stock information price range:
High $ 39.26 $ 42.99 $ 42.31 $ 43.36 $ 43.36
Low $ 35.52 $ 37.82 $ 37.59 $ 38.70 $ 35.52
Close $ 38.17 $ 41.50 $ 40.00 $ 42.23 $ 42.23
Dividends per share $ 0.085 $ 0.085 $ 0.085 $ 0.085 $ 0.34
----------- ----------- ----------- ----------- -----------
</Table>
(a) The sum of the quarters' earnings per share does not equal the full year
amounts due to rounding.
The above table reflects the range of market prices of the Company's common
stock for 2005 and 2004. The prices are as reported in the consolidated
transaction reporting system of the New York Stock Exchange, the principal
market in which the Company's common stock is traded, under the symbol "ITT".
The Company's common stock is listed on the following exchanges: Frankfurt,
London, New York, Pacific, and Paris.
During the period from January 1, 2006 through February 28, 2006, the high
and low reported market prices of the Company's common stock were $55.00 and
$49.85, respectively. The Company declared dividends of $0.11 per common share
in the first quarter of 2006. There were 25,985 holders of record of the
Company's common stock on February 28, 2006.
F-35
INDEX TO SCHEDULE
<Table>
<Caption>
Page
----
Valuation and Qualifying Accounts S-1
</Table>
F-36
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
<Table>
<Caption>
Charged
to costs Write-off/
Balance at and Translation payments/ Balance at
(In Millions) January 1 expenses adjustment other December 31
- ----------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 2005
Trade Receivables -- Allowance for
doubtful accounts $ 27.1 $ 11.4 $ (1.4) $ (6.0) $ 31.1
Restructuring 20.5 69.2 -- (56.5) 33.2
YEAR ENDED DECEMBER 31, 2004
Trade Receivables -- Allowance for
doubtful accounts $ 21.4 $ 10.0 $ 1.0 $ (5.3) $ 27.1
Restructuring 17.5 33.1 -- (30.1) 20.5
YEAR ENDED DECEMBER 31, 2003
Trade Receivables -- Allowance for
doubtful accounts $ 20.8 $ 6.6 $ 2.3 $ (8.3) $ 21.4
Restructuring 13.2 30.0 -- (25.7) 17.5
</Table>
S-1
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 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, AND BY THE UNDERSIGNED IN THE
CAPACITY INDICATED.
ITT INDUSTRIES, INC.
By /s/ ROBERT J. PAGANO, JR.
--------------------------------------
ROBERT J. PAGANO, JR.
VICE PRESIDENT AND CORPORATE
CONTROLLER
(PRINCIPAL ACCOUNTING OFFICER)
March 10, 2006
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
<Table>
<Caption>
SIGNATURE TITLE DATE
--------- ----- ----
/s/ STEVEN R. LORANGER Chairman, President and Chief March 10, 2006
- -------------------------------------- Executive Officer and Director
STEVEN R. LORANGER
(PRINCIPAL EXECUTIVE OFFICER)
/s/ GEORGE E. MINNICH Senior Vice President and Chief March 10, 2006
- -------------------------------------- Financial Officer
GEORGE E. MINNICH
(PRINCIPAL FINANCIAL OFFICER)
/s/ CURTIS J. CRAWFORD Director March 7, 2006
- --------------------------------------
CURTIS J. CRAWFORD
/s/ CHRISTINA A. GOLD Director March 7, 2006
- --------------------------------------
CHRISTINA A. GOLD
/s/ RALPH F. HAKE Director March 7, 2006
- --------------------------------------
RALPH F. HAKE
/s/ JOHN J. HAMRE Director March 7, 2006
- --------------------------------------
JOHN J. HAMRE
/s/ RAYMOND W. LEBOEUF Director March 7, 2006
- --------------------------------------
RAYMOND W. LEBOEUF
/s/ FRANK T. MACINNIS Director March 7, 2006
- --------------------------------------
FRANK T. MACINNIS
/s/ LINDA S. SANFORD Director March 7, 2006
- --------------------------------------
LINDA S. SANFORD
/s/ MARKOS I. TAMBAKERAS Director March 7, 2006
- --------------------------------------
MARKOS I. TAMBAKERAS
</Table>
II-1
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
(3) (a) ITT Industries, Inc.'s Restated Articles
of Incorporation....................... Incorporated by reference to Exhibit 3
(a) of ITT Industries' Form 10-Q for the
quarter ended June 30, 2005. (CIK No.
216228, File No. 1-5672).
(b) 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, Incorporated by reference to Exhibit 10.4
2004)....................................... of ITT Industries' Form 10-Q for the
quarter ended September 30, 2004 (CIK
No. 216228, File No. 1-5672).
(10.6)* ITT Industries, Inc. 1997 Long-Term Incentive
Plan (amended and restated as of July 13, Incorporated by reference to Exhibit 10.5
2004)....................................... 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).
</Table>
II-2
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
(10.8)* 1994 ITT Industries Incentive Stock Plan
(amended and restated as of July 13, Incorporated by reference to Exhibit 10.7
2004)....................................... 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 Incorporated by reference to Exhibit 10.8
of July 13, 2004)........................... 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, Incorporated by reference to Exhibit
2004)....................................... 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, Incorporated by reference to Exhibit
2004)....................................... 10.12 of ITT Industries' Form 10-Q for
the quarter ended September 30, 2004
(CIK No. 216228, File No. 1-5672).
(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 Incorporated by reference to Exhibit
directors................................... 10(h) to ITT Industries' Form 10-K for
the fiscal year ended December 31, 1996
(CIK No. 216228, File No. 1-5672).
</Table>
II-3
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
(10.20) Distribution Agreement among ITT Corporation,
ITT Destinations, Inc. and ITT Hartford Incorporated by reference to Exhibit 10.1
Group, Inc.................................. 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, Incorporated by reference to Exhibit 10.2
Inc......................................... to ITT Industries' Form 8-B dated
December 20, 1995 (CIK No. 216228, File
No. 1-5672).
(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, Incorporated by reference to Exhibit 10.7
Inc......................................... 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 Incorporated by reference to Exhibit 10.1
November 10, 2005........................... to ITT Industries' Form 8-K Current
Report dated November 10, 2005 (CIK No.
216228, File No. 1-5672).
(10.25) Agreement with Valeo SA with respect to the
sale of the Automotive Electrical Systems Incorporated by reference to Exhibit
Business.................................... 10(b) to ITT Industries' Form 10-Q
Quarterly Report for the quarterly
period ended September 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 Incorporated by reference to Exhibit 2.1
Chassis Business............................ 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 Incorporated by Reference to Exhibits
and ITT Industries, as lessee............... listed under 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 Incorporated by reference to Exhibit
Employees................................... 10.29 of ITT Industries' Form 10-Q for
the quarter ended March 31, 2005 (CIK
No. 216228, File No. 1-5672).
(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).
</Table>
II-4
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION LOCATION
(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...... Incorporated by reference to Exhibit
10.31 of ITT Industries' Form 10-Q for
the quarter ended June 30, 2005. (CIK
No. 216228, File No. 1-5672).
(10.32)* Separation Agreement dated September 7, 2005
and effective as of September 30, 2005
between ITT Industries, Inc. and Robert Incorporated by reference to Exhibit 99.1
Ayers....................................... to ITT Industries' Form 8-K dated
September 8, 2005 (CIK No. 216228, File
No. 1-5672).
(10.33) Non-Employee Director Compensation Agreement Incorporated by reference to Exhibit 10.1
to ITT Industries' Form 8-K Current
Report dated December 1, 2005 (CIK No.
216228, File No. 1-5672).
(11) Statement re computation of per share Not required to be filed.
earnings....................................
(12) Statement re computation of ratios............ Filed herewith.
(18) Letter re change in accounting principles..... None.
(21) Subsidiaries of the Registrant................ Filed herewith.
(22) Published report regarding matters submitted
to vote of security holders................. Not required to be filed.
(23.1) Consent of Deloitte & Touche LLP.............. Filed herewith.
(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 Filed herewith.
2002........................................
(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 Filed herewith.
2002........................................
(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
II-5