1
EXHIBIT 13.01
SELECTED FINANCIAL DATA
(millions, except per share data and number of employees)
PER COMMON SHARE DATA (C)
------------------------------
(A)(B) (A)(B)
EARNINGS EARNINGS (D)
(A) BEFORE AVERAGE BEFORE PRICE/
NET % OPERATING % ACCOUNTING % SHARES ACCOUNTING CASH EARNINGS
SALES GROWTH PROFIT GROWTH CHANGE GROWTH OUTSTANDING(C) CHANGE DIVIDENDS RATIO
- -----------------------------------------------------------------------------------------------------------------------------
10-year
compound
growth rate 6% 4% 4% 5% 11%
1997 $6,830.1 2% $1,009.1 5% $564.0 6% 414.1 $1.36 $ .87 36
1996 6,676.6 (5) 958.9 14 531.0 8 424.9 1.25 .81 26
1995 7,003.7 7 837.5 (28) 490.3 (30) 438.3 1.12 .75 34
1994 6,562.0 4 1,162.6 16 705.4 4 448.6 1.57 .70 18
1993 6,295.4 2 1,004.6 (5) 680.7 - 463.0 1.47 .66 19
1992 6,190.6 7 1,062.8 3 682.8 13 477.7 1.43 .60 23
1991 5,786.6 12 1,027.9 16 606.0 21 482.4 1.26 .54 26
1990 5,181.4 11 886.0 21 502.8 19 483.2 1.04 .48 18
1989 4,651.7 7 732.5 (8) 422.1 (12) 488.4 .87 .43 20
1988 4,348.8 15 794.1 15 480.4 21 492.8 .98 .38 16
1987 3,793.0 14 691.2 7 395.9 24 494.8 .80 .32 16
PER COMMON SHARE DATA (C)
- -------------------------
NET CASH
NET CASH PROVIDED BY/
STOCK PROVIDED BY (USED IN) COMMON
PRICE OPERATING FINANCING STOCK
RANGE ACTIVITIES ACTIVITIES REPURCHASES
- ----------------------------------------------------------------------------
$32-50 $879.8 ($607.3) $426.0
31-40 711.5 94.0 535.7
26-40 1041.0 (759.2) 374.7
24-30 966.8 (559.5) 327.3
23-34 800.2 (464.2) 548.1
27-37 741.9 (422.6) 224.1
17-33 934.4 (537.7) 83.6
14-19 819.2 (490.9) 86.9
14-20 533.5 (143.2) 78.6
12-17 492.3 52.1 33.6
9-17 523.5 (130.5) 22.6
(E) PRETAX
RETURN ON RETURN ON DEBT TO INTEREST
TOTAL AVERAGE SHAREHOLDERS' AVERAGE PROPERTY, CAPITAL DEPRECIATION LONG-TERM MARKET COVERAGE
ASSETS ASSETS EQUITY EQUITY NET EXPENDITURES AND AMORTIZATION DEBT CAPITALIZATION (TIMES)
- ----------------------------------------------------------------------------------------------------------------------------------
1997 $4,877.6 11% $ 997.5 49% $2,773.3 $312.4 $287.3 $1,415.4 10% 9
1996 5,050.0 11 1,282.4 37 2,932.9 307.3 251.5 726.7 14 13
1995 4,414.6 11 1,590.9 29 2,784.8 315.7 258.8 717.8 5 12
1994 4,467.3 16 1,807.5 40 2,892.8 354.3 256.1 719.2 8 23
1993 4,237.1 16 1,713.4 37 2,768.4 449.7 265.2 521.6 7 27
1992 4,015.0 11 1,945.2 21 2,662.7 473.6 231.5 314.9 3 33
1991 3,925.8 16 2,159.8 30 2,646.5 333.5 222.8 15.2 3 17
1990 3,749.4 14 1,901.8 28 2,595.4 320.5 200.2 295.6 7 10
1989 3,390.4 14 1,634.4 30 2,406.3 508.7 167.6 371.4 10 10
1988 3,297.9 16 1,483.2 36 2,131.9 538.1 139.7 272.1 9 14
1987 2,680.9 17 1,211.4 38 1,738.8 478.4 113.1 290.4 7 14
CURRENT ADVERTISING R&D NUMBER OF
RATIO EXPENSE EXPENSE EMPLOYEES
--------------------------------------
.9 $780.4 $106.1 14,339
.7 778.9 84.3 14,511
1.1 891.5 72.2 14,487
1.2 856.9 71.7 15,657
1.0 772.4 59.2 16,151
1.2 782.3 56.7 16,551
.9 708.3 34.7 17,017
.9 648.5 38.3 17,239
.9 611.4 42.9 17,268
.9 560.9 42.0 17,461
.9 486.9 40.0 17,762
(a) Operating profit for 1997 includes non-recurring charges of $184.1 ($140.5
after tax or $.34 per share). Operating profit for 1996 includes
non-recurring charges of $136.1 ($97.8 after tax or $.23 per share).
Earnings before accounting change for 1996 include a charge of $35.0 ($22.3
after tax or $.05 per share) for a contribution to the Kellogg's Corporate
Citizenship Fund. Operating profit for 1995 includes non-recurring charges
of $421.8 ($271.3 after tax or $.62 per share). Operating profit for 1993
includes non-recurring charges of $64.3 ($41.1 after tax or $.09 per
share). Refer to Management's Discussion and Analysis on pages 18-22 and
Notes 3 and 4 within Notes to Consolidated Financial Statements for further
explanation of non-recurring charges and other unusual items for years
1995-1997.
(b) Earnings before accounting change for 1997 exclude the effect of a charge
of $18.0 after tax ($.04 per share) to write off business process
reengineering costs in accordance with guidance issued by the Emerging
Issues Task Force of the FASB. Earnings before accounting change for 1992
and 1989 exclude the effect of adopting the following Statements of
Financial Accounting Standards (SFAS): in 1992, a charge of $251.6 ($.53
per share) net of $144.6 of income tax benefit for the transition effect
of SFAS #106, "Employers' Accounting for Postretirement Benefits Other
Than Pensions," and, in 1989, a gain of $48.1 ($.10 per share) for SFAS
#96 "Accounting for Income Taxes."
(c) All share data retroactively restated to reflect 2-for-1 stock splits in
1997 and 1991. All earnings per share presented represent both basic
and diluted earnings per share.
(d) The price/earnings ratio was calculated based on year-end stock price
divided by earnings before the accounting changes referred to in note (b).
These earnings include the non-recurring charges and other unusual items
referred to in note (a). Excluding the impact of these unusual items, the
price/earnings ratio in 1997, 1996, 1995, and 1993 would have been 29, 21,
22, and 19, respectively.
(e) Debt to market capitalization was calculated based on year-end total debt
balance divided by market capitalization. Market captitalization was
calculated based on year-end stock price multiplied by the number of shares
outstanding at year-end.
17
2
MANAGEMENT'S DISCUSSION AND ANALYSIS
RESULTS OF OPERATIONS
OVERVIEW
Kellogg Company operates in a single industry - manufacturing and marketing
grain-based convenience food products, including ready-to-eat cereal, toaster
pastries, frozen waffles, cereal bars, and bagels, throughout the world. The
Company leads the global ready-to-eat cereal category, with an estimated 39%
annualized share of worldwide volume. Additionally, the Company is the North
American market leader in the toaster pastry, cereal/granola bar, frozen
waffle, and pre-packaged bagel categories.
During 1997, the Company returned to growth in earnings per share (excluding
unusual items, discussed below), as management continued with its global
strategy of brand-differentiated pricing, investment in new product research,
brand-building marketing activities, and cost structure reduction initiatives.
Results for 1997 were significantly improved over 1996, a year in which
earnings were negatively impacted by competitive conditions in the Company's
major markets.
For the full year of 1997, Kellogg Company reported net earnings and earnings
per share of $546.0 million and $1.32, respectively, compared to 1996 net
earnings of $531.0 million and net earnings per share of $1.25. Net earnings
and earnings per share for 1995 were $490.3 million and $1.12, respectively.
(All per share amounts reflect the 2-for-1 stock split effective August 22,
1997. All earnings per share presented represent both basic and diluted
earnings per share.)
During the current and prior years, the Company reported non-recurring charges
and other unusual items that have been excluded from all applicable amounts
presented below for purposes of comparison between years. Additionally,
results for 1997 are presented before the cumulative effect of a change in the
method of accounting for business process reengineering costs. Refer to the
separate section below on non-recurring charges and other unusual items for
further information.
1997 COMPARED TO 1996
Excluding non-recurring charges and other unusual items, the Company reported
1997 earnings per share of $1.70, an 11% increase over the prior-year results
of $1.53. The year-over-year increase in earnings per share of $.17 resulted
from $.12 of business growth, $.03 of common stock repurchases, and $.04 of
favorable tax rate movements, partially offset by $.02 of unfavorable foreign
currency movements. The business growth was principally attributable to cereal
volume growth in the Company's U.S. and Latin American markets, continued
double-digit growth in other convenience foods volume, and reductions in
manufacturing and marketing costs. Foreign currency movements negatively
impacted earnings by 2% in Europe, 3% in other non-U.S. areas, and 1% on a
consolidated basis. The negative impact on 1997 earnings per share due to
results of the Lender's Bagels business, acquired in December 1996, was
approximately $.05.
The Company achieved the following volume growth during 1997:
=======================================================
CHANGE
=======================================================
Global cereal +3.4%
- -------------------------------------------------------
U.S. cereal +3.9%
- -------------------------------------------------------
Global total +11.3%
- -------------------------------------------------------
Global total excluding Lender's(a) +5.0%
=======================================================
(a) Lender's Bagels business acquired in December 1996.
Within the U.S. market, the Company recovered cereal volume declines of the
prior year, and slightly exceeded 1995 results. Growth in most other non-U.S.
cereal markets offset softness in the Company's United Kingdom, Canada, and
Australia volume. The Company's Latin American region achieved record annual
volume results. Other convenience foods volume continued to increase at a
double-digit rate, even after excluding sales from the Lender's Bagels
business.
On an annualized basis, regional volume share of the ready-to-eat cereal
category remained strong during the year, at approximately 34% in North
America, 44% in Europe, 43% in Asia-Pacific, and 60% in Latin America.
Consolidated net sales increased 2% for 1997. The favorable impact of strong
volumes was partially offset by unfavorable pricing and product mix movements,
and a negative foreign currency impact of 2%. Excluding the Lender's business,
consolidated net sales were even with the prior year. On a geographic basis,
net sales versus the prior year were:
==============================================================================
NET SALES BY GEOGRAPHIC AREA - 1997 VS. 1996 % CHANGE
- ------------------------------------------------------------------------------
U.S. Europe All other Consolidated
- ------------------------------------------------------------------------------
Business +5% +2% +6% +4%
Foreign currency impact --- -5% -4% -2%
- ------------------------------------------------------------------------------
TOTAL CHANGE +5% -3% +2% +2%
==============================================================================
Margin performance for 1997 was:
========================================================================
1997 1996 CHANGE
- ------------------------------------------------------------------------
Gross margin 52.1% 53.2% -1.1%
SGA%(a) -34.6% -36.8% +2.2%
- ------------------------------------------------------------------------
Operating margin 17.5% 16.4% +1.1%
========================================================================
(a) Selling, general, and administrative expense as a percentage of net
sales.
Gross margin performance for 1997 benefited from volume increases and
year-over-year operational cost savings. However, these favorable factors were
outweighed by the negative impact of prior-year pricing actions. The
improvement in SGA% primarily reflects reduced promotional spending in the U.S.
market, in line with the Company's integrated pricing strategy.
18
3
Operating profit results on a geographic basis were:
==================================================================================================
OPERATING PROFIT BY GEOGRAPHIC AREA - 1997 VS. 1996
- --------------------------------------------------------------------------------------------------
(millions) U.S. Europe All other Consolidated
- --------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------
1997 operating profit as reported $706.8 $158.9 $143.4 $1,009.1
Non-recurring charges 35.2 119.1 29.8 184.1
- --------------------------------------------------------------------------------------------------
1997 OPERATING PROFIT EXCLUDING
NON-RECURRING CHARGES $742.0 $278.0 $173.2 $1,193.2
==================================================================================================
1996 operating profit as reported $611.2 $204.4 $143.3 $958.9
Non-recurring charges 24.1 76.5 35.5 136.1
- --------------------------------------------------------------------------------------------------
1996 OPERATING PROFIT EXCLUDING
NON-RECURRING CHARGES $635.3 $280.9 $178.8 $1,095.0
==================================================================================================
% change - 1997 vs. 1996 excluding non-recurring charges:
Business +17% +3% +1% +11%
Foreign currency impact --- -4% -4% -2%
- --------------------------------------------------------------------------------------------------
TOTAL CHANGE +17% -1% -3% +9%
==================================================================================================
Gross interest expense, prior to amounts capitalized, increased 70% versus the
prior year to $117.9 million. The higher interest expense resulted from
increased debt levels to fund the Lender's Bagels business acquisition and the
Company's common stock repurchase program.
Excluding the impact of non-recurring charges and other unusual items, the
effective income tax rate was 35.3%, 1.5 percentage points lower than the
prior-year rate. The lower effective tax rate is primarily due to enactment of
a 2% statutory rate reduction in the United Kingdom, effective April 1, 1997, as
well as favorable adjustments in other jurisdictions. The effective income tax
rate based on reported earnings (before cumulative effect of accounting change)
was 37.6% in 1997 and 38.2% in 1996. For both 1997 and 1996, the higher
reported rate (as compared to the rate excluding the impact of unusual items)
primarily relates to certain non-recurring charges for which no tax benefit was
provided, based on management's assessment of the likelihood of recovering such
benefit in future years.
1996 COMPARED TO 1995
The Company's 1996 results were negatively impacted by competitive conditions
in the U.S. ready-to-eat cereal market, in which significant price reductions
were undertaken by all major competitors during the year. In an effort to
improve the brand value proposition to the consumer, the Company implemented
several pricing actions in 1996, most notably reductions announced June 10,
1996, averaging 19% on brands comprising approximately two-thirds of its U.S.
cereal business. Following an integrated strategy, the Company combined its
price reductions with reduced marketing expenditures, while competitors
continued heavy deep-discount promotional spending during most of the year. As
a result, the Company reported a 12% decline in 1996 earnings per share
(excluding non-recurring charges and other unusual items) to $1.53, versus
$1.74 in 1995. The $.21 decrease was comprised of $.22 in business decline and
$.03 in unfavorable foreign currency movements, mitigated by $.03 of common
stock repurchases, and $.01 from a lower effective tax rate. Foreign currency
movements negatively impacted earnings by 3% in Europe, 4% in other non-U.S.
areas, and 1% on a consolidated basis.
The Company experienced the following volume results during 1996:
=========================================================
CHANGE
- ---------------------------------------------------------
Global cereal -.7%
- ---------------------------------------------------------
U.S. cereal -3.6%
- ---------------------------------------------------------
Global total +1.2%
=========================================================
Total volume growth was led by strength in the Company's Asia-Pacific and Latin
American ready-to-eat cereal shipments and low double-digit growth in other
convenience foods volume. These volume gains offset softness in the Company's
U.S. and United Kingdom ready-to-eat cereal markets.
Net sales were down 5%, primarily reflecting the price reductions, ready-to-eat
cereal volume loss, and unfavorable product mix and foreign currency movements.
On a geographic basis, net sales versus the prior year were:
============================================================================
NET SALES BY GEOGRAPHIC AREA - 1996 VS. 1995 % CHANGE
- ----------------------------------------------------------------------------
U.S. Europe All other Consolidated
- ----------------------------------------------------------------------------
Business -7% -1% +8% -4%
Foreign currency impact -- -3% -3% -1%
- ----------------------------------------------------------------------------
TOTAL CHANGE -7% -4% +5% -5%
============================================================================
Margin performance for 1996 was:
=========================================================================
1996 1995 CHANGE
- -------------------------------------------------------------------------
Gross margin 53.2% 54.6% -1.4%
SGA% -36.8% -36.6% -.2%
- -------------------------------------------------------------------------
Operating margin 16.4% 18.0% -1.6%
=========================================================================
The decline in gross profit margin reflected the price reductions, partially
offset by the effect of operational cost savings. The SGA% was maintained at
nearly a constant level versus the prior year despite the relatively high level
of spending related to the Company's 90th Anniversary promotional programs,
implementation costs associated with pricing actions, and competitive
conditions in the U.S. cereal market.
Operating profit results on a geographic basis were:
=================================================================================================
OPERATING PROFIT BY GEOGRAPHIC AREA - 1996 VS. 1995
- -------------------------------------------------------------------------------------------------
(millions) U.S. Europe All other Consolidated
- -------------------------------------------------------------------------------------------------
1996 OPERATING PROFIT EXCLUDING
NON-RECURRING CHARGES $635.3 $280.9 $178.8 $1,095.0
- -------------------------------------------------------------------------------------------------
1995 operating profit as reported $443.1 $293.6 $100.8 $837.5
Non-recurring charges 325.0 38.4 58.4 421.8
- -------------------------------------------------------------------------------------------------
1995 OPERATING PROFIT EXCLUDING
NON-RECURRING CHARGES $768.1 $332.0 $159.2 $1,259.3
- -------------------------------------------------------------------------------------------------
% change - 1996 vs. 1995 excluding non-recurring charges:
Business -17% -11% +16% -11%
Foreign currency impact -- -4% -4% -2%
- -------------------------------------------------------------------------------------------------
TOTAL CHANGE -17% -15% +12% -13%
=================================================================================================
19
4
Gross interest expense prior to amounts capitalized was $69.4 million, compared
to $69.8 million in 1995. Despite an increase in debt during the year, total
interest expense was maintained at prior-year levels due to the favorable
effect of lower rates on short-term borrowings.
Other expense for 1996 included a charge of $35.0 million for a contribution to
the Kellogg's Corporate Citizenship Fund, a private trust established for
charitable donations. Excluding this unusual item, other income, net,
decreased $19.5 million to $1.6 million, primarily due to foreign currency
losses in Latin American markets and lower interest income during 1996.
Excluding the impact of non-recurring charges and other unusual items, the
effective income tax rate was 36.8%, .7 percentage points lower than the
prior-year rate, primarily due to favorable audit settlements in foreign
jurisdictions and country mix.
LIQUIDITY AND CAPITAL RESOURCES
The Company's financial condition remained strong throughout 1997. A strong
cash flow, combined with a program of issuing commercial paper and maintaining
worldwide credit facilities, provides adequate liquidity to meet the Company's
operational needs.
Net cash provided by operating activities during 1997 was $879.8 million,
compared to $711.5 million in 1996, with the increase due principally to higher
earnings, lower benefit plan contributions, and favorable working capital
movements. The ratio of current assets to current liabilities was .9 at
December 31, 1997, compared to .7 at December 31, 1996.
Net cash used in investing activities was $329.3 million, principally comprised
of $312.4 million in property additions. Net cash used in investing activities
decreased significantly from the prior year, in which the Company paid $466
million to purchase the Lender's Bagels business.
Net cash used in financing activities was $607.3 million, primarily related to
common stock repurchases of $426.0 million and dividend payments of $360.1
million, partially offset by a net increase in total debt of $108.1 million.
The Company's total 1997 per share dividend payment was $.87, a 7.4% increase
over the prior-year payment of $.81.
On August 1, 1997, the Company's Board of Directors approved a 2-for-1 stock
split to shareholders of record at the close of business August 8, 1997,
effective August 22, 1997, and also authorized retirement of 105.3 million
common shares (pre-split) held in treasury. All per share and shares
outstanding data have been restated retroactively to reflect the stock split.
Under existing plans authorized by the Company's Board of Directors, management
spent $426.0 million during 1997 to repurchase 10.9 million shares (on a
post-split basis) of the Company's common stock at an average price of $39 per
share. The open repurchase authorization, which extends through December 31,
1998, was $389.1 million at year-end 1997.
Notes payable consist principally of commercial paper borrowings in the United
States. Associated with these borrowings, during September 1997, the Company
purchased a $225 million notional, four-year fixed interest rate cap. Under
the terms of the cap, if the Federal Reserve AA composite rate on 30-day
commercial paper increases to 6.33%, the Company will pay this fixed rate on
$225 million of its commercial paper borrowings. If the rate increases to
7.83% or above, the cap will expire. As of year-end 1997, the rate was 5.65%.
To reduce short-term borrowings, on February 4, 1998, the Company issued $400
million of three-year 5.75% fixed rate U.S. Dollar Notes. Accordingly, an
equivalent amount of commercial paper borrowings was classified as long-term
debt in the December 31, 1997, balance sheet. These Notes were issued under an
existing "shelf registration" with the Securities and Exchange Commission, and
provide an option to holders to extend the obligation for an additional four
years at a predetermined interest rate of 5.63% plus the Company's then-current
credit spread. Concurrent with this issuance, the Company entered into a $400
million notional, three-year fixed-to-floating interest rate swap, indexed to
the Federal Reserve AA composite rate on 30-day commercial paper.
As of December 31, 1997, current maturities of long-term debt primarily
consisted of $200 million of five-year notes due October 1998. Management
currently intends to replace these notes with new long-term debt issuances as
of the maturity date and, as of year-end 1997, had entered into $25 million
notional amount of interest rate hedges to effectively fix the U.S. Treasury
rate on which an equivalent amount of future issuances would be priced.
Subject to market conditions, management intends to gradually increase the
notional amount of interest rate hedges to $200 million, prior to the maturity
date of the notes.
On January 29, 1997, the Company issued $500 million of seven-year 6.625% fixed
rate Euro Dollar Notes. This debt was issued primarily to fund the purchase of
the Lender's Bagels business, acquired in December 1996. In conjunction with
this issuance, the Company settled $500 million notional amount of interest
rate forward swap agreements, which effectively fixed the interest rate on the
debt at 6.354%. Associated with this debt, during September 1997, the Company
entered into a $225 million notional, 4 1/2-year fixed-to-
20
5
floating interest rate swap, indexed to the three-month London Interbank
Offered Rate (LIBOR). Under the terms of the swap, if three-month LIBOR
decreases to 4.71% or below, the swap will expire. At year-end 1997,
three-month LIBOR was 5.81%.
To replace other long-term debt maturing during the year, the Company issued
$500 million of four-year 6.125% Euro Dollar Notes on August 5, 1997. In
conjunction with this issuance, the Company settled $400 million notional
amount of interest rate forward swap agreements that effectively fixed the
interest rate on the debt at 6.4%. Associated with this debt, during September
1997, the Company entered into a $200 million notional, four-year
fixed-to-floating interest rate swap, indexed to three-month LIBOR.
The ratio of total debt to market capitalization at December 31, 1997, was 10%,
down from 14% at December 31, 1996, principally due to an increase in the
market price of the Company's stock since that date.
NON-RECURRING CHARGES AND OTHER UNUSUAL ITEMS
From 1995 to the present, management has commenced major productivity and
operational streamlining initiatives in an effort to optimize the Company's
cost structure and move toward a global business model. The incremental costs
of these programs have been reported throughout 1995-1997 as non-recurring
charges.
In addition to the non-recurring charges reported during 1995-1997 for
streamlining initiatives, the Company incurred charges for other unusual items.
Furthermore, net earnings for 1997 included a cumulative effect of accounting
change related to business process reengineering costs. In summary, the
following charges were excluded from reported results for purposes of
comparison within the "Results of operations" section above:
====================================================================================================
NON-RECURRING CHARGES & OTHER UNUSUAL ITEMS
- ----------------------------------------------------------------------------------------------------
EARNINGS BEFORE
INCOME TAXES AND
CUMULATIVE EFFECT
Impact on (millions, OPERATING OF ACCOUNTING NET NET EARNINGS PER
expect per share data): PROFIT CHANGE EARNINGS SHARE
- ----------------------------------------------------------------------------------------------------
1997:
- ----------------------------------------------------------------------------------------------------
Streamlining initiatives $161.1 $161.1
Impairment losses 23.0 23.0
- ----------------------------------------------------------------------------------------------------
TOTAL NON-RECURRING
CHARGES $184.1 $184.1 $140.5 $.34
- ----------------------------------------------------------------------------------------------------
CUMULATIVE EFFECT OF
ACCOUNTING CHANGE __ __ $18.0 $.04
=====================================================================================================
1996:
- ----------------------------------------------------------------------------------------------------
Streamlining initiatives $121.1 $121.1
Litigation provision 15.0 15.0
Private trust contribution(a) --- 35.0
- ----------------------------------------------------------------------------------------------------
TOTAL $136.1 $171.1 $120.1 $.28
=====================================================================================================
1995:
- ----------------------------------------------------------------------------------------------------
Streamlining initiatives $348.0 $348.0
Impairment losses 73.8 73.8
- ----------------------------------------------------------------------------------------------------
TOTAL $421.8 $421.8 $271.3 $.62
=====================================================================================================
(a) Recorded in other income (expense), net.
The 1997 charges for streamlining initiatives relate principally to
management's plan to optimize the Company's pan-European operations, as well as
ongoing productivity programs in the United States and Australia. A major
component of the pan-European initiatives was the late-1997 closing of
manufacturing plants and separation of employees in Riga, Latvia; Svendborg,
Denmark; and Verola, Italy.
Approximately 50% of the total 1997 streamlining charges consist of
manufacturing asset write-downs, with the balance comprised of current and
anticipated cash outlays for employee separation benefits, equipment removal,
production redeployment, associated management consulting, and similar costs.
Related primarily to the pan-European initiatives, streamlining programs begun
in 1997 will result in employee headcount reductions of approximately 600 and
are expected to deliver annual pre-tax savings of approximately $60 million
when fully implemented. Total cash outlays for streamlining initiatives were
approximately $85 million during 1997 and are expected to be approximately $50
million in 1998. Refer to Note 3 within Notes to Consolidated Financial
Statements for additional information.
The streamlining programs commenced since 1995, including the aforementioned
pan-European initiatives, are expected to result in the elimination of
approximately 3,000 employee positions by the end of 1998, with approximately
90% of this reduction already achieved. These programs are expected to deliver
average annual pre-tax savings in excess of $200 million by the year 2000, with
approximately 75% of that amount being realized currently. These savings are
not necessarily indicative of current and future incremental earnings due to
management's commitment to invest in competitive business strategies, new
markets, and growth opportunities.
Also included in the 1997 charges are $23.0 million of asset impairment losses,
which result from evaluation of the Company's ability to recover components of
its investments, based on management's ongoing strategic assessment of local
conditions, in the emerging markets of Asia-Pacific.
In addition to the non-recurring charges reported during 1995 and 1996 for
streamlining initiatives, the Company incurred charges for the following
unusual items:
- - During 1996, the Company included in non-recurring charges a provision of
$15.0 million for the potential settlement of certain litigation.
21
6
- - During 1996, the Company included in other expense a charge of $35.0
million for a contribution to the Kellogg's Corporate Citizenship Fund,
which is expected to satisfy the charitable-giving plans of this private
trust through the year 2000.
- - During 1995, the Company included in non-recurring charges $73.8 million
of asset impairment losses that resulted from the evaluation of the
Company's ability to recover asset costs given changes in local market
conditions, sourcing of products, and other strategic factors in its North
American and Asia-Pacific operations.
The foregoing discussion of streamlining initiatives contains forward-looking
statements regarding headcount reductions, cash requirements, and realizable
savings. Actual amounts may vary depending on the final determination of
important factors, such as identification of specific employees to be separated
from pre-determined pools, actual amounts of asset removal and relocation
costs, dates of asset disposal and costs to maintain assets up to the date of
disposal, proceeds from asset disposals, final negotiation of third party
contract buy-outs, and other items.
On November 20, 1997, the Emerging Issues Task Force (EITF) of the Financial
Accounting Standards Board reached a consensus in Issue 97-13 that the costs of
business process reengineering activities are to be expensed as incurred. This
consensus also applies to business process reengineering activities that are
part of an information technology project. Beginning in 1996, the Company has
undertaken an Enterprise Business Applications (EBA) initiative that combines
design and installation of business processes and software packages to achieve
global best practices. Under the EBA initiative, the Company had capitalized
certain external costs associated with business process reengineering
activities as part of the software asset. EITF Issue 97-13 prescribes that
previously capitalized business process reengineering costs should be expensed
and reported as a cumulative effect of a change in accounting principle.
Accordingly, for the fourth quarter of 1997, the Company reported a charge of
$18.0 million (net of tax benefit of $7.7 million) or $.04 per share for
write-off of business process reengineering costs. Such costs were expensed as
incurred during the fourth quarter of 1997, and were insignificant.
1998 OUTLOOK
Management is not aware of any adverse trends that would materially affect the
Company's strong financial position. Should suitable investment opportunities
or working capital needs arise that would require additional financing,
management believes that the Company's strong credit rating, balance sheet, and
earnings history provide a base for obtaining additional financial resources
at competitive rates and terms. Based on the expectation of continued cereal
volume growth, and strong results from product innovation and the global
introduction of other convenience foods, management believes the Company is
well-positioned to deliver sales and earnings growth for the full year 1998.
The Company will continue to identify and pursue streamlining and productivity
initiatives to optimize its cost structure.
Additional expectations for 1998 include a gross profit margin of 53-54%, an
SGA% of 35-36%, an effective income tax rate of 36-37%, capital spending of
approximately $400 million, common stock repurchase activity of $390 million,
and an increase in interest expense of 10%.
To address the millennium date change issue (the inability of certain computer
software, hardware, and other equipment with embedded computer chips to
properly process two-digit year-date codes after 1999), the Company formed a
global task force to perform a risk assessment, and develop and execute action
plans, as necessary. The global risk assessment is substantially complete.
Remediation and testing activities for critical business operations are under
way, with completion scheduled by year-end 1998. Remediation and testing of
non-critical business operations will continue, as necessary, throughout 1999.
Management currently believes that the total cost of becoming Year 2000
compliant will not be significant to the Company's financial results, partly due
to other significant systems initiatives currently under way. While the
Company believes all necessary work will be completed, there can be no guarantee
that all systems will be in compliance by the year 2000 or that the systems of
other companies and government agencies on which the Company relies will be
converted in a timely manner. Such failure to complete the necessary work by
the year 2000 could result in material financial risk.
The foregoing projections of volume growth, profitability, capital spending,
and common stock repurchase activity are forward-looking statements that
involve risks and uncertainties. Actual results may differ materially due to
the impact of competitive conditions, marketing spending and/or incremental
pricing actions on actual volumes and product mix; the levels of spending on
system initiatives, properties, business opportunities, continued streamlining
initiatives, and other general and administrative costs; raw material price and
labor cost fluctuations; foreign currency exchange rate fluctuations; changes
in statutory tax law; interest rates available on short-term financing; the
impact of stock market conditions on common stock repurchase activity; and
other items.
22
7
Kellogg Company and Subsidiaries
CONSOLIDATED STATEMENT OF EARNINGS
Year ended December 31,
====================================================================================================================================
(millions, except per share data) 1997 1996 1995
- ------------------------------------------------------------------------------------------------------------------------------------
NET SALES $6,830.1 $6,676.6 $7,003.7
- ------------------------------------------------------------------------------------------------------------------------------------
Cost of goods sold 3,270.1 3,122.9 3,177.7
Selling and administrative expense 2,366.8 2,458.7 2,566.7
Non-recurring charges 184.1 136.1 421.8
- ------------------------------------------------------------------------------------------------------------------------------------
OPERATING PROFIT 1,009.1 958.9 837.5
- ------------------------------------------------------------------------------------------------------------------------------------
Interest expense 108.3 65.6 62.6
Other income (expense), net 3.7 (33.4) 21.1
- ------------------------------------------------------------------------------------------------------------------------------------
EARNINGS BEFORE INCOME TAXES AND CUMULATIVE EFFECT OF ACCOUNTING CHANGE 904.5 859.9 796.0
Income taxes 340.5 328.9 305.7
- ------------------------------------------------------------------------------------------------------------------------------------
EARNINGS BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE 564.0 531.0 490.3
Cumulative effect of accounting change (net of tax) (18.0) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
NET EARNINGS $ 546.0 $ 531.0 $ 490.3
- ------------------------------------------------------------------------------------------------------------------------------------
PER SHARE AMOUNTS (BASIC AND DILUTED):
EARNINGS BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE
$ 1.36 $ 1.25 $ 1.12
Cumulative effect of accounting change (0.04) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
NET EARNINGS PER SHARE $ 1.32 $ 1.25 $ 1.12
====================================================================================================================================
Refer to Notes to Consolidated Financial Statements.
Kellogg Company and Subsidiaries
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
====================================================================================================================================
Capital in Currency Total
Common stock excess of Retained Treasury stock translation shareholders'
(millions) shares amount par value earnings shares amount adjustment equity
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, January 1, 1995 310.4 $ 77.6 $68.6 $3,801.2 88.7 ($1,980.6) ($ 159.3) $1,807.5
Stock options exercised .7 .2 36.6 36.8
Common stock repurchases 5.7 (374.7) (374.7)
Net earnings 490.3 490.3
Dividends (328.5) (328.5)
Currency translation adjustments (34.6) (34.6)
Other -- (5.9) (5.9)
- --------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1995 311.1 77.8 105.2 3,963.0 94.4 (2,361.2) (193.9) 1,590.9
Stock options exercised .4 .1 18.7 18.8
Common stock repurchases 7.4 (535.7) (535.7)
Net earnings 531.0 531.0
Dividends (343.7) (343.7)
Currency translation adjustments 27.6 27.6
Other .1 (6.5) (6.5)
- --------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1996 311.5 77.9 123.9 4,150.3 101.9 (2,903.4) (166.3) 1,282.4
Stock options exercised(pre-split) .6 .1 31.9 (.1) 2.1 34.1
Common stock repurchases(pre-split) 3.9 (290.9) (290.9)
Other(pre-split) .1 (6.0) (6.0)
Retirement of treasury stock (105.3) (26.3) (55.8) (3,095.8) (105.3) 3,177.9 --
Two-for-one stock split 206.8 51.7 (51.7) .5 -- --
Stock options exercised(post-split) 1.2 .3 44.3 (.1) 2.1 46.7
Common stock repurchases(post-split) 3.1 (135.1) (135.1)
Net earnings 546.0 546.0
Dividends (360.1) (360.1)
Currency translation adjustments (115.6) (115.6)
Other(post-split) .1 (4.0) (4.0)
- --------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1997 414.8 $103.7 $92.6 $1,240.4 4.1 ($ 157.3) ($ 281.9) $ 997.5
================================================================================================================================
Refer to Notes to Consolidated Financial Statements.
23
8
Kellogg Company and Subsidiaries
CONSOLIDATED BALANCE SHEET
At December 31,
=======================================================================================
(millions, except share data) 1997 1996
- ---------------------------------------------------------------------------------------
CURRENT ASSETS
Cash and cash equivalents $173.2 $243.8
Accounts receivable, less allowances of $7.5 and $6.6 587.5 592.3
Inventories 434.3 424.9
Other current assets 272.7 267.6
- ---------------------------------------------------------------------------------------
TOTAL CURRENT ASSETS 1,467.7 1,528.6
- ---------------------------------------------------------------------------------------
PROPERTY, NET 2,773.3 2,932.9
OTHER ASSETS 636.6 588.5
- ---------------------------------------------------------------------------------------
TOTAL ASSETS $4,877.6 $5,050.0
=======================================================================================
CURRENT LIABILITIES
Current maturities of long-term debt $211.2 $501.2
Notes payable 368.6 652.6
Accounts payable 328.0 335.2
Other current liabilities 749.5 710.0
- ---------------------------------------------------------------------------------------
TOTAL CURRENT LIABILITIES 1,657.3 2,199.0
- ---------------------------------------------------------------------------------------
LONG-TERM DEBT 1,415.4 726.7
OTHER LIABILITIES 807.4 841.9
SHAREHOLDERS' EQUITY
Common stock, $.25 par value, 500,000,000 shares authorized
Issued: 414,823,142 shares in 1997 and 311,524,437 in 1996 103.7 77.9
Capital in excess of par value 92.6 123.9
Retained earnings 1,240.4 4,150.3
Treasury stock, at cost:
4,143,124 shares in 1997 and 101,876,325 in 1996 (157.3) (2,903.4)
Currency translation adjustment (281.9) (166.3)
- ---------------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 997.5 1,282.4
- ---------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $4,877.6 $5,050.0
=======================================================================================
Refer to Notes to Consolidated Financial Statements.
24
9
Kellogg Company and Subsidiaries
CONSOLIDATED STATEMENT OF CASH FLOWS
Year ended December 31,
==========================================================================================================
(millions) 1997 1996 1995
- ----------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net earnings $546.0 $531.0 $490.3
Items in net earnings not requiring (providing) cash:
Depreciation and amortization 287.3 251.5 258.8
Deferred income taxes 38.5 58.0 (78.7)
Non-recurring charges, net of cash paid 133.8 90.6 385.3
Other 9.5 14.5 9.1
Pension and other postretirement benefit contributions (114.5) (156.8) (74.5)
Changes in operating assets and liabilities (20.8) (77.3) 50.7
- ----------------------------------------------------------------------------------------------------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 879.8 711.5 1,041.0
- ----------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Additions to properties (312.4) (307.3) (315.7)
Acquisitions of businesses (25.4) (505.2) --
Property disposals 5.9 11.6 6.3
Other 2.6 14.1 .5
- ----------------------------------------------------------------------------------------------------------
NET CASH USED IN INVESTING ACTIVITIES (329.3) (786.8) (308.9)
- ----------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Net issuances (reductions) of notes payable, with maturities
less than or equal to 90 days (374.7) 906.6 (86.8)
Issuances of notes payable, with maturities greater than 90 days 4.8 137.0 --
Reductions of notes payable, with maturities greater than 90 days (14.1) (79.0) --
Issuances of long-term debt 1,000.0 -- --
Reductions of long-term debt (507.9) (3.4) (.4)
Net issuances of common stock 70.7 12.2 31.2
Common stock repurchases (426.0) (535.7) (374.7)
Cash dividends (360.1) (343.7) (328.5)
- ----------------------------------------------------------------------------------------------------------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (607.3) 94.0 (759.2)
- ----------------------------------------------------------------------------------------------------------
Effect of exchange rate changes on cash (13.8) 3.2 (17.3)
- ----------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (70.6) 21.9 (44.4)
Cash and cash equivalents at beginning of year 243.8 221.9 266.3
- ----------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS AT END OF YEAR $173.2 $243.8 $221.9
==========================================================================================================
Refer to Notes to Consolidated Financial Statements.
25
10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Kellogg Company and Subsidiaries
NOTE 1 ACCOUNTING POLICIES
CONSOLIDATION
The consolidated financial statements include the accounts of Kellogg Company
and its majority-owned subsidiaries. Intercompany balances and transactions are
eliminated.
Certain amounts in the prior year financial statements have been reclassified to
conform to the current year presentation.
CASH AND CASH EQUIVALENTS
Highly liquid temporary investments with original maturities of less than three
months are considered to be cash equivalents. The carrying amount approximates
fair value.
INVENTORIES
Inventories are valued at the lower of cost (principally average) or market.
PROPERTY
Fixed assets are recorded at cost and depreciated over estimated useful lives
using straight-line methods for financial reporting and accelerated methods for
tax reporting. Cost includes an amount of interest associated with significant
capital projects.
ADVERTISING
The costs of advertising are generally expensed as incurred.
STOCK COMPENSATION
The Company follows Accounting Principles Board Opinion (APB) #25, "Accounting
for Stock Issued to Employees," in accounting for its employee stock options and
other stock-based compensation. Under APB #25, because the exercise price of the
Company's employee stock options equals the market price of the underlying stock
on the date of the grant, no compensation expense is recognized. As permitted,
the Company has elected to adopt the disclosure provisions only of Statement of
Financial Accounting Standards (SFAS) #123, "Accounting for Stock-Based
Compensation." (Refer to Note 7 for further information.)
NET EARNINGS PER SHARE
Basic net earnings per share is determined by dividing net earnings by the
weighted average number of common shares outstanding during the period. Weighted
average shares outstanding, in millions, were 414.1, 424.9, and 438.3 for the
years 1997, 1996, and 1995, respectively. Diluted net earnings per share is
similarly determined except that the denominator is increased to include the
number of additional common shares that would have been outstanding if all
dilutive potential common shares had been issued. Dilutive potential common
shares are principally comprised of employee stock options issued by the Company
and had an insignificant impact on the computation of diluted net earnings per
share during the periods presented.
CHANGE IN ACCOUNTING PRINCIPLE
On November 20, 1997, the Emerging Issues Task Force (EITF) of the Financial
Accounting Standards Board reached a consensus in EITF 97-13 that the costs of
business process reengineering activities are to be expensed as incurred. This
consensus also applies to business process reengineering activities that are
part of an information technology project. Beginning in 1996, the Company has
undertaken an Enterprise Business Applications (EBA) initiative that combines
design and installation of business processes and software packages to achieve
global best practices. Under the EBA initiative, the Company had capitalized
certain external costs associated with business process reengineering activities
as part of the software asset. EITF Issue 97-13 prescribes that previously
capitalized business process reengineering costs should be expensed and reported
as a cumulative effect of a change in accounting principle. Accordingly, for the
fourth quarter of 1997, the Company reported a charge of $18.0 million (net of
tax benefit of $7.7 million) or $.04 per share for write-off of business process
reengineering costs. Such costs were expensed as incurred during the fourth
quarter of 1997 and were insignificant.
COMMON STOCK SPLIT
On August 1, 1997, the Company's Board of Directors approved a 2-for-1 stock
split to shareholders of record at the close of business August 8, 1997,
effective August 22, 1997, and also authorized retirement of 105.3 million
common shares (pre-split) held in treasury. All per share and shares outstanding
data in the Consolidated Statement of Earnings and Notes to Consolidated
Financial Statements have been retroactively restated to reflect the stock
split.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
NOTE 2 ACQUISITION
On December 16, 1996, the Company purchased certain assets and liabilities of
the Lender's Bagels business from Kraft Foods, Inc. for $466 million in cash,
including related acquisition costs. The acquisition was accounted for as a
purchase. The assets and liabilities of the acquired business are included in
the consolidated balance sheet as of December 31, 1996. The results of Lender's
operations from the date of the acquisition to December 31, 1996, were not
significant. The acquisition was initially financed through commercial paper
borrowings that were replaced with long-term debt in January 1997.
The components of intangible assets included in the allocation of purchase
price, along with the related straight-line amortization periods, were:
================================================================================
Amount Amortization
(millions) period (yrs.)
- --------------------------------------------------------------------------------
Trademarks and tradenames $ 150.0 40
Non-compete covenants 20.0 5
Goodwill 179.0 40
- --------------------------------------------------------------------------------
Total $ 349.0
================================================================================
The unaudited pro forma combined historical results, as if the Lender's Bagels
business had been acquired at the beginning of fiscal 1996 and 1995,
respectively, are estimated to be:
==================================================================================
(millions, except per share data) 1996 1995
- ----------------------------------------------------------------------------------
Net sales $ 6,873.1 $ 7,219.4
Net earnings $ 524.3 $ 489.3
Net earnings per share $ 1.23 $ 1.12
==================================================================================
The pro forma results include amortization of the intangibles presented above
and interest expense on debt presumed issued to finance the purchase. The pro
forma results are not necessarily indicative of what actually would have
occurred if the acquisition had been completed as of the beginning of each of
the fiscal periods presented, nor are they necessarily indicative of future
consolidated results.
NOTE 3 NON-RECURRING CHARGES
Operating profit for 1997 includes non-recurring charges of $184.1 million
($140.5 million after tax or $.34 per share), comprised of $161.1 million for
streamlining initiatives and $23.0 million for asset impairment losses.
Operating profit for 1996 includes non-recurring charges of $136.1 million
($97.8 million after tax or $.23 per share), comprised of $121.1 million for
streamlining initiatives and $15.0 million for potential settlement of certain
litigation.
Operating profit for 1995 includes non-recurring charges of $421.8 million
($271.3 million after tax or $.62 per share), comprised of $348.0 million for
streamlining initiatives and $73.8 million for asset impairment losses.
STREAMLINING INITIATIVES
From 1995 to the present, management has commenced major productivity and
operational streamlining initiatives in an effort to optimize the Company's cost
structure and move toward a global business model. The incremental costs of
these programs have been reported throughout 1995-1997 as non-recurring charges.
The 1997 charges for streamlining initiatives relate principally to management's
plan to optimize the Company's pan-European operations, as well as ongoing
productivity programs in the United States and Australia. A major component of
26
11
the pan-European initiatives was the late-1997 closing of plants and separation
of employees in Riga, Latvia; Svendborg, Denmark; and Verola, Italy.
Approximately 50% of the total 1997 streamlining charges consist of
manufacturing asset write-downs, with the balance comprised of current and
anticipated cash outlays for employee separation benefits, equipment removal,
production redeployment, associated management consulting, and similar costs.
Principally related to the pan-European initiatives, streamlining programs
commenced in 1997 will result in employee headcount reductions of approximately
600. Total cash outlays during 1997 for streamlining initiatives were
approximately $85 million.
The 1996 and 1995 charges for streamlining initiatives result from management's
actions to consolidate and reorganize operations in the United States, Europe,
and other international locations. Cash outlays for streamlining initiatives
were approximately $120 million in 1996 and $40 million in 1995. The
streamlining programs commenced since 1995, including the aforementioned
pan-European initiatives, are expected to result in the elimination of
approximately 3,000 employee positions by the end of 1998, with approximately
90% of this headcount reduction already achieved.
The components of the streamlining charges, as well as reserve balances
remaining at December 31, 1997, 1996, and 1995, were:
===============================================================================================================================
Employee
retirement &
severance Asset Asset Other
(millions) benefits (a) write-offs removal costs Total
- -------------------------------------------------------------------------------------------------------------------------------
1995 streamlining charges $183.6 $106.5 $39.5 $18.4 $348.0
Amounts utilized during 1995 (126.1) (106.5) (3.0) (18.4) (254.0)
- -------------------------------------------------------------------------------------------------------------------------------
Remaining reserve at
December 31, 1995 57.5 --- 36.5 --- 94.0
1996 streamlining charges (b) 31.4 37.5 13.5 38.7 121.1
Amounts utilized during 1996 (65.0) (37.5) (19.6) (38.7) (160.8)
- -------------------------------------------------------------------------------------------------------------------------------
Remaining reserve at
December 31, 1996 23.9 --- 30.4 --- 54.3
1997 streamlining charges 22.4 78.1 19.3 41.3 161.1
Amounts utilized during 1997 (22.7) (78.1) (21.4) (41.3) (163.5)
- -------------------------------------------------------------------------------------------------------------------------------
Remaining reserve at
December 31, 1997 $23.6 $ --- $28.3 $ --- $51.9
===============================================================================================================================
(a) Includes approximately $100 and $5 of pension and postretirement health care
curtailment losses and special termination benefits recognized in 1995 and
1996, respectively. (Refer to Notes 8 and 9.)
(b) Includes $23 of reversals of prior-year reserves due to lower than expected
employee severance payments and asset removal costs, and other favorable
factors.
OTHER
In addition to the non-recurring charges reported for streamlining initiatives,
the Company incurred charges for the following unusual items:
o During 1997, asset impairment losses of $23.0 million, which resulted from
evaluation of the Company's ability to recover components of its
investments, based on management's ongoing strategic assessment of local
conditions, in the emerging markets of Asia-Pacific.
o During 1996, a provision of $15.0 million for the potential settlement of
certain litigation.
o During 1995, asset impairment losses of $73.8 million which resulted from
the evaluation of the Company's ability to recover asset costs given changes
in local market conditions, sourcing of products, and other strategic
factors in its North American and Asia-Pacific operations.
NOTE 4 OTHER INCOME AND EXPENSE
Other income and expense includes non-operating items such as interest income,
foreign exchange gains and losses, and charitable donations.
Other expense for 1996 includes a charge of $35.0 million ($22.3 million after
tax or $.05 per share) for a contribution to the Kellogg's Corporate Citizenship
Fund, a private trust established for charitable donations. This contribution is
expected to satisfy the charitable-giving plans of this trust through the year
2000.
NOTE 5 LEASES
Operating leases are generally for equipment and warehouse space. Rent expense
on all operating leases was $38.6 million in 1997, $37.9 million in 1996, and
$32.0 million in 1995. At December 31, 1997, future minimum annual rental
commitments under non-cancelable operating leases totaled $68 million consisting
of (in millions): 1998- $17; 1999-$12; 2000-$9; 2001-$8; 2002-$7; 2003 and
beyond-$15.
NOTE 6 DEBT
Notes payable consist principally of commercial paper borrowings in the United
States at the highest credit rating available and, to a lesser extent, bank
loans of foreign subsidiaries at competitive market rates. U.S. borrowings at
December 31, 1997 (including $400 million classified in long-term debt, as
discussed in (f) below), were $744.2 million with an effective interest rate of
5.7%. U.S. borrowings at December 31, 1996 (including $500 million classified in
long-term debt, as discussed in (f) below), were $1.12 billion with an effective
interest rate of 5.4%. Associated with these borrowings, during September 1997,
the Company purchased a $225 million notional, four-year fixed interest rate
cap. Under the terms of the cap, if the Federal Reserve AA composite rate on
30-day commercial paper increases to 6.33%, the Company will pay this fixed rate
on $225 million of its commercial paper borrowings. If the rate increases to
7.83% or above, the cap will expire. As of year-end 1997, the rate was 5.65%. At
December 31, 1997, the Company had $775.1 million of short-term lines of credit,
of which $749.4 million were unused and available for borrowing on an unsecured
basis.
Long-term debt at year-end consisted of:
==========================================================================================
(millions) 1997 1996
- ------------------------------------------------------------------------------------------
(a) Seven-Year Notes due 2004 $500.0 $ --
(b) Four-Year Notes due 2001 500.0 --
(c) Five-Year Notes due 1998 200.0 200.0
(d) Three-Year Notes due 1997 -- 200.0
(e) Five-Year Notes due 1997 -- 299.9
(f) Commercial paper 400.0 500.0
Other 26.6 28.0
- -----------------------------------------------------------------------------------------
1,626.6 1,227.9
Less current maturities (211.2) (501.2)
- -----------------------------------------------------------------------------------------
Balance, December 31 $1,415.4 $726.7
=========================================================================================
(a) In January 1997, the Company issued $500 of seven-year 6.625% fixed rate
Euro Dollar Notes. In conjunction with this issuance, the Company settled
$500 notional amount of interest rate forward swap agreements, which
effectively fixed the interest rate on the debt at 6.354%. Associated with
this debt, during September 1997, the Company entered into a $225
notional, 4 1/2-year fixed-to-floating interest rate swap, indexed to the
three-month London Interbank Offered Rate (LIBOR). Under the terms of the
swap, if three-month LIBOR decreases to 4.71% or below, the swap will
expire. At year-end 1997, three-month LIBOR was 5.81%.
(b) In August 1997, the Company issued $500 of four-year 6.125% Euro Dollar
Notes. In conjunction with this issuance, the Company settled $400
notional amount of interest rate forward swap agreements which effectively
fixed the interest rate on the debt at 6.4%. Associated with this debt,
during September 1997, the Company entered into a $200 notional, four-year
fixed-to-floating interest rate swap, indexed to three-month LIBOR.
(c) In October 1993, the Company issued $200 of five-year 6.25% Euro Canadian
Dollar Notes which were swapped into 4.629% fixed rate U.S. Dollar
obligations for the duration of the five-year term.
(d) In September 1994, the Company issued $200 of three-year debt consisting
of both 8.125% Euro Canadian Dollar Secured Notes and 5.25% Swiss Franc
Secured Notes. These Notes were swapped into U.S. Dollar obligations, with
a variable rate indexed to the Federal Reserve AA composite rate on 30-day
commercial paper, for the duration of the three-year term.
(e) In July 1992, the Company issued $300 of five-year 5.9% U.S. Dollar
obligations.
(f) At December 31, 1997, $400 of the Company's commercial paper was
classified as long-term, based on the Company's intent and ability to
refinance as evidenced by an issuance of $400 of three-year 5.75% fixed
rate U.S. Dollar Notes on February 4, 1998. These Notes were issued under
an existing "shelf registration" with the Securities and Exchange
Commission, and provide an option to holders to extend the obligation for
an additional four years at a predetermined interest rate of 5.63% plus
the Company's then-current credit spread. Concurrent with this issuance,
the Company entered into a $400 notional, three-year fixed-to-floating
interest rate swap, indexed to the Federal Reserve AA composite rate on
30-day commercial paper.
At December 31, 1996, $500 of the Company's commercial paper was
classified as long-term, based on the Company's intent and ability to
refinance as evidenced by the issuance described in (a) above.
27
12
The $200 million of five-year notes will mature during the fourth quarter of
1998 and are classified in current maturities as of December 31, 1997.
Management currently intends to replace these borrowings with new long-term debt
issuances as of the maturity date and, as of year-end 1997, had entered into $25
million notional amount of interest rate forward swap agreements to pay fixed
and receive variable interest, effectively fixing the U.S. Treasury rate on
which an equivalent amount of future issuances would be priced.
Scheduled principal repayments on long-term debt are (in millions): 1998-$211;
1999-$2; 2000-$1; 2001-$901; 2002-$5; 2003 and beyond-$507.
Interest paid was $85 million for 1997 and approximated interest expense for
1996 and 1995. Interest expense capitalized as part of the construction cost of
fixed assets was (in millions): 1997- $9.6; 1996- $3.8; 1995-$7.2.
NOTE 7 STOCK OPTIONS
The Key Employee Long-Term Incentive Plan provides for benefits to be awarded to
executive-level employees in the form of stock options, performance shares,
performance units, incentive stock options, restricted stock grants, and other
stock-based awards. Options granted under this plan generally vest over two
years and, prior to September 1997, vested at the date of grant. The Bonus
Replacement Stock Option Plan allows certain key executives to receive stock
options that generally vest immediately in lieu of part or all of their
respective bonus. Options granted under this plan are issued from the Key
Employee Long-Term Incentive Plan. The Kellogg Employee Stock Ownership Plan is
designed to offer stock and other incentive awards based on Company performance
to employees who are not eligible to participate in the Key Employee Long-Term
Incentive Plan or the Bonus Replacement Stock Option Plan. Options awarded under
the Kellogg Employee Stock Ownership Plan are subject to graded vesting over a
five-year period. Under these plans (the "stock option plans"), options are
granted with exercise prices equal to the fair market value of the Company's
common stock at the time of grant, exercisable for a 10-year period following
the date of grant, subject to vesting rules.
The Key Employee Long-Term Incentive Plan contains an accelerated ownership
feature ("AOF"). An AOF option is granted when Company stock is surrendered to
pay the exercise price of a stock option. The holder of the option is granted an
AOF option for the number of shares surrendered. For all AOF options, the
original expiration date is not changed but the options vest immediately.
As permitted by SFAS #123 "Accounting for Stock-Based Compensation," the Company
has elected to account for the stock option plans under APB #25 "Accounting for
Stock Issued to Employees." Accordingly, no compensation cost has been
recognized for these plans.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. Had compensation cost
for the stock option plans been determined based on the fair value at the grant
date consistent with SFAS #123, the Company's net earnings and earnings per
share for employee stock options granted after December 31, 1994, are estimated
as follows:
- -----------------------------------------------------------------------------------------------------------------------------------
(millions, except per share data) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------------------
Net earnings
As reported $546.0 $531.0 $490.3
Pro forma $520.8 $514.1 $476.4
Net earnings per share (basic and diluted)
As reported $ 1.32 $ 1.25 $ 1.12
Pro forma $ 1.26 $ 1.21 $ 1.09
- -----------------------------------------------------------------------------------------------------------------------------------
The fair value of each option grant was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted average
assumptions:
- -----------------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------------------
Risk-free interest rate 6.31% 6.16% 6.89%
Dividend yield 1.97% 2.30% 2.30%
Volatility 19.83% 19.16% 21.45%
Average expected term (years) 3.52 3.34 3.02
Fair value of options granted $7.48 $6.32 $5.47
- -----------------------------------------------------------------------------------------------------------------------------------
Under the Key Employee Long-Term Incentive Plan, options for 13.2 million and
15.5 million shares were available for grant at December 31, 1997 and 1996,
respectively. Under the Kellogg Employee Stock Ownership Plan, options for 6.9
million and 8.3 million shares were available for grant at December 31, 1997 and
1996, respectively. Transactions under these plans were:
===================================================================================================================================
(millions, except per share data) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------------------
Under option, January 1 11.2 8.4 7.6
Granted 6.0 5.2 4.8
Exercised (4.5) (2.1) (3.8)
Cancelled (.3) (.3) (.2)
- -----------------------------------------------------------------------------------------------------------------------------------
Under option, December 31 12.4 11.2 8.4
- -----------------------------------------------------------------------------------------------------------------------------------
Exercisable, December 31 8.1 7.6 6.1
- -----------------------------------------------------------------------------------------------------------------------------------
Shares available, December 31,
for options that may be granted 20.1 23.8 27.4
- -----------------------------------------------------------------------------------------------------------------------------------
Average prices per share
------------------------
Under option, January 1 $33 $30 $28
Granted 36 38 31
Exercised 33 30 28
Cancelled 34 30 27
- -----------------------------------------------------------------------------------------------------------------------------------
Under option, December 31 $35 $33 $30
- -----------------------------------------------------------------------------------------------------------------------------------
Exercisable, December 31 $36 $35 $31
===================================================================================================================================
Employee stock options outstanding and exercisable under these plans as of
December 31, 1997, were:
=================================================================================
(millions, except Outstanding Exercisable
per share data) --------------------------------- --------------------------
Weighted
Weighted average Weighted
Range of average remaining average
exercise Number exercise contractual Number exercise
prices of options price life (yrs.) of options price
- ----------------------------------------------------- --------------------------
$15 - 34 6.4 $ 31 8.0 3.4 $ 31
35 - 39 4.7 38 8.3 3.4 38
40 - 44 .7 44 9.8 .7 44
45 - 50 .6 48 9.7 .6 48
- ----------------------------------------------------- --------------------------
12.4 8.1
=================================================================================
NOTE 8 PENSION BENEFITS
The Company has a number of U.S. and foreign pension plans to provide retirement
benefits for its employees. Benefits for salaried employees are generally based
on salary and years of service, while union employee benefits are generally a
negotiated amount for each year of service. Plan funding strategies are
influenced by tax regulations. Plan assets consist primarily of equity
securities with smaller holdings of bonds, real estate, and other investments.
Investment in Company common stock represented 4.2% and 6.8% of consolidated
plan assets at December 31, 1997, and 1996, respectively.
The components of pension expense were:
================================================================================================
(millions) 1997 1996 1995
- ------------------------------------------------------------------------------------------------
Service cost $29.9 $27.6 $27.4
Interest cost 79.6 72.8 66.0
Actual return on plan assets (210.4) (102.8) (163.3)
Net amortization and deferral 118.0 19.7 100.3
Curtailment loss and special
termination benefits expense - 4.0 77.7
- ------------------------------------------------------------------------------------------------
Pension expense - Company plans 17.1 21.3 108.1
Pension expense - multiemployer plans 1.9 2.0 1.8
- ------------------------------------------------------------------------------------------------
Total pension expense $19.0 $23.3 $109.9
================================================================================================
28
13
The worldwide weighted average actuarial assumptions were:
===============================================================================================================
1997 1996 1995
- ---------------------------------------------------------------------------------------------------------------
Discount rate 7.6% 7.9% 7.5%
Long-term rate of compensation increase 4.9% 5.2% 5.1%
Long-term rate of return on plan assets 10.5% 10.5% 9.6%
===============================================================================================================
Reconciliation of funded status of the plans at year-end was:
==============================================================================================================
Underfunded Overfunded
(millions) 1997 1996 1997 1996
- --------------------------------------------------------------------------------------------------------------
Accumulated benefit obligation:
Nonvested $ 6.6 $ 6.0 $ 60.0 $ 46.9
Vested 62.5 41.5 926.3 845.2
- --------------------------------------------------------------------------------------------------------------
Total 69.1 47.5 986.3 892.1
Projected salary increases 18.0 17.4 60.0 79.3
- --------------------------------------------------------------------------------------------------------------
Projected benefit obligation 87.1 64.9 1,046.3 971.4
Plan assets at fair value 15.4 - 1,193.6 1,048.7
- --------------------------------------------------------------------------------------------------------------
Assets (less) greater than
projected benefit obligation (71.7) (64.9) 147.3 77.3
Unrecognized net (gain) loss 14.4 15.0 (7.0) 28.8
Unrecognized transition amount 2.6 (2.8) 1.8 .6
Unrecognized prior service cost 3.9 3.4 43.3 49.3
Minimum liability adjustment (10.7) (5.7) - -
- --------------------------------------------------------------------------------------------------------------
Prepaid (accrued) pension ($61.5) ($55.0) $185.4 $156.0
==============================================================================================================
Curtailment losses and special termination benefits expense recognized in 1996
and 1995 relate to operational workforce reduction initiatives undertaken during
these years and are recorded as a component of non-recurring charges. (Refer to
Note 3 for further information.)
The amount of intangible assets related to underfunded pension plans was $10.7
million and $5.7 million at year-end 1997 and 1996, respectively. All gains and
losses, other than curtailment losses, are recognized over the average remaining
service period of active employees.
Certain of the Company's subsidiaries sponsor 401(k) or similar savings plans
for active employees. Expense related to these plans was (in millions):
1997-$16; 1996-$17; 1995-$18.
NOTE 9 NONPENSION POSTRETIREMENT BENEFITS
Certain of the Company's North American subsidiaries provide health care and
other benefits to substantially all retired employees, their covered dependents,
and beneficiaries. Generally, employees are eligible for these benefits when one
of the following service/age requirements is met: 30 years and any age; 20 years
and age 55; 5 years and age 62.
Components of postretirement benefit expense were:
============================================================================================================================
(millions) 1997 1996 1995
- ----------------------------------------------------------------------------------------------------------------------------
Service cost $ 9.6 $11.2 $11.8
Interest cost 37.2 40.2 41.5
Actual return on plan assets (23.0) - -
Net amortization and deferral 2.9 .3 (.6)
Curtailment loss - 1.0 26.3
- ----------------------------------------------------------------------------------------------------------------------------
Postretirement benefit expense $ 26.7 $52.7 $79.0
- ----------------------------------------------------------------------------------------------------------------------------
Discount rate used for accumulated benefit obligation 7.25% 7.75% 7.25%
============================================================================================================================
The assumed health care cost trend rate was 7.0% for 1997, decreasing gradually
to 4.5% by the year 2003 and remaining at that level thereafter. These trend
rates reflect the Company's prior experience and management's expectation that
future rates will decline. Increasing the assumed health care cost trend rates
by 1 percentage point in each year would increase the accumulated postretirement
benefit obligation as of December 31, 1997, by $63.5 million and postretirement
benefit expense for 1997 by $6.8 million. All gains and losses, other than
curtailment losses, are recognized over the average remaining service period of
active plan participants. Curtailment losses recognized in 1996 and 1995 relate
to operational workforce reduction initiatives undertaken during these years and
were recorded as a component of non-recurring charges. (Refer to Note 3 for
further information.) Since December 1996, the Company has contributed to a
voluntary employee benefit association (VEBA) trust for funding of its
nonpension postretirement benefit obligations. Plan assets consist primarily of
equity securities with smaller holdings of bonds.
The accrued postretirement benefit cost included in the balance sheet at
year-end was:
============================================================================================================
(millions) 1997 1996
- ------------------------------------------------------------------------------------------------------------
Accumulated benefit obligation:
Retirees $347.4 $305.9
Active plan participants 175.9 188.2
- ------------------------------------------------------------------------------------------------------------
523.3 494.1
Plan assets at fair value (150.7) (81.0)
- ------------------------------------------------------------------------------------------------------------
Accumulated benefit obligation greater than assets 372.6 413.1
Unrecognized experience gain 86.5 95.1
Unrecognized prior service adjustments 8.1 8.6
- ------------------------------------------------------------------------------------------------------------
Accrued postretirement benefit cost $467.2 $516.8
============================================================================================================
NOTE 10 INCOME TAXES
Earnings before income taxes and cumulative effect of accounting change, and the
provision for U.S. federal, state, and foreign taxes on these earnings, were:
=================================================================================================================
(millions) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------
Earnings before income taxes
and cumulative effect of accounting change:
United States $576.4 $516.7 $430.9
Foreign 328.1 343.2 365.1
- -----------------------------------------------------------------------------------------------------------------
$904.5 $859.9 $796.0
=================================================================================================================
Income taxes:
Currently payable:
Federal $129.4 $130.6 $205.2
State 29.6 21.9 34.7
Foreign 143.0 118.4 144.5
- -----------------------------------------------------------------------------------------------------------------
302.0 270.9 384.4
- -----------------------------------------------------------------------------------------------------------------
Deferred:
Federal 50.2 45.7 (81.0)
State 4.0 11.4 (10.7)
Foreign (15.7) .9 13.0
- -----------------------------------------------------------------------------------------------------------------
38.5 58.0 (78.7)
- -----------------------------------------------------------------------------------------------------------------
Total income taxes $340.5 $328.9 $305.7
=================================================================================================================
The difference between the U.S. federal statutory tax rate and the Company's
effective rate was:
==============================================================================================================
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------
U.S. statutory rate 35.0% 35.0% 35.0%
Foreign rates varying from 35% .1 .7 .2
State income taxes,
net of federal benefit 2.4 2.5 2.0
Net change in valuation allowance 1.6 (.1) 1.9
Statutory rate changes,
deferred tax impact (.5) - .4
Other (1.0) .1 (1.1)
- --------------------------------------------------------------------------------------------------------------
Effective income tax rate 37.6% 38.2% 38.4%
==============================================================================================================
The 1997 increase in valuation allowance on deferred tax assets and
corresponding impact on the effective income tax rate, as presented above,
primarily result from management's assessment of the Company's ability to
utilize certain operating loss and tax credit carryforwards. Total tax benefits
of carryforwards at year-end 1997 were $30.4 million and principally expire
after the year 2002.
29
14
The 1995 increase in valuation allowance on deferred tax assets and
corresponding impact on the effective income tax rate, as presented above,
primarily relate to asset impairment losses recorded as non-recurring charges
(refer to Note 3) for which no tax benefit was provided, based on management's
assessment of the likelihood of recovering such benefit in future years.
The deferred tax assets and liabilities included in the balance sheet at
year-end were:
====================================================================================================================================
Deferred tax assets Deferred tax liabilities
(millions) 1997 1996 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Current:
Promotion and advertising $65.0 $78.4 $10.5 $6.7
Wages and payroll taxes 13.8 13.8 - -
Health and postretirement benefits 15.7 17.2 2.4 6.3
State taxes 8.1 8.6 - -
Operating loss and credit carryforwards 2.1 0.1 - -
Other 24.2 23.4 12.3 23.3
- ------------------------------------------------------------------------------------------------------------------------------------
128.9 141.5 25.2 36.3
Less valuation allowance (4.1) (2.5) - -
- ------------------------------------------------------------------------------------------------------------------------------------
124.8 139.0 25.2 36.3
====================================================================================================================================
Noncurrent:
Depreciation and asset disposals 18.8 25.6 326.0 337.0
Health and postretirement benefits 163.5 179.6 56.2 43.0
Capitalized interest 3.5 3.3 32.3 31.5
State taxes - 0.9 2.6 -
Operating loss and credit carryforwards 28.3 1.4 - -
Other 26.6 26.3 5.8 .7
- ------------------------------------------------------------------------------------------------------------------------------------
240.7 237.1 422.9 412.2
Less valuation allowance (41.8) (29.1) - -
- ------------------------------------------------------------------------------------------------------------------------------------
198.9 208.0 422.9 412.2
- ------------------------------------------------------------------------------------------------------------------------------------
Total deferred taxes $323.7 $347.0 $448.1 $448.5
====================================================================================================================================
At December 31, 1997, foreign subsidiary earnings of $1.3 billion were
considered permanently invested in those businesses. Accordingly, U.S. income
taxes have not been provided on these earnings. Foreign withholding taxes of
approximately $64 million would be payable upon remittance of these earnings.
Subject to certain limitations, the withholding taxes would then be available
for use as credits against the U.S. tax liability.
Cash paid for income taxes was (in millions): 1997-$332; 1996-$281; 1995-$404.
NOTE 11 FINANCIAL INSTRUMENTS AND CREDIT RISK CONCENTRATION
The fair values of the Company's financial instruments are based on carrying
value in the case of short-term items, quoted market prices for derivatives and
investments, and, in the case of long-term debt, incremental borrowing rates
currently available on loans with similar terms and maturities. The carrying
amounts of the Company's cash, cash equivalents, receivables, notes payable, and
long-term debt approximate fair value.
The Company is exposed to certain market risks which exist as a part of its
ongoing business operations and uses derivative financial and commodity
instruments, where appropriate, to manage these risks. In general, instruments
used as hedges must be effective at reducing the risk associated with the
exposure being hedged and must be designated as a hedge at the inception of the
contract. Deferred gains or losses related to any instrument 1) designated but
ineffective as a hedge of existing assets, liabilities, or firm commitments, or
2) designated as a hedge of an anticipated transaction which is no longer likely
to occur, are recognized immediately in the statement of earnings.
For all derivative financial and commodity instruments held by the Company,
changes in fair values of these instruments and the resultant impact on the
Company's cash flows and/or earnings would generally be offset by changes in
value of underlying exposures. The impact on the Company's results and financial
position of holding derivative financial and commodity instruments was
insignificant during the periods presented.
FOREIGN EXCHANGE RISK
The Company is exposed to fluctuations in foreign currency cash flows primarily
related to third party purchases, intercompany product shipments, and
intercompany loans. The Company is also exposed to fluctuations in the value of
foreign currency investments in subsidiaries and cash flows related to
repatriation of these investments. Additionally, the Company is exposed to
volatility in the translation of foreign currency earnings to U.S. Dollars.
The Company assesses foreign currency risk based on transactional cash flows and
enters into forward contracts of generally less than twelve months duration to
reduce fluctuations in net long or short currency positions. Foreign currency
contracts are marked-to-market with net amounts due to or from counterparties
recorded in accounts receivable or payable. For contracts hedging firm
commitments, mark-to-market gains and losses are deferred and recognized as
adjustments to the basis of the transaction. For contracts hedging subsidiary
investments, mark-to-market gains and losses are recorded in the currency
translation adjustment component of shareholders' equity. For all other
contracts, mark-to-market gains and losses are recognized currently in other
income or expense.
The notional amounts of open forward contracts were $143.2 million and $80.0
million at December 31, 1997, and 1996, respectively. Refer to Supplemental
Financial Information on page 33 for further information regarding these
contracts.
INTEREST RATE RISK
The Company is exposed to interest rate volatility with regard to future
issuances of fixed rate debt and existing issuances of variable rate debt. The
Company uses interest rate caps, and currency and interest rate swaps, including
forward swaps, to reduce interest rate volatility and funding costs associated
with certain debt issues, and to achieve a desired proportion of variable versus
fixed rate debt, based on current and projected market conditions.
Interest rate forward swaps are marked-to-market with net amounts due to or from
counterparties recorded in interest receivable or payable. Mark-to-market gains
and losses are deferred and recognized over the life of the debt issue as a
component of interest expense. For other caps and swaps entered into
concurrently with the debt issue, the interest or currency differential to be
paid or received on the instrument is recognized in the statement of earnings as
incurred, as a component of interest expense. If a position were to be
terminated prior to maturity, the gain or loss realized upon termination would
be deferred and amortized to interest expense over the remaining term of the
underlying debt issue or would be recognized immediately if the underlying debt
issue was settled prior to maturity.
The notional amounts of currency and interest rate swaps were $875.0 million and
$1.05 billion at December 31, 1997, and 1996, respectively. Refer to Note 6 and
Supplemental Financial Information on page 33 for further information regarding
these swaps.
PRICE RISK
The Company is exposed to price fluctuations primarily as a result of
anticipated purchases of raw and packaging materials. The Company uses the
combination of long cash positions with vendors, and exchange-traded futures and
option contracts to reduce price fluctuations in a desired percentage of
forecasted purchases over a duration of generally less than one year. Commodity
contracts are marked-to-market with net amounts due to or from brokers recorded
in accounts receivable or payable. Mark-to-market gains and losses are deferred
and recognized as adjustments to the basis of the underlying material purchases.
30
15
CREDIT RISK CONCENTRATION
The Company is exposed to credit loss in the event of nonperformance by
counterparties on derivative financial and commodity contracts. This credit loss
is limited to the cost of replacing these contracts at current market rates.
Management believes that the probability of such loss is remote.
Financial instruments which potentially subject the Company to concentrations of
credit risk are primarily cash, cash equivalents, and accounts receivable. The
Company places its investments in highly rated financial institutions and
investment grade short-term debt instruments, and limits the amount of credit
exposure to any one entity. Concentrations of credit risk with respect to
accounts receivable are limited due to the large number of customers, generally
short payment terms, and their dispersion across geographic areas.
NOTE 12 QUARTERLY FINANCIAL DATA (UNAUDITED)
====================================================================================================================================
(millions, except Net sales Gross profit
per share data) 1997 1996 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
First $1,688.9 $1,785.9 $860.9 $995.5
Second 1,719.7 1,651.4 908.9 876.2
Third 1,803.8 1,681.6 944.4 865.6
Fourth 1,617.7 1,557.7 845.8 816.4
- ------------------------------------------------------------------------------------------------------------------------------------
$6,830.1 $6,676.6 $3,560.0 $3,553.7
====================================================================================================================================
Earnings before Earnings per share
cumulative effect of before cumulative effect
accounting change (a) of accounting change (a)(b)
1997 1996 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
First $160.6 $206.1 $ .38 $ .48
Second 163.6 78.1 .39 .18
Third 207.2 159.5 .50 .38
Fourth 32.6 87.3 .08 .21
- ------------------------------------------------------------------------------------------------------------------------------------
$564.0 $531.0
====================================================================================================================================
Net earnings (a) Net earnings per share (a)(b)
1997 1996 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
First $160.6 $206.1 $ .38 $ .48
Second 163.6 78.1 .39 .18
Third 207.2 159.5 .50 .38
Fourth 14.6 87.3 .04 .21
====================================================================================================================================
$546.0 $531.0
====================================================================================================================================
(a) The quarterly results of 1997 and 1996 include the following non-recurring
charges, other unusual items and cumulative effect of accounting change.
(Refer to Notes 1, 3 and 4 for further information.)
====================================================================================================================================
Earnings Earnings per share
1997 1996 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Non-recurring charges and other unusual items:
First $ - ($6.1) $ - ($.01)
Second (8.0) (16.9) (.02) (.04)
Third (6.6) (21.3) (.02) (.05)
Fourth (125.9) (75.8) (.31) (.18)
- ------------------------------------------------------------------------------------------------------------------------------------
Earnings before cumulative
effect of accounting change (140.5) (120.1)
Cumulative effect of accounting change -Fourth (18.0) - (.04) -
====================================================================================================================================
Net earnings ($158.5) ($120.1)
====================================================================================================================================
(b) Earnings per share presented represent both basic and diluted earnings per
share.
The principal market for trading Kellogg shares is the New York Stock Exchange
(NYSE). The shares are also traded on the Boston, Chicago, Cincinnati, Pacific,
and Philadelphia Stock Exchanges. At year-end 1997, the closing price (on the
NYSE) was $49 5/8 and there were 25,305 shareholders of record.
Dividends paid and the quarterly price ranges on the NYSE during the last two
years were:
====================================================================================================================================
Stock Price
-----------
1997 - QUARTER Dividend High Low
- ------------------------------------------------------------------------------------------------------------------------------------
Fourth $ .225 $50.38 $40.00
Third .225 50.38 42.00
Second .210 43.44 32.00
First .210 36.38 32.06
====================================================================================================================================
$ .870
====================================================================================================================================
1996 - Quarter
- ------------------------------------------------------------------------------------------------------------------------------------
Fourth $ .210 $34.56 $31.00
Third .210 38.69 32.81
Second .195 37.88 33.69
First .195 40.31 36.25
====================================================================================================================================
$ .810
====================================================================================================================================
NOTE 13 OPERATING SEGMENTS
The Company operates in a single industry - manufacturing and marketing
grain-based convenience food products including ready-to-eat cereal, toaster
pastries, frozen waffles, cereal bars, and bagels throughout the world. The
following table describes operations by geographic area. Geographic operating
profit includes allocated corporate overhead expenses. Corporate assets are
comprised principally of cash and cash equivalents held for general corporate
purposes.
====================================================================================================================================
% % %
(millions) 1997 change 1996 change 1995 change
====================================================================================================================================
NET SALES
====================================================================================================================================
United States $3,961.8 +5 $3,779.5 -7 $4,080.3 +6
% of total 58% 57% 58%
Europe 1,702.0 -3 1,749.6 -4 1,829.1 +9
% of total 25% 26% 26%
Other areas 1,166.3 +2 1,147.5 +5 1,094.3 +5
% of total 17% 17% 16%
- ------------------------------------------------------------------------------------------------------------------------------------
Consolidated $6,830.1 +2 $6,676.6 -5 $7,003.7 +7
====================================================================================================================================
OPERATING PROFIT (A)
====================================================================================================================================
United States $706.8 +16 $ 611.2 +38 $443.1 -37
% of total 70% 64% 53%
Europe 158.9 -22 204.4 -30 293.6 +2
% of total 16% 21% 35%
Other areas 143.4 -- 143.3 +42 100.8 -39
% of total 14% 15% 12%
- ------------------------------------------------------------------------------------------------------------------------------------
Consolidated $1,009.1 +5 $ 958.9 +14 $837.5 -28
====================================================================================================================================
IDENTIFIABLE ASSETS
====================================================================================================================================
United States $2,819.9 +1 $ 2,785.9 +27 $2,194.8 -1
% of total 58% 55% 50%
Europe 1,160.2 -8 1,258.2 -1 1,269.4 -1
% of total 24% 25% 29%
Other areas 882.3 -9 973.3 +5 929.7 -1
% of total 18% 19% 21%
Corporate assets 15.2 -53 32.6 +57 20.7 +9
% of total - 1% -
- ------------------------------------------------------------------------------------------------------------------------------------
Consolidated $4,877.6 -3 $ 5,050.0 +14 $4,414.6 -1
====================================================================================================================================
(a) Operating profit includes the following non-recurring charges, by
geographic area. (Refer to Note 3 for further information.)
====================================================================================================================================
1997 1996 1995
- ------------------------------------------------------------------------------------------------------------------------------------
United States ($35.2) ($24.1) ($325.0)
Europe (119.1) (76.5) (38.4)
All other (29.8) (35.5) (58.4)
- ------------------------------------------------------------------------------------------------------------------------------------
Consolidated ($184.1) ($136.1) ($421.8)
====================================================================================================================================
31
16
NOTE 14 SUPPLEMENTAL FINANCIAL STATEMENT DATA
(millions)
===============================================================================================================================
Consolidated Statement of Earnings 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------------------
Research and development expense $106.1 $ 84.3 $ 72.2
Advertising expense $780.4 $778.9 $891.5
===============================================================================================================================
===============================================================================================================================
Consolidated Statement of Cash Flows 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------------------
Accounts receivable $5.1 $10.9 ($25.6)
Inventories (8.1) (35.4) 19.6
Other current assets (11.0) (.5) (33.7)
Accounts payable (8.7) (41.0) 36.3
Other current liabilities 1.9 (11.3) 54.1
- -------------------------------------------------------------------------------------------------------------------------------
CHANGES IN OPERATING ASSETS AND LIABILITIES ($20.8) ($77.3) $50.7
===============================================================================================================================
===============================================================================================================================
Consolidated Balance Sheet 1997 1996
- -------------------------------------------------------------------------------------------------------------------------------
Raw materials and supplies $ 135.0 $ 135.2
Finished goods and materials in process 299.3 289.7
- -------------------------------------------------------------------------------------------------------------------------------
INVENTORIES $ 434.3 $ 424.9
- -------------------------------------------------------------------------------------------------------------------------------
Deferred income taxes $ 113.4 $ 117.9
Prepaid advertising and promotion 95.2 83.4
Other 64.1 66.3
- -------------------------------------------------------------------------------------------------------------------------------
OTHER CURRENT ASSETS $ 272.7 $ 267.6
- -------------------------------------------------------------------------------------------------------------------------------
Land $ 49.0 $ 52.4
Buildings 1,213.8 1,226.1
Machinery and equipment 3,434.7 3,464.1
Construction in progress 283.1 277.5
Accumulated depreciation (2,207.3) (2,087.2)
- -------------------------------------------------------------------------------------------------------------------------------
PROPERTY, NET $2,773.3 $2,932.9
- -------------------------------------------------------------------------------------------------------------------------------
Goodwill $ 194.3 $ 193.7
Other intangibles 191.2 186.6
Other 251.1 208.2
- -------------------------------------------------------------------------------------------------------------------------------
OTHER ASSETS $ 636.6 $ 588.5
- -------------------------------------------------------------------------------------------------------------------------------
Accrued income taxes $ 30.5 $ 50.5
Accrued salaries and wages 99.7 84.6
Accrued advertising and promotion 308.8 336.8
Other 310.5 238.1
- -------------------------------------------------------------------------------------------------------------------------------
Other current liabilities $ 749.5 $ 710.0
- -------------------------------------------------------------------------------------------------------------------------------
Nonpension postretirement benefits $ 444.1 $ 494.2
Deferred income taxes 237.7 226.3
Other 125.6 121.4
- -------------------------------------------------------------------------------------------------------------------------------
Other liabilities $ 807.4 $ 841.9
- -------------------------------------------------------------------------------------------------------------------------------
===============================================================================================================================
REPORT OF INDEPENDENT ACCOUNTANTS
PRICE WATERHOUSE LLP
To the Shareholders and Board of Directors of Kellogg Company
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of earnings, of shareholders' equity and of cash flows
present fairly, in all material respects, the financial position of Kellogg
Company and its subsidiaries at December 31, 1997 and 1996, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 1997, in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for the opinion expressed
above.
As discussed in Note 1 to the financial statements, the Company changed its
method of accounting for business process reengineering costs effective October
1, 1997.
Price Waterhouse LLP
Battle Creek, Michigan
January 30, 1998
32
17
SUPPLEMENTAL FINANCIAL INFORMATION
QUANTITATIVE & QUALITATIVE DISCLOSURES RELATED TO MARKET RISK
SENSITIVE INSTRUMENTS
The Company is exposed to certain market risks which exist as a part of its
ongoing business operations and uses derivative financial and commodity
instruments, where appropriate, to manage these risks. The Company, as a matter
of policy, does not engage in trading or speculative transactions. Refer to Note
11 within Notes to Consolidated Financial Statements for further information on
accounting policies related to derivative financial and commodity instruments.
FOREIGN EXCHANGE RISK
The Company is exposed to fluctuations in foreign currency cash flows related to
third party purchases, intercompany product shipments, and intercompany loans.
The Company is also exposed to fluctuations in the value of foreign currency
investments in subsidiaries and cash flows related to repatriation of these
investments. Additionally, the Company is exposed to volatility in the
translation of foreign currency earnings to U.S. Dollars. Primary exposures
include the U.S. Dollar versus functional currencies of the Company's major
markets, i.e. British Pound, German Deutchmark, French Franc, Australian Dollar,
Canadian Dollar, and Mexican Peso, and in the case of inter-subsidiary
transactions, the British Pound versus other European currencies. The Company
assesses foreign currency risk based on transactional cash flows and enters into
forward contracts of generally less than twelve months duration to reduce
fluctuations in net long or short currency positions.
The tables below summarize forward contracts held at year-end 1997. All
contracts are valued in U.S. Dollars using year-end 1997 exchange rates, are
hedges of anticipated transactions (unless indicated otherwise), and mature in
1998.
=================================================================================================
CONTRACTS TO SELL FOREIGN CURRENCY
- -------------------------------------------------------------------------------------------------
CURRENCY CURRENCY NOTIONAL VALUE EXCHANGE RATE FAIR VALUE
SOLD RECEIVED (MILLIONS) [FC/1US$] (MILLIONS)
- -------------------------------------------------------------------------------------------------
Belgian Franc British Pound $ 11.7 35.19 $ .5
- -------------------------------------------------------------------------------------------------
Swiss Franc German Deutchmark 3.9 1.46 ---
- -------------------------------------------------------------------------------------------------
French Franc German Deutchmark 4.3 6.08 ---
- -------------------------------------------------------------------------------------------------
French Franc Danish Kroner .6 6.06 ---
- -------------------------------------------------------------------------------------------------
Danish Kroner British Pound 5.4 6.67 .1
- -------------------------------------------------------------------------------------------------
Belgian Franc French Franc 1.0 36.87 ---
- -------------------------------------------------------------------------------------------------
French Franc British Pound 48.0 5.70 2.3
- -------------------------------------------------------------------------------------------------
Irish Punt British Pound 27.4 .66 1.7
- -------------------------------------------------------------------------------------------------
Spanish Peseta British Pound 1.3 134.72 .2
- -------------------------------------------------------------------------------------------------
Swedish Kroner Danish Kroner 16.0 7.89 .1
- -------------------------------------------------------------------------------------------------
Total $119.6 $4.9
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CONTRACTS TO PURCHASE FOREIGN CURRENCY
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CURRENCY CURRENCY NOTIONAL VALUE EXCHANGE RATE FAIR VALUE
PURCHASED EXCHANGED (MILLIONS) [FC/1US$] (MILLIONS)
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Swiss Franc (a) British Pound $ 4.7 1.42 ($.1)
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German Deutchmark (a) British Pound .3 1.72 ---
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German Deutchmark British Pound 18.6 1.71 ( .8)
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Total $23.6 ($.9)
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(a) Designated as hedge of firm committment.
INTEREST RATE RISK
The Company is exposed to interest rate volatility with regard to future
issuances of fixed rate debt and existing issuances of variable rate debt.
Primary exposures include movements in U.S. Treasury rates, London Interbank
Offered rates (LIBOR), and commercial paper rates. The Company uses interest
rate caps, and currency and interest rate swaps, including forward swaps, to
reduce interest rate volatility and funding costs associated with certain debt
issues, and to achieve a desired proportion of variable versus fixed rate debt,
based on current and projected market conditions.
The tables below provide information on the Company's significant debt issues
and related hedging instruments at year-end 1997. For foreign
currency-denominated debt, the information is presented in U.S. Dollar
equivalents. Variable interest rates are based on effective rates or implied
forward rates as of year-end 1997. Refer to Note 6 within Notes to
Consolidated Financial Statements for further information.
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SIGNIFICANT DEBT ISSUES
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PRINCIPAL BY YEAR OF MATURITY (MILLIONS)
DEBT --------------------------------------------------- FAIR VALUE
CHARACTERISTICS 1998 2001 2004 (MILLIONS)
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Euro Canadian Dollar $200.0 $186.6
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fixed rate 6.25%
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Euro Dollar $500.0 $502.6
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fixed rate 6.125%
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effective rate (a) 6.400%
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Euro Dollar $500.0 $515.3
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fixed rate 6.625%
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effective rate (a) 6.354%
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U.S. commercial paper (b) $744.2 $744.2
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weighted av. variable 5.74%
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(a) Effective fixed interest rate paid, as a result of settlement of forward
interest rate swap at date of debt issuance.
(b) $400 million of commercial paper classified in long-term debt as of
year-end 1997. Refer to Note 6 within Notes to Consolidated Financial
Statements for further information.
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INTEREST & CURRENCY SWAPS & CAPS
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YEAR OF MATURITY (MILLIONS)
INSTRUMENT ------------------------------------------- FAIR VALUE
CHARACTERISTICS 1998 2001 2002 (MILLIONS)
- ----------------------------------------------------------------------------------------------------------------------------------
Notional amt. $200.0 ($10.8)
Mixed swap - currency/interest -----------------------------------------------------------------------------------------------
- - pay/receive fixed - hedge of Pay US$/4.629%
existing debt issue -----------------------------------------------------------------------------------------------
Receive C$/6.250%
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Notional amt. $200.0 1.3
Interest rate swap - pay -----------------------------------------------------------------------------------------------
variable/receive fixed - hedge Pay 5.96%
of existing debt issue -----------------------------------------------------------------------------------------------
Receive 6.40%
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Notional amt. $225.0 1.2
Interest rate swap - pay -----------------------------------------------------------------------------------------------
variable/receive fixed - hedge Pay 5.600%
of existing debt issue (a) -----------------------------------------------------------------------------------------------
Receive 6.354%
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Notional amt. $25.0 ( .1)
Interest rate forward swap - -----------------------------------------------------------------------------------------------
pay fixed/receive variable - Pay 5.8125%
hedge of future debt issue -----------------------------------------------------------------------------------------------
Receive 5.7730%
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Notional amt. $225.0 ( .4)
Interest rate cap - pay fixed -----------------------------------------------------------------------------------------------
if 30-day C.P. rate rises to Strike 6.33%
strike rate - hedge of U.S. -----------------------------------------------------------------------------------------------
commercial paper (b) Reference 5.65%
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(a) Under the terms of this swap, if three-month LIBOR falls to 4.71% or
below, the swap will expire. At year-end 1997, three-month LIBOR
was 5.81%.
(b) Under the terms of this cap, if the Federal Reserve AA composite rate on
30-day commercial paper increases to 7.83% or above, the cap will expire.
At year-end 1997 the rate was 5.65%.
PRICE RISK
The Company is exposed to price fluctuations primarily as a result of
anticipated purchases of raw and packaging materials. Primary exposures include
corn, wheat, soybean oil, sugar, and other ingredients for the Company's
grain-based convenience foods products. The Company uses the combination of long
cash positions with vendors, and exchange-traded futures and option contracts to
reduce price fluctuations in a desired percentage of forecasted purchases over a
duration of generally less than one year. The fair values of commodity contracts
held at year-end 1997 were insignificant, and potential near-term changes in
commodity prices are not expected to have a significant impact on the Company's
future earnings or cash flows.
For all derivative financial instruments presented in the tables above, changes
in fair values of these instruments and the resultant impact on the Company's
cash flows and/or earnings would generally be offset by changes in values of
underlying transactions and positions. Therefore, it should be noted that the
exclusion of certain of the underlying exposures from the tables above may be a
limitation in assessing the net market risk of the Company.
33