1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
----------
For Quarter Ended June 30, 2001 Commission File Number 1-13179
FLOWSERVE CORPORATION
(Exact name of Registrant as specified in its charter)
NEW YORK
(State or other jurisdiction of incorporation or organization)
31-0267900
(I.R.S. Employer Identification Number)
222 W. LAS COLINAS BLVD., SUITE 1500, IRVING, TEXAS 75039
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code) (972) 443-6500
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
--- ---
SHARES OF COMMON STOCK, $1.25 PAR VALUE,
OUTSTANDING AS OF JULY 25, 2001 37,813,033
2
FLOWSERVE CORPORATION
INDEX
<Table>
<Caption>
Page
No.
----
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Statements of Income -
Three Months Ended June 30, 2001 and 2000 (unaudited) 3
Consolidated Statements of Comprehensive Income -
Three Months Ended June 30, 2001 and 2000 (unaudited) 3
Consolidated Statements of Income -
Six Months Ended June 30, 2001 and 2000 (unaudited) 4
Consolidated Statements of Comprehensive Income -
Six Months Ended June 30, 2001 and 2000 (unaudited) 4
Consolidated Balance Sheets -
June 30, 2001 (unaudited) and December 31, 2000 5
Consolidated Statements of Cash Flows -
Six Months Ended June 30, 2001 and 2000 (unaudited) 6
Notes to Consolidated Financial Statements 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS 22
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISKS 31
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS 33
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 33
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 33
SIGNATURE 34
</Table>
2
3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
FLOWSERVE CORPORATION
(UNAUDITED)
CONSOLIDATED STATEMENTS OF INCOME
<Table>
<Caption>
(Amounts in thousands, except per share data) Three Months Ended June 30,
---------------------------
2001 2000
--------- ---------
Sales $464,579 $299,153
Cost of sales 308,901 195,990
-------- --------
Gross profit 155,678 103,163
Selling, general and administrative expense 103,572 76,788
Integration expense 16,944 --
-------- --------
Operating income 35,162 26,375
Net interest expense 31,361 6,682
Other (income) expense, net (265) 428
-------- --------
Net earnings before income taxes 4,066 19,265
Provision for income taxes 1,464 6,647
-------- --------
Net earnings $ 2,602 $ 12,618
======== ========
Net earnings per share (basic and diluted) $ 0.07 $ 0.33
========= ========
Average shares outstanding - basic 38,058 37,796
Average shares outstanding - diluted 38,796 37,809
</Table>
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<Table>
<Caption>
(Amounts in thousands) Three Months Ended June 30,
---------------------------
2001 2000
-------- --------
Net earnings $ 2,602 $ 12,618
-------- --------
Other comprehensive expense:
Foreign currency translation adjustments 14,296 6,952
Fair market adjustment of derivative instruments, net of tax
benefit of $308 and other adjustments (See footnote 4) 487 --
-------- --------
Other comprehensive expense 14,783 6,952
-------- --------
Comprehensive (loss) income $(12,181) $ 5,666
======== ========
</Table>
See accompanying notes to consolidated financial statements.
3
4
FLOWSERVE CORPORATION
(UNAUDITED)
CONSOLIDATED STATEMENTS OF INCOME
<Table>
<Caption>
(Amounts in thousands, except per share data) Six Months Ended June 30,
-------------------------
2001 2000
-------- --------
Sales $908,614 $584,462
Cost of sales 615,362 382,070
-------- --------
Gross profit 293,252 202,392
Selling, general and administrative expense 203,676 154,573
Integration expense 36,083 --
-------- --------
Operating income 53,493 47,819
Net interest expense 63,172 12,888
Other income, net (400) (2,473)
-------- --------
Net (loss) earnings before income taxes (9,279) 37,404
(Benefit) provision for income taxes (3,341) 12,905
-------- --------
Net (loss) earnings $ (5,938) $ 24,499
======== ========
Net (loss) earnings per share (basic and diluted) $ (0.16) $ 0.65
======== ========
Average shares outstanding - basic 37,912 37,801
Average shares outstanding - diluted 38,468 37,810
</Table>
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<Table>
<Caption>
(Amounts in thousands) Six Months Ended June 30,
------------------------
2001 2000
-------- --------
Net (loss) earnings $ (5,938) $ 24,499
-------- --------
Other comprehensive (income) expense:
Foreign currency translation adjustments 53,440 16,202
Cumulative effect of change in accounting principle, net of tax
of $472 (Adoption of SFAS 133 - See footnote 4) (840) --
Fair market adjustment of derivative instruments, net of tax
benefit of $2,401 and other adjustments (See footnote 4) 4,207 --
-------- --------
Other comprehensive expense 56,807 16,202
-------- --------
Comprehensive (loss) income $(62,745) $ 8,297
======== ========
</Table>
See accompanying notes to consolidated financial statements.
4
5
FLOWSERVE CORPORATION
CONSOLIDATED BALANCE SHEETS
<Table>
<Caption>
June 30, December 31,
(Amounts in thousands, except per share data) 2001 2000
----------- -----------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents $ 17,150 $ 42,341
Accounts receivable, net 454,826 487,274
Inventories 341,593 305,958
Current deferred tax asset 42,551 39,726
Prepaid expenses 25,579 22,753
----------- -----------
Total current assets 881,699 898,052
Property, plant and equipment, net 380,923 405,412
Goodwill, net 515,394 514,441
Other intangible assets, net 128,389 131,330
Other assets 161,881 160,908
----------- -----------
Total assets $ 2,068,286 $ 2,110,143
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 175,324 $ 172,366
Accrued liabilities 209,518 243,553
Long-term debt due within one year 28,668 18,098
----------- -----------
Total current liabilities 413,510 434,017
Long-term debt due after one year 1,151,366 1,111,108
Post-retirement benefits and deferred items 253,680 260,107
Commitments and contingencies
Shareholders' equity:
Serial preferred stock, $1.00 par value
Shares authorized - 1,000 -- --
Shares issued and outstanding - None
Common stock, $1.25 par value
Shares authorized - 120,000
Shares issued and outstanding - 41,484 51,856 51,856
Capital in excess of par value 65,585 65,785
Retained earnings 351,557 357,495
----------- -----------
468,998 475,136
Treasury stock at cost - 3,725 and 4,048 shares (85,209) (92,545)
Deferred compensation obligation 6,972 6,544
Accumulated other comprehensive loss (141,031) (84,224)
----------- -----------
Total shareholders' equity 249,730 304,911
----------- -----------
Total liabilities and shareholders' equity $ 2,068,286 $ 2,110,143
=========== ===========
</Table>
See accompanying notes to consolidated financial statements.
5
6
FLOWSERVE CORPORATION
(Unaudited)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<Table>
<Caption>
(Amounts in thousands) Six Months Ended June 30,
--------------------------
2001 2000
--------- ---------
CASH FLOWS - OPERATING ACTIVITIES:
Net (loss) earnings $ (5,938) $ 24,499
Adjustments to reconcile net (loss) earnings to net cash used by
operating activities:
Depreciation 25,154 16,474
Amortization 12,187 3,902
Net gain on the sale of fixed assets (322) (148)
Change in assets and liabilities, net of effects of acquisitions
and dispositions:
Accounts receivable 17,000 (7,773)
Inventories (54,942) (19,651)
Prepaid expenses (3,915) 9,191
Other assets (3,669) (6,935)
Accounts payable (317) (6,537)
Accrued liabilities (49,907) (30,946)
Income taxes (679) 5,071
Post-retirement benefits and deferred items (5,110) 6,773
Net deferred taxes (2,548) (474)
--------- ---------
Net cash flows used by operating activities (73,006) (6,554)
--------- ---------
CASH FLOWS - INVESTING ACTIVITIES:
Capital expenditures (22,417) (12,502)
Disposal of assets 7,361 68
Payment for acquisitions, net of cash acquired and dispositions -- (21,703)
--------- ---------
Net cash flows used by investing activities (15,056) (34,137)
--------- ---------
CASH FLOWS - FINANCING ACTIVITIES:
Net repayments of short-term debt -- (3,079)
Payments of long-term debt (11,781) (96,405)
Proceeds from long-term debt 71,000 125,134
Proceeds from other 7,650 239
--------- ---------
Net cash flows provided by financing activities 66,869 25,889
Effect of exchange rate changes (3,998) (1,166)
--------- ---------
Net change in cash and cash equivalents (25,191) (15,968)
Cash and cash equivalents at beginning of year $ 42,341 $ 30,463
--------- ---------
Cash and cash equivalents at end of period $ 17,150 $ 14,495
========= =========
</Table>
See accompanying notes to consolidated financial statements.
6
7
FLOWSERVE CORPORATION
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar amounts in thousands, except per share data)
1. ACCOUNTING POLICIES - BASIS OF PRESENTATION
The accompanying consolidated balance sheet as of June 30, 2001, and the
related consolidated statements of income and comprehensive income for the three
months and six months ended June 30, 2001 and 2000, and the consolidated
statements of cash flows for the six months ended June 30, 2001 and 2000, are
unaudited. In management's opinion, all adjustments comprising normal recurring
adjustments necessary for a fair presentation of such consolidated financial
statements have been made. The accompanying consolidated financial statements
and notes in this Form 10-Q are presented as permitted by Regulation S-X and do
not contain certain information included in the Company's annual financial
statements and notes to the financial statements. Accordingly, the accompanying
consolidated financial information should be read in conjunction with the
Company's 2000 Annual Report. Interim results are not necessarily indicative of
results to be expected for a full year. Certain amounts in 2000 have been
reclassified or restated to conform with the 2001 presentation.
2. INVENTORIES
Inventories are stated at lower of cost or market. Cost is determined for
certain inventories by the last-in, first-out (LIFO) method and for other
inventories by the first-in, first-out (FIFO) method.
Inventories and the method of determining costs were:
<Table>
<Caption>
June 30, December 31,
2001 2000
--------- ------------
Raw materials $ 53,736 $ 51,981
Work in process
and finished goods 360,633 330,060
Less: Progress
billings (34,700) (38,605)
--------- ---------
379,669 343,436
LIFO reserve (38,076) (37,478)
--------- ---------
Net inventory $ 341,593 $ 305,958
========= =========
Percent of inventory
accounted for by
LIFO 69% 67%
Percent of inventory
accounted for by
FIFO 31% 33%
</Table>
3. RECENT ACCOUNTING DEVELOPMENTS
In July 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard (SFAS) No. 141, "Business Combinations," and SFAS
No. 142, "Goodwill and Other Intangible Assets". SFAS No. 141 requires that all
business combinations initiated after June 30, 2001 be accounted for using the
purchase method. Additionally, SFAS No. 141 establishes specific criteria for
the recognition of intangible assets separately from goodwill. SFAS No. 142
primarily addresses the accounting for goodwill and intangible assets subsequent
to their acquisition and is effective for the Company on January 1, 2002. The
most significant changes made by SFAS No. 142 require that goodwill and
indefinite lived intangible assets no longer be amortized and be tested for
impairment at least on an annual basis. Additionally, the amortization period of
7
8
intangible assets with finite lives will no longer be limited to forty years.
The Company is currently assessing the impact of SFAS 141 and 142 and has
not yet determined the effects these statements will have on its consolidated
financial position or results of operations.
4. ADOPTION OF SFAS NO. 133 - ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES
The Company adopted SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," and the corresponding amendments on January 1, 2001. In
accordance with the transition provisions of SFAS 133, the Company recorded a
cumulative-effect adjustment in other comprehensive income as of January 1, 2001
of $0.8 million, net of deferred tax of $0.5 million representing the current
fair-value of hedging instruments. Of the gross asset amount of $1.3 million,
$3.4 million related to foreign currency forward contracts, offset by a
liability of $2.1 million related to interest rate swap agreements.
The Company reclassified the transition adjustment relating to foreign
currency forward contracts to earnings during the first quarter of 2001 as those
contracts settled. At June 30, 2001, the fair-value of the hedging instruments
is a liability of $6.3 million.
Hedging related transactions recorded to other comprehensive income during
2001 were:
<Table>
<Caption>
Other
Comprehensive
(Income) Loss
-------------
Record fair market value of hedges, as of
January 1, 2001, net of deferred taxes of
$472 $ (840)
Reclassify to earnings amount necessary to
offset foreign currency gains for six
months ended June 30, 2001, net of deferred
taxes of $400 (603)
Record change in fair market value of
swap agreements as of June 30,
2001, net of deferred taxes of $545 928
Record change in fair market value of
foreign currency forward contracts
as of June 30, 2001, net of deferred
taxes of $2,254 3,882
-------
Balance as of June 30, 2001 $ 3,367
=======
</Table>
The Company expects that within the next twelve months it will reclassify as
expense $1.5 million, net of deferred tax of the amount recorded in accumulated
other comprehensive income for contracts that will settle during the period.
The Company is party to forward contracts for purposes of hedging certain
transactions denominated in foreign currencies. The Company has a
risk-management and derivatives policy statement outlining the conditions in
which the Company can enter into hedging or forward transactions. As of June 30,
2001, the Company has approximately $75 million of notional amount in
outstanding contracts with third parties. The maximum length of the contracts
currently in place as of June 30, 2001 is about 19 months.
The Company is exposed to credit-related losses in the event of
nonperformance by counterparties to financial instruments, but it expects all
counterparties to meet their obligations given their high credit ratings.
The Company, as part of its risk management program, is party to interest
rate swap agreements for the purpose of hedging
8
9
its exposure to floating interest rates on certain portions of its debt. As of
June 30, 2001, the Company had $150 million of notional amount in outstanding
interest rate swaps with third parties. The maximum length of the interest rate
swaps currently in place as of June 30, 2001 is approximately 5 1/2 years.
All derivatives are recognized on the balance sheet at their fair-value. On
the date that the Company enters into a derivative contract, it designates the
derivative as (1) a hedge of (a) a forecasted transaction or (b) the variability
of cash flows that are to be received or paid in connection with a recognized
asset or liability (a "cash flow" hedge); or (2) a foreign-currency fair-value
or cash flow hedge (a "foreign currency" hedge). Changes in the fair-value of a
derivative that is highly effective as - and that is designated and qualifies as
- - a cash flow hedge, to the extent that the hedge is effective, are recorded in
other comprehensive income, until earnings are affected by the variability of
cash flows of the hedged transaction. Any hedge ineffectiveness (which
represents the amount by which the changes in the fair-value of the derivative
exceed the variability in the cash flows of the forecasted transaction) is
recorded in current-period earnings. Changes in the fair-value of a derivative
that is highly effective as - and that is designated and qualifies as - a
foreign-currency hedge is recorded in other comprehensive income, since it
satisfies the criteria for a cash-flow hedge. As of June 30, 2001, all hedges
outstanding were highly effective.
The Company formally documents all relationships between hedging instruments
and hedge items, as well as its risk-management objective and strategy for
undertaking various hedge transactions. This process includes linking all
derivatives that are designated as fair-value, cash flow, or foreign-currency
hedges to (1) specific assets and liabilities on the balance sheet or (2)
specific firm commitments or forecasted transactions. The Company also formally
assesses (both at the hedge's inception and on an ongoing basis) whether the
derivatives that are used in hedging transactions have been highly effective in
offsetting changes in the fair value or cash flows of hedged items and whether
those derivatives may be expected to remain highly effective in future periods.
When it is determined that a derivative is not (or has ceased to be) highly
effective as a hedge, the Company discontinues hedge accounting prospectively,
as discussed below.
The Company discontinues hedge accounting prospectively when (1) it
determines that the derivative is no longer effective in offsetting changes in
the fair-value or cash flows of a hedge item (including hedged items such as
firm commitments or forecasted transactions); (2) the derivative expires or is
sold, terminated, or exercised; (3) it is no longer probable that the forecasted
transaction will occur; or (4) management determines that designating the
derivative as a hedging instrument is no longer appropriate.
When the Company discontinues hedge accounting because it is no longer
probable that the forecasted transaction will occur in the originally expected
period, the gain or loss on the derivative remaining in accumulated other
comprehensive income is reclassified into earnings. In all situations in which
hedge accounting is discontinued and the derivative remains outstanding, the
Company will carry the derivative at its fair-value on the balance sheet,
recognizing changes in the fair-value in current-period earnings.
9
10
5. ACQUISITION
In August 2000, the Company completed the acquisition of Ingersoll-Dresser
Pump Company (IDP), a leading manufacturer of pumps with a diverse mix of pump
products and customers with operations in 30 countries, for $775 million in
cash. The transaction, which was accounted for as a purchase, was financed with
a combination of senior secured financing and senior subordinated notes. Upon
closing of the transaction, the existing Company debt was also refinanced.
The purchase price has been allocated to assets acquired and liabilities
assumed based on estimated fair market value at the date of the acquisition.
These allocations include $137.6 million for intangibles and $385.0 million
recorded as goodwill. The purchase price allocation for this acquisition is
preliminary and further refinements are likely to be made based on the final
determination of the fair-value of the assets acquired and the resolution of
remaining contingencies.
The operating results of IDP have been included in the consolidated
statements of income from the date of acquisition.
The table below reflects unaudited pro forma results of the Company and IDP
as if the acquisition had taken place at the beginning of fiscal year 2000,
including purchase accounting adjustments and estimated financing costs.
PRO FORMA
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands, except per share amounts)
<Table>
<Caption>
Six Months Ended
June 30, 2000
----------------
Net sales $ 947,871
Operating income 53,041
Net loss (4,745)
Net loss per share (basic and
diluted) $ (0.13)
</Table>
The pro forma information does not purport to represent what the Company's
results of operations actually would have been had such transactions or events
occurred on the dates specified, or to project the Company's results of
operations for any future period.
6. RESTRUCTURING AND ACQUISITION RELATED CHARGES
In August 2000, in conjunction with the acquisition of IDP, the Company
initiated a restructuring program designed to reduce costs and to eliminate
excess capacity by consolidating facilities. The Company's actions, approved and
committed to in the third quarter of 2000, are expected to result in the net
reduction of approximately 1,200 positions upon estimated completion before the
end of 2001. The program includes the closure of IDP's former headquarters, the
closure or significant downsizing of a number of pump manufacturing facilities,
service and repair centers, and reduction of sales and sales support personnel.
The Company currently estimates that the costs associated with the restructuring
portion of the program will be approximately $68 million. The Company had
originally estimated these costs to be approximately $61 million. The increase
from the original estimate is primarily due to updated actuarial information for
post-retirement and pension expense relating to a plant closure. This increase
was offset by a non-cash reclassification from the restructuring accrual to
post-retirement benefits and pension liabilities which resulted in a net
reduction to the accrual of $8.8 million during the fourth quarter of 2000.
Approximately $44 million of the total cost relates to the IDP operations
acquired and $28 million has been capitalized in goodwill as part of the
purchase price of IDP ($44 million of estimated costs less deferred tax effect
of $16 million), while the remaining cost of $24 million relates to the
Flowserve
10
11
operations and was recorded as restructuring expense in 2000.
During the first six months of 2001, the Company incurred $36.1 million in
integration costs in conjunction with this program.
As of June 30, 2001, the program had resulted in a net reduction of 1,139
employees.
Expenditures charged to the 2000 restructuring reserve were:
<Table>
<Caption>
Other
Exit
Severance Costs Total
--------- -------- --------
Balance at August 16, 2000 $ 45,980 $ 14,832 $ 60,812
Cash expenditures (18,645) (2,434) (21,079)
Net non-cash reduction (8,849) -- (8,849)
-------- -------- --------
Balance at December 31, 2000 $ 18,486 $ 12,398 $ 30,884
Cash expenditures (5,729) (4,029) (9,758)
-------- -------- --------
Balance at March 31, 2001 $ 12,757 $ 8,369 $ 21,126
Cash expenditures (3,277) (2,505) (5,782)
-------- -------- --------
Balance at June 30, 2001 $ 9,480 $ 5,864 $ 15,344
======== ======== ========
</Table>
In the fourth quarter of 1999, the Company initiated a restructuring program
that included a one-time charge of $15.9 million recorded as restructuring
expense. The restructuring charge related to the planned closure of 10
facilities and a reduction in workforce at those and other locations.
The 1999 restructuring program is expected to result in a net reduction of
approximately 288 employees at a cost of $12.9 million upon estimated completion
during the third quarter of 2001. In addition, exit costs associated with the
facilities closings were $3.0 million. As of June 30, 2001, the program has
resulted in a net reduction of 261 employees.
Expenditures charged to the 1999 restructuring reserve were:
<Table>
<Caption>
Other
Exit
Severance Costs Total
--------- -------- --------
Balance at December 24, 1999 $ 12,900 $ 2,960 $ 15,860
Cash expenditures (102) -- (102)
--------- -------- --------
Balance at December 31, 1999 $ 12,798 $ 2,960 $ 15,758
Cash expenditures (6,766) (1,932) (8,698)
Non-cash reduction (4,364) (1,028) (5,392)
--------- -------- --------
Balance at December 31, 2000 $ 1,668 $ -- $ 1,668
Cash expenditures (495) -- (495)
--------- -------- --------
Balance at March 31, 2001 $ 1,173 $ -- $ 1,173
Cash expenditures (682) -- (682)
--------- -------- --------
Balance at June 30, 2001 $ 491 $ -- $ 491
========= ======== ========
</Table>
7. ASSETS HELD FOR SALE
The Company is in the process of selling certain facilities, machinery and
equipment and other fixed assets as part of its plan to eliminate excess
capacity by consolidating facilities. The Company is in the process of
negotiating the sale of these facilities and fixed assets and expects the sale
of such items to be completed by the end of 2002. The remaining assets not yet
sold, totaling $1.3 million, have been identified separately within property,
plant and equipment as Assets Held for Sale and have been recorded at their
estimated net realizable value.
11
12
8. EARNINGS PER SHARE
Basic and diluted earnings per share were calculated as follows:
<Table>
<Caption>
Three Months Three Months
Ended Ended
June 30, 2001 June 30, 2000
------------- -------------
Net earnings $ 2,602 $ 12,618
-------- --------
Denominator for basic
earnings per share -
weighted average
shares 38,058 37,796
Effect of diluted
securities -
employee stock
options 738 13
-------- --------
Denominator for
diluted earnings per
share - weighted
average shares
adjusted for
dilutive securities 38,796 37,809
-------- --------
Earnings per share -
basic $ 0.07 $ 0.33
Earnings per share -
diluted $ 0.07 $ 0.33
======== ========
</Table>
<Table>
<Caption>
Six Months Six Months
Ended Ended
June 30, 2001 June 30, 2000
------------- -------------
Net (loss) earnings $ (5,938) $ 24,499
-------- --------
Denominator for basic
earnings per share -
weighted average
shares 37,912 37,801
Effect of diluted
securities -
employee stock
options 557 9
-------- --------
Denominator for
diluted earnings per
share - weighted
average shares
adjusted for
dilutive securities 38,468 37,810
-------- --------
(Loss) earnings per
share - basic $ (0.16) $ 0.65
(Loss) earnings per
share - diluted $ (0.16) $ 0.65
======== ========
</Table>
Options to purchase 435,849 and 3,225,684 shares of common stock were
outstanding at June 30, 2001 and June 30, 2000, respectively, but were not
included in the computation of diluted EPS for the three month periods ended
June 30, 2001 and June 30, 2000 because the options' exercise price was greater
than the average market price of the common stock.
For the six months ended June 30, 2001, the computation of diluted net loss
per ordinary share was antidilutive, and therefore, the amounts reported for
basic and diluted net loss per ordinary share were the same.
Options to purchase 3,381,517 shares of common stock were outstanding at
June 30, 2000 but were not included in the computation of diluted EPS for the
six month period ended June 30, 2000 because the options' exercise price was
greater than the average market price of the common stock.
12
13
9. GUARANTOR AND NONGUARANTOR FINANCIAL STATEMENTS
In connection with the IDP acquisition and as part of the related financing,
the Company and newly formed Dutch subsidiary, Flowserve Finance B.V., issued an
aggregate of $375 million of U.S. dollar-denominated senior subordinated notes
(the U.S. dollar Notes and the Euro Notes), in private placements pursuant to
Rule 144A and Regulation S. The U.S. dollar Notes and the Euro Notes are general
unsecured obligations of the Company and Flowserve Finance B.V., respectively,
subordinated in right of payment to all existing and future senior indebtedness
of the Company and Flowserve Finance B.V., respectively, and guaranteed on a
full, unconditional, joint and several basis by the Company's wholly owned
domestic subsidiaries and, in the case of the Euro Notes, by the Company.
The following consolidating financial information presents:
(1) Consolidating balance sheet as of June 30, 2001 and the related
statements of income and cash flows for the six months ended June 30,
2001 of (a) Flowserve Corporation, the parent, (b) Flowserve Finance
B.V., (c) the guarantor subsidiaries, (d) the nonguarantor subsidiaries,
and the Company on a consolidated basis, and
(2) Consolidating balance sheet as of December 31, 2000 and the related
statements of income and cash flows for the six months ended June 30,
2000, of (a) Flowserve Corporation, the parent, (b) the guarantor
subsidiaries, (c) the non-guarantor subsidiaries, and the Company on a
consolidated basis, and
(3) Elimination entries necessary to consolidate Flowserve Corporation, the
parent, with Flowserve Finance, B.V., guarantor and non-guarantor
subsidiaries.
Investments in subsidiaries are accounted for by the parent using the equity
method of accounting. The guarantor and non-guarantor subsidiaries are presented
on a combined basis. The principal elimination entries eliminate investments in
subsidiaries and intercompany balances and transactions. Separate financial
statements for the guarantor subsidiaries and the nonguarantor subsidiaries are
not presented because management believes such financial statements would not be
meaningful to investors.
Effective January 1, 2001, the Company effected a domestic legal
reorganization. This primarily resulted in a reclassification between the Parent
and Guarantor Subsidiaries.
13
14
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLAR AMOUNTS IN THOUSANDS)
CONSOLIDATING STATEMENT OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 2001
<Table>
<Caption>
FLOWSERVE GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT FINANCE B.V. SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
--------- ------------ ------------ ------------ ------------ ------------
Sales $ -- $ -- $ 588,121 $ 376,581 $ (56,088) $ 908,614
Cost of sales -- -- 414,591 256,859 (56,088) 615,362
--------- --------- --------- --------- --------- ---------
Gross profit -- -- 173,530 119,722 -- 293,252
Selling, general and
administrative expense -- -- 141,539 62,137 -- 203,676
Integration expense -- -- 28,968 7,115 -- 36,083
--------- --------- --------- --------- --------- ---------
Operating income -- -- 3,023 50,470 -- 53,493
Net interest expense 12,012 435 44,486 6,310 (71) 63,172
Other (income) expense,
net (273) 3 (13,971) 13,770 71 (400)
Equity in loss of
subsidiaries 5 -- -- -- (5) --
--------- --------- --------- --------- --------- ---------
Net (loss) earnings before
income taxes (11,744) (438) (27,492) 30,390 5 (9,279)
(Benefit) provision for
income taxes (5,806) -- (12,786) 15,251 -- (3,341)
--------- --------- --------- --------- --------- ---------
Net (loss) earnings $ (5,938) $ (438) $ (14,706) $ 15,139 $ 5 $ (5,938)
========= ========= ========= ========= ========= =========
</Table>
14
15
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLAR AMOUNTS IN THOUSANDS)
CONSOLIDATING STATEMENT OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 2000
<Table>
<Caption>
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
--------- ------------ ------------ ------------ ------------
Sales $ 83,031 $ 336,255 $ 207,945 $ (42,769) $ 584,462
Cost of sales 53,698 234,367 136,774 (42,769) 382,070
--------- --------- --------- --------- ---------
Gross profit 29,333 101,888 71,171 -- 202,392
Selling, general and
administrative expense 27,017 81,908 45,648 -- 154,573
--------- --------- --------- --------- ---------
Operating income 2,316 19,980 25,523 -- 47,819
Net interest expense
(income) (943) 12,411 1,326 94 12,888
Other (income) expense,
net (2,545) (4,340) 4,506 (94) (2,473)
Equity in earnings of
subsidiaries (20,181) -- -- 20,181 --
--------- --------- --------- --------- ---------
Net earnings before income
taxes 25,985 11,909 19,691 (20,181) 37,404
Provision for income taxes 1,486 4,716 6,703 -- 12,905
--------- --------- --------- --------- ---------
Net earnings $ 24,499 $ 7,193 $ 12,988 $ (20,181) $ 24,499
========= ========= ========= ========= =========
</Table>
15
16
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
CONSOLIDATING BALANCE SHEET
JUNE 30, 2001
<Table>
<Caption>
FLOWSERVE GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT FINANCE B.V. SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
----------- ------------ ------------ ------------ ------------ ------------
Current assets:
Cash and cash equivalents $ -- $ -- $ -- $ 30,252 $ (13,102) $ 17,150
Intercompany receivables 54,559 -- 53,528 79,230 (187,317) --
Accounts receivable, net -- -- 253,500 201,326 -- 454,826
Inventories -- -- 220,265 121,328 -- 341,593
Current deferred tax
asset -- -- 39,914 2,637 -- 42,551
Prepaid expenses -- -- 16,895 8,684 -- 25,579
----------- ----------- ----------- ----------- ----------- -----------
Total current assets 54,559 -- 584,102 443,457 (200,419) 881,699
Property, plant and
equipment, net (14) -- 214,197 166,740 -- 380,923
Investment in subsidiaries 415,708 -- 500,822 -- (916,530) --
Intercompany receivables 861,982 81,313 12,375 30,399 (986,069) --
Goodwill, net -- -- 455,542 59,852 -- 515,394
Other intangible assets, net -- -- 109,694 18,695 -- 128,389
Other assets 36,585 4,162 115,555 5,579 -- 161,881
----------- ----------- ----------- ----------- ----------- -----------
Total assets $ 1,368,820 $ 85,475 $ 1,992,287 $ 724,722 $(2,103,018) $ 2,068,286
=========== =========== =========== =========== =========== ===========
Current liabilities:
Accounts payable $ 2,277 $ -- $ 103,569 $ 82,580 $ (13,102) $ 175,324
Intercompany payables 3,529 2,059 139,767 41,962 (187,317) --
Income taxes (638) -- (803) 1,441 -- --
Accrued liabilities 17,856 229 107,993 83,440 -- 209,518
Long-term debt due within
one year 28,701 -- (33) -- -- 28,668
----------- ----------- ----------- ----------- ----------- -----------
Total current
liabilities 51,725 2,288 350,493 209,423 (200,419) 413,510
Long-term debt due after one
year 1,067,365 83,942 1 58 -- 1,151,366
Intercompany payables -- -- 844,316 141,753 (986,069) --
Post-retirement benefits and
deferred items -- -- 198,224 55,456 -- 253,680
Shareholders' equity:
Serial preferred stock, $1.00
par value -- -- -- -- -- --
Common shares, $1.25 par value 51,856 -- 2 182,330 (182,332) 51,856
Capital in excess of par value 65,585 -- 349,411 72,990 (422,401) 65,585
Retained earnings 351,557 (780) 245,925 132,212 (377,357) 351,557
----------- ----------- ----------- ----------- ----------- -----------
468,998 (780) 595,338 387,532 (982,090) 468,998
Treasury stock at cost (85,209) -- -- -- -- (85,209)
Deferred compensation
obligation -- -- 6,972 -- -- 6,972
Accumulated other
comprehensive (loss) income (134,059) 25 (3,057) (69,500) 65,560 (141,031)
----------- ----------- ----------- ----------- ----------- -----------
Total shareholders' equity 249,730 (755) 599,253 318,032 (916,530) 249,730
----------- ----------- ----------- ----------- ----------- -----------
Total liabilities and
shareholders' equity $ 1,368,820 $ 85,475 $ 1,992,287 $ 724,722 $(2,103,018) $ 2,068,286
=========== =========== =========== =========== =========== ===========
</Table>
16
17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
CONSOLIDATING BALANCE SHEET
DECEMBER 31, 2000
<Table>
<Caption>
FLOWSERVE
FINANCE GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT B.V. SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
----------- ----------- ------------ ------------ ------------ -------------
Current assets:
Cash and cash equivalents $ -- $ -- $ -- $ 50,239 $ (7,898) $ 42,341
Intercompany receivables 23,530 -- 33,252 104,836 (161,618) --
Accounts receivable, net 20,767 -- 224,746 241,761 -- 487,274
Inventories 10,432 -- 181,258 114,268 -- 305,958
Current deferred tax asset -- -- 38,765 961 -- 39,726
Prepaid expenses 6,261 -- 12,216 4,276 -- 22,753
----------- ----------- ----------- ----------- ----------- -----------
Total current assets 60,990 -- 490,237 516,341 (169,516) 898,052
Property, plant and
equipment, net 34,332 -- 189,978 181,102 -- 405,412
Investment in subsidiaries 791,437 -- 443,092 -- (1,234,529) --
Intercompany receivables 501,286 90,112 10,849 21,598 (623,845) --
Goodwill, net 7,814 -- 459,983 46,644 -- 514,441
Other intangible assets, net -- -- 114,129 17,201 -- 131,330
Other assets 52,991 4,865 97,861 5,191 -- 160,908
----------- ----------- ----------- ----------- ----------- -----------
Total assets $ 1,448,850 $ 94,977 $ 1,806,129 $ 788,077 $(2,027,890) $ 2,110,143
=========== =========== =========== =========== =========== ===========
Current liabilities:
Accounts payable $ 5,588 $ 1 $ 76,910 $ 97,766 $ (7,899) $ 172,366
Intercompany payables 33,973 2,279 20,704 104,658 (161,614) --
Income taxes 4,679 -- 2,928 (7,607) -- --
Accrued liabilities 13,443 111 120,729 110,202 (932) 243,553
Long-term debt due within
one year 18,000 -- 90 8 -- 18,098
----------- ----------- ----------- ----------- ----------- -----------
Total current liabilities 75,683 2,391 221,361 305,027 (170,445) 434,017
Long-term debt due after one
year 1,018,063 92,958 2 85 -- 1,111,108
Intercompany payables 131 -- 468,840 154,873 (623,844) --
Post-retirement benefits and
deferred items 50,062 -- 166,187 42,926 932 260,107
Shareholders' equity:
Serial preferred stock, $1.00
par value -- -- -- -- -- --
Common shares, $1.25 par value 51,856 -- 2 197,582 (197,584) 51,856
Capital in excess of par value 65,785 -- 676,035 89,489 (765,524) 65,785
Retained earnings 357,495 (343) 285,998 138,332 (423,987) 357,495
----------- ----------- ----------- ----------- ----------- -----------
475,136 (343) 962,035 425,403 (1,387,095) 475,136
Treasury stock at cost (92,545) -- (613) 2,246 (1,633) (92,545)
Deferred compensation
obligation -- -- 6,544 -- -- 6,544
Accumulated other
comprehensive (loss) income (77,680) (29) (18,227) (142,483) 154,195 (84,224)
----------- ----------- ----------- ----------- ----------- -----------
Total shareholders'
equity 304,911 (372) 949,739 285,166 (1,234,533) 304,911
----------- ----------- ----------- ----------- ----------- -----------
Total liabilities and
shareholders' equity $ 1,448,850 $ 94,977 $ 1,806,129 $ 788,077 $(2,027,890) $ 2,110,143
=========== =========== =========== =========== =========== ===========
</Table>
17
18
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLAR AMOUNTS IN THOUSANDS)
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2001
<Table>
<Caption>
FLOWSERVE
FINANCE GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT B.V. SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
-------- --------- ------------- ------------ ------------ -----------
CASH FLOWS-OPERATING ACTIVITIES:
Net (loss) earnings $ (5,938) $(438) $(14,706) $ 15,139 $ 5 $ (5,938)
Adjustments to reconcile net
earnings to cash provided (used)
by operating activities:
Depreciation 14 -- 15,046 10,094 -- 25,154
Amortization -- -- 10,400 1,787 -- 12,187
Net (gain) loss on sale of
fixed assets -- -- (101) (221) -- (322)
Change in operating assets and
liabilities:
Accounts receivable (200) -- (9,368) 26,568 -- 17,000
Inventories (5,759) -- (21,844) (27,339) -- (54,942)
Intercompany receivable and
payable 34,216 (218) 64,468 (98,456) (10) --
Prepaid expenses 877 -- (813) (3,979) -- (3,915)
Other assets 6,042 240 (12,032) 2,081 -- (3,669)
Accounts payable 4,376 -- 17,648 (18,100) (4,241) (317)
Accrued liabilities 10,936 135 (26,156) (34,822) -- (49,907)
Income taxes (5,619) -- (1,673) 6,613 -- (679)
Post-retirement benefits and
deferred items (16,982) -- (2,503) 14,375 -- (5,110)
Net deferred taxes (238) -- (2,969) 659 -- (2,548)
-------- ----- -------- --------- -------- --------
Net cash (used) provided by
operating activities 21,725 (281) 15,397 (105,601) (4,246) (73,006)
-------- ----- -------- --------- -------- --------
CASH FLOWS-INVESTING ACTIVITIES:
Capital expenditures (266) -- (12,355) (9,796) -- (22,417)
Disposal of assets -- -- 5,854 1,507 -- 7,361
-------- ----- -------- --------- -------- --------
Net cash flows used by investing
activities (266) -- (6,501) (8,289) -- (15,056)
-------- ----- -------- --------- -------- --------
CASH FLOWS-FINANCING ACTIVITIES:
Payments on long-term debt (11,781) -- (123) 123 -- (11,781)
Proceeds from long-term debt 71,681 -- (2) (679) -- 71,000
Other activity (81,359) 281 (8,771) 98,457 (958) 7,650
-------- ----- -------- --------- -------- --------
Net cash flows provided (used) by
financing activities (21,459) 281 (8,896) 97,901 (958) 66,869
Effect of exchange rate changes -- -- -- (3,998) -- (3,998)
-------- ----- -------- --------- -------- --------
Net change in cash and cash
equivalents -- -- -- (19,987) (5,204) (25,191)
Cash and cash equivalents at
beginning of year $ -- $ -- $ -- $ 50,239 $ (7,898) $ 42,341
-------- ----- -------- --------- -------- --------
Cash and cash equivalents at end
of period $ -- $ -- $ -- $ 30,252 $(13,102) $ 17,150
======== ====== ======== ========= ======== ========
</Table>
18
19
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLAR AMOUNTS IN THOUSANDS)
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2000
<Table>
<Caption>
GUARANTOR NONGUARANTOR CONSOLIDATED
PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS TOTAL
-------- ------------ ------------ ------------ ------------
CASH FLOWS - OPERATING ACTIVITIES:
Net earnings $ 24,499 $ 7,193 $ 12,988 $(20,181) $ 24,499
Adjustments to reconcile net
earnings to cash provided (used) by
operating activities:
Depreciation 3,193 8,669 4,612 -- 16,474
Amortization 220 2,536 1,146 -- 3,902
Net (gain) loss on sale of
fixed assets -- 4 (152) -- (148)
Change in operating assets and
liabilities, net of effects of
acquisitions and dispositions:
Accounts receivable (6,102) 2,656 (4,327) -- (7,773)
Inventories 3,891 (22,846) (696) -- (19,651)
Intercompany receivable and
payable 6,956 (30,011) 48,655 (25,600) --
Prepaid expenses (12,594) 22,974 3,839 (5,028) 9,191
Other assets 5,309 133 (12,377) -- (6,935)
Accounts payable (7,650) 5,084 2,790 (6,761) (6,537)
Accrued liabilities 1,595 (28,844) (3,697) -- (30,946)
Income taxes (3,573) 4,643 2,782 1,219 5,071
Post-retirement benefits and
deferred items 12,705 (5,357) (575) -- 6,773
Net deferred taxes -- (973) 499 -- (474)
-------- --------- -------- -------- ---------
Net cash (used) provided by
operating activities 28,449 (34,139) 55,487 (56,351) (6,554)
-------- --------- -------- -------- ---------
CASH FLOWS - INVESTING ACTIVITIES:
Capital expenditures (5,651) (2,976) (3,875) -- (12,502)
Disposal of assets -- 68 -- -- 68
Payments for acquisitions, net
of cash acquired and
dispositions (21,703) -- -- -- (21,703)
-------- --------- -------- -------- ---------
Net cash flows used in investing
activities (27,354) (2,908) (3,875) -- (34,137)
-------- --------- -------- -------- ---------
CASH FLOWS-FINANCING ACTIVITIES:
Net repayments of short-term
debt (1,589) 86 (1,576) -- (3,079)
Payment on long-term debt (4,520) (88,716) (3,169) -- (96,405)
Proceeds from long-term debt -- 123,009 2,125 -- 125,134
Other stock activity 239 2,370 (2,370) -- 239
Dividends Paid -- 286 (286) -- --
Other activity (13,063) (11,905) (20,813) 45,781 --
-------- --------- -------- -------- ---------
Net cash flows provided (used) by
financing activities (18,933) 25,130 (26,089) 45,781 25,889
Effect of exchange rate changes on
cash 17,838 11,028 (30,032) -- (1,166)
-------- --------- -------- -------- ---------
Net change in cash and cash
equivalents -- (889) (4,509) (10,570) (15,968)
Cash and cash equivalents at
beginning of year -- 889 29,966 (392) 30,463
-------- --------- -------- -------- ---------
Cash and cash equivalents at end of
period $ -- $ -- $ 25,457 $(10,962) $ 14,495
======== ========= ======== ======== =========
</Table>
19
20
10. SEGMENT INFORMATION
The Company has three divisions, each of which constitutes a business
segment. Each division manufactures different products and is defined by the
type of products and services provided. Each division has a President, who
reports directly to the Chief Executive Officer, and a Division Controller. For
decision-making purposes, the Chief Executive Officer and other members of upper
management use financial information generated and reported at the division
level. The Company also has a corporate headquarters that does not constitute a
separate division or business segment.
Amounts classified as All Other include Corporate Headquarters costs and
other minor entities that are not considered separate segments. The results for
IDP are included in the Flowserve Pump Division and a portion of its service
business in Flow Solutions Division from the date of acquisition. The Company
evaluates segment performance and allocates resources based on profit or loss
excluding integration expense, interest expense, other income or expense and
income taxes. Intersegment sales and transfers are recorded at cost plus a
profit margin. Minor reclassifications have been made to certain previously
reported information to conform to the current business configuration.
<Table>
<Caption>
Flowserve Flow Flow Consolidated
Three months ended June 30, 2001 Pump Solutions Control All Other Total
--------- --------- -------- --------- ------------
Sales to external customers $237,107 $159,859 $ 66,097 $ 1,516 $464,579
Intersegment sales 1,528 5,581 2,430 (9,539) --
Segment operating income (before integration
expense) 29,856 22,655 8,489 (8,894) 52,106
</Table>
<Table>
<Caption>
Flowserve Flow Flow Consolidated
Three months ended June 30, 2000 Pump Solutions Control All Other Total
--------- --------- ------- --------- ------------
Sales to external customers $80,266 $ 152,810 $64,493 $ 1,584 $ 299,153
Intersegment sales 2,046 6,742 2,940 (11,728) --
Segment operating income 6,176 18,699 8,420 (6,920) 26,375
</Table>
Reconciliation of the total segment operating income before integration expense
to consolidated earnings before income taxes follows:
<Table>
<Caption>
Three Months Ended June 30,
2001 2000
-------- --------
Total segment operating income (before integration expense) $ 61,000 $ 33,295
Corporate expenses and other 8,894 6,920
Integration expense 16,944 --
Net interest expense 31,361 6,682
Other (income) expense (265) 428
-------- --------
Net earnings before income taxes $ 4,066 $ 19,265
======== ========
</Table>
20
21
<Table>
<Caption>
Flowserve Flow Flow Consolidated
Six months ended June 30, 2001 Pump Solutions Control All Other Total
---------- ---------- ------------ --------- ------------
Sales to external customers $ 460,604 $ 311,740 $ 133,748 $ 2,522 $ 908,614
Intersegment sales 2,729 10,639 4,151 (17,519) --
Segment operating income (before
integration expense) 47,972 40,706 16,874 (15,976) 89,576
Identifiable assets $1,292,897 $ 447,927 $ 204,180 $ 123,282 $2,068,286
</Table>
<Table>
<Caption>
Flowserve Flow Flow Consolidated
Six months ended June 30, 2000 Pump Solutions Control All Other Total
---------- ---------- ------------ --------- ------------
Sales to external customers $ 152,854 $ 298,732 $ 129,754 $ 3,122 $ 584,462
Intersegment sales 2,891 9,700 5,448 (18,039) --
Segment operating income 10,108 35,350 16,195 (13,834) 47,819
Identifiable assets $ 238,745 $ 428,899 $ 210,143 $ 84,289 $ 962,076
</Table>
Reconciliation of the total segment operating income before integration
expense to consolidated earnings before income taxes follows:
<Table>
<Caption>
Six Months Ended June 30,
2001 2000
--------- ---------
Total segment operating income (before integration expense) $ 105,552 $ 61,653
Corporate expenses and other 15,976 13,834
Integration expense 36,083 --
Net interest expense 63,172 12,888
Other income (400) (2,473)
--------- ---------
Net (loss) earnings before income taxes $ (9,279) $ 37,404
========= =========
21
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
RESULTS OF OPERATIONS - THREE MONTHS ENDED JUNE 30, 2001
In general, results for the second quarter of 2001 were higher than the
corresponding period in the previous year due to the Company's acquisition of
Ingersoll-Dresser Pump Company (IDP), on August 8, 2000. This acquisition is
discussed in further detail in the Liquidity and Capital Resources section of
this Management Discussion and Analysis.
Sales increased 55.3% to $464.6 million for the three months ended June 30,
2001, compared with $299.2 million for the same period in 2000. Pro forma sales
in the second quarter of 2000, including the results of IDP, were $487.6
million. Sales for the quarter compared with last year on a pro forma basis were
adversely affected by an unfavorable currency translation of approximately 3%,
temporary inefficiencies resulting from the integration of IDP, the divestiture
of product lines in 2000 to comply with the Department of Justice consent decree
to acquire IDP and the closure or sale of several service operations. The change
in sales is discussed further in the following section on Business Segments. Net
sales to international customers, including export sales from the U.S., were
similar to the second quarter of 2000 at 45%.
Bookings, or incoming orders for which there are purchase commitments, were
$540.8 million, 74.8% higher than the second quarter of 2000 when bookings were
$309.4 million. Excluding negative currency translation, bookings increased
approximately 4% compared with last year's second quarter pro forma of $533.7
million. Second quarter 2001 bookings also increased 9.0% over first quarter
2001. Bookings were relatively strong in the petroleum, power and water markets
and reflect increasing project activity. Bookings activity was mixed-to-slightly
weaker in chemicals. At June 30, 2001, backlog was $738.7 million, up 7.0%
compared with the first quarter and up 12.0% compared to year end 2000.
BUSINESS SEGMENTS
Flowserve manages its operations through three business segments: Flowserve
Pump Division (FPD), for engineered and industrial pumps; Flow Solutions
Division (FSD) for precision mechanical seals and flow management services; and
Flow Control Division (FCD) for automated and manual quarter-turn valves,
control valves, nuclear valves and valve actuators.
Sales and operating income before integration expense for each of the three
business segments are:
<Table>
<Caption>
Flowserve Pump Division
-----------------------
Three Months Ended
June 30,
-----------------------
(In millions of dollars) 2001 2000
-------- --------
Sales $ 238.6 $ 82.3
Operating income (before integration
expense) 29.9 6.2
</Table>
The sales increase in 2001 was due to the acquisition of IDP. On a pro forma
basis, revenues were $254.9 million in the second quarter of 2000. The sales
decrease on a pro forma basis resulted from unfavorable currency translation
which reduced sales by about 4% quarter-over-quarter, temporary inefficiencies
associated with the integration of IDP, and divestiture of product lines in late
2000 to comply with the Department of Justice consent decree.
22
23
Operating income before integration expense, increased 382% from prior
period of $6.2 million and 299% from pro forma results of $7.5 million.
Operating income as a percentage of sales increased to 12.5% in 2001 from about
7.5% in the prior-year period and 2.9% in 2000 on a pro forma basis. The
increase primarily resulted from the synergy savings realized from the IDP
integration activities.
<Table>
<Caption>
Flow Solutions Division
-----------------------
Three Months Ended
June 30,
-----------------------
(In millions of dollars) 2001 2000
-------- ---------
Sales $ 165.4 $ 159.6
Operating income (before integration
expense) 22.7 18.7
</Table>
Sales were higher than the prior-year period primarily due to the inclusion
of a portion of IDP's service repair business in 2001. Pro forma sales were
$175.5 million in the second quarter of 2000. The decrease from pro forma sales
was due to unfavorable currency translation and the closure or sale of several
service operations.
Operating income before integration expense of $22.7 million increased 21.4%
compared with prior year and 5.6% compared with pro forma results. Operating
income before integration expense, as a percentage of sales, increased to 13.7%
from 11.7% in 2000 on an as reported basis and 12.3% on a pro forma basis. This
improvement reflects the benefits of the integration of service operations and
the consolidation of the North American seal business.
<Table>
<Caption>
Flow Control Division
-----------------------
Three Months Ended
June 30,
-----------------------
(In millions of dollars) 2001 2000
--------- ---------
Sales $ 68.5 $ 67.4
Operating income (before integration
expense) 8.5 8.4
Sales increased slightly over the prior year despite an unfavorable currency
translation which reduced sales by about 3%.
Operating income of $8.5 million improved slightly from the prior year.
Operating income as a percentage of sales was 12.4% in the second quarter of
2001, virtually unchanged when compared with 12.5% in 2000.
CONSOLIDATED RESULTS
The gross profit margin was 33.5% for the three months ended June 30, 2001,
compared with 34.5% for the same period in 2000. The decrease was primarily due
to the acquisition of IDP as IDP's margins historically are lower than the
balance of the Company. The Company's margin increased 300 basis points when
compared to the second quarter 2000 pro forma margin of 30.5%. This improvement
primarily resulted from manufacturing integration synergies.
Selling, general and administrative expense as a percentage of net sales was
22.3% for the quarter ended June 30, 2001, compared with 25.7% in the prior-year
period and 24.2% in 2000 on a pro forma basis. The decrease from the prior year
percentages was generally due to IDP integration savings.
Operating income before integration expense of $52.1 million increased 97.3%
over reported and 70.8% over pro forma quarterly comparisons. The improvement
principally reflects synergy benefits related to the acquisition and integration
of IDP.
Net interest expense during the second quarter of 2001 was $31.4 million,
compared with $6.7 million in the same period in 2000 due to the increased
borrowing levels required to acquire IDP and the amortization of deferred
financing fees related to the new debt.
The Company's effective tax rate for the second quarter of 2001 was 36.0%
compared with 34.5% in the second quarter of 2000. The increase was due to the
IDP acquisition.
23
24
Earnings before integration expense for the second quarter of 2001 were
$13.4 million or $0.35 per share compared to a loss of $0.8 million or $0.02 per
share in the second quarter of 2000 on a pro forma basis. During the second
quarter of 2001, integration expense of $16.9 million related to period costs
associated with the integration of the IDP acquisition. Net earnings for the
second quarter of 2001 were $2.6 million or $0.07 per share, compared to income
of $12.6 million or $0.33 per share for the same period in 2000.
RESULTS OF OPERATIONS - SIX MONTHS ENDED JUNE 30, 2001
In general, results for the first-half of 2001 were higher than the
corresponding period in the previous year due to the Company's acquisition of
IDP, on August 8, 2000. This acquisition is discussed in further detail in the
Liquidity and Capital Resources section of this Management Discussion and
Analysis.
Sales increased 55.4% to $908.6 million for the six months ended June 30,
2001, compared with $584.5 million for the same period in 2000. Pro forma sales
in 2000, including the results of IDP, were $947.9 million. Sales for the year
compared to last year on a pro forma basis were adversely affected by an
unfavorable currency translation of approximately 3%, temporary inefficiencies
resulting from the integration of IDP, the divestiture of product lines in 2000
to comply with the Department of Justice consent decree to acquire IDP and the
closure or sale of several service operations. The change in sales is discussed
further in the following section on Business Segments. Net sales to
international customers, including export sales from the U.S., were similar to
the prior year at 45%.
Bookings, or incoming orders for which there are purchase commitments, were
$1,037.1 million, 67.2% higher than the prior year when bookings were $620.1
million. Pro forma bookings in the prior year were $1,073.4 million. The decline
in bookings from prior year pro forma reflects unfavorable currency translation
impacts of approximately 3%. Year-to-date bookings were relatively strong in the
petroleum, power and water markets and reflect increasing project activity.
Bookings activity was mixed-to-slightly weaker in chemicals. Backlog was $738.7
million at June 30, 2001, up 12.0% compared to year end 2000.
BUSINESS SEGMENTS
Flowserve manages its operations through three business segments: Flowserve
Pump Division (FPD), for engineered and industrial pumps; Flow Solutions
Division (FSD) for precision mechanical seals and flow management services; and
Flow Control Division (FCD) for automated and manual quarter-turn valves,
control valves, nuclear valves and valve actuators.
Sales and operating income before integration expense for each of the three
business segments are:
<Table>
<Caption>
Flowserve Pump Division
-----------------------
Six Months Ended
June 30,
-----------------------
(In millions of dollars) 2001 2000
------- -------
Sales $ 463.3 $ 155.7
Operating income (before integration
expense) 48.0 10.1
</Table>
The sales increase in 2001 was due to the acquisition of IDP. On a pro forma
basis, revenues were $488.3 million in 2000. The sales decrease on a pro forma
basis resulted from unfavorable currency translation which reduced sales by
about 3% year-over-year, temporary inefficiencies associated with the
integration of IDP and divestiture of product lines in late 2000 to comply with
the Department of Justice consent decree.
Operating income before integration expense, increased 375% from prior
period of $10.1 million and 353% from pro forma results of $10.6 million.
Operating income as a percentage
24
25
of sales increased to approximately 10.4% in 2001 from about 6.5% in the
prior-year period and 2.2% in 2000 on a pro forma basis. The increase primarily
resulted from the synergy savings realized from the IDP integration activities.
<Table>
<Caption>
Flow Solutions Division
-----------------------
Six Months Ended
June 30,
-----------------------
(In millions of dollars) 2001 2000
-------- --------
Sales $ 322.4 $ 308.4
Operating income (before
integration expense) 40.7 35.4
</Table>
Sales were higher than the prior-year period primarily due to the inclusion
of a portion of IDP's service repair business in 2001. Pro forma sales were
$339.2 million in 2000. The decrease from pro forma sales was due to unfavorable
currency translation, the closure or sale of several service operations and
temporary integration dissynergies.
Operating income before integration expense of $40.7 million was 15.0% above
prior year and 1.5% above pro forma results. Operating income before integration
expense, as a percentage of sales, increased to 12.6% from 11.5% in 2000 on an
as reported basis and 11.8% on a pro forma basis. The improvement in the
operating margin reflects the benefits of the integration of the service
operations and the consolidation of the North American seal business. Partially
offsetting the improvements were integration inefficiencies at the service
operations and period costs related to the previously announced restructure of
the seal business.
<Table>
<Caption>
Flow Control Division
---------------------
Six Months Ended
June 30,
---------------------
(In millions of dollars) 2001 2000
---- ----
Sales $137.9 $135.2
Operating income (before
integration expense) 16.9 16.2
</Table>
Sales increased slightly over the prior year despite an unfavorable currency
translation which reduced sales by about 3%.
Operating income of $16.9 million increased 4.3% compared with the prior
year. Operating income as a percentage of sales was 12.2% in the first-half of
2001, compared with 12.0% in 2000. The improved operating margin in 2001 was
primarily due to efficiency improvements.
CONSOLIDATED RESULTS
The gross profit margin was 32.3% for the six months ended June 30, 2001,
compared with 34.6% for the same period in 2000. The decrease was primarily due
to the acquisition of IDP as IDP's margins historically are lower than the
balance of the Company. The Company's margin increased 220 basis points when
compared to the 2000 pro forma margin of 30.1%. This improvement primarily
resulted from manufacturing integration synergies.
Selling, general and administrative expense as a percentage of net sales was
22.4% for the six months ended June 30, 2001, compared with 26.4% in the
prior-year period and 24.5% in 2000 on a pro forma basis. The decrease from the
prior year percentages was due to IDP integration savings, productivity
improvements and other cost reduction initiatives.
Operating income before integration expense of $89.6 million increased 87.4%
over reported and 69.1% over pro forma yearly comparisons. The improvement
generally reflects synergy benefits related to the acquisition and integration
of IDP.
Net interest expense during the first six months of 2001 was $63.2 million,
compared with $12.9 million in the same period in 2000 due to the increased
borrowing levels required to acquire IDP and the amortization of deferred
financing fees related to the new debt.
Other income was $0.4 million in the first six months of 2001 compared with
$2.5 million of income in the same period in 2000. The 2000
25
26
amounts resulted primarily from the quarterly mark-to-market adjustment required
at the time under the provisions of EITF No. 97-14 "Accounting for Deferred
Compensation Agreements Where Amounts Earned are Held in a Rabbi Trust and
Invested". Due to an amendment the Company made in the deferred compensation
plans during the fourth quarter of 2000, this adjustment is no longer
applicable.
The Company's effective tax rate for the first six months of 2001 was 36.0%
compared with 34.5% in the prior year of 2000. The increase was due to the IDP
acquisition.
Earnings before integration expense for the first six months of 2001 were
$17.2 million or $0.45 per share compared to a loss of $4.7 million or $0.13 per
share in the same period of 2000 on a pro forma basis. Integration expense of
$36.1 million in 2001 related to period costs associated with the integration of
the IDP acquisition. Net earnings for the first-half of 2001 were a loss of $5.9
million or $0.16 per share, compared to income of $24.5 million or $0.65 per
share for the same period in 2000.
RESTRUCTURING
In August 2000, in conjunction with the acquisition of IDP, the Company
initiated a restructuring program designed to reduce costs and to eliminate
excess capacity by consolidating facilities. The Company's actions, approved and
committed to in the third quarter of 2000, are expected to result in the net
reduction of approximately 1,200 positions and are expected to result in at
least $75 million in annual synergy savings upon estimated completion before the
end of 2001. The Company expects the cost of achieving these synergies will be
no more than $150 million. The program includes the closure of IDP's former
headquarters, the closure or significant downsizing of a number of pump
manufacturing facilities, service and repair centers, and reduction of sales and
sales support personnel. The Company currently estimates that the costs
associated with the restructuring portion of the program will be approximately
$68 million. The Company had originally estimated these costs to be
approximately $61 million. The increase from the original estimate is primarily
due to updated actuarial information for post-retirement and pension expense
relating to a plant closure. This increase was offset by a non-cash
reclassification from the restructuring accrual to post-retirement benefits and
pension liabilities which resulted in a net reduction to the accrual of $8.8
million during the fourth quarter of 2000.
Approximately $44 million of the total cost relates to the IDP operations
acquired and $28 million has been capitalized in goodwill as part of the
purchase price of IDP ($44 million of estimated costs less deferred tax effect
of $16 million), while the remaining cost of $24 million relates to the
Flowserve operations and was recorded as restructuring expense in 2000. The
balance of the $150 million in costs will be recorded as integration expense as
incurred.
During the first six months of 2001, the Company incurred $36.1 million in
integration costs in conjunction with this program.
As of June 30, 2001, the program had resulted in a net reduction of 1,139
employees. Expenditures charged to the 2000 restructuring reserve were:
<Table>
<Caption>
Other
Exit
Severance Costs Total
--------- -------- --------
Balance at August 16, 2000 $ 45,980 $ 14,832 $ 60,812
Cash expenditures (18,645) (2,434) (21,079)
Net non-cash reduction (8,849) -- (8,849)
--------- -------- --------
Balance at December 31, 2000 $ 18,486 $ 12,398 $ 30,884
Cash expenditures (5,729) (4,029) (9,758)
--------- -------- --------
Balance at March 31, 2001 $ 12,757 $ 8,369 $ 21,126
Cash expenditures (3,277) (2,505) (5,782)
--------- -------- --------
Balance at June 30, 2001 $ 9,480 $ 5,864 $ 15,344
======== ======== ========
</Table>
26
27
In the fourth quarter of 1999, the Company initiated a restructuring program
that included a one-time charge of $15.9 million recorded as restructuring
expense. The restructuring charge related to the planned closure of 10
facilities and a reduction in workforce at those and other locations. The 1999
restructuring program is expected to result in a net reduction of approximately
288 employees at a cost of $12.9 million upon estimated completion during the
third quarter of 2001. In addition, exit costs associated with the facilities
closings were $3.0 million. As of June 30, 2001, the program has resulted in a
net reduction of 261 employees.
Expenditures charged to the 1999 restructuring reserve were:
<Table>
<Caption>
Other
Exit
Severance Costs Total
--------- -------- --------
Balance at December 24, 1999 $ 12,900 $ 2,960 $ 15,860
Cash expenditures (102) -- (102)
-------- -------- --------
Balance at December 31, 1999 $ 12,798 $ 2,960 $ 15,758
Cash expenditures (6,766) (1,932) (8,698)
Non-cash reduction (4,364) (1,028) (5,392)
-------- -------- --------
Balance at December 31, 2000 $ 1,668 $ -- $ 1,668
Cash expenditures (495) -- (495)
-------- -------- --------
Balance at March 31, 2001 $ 1,173 $ -- $ 1,173
Cash expenditures (682) -- (682)
-------- -------- --------
Balance at June 30, 2001 $ 491 $ -- $ 491
======== ======== ========
</Table>
LIQUIDITY AND CAPITAL RESOURCES
Cash flows from operating activities for the first six months of 2001 were
significantly below the same period in 2000. The decrease in overall cash flows
in 2001 was primarily due to the payment of accrued interest, scheduled
principal payments on the term loans, payments relating to the IDP restructuring
and integration programs and an increase in inventory in support of shipments
for the second-half of 2001.
Capital expenditures were $22.4 million during the first six months of 2001,
compared with $12.5 million in the first six months of 2000. The spending was
primarily related to integration activities and product development. Capital
expenditures were funded by operating cash flows and external borrowings. Cash
proceeds on the disposal of assets associated with the IDP integration
activities were $7.4 million for the first six months of 2001.
On July 5, 2001, the Company's Form S-3 Registration Statement with the SEC
utilizing a shelf registration process went effective for the offering and sale
of up to $500 million of common stock, preferred stock, debt securities or
guarantees of debt securities. When an offering is made under the shelf, the
Company expects to use the net proceeds for general corporate purposes, which
may include repaying indebtedness and funding future acquisitions. The amount
and timing of the sales will depend on market conditions and the availability of
other funds to the Company.
ACQUISITION
In August 2000, the Company completed the acquisition of IDP, a leading
manufacturer of pumps with a diverse mix of pump products and customers with
operations in 30 countries, for $775 million in cash. As part of the purchase,
the Company acquired $25 million in cash. The seller also agreed to provide for
severance for certain employees and costs related to the accelerated closure of
several U.S. facilities which the Company estimated at $52 million. The
transaction, which was accounted for as a purchase, was financed with a
combination of senior secured financing and senior subordinated notes. Upon
closing of the transaction, the existing Company debt was also refinanced.
FINANCING
During the third quarter of 2000, in connection with the acquisition of IDP,
the Company entered into a credit agreement for senior secured credit facilities
which included a $275 million term loan due June 2006, a $475 million term loan
due June 2008, and a
27
28
$300 million revolving credit facility with a final maturity of June 2006. The
term loans bear floating interest rates based on LIBOR plus a credit spread, or
the Prime Rate plus a credit spread, at the option of the Company. At June 30,
2001, the interest rate(s) on the term loans were 6.8125%, 6.75% and 6.50%
relating to the Tranche A loan and 7.5625% and 7.25% relating to the Tranche B
loan. The term loans scheduled principal payments began June 30, 2001. The
scheduled payments, made by the Company in June 2001, totaled $5.9 million. The
senior secured credit facilities are secured by the domestic assets of the
Company and a pledge of 65% of the stock of the foreign subsidiaries. As of June
30, 2001, $71.0 million of the revolving credit was drawn and $738.8 million of
the term loans were outstanding.
The scheduled principal payments of the term loans outstanding at June 30,
2001 are summarized as follows: $11.9 million in 2001, $44.5 million in 2002,
$59.4 million in 2003, $63.3 million in 2004, $67.3 million in 2005, $105.9
million in 2006, $257.5 million in 2007 and $129.1 million in 2008. Beginning in
2002, the Company is required to use a percentage of excess cash from
operations, as defined in the credit agreement, to reduce the outstanding
principal of the term loans.
The revolving credit facility allows the Company to issue up to $200 million
in letters of credit. As of June 30, 2001, $29.6 million of letters of credit
had been issued under the facility. This, coupled with the $71.0 million in
borrowings under the facility, left the Company with $199.4 million remaining in
unused borrowing capacity under the revolving credit facility.
The Company also issued 10 year, senior subordinated notes on August 8, 2000
in a U.S. dollar tranche and a Euro tranche, that are non-callable for 5 years.
Proceeds of $285.9 million from the dollar tranche, and EUR 98.6 million from
the Euro tranche equivalent to $89.2 million, were also used in completing the
IDP acquisition. The notes, issued at a fixed rate of 12.25%, were originally
priced at a discount to yield 12.50%, and have no scheduled principal payment
prior to maturity in August 2010. At August 2005, the notes become callable at a
redemption price of 106.125%. At August of each subsequent year, the notes are
callable at 104.083%, 102.042% and 100.000% for 2006, 2007 and 2008 and
thereafter, respectively. Interest on the notes is payable semi-annually, with
the first payment having occurred in February 2001.
The provisions of the credit agreement require the Company to meet or exceed
specified financial covenants that are defined in the credit agreement. These
covenants include a leverage ratio, an interest coverage ratio, and a fixed
charge coverage ratio. Further, the provisions of the credit agreement and the
senior subordinated notes require limitations or restrictions relating to new
indebtedness, prepayment of subordinated debt, liens, sale and leaseback
transactions, disposition of assets, payment of dividends or other
distributions, and capital expenditures, among other things. As of June 30,
2001, the Company is in full compliance with these covenants.
The Company believes that internally generated funds, including synergies
from the IDP acquisition, will be adequate to service the debt.
At June 30, 2001, total net debt was 82.3% of the Company's capital
structure, compared with 78.1% at December 31, 2000. The interest coverage ratio
of the Company's indebtedness was 1.4 times interest at June 30, 2001, compared
with 2.0 times interest at December 31, 2000.
RECENT ACCOUNTING DEVELOPMENTS
In July 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard (SFAS) No. 141, "Business Combinations," and SFAS
No. 142, "Goodwill and
28
29
Other Intangible Assets". SFAS No. 141 requires that all business combinations
initiated after June 30, 2001 be accounted for using the purchase method.
Additionally, SFAS No. 141 establishes specific criteria for the recognition of
intangible assets separately from goodwill. SFAS No. 142 primarily addresses the
accounting for goodwill and intangible assets subsequent to their acquisition
and is effective for the Company on January 1, 2002. The most significant
changes made by SFAS No. 142 require that goodwill and indefinite lived
intangible assets no longer be amortized and be tested for impairment at least
on an annual basis. Additionally, the amortization period of intangible assets
with finite lives will no longer be limited to forty years.
The Company is currently assessing the impact of SFAS 141 and 142 and has
not yet determined the effects these statements will have on its consolidated
financial position or results of operations.
29
30
- --------------------------------------------------------------------------------
FORWARD-LOOKING INFORMATION IS SUBJECT TO RISK AND UNCERTAINTY
This Report on Form 10-Q and other written reports and oral statements made
from time to time by the Company contain various forward-looking statements and
include assumptions about Flowserve's future market conditions, operations and
results. These statements are based on current expectations and are subject to
significant risks and uncertainties. They are made pursuant to safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. Among the
many factors that could cause actual results to differ materially from the
forward-looking statements are: further changes in the already competitive
environment for the Company's products or competitors' responses to Flowserve's
strategies; the Company's ability to integrate past and future acquisitions into
its management and operations; political risks or trade embargoes affecting
important country markets; the health of the petroleum, chemical and power
industries; economic turmoil in areas outside the United States; changes in the
rate of economic growth within the United States; unanticipated difficulties or
costs associated with the implementation of systems, including software;
currency fluctuations among the U.S. dollar and other currencies; and the
recognition of significant expenses associated with adjustments to realign the
combined Company's facilities and other capabilities with its strategic and
business conditions, including, without limitation, expenses incurred in
restructuring the Company's operations to incorporate IDP facilities, and the
Company's ability to meet the financial covenants and other requirements of its
financing agreements. The Company undertakes no obligation to publicly update or
revise any forward-looking statement as a result of new information, future
events or otherwise.
- --------------------------------------------------------------------------------
30
31
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISKS
The Company has market risk exposure arising from changes in interest rates
and foreign currency exchange rate movements.
The Company's earnings are affected by changes in short-term interest rates
as a result of borrowings under its senior secured credit facilities which bear
interest based on floating rates. At June 30, 2001, after the effect of interest
rate swaps held by the Company, the Company had approximately $659.8 million of
variable-rate debt obligations outstanding with a weighted average interest rate
of 7.145%. A hypothetical increase of 100-basis points in the interest rate for
these borrowings, assuming debt levels at June 30, 2001, would change interest
expense by approximately $3.3 million for the six months ended June 30, 2001.
The Company employs a foreign currency hedging strategy to minimize
potential losses in earnings or cash flows from unfavorable foreign currency
exchange rate movements. Foreign currency exposures arise from transactions,
including firm commitments and anticipated transactions, denominated in a
currency other than an entity's functional currency and from foreign-denominated
revenues and profits translated back into U.S. dollars. Based on the sensitivity
analysis at June 30, 2001, a 10% adverse change in the foreign currency exchange
rates would impact the Company's year-to-date results of operation by $1.1
million. The primary currencies to which the Company has exposure are the Euro
currencies, the British pound, the Brazilian real, the Canadian dollar, the
Mexican peso, the Japanese yen, the Singapore dollar, and the Australian dollar.
The Company adopted SFAS No. 133, Accounting for Derivative Instruments and
Hedging Activities, and corresponding amendments on January 1, 2001. In
accordance with the transition provisions of SFAS 133, the Company recorded a
cumulative-effect adjustment in other comprehensive income as of January 1, 2001
of $0.8 million, net of deferred tax of $0.5 million representing the current
fair-value of hedging instruments. Of this gross asset amount of $1.3 million,
$3.4 million related to foreign currency forward contracts, offset by a
liability of $2.1 million related to interest rate swap agreements.
The Company reclassified the transition adjustment relating to foreign
currency forward contracts to earnings during the first quarter of 2001 as those
contracts settled. At June 30, 2001, the fair-value of the hedging instruments
is a liability of $6.3 million.
Hedging related transactions recorded to other comprehensive income during
2001 were:
<Table>
<Caption>
Other
Comprehensive
(Income) Loss
-------------
Record fair market value of hedges, as of<
January 1, 2001, net of deferred taxes of
$472 $ (840)
Reclassify to earnings amount necessary to
offset foreign currency gains for six
months ended June 30, 2001, net of deferred
taxes of $400 (603)
Record change in fair market value of swap
agreements as of June 30,
2001, net of deferred taxes of $545 928
Record change in fair market value of
foreign currency forward contracts
as of June 30, 2001, net of deferred
taxes of $2,254 3,882
-------
BALANCE AS OF JUNE 30, 2001 $ 3,367
=======
</Table>
The Company expects that within the next twelve months it will reclassify as
expense $1.5 million, net of deferred tax, of this amount recorded in
accumulated other
31
32
comprehensive income for contracts that will settle during the period.
The Company is party to forward contracts for purposes of hedging certain
transactions denominated in foreign currencies. The Company has a
risk-management and derivatives policy statement outlining the conditions in
which the Company can enter into hedging or forward transactions. As of June 30,
2001, the Company has approximately $75 million of notional amount in
outstanding contracts with third parties. The maximum length of the contracts
currently in place as of June 30, 2001 is approximately 19 months.
The Company is exposed to credit-related losses in the event of
nonperformance by counterparties to financial instruments, but it expects all
counterparties to meet their obligations given their high credit ratings.
The Company, as part of its risk management program, is party to interest
rate swap agreements for the purpose of hedging its exposure to floating
interest rates on certain portions of its debt. As of June 30, 2001, the Company
had $150 million of notional amount in outstanding interest rate swaps with
third parties. The maximum length of the interest rate swaps currently in place
as of June 30, 2001 is approximately 5 1/2 years.
All derivatives are recognized on the balance sheet at their fair-value. On
the date that the Company enters into a derivative contract, it designates the
derivative as (1) a hedge of (a) a forecasted transaction or (b) the variability
of cash flows that are to be received or paid in connection with a recognized
asset or liability (a "cash flow" hedge); or (2) a foreign-currency fair-value
or cash flow hedge (a "foreign currency" hedge). Changes in the fair-value of a
derivative that is highly effective as - and that is designated and qualifies as
- - a cash flow hedge, to the extent that the hedge is effective, are recorded in
other comprehensive income, until earnings are affected by the variability of
cash flows of the hedged transaction. Any hedge ineffectiveness (which
represents the amount by which the changes in the fair-value of the derivative
exceed the variability in the cash flows of the forecasted transaction) is
recorded in current-period earnings. Changes in the fair-value of a derivative
that is highly effective as - and that is designated and qualifies as - a
foreign-currency hedge is recorded in other comprehensive income, since it
satisfies the criteria for a cash-flow hedge. As of June 30, 2001, all hedges
outstanding were highly effective.
The Company formally documents all relationships between hedging instruments
and hedge items, as well as its risk-management objective and strategy for
undertaking various hedge transactions. This process includes linking all
derivatives that are designated as fair-value, cash flow, or foreign-currency
hedges to (1) specific assets and liabilities on the balance sheet or (2)
specific firm commitments or forecasted transactions. The Company also formally
assesses (both at the hedge's inception and on an ongoing basis) whether the
derivatives that are used in hedging transactions have been highly effective in
offsetting changes in the fair value or cash flows of hedged items and whether
those derivatives may be expected to remain highly effective in future periods.
When it is determined that a derivative is not (or has ceased to be) highly
effective as a hedge, the Company discontinues hedge accounting prospectively,
as discussed below.
32
33
The Company discontinues hedge accounting prospectively when (1) it
determines that the derivative is no longer effective in offsetting changes in
the fair-value or cash flows of a hedge item (including hedged items such as
firm commitments or forecasted transactions); (2) the derivative expires or is
sold, terminated, or exercised; (3) it is no longer probable that the forecasted
transaction will occur; or (4) management determines that designating the
derivative as a hedging instrument is no longer appropriate.
When the Company discontinues hedge accounting because it is no longer
probable that the forecasted transaction will occur in the originally expected
period, the gain or loss on the derivative remaining in accumulated other
comprehensive income is reclassified into earnings. In all situations in which
hedge accounting is discontinued and the derivative remains outstanding, the
Company will carry the derivative at its fair-value on the balance sheet,
recognizing changes in the fair-value in current-period earnings.
PART II OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(c) During the second quarter of 2001, the Company issued 9,700 shares of
restricted common stock pursuant to an exemption from registration
under Section 4 (2) of the Securities Act of 1933. Shares were issued
for the benefit of outside directors and three key employees, subject
to restrictions on transfer and vesting.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Annual Meeting of Shareholders of the Company was held on April 19,
2001.
(c) (b) A proposal to approve re-election of three Directors to the Board
of Directors, in each case for a term of three years, was approved as
follows with respect to each nominee for office:
<Table>
<Caption>
Votes Votes
For Withheld
---------- --------
Hugh K. Coble 34,998,706 398,913
George T. Haymaker, Jr. 35,000,624 396,995
William C. Rusnack 35,011,262 386,358
The other directors, whose terms continue after the Annual Meeting,
were C. Scott Greer, Diane C. Harris, Michael F. Johnston, Charles M. Rampacek,
James O. Rollans and Kevin E. Sheehan.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Amendment No. 4 to Flowserve Corporation 1998 Restricted Stock
Plan.
(b) Reports on Form 8-K
A. Current report on Form 8-K, dated May 31, 2001, filed pursuant to
Item 5 (Other Events) to furnish pro forma financial information
pursuant to Item 7(b) for the acquisition of Ingersoll-Dresser Pump
Company.
33
34
SIGNATURE
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FLOWSERVE CORPORATION
(Registrant)
/s/ Renee J. Hornbaker
----------------------------------
Renee J. Hornbaker
Vice President and Chief Financial
Officer
Date: August 14, 2001
-----------------------
34
35
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
- ------- ------------
10.1 Amendment No. 4 to Flowserve Corporation 1998 Restricted Stock
Plan.
</Table>