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 September 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 October 26, 2001 37,860,447
FLOWSERVE CORPORATION
INDEX
<Table>
<Caption>
Page
No.
----
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Income -
Three Months Ended September 30, 2001 and 2000 (unaudited) 3
Consolidated Statements of Comprehensive Income -
Three Months Ended September 30, 2001 and 2000 (unaudited) 3
Consolidated Statements of Income -
Nine months Ended September 30, 2001 and 2000 (unaudited) 4
Consolidated Statements of Comprehensive Income -
Nine months Ended September 30, 2001 and 2000 (unaudited) 4
Consolidated Balance Sheets -
September 30, 2001 (unaudited) and December 31, 2000 5
Consolidated Statements of Cash Flows -
Nine months Ended September 30, 2001 and 2000 (unaudited) 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis 23
Item 3. Quantitative and Qualitative Disclosure of Market Risks 33
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds 34
Item 6. Exhibits and Reports on Form 8-K 34
SIGNATURE 35
</Table>
2
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 September 30,
--------------------------------
2001 2000
------------- -------------
Sales $ 469,605 $ 412,105
Cost of sales 317,291 281,983
------------ ------------
Gross profit 152,314 130,122
Selling, general and administrative expense 100,998 95,865
Integration expense 13,757 10,470
Restructuring expense -- 17,102
------------ ------------
Operating income 37,559 6,685
Net interest expense 28,326 23,423
Other expense, net 119 299
------------ ------------
Net earnings (loss) before income taxes 9,114 (17,037)
Provision (benefit) for income taxes 3,281 (6,103)
------------ ------------
Net earnings (loss) before extraordinary items 5,833 (10,934)
Extraordinary items, net of tax -- 2,067
------------ ------------
Net earnings (loss) $ 5,833 $ (13,001)
============ ============
Net earnings (loss) per share (basic and diluted):
Before extraordinary items $ 0.15 $ (0.29)
Extraordinary items, net of tax -- (0.05)
------------ ------------
Net earnings (loss) $ 0.15 $ (0.34)
============ ============
</Table>
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<Table>
<Caption>
(Amounts in thousands) Three Months Ended September 30,
---------------------------------
2001 2000
------------- -------------
Net earnings (loss) $ 5,833 $ (13,001)
------------- -------------
Other comprehensive income (expense):
Foreign currency translation adjustments 32,822 (23,600)
Hedging transactions, net of tax benefit of $295
(See footnote 4) (331) --
------------- -------------
Other comprehensive income (expense) 32,491 (23,600)
------------- -------------
Comprehensive income (loss) $ 38,324 $ (36,601)
============= =============
</Table>
See accompanying notes to consolidated financial statements.
3
FLOWSERVE CORPORATION
(Unaudited)
CONSOLIDATED STATEMENTS OF INCOME
<Table>
<Caption>
(Amounts in thousands, except per share data) Nine Months Ended September 30,
---------------------------------
2001 2000
------------- -------------
Sales $ 1,378,219 $ 996,567
Cost of sales 932,653 664,054
------------- -------------
Gross profit 445,566 332,513
Selling, general and administrative expense 304,674 250,437
Integration expense 49,840 10,470
Restructuring expense -- 17,102
------------- -------------
Operating income 91,052 54,504
Net interest expense 91,497 36,312
Other income, net (281) (2,174)
------------- -------------
Net (loss) earnings before income taxes (164) 20,366
(Benefit) provision for income taxes (59) 6,801
------------- -------------
Net (loss) earnings before extraordinary items (105) 13,565
Extraordinary items, net of tax -- 2,067
------------- -------------
Net (loss) earnings $ (105) $ 11,498
============= =============
Net (loss) earnings per share (basic and diluted):
Before extraordinary items $ -- $ 0.35
Extraordinary items, net of tax -- (0.05)
------------- -------------
Net earnings $ -- $ 0.30
============= =============
</Table>
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<Table>
<Caption>
(Amounts in thousands) Nine Months Ended September 30,
---------------------------------
2001 2000
------------- -------------
Net (loss) earnings $ (105) $ 11,498
------------- -------------
Other comprehensive (expense) income:
Foreign currency translation adjustments (20,618) (39,803)
Cumulative effect of change in accounting principle, net of tax
of $472 (Adoption of SFAS 133 - See footnote 4) 840 --
Hedging transactions, net of tax benefit of $2,695
(See footnote 4) (4,538) --
------------- -------------
Other comprehensive expense (24,316) (39,803)
------------- -------------
Comprehensive loss $ (24,421) $ (28,305)
============= =============
</Table>
See accompanying notes to consolidated financial statements.
4
FLOWSERVE CORPORATION
CONSOLIDATED BALANCE SHEETS
<Table>
<Caption>
September 30, December 31,
(Amounts in thousands, except per share data) 2001 2000
------------- ------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 24,856 $ 42,341
Accounts receivable, net 469,164 487,274
Inventories 343,241 305,958
Current deferred tax asset 41,407 39,726
Prepaid expenses 26,832 22,753
------------ ------------
Total current assets 905,500 898,052
Property, plant and equipment, net 364,768 405,412
Goodwill, net 537,000 514,441
Other intangible assets, net 133,090 131,330
Other assets 158,184 160,908
------------ ------------
Total assets $ 2,098,542 $ 2,110,143
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 157,174 $ 172,366
Accrued liabilities 197,261 243,553
Long-term debt due within one year 36,613 18,098
------------ ------------
Total current liabilities 391,048 434,017
Long-term debt due after one year 1,158,850 1,111,108
Post-retirement benefits and deferred items 259,065 260,107
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 65,624 65,785
Retained earnings 357,390 357,495
------------ ------------
474,870 475,136
Treasury stock at cost - 3,652 and 4,048 shares (83,529) (92,545)
Deferred compensation obligation 6,778 6,544
Accumulated other comprehensive loss (108,540) (84,224)
------------ ------------
Total shareholders' equity 289,579 304,911
------------ ------------
Total liabilities and shareholders' equity $ 2,098,542 $ 2,110,143
============ ============
</Table>
See accompanying notes to consolidated financial statements.
5
FLOWSERVE CORPORATION
(Unaudited)
<Table>
<Caption>
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands) Nine Months Ended September 30,
---------------------------------
2001 2000
------------- -------------
Cash flows - Operating activities:
Net (loss) earnings $ (105) $ 11,498
Adjustments to reconcile net (loss) earnings to net cash (used)
provided by operating activities:
Depreciation 36,752 25,866
Amortization 18,962 8,544
Net gain on the sale of fixed assets (436) (14)
Change in assets and liabilities, net of effects of acquisitions and
dispositions:
Accounts receivable 8,947 (11,369)
Inventories (48,029) (20,781)
Prepaid expenses (2,067) 11,371
Other assets (3,413) (919)
Accounts payable (17,459) (8,045)
Accrued liabilities (56,217) (1,190)
Income taxes (3,199) (5,784)
Post-retirement benefits and deferred items (5,687) 14,515
Net deferred taxes (684) 8,532
------------- -------------
Net cash flows (used) provided by operating activities (72,635) 32,224
------------- -------------
Cash flows - Investing activities:
Capital expenditures (28,345) (16,419)
Disposal of assets 8,453 80
Payment for acquisitions, net of cash acquired -- (786,356)
------------- -------------
Net cash flows used by investing activities (19,892) (802,695)
------------- -------------
Cash flows - Financing activities:
Payments of long-term debt (17,141) (426,706)
Proceeds from long-term debt 86,170 1,271,753
Payment of debt issuance costs -- (46,474)
Proceeds from stock option exercises 9,097 637
------------- -------------
Net cash flows provided by financing activities 78,126 799,210
Effect of exchange rate changes on cash and cash equivalents (3,084) (2,377)
------------- -------------
Net change in cash and cash equivalents (17,485) 26,362
Cash and cash equivalents at beginning of year 42,341 30,463
------------- -------------
Cash and cash equivalents at end of period $ 24,856 $ 56,825
============= =============
</Table>
See accompanying notes to consolidated financial statements.
6
FLOWSERVE CORPORATION
(Unaudited)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except per share data)
1. Accounting Policies - Basis of Presentation
The accompanying consolidated balance sheet as of September 30, 2001, and
the related consolidated statements of income and comprehensive income for the
three months and nine months ended September 30, 2001 and 2000, and the
consolidated statements of cash flows for the nine months ended September 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 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>
September 30, December 31,
2001 2000
------------- -------------
Raw materials $ 61,091 $ 51,981
Work in process
and finished goods 374,632 330,060
Less: Progress
billings (54,408) (38,605)
------------- -------------
381,315 343,436
LIFO reserve (38,074) (37,478)
------------- -------------
Net inventory $ 343,241 $ 305,958
============= =============
Percent of inventory
accounted for by
LIFO 63% 67%
Percent of inventory
accounted for by
FIFO 37% 33%
</Table>
3. Recent Accounting Developments
In July 2001, the Financial Accounting Standards Board (FASB) 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 intangible assets will no longer be
limited to forty years.
7
The Company is currently assessing the impact of SFAS 142 and has not yet
determined the full effects these statements will have on its consolidated
financial position or results of operations. However, the Company has estimated
that the pretax reduction in annual amortization expense will total
approximately $19 million.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations". SFAS No. 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS No. 143 is effective for
the Company on January 1, 2003. The Company is currently assessing the impact of
SFAS No. 143 and has not yet determined the effects, if any, it will have on its
consolidated financial position or results of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". SFAS No. 144 addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
SFAS No. 144 is effective for the Company on January 1, 2002. The Company is
currently assessing the impact of SFAS No. 144 and has not yet determined the
effects, if any, it 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 September 30, 2001, the fair value of the hedging
instruments is a liability of $6.0 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
swap agreement gains for the nine months ended
September 30, 2001, net of deferred taxes of $269 (499)
Reclassify to earnings amount necessary to
offset foreign currency gains for nine
months ended September 30, 2001, net of
deferred taxes of $11 (36)
Change in fair market value of swap
agreements as of September 30, 2001, net of
deferred taxes of $2,285 3,932
Change in fair market value of foreign
currency forward contracts as of September
30, 2001, net of deferred taxes of $690 1,141
-------------
Balance as of September 30, 2001 $ 3,698
=============
</Table>
The Company expects that within the next twelve months it will reclassify
as expense $1.0 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
8
conditions in which the Company can enter into hedging or forward transactions.
As of September 30, 2001, the Company has approximately $58.2 million of
notional amount in outstanding contracts with third parties. As of September 30,
2001, the maximum length of any forward contract currently in place is about 20
months.
The Company does not believe it has any material credit risk due to
nonperformance by counterparties to financial instruments in so far as its
policies in that regard limit counterparties to those with the highest credit
ratings. The Company expects all counterparties will 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 September 30, 2001, the
Company had $150 million of notional amount in outstanding interest rate swaps
with third parties. As of September 30, 2001, the maximum length of any interest
rate contract currently in place is about 5 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 and 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, designated and qualifies as a foreign currency hedge are
recorded in other comprehensive income, since it satisfies the criteria for a
cash flow hedge. As of September 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 inception of the hedge 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.
9
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.
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 secured bank financing and Senior Subordinated Notes (the
"Notes"). Upon closing of the transaction, the Company's existing bank 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 $409.4 million
recorded as goodwill.
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 information 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 Statement of Operations
<Table>
<Caption>
Nine Months Ended
September 30, 2000
------------------
Sales $ 1,418,396
Cost of sales 992,889
-------------
Gross profit 425,507
Selling, general and
administrative expense 342,619
Restructuring and integration
expense 27,572
-------------
Operating income 55,316
Interest expense, net 96,925
Other income, net (944)
-------------
Loss before income taxes (40,665)
Benefit for income taxes (14,639)
-------------
Loss before extraordinary items (26,026)
Extraordinary items, net of
income taxes 2,067
-------------
Net loss $ (28,093)
=============
Net loss per share (basic and diluted):
Before extraordinary items $ (0.69)
Net loss $ (0.74)
Other Financial Data:
Depreciation and amortization $ 58,823
Capital expenditures 21,685
</Table>
Pro forma adjustments include adjustments to reflect obligations and costs
of the seller which were contractually not assumed by the Company and
incremental depreciation and amortization for adjustments of property, plant and
equipment and intangible assets to fair value and goodwill recognized in
purchase accounting. A more detailed explanation of the nature of the pro forma
adjustments can be found in the Form 8-K filed by the Company
10
with the Securities and Exchange Commission on May 31, 2001.
The pro forma information does not purport to represent what the Company's
results of operations actually would have been had the acquisition occurred at
the beginning of fiscal year 2000, 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 1,100 positions. 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.
In the third quarter of 2001, the Company recorded a non-cash reclassification
from the restructuring accrual to pension liabilities which resulted in a net
reduction to the accrual of $2.1 million.
The Company's current estimate of $68 million in restructuring cost is
comprised of approximately $44 million which relates to the IDP operations
acquired, of which $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 the third
quarter of 2000. As part of an agreement with the Department of Justice to
acquire IDP, the Company was required to sell its Tulsa facility. Since this
facility had been previously targeted for closure in the fourth quarter of 1999,
this resulted in a non-cash reduction of the existing 1999 restructuring reserve
of $5.3 million in the third quarter of 2000.
During the first nine months of 2001, the Company also incurred $49.8
million in integration costs in conjunction with this program. The Company
expects to substantially complete its integration activities by the end of 2001.
As of September 30, 2001, the program had resulted in a net reduction of
approximately 1,100 employees.
11
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
Cash expenditures (3,477) (315) (3,792)
Non-cash reduction (2,100) -- (2,100)
------------ ------------ ------------
Balance at September 30, 2001 $ 3,903 $ 5,549 $ 9,452
------------ ------------ ------------
</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.
During the third quarter of 2000, the restructuring reserve was reduced by
$5.3 million. This was the result of plans to sell the aforementioned Tulsa
facility that had been previously targeted for closure.
The 1999 restructuring program resulted in a net reduction of 261 employees
at a cost of $12.9 million. In addition, exit costs associated with the
facilities closings were $3.0 million.
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
Cash expenditures (491) -- (491)
------------ ------------ ------------
Balance at September 30, 2001 $ -- $ -- $ --
------------ ------------ ------------
</Table>
12
7. Earnings Per Share
Basic and diluted earnings per share were calculated as follows:
<Table>
<Caption>
Three Months Three Months
Ended Ended
September 30, September 30,
2001 2000
------------ -------------
Net earnings (loss) $ 5,833 $ (13,001)
------------ ------------
Denominator for basic
earnings per share -
weighted average shares 38,205 37,799
Effect of dilutive
securities 494 --
------------ ------------
Denominator for diluted
earnings per share -
weighted average shares
adjusted for dilutive
securities 38,699 37,799
------------ ------------
Earnings (loss) per share
- basic:
Before extraordinary
items $ 0.15 $ (0.29)
Extraordinary items -- (0.05)
Earnings (loss) per
share $ 0.15 $ (0.34)
------------ ------------
Earnings (loss) per share
- diluted:
Before extraordinary
items $ 0.15 $ (0.29)
Extraordinary items -- (0.05)
Earnings (loss) per
share $ 0.15 $ (0.34)
------------ ------------
</Table>
<Table>
<Caption>
Nine Months Nine Months
Ended Ended
September 30, September 30,
2001 2000
------------- -------------
Net (loss) earnings $ (105) $ 11,498
------------- -------------
Denominator for basic
earnings per share -
weighted average shares 37,986 37,807
Effect of dilutive
securities -- 12
------------- -------------
Denominator for diluted
earnings per share -
weighted average shares
adjusted for dilutive
securities 37,986 37,819
------------- -------------
Earnings (loss) per share
- basic:
Before extraordinary
items $ -- $ 0.35
Extraordinary items -- (0.05)
Earnings per
share $ -- $ 0.30
------------- -------------
Earnings (loss) per share
- diluted:
Before extraordinary
items $ -- $ 0.35
Extraordinary items -- (0.05)
Earnings per
share $ -- $ 0.30
------------- -------------
</Table>
13
Options to purchase 1,095 shares of common stock were outstanding at
September 30, 2001 that were not included in the computation of diluted EPS for
the three month period ended September 30, 2001 because the options' exercise
price was greater than the average market price of the common stock.
For the three months ended September 30, 2000 and the nine months ended
September 30, 2001, the effect of dilutive securities is excluded from the
computation of diluted net loss per share since the Company incurred a net loss
during those periods. Therefore, the amounts reported for basic and diluted net
loss per ordinary share were the same.
Options to purchase 3,743 shares of common stock were outstanding at
September 30, 2000 that were not included in the computation of diluted EPS for
the nine month period ended September 30, 2000 because the options' exercise
price was greater than the average market price of the common stock.
8. 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 September 30, 2001 and the related
statements of income and cash flows for the nine months ended September 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 nine months ended September 30,
2000, 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
(3) Elimination entries necessary to consolidate Flowserve Corporation, the
parent, with Flowserve Finance, B.V., guarantor and nonguarantor
subsidiaries.
Investments in subsidiaries are accounted for by the parent using the
equity method of accounting. The guarantor and nonguarantor 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.
14
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
CONSOLIDATING STATEMENT OF INCOME
For the nine months ended September 30, 2001
(unaudited)
<Table>
<Caption>
Flowserve
Finance Guarantor Nonguarantor Consolidated
Parent B.V. Subsidiaries Subsidiaries Eliminations Total
----------- ----------- ------------ ------------ ------------ -----------
Sales $ -- $ -- $ 876,873 $ 591,326 $ (89,980) $ 1,378,219
Cost of sales -- -- 621,030 401,603 (89,980) 932,653
----------- ----------- ----------- ----------- ----------- -----------
Gross profit -- -- 255,843 189,723 -- 445,566
Selling, general and
administrative expense -- -- 213,455 91,219 -- 304,674
Integration expense -- -- 39,122 10,718 -- 49,840
----------- ----------- ----------- ----------- ----------- -----------
Operating income -- -- 3,266 87,786 -- 91,052
Net interest expense 14,997 1,730 64,752 10,018 -- 91,497
Other (income) expense,
net (579) 2 (22,306) 22,602 -- (281)
Equity in loss of
subsidiaries 9,606 -- -- -- (9,606) --
----------- ----------- ----------- ----------- ----------- -----------
Net (loss) earnings before
income taxes (24,024) (1,732) (39,180) 55,166 9,606 (164)
(Benefit) provision for
income taxes (23,919) -- (14,000) 37,860 -- (59)
----------- ----------- ----------- ----------- ----------- -----------
Net (loss) earnings $ (105) $ (1,732) $ (25,180) $ 17,306 $ 9,606 $ (105)
=========== =========== =========== =========== =========== ===========
</Table>
15
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
CONSOLIDATING STATEMENT OF INCOME
For the nine months ended September 30, 2000
(unaudited)
<Table>
<Caption>
Flowserve
Finance Guarantor Nonguarantor Consolidated
Parent B.V. Subsidiaries Subsidiaries Eliminations Total
------------ ------------ ------------ ------------ ------------ ------------
Sales $ 118,626 $ -- $ 565,437 $ 374,302 $ (61,798) $ 996,567
Cost of sales 86,637 -- 388,598 250,617 (61,798) 664,054
------------ ------------ ------------ ------------ ------------ ------------
Gross profit 31,989 -- 176,839 123,685 -- 332,513
Selling, general and
administrative expense 39,351 -- 135,742 75,344 -- 250,437
Integration expense 4,242 -- 5,844 384 -- 10,470
Restructuring expense 6,846 -- 7,649 2,607 -- 17,102
------------ ------------ ------------ ------------ ------------ ------------
Operating (loss) income (18,450) -- 27,604 45,350 -- 54,504
Net interest expense 7,322 129 25,915 2,946 -- 36,312
Other (income) expense,
net (955) -- (10,996) 9,777 -- (2,174)
Equity in earnings of
subsidiaries (28,225) -- -- -- 28,225 --
------------ ------------ ------------ ------------ ------------ ------------
Net earnings (loss) before
income taxes 3,408 (129) 12,685 32,627 (28,225) 20,366
(Benefit) provision for
income taxes (9,223) -- 5,299 10,725 -- 6,801
------------ ------------ ------------ ------------ ------------ ------------
Net earnings (loss) before
extraordinary items 12,631 (129) 7,386 21,902 (28,225) 13,565
Extraordinary items, net of
tax 1,133 -- 934 -- -- 2,067
------------ ------------ ------------ ------------ ------------ ------------
Net earnings (loss) $ 11,498 $ (129) $ 6,452 $ 21,902 $ (28,225) $ 11,498
============ ============ ============ ============ ============ ============
</Table>
16
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
CONSOLIDATING BALANCE SHEET
September 30, 2001
(unaudited)
<Table>
<Caption>
Flowserve
Finance Guarantor Nonguarantor Consolidated
Parent B.V. Subsidiaries Subsidiaries Eliminations Total
----------- ----------- ----------- ------------ ------------ -----------
Current assets:
Cash and cash equivalents $ -- $ -- $ -- $ 30,319 $ (5,463) $ 24,856
Intercompany receivables 58,250 -- 62,557 87,477 (208,284) --
Accounts receivable, net -- -- 263,552 205,612 -- 469,164
Inventories -- -- 204,805 138,436 -- 343,241
Current deferred tax asset -- -- 39,196 2,211 -- 41,407
Prepaid expenses -- -- 14,821 12,011 -- 26,832
----------- ----------- ----------- ----------- ----------- -----------
Total current assets 58,250 -- 584,931 476,066 (213,747) 905,500
Property, plant and
equipment, net -- -- 203,244 161,524 -- 364,768
Investment in subsidiaries 461,072 -- 500,822 -- (961,894) --
Intercompany receivables 863,770 87,161 17,143 31,065 (999,139) --
Goodwill, net -- -- 429,829 107,171 -- 537,000
Other intangible assets, net -- -- 116,841 16,249 -- 133,090
Other assets 35,144 4,339 108,892 9,809 -- 158,184
----------- ----------- ----------- ----------- ----------- -----------
Total assets $ 1,418,236 $ 91,500 $ 1,961,702 $ 801,884 $(2,174,780) $ 2,098,542
=========== =========== =========== =========== =========== ===========
Current liabilities:
Accounts payable $ 2,277 $ -- $ 73,225 $ 87,135 $ (5,463) $ 157,174
Intercompany payables 15,670 2,207 82,969 107,438 (208,284) --
Income taxes (8,499) -- 11,049 (2,550) -- --
Accrued liabilities 20,758 464 103,994 72,045 -- 197,261
Long-term debt due
within one year 36,611 -- 2 -- -- 36,613
----------- ----------- ----------- ----------- ----------- -----------
Total current
liabilities 66,817 2,671 271,239 264,068 (213,747) 391,048
Long-term debt due after one year 1,068,618 90,011 170 51 -- 1,158,850
Intercompany payables -- 947 858,976 139,216 (999,139) --
Post-retirement benefits and
deferred items -- -- 199,981 59,084 -- 259,065
Shareholders' equity:
Serial preferred stock -- -- -- -- -- --
Common stock 51,856 -- 2 182,331 (182,333) 51,856
Capital in excess of par value 65,624 -- 349,411 72,990 (422,401) 65,624
Retained earnings (deficit) 357,390 (2,075) 283,192 139,904 (421,021) 357,390
----------- ----------- ----------- ----------- ----------- -----------
474,870 (2,075) 632,605 395,225 (1,025,755) 474,870
Treasury stock at cost (83,529) -- -- -- -- (83,529)
Deferred compensation
obligation -- -- 6,778 -- -- 6,778
Accumulated other
comprehensive loss (108,540) (54) (8,047) (55,760) 63,861 (108,540)
----------- ----------- ----------- ----------- ----------- -----------
Total shareholders' equity 282,801 (2,129) 631,336 339,465 (961,894) 289,579
----------- ----------- ----------- ----------- ----------- -----------
Total liabilities and
shareholders' equity $ 1,418,236 $ 91,500 $ 1,961,702 $ 801,884 $(2,174,780) $ 2,098,542
=========== =========== =========== =========== =========== ===========
</Table>
17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
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 784,893 -- 443,092 -- (1,227,985) --
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 $ 1,442,306 $ 94,977 $ 1,806,129 $ 788,077 $ (2,021,346) $ 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 -- -- -- -- -- --
Common stock 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 (deficit) 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 (84,224) (29) (18,227) (142,483) 160,739 (84,224)
------------- ------------- ------------- ------------- ------------- -------------
Total shareholders'
equity 298,367 (372) 949,739 285,166 (1,227,989) 304,911
------------- ------------- ------------- ------------- ------------- -------------
Total liabilities and
shareholders' equity $ 1,442,306 $ 94,977 $ 1,806,129 $ 788,077 $ (2,021,346) $ 2,110,143
============= ============= ============= ============= ============= =============
</Table>
18
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
CONSOLIDATING STATEMENT OF CASH FLOWS
For the nine months ended September 30, 2001
(unaudited)
<Table>
<Caption>
Flowserve
Finance Guarantor Nonguarantor Consolidated
Parent B.V. Subsidiaries Subsidiaries Eliminations Total
----------- ----------- ------------ ------------ ------------ -----------
Cash Flows - Operating Activities:
Net (loss) earnings $ (105) $ (1,732) $ (25,180) $ 17,306 $ 9,606 $ (105)
Adjustments to reconcile net (loss)
earnings to cash (used) provided by
operating activities:
Depreciation -- -- 21,688 15,064 -- 36,752
Amortization -- -- 16,267 2,695 -- 18,962
Net gain on sale of fixed assets -- -- (87) (349) -- (436)
Change in operating assets and liabilities:
Accounts receivable (200) -- (19,361) 28,508 -- 8,947
Inventories (5,759) -- (10,264) (32,006) -- (48,029)
Intercompany receivable and
payable (35,016) 858 47,512 28,999 (42,353) --
Prepaid expenses 877 -- (4,063) 1,119 -- (2,067)
Other assets 7,482 359 27,965 (39,219) -- (3,413)
Accounts payable 4,376 -- (15,275) (9,956) 3,396 (17,459)
Accrued liabilities 13,837 351 (33,770) (36,635) -- (56,217)
Income taxes (13,481) -- 11,779 (1,497) -- (3,199)
Post-retirement benefits and
deferred items (16,982) -- (2,747) 14,042 -- (5,687)
Net deferred taxes (238) -- (2,759) 2,313 -- (684)
----------- ----------- ----------- ----------- ----------- -----------
Net cash used (provided) by
operating activities (45,209) (164) 11,705 (9,616) (29,351) (72,635)
----------- ----------- ----------- ----------- ----------- -----------
Cash Flows - Investing Activities:
Capital expenditures -- -- (16,852) (11,493) -- (28,345)
Disposal of assets -- -- 5,162 3,291 -- 8,453
Change in investments in
subsidiaries (32,748) -- -- -- 32,748 --
----------- ----------- ----------- ----------- ----------- -----------
Net cash flows used by investing
activities (32,748) -- (11,690) (8,202) 32,748 (19,892)
----------- ----------- ----------- ----------- ----------- -----------
Cash Flows - Financing Activities:
Payments on long-term debt (17,311) -- -- 170 -- (17,141)
Proceeds from long-term debt 86,170 -- -- -- -- 86,170
Proceeds from stock option
exercises 9,098 164 -- 797 (962) 9,097
----------- ----------- ----------- ----------- ----------- -----------
Net cash flows provided (used) by
financing activities 77,957 164 -- 967 (962) 78,126
Effect of exchange rate changes on
cash -- -- (15) (3,069) -- (3,084)
----------- ----------- ----------- ----------- ----------- -----------
Net change in cash and cash
equivalents -- -- -- (19,920) 2,435 (17,485)
Cash and cash equivalents at
beginning of year -- -- -- 50,239 (7,898) 42,341
----------- ----------- ----------- ----------- ----------- -----------
Cash and cash equivalents at end of
period $ -- $ -- $ -- $ 30,319 $ (5,463) $ 24,856
=========== =========== =========== =========== =========== ===========
</Table>
19
FLOWSERVE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
CONSOLIDATING STATEMENT OF CASH FLOWS
For the nine months ended September 30, 2000
(unaudited)
<Table>
<Caption>
Flowserve
Finance Guarantor Nonguarantor Consolidated
Parent B.V. Subsidiaries Subsidiaries Eliminations Total
----------- ----------- ------------ ------------ ------------ ------------
Cash Flows - Operating Activities:
Net earnings (loss) $ 11,498 $ (128) $ 6,452 $ 21,901 $ (28,225) $ 11,498
Adjustments to reconcile net earnings
to cash (used) provided by operating
activities:
Depreciation 4,698 -- 13,319 7,849 -- 25,866
Amortization 351 -- 6,248 1,945 -- 8,544
Net (gain) loss on sale of fixed
assets -- -- 87 (101) -- (14)
Change in operating assets and liabilities,
net of effects of acquisitions and
dispositions:
Accounts receivable (6,501) -- (7,788) 2,920 -- (11,369)
Inventories 9,271 -- (30,143) 91 -- (20,781)
Intercompany receivable and
payable (632,814) (82,183) 399,184 (258,785) 574,598 --
Prepaid expenses (2,121) -- 1,599 16,533 (4,640) 11,371
Other assets 28,421 (4,671) (6,580) (18,089) -- (919)
Accounts payable (1,177) -- 1,254 (6,598) (1,524) (8,045)
Accrued liabilities 12,071 38 19,588 (32,887) -- (1,190)
Income taxes (4,750) -- (810) (1,444) 1,220 (5,784)
Post-retirement benefits and
deferred items 16,862 -- (2,074) (273) -- 14,515
Net deferred taxes -- -- 14,605 (6,073) -- 8,532
----------- ----------- ----------- ----------- ----------- -----------
Net cash (used) provided by operating
activities (564,191) (86,944) 414,941 (273,011) 541,429 32,224
----------- ----------- ----------- ----------- ----------- -----------
Cash Flows - Investing Activities:
Capital expenditures (5,650) -- (5,263) (5,506) -- (16,419)
Disposal of assets -- -- 59 21 -- 80
Payments for acquisitions, net of
cash acquired (560,312) -- (226,044) -- -- (786,356)
----------- ----------- ----------- ----------- ----------- -----------
Net cash flows used in investing
activities (565,962) -- (231,248) (5,485) -- (802,695)
----------- ----------- ----------- ----------- ----------- -----------
Cash Flows - Financing Activities:
Net (repayments) borrowings of
short-term debt 4,396 -- (90) (4,306) -- --
Payment on long-term debt (148,108) -- (278,598) -- -- (426,706)
Proceeds from long-term debt 1,184,804 86,949 -- -- -- 1,271,753
Payment of debt issuance costs (46,474) -- -- -- -- (46,474)
Proceeds from stock option
exercises 637 -- -- -- -- 637
Other activity 134,898 -- 94,106 312,033 (541,037) --
----------- ----------- ----------- ----------- ----------- -----------
Net cash flows provided (used) by
financing activities 1,130,153 86,949 (184,582) 307,727 (541,037) 799,210
Effect of exchange rate changes on cash -- (5) -- (2,372) -- (2,377)
Net change in cash and cash equivalents -- -- (889) 26,859 392 26,362
Cash and cash equivalents at beginning
of year -- -- 889 29,966 (392) 30,463
----------- ----------- ----------- ----------- ----------- -----------
Cash and cash equivalents at end of
period $ -- $ -- $ -- $ 56,825 $ -- $ 56,825
=========== =========== =========== =========== =========== ===========
</Table>
20
9. 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 and restructuring expenses (special items), interest
expense, other income or expense, income taxes and extraordinary items.
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 Consolidated
Three months ended September 30, 2001 Pump Solutions Flow Control All Other Total
------------ ------------ ------------ ------------ ------------
Sales to external customers $ 245,927 $ 152,508 $ 69,828 $ 1,342 $ 469,605
Intersegment sales 1,892 5,845 1,864 (9,601) --
Segment operating income (before special
items) 26,979 23,491 8,509 (7,663) 51,316
</Table>
<Table>
<Caption>
Flowserve Flow Consolidated
Three months ended September 30, 2000 Pump Solutions Flow Control All Other Total
------------ ------------ ------------ ------------ ------------
Sales to external customers $ 194,270 $ 146,881 $ 69,332 $ 1,622 $ 412,105
Intersegment sales 5,539 2,635 2,215 (10,389) --
Segment operating income (before special items) 17,287 17,314 7,493 (7,837) 34,257
</Table>
A reconciliation of total segment operating income before special items to
consolidated earnings before income taxes follows:
<Table>
<Caption>
Three Months Ended September 30,
2001 2000
-------------- ---------------
Total segment operating income (before special items) $ 58,979 $ 42,094
Corporate expenses and other 7,663 7,837
Integration expense 13,757 10,470
Restructuring expense -- 17,102
Net interest expense 28,326 23,423
Other expense 119 299
------------ ------------
Net earnings (loss) before income taxes $ 9,114 $ (17,037)
============ ============
</Table>
21
<Table>
<Caption>
Flowserve Flow Flow Consolidated
Nine months ended September 30, 2001 Pump Solutions Control All Other Total
------------------------------------ ----------- ----------- ----------- ------------ -----------
Sales to external customers $ 706,530 $ 464,248 $ 203,577 $ 3,864 $ 1,378,219
Intersegment sales 4,621 16,483 6,015 (27,119) --
Segment operating income (before special
items) 74,952 64,197 25,383 (23,640) 140,892
Identifiable assets $ 1,349,641 $ 456,675 $ 218,938 $ 73,288 $ 2,098,542
</Table>
<Table>
<Caption>
Flowserve Flow Flow Consolidated
Nine months ended September 30, 2000 Pump Solutions Control All Other Total
------------------------------------ ------------ ------------ ------------ ------------ ------------
Sales to external customers $ 347,123 $ 445,614 $ 199,086 $ 4,744 $ 996,567
Intersegment sales 8,431 12,334 7,663 (28,428) --
Segment operating income (before special
items) 27,395 52,664 23,688 (21,671) 82,076
Identifiable assets $ 1,342,266 $ 419,302 $ 203,168 $ 81,536 $ 2,046,272
</Table>
A reconciliation of total segment operating income before special items to
consolidated (loss) earnings before income taxes follows:
<Table>
<Caption>
Nine Months Ended September 30,
2001 2000
------------ ------------
Total segment operating income (before special items) $ 164,532 $ 103,747
Corporate expenses and other 23,640 21,671
Integration expense 49,840 10,470
Restructuring expense -- 17,102
Net interest expense 91,497 36,312
Other income (281) (2,174)
------------ ------------
Net (loss) earnings before income taxes $ (164) $ 20,366
============ ============
</Table>
22
Item 2. Management's Discussion and Analysis
In general, results for the third quarter of 2001 and the nine months ended
September 30, 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. Pro
forma results referenced throughout this discussion give effect as if the
Company's August 2000 acquisition of IDP had been completed on January 1, 2000
and includes purchase accounting adjustments and estimated financing costs.
Special items in 2001 include integration expense. Special items in 2000 include
integration expense, restructuring expense and extraordinary items.
Results Of Operations - Three Months Ended September 30, 2001
Sales increased 14.0% to $469.6 million for the three months ended
September 30, 2001, compared with $412.1 million for the same period in 2000.
Sales were about flat with the third quarter of 2000 pro forma sales of $470.5
million. Sales were positively impacted by higher bookings during the quarter
and a strong backlog. However, sales were negatively impacted by the disruption
following the September 11th terrorist attacks, which caused a reduction in
quick turnaround business, inability to ship due to delays in customer travel
for witness inspections, and supplier and other shipping delays. Additionally,
sales were impacted by an unfavorable currency translation of approximately
1.6%, weaker conditions in the chemical and general industry sectors, 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., increased sequentially from the previous quarter to 48%, but were
similar to the third quarter of 2000.
Bookings, or incoming orders for which there are purchase commitments, were
$485.6 million, 21.7% higher than the third quarter of 2000 when bookings were
$399.2 million. Excluding negative currency translation, bookings increased
approximately 7.3% compared with last year's third quarter pro forma of $461.1
million. This reflects the second consecutive quarter-over-quarter improvement
in bookings. The improvement reflects strength in the petroleum, power and water
markets during the quarter. Bookings activity in the chemical and general
industrial segments of the business was soft throughout the quarter. Bookings
might have improved further absent the adverse impact of the September 11th
events. The quick turnaround business, including MRO, manual valves, parts,
seals and ISO and ANSI pump bookings, slowed after the terrorist attacks as many
of the Company's customers instituted tighter security measures at their plant
sites. At September 30, 2001, backlog was $756.4 million, an increase of 2.4%
compared with the second quarter and an increase of 14.7% 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 special items for each of the three
business segments are:
<Table>
<Caption>
Flowserve Pump Division
------------------------------
Three Months Ended
September 30,
(In millions of dollars) 2001 2000
------------ ------------
Sales $ 247.8 $ 199.8
Operating income (before
special items) 27.0 17.3
</Table>
23
The sales increase in 2001 was due to the acquisition of IDP. On a pro
forma basis, revenues were $243.6 million in the third quarter of 2000. FPD
sales improved over pro forma levels despite impacts of negative currency of
1.7% and the September 11th terrorist attacks, largely due to higher bookings
and a larger backlog at the beginning of the quarter. After the September 11th
terrorist attacks, there was a reduction in quick turnaround business, an
inability to ship due to delays in customer travel for witness inspections, and
supplier and other shipping delays.
Operating income, before special items, increased 56.1% to $27.0 million
from the prior period of $17.3 million, and 169.8% from pro forma results of
$10.0 million. Operating income as a percentage of sales increased to 10.9% in
2001 from 8.7% in the prior year period and 4.1% 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
September 30,
------------------------------
(In millions of dollars) 2001 2000
----------------------------- --------------- --------------
Sales $ 158.4 $ 149.5
Operating income (before
special items) 23.5 17.3
</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
$164.1 million in the third quarter of 2000. The decrease from pro forma sales
was due to unfavorable currency translation of 1.4%, the slowdown in quick
turnaround business after the September 11th terrorist attacks and the closure
or sale of several service operations.
Operating income before special items of $23.5 million increased 35.5%
compared with prior year and 16.2% compared with pro forma results. Operating
income before special items, as a percentage of sales, increased to 14.8% from
11.6% 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
September 30,
------------------------------
(In millions of dollars) 2001 2000
----------------------------- --------------- --------------
Sales $ 71.7 $ 71.5
Operating income (before
special items) 8.5 7.5
</Table>
Sales increased slightly over the prior year despite an unfavorable
currency translation which reduced sales by about 1.4%, and the slowdown in
quick turnaround manual valve sales after the September 11th events.
Operating income of $8.5 million improved from the prior year. Operating
income as a percentage of sales was 11.9% in the third quarter of 2001, compared
with 10.5% in 2000. The improvement in profitability reflects the impact of
continued efficiency improvements, which resulted in cost reductions.
Consolidated Results
Gross profit of $152.3 million increased 8.8% compared with the prior year
period on a pro forma basis despite relatively flat sales. Gross profit
increased 17.1% compared with the same prior year period as reported. The gross
profit margin was 32.4% for the three months ended September 30, 2001, compared
with 31.6% for the same period in 2000. The Company's margin increased 260 basis
points when compared to the third quarter 2000 pro forma margin of 29.8%. This
improvement primarily resulted from manufacturing integration synergies.
Selling, general and administrative expense of $101.0 million declined 8.3%
from the prior year period pro forma. Selling, general and administrative
expense, as a percentage of net
24
sales, was 21.5% for the quarter ended September 30, 2001, compared with 23.3%
in the prior year period and 23.4% in 2000 on a pro forma basis. The decrease
from the prior year percentages was generally due to IDP integration savings
including benefits of sales force reductions and the closure of the IDP
headquarters.
Operating income increased more than 450 percent to $37.6 million in the
third quarter of 2001 compared with $6.7 million in the year ago period.
Operating income, before special items of $51.3 million, increased 49.8% over
reported and 71.9% over pro forma quarterly comparisons. The improvement
principally reflects synergy benefits related to the acquisition and integration
of IDP.
Net interest expense during the third quarter of 2001 was $28.3 million,
compared with $23.4 million in the same period in 2000 due to a full quarter of
debt related to the acquisition of IDP in this year's third quarter compared
with only about two months in last year's third quarter, partially offset by
lower interest rates on the Company's debt.
The Company's effective tax rate for the third quarter of 2001 was 36.0%
compared with 35.8% in the third quarter of 2000.
Extraordinary items in 2000 of $2.1 million, net of tax of $1.2 million,
represent the after tax impact of writing off deferred financing fees and
prepayment penalties associated with refinancing the Company's debt in
conjunction with the IDP acquisition.
Earnings before special items more than doubled in the third quarter of
2001 to $14.6 million, or $0.38 per share. This compares with earnings before
special items of $6.7 million, or $0.18 per share, in the third quarter of 2000
and a pro forma loss, before special items, of $3.6 million, or $0.10 per share,
in the same period. Special items of $13.8 million in the third quarter of 2001
related to period costs associated with the integration of IDP. Special items in
2000 related to integration expenses, restructuring expenses and extraordinary
items. Net earnings for the third quarter of 2001 were $5.8 million, or $0.15
per share, compared to a loss of $13.0 million, or $0.34 per share, for the same
period in 2000 and a pro forma loss of $23.3 million, or $0.62 per share, in the
same period.
Results Of Operations - Nine Months Ended September 30, 2001
Sales increased 38.3% to $1,378.2 million for the nine months ended
September 30, 2001, compared with $996.6 million for the same period in 2000.
Pro forma sales in 2000, which include the results of IDP, were $1,418.4
million. Sales for 2001 compared to the prior year on a pro forma basis were
adversely affected by an unfavorable currency translation of approximately 2.4%,
inefficiencies resulting from the integration of IDP, the divestiture of product
lines in late 2000 to comply with the Department of Justice consent decree to
acquire IDP and the closure or sale of several service operations. Additionally,
sales in the third quarter of 2001 were adversely impacted by the disruption
following the September 11th terrorist attack, which caused a reduction in quick
turnaround business, an inability to ship due to delays in customer travel for
witness inspections, and supplier and other shipping delays. 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 46%.
Bookings, or incoming orders for which there are purchase commitments, were
$1,522.7 million, or 49.4%, higher than the prior year when bookings were
$1,019.3 million. Pro forma bookings in the prior year were $1,534.5 million.
Excluding negative currency impacts, bookings increased 1.7% compared with pro
forma results. 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 the chemical and general industrial
markets. Bookings might have improved further had it not been for the adverse
impact of the
25
September 11th events. The quick turnaround business, including MRO, manual
valves, parts, seals and ISO and ANSI pump bookings, slowed after the terrorist
attacks as many of the Company's customers instituted tighter security measures
at their plant sites. Backlog was $756.4 million at September 30, 2001, an
increase of 14.7% compared with year end 2000.
Business Segments
Sales and operating income before special items for each of the three
business segments are:
<Table>
<Caption>
Flowserve Pump Division
------------------------------
Nine Months Ended
September 30,
------------------------------
(In millions of dollars) 2001 2000
----------------------------- --------------- --------------
Sales $ 711.2 $ 355.6
Operating income (before
special items) 75.0 27.4
</Table>
The sales increase in 2001 was due to the acquisition of IDP. On a pro
forma basis, revenues were $731.9 million in 2000. The sales decrease on a pro
forma basis resulted from unfavorable currency translation, which reduced sales
by about 2.8% year-over-year, the September 11th events, which delayed witness
inspections and supplier deliveries, temporary inefficiencies associated with
the integration of IDP in the first half of the year, and divestiture of product
lines in late 2000 to comply with the Department of Justice consent decree.
Operating income, before special items, increased 173.6% from prior period
results of $27.4 million and 263.7% from pro forma results of $20.6 million.
Operating income, before special items, as a percentage of sales, increased to
approximately 10.5% in 2001 from 7.7% in the prior year period and 2.8% 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
------------------------------
Nine Months Ended
September 30,
------------------------------
(In millions of dollars) 2001 2000
----------------------------- --------------- --------------
Sales $ 480.7 $ 457.9
Operating income (before
special items) 64.2 52.7
</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
$503.4 million in 2000. The decrease from pro forma sales is due to unfavorable
currency translation of 1.8%, the reduction in quick turnaround seal shipments
after the September 11th events, the closure or sale of several service
operations and temporary integration dissynergies in the first half of 2001.
Operating income, before special items of $64.2 million, was 21.8% above
prior year results and 6.5% above pro forma results. Operating income before
special items, as a percentage of sales, increased to 13.4% from 11.5% in 2000
on an as reported basis and 12.0% 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 restructuring of
the seal business in the first half of the year.
<Table>
<Caption>
Flow Control Division
------------------------------
Nine Months Ended
September 30,
------------------------------
(In millions of dollars) 2001 2000
----------------------------- --------------- --------------
Sales $ 209.6 $ 206.7
Operating income (before
special items) 25.4 23.7
</Table>
Sales increased slightly over the prior year despite an unfavorable
currency translation, which reduced sales by about 2.3% and the slowdown in
quick turnaround manual valve sales after the September 11th events.
26
Operating income of $25.4 million increased 7.1% compared with the prior
year. Operating income as a percentage of sales was 12.1% in the first nine
months of 2001, compared with 11.5% in 2000. The improved operating margin in
2001 was primarily due to efficiency improvements, which resulted in cost
reductions
Consolidated Results
The gross profit of $445.6 million increased 4.7% compared with the prior
year period on a pro forma basis despite a 2.8% reduction in sales. The gross
profit increased 34.0% from the prior year as reported reflecting the IDP
acquisition. The gross profit margin was 32.3% for the nine months ended
September 30, 2001, compared with 33.4% for the same period in 2000. The
decrease was primarily due to the acquisition of IDP as IDP's margins
historically are lower than those for the balance of the Company. The Company's
margin increased 230 basis points when compared to the 2000 pro forma margin of
30.0%. This improvement primarily resulted from manufacturing integration
synergies.
Selling, general and administrative expense of $304.7 million declined
11.0% from the prior year pro forma. Selling, general and administrative expense
as a percentage of net sales was 22.1% for the nine months ended September 30,
2001, compared with 25.1% in the prior year period and 24.2% in 2000 on a pro
forma basis. The decrease from the prior year percentages is due to IDP
integration savings, including sales force reductions and the IDP headquarters
closure, productivity improvements and other cost reduction initiatives.
Operating income before special items of $140.9 million increased 71.7%
over reported and 70.0% 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 nine months of 2001 was $91.5
million, compared with $36.3 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. Net interest expense has
declined in each of the past three quarters due to lower borrowing rates. More
than one-half of the debt is floating rate and the effective borrowing rates
have declined.
Other income was $0.3 million in the first nine months of 2001 compared
with $2.2 million of income in the same period in 2000. The 2000 amounts
resulted primarily from income recorded as a result of payment received on a
note receivable which had been fully reserved and mark-to-market adjustments
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 nine months of 2001 was 36%
compared with 32.9% in the prior year period. The increased tax rate reflects
the acquisition of IDP which has a higher mix of business in higher taxed
foreign countries.
Extraordinary items in 2000 of $2.1 million, net of tax of $1.2 million,
represent the after tax impact of writing off deferred financing fees and
prepayment penalties associated with refinancing the Company's debt in
conjunction with the IDP acquisition.
Earnings before special items for the first nine months of 2001 were $31.8
million, or $0.83 per share, compared with a loss of $8.4 million, or $0.22 per
share, in the same period of 2000 on a pro forma basis. Special items of $49.8
million in 2001 related to period costs associated with the integration of IDP.
Special items in 2000 related to integration expenses, restructuring expenses,
and extraordinary items. Net earnings for the first nine months of 2001 were a
loss of $0.1 million, or $0.00 per share, compared to income of $11.5 million,
or $0.30 per share, for the same period in 2000.
27
Restructuring
In August 2000, in conjunction with the acquisition of IDP, the Company
initiated a restructuring program designed to reduce costs and 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 1,100 positions and are expected to result in at
least $90 million in annual synergy savings upon estimated completion before the
end of 2001. The Company expects the cost of achieving these synergies will be
approximately $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.
In the third quarter of 2001, the Company recorded a non-cash reclassification
from the restructuring accrual to pension liabilities which resulted in a net
reduction to the accrual of $2.1 million.
The Company's current estimate of $68 million in restructuring cost is
comprised of approximately $44 million which relates to the IDP operations
acquired, of which $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 the third
quarter of 2000. As part of an agreement with the Department of Justice to
acquire IDP, the Company was required to sell its Tulsa facility. Since this
facility had been previously targeted for closure in the fourth quarter of 1999,
this resulted in a non-cash reduction of the existing 1999 restructuring
reserve of $5.3 million in the third quarter of 2000.
The balance of the $150 million in costs will be recorded as integration
expense as incurred. During the first nine months of 2001, the Company incurred
$49.8 million in integration costs in conjunction with this program. The Company
expects the integration activities will be substantially complete by the end of
2001.
As of September 30, 2001, the program had resulted in a net reduction of
approximately 1,100 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
Cash expenditures (3,477) (315) (3,792)
Non-cash reduction (2,100) -- (2,100)
------------ ------------ ------------
Balance at September 30, 2001 $ 3,903 $ 5,549 $ 9,452
============ ============ ============
</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.
During the third quarter of 2000, the restructuring reserve was reduced by
$5.3 million. This was the result of plans to sell the aforementioned Tulsa
facility that had been previously targeted for closure.
28
The 1999 restructuring program resulted in a net reduction of approximately
261 employees at a cost of $12.9 million. In addition, exit costs associated
with the facilities closings were $3.0 million.
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
Cash expenditures (491) -- (491)
------------ ------------ ------------
Balance at
September 30, 2001 $ -- $ -- $ --
============ ============ ============
</Table>
Liquidity and Capital Resources
Cash flows from operating activities for the first nine months of 2001 were
significantly below the same period in 2000, generally due to cash outflows
associated with the IDP integration program, including restructuring and
integration payments, higher interest payments attributable to the August 2000
acquisition of IDP and other increases in working capital. The primary reason
for other increases in working capital was an increase in inventories in support
of backlog for future shipments and increased finished goods safety stock to
meet customer deliveries during the plant closure process.
For the nine months ended September 30, 2001, the Company increased its
bank borrowings by $69.1 million, primarily to fund integration expenses and
increases in working capital. The Company believes that a portion of this
increase in working capital is seasonal in nature. The Company expects that
completion of its restructuring and integration program in the fourth quarter of
2001 as well as other projects should reduce such increases over time.
Capital expenditures were $28.3 million during the first nine months of
2001, compared with $16.4 million in the first nine months of 2000. The spending
was primarily related to integration activities including structures,
realignment and equipment required at receiving facilities and product
development. Cash proceeds on the disposal of assets associated with the IDP
integration activities were $8.5 million for the first nine months of 2001.
On July 5, 2001, the Company filed a Form S-3 Registration Statement with
the SEC utilizing a shelf registration process for the offering and sale of up
to $500 million of common stock, preferred stock, debt securities or guarantees
of debt securities. On November 2, 2001, the Company announced its intention to
issue approximately $150 million of common stock. Proceeds from the equity
issuance will be used to repay the 12.25% Senior Subordinated Notes, subject to
receipt of a consent from lenders of the Company's senior bank credit
facilities.
Financing
During the third quarter of 2000, in connection with the acquisition of
IDP, the Company entered into senior secured credit facility (the "Credit
Facility"), which included a $275 million term loan due June 2006, a $475
million term loan due June 2008, and a $300 million revolving Credit Facility
with a final maturity of June 2006. The Term Loans bear interest based on LIBOR
plus a credit spread, or the Prime Rate plus a credit spread, at the option of
the Company. At September 30, 2001, the interest rate(s) on the term loans were
6.3125%, 6.25%, 5.4375% and 5.375% relating to the Tranche A loan and 7.0625%,
7.0% and 6.1875% relating to the Tranche B loan. The scheduled quarterly
principal payments
29
for these term loans began in June 2001. The Credit Facilities are
collateralized by the domestic assets of the Company and a pledge of 65% of the
stock of the foreign subsidiaries. As of September 30, 2001, $86.0 million of
the revolving credit was drawn and $732.8 million of the term loans were
outstanding. The revolving Credit Facility allows the Company to issue up to
$200 million in letters of credit. As of September 30, 2001, $25.7 million of
letters of credit had been issued under the facility.
The scheduled principal payments of the term loans outstanding at September
30, 2001 are summarized as follows: $5.9 million in the fourth quarter of 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 Facility as well as the
Company's Indenture, to reduce the outstanding principal of the term loans
and/or the Notes.
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. Beginning in August 2005, the Company
has the right to redeem the Notes at a fixed redemption price. The Notes can
also be redeemed by the Company under certain circumstances and have a mandatory
redemption feature in the event of a change in control, as defined in the
Indenture. Interest on the notes is payable semi-annually.
The provisions of the credit agreement require the Company to meet or
exceed specified defined financial covenants. These covenants include a leverage
ratio, an interest coverage ratio, and a fixed charge coverage ratio. Further,
the provisions of the credit agreement require limitations or restrictions on
indebtedness, liens, sale and leaseback transactions, asset sales, limitation of
restricted payments, capital expenditures and other customary restrictions. As
of September 30, 2001, the Company is in compliance with these covenants.
The Company currently believes that internally generated funds and funds
available under its bank agreement will be adequate to fund capital
expenditures, working capital needs, service debt and make loan repayments. The
Company believes it also has access to additional sources of funds in the event
that such funds are required.
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 secured bank financing and Senior Subordinated Notes. Upon
closing of the transaction, the Company's existing bank debt was also
refinanced.
Recent Accounting Developments
In July 2001, the Financial Accounting Standards Board (FASB) 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
30
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 142 and has not yet
determined the full effects these statements will have on its consolidated
financial position or results of operations. However, the Company has estimated
that the pretax reduction in annual amortization expense will total
approximately $19 million.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations". SFAS No. 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS No. 143 is effective for
the Company on January 1, 2003. The Company is currently assessing the impact of
SFAS No. 143 and has not yet determined the effects, if any, it will have on its
consolidated financial position or results of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". SFAS No. 144 addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
SFAS No. 144 is effective for the Company on January 1, 2002. The Company is
currently assessing the impact of SFAS No. 144 and has not yet determined the
effects, if any, it will have on its consolidated financial position or results
of operations.
31
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: changes in the financial markets; 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, water treatment and power generation industries; economic conditions
and the extent of economic growth in areas inside and outside 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; the recognition of remaining expenses associated with
adjustments to realign the combined Company and IDP 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; repercussions from
the terrorist attacks of September 11, 2001, and the response of the United
States to those attacks; technological developments in the Company's products as
compared to those of its competitors; changes in prevailing interest rates and
the effective interest costs which the Company bears; and adverse changes in the
regulatory climate and other legal obligations imposed on the Company. The
Company undertakes no obligation to publicly update or revise any
forward-looking statement as a result of new information, future events or
otherwise.
32
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 impacted by changes in short-term interest rates
as a result of borrowings under its Credit Facility which bear interest based on
floating rates. At September 30, 2001, after the effect of interest rate swaps
held by the Company, the Company had approximately $668.9 million of
variable-rate debt obligations outstanding with a weighted average interest rate
of 6.330%. A hypothetical increase of 100-basis points in the interest rate for
these borrowings, assuming debt levels at September 30, 2001, would change
interest expense by approximately $5.0 million for the nine months ended
September 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 September 30, 2001, a 10% adverse change in the foreign currency
exchange rates would impact the Company's year-to-date results of operation by
$0.9 million. The primary currencies to which the Company has exposure are the
Euro currencies, the U.K. 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 September 30, 2001, the fair value of the hedging
instruments is a liability of $6.0 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 swap agreement gains for the nine
months ended September 30, 2001, net of
deferred taxes of $269 (499)
Reclassify to earnings amount necessary to
offset foreign currency gains for nine
months ended September 30, 2001, net of
deferred taxes of $11 (36)
Change in fair market value of swap
agreements as of September 30, 2001, net of
deferred taxes of $2,285 3,932
Change in fair market value of foreign
currency forward contracts as of September
30, 2001, net of deferred taxes of $690 1,141
---------
Balance as of September 30, 2001 $ 3,698
=========
</Table>
33
The Company expects that within the next twelve months it will reclassify
as expense $1.0 million, net of deferred tax, of this 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
September 30, 2001, the Company has approximately $58.2 million of notional
amount in outstanding contracts with third parties. As of September 30, 2001,
the maximum length of any forward contract currently in place is about 20
months.
The Company does not believe it has any material credit risk due to
nonperformance by counterparties to financial instruments in so far as its
policies in that regard limit counterparties to those with the highest credit
ratings. The Company expects all counterparties will 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 September 30, 2001, the
Company had $150 million of notional amount in outstanding interest rate swaps
with third parties. As of September 30, 2001, the maximum length of any interest
rate contract currently in place is about 5 years.
PART II OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds
(c) During the third quarter of 2001, the Company issued 12,500 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 key employees, subject to restrictions on transfer and vesting.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
None
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: November 2, 2001
-----------------------
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