1
Exhibit 13.1
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
REPORTABLE SEGMENT INFORMATION
- ------------------------------
Financial Accounting Standards (SFAS) No. 131, Disclosures about Segments of an
Enterprise and Related Information, was adopted by the Company effective May 31,
1999. This Standard requires disclosure of segment information using the
management approach, or the basis used internally to evaluate operating
performance and to decide resource allocations.
The Company has determined that it has two such operating segments - Industrial
and Consumer - based on the nature of business activities, products and
services; the structure of management and the structure of information as
presented to the Board of Directors. Within each Division, individual operating
companies or groups of companies generally address common markets, utilize
similar technologies, and can share manufacturing or distribution capabilities.
The Company evaluates the profit performance of the two Divisions based on
earnings before interest and taxes (EBIT), since interest expense is essentially
related to corporate acquisitions, as opposed to segment operations.
The Industrial Division includes the following main product lines:
- - Stonhard commercial and industrial flooring systems
- - Tremco roofing systems
- - Carboline high-performance corrosion control coatings
- - Vulkem, DYmeric and Monile sealants
- - Dryvit Exterior Insulation Finishing Systems (EIFS)
- - Day-Glo fluorescent pigments
- - Plasite specialty coatings
- - Fibergrate floor grating
- - TCI powder coatings
- - Alumanation roof coatings
- - American Emulsions textile specialties
- - Kop-Coat wood treatments for lumber mills
- - Euco concrete and masonry specialty products
The Industrial Division has operations throughout North America and accounts for
most of RPM's sales in Europe, South America, Asia, South Africa, Australia and
the Middle East. The industrial product line is primarily sold to distributors,
contractors and to end users, such as industrial manufacturing facilities,
educational and governmental institutions and commercial establishments.
Industrial Division products reach their markets through a combination of direct
sales, sales representative organizations, distributor sales and sales by
licensees and joint ventures.
The Consumer Division consists of the following main product lines:
- - Rust-Oleum rust-preventative, decorative and general purpose coatings
- - Zinsser primer-sealers, wallcovering removal and preparation products and
mildew-resistant coatings
- - Bondo auto and home repair materials
- - Flecto interior wood stains and finishes
- - Wolman deck care products
- - Bondex patch and repair products
- - Testors hobby and leisure products
- - Mohawk and Star furniture refinishing products
- - Westfield Coatings and Chemical Coatings furniture finishes
As of August 3, 1999, DAP sealants, caulks and other products are included in
the Consumer Division.
The Consumer Division's products are sold throughout North America by home
centers, hardware stores, paint stores, automotive supply stores and craft
shops. Major customers include The Home Depot, Lowe's Home Centers, Wal-Mart,
Kmart, Sherwin-Williams, Ace Hardware Stores and Cotter & Company. Consumer
Division products are sold to retailers through a combination of direct sales,
sales representative organizations and distributor sales.
In addition to the two operating segments, there are certain business
activities, referred to as Corporate/Other, that do not constitute an operating
segment, including corporate headquarters and related administrative expenses,
results of the Company's captive insurance company, gains or losses on the sales
of certain assets and other expenses not directly associated with either
operating segment. Related assets consist primarily of investments, prepaid
expenses, deferred pension assets, and headquarters property and equipment.
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These corporate and other assets and expenses reconcile operating segment data
to total consolidated net external sales, EBIT, identifiable assets, capital
expenditures, and depreciation and amortization, as follows:
- ----------------------------------------------------------------------------------------------------
May 31
---------------------------------------------------
(In thousands) 1999 1998 1997
====================================================================================================
Net External Sales
Industrial Division $ 1,052,825 $ 998,069 $ 768,159
Consumer Division 659,329 616,836 582,028
Corporate/Other 369 350
- ----------------------------------------------------------------------------------------------------
Total $ 1,712,154 $ 1,615,274 $ 1,350,537
====================================================================================================
Earnings Before Interest and Taxes (EBIT)
Industrial Division $ 135,632 $ 125,537 $ 93,670
Consumer Division 71,294 74,435 80,204
Corporate/Other (14,548) (13,716) (5,566)
- ----------------------------------------------------------------------------------------------------
Total $ 192,378 $ 186,256 $ 168,308
====================================================================================================
Identifiable Assets
Industrial Division $ 1,102,531 $ 1,035,419 $ 978,645
Consumer Division 586,846 586,864 581,273
Corporate/Other 47,859 63,634 73,310
- ----------------------------------------------------------------------------------------------------
Total $ 1,737,236 $ 1,685,917 $ 1,633,228
====================================================================================================
Capital Expenditures
Industrial Division $ 35,779 $ 32,813 $ 13,315
Consumer Division 26,648 26,490 21,190
Corporate/Other 979 1,040 1,320
- ----------------------------------------------------------------------------------------------------
Total $ 63,406 $ 60,343 $ 35,825
====================================================================================================
Depreciation and Amortization
Industrial Division $ 32,668 $ 29,607 $ 24,974
Consumer Division 28,387 27,225 25,473
Corporate/Other 1,080 177 698
- ----------------------------------------------------------------------------------------------------
Total $ 62,135 $ 57,009 $ 51,145
====================================================================================================
As the Company is segmented based on differences in products and services, the
following illustrates enterprise-wide geographic information, based on shipping
location:
- ----------------------------------------------------------------------------------------------------
May 31
---------------------------------------------------
(In thousands) 1999 1998 1997
====================================================================================================
Net External Sales
United States $ 1,320,410 $ 1,303,032 $ 1,149,348
- ----------------------------------------------------------------------------------------------------
Foreign
Canada 145,123 102,317 50,983
Europe 175,741 151,376 115,299
Other Foreign 70,880 58,549 34,907
- ----------------------------------------------------------------------------------------------------
Total Foreign 391,744 312,242 201,189
- ----------------------------------------------------------------------------------------------------
Total $ 1,712,154 $ 1,615,274 $ 1,350,537
====================================================================================================
Assets Employed
United States $ 1,445,599 $ 1,436,557 $ 1,412,157
- ----------------------------------------------------------------------------------------------------
Foreign
Canada 88,965 82,040 74,652
Europe 144,636 127,552 114,350
Other Foreign 58,036 39,768 32,069
- ----------------------------------------------------------------------------------------------------
Total Foreign 291,637 249,360 221,071
- ----------------------------------------------------------------------------------------------------
Total $ 1,737,236 $ 1,685,917 $ 1,633,228
====================================================================================================
The above sales do not include unconsolidated sales of Company products by
licensees or minority-owned joint ventures of approximately $72 million, $88
million, and $105 million for the years ended in 1999, 1998, and 1997,
respectively. Export sales amounted to less than 10% of total consolidated
revenue for each of the three years presented.
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RESULTS OF OPERATIONS
- ---------------------
FISCAL 1999 COMPARED TO FISCAL 1998
The Company achieved its 52nd consecutive record year of sales and earnings in
the 1999 fiscal year. Sales grew 6%, to $1.7 billion, while earnings grew 8%, to
$94.5 million.
Effective February 1, 1999, the Company acquired the remaining 50% of The Euclid
Chemical Company ("Euclid") from the Company's former partner, Holderbank
Financiere Glaris Ltd. As part of the Tremco Group within the Industrial
Division, Euclid offers a full line of concrete and masonry repair and
maintenance products marketed under the Euco name and is pursuing its strategy
of global expansion in the concrete and masonry industry.
Approximately 60% of the 1999 sales increase was attributable to net
acquisitions, most notably that of Euclid and of The Flecto Company, Inc.
("Flecto") [refer to Note A(2)] on March 31, 1998. The Company's existing
operations and several product line additions generated the balance of the sales
increase, growing at the rate of approximately 2% for the year, almost entirely
from higher unit volume as pricing adjustments have been flat to somewhat soft,
particularly in the Consumer Division. Exchange rate differences had a slight
negative effect of less than 1% on year-to-year sales. Sales may continue to be
negatively affected if the dollar continues to strengthen.
Internal sales grew much more slowly than anticipated this year. Growth slowed
to approximately 2.5% in the Industrial Division from a softening North American
market and continued depressed overseas markets, particularly in the financially
troubled Asian and South American economies. A stronger dollar against most
foreign currencies further reduced demand for the Company's products outside
North America. Growth slowed in the Consumer Division to approximately 1% from
continuing consolidation in the do-it-yourself (D-I-Y) retailing industry,
inventory reductions at a number of major D-I-Y accounts, despite solid
sell-through rates, and continued weakness in the automobile aftermarket. The
Company sees many of the foreign markets for its industrial products beginning
to revive, and many of the retailers' inventory and related adjustments now
completed.
The gross profit margin strengthened to 45.9% compared with last year's 44.8%,
with the Industrial Division improving to 46.0% from 44.3% and the Consumer
Division achieving 45.6% compared with 45.5% a year ago. This improvement
reflects generally lower raw material costs, including lower costs on goods
sourced outside the U.S. from the strength of the dollar. The Company remains
confident that raw material price changes will continue to be effectively
managed in the foreseeable future. Margin improvement also continued at Tremco,
within the Industrial Division, through this year, mainly from ongoing
purchasing savings and the successful restructuring of its operations, since its
acquisition in February 1997. Other margin improvement came from Flecto in the
Consumer Division and Euclid in the Industrial Division, with their
comparatively higher margins. The positive effects of Flecto and lower raw
material costs more than offset certain product mix and market share-driven
lower margins within the Consumer Division.
Selling, general and administrative expenses of 34.6% of sales compare with
33.3% a year ago. The Industrial Division expenses increased to 33.1% of sales
from 31.8% and the Consumer Division expenses increased to 34.8% from 33.5% in
1998. Both divisions continued with many of their product and market
development, promotional and other growth-related initiatives to set the stage
for stronger sales growth in the future. The Consumer Division, in particular,
incurred higher freight and handling costs to accommodate increased demands for
smaller, more frequent shipments of products. Flecto also has proportionately
much higher costs in this category, including acquisition-related expenses. The
Industrial Division incurred costs associated with certain restructurings during
1999, and there were certain timing differences on a number of expenses between
years.
The Industrial Division generated the EBIT growth in 1999, primarily from
existing operations, while slower sales growth, coupled with the higher
servicing and development costs, adversely affected the Consumer Division.
The August 10, 1998 redemption of the Company's convertible debt securities
(refer to Liquidity and Capital Resources) lowered interest expense by $6.8
million this year, more than offsetting $4.3 million of additional interest
expense from increased indebtedness to acquire Flecto, Euclid and other smaller
acquisitions. Debt repayments throughout the past year, higher interest income,
and slightly lower interest rates between years further reduced net interest
expense, comparatively [refer to Note A (12)].
The tax rate improved in 1999 to 40.8% from 41.3% in 1998 [refer to Note C],
with the largest improvement coming from proportionately lower state and local
taxes.
Approximately two-thirds of the growth in earnings and diluted earnings per
share was internal, mainly within the Industrial Division, with the balance of
growth resulting
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from the net effect of acquisitions and divestitures. The Company's net income
margin improved to 5.5% from 5.4% a year ago. The issuance of common shares in
connection with the August 10, 1998 redemption of the Company's convertible debt
securities negatively impacted the calculation of basic earnings per share
compared with last year. This redemption is also the principal cause of the
comparative difference between the percentage changes in net income and earnings
per share between years. This effect will be much less after the first quarter
of fiscal 2000.
Subsequent to year end, on August 3, 1999, the Company completed its acquisition
of DAP Products Inc. and DAP Canada Corp. (collectively "DAP") headquartered in
Baltimore, Maryland. DAP has annual sales of approximately $250 million and is
the premier North American manufacturer and marketer of caulks and sealants,
spackling and glazing compounds, contact cements and other specialty adhesives.
DAP's brand names, which include DAP, Kwik Seal and Durabond, are well known
throughout the U.S. and Canada. DAP is expected to be neutral to the Company's
earnings results in fiscal 2000, but a strong contributor thereafter.
Also subsequent to year-end, on August 9, 1999, the Company announced a
restructuring program to generate manufacturing, distribution and administrative
efficiencies, and to better position the Company for long-term growth. This will
require a $45 million pre-tax ($.24 per share after-tax) charge in the first
quarter of fiscal 2000, but is expected to generate annualized pre-tax savings
of $23 million, or $.13 per share after-tax, once completed. These savings will
phase in over the next two years with the full savings expected beginning in
fiscal 2002. The Company also plans to divest non-core product lines with annual
sales of approximately $100 million over the next two years, but with no net
loss anticipated from these transactions. The net cash requirement of the
restructuring program is expected to be approximately $4 million.
FISCAL 1998 COMPARED TO FISCAL 1997
On March 31, 1998, the Company acquired Flecto, a leading manufacturer of wood
finishes and equipment for the retail do-it-yourself wood and floor finishing
markets [refer to Note A (2)]. With annual sales of approximately $50 million,
Flecto has the leading market share position in Canada and substantial market
share in the United States and complements the Company's other leading consumer
name brand companies serving the D-I-Y market, such as Rust-Oleum, Zinsser,
Bondex and Bondo.
Approximately 65% of the 1998 sales increase was attributable to net
acquisitions, most notably that of Flecto and that of Tremco on February 1,
1997. The Company's existing operations generated the balance of the sales
increase, growing at the rate of 7% for the year, almost entirely from higher
unit volume as pricing adjustments were negligible. Exchange rate differences
had a slight negative effect of less than 1% of sales year-to-year.
Internal growth was nearly 8% in the Consumer Division and nearly 7% in the
Industrial Division. The UPS strike affected shipments and caused some loss of
business early in the year, and generally slower retail markets affected the
Consumer Division during the first half of the year. Substantially all operating
units experienced generally stronger growth in the second half of the year.
The Company's gross profit margin improved to 44.8% from 44.3% in 1997, with the
Industrial Division improving to 44.3% from 43.1% and the Consumer Division at
45.5% compared with 45.8% in 1997. This was the result of the stronger average
margins of recently acquired companies, Tremco and Flecto, coupled with margin
improvements at Tremco throughout the year, mainly from purchasing savings by
being part of a larger group, and the on-schedule restructuring of its
operations. Certain market share-driven lower margins within the Consumer
Division offset the positive margin effects of Flecto. Raw material price
changes were not a significant factor during 1998.
Selling, general and administrative expenses increased to 33.3% of sales from
31.8% in 1997, with the Industrial Division at 31.8% from 30.0% and the Consumer
Division at 33.5% from 32.8% the previous year. Tremco and Flecto, with their
proportionately higher costs in this category, plus acquisition-related
expenses, accounted for the majority of this increase. Existing operations
increased certain promotional and related spending to further the Company's
growth, as planned. The Consumer Division, in particular, also incurred higher
freight costs in 1998 to meet increasing demands for smaller, more frequent
shipments to their customers, while the Far East economic situation precipitated
certain bad debts and exchange losses within the Industrial Division.
The Industrial Division generated strong EBIT growth in 1998, mostly from the
acquisition of Tremco. The Consumer Division change in EBIT during 1998 reflects
the loss of earnings from several small business divestitures during 1997, the
acquisition of Flecto late in 1998, and
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comparative weakness in the automobile aftermarket mainly due to the mild
winter. The EBIT change in Corporate/Other mainly reflects the net gain from the
divestitures in 1997.
Interest expense increased $6.2 million in 1998 [refer to Note A(12)],
reflecting the additional indebtedness to acquire Tremco, Flecto, and other
smaller acquisitions, plus non-cash interest accretion on the convertible debt.
Debt reductions and fractionally lower interest rates between years reduced net
interest expense, comparatively.
The tax rate improved to 41.3% in 1998 from 42.3% in 1997 [refer to Note C],
with the most significant improvements coming from the foreign sales
corporation, resulting in more favorable tax treatment of the Company's exports
from the U.S., proportionately lower state and local taxes, and fewer tax
disadvantaged losses among foreign countries.
Approximately half the growth in earnings and earnings per share in 1998 was
internal, with the balance of growth from the net effect of acquisitions and
divestitures. The decline in the Company's net income margin to 5.4% from 5.8% a
year ago is the result of the Tremco acquisition and its comparatively lower
return on sales, primarily as a result of related acquisition costs. Tremco's
return on sales has since improved significantly through sales growth combined
with savings generated through its successful restructuring programs.
The Company's earnings per share were affected in 1998 by the averaging of
Company shares issued in connection with Flecto and a smaller acquisition,
causing a 12% increase in earnings to compare to an 11% increase in diluted
earnings per share.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
CASH PROVIDED FROM OPERATIONS
The Company generated $118 million in cash from operations during 1999, $6.1
million more than 1998. Other than normal timing differences within the balance
sheet, certain inventories had been built up during 1998 to accommodate
increased retail business in the Consumer Division, and these have come down
significantly along with other inventory reductions, primarily also within the
Consumer Division, in order to conserve working capital. The large difference
when comparing 1998 cash flow with 1997 was mainly attributable to the
seasonality of Tremco's business between its date of acquisition on February 1,
1997, and May 31, 1997.
The Company's strong cash flow from operations continues to be its primary
source of financing internal growth, with limited use of short-term credit.
INVESTING ACTIVITIES
The Company is not capital intensive, and capital expenditures generally do not
exceed depreciation and amortization in a given year. Capital expenditures are
made primarily to accommodate the Company's continued growth through improved
production and distribution efficiencies and capacity, and to enhance
administration. Capital expenditures in 1999 of $63 million compared with
depreciation and amortization of $62 million. Approximately $20 million of these
expenditures were Information Technology (IT) related, including major new
system installations for Tremco's North American and European operations. Most
of the larger IT system changeovers have now taken place, and capital spending
in this area is expected to trend downward over the next few years.
The investment of $35 million in new businesses this year reflects the
acquisitions of Euclid and several smaller businesses and assets this year, net
of cash acquired. The Company historically has acquired complementary businesses
and this trend is expected to continue.
The Company's captive insurance company invests in marketable securities in the
ordinary course of conducting its operations, and this activity will continue.
The differences between years are primarily attributable to the timing of
investments.
During 1998, the Company collected a $23.3 million May 31, 1997 receivable
associated with the sale of a business, and completed the sales of Tremco's
insulating glass unit and Autoglass division for a net amount of $107.5 million.
FINANCING ACTIVITIES
On January 22, 1999, the Company announced the authorization of a share
repurchase program. The program allows the Company to repurchase up to 5,000,000
Common Shares of the Company from time-to-time for a period of 12 months. As of
May 31, 1999, the Company had repurchased 1,296,000 Common Shares of the Company
at an average cost of approximately $13.15 per share.
During 1999, $51 million of additional debt was incurred primarily related to
acquisitions, $17 million of debt was incurred related to the share repurchase
program and approximately $44 million of debt was repaid. The acquisitions were
financed through the Company's revolving credit agreement.
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The Company's redemption of its convertible notes, effective August 10, 1998,
resulted in a $159 million decrease in long-term debt and a similar increase in
shareholders' equity. The Company's revolving credit facility was used to fund
the convertible securities redeemed for cash amounting to approximately $32
million. The Company's debt-to-capital ratio has strengthened to 44% from 56% at
May 31, 1998, mainly as a result of this redemption.
The acquisition of DAP, subsequent to year end on August 3, 1999, was financed
with a bridge loan arranged through one of the Company's lead banks. This
transaction has since been refinanced through a $700 million commercial paper
program, fully backed by the Company's existing $300 million revolving credit
facility plus a new $400 million revolving credit facility.
The stronger dollar effect on the Company's foreign net assets has tended to
reduce shareholders' equity, and this trend could continue if the dollar
continues to strengthen and the growth of foreign net assets continues.
The Company maintains excellent relations with its banks and other financial
institutions to further enable the financing of future growth opportunities.
OTHER MATTERS
- -------------
YEAR 2000 READINESS DISCLOSURE
The Year 2000 issue results from date sensitive computer programs that
improperly handle dates beyond 1999. This issue will impact virtually every
business that relies on a computer, including government agencies, utilities and
other basic service providers, which are outside the Company's control.
Since 1997, the Company has been addressing its computer systems to become Year
2000 compliant and provides quarterly updates to the Board of Directors. Because
the Company is a highly decentralized organization, comprised of many autonomous
operating companies, it is not dependent on one company-wide integrated system.
If, however, a number of the individual operating company systems do not become
Year 2000 compliant, the Company's operations could be substantially disrupted.
To date, the Company has made significant progress toward becoming completely
Year 2000 compliant. Remediation efforts are now essentially completed, tested
and in production. The remaining efforts are substantially devoted to final
testing, which the Company expects to complete by September 1999. The Company
presently does not anticipate disruptions in its business as a result of the
Year 2000. In addition, the Company is continuing to assess the Year 2000
preparedness of its key third party relationships, but does not anticipate
disruptions. As a result, the Company does not foresee the need to execute
contingency plans.
The Company's most reasonably likely worst case scenario, should the Company or
its key suppliers or customers fail to resolve the Year 2000 issue, would be a
short-term slowdown or cessation of manufacturing operations at one or more of
its facilities and a short- term inability on the part of the Company to process
orders and billings in a timely manner, and to deliver product to customers.
The Company does not expect that any third party significant to its business
will be determined not to be Year 2000 compliant. However, should the Company
determine that a third party with whom the Company has a materially significant
relationship is not Year 2000 compliant, the Company will: (a) investigate
whether or not such noncompliance will affect the Company's relationship with
such third party, and (b) if such relationship is materially impaired by a lack
of Year 2000 compliance, the Company will seek a party similarly situated to the
third party to provide the relevant products, supplies or services to the
Company.
The Company continues to estimate its total Year 2000 compliance efforts will
cost $4,500,000, which is approximately $1,000,000 less than originally
anticipated. All Year 2000 costs have been and will be funded from the Company's
operating cash flow. The Company has utilized both internal and external
resources to address these issues.
The Company's estimated future costs for Year 2000 were made using various
assumptions including the continued availability of certain resources, Year 2000
modification plans, implementation success by key third-parties and other
factors. Unforeseen changes or developments may occur that could affect the
Company's estimates of the amount of time and costs necessary to modify and test
its IT and non-IT systems for Year 2000 compliance. These developments include,
but are not limited to, the availability and cost of personnel trained in this
area and the ability to locate and correct all relevant computer codes. This
Year 2000 disclosure statement is intended to be covered by and fall within the
meaning of the "Year 2000 Readiness Disclosure Act."
ENVIRONMENTAL MATTERS
Environmental obligations continue to be appropriately addressed and, based upon
the latest available information, it is not anticipated that the outcome of such
matters will materially affect the Company's results of operations or financial
condition [refer to Note H].
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MARKET RISK
- -----------
The Company is exposed to market risk from changes in interest rates and foreign
currency exchange rates since it funds its operations through long- and
short-term borrowings and denominates its business transactions in a variety of
foreign currencies. A summary of the Company's primary market risk exposures is
presented below.
INTEREST RATE RISK
The Company's primary interest rate risk exposure results from floating rate
debt including various revolving credit and other lines of credit. At May 31,
1999, approximately 72% of the Company's total long-term debt consisted of
floating rate debt. If interest rates were to increase 100 basis points (1%)
from May 31, 1999 rates, and assuming no changes in long-term debt from the May
31, 1999 levels, the additional annual expense would be approximately $4.2
million on a pre-tax basis. The Company currently does not hedge its exposure to
floating interest rate risk.
FOREIGN CURRENCY RISK
The Company's foreign sales and results of operations are subject to the impact
of foreign currency fluctuations. As most of the Company's foreign operations
are in countries with fairly stable currencies, such as the United Kingdom,
Belgium and Canada, this effect has not been material. In addition, foreign debt
is denominated in the respective foreign currency, thereby eliminating any
related translation impact on earnings. If the dollar continues to strengthen,
the Company's foreign results of operations will be negatively impacted, but the
effect is not expected to be material. A 10% adverse change in foreign currency
exchange rates would not have resulted in a material impact in the Company's net
income for the year ended May 31, 1999. The Company does not currently hedge
against the risk of exchange rate fluctuations.
EURO CURRENCY CONVERSION
On January 1, 1999, eleven of the fifteen members of the European Union adopted
a new European currency unit (the "Euro") as their common legal currency. The
participating countries' national currencies will remain legal tender as
denominations of the Euro from January 1, 1999 through January 1, 2002, and the
exchange rates between the Euro and such national currency units will be fixed.
The Company has assessed the potential impact of the Euro currency conversion on
its operating results and financial condition. The impact of pricing differences
on country-to-country indebtedness is not expected to be material. The Company
converted its European operations to the Euro currency basis effective June 1,
1999.
FORWARD-LOOKING STATEMENTS
- --------------------------
The foregoing discussion includes forward-looking statements relating to the
business of the Company. These forward-looking statements, or other statements
made by the Company, are made based on management's expectations and beliefs
concerning future events impacting the Company and are subject to uncertainties
and factors (including those specified below) which are difficult to predict
and, in many instances, are beyond the control of the Company. As a result,
actual results of the Company could differ materially from those expressed in or
implied by any such forward-looking statements. These uncertainties and factors
include (a) the price and supply of raw materials, particularly titanium
dioxide, certain resins, aerosols and solvents; (b) continued growth in demand
for the Company's products; (c) risks associated with environmental liability
inherent in the nature of a chemical coatings business; (d) the effect of
changes in interest rates; (e) the effect of fluctuations in currency exchange
rates upon the Company's foreign operations; (f) the effect of non-currency
risks of investing in and conducting operations in foreign countries, including
those relating to political, social, economic and regulatory factors; (g) future
acquisitions and the Company's ability to effectively integrate such
acquisitions; (h) the potential future impact of Year 2000 related software
conversion issues; the potential impact of the Company's suppliers, customers
and other third parties ability to identify and resolve their own Year 2000
obligations in such a way as to allow them to continue normal business
operations or furnish raw materials, products, services or data to the Company
and its operating companies without interruption; the potential impact of
manufacturers of the Company's computer systems and software representations as
to their Year 2000 status; and the potential impact of the Company's own Year
2000 investigation, remediation, testing and systems implementation efforts; (i)
the potential impact of the Euro currency conversion; and (j) the ability of the
Company to realize the projected pre-tax savings associated with the
restructuring and consolidation program, and to divest non-core product lines.
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CONSOLIDATED BALANCE SHEETS
- ---------------------------
RPM, Inc. and Subsidiaries
(In thousands, except per share amounts)
May 31 1999 1998
============================================================================================================================
ASSETS
CURRENT ASSETS
Cash and short-term investments (Note A) $ 19,729 $ 40,783
Trade accounts receivable (less allowances of $14,248 in 1999 and $12,718 in 1998) 362,611 332,944
Inventories (Note A) 242,445 243,249
Prepaid expenses and other current assets 80,634 58,136
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL CURRENT ASSETS 705,419 675,112
- ----------------------------------------------------------------------------------------------------------------------------
PROPERTY, PLANT AND EQUIPMENT, AT COST (NOTE A)
Land 27,887 27,510
Buildings and leasehold improvements 197,567 187,405
Machinery and equipment 347,236 300,995
- ----------------------------------------------------------------------------------------------------------------------------
572,690 515,910
Less allowance for depreciation and amortization 232,993 210,013
- ----------------------------------------------------------------------------------------------------------------------------
PROPERTY, PLANT AND EQUIPMENT, NET 339,697 305,897
- ----------------------------------------------------------------------------------------------------------------------------
OTHER ASSETS
Cost of businesses over net assets acquired, net of amortization (Note A) 425,951 418,092
Other intangible assets, net of amortization (Note A) 232,556 237,830
Equity in unconsolidated affiliates 7,771 20,536
Other 25,842 28,450
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL OTHER ASSETS 692,120 704,908
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $ 1,737,236 $ 1,685,917
============================================================================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Notes and accounts payable $ 131,118 $ 119,882
Current portion of long-term debt (Note B) 3,764 5,016
Accrued compensation and benefits 58,277 56,300
Accrued loss reserves (Note H) 49,296 43,332
Other accrued liabilities 50,843 51,383
Income taxes payable (Notes A and C) 9,251 11,915
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL CURRENT LIABILITIES 302,549 287,828
- ----------------------------------------------------------------------------------------------------------------------------
LONG-TERM LIABILITIES
Long-term debt, less current maturities (Note B) 582,109 716,989
Other long-term liabilities 55,832 56,704
Deferred income taxes (Notes A and C) 53,870 58,059
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL LONG-TERM LIABILITIES 691,811 831,752
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES 994,360 1,119,580
- ----------------------------------------------------------------------------------------------------------------------------
SHAREHOLDERS' EQUITY
Common shares, stated value $.015 per share; authorized 200,000,000 shares;
issued 109,444,000 and outstanding 109,443,000 in 1999;
issued and outstanding 100,254,000 in 1998 (Note D) 1,613 1,460
Paid-in capital 423,204 264,508
Treasury shares, at cost (Note D) (17,044)
Accumulated other comprehensive loss (Note A) (23,908) (14,542)
Retained earnings 359,011 314,911
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 742,876 566,337
- ----------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 1,737,236 $ 1,685,917
============================================================================================================================
See Notes to Consolidated Financial Statements
27
9
CONSOLIDATED STATEMENTS OF INCOME
RPM, Inc. and Subsidiaries
(In thousands, except per share amounts)
Year Ended May 31 1999 1998 1997
=============================================================================================================================
NET SALES $ 1,712,154 $ 1,615,274 $ 1,350,537
Cost of sales 927,110 891,862 752,391
- -----------------------------------------------------------------------------------------------------------------------------
Gross profit 785,044 723,412 598,146
Selling, general and administrative expenses 592,666 537,156 429,838
Interest expense, net 32,781 36,700 32,580
- -----------------------------------------------------------------------------------------------------------------------------
Income before income taxes 159,597 149,556 135,728
Provision for income taxes (Note C) 65,051 61,719 57,413
- -----------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 94,546 $ 87,837 $ 78,315
- -----------------------------------------------------------------------------------------------------------------------------
Average shares outstanding (Note D) 108,731 98,527 97,285
- -----------------------------------------------------------------------------------------------------------------------------
Basic earnings per common share (Note D) $ .87 $ .89 $ .81
- -----------------------------------------------------------------------------------------------------------------------------
Diluted earnings per common share (Note D) $ .86 $ .84 $ .76
- -----------------------------------------------------------------------------------------------------------------------------
Cash dividends per common share $ .46 $ .44 $ .41
=============================================================================================================================
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
- -----------------------------------------------
RPM, Inc. and Subsidiaries
(In thousands, except per share amounts)
Common Shares
----------------------- Accumulated
Number Other
of Shares Stated Paid-In Treasury Comprehensive Retained
(Note D) Value Capital Shares Loss (Note A) Earnings Total
==================================================================================================================================
BALANCE AT MAY 31, 1996 96,811 $ 1,410 $ 215,019 $ $ (2,410) $ 231,896 $ 445,915
Comprehensive income ---------
Net income 78,315 78,315
Other comprehensive loss (5,704) (5,704)
---------
Comprehensive income 72,611
Dividends paid (39,746) (39,746)
Amendment of articles (250) (250)
Business combinations 965 14 13,586 13,600
Stock option exercises, net 253 4 1,264 1,268
- ----------------------------------------------------------------------------------------------------------------------------------
BALANCE AT MAY 31, 1997 98,029 1,428 229,619 (8,114) 270,465 493,398
Comprehensive income -------
Net income 87,837 87,837
Other comprehensive loss (6,428) (6,428)
-------
Comprehensive income 81,409
Dividends paid (6) (83) (43,391) (43,474)
Debt conversion 32 499 499
Business combinations 1,813 26 32,259 32,285
Stock option exercises, net 276 4 2,216 2,220
Restricted share awards 110 2 (2)
- ----------------------------------------------------------------------------------------------------------------------------------
BALANCE AT MAY 31, 1998 100,254 1,460 264,508 (14,542) 314,911 566,337
Comprehensive income -------
Net income 94,546 94,546
Reclassification adjustments (65) (65)
Other comprehensive loss (9,301) (9,301)
-------
Comprehensive income 85,180
Dividends paid (50,446) (50,446)
Debt conversion 10,135 148 156,896 157,044
Business combinations (24) (417) (417)
Repurchase of shares (1,296) (17,044) (17,044)
Stock option exercises, net 281 4 2,218 2,222
Restricted share awards 93 1 (1)
- ----------------------------------------------------------------------------------------------------------------------------------
BALANCE AT MAY 31, 1999 109,443 $ 1,613 $ 423,204 $ (17,044) $ (23,908) $ 359,011 $ 742,876
==================================================================================================================================
See Notes to Consolidated Financial Statements
28
10
CONSOLIDATED STATEMENTS OF CASH FLOWS
RPM, Inc. and Subsidiaries
(In thousands, except per share amounts)
Year Ended May 31 1999 1998 1997
==================================================================================================================================
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 94,546 $ 87,837 $ 78,315
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization 62,135 57,009 51,145
(Decrease) in deferred liabilities (4,189) (10,459) (7,400)
(Earnings) of unconsolidated affiliates (2,332) (2,217) (2,275)
Non-cash interest expense 1,696 9,599 9,127
Changes in assets and liabilities, net of effect
from purchases and sales of businesses:
(Increase) in accounts receivable (27,828) (26,944) (34,934)
(Increase) decrease in inventory 11,089 (19,727) (11,722)
(Increase) in prepaid and other assets (11,523) (4,163) (9,520)
Increase (decrease) in accounts payable (6,349) 6,138 3,489
Increase (decrease) in accrued liabilities 7,639 18,413 (4,568)
Other (7,163) (3,883) (2,179)
- ----------------------------------------------------------------------------------------------------------------------------------
Cash From Operating Activities 117,721 111,603 69,478
- ----------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (63,406) (60,343) (35,825)
Acquisition of businesses, net of cash acquired (34,551) (47,709) (315,960)
Purchase of marketable securities (31,666) (27,224) (13,428)
Proceeds from marketable securities 29,895 17,355 14,992
Distributions from joint ventures 1,063 592 261
Investments in joint ventures (2,702) (200)
Proceeds from sale of assets and businesses 565 131,222 8,930
- ----------------------------------------------------------------------------------------------------------------------------------
Cash From (Used For) Investing Activities (98,100) 11,191 (341,230)
- ----------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Additions to long-term and short-term debt 1,169,127 1,238,371 1,187,128
Reductions of long-term and short-term debt (1,144,022) (1,316,000) (858,534)
Cash dividends (50,446) (43,474) (39,746)
Exercise of stock options 2,222 2,220 1,268
Repurchase of shares (17,044)
- ----------------------------------------------------------------------------------------------------------------------------------
Cash From (Used For) Financing Activities (40,163) (118,883) 290,116
- ----------------------------------------------------------------------------------------------------------------------------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (512) (570) (777)
- ----------------------------------------------------------------------------------------------------------------------------------
NET INCREASE (DECREASE) IN CASH (21,054) 3,341 17,587
- ----------------------------------------------------------------------------------------------------------------------------------
CASH AT BEGINNING OF YEAR 40,783 37,442 19,855
- ----------------------------------------------------------------------------------------------------------------------------------
CASH AT END OF YEAR $ 19,729 $ 40,783 $ 37,442
==================================================================================================================================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest $ 36,155 $ 32,375 $ 23,454
Income taxes $ 71,904 $ 70,189 $ 67,842
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Interest accreted on convertible notes $ 1,696 $ 9,599 $ 9,127
Shares issued (returned) in business combinations $ (417) $ 32,285 $ 13,600
Conversion of debt to equity $ 157,044 $ 499
Receivables (payables) from business combinations $ (1,557) $ 26,728
==================================================================================================================================
Additions and reductions to long-term and short-term debt relate to periodic
rollovers of amounts borrowed under the Company's long-term credit agreement.
See Notes to Consolidated Financial Statements
29
11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- ------------------------------------------
MAY 31, 1999, 1998 AND 1997
NOTE A -- SUMMARY OF SIGNIFICANT
ACCOUNTING PRINCIPLES
(1) PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of RPM, Inc. and its
majority owned domestic and foreign subsidiaries. The Company accounts for its
investment in less than majority owned joint ventures under the equity method.
Intercompany accounts, transactions and unrealized profits and losses are
eliminated in consolidation.
Certain reclassifications have been made to prior year amounts to conform with
the current year presentation.
(2) BUSINESS COMBINATIONS
During the two year period ended May 31, 1999, the Company completed several
acquisitions. As reported last year, the Company acquired all the outstanding
shares of The Flecto Company, Inc. and affiliates. This acquisition as well as
several other smaller acquisitions have been accounted for by the purchase
method of accounting. The difference of approximately $60,000,000 between the
fair value of net assets acquired and the purchase consideration of $128,000,000
($96,000,000 in cash and 1,813,000 of the Company's shares) has been allocated
to goodwill. The assets, liabilities and operating results of these companies
are reflected in the Company's financial statements from their respective dates
of acquisition forward. Pro forma results were immaterial and consequently are
not presented.
In addition, the Company also completed several divestitures of companies and
product lines during the past two years which had an immaterial effect on the
results of operations.
(3) FOREIGN CURRENCY
The functional currency of foreign subsidiaries is their local currency.
Accordingly, for the periods presented, assets and liabilities have been
translated using exchange rates prevailing at year end while income and expense
for the periods have been translated using an average exchange rate. The
resulting translation adjustments have been recorded in other comprehensive
loss, a component of shareholders' equity, and will be included in net earnings
only upon the sale or liquidation of the underlying foreign investment, which is
not contemplated at this time. Transaction gains and losses have been immaterial
during the past three fiscal years.
(4) COMPREHENSIVE INCOME
As of June 1, 1998, the Company adopted SFAS No. 130 Reporting Comprehensive
Income. SFAS No. 130 establishes new rules for the reporting and display of
comprehensive income and its components, however, the adoption of this statement
had no impact on the Company's net income. SFAS No. 130 requires other
comprehensive income to include foreign currency translation adjustments,
minimum pension liability adjustments and unrealized gain or loss on securities
which prior to adoption were reported separately. The May 31, 1998 and 1997
financial statements have been reclassified to conform to the requirements of
SFAS No. 130.
Accumulated other comprehensive loss (which is shown net of taxes) consists of
the following components:
- ------------------------------------------------------------------------------------------------------------------------------
Foreign Minimum Unrealized
Currency Pension Gain (Loss)
Translation Liability On
(In thousands) Adjustments Adjustments Securities Total
- ------------------------------------------------------------------------------------------------------------------------------
Balance at May 31, 1996 $ (2,492) $ $ 82 $ (2,410)
Other comprehensive loss (5,724) 20 (5,704)
- ------------------------------------------------------------------------------------------------------------------------------
Balance at May 31, 1997 (8,216) 102 (8,114)
Other comprehensive loss (5,605) (786) (37) (6,428)
- ------------------------------------------------------------------------------------------------------------------------------
Balance at May 31, 1998 (13,821) (786) 65 (14,542)
Less: Reclassification adjustments
for gains included in net income (65) (65)
Other comprehensive loss (8,496) (67) (738) (9,301)
- ------------------------------------------------------------------------------------------------------------------------------
BALANCE AT MAY 31, 1999 $ (22,317) $ (853) $ (738) $ (23,908)
===============================================================================================================================
30
12
(5) CASH AND SHORT-TERM INVESTMENTS
For purposes of the statement of cash flows, the Company considers all highly
liquid debt instruments purchased with a maturity of three months or less to be
cash equivalents. The Company does not believe it is exposed to any significant
credit risk on cash and short-term investments.
(6) MARKETABLE SECURITIES
Marketable securities, all of which are classified as available for sale, total
$23,351,000 and $21,319,000 at May 31, 1999 and 1998, respectively. The
estimated fair values of these securities are included in other current assets
and are based on quoted market prices.
(7) FINANCIAL INSTRUMENTS
The Company's financial instruments recorded on the balance sheet include cash
and short-term investments, accounts receivable, notes and accounts payable, and
debt. The carrying amount of cash and short-term investments, accounts
receivable and notes and accounts payable approximates fair value because of
their short term maturity.
The carrying amount of the Company's debt instruments approximates fair value
based on quoted market prices, variable interest rates, or borrowing rates for
similar types of debt arrangements.
(8) INVENTORIES
Inventories are stated at the lower of cost or market, cost being determined
substantially on a first-in, first-out (FIFO) basis and market being determined
on the basis of replacement cost or net realizable value. Inventory costs
include raw material, labor and manufacturing overhead. Inventories were
composed of the following major classes:
- -----------------------------------------------------------------------------------
May 31
-----------------------
(In thousands) 1999 1998
===================================================================================
Raw material and supplies $ 80,827 $ 77,173
Finished goods 161,618 166,076
- -----------------------------------------------------------------------------------
TOTAL INVENTORY $ 242,445 $ 243,249
===================================================================================
(9) DEPRECIATION
Depreciation is computed over the estimated useful lives of the assets primarily
using the straight-line method. Depreciation expense charged to operations for
the three years ended May 31, 1999 was $34,803,000, $30,823,000 and $26,412,000,
respectively. The annual depreciation rates are based on the following ranges of
useful lives:
- --------------------------------------------------------------------------------------
Land improvements 10 to 40 years
- --------------------------------------------------------------------------------------
Buildings and improvements 5 to 50 years
- --------------------------------------------------------------------------------------
Machinery and equipment 3 to 20 years
======================================================================================
31
13
(10) INTANGIBLES
The excess of cost over the underlying value of the net assets of companies
acquired is being amortized on the straight-line basis, primarily over 40 years.
Amortization expense charged to operations for the three years ended May 31,
1999 was $13,625,000, $12,435,000 and $9,916,000, respectively. Cost of
businesses over net assets acquired is shown net of accumulated amortization of
$71,150,000 at May 31, 1999 ($56,611,000 at May 31, 1998).
Intangible assets also represent costs allocated to formulae, trademarks and
other specifically identifiable assets arising from business acquisitions. These
assets are being amortized using the straight-line method over periods of 7 to
40 years. The Company assesses the recoverability of the excess of cost over the
assigned value of net assets acquired by determining whether the amortization of
the balance over its remaining life can be recovered through undiscounted future
operating cash flows of the acquired operations. Amortization expense charged to
operations for the three years ended May 31, 1999 was $12,504,000, $11,473,000
and $10,936,000, respectively.
Other intangible assets consist of the following major classes:
- -----------------------------------------------------------------------------------------
May 31
--------------------------------
(In thousands) 1999 1998
=========================================================================================
Formulae $ 89,358 $ 89,648
Trademarks 84,194 83,621
Distributor networks 39,000 37,500
Workforce 37,433 36,783
Patents 10,987 10,518
Licenses 10,215 9,747
Other 13,169 11,631
- -----------------------------------------------------------------------------------------
284,356 279,448
Accumulated amortization 51,800 41,618
- -----------------------------------------------------------------------------------------
OTHER INTANGIBLE ASSETS, NET $ 232,556 $ 237,830
=========================================================================================
(11) RESEARCH AND DEVELOPMENT
Research and development costs are charged to operations when incurred and are
included in operating expenses. The amounts charged for the three years ended
May 31, 1999 were $18,022,000, $15,815,000 and $14,610,000, respectively. The
customer sponsored portion of such expenditures was not significant.
(12) INTEREST EXPENSE, NET
Interest expense is shown net of investment income which consists of interest,
dividends and capital gains. Investment income for the three years ended May 31,
1999 was $4,880,000, $4,154,000 and $2,059,000, respectively.
(13) INCOME TAXES
The Company and its wholly owned domestic subsidiaries file a consolidated
federal income tax return. The tax effects of transactions are recognized in the
year in which they enter into the determination of net income, regardless of
when they are recognized for tax purposes. As a result, income tax expense
differs from actual taxes payable. The accumulation of these differences at May
31, 1999 is shown as a noncurrent liability of $53,870,000 (net of a noncurrent
asset of $40,333,000). At May 31, 1998, the noncurrent liability was $58,059,000
(net of a noncurrent asset of $41,353,000). The Company does not intend to
distribute the accumulated earnings of consolidated foreign subsidiaries
amounting to $92,021,000 at May 31, 1999, and $69,691,000 at May 31, 1998, and
therefore no provision has been made for the taxes which would result if such
earnings were remitted to the Company.
32
14
(14) ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
(15) RECENTLY ISSUED ACCOUNTING STANDARDS
The Accounting Standards Executive Committee recently issued Statements of
Position (SOP) 98-1, Accounting for Computer Software Developed or Obtained for
Internal Use and SOP 98-5, Reporting on the Costs of Start-Up Activities. Both
Statements of Position require the expensing of certain costs previously
capitalized by the Company. The impact of these SOPs is not expected to be
material.
NOTE B - BORROWINGS
A description of long-term debt follows:
- --------------------------------------------------------------------------------------------------------------
May 31
--------------------------
(In thousands) 1999 1998
===============================================================================================================
Revolving credit agreement for $300,000,000 with ten banks
through February 2, 2002. Interest, which is tied to one of
various rates, was 5.19% at May 31, 1999. The Chairman
of the Board and Chief Executive Officer of the Company is a
director of one of the banks providing this facility. $ 215,000 $ 243,000
Short-term borrowings with two banks bearing interest of 5.10%
at May 31, 1999. These obligations were reclassified as long-term
debt reflecting the Company's intent and ability, through the unused
credit facility above, to refinance these borrowings. 85,000 1,300
Convertible notes due 2012. These notes were redeemed in
August 1998 for 10,135,000 shares and $32,124,000 in cash. 189,809
7.00% unsecured senior notes due June 15, 2005. 150,000 150,000
Unsecured notes due 2008 bearing interest for one year at the six
month LIBOR rate minus five basis points (5.75% at May 31, 1999). 100,000 100,000
Multi-currency revolving credit agreement for $45,000,000 with
a bank through December 14, 2001. Interest, which is tied to
one of various rates, averaged 3.80% at May 31, 1999. 19,884 20,876
6.75% unsecured senior notes due to an insurance company
in annual installments through 2003. 8,571 10,286
Other notes and mortgages payable at various rates of interest
due in installments through 2004, substantially secured by property. 7,418 6,734
- --------------------------------------------------------------------------------------------------------------
585,873 722,005
Less current portion 3,764 5,016
- --------------------------------------------------------------------------------------------------------------
TOTAL LONG-TERM DEBT, LESS CURRENT MATURITIES $ 582,109 $ 716,989
===============================================================================================================
At May 31, 1999, the Company has unused short-term lines of credit with several
banks totalling $33,424,000. An additional $6,400,000 short-term line of credit
was outstanding at May 31, 1999, and is included in Notes and Accounts Payable.
The aggregate maturities of long-term debt for the five years subsequent to May
31, 1999 are as follows: 2000 - $3,764,000; 2001 - $3,032,000; 2002 -
$325,447,000; 2003 - $1,906,000; 2004 -$1,723,000.
33
15
NOTE C - TAXES
The provision for taxes on income includes the following:
- -------------------------------------------------------------------------------------------------------------------------
Year Ended May 31
---------------------------------------------
(In thousands) 1999 1998 1997
=========================================================================================================================
Federal income tax rate of 35% applied to income before income taxes $ 55,859 $ 52,345 $ 47,505
Increase (decrease) in taxes resulting from:
Tax credits (660) (1,132) (291)
State and local taxes - Net of federal income tax benefit 4,841 6,033 5,994
Foreign taxes in excess of U.S. federal tax rate 1,032 433 1,161
Amortization of goodwill 3,326 3,346 2,144
All other items, none of which exceed 5% of computed tax 653 694 900
- -------------------------------------------------------------------------------------------------------------------------
ACTUAL TAX EXPENSE $ 65,051 $ 61,719 $ 57,413
=========================================================================================================================
ACTUAL TAX RATE 40.76% 41.27% 42.30%
=========================================================================================================================
The provision for income taxes consists of the following:
- -------------------------------------------------------------------------------------------------------------------------
Current
Federal $ 48,609 $ 49,802 $ 48,363
State 7,448 9,281 9,222
Foreign 13,183 13,096 7,228
69,240 72,179 64,813
- -------------------------------------------------------------------------------------------------------------------------
Deferred
Federal (6,238) (9,970) (7,681)
Foreign 2,049 (490) 281
- -------------------------------------------------------------------------------------------------------------------------
ACTUAL TAX EXPENSE $ 65,051 $ 61,719 $ 57,413
=========================================================================================================================
Deferred income taxes result from timing differences in recognition of revenue
and expense for book and tax purposes, primarily from the tax timing differences
relating to business combinations.
NOTE D - COMMON SHARES
There are 200,000,000 common shares authorized with a stated value of $.015 per
share. At May 31, 1999 and 1998, there were 109,443,000 and 100,254,000 shares
outstanding respectively, each of which is entitled to one vote.
Basic earnings per share is computed by dividing income available to common
shareholders, the numerator, by the weighted average number of common shares
outstanding during each year, the denominator (108,731,000 in 1999, 98,527,000
in 1998 and 97,285,000 in 1997). In computing diluted earnings per share, the
net income was increased by the add back of interest expense, net of tax, on
convertible securities assumed to be converted. In addition, the number of
common shares was increased by common stock options with exercisable prices
lower than the average market prices of common shares during each year and
reduced by the number of shares assumed to have been purchased with proceeds
from the exercised options. The number of common shares was also increased by
additional shares issuable assuming conversion of convertible securities.
In April 1997, the Company adopted a Restricted Stock Plan. The Plan is intended
to replace, over a period of time, the Company's existing cash based Benefit
Restoration Plan. Under the terms of the Plan, up to 1,563,000 shares may be
awarded to certain employees through May 2007. For the year ended May 31, 1999,
93,000 shares were awarded under this Plan (110,000 shares in 1998). None of
these awards, which generally are subject to forfeiture until the completion of
five years of service, were vested at May 31, 1999 or May 31, 1998.
In January 1999, the Company authorized, through December 31, 1999, the
repurchase of up to 5,000,000 of its common shares. The repurchase of shares
under this program may be made in the open market or in private transactions, at
times and in amounts and prices that management deems appropriate. The Company
may
34
16
terminate or limit the repurchase program at any time. Through May 31, 1999, the
Company had repurchased 1,296,000 shares at an aggregate cost of $17,044,000.
Shares repurchased under this program are held at cost and are included in
Shareholders' Equity as Treasury Shares.
In April 1999, the Company adopted a Shareholder Rights Plan and declared a
dividend distribution of one right for each outstanding common share. The Plan
provides existing shareholders the right to purchase shares of the Company at a
discount in certain circumstances as defined by the Plan. The rights are not
exercisable at May 31, 1999 and expire in May 2009.
The Company has options outstanding under three stock option plans, the 1979
Nonqualified Stock Option Plan, the 1989 Stock Option Plan and the 1996 Key
Employees Stock Option Plan which provides for the granting of options for up to
4,500,000 shares. These options are generally exercisable cumulatively in equal
annual installments commencing one year from the grant date and have expiration
dates ranging from July 1999 to October 2008. At May 31, 1999, 2,134,000 shares
(2,856,000 at May 31, 1998) were available for future grant.
Transactions during the last two years are summarized as follows:
- ------------------------------------------------------------------------------------------------------------------------------------
SHARES UNDER OPTION
(In thousands) 1999 1998
====================================================================================================================================
Outstanding, beginning of year (weighted average price of $12.99 ranging from $5.03 to $17.25 per share) 4,432 3,204
Granted (weighted average price of $15.37 ranging from $14.88 to $16.13 per share) 722 1,644
Cancelled (weighted average price of $14.00 ranging from $5.03 to $16.35 per share) (101) (94)
Exercised (weighted average price of $10.22 ranging from $5.03 to $13.80 per share) (345) (322)
- ------------------------------------------------------------------------------------------------------------------------------------
Outstanding, end of year (weighted average price of $13.54 ranging from $5.84 to $17.25 per share) 4,708 4,432
- ------------------------------------------------------------------------------------------------------------------------------------
Exercisable, end of year (weighted average price of $12.13 ranging from $5.84 to $17.25 per share) 2,362 1,889
====================================================================================================================================
- ------------------------------------------------------------------------------------------------------------------------------------
Options Outstanding Options Exercisable
at May 31, 1999 at May 31, 1999
------------------------------------------------- ----------------------------------------
Average
Range of Shares Remaining Average Shares Average
Exercise Prices (000's) Life Price (000's) Price
====================================================================================================================================
$ 5.00 - $ 9.99 324 2.2 $ 8.47 324 $ 8.47
$ 10.00 - $ 14.99 2,513 6.4 $ 12.64 1,640 $ 12.03
$ 15.00 - $ 17.25 1,871 8.4 $ 15.63 398 $ 15.54
-------- --------
4,708 6.9 $ 13.54 2,362 $ 12.13
====================================================================================================================================
The Company is accounting for its stock option plans under the provisions of APB
Opinion No. 25 and, accordingly, no compensation cost has been recognized. If
compensation cost had been determined based on the fair value at the grant date
for awards under this plan consistent with the method prescribed by SFAS No.
123, the Company's net income and earnings per share for the years ended May 31,
1999 and 1998, would have been reduced to the pro forma amounts indicated in the
following table:
- --------------------------------------------------------------------------------------
(In thousands, except per share amounts) 1999 1998
======================================================================================
Pro forma net income $ 92,239 $ 85,920
======================================================================================
Pro forma earnings per share:
Basic $ .85 $ .87
======================================================================================
Diluted $ .84 $ .82
======================================================================================
The fair value of each option is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions. The expected volatility rate is 28.7% for shares granted in 1999
and 27.1% for 1998. The expected life is 7.3 and 7.0 years, with dividend
yields of 3.0% and 2.9% and risk-free interest rates of 5.0% and 6.2%, for 1999
and 1998, respectively.
35
17
NOTE E - LEASES
At May 31, 1999, certain property, plant and equipment were leased by the
Company under long-term leases. Certain of these leases provide for increased
rental based upon an increase in the cost-of-living index. Future minimum lease
commitments as of May 31, 1999 for all noncancellable leases are as follows:
- ---------------------------------------------------------------------------------------
May 31 (In thousands)
=======================================================================================
2000 $ 10,803
2001 7,843
2002 4,803
2003 2,996
2004 1,186
Thereafter 6,097
- ---------------------------------------------------------------------------------------
TOTAL MINIMUM LEASE COMMITMENTS $ 33,728
=======================================================================================
Rental expenses for all operating leases totalled $9,350,000 in 1999, $9,654,000
in 1998 and $8,804,000 in 1997. Capitalized leases were insignificant for the
three years ended May 31, 1999.
NOTE F - RETIREMENT PLANS
The Company sponsors a non-contributory defined benefit pension plan (The
Retirement Plan) covering substantially all domestic non-union employees.
Pension coverage for employees of the Company's foreign subsidiaries is
provided, to the extent deemed appropriate, through separate plans, many of
which are governed by local statutory requirements. In addition, benefits for
domestic union employees are provided by separate plans.
The Retirement Plan provides benefits that are based upon years of service and
average compensation with accrued benefits vesting after five years. Benefits
for union employees are generally based upon years of service. The Company's
funding policy is to contribute annually an amount that can be deducted for
federal income tax purposes using a different actuarial cost method and
different assumptions from those used for financial reporting.
Effective June 1, 1998, the Company adopted SFAS No. 132, Employers' Disclosure
About Pension and Other Postretirement Benefits. SFAS No. 132 does not change
the measurement or recognition of those plans, but revises the disclosure
requirements for pension and other postretirement benefit plans for all years
presented.
Net periodic pension cost (income) consisted of the following for the three
years ended May 31, 1999:
- -----------------------------------------------------------------------------------------------------------------------
U.S. Plans Non-U.S. Plans
------------------------------------------- --------------------------
(In thousands) 1999 1998 1997 1999 1998
Service cost $ 7,247 $ 5,575 $ 4,417 $ 1,041 $ 881
Interest cost 5,253 5,353 5,038 2,263 2,122
Expected return on plan assets (6,071) (4,930) (4,263) (3,183) (2,899)
Amortization of:
Prior service cost 114 110 130
Net gain on adoption of SFAS No. 87 (100) (100) (68)
Net actuarial (gain) loss recognized 71 (6) 149 1 (60)
Curtailment/settlement (gains) losses (1,728) (808) (308)
- -----------------------------------------------------------------------------------------------------------------------
NET PENSION COST $ 4,786 $ 5,194 $ 5,403 $ (186) $ 44
========================================================================================================================
36
18
The changes in benefit obligations and plan assets, as well as the funded status
of the Company's pension plans at May 31, 1999 and 1998 were as follows:
- ---------------------------------------------------------------------------------------------------------------------------
U.S. PLANS NON-U.S. PLANS
------------------------- -------------------------
(In thousands) 1999 1998 1999 1998
===========================================================================================================================
Benefit obligation at beginning of year $ 74,091 $ 64,837 $ 32,093 $ 27,700
Service cost 7,247 5,575 1,041 881
Interest cost 5,253 5,353 2,263 2,122
Benefits paid (11,000) (8,845) (1,538) (1,588)
Participant contributions 398 348
Actuarial (gain) loss 2,755 10,894 1,126 3,050
Currency exchange rate changes (1,466) (420)
Curtailment/settlement (gains) losses (2,018) (3,977) (911)
Plan amendments 254
- ---------------------------------------------------------------------------------------------------------------------------
BENEFIT OBLIGATION AT END OF YEAR $ 76,328 $ 74,091 $ 33,006 $ 32,093
===========================================================================================================================
Fair value of plan assets at beginning of year $ 64,132 $ 56,366 $ 38,106 $ 33,771
Actual return on plan assets 607 10,578 871 5,747
Employer contributions 7,976 6,126 429 414
Participant contributions 398 348
Benefits paid (11,000) (8,845) (1,702) (1,644)
Currency exchange rate changes (1,633) (530)
Curtailment/settlement gains (losses) (93)
- ---------------------------------------------------------------------------------------------------------------------------
FAIR VALUE OF PLAN ASSETS AT END OF YEAR $ 61,715 $ 64,132 $ 36,469 $ 38,106
===========================================================================================================================
Excess (deficit) of plan assets versus
benefit obligations at end of year $(14,613) $ (9,959) $ 3,463 $ 6,013
Contributions after measurement date 1,527 1,282 104
Unrecognized actuarial (gain) loss 13,161 5,237 2,989 174
Unrecognized prior service cost 824 1,003
Unrecognized net transitional asset (408) (507)
- ---------------------------------------------------------------------------------------------------------------------------
NET AMOUNT RECOGNIZED $ 491 $ (2,944) $ 6,556 $ 6,187
===========================================================================================================================
37
19
- ------------------------------------------------------------------------------------------------------------------
U.S. Plans Non-U.S. Plans
(In thousands) 1999 1998 1999 1998
==================================================================================================================
Amounts recognized in the consolidated
balance sheets consist of:
Prepaid benefit cost $ 2,788 $ 1,224 $ 7,446 $ 7,248
Accrued benefit liability (3,146) (5,011) (1,018) (1,147)
Intangible asset (SFAS No. 87) 124 143
Accumulated other comprehensive loss (net of tax) 725 700 128 86
- ------------------------------------------------------------------------------------------------------------------
NET AMOUNT RECOGNIZED $ 491 $(2,944) $ 6,556 $ 6,187
==================================================================================================================
For domestic plans with accumulatedbenefit obligations in excess of plan assets,
the projected benefit obligation, accumulated benefit obligation and fair value
of assets were $4,000,000, $4,000,000 and $839,000, respectively, as of May 31,
1999 and $5,445,000, $5,445,000 and $743,000, respectively, as of May 31, 1998.
For foreign plans with accumulated benefit obligations in excess of plan assets,
the projected benefit obligation, accumulated benefit obligation and fair value
of assets were $1,018,000, $1,018,000 and $ -0- , respectively as of May 31,
1999 and $1,533,000, $911,000 and $ -0- , respectively, as of May 31, 1998.
The following weighted average assumptions were used to determine the Company's
obligations under the plans:
- ------------------------------------------------------------------------------------------------------------------------------
U.S. Plans Non-U.S. Plans
---------------------- -------------------------
(In thousands) 1999 1998 1999 1998
==============================================================================================================================
Discount rate 7.00% 7.00% 5.83% 6.50%
Expected return on plan assets 9.00% 8.50% 8.25% 8.25%
Rate of compensation increase 4.50% 4.50% 4.25% 4.50%
==============================================================================================================================
The plans' assets consist primarily of stocks, bonds and fixed income
securities.
The Company also sponsors an employee savings plan under Section 401(k) of the
Internal Revenue Code which covers substantially all non-union employees in the
United States. The Plan provides for matching contributions in Company shares
based upon qualified employee contributions. Matching contributions charged to
income were $4,304,000, $4,001,000 and $2,229,000 for years ending May 31, 1999,
1998 and 1997, respectively.
38
20
NOTE G - POSTRETIREMENT HEALTH CARE BENEFITS
In addition to the defined benefit pension plan, the Company also provides
health care benefits to certain of its retired employees through unfunded plans.
Employees become eligible for these benefits if they meet minimum age and
service requirements. The components of this expense for the three years ended
May 31, 1999 were as follows:
- -------------------------------------------------------------------------------------------
(In thousands) 1999 1998 1997
===========================================================================================
Service cost - Benefits earned during this period $ 99 $ 90 $ 36
Interest cost on the accumulated obligation 784 915 714
Amortization of unrecognized (gains) (40) (52)
- -------------------------------------------------------------------------------------------
NET PERIODIC POSTRETIREMENT EXPENSE $ 843 $ 953 $ 750
===========================================================================================
The changes in the benefit obligations of the plans at May 31, 1999 and 1998,
were as follows:
- -----------------------------------------------------------------------------------------------------
(In thousands) 1999 1998
=====================================================================================================
Accumulated postretirement benefit obligation at beginning of year $ 14,661 $ 12,070
Service cost 99 90
Interest cost 784 914
Settlement/curtailment (gains) losses (181)
Benefit payments (693) (750)
Actuarial (gains) losses (3,102) 2,668
Currency exchange rate changes (201) (150)
- -----------------------------------------------------------------------------------------------------
Accumulated postretirement benefit obligation at end of year 11,548 14,661
Unrecognized actuarial gains (losses) (1,625) (1,406)
- -----------------------------------------------------------------------------------------------------
ACCRUED POSTRETIREMENT HEALTH CARE BENEFITS $ 13,173 $ 13,255
=====================================================================================================
A 7% general discount rate was used in determining the accumulated
postretirement benefit obligation as of May 31, 1999 and 1998. A 9% increase in
the cost of covered health care benefits was generally assumed for fiscal 1999
(10% for fiscal 1998). This trend rate in all cases is assumed to decrease to 5%
after several years and remain at that level thereafter except for various union
plans which will cap at alternate benefit levels. A 1% increase in the health
care costs trend rate would have increased the accumulated postretirement
benefit obligation as of May 31, 1999 by $1,264,000 and the net postretirement
expense by $112,000. A 1% decrease in the health care costs trend rate would
have decreased the accumulated postretirement benefit obligation as of May 31,
1999 by $1,045,000 and the net postretirement expense by $89,000.
39
21
NOTE H - CONTINGENCIES AND LOSS RESERVES
Accrued loss reserves consisted of the following classes:
- --------------------------------------------------------------------------------------------------
May 31
---------------------------
(In thousands) 1999 1998
==================================================================================================
Accrued product liability reserves $ 34,566 $ 26,799
Accrued warranty reserves - current 8,234 10,630
Accrued environmental reserves 5,214 4,891
Other 1,282 1,012
- --------------------------------------------------------------------------------------------------
Accrued loss reserves - current 49,296 43,332
Accrued warranty reserves - long-term 18,816 23,496
- --------------------------------------------------------------------------------------------------
TOTAL ACCRUED LOSS RESERVES $ 68,112 $ 66,828
==================================================================================================
The Company, through its wholly owned insurance subsidiary, provides certain
insurance coverage, primarily product liability, to the Company's other domestic
subsidiaries. Excess coverage is provided by outside carriers. The Company has
provided the reserves reflected above to provide for these potential losses as
well as other uninsured claims. Provision for estimated warranty costs is
recorded at the time of sale and periodically adjusted to reflect actual
experience.
In addition, the Company, like others in similar businesses, is involved in
several proceedings relating to environmental matters. It is the Company's
policy to accrue remediation costs when it is probable that such efforts will be
required and the related costs can be reasonably estimated. These liabilities
are undiscounted and do not take into consideration any possible recoveries of
future insurance proceeds or claims against third parties.
Due to the uncertainty inherent in the loss reserve estimation process, it is at
least reasonably possible that actual costs will differ from estimates, but,
based upon information presently available, such costs are not expected to have
a material adverse effect on the Company's competitive or financial position or
its ongoing results of operations. However, such costs could be material to
results of operations in a future period.
40
22
NOTE I - INTERIM FINANCIAL INFORMATION (UNAUDITED)
The following is a summary of the unaudited quarterly results of operations for
the years ended May 31, 1999 and 1998:
- -----------------------------------------------------------------------------------------------------------------------
Three Months Ended
-----------------------------------------------------------------------------
(In thousands, except per share amounts) August 31 November 30 February 28 May 31
-----------------------------------------------------------------------------
1999
=======================================================================================================================
Net sales $ 448,132 $ 415,725 $ 373,007 $ 475,290
- -----------------------------------------------------------------------------------------------------------------------
Gross profit 204,402 187,883 164,626 228,133
- -----------------------------------------------------------------------------------------------------------------------
Net income 31,224 21,712 6,130 35,480
- -----------------------------------------------------------------------------------------------------------------------
Basic earnings per share $ .30 $ .20 $ .06 $ .32
=======================================================================================================================
Diluted earnings per share $ .29 $ .20 $ .06 $ .32
=======================================================================================================================
Dividends per share $ .1120 $ .1175 $ .1175 $ .1175
=======================================================================================================================
- -----------------------------------------------------------------------------------------------------------------------
Three Months Ended
-----------------------------------------------------------------------------
(In thousands, except per share amounts) August 31 November 30 February 28 May 31
-----------------------------------------------------------------------------
1998
=======================================================================================================================
Net sales $ 415,053 $ 397,757 $ 350,456 $ 452,008
- -----------------------------------------------------------------------------------------------------------------------
Gross profit 187,101 177,364 149,373 209,574
- -----------------------------------------------------------------------------------------------------------------------
Net income 28,186 21,445 5,526 32,680
- -----------------------------------------------------------------------------------------------------------------------
Basic earnings per share $ .29 $ .22 $ .06 $ .33
=======================================================================================================================
Diluted earnings per share $ .27 $ .21 $ .06 $ .30
=======================================================================================================================
Dividends per share $ .1040 $ .1120 $ .1120 $ .1120
=======================================================================================================================
Quarterly earnings per share do not total to the yearly earnings per share due
to the weighted average number of shares outstanding in each quarter.
41
23
INDEPENDENT AUDITORS REPORT
TO THE BOARD OF DIRECTORS
AND SHAREHOLDERS
RPM, INC. AND SUBSIDIARIES
MEDINA, OHIO
We have audited the accompanying consolidated balance sheets of RPM, Inc. and
Subsidiaries as of May 31, 1999 and 1998, and the related consolidated
statements of income, shareholders' equity and cash flows for each of the years
in the three year period ended May 31, 1999. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of RPM, Inc. and
Subsidiaries at May 31, 1999 and 1998, and the results of their operations and
their cash flows for each of the years in the three year period ended May 31,
1999, in conformity with generally accepted accounting principles.
/s/ Ciulla, Smith & Dale, LLP
Cleveland, Ohio
July 6, 1999