UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
|X| Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended March 31, 2002
--------------
or
|_| Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from __________ to ____________
Commission file number 1-11499
WATTS INDUSTRIES, INC.
----------------------
(Exact name of registrant as specified in its charter)
Delaware 04-2916536
-------- ----------
(State of incorporation) (I.R.S. Employer Identification No.)
815 Chestnut Street, North Andover, MA 01845
- -------------------------------------- -----
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (978) 688-1811
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at April 30, 2002
----- -----------------------------
Class A Common, $.10 par value 17,967,524
Class B Common, $.10 par value 8,585,224
WATTS INDUSTRIES, INC. AND SUBSIDIARIES
---------------------------------------
INDEX
-----
Part I. Financial Information Page #
--------------------- ------
Item 1. Financial Statements
--------------------
Consolidated Balance Sheets at March 31, 2002
(unaudited) and December 31, 2001 3
Consolidated Statements of Income for the Three Months
Ended March 31, 2002 and 2001 (unaudited) 4
Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2002 and 2001 (unaudited) 5
Notes to Consolidated Financial Statements 6-13
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 14-20
Part II. Other Information
-----------------
Item 1. Legal Proceedings 20-22
Item 6. Exhibits and Reports on Form 8-K 23
Signatures 24
Exhibit Index 25
PART I. FINANCIAL INFORMATION
---------------------
ITEM 1. FINANCIAL STATEMENTS
--------------------
WATTS INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Thousands, except share amounts)
(Unaudited)
Mar. 31, Dec. 31,
ASSETS 2002 2001
--------- ---------
CURRENT ASSETS:
Cash and cash equivalents $ 10,291 $ 11,997
Trade accounts receivable, less allowance
for doubtful accounts of $6,011 at March
31, 2002 and $6,070 at December 31, 2001 107,812 95,498
Inventories:
Raw materials 35,497 34,276
Work in process 13,864 13,032
Finished goods 67,033 68,556
--------- ---------
Total Inventories 116,394 115,864
Prepaid expenses and other assets 12,319 7,436
Deferred income taxes 24,821 25,329
--------- ---------
Total Current Assets 271,637 256,124
--------- ---------
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment, at cost 225,766 218,235
Accumulated depreciation (94,703) (89,629)
--------- ---------
Property, plant and equipment, net 131,063 128,606
--------- ---------
OTHER ASSETS:
Goodwill, net of accumulated amortization
of $17,885 at March 31, 2002 and $17,885
at December 31, 2001 126,862 124,544
Other 13,116 11,196
--------- ---------
TOTAL ASSETS $ 542,678 $ 520,470
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 47,266 $ 42,873
Accrued expenses and other liabilities 52,581 55,930
Accrued compensation and benefits 11,668 11,033
Current portion of long-term debt 3,191 3,693
--------- ---------
Total Current Liabilities 114,706 113,529
--------- ---------
LONG-TERM DEBT, NET OF CURRENT PORTION 136,959 123,212
DEFERRED INCOME TAXES 15,342 15,692
OTHER NONCURRENT LIABILITIES 10,644 11,414
MINORITY INTEREST 10,381 7,309
STOCKHOLDERS' EQUITY:
Preferred Stock, $.10 par value; 5,000,000
shares authorized; no shares issued or
outstanding -- --
Class A Common Stock, $.10 par value; 80,000,000
shares authorized; 1 vote per share; issued
and outstanding: 17,816,563 shares at
March 31, 2002 and 17,776,509 shares at
December 31, 2001 1,782 1,778
Class B Common Stock, $.10 par value; 25,000,000
shares authorized; 10 votes per share; issued
and outstanding: 8,735,224 shares at March 31,
2002 and 8,735,224 shares at December 31, 2001 874 874
Additional paid-in capital 37,780 37,182
Retained earnings 240,220 233,761
Accumulated other comprehensive income/(loss) (26,010) (24,281)
--------- ---------
Total Stockholders' Equity 254,646 249,314
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 542,678 $ 520,470
========= =========
See accompanying notes to consolidated financial statements.
3
WATTS INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Thousands, except per share amounts)
(Unaudited)
Three Months Ended
----------------------
Mar. 31, Mar. 31,
2002 2001
--------- ---------
Net sales $ 143,320 $ 135,925
Cost of goods sold 93,841 89,261
--------- ---------
GROSS PROFIT 49,479 46,664
Selling, general & administrative expenses 35,227 32,845
Restructuring 10 0
--------- ---------
OPERATING INCOME 14,242 13,819
--------- ---------
Other (income) expense:
Interest income (86) (140)
Interest expense 1,830 2,417
Other, net 75 201
Minority interest 35 53
--------- ---------
1,854 2,531
--------- ---------
INCOME BEFORE INCOME TAXES 12,388 11,288
Provision for income taxes 4,332 4,015
--------- ---------
NET INCOME $ 8,056 $ 7,273
========= =========
BASIC EARNINGS PER SHARE
NET INCOME $ .30 $ .27
========= =========
Weighted average number of shares 26,532 26,464
========= =========
DILUTED EARNINGS PER SHARE
NET INCOME $ .30 $ .27
========= =========
Weighted average number of shares 26,943 26,819
========= =========
Dividends per common share $ .06 $ .06
========= =========
See accompanying notes to consolidated financial statements
4
WATTS INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Thousands)
(Unaudited)
Three Months Ended
---------------------
Mar. 31, Mar. 31,
2002 2001
-------- --------
OPERATING ACTIVITIES
Net income $ 8,056 $ 7,273
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 5,712 5,066
Amortization 98 863
Deferred income taxes (benefit) 155 (336)
Loss on disposal of assets (64) (3)
Equity in undistributed earnings (loss) of
affiliates (8) 13
Changes in operating assets and liabilities,
net of effects from acquisitions and
dispositions:
Accounts receivable (13,034) (764)
Inventories 1,683 (3,476)
Prepaid expenses and other assets (4,628) (1,502)
Accounts payable, accrued expenses and
other liabilities 2,611 1,235
-------- --------
Net cash provided by operating activities 581 8,369
-------- --------
INVESTING ACTIVITIES
Additions to property, plant and equipment (5,537) (3,441)
Proceeds from sale of property, plant and
equipment 67 95
Business acquisitions, net of cash acquired (8,175) (18,960)
Decrease/(Increase) in other assets 53 (90)
-------- --------
Net cash used in investing activities (13,592) (22,396)
-------- --------
FINANCING ACTIVITIES
Proceeds from long-term borrowings 28,000 35,362
Payments of long-term debt (13,884) (23,244)
Proceeds from exercise of stock options 602 417
Dividends (1,597) (1,609)
-------- --------
Net cash provided by financing activities 13,121 10,926
-------- --------
Effect of exchange rate changes on cash and
cash equivalents (287) 335
Net cash used in discontinued operations (1,529) (668)
-------- --------
CHANGE IN CASH AND CASH EQUIVALENTS (1,706) (3,434)
Cash and cash equivalents at beginning of period 11,997 15,235
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 10,291 $ 11,801
======== ========
NON CASH INVESTING AND FINANCING ACTIVITIES
Acquisitions of businesses:
Fair value of assets acquired $ 12,016 $ 28,045
Cash Paid 8,175 18,960
-------- --------
Liabilities Assumed $ 3,841 $ 9,085
======== ========
See accompanying notes to consolidated financial statements.
5
WATTS INDUSTRIES, INC. AND SUBSIDIARIES
- ---------------------------------------
Notes to Consolidated Financial Statements
- ------------------------------------------
(Unaudited)
- -----------
1. In the opinion of management, the accompanying unaudited, consolidated
financial statements contain all necessary adjustments, consisting only of
adjustments of a normal recurring nature, to present fairly Watts Industries,
Inc.'s Consolidated Balance Sheet as of March 31, 2002 (unaudited), its
Consolidated Statements of Income for the three months ended March 31, 2002 and
2001 (unaudited), and its Consolidated Statements of Cash Flows for the three
months ended March 31, 2002 and 2001 (unaudited).
The balance sheet at December 31, 2001 has been derived from the audited
financial statements at that date. The accounting policies followed by the
Company are described in the December 31, 2001 financial statements which are
contained in the Company's December 31, 2001 Annual Report on Form 10-K. It is
suggested that the financial statements included in this report be read in
conjunction with the financial statements and notes included in the December 31,
2001 Annual Report on Form 10-K.
2. The Company's shipping and handling costs included in selling general and
administrative expense amounted to $5,020,000 and $5,526,000 for the three
months ended March 31, 2002 and 2001, respectively.
3. Accounting Policies
-------------------
The Company adopted Financial Accounting Standards Board Statement No.
141, "Business Combinations" ("FAS 141") in fiscal 2001 and Financial Accounting
Standards Board Statement No. 142, "Goodwill and Other Intangible Assets" ("FAS
142") on January 1, 2002. FAS 141 requires that the purchase method of
accounting be used for all business combinations initiated after June 30, 2001.
FAS 141 also specifies the criteria that intangible assets acquired in a
purchase method business combination must meet to be recognized and reported
apart from goodwill. FAS 142 requires that goodwill and intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment, at least annually, in accordance with the provisions of FAS 142. FAS
142 also requires that intangible assets with definite useful lives be amortized
over their respective estimated useful lives to their estimated residual values
and reviewed for impairment in accordance with Financial Accounting Standards
Board Statement No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets".
FAS 142 requires the Company to perform an assessment of whether there is
an indication that the remaining recorded goodwill is impaired as of the date of
adoption. This assessment involves a two-step transitional impairment test. To
accomplish this, the Company must identify its reporting units and determine the
carrying value of each reporting unit by assigning the assets and liabilities,
including the existing goodwill and intangible assets, to those reporting units
as of January 1, 2002. To the extent that a reporting unit's carrying amount
exceeds its fair value, an indication exists that the reporting unit's goodwill
may be impaired and the Company must perform the second step of the transitional
impairment test. Any transitional impairment loss will be recognized as a
cumulative effect of a change in accounting principle. The Company is in the
process of completing this assessment, but based on the preliminary results the
Company does not anticipate any transitional impairment loss to result.
6
The pro forma effect of the adoption of the standard on prior period
earnings excluding goodwill amortization expense, net of tax, is as follows:
(in thousands except per share information) Three Months Ended March 31,
2002 2001
--------- ---------
Net income $ 8,056 $ 7,273
Add back: goodwill amortization, net of tax -- 758
--------- ---------
Adjusted net income $ 8,056 $ 8,031
========= =========
Basic earnings per share:
Net income $ .30 $ .27
Goodwill amortization -- .03
--------- ---------
Adjusted net income $ .30 $ .30
========= =========
Diluted earnings per share:
Net income $ .30 $ .27
Goodwill amortization -- .03
--------- ---------
Adjusted net income $ .30 $ .30
========= =========
The changes in the carrying amount of goodwill for the three months ended
March 31, 2002 are as follows (in thousands):
Carrying amount as of December 31, 2001 $ 124,544
Goodwill acquired during year 3,214
Effect of change in rates used for translation (896)
---------
Carrying amount as of March 31, 2002 $ 126,862
=========
Amortized Intangible Assets:
As of March 31, 2002
(in thousands) Gross Carrying Accumulated
Amount Amortization
------ ------------
Patents $5,637 $(3,174)
Other 3,480 (809)
------ -------
Total $9,117 $(3,983)
====== =======
Aggregate amortization expense for amortized other intangible assets for
the three months ended March 31, 2002 is $98,000. Additionally, future
amortization expense on other intangible assets approximates $300,000 for the
remainder of fiscal 2002, $337,000 for fiscal 2003, and $300,000 for fiscal
2004, 2005 and 2006.
Effective January 1, 2002, the Company also adopted FAS 144 which
addresses the accounting and reporting for the impairment or disposal of
long-lived assets. FAS 144 supercedes Financial Accounting Standards Board
Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of" ("FAS 121") but retains many of the
fundamental
7
provisions of FAS 121. FAS 144 also supercedes the accounting and reporting
provisions of Accounting Principles Board Opinion No. 30, "Reporting the Results
of Operations - Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and Transactions"
("APB 30") for the disposal of a segment of a business. However, FAS 144 retains
the requirements of APB 30 to report discontinued operations separately and
extends that reporting requirement to components of an entity that has either
been disposed of or is classified as held for sale. FAS 144 excludes goodwill
and other intangibles that are not amortized from its scope. For assets to be
held and used, FAS 144 addresses the recoverability of an asset or group of
assets, clarifies how an impairment loss should be allocated, and creates a
requirement to use a fair value if market prices are not available and
uncertainties exist about the timing and amount of cash flows. For long-lived
assets to be disposed of by sale, FAS 144 establishes the criteria to be met to
qualify for this classification, defines the timing of when the related sale
must be consummated, eliminates the net realizable value measurement approach
for segments of a business and certain acquired assets in a business
combination, and defines costs to sell the asset. FAS 144 was effective for
fiscal years beginning after December 15, 2001 and was not material to our
consolidated financial statements.
4. Sales Incentives and Other
--------------------------
During 2000, the Financial Accounting Standards Board's Emerging Issues
Task Force (EITF) added to its agenda various revenue recognition issues that
could impact the income statement classification of certain promotional
payments. In May 2000, the EITF reached a consensus on Issue 00-14, "Accounting
for Certain Sales Incentives". EITF 00-14 addresses the recognition and income
statement classification of various sales incentives. The consensus is effective
for the first quarter of 2002 and was not material to our consolidated financial
statements.
In April 2001, the EITF reached a consensus on Issue 00-25, "Vendor Income
Statement Characterization of Consideration to a Purchaser of the Vendor's
Products or Services". EITF 00-25 addresses the income statement classification
of consideration, other than that directly addressed in Issue 00-14, from a
vendor to a reseller, or another party that purchases the vendor's products. The
consensus is effective for the first quarter of 2002 and was not material to our
consolidated financial statements.
5. Derivative Instruments
----------------------
Certain forecasted transactions, primarily intercompany sales between the
United States and Canada, and assets are exposed to foreign currency risk. The
Company monitors its foreign currency exposures on an ongoing basis to maximize
the overall effectiveness of its foreign currency hedge positions. During the
quarter ended March 31, 2002, the Company used foreign currency forward
contracts as a means of hedging exposure to foreign currency risks. The
Company's foreign currency forwards have been designated and qualify as cash
flow hedges under the criteria of FAS 133. FAS 133 requires that changes in fair
value of derivatives that qualify as cash flow hedges be recognized in other
comprehensive income while the ineffective portion of the derivative's change in
fair value be recognized immediately in earnings. The net gain on these
contracts recorded in other comprehensive income during the quarter ended March
31, 2002 was $32,000. There were no ineffective amounts for the quarter ended
March 31, 2002.
8
The Company uses interest rate swaps as an economic hedge on forecasted
interest costs. FAS 133 requires that unrealized gains and losses on derivatives
not qualifying for hedge accounting be recognized currently in earnings. During
the quarter ended September 30, 2001, the Company entered into an interest rate
swap for its $75,000,000 notes. The Company swapped the fixed interest rate of 8
3/8% to floating LIBOR plus 3.74%. The term of the swap matches the maturity
date of the notes (December 2003). The fair value of this swap at March 31, 2002
was approximately $859,000. This swap qualifies for hedge accounting treatment.
For the three months ended March 31, 2002, the swap reduced interest expense by
$516,000.
The Company also utilizes, on a limited basis, certain commodity
derivatives, primarily on copper used in its manufacturing process, to hedge the
cost of its anticipated production requirements. The Company did not utilize any
commodity derivatives during the quarter ended March 31, 2002.
6. Restructuring
-------------
The Company is implementing a plan to consolidate several of its
manufacturing plants both in North America and Europe. At the same time it is
expanding its manufacturing capacity in China. The implementation of this
manufacturing restructuring plan began during the fourth quarter of fiscal 2001
and is expected to be completed during fiscal 2002 to insure the quality of its
products and minimize any interruption in its delivery of those products to its
customers. The Company recorded manufacturing restructuring plan costs of
$5,831,000 pre-tax in the fourth quarter of fiscal 2001 and $909,000 pre-tax in
the first quarter of fiscal 2002. The Company anticipates recording up to an
additional $4,100,000 pre-tax in 2002 as it continues to implement the program.
The restructuring costs recorded in 2001 and the first quarter of 2002 consist
primarily of severance costs of approximately 39 employees in manufacturing and
administration groups, 38 of whom have been terminated as of March 31, 2002.
Asset write-downs consist primarily of write-offs of inventory related to
product lines that the Company has discontinued as part of this restructuring
plan and have been recorded in cost of goods sold. Other costs primarily relate
to accelerated depreciation based on shorter estimated useful lives of certain
fixed assets. The tax benefits of the costs and asset write-downs are expected
to slightly exceed cash outlays to implement this program, which would allow the
Company to complete the restructuring without consuming any cash. The Company
estimates an annual pre-tax savings of approximately $4,000,000 following the
completion of the plan. Both the estimated total costs to be incurred in
connection with this plan and the associated savings have been reduced since the
discussion of this topic in the Company's Annual Report on Form 10-K for the
year ended December 31, 2001.
(in thousands) Initial Utilized Balance Additional Utilized Remaining
Provision During 2001 2001 Provisions During 2002 Balance
--------- ----------- ---- ---------- ----------- -------
Restructuring/Other $1,454 $ 692 $762 $ 10 $ 175 $597
Asset Write-downs 4,300 4,300 -- 563 563 --
Other costs 77 77 -- 336 336 --
------ ------ ---- ---- ------ ----
Total $5,831 $5,069 $762 $909 $1,074 $597
====== ====== ==== ==== ====== ====
9
7. Earnings per Share
------------------
The following tables set forth the reconciliation of the calculation of
earnings per share:
For the Three Months Ended March 31, 2002
-----------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
----------- ------------- ------
Basic EPS
- ---------
Net Income $8,056,000 26,531,756 $0.30
Effect of Dilutive Securities
- -----------------------------
Common Stock Equivalents -- 411,273 --
---------- ---------- -----
Diluted EPS $8,056,000 26,943,029 $0.30
========== ========== =====
For the Three Months Ended March 31, 2001
-----------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
----------- ------------- ------
Basic EPS
- ---------
Net Income $7,273,000 26,464,058 $0.27
Effect of Dilutive Securities
- -----------------------------
Common Stock Equivalents -- 355,072 --
---------- ---------- -----
Diluted EPS $7,273,000 26,819,130 $0.27
========== ========== =====
Stock options to purchase 158,744 shares and 519,863 shares of common stock were
outstanding at March 31, 2002 and 2001, respectively, but were not included in
the computation of diluted earnings per share because the options' exercise
price was greater than the average market price of the common shares and
therefore, the effect would have been antidilutive.
10
8. Segment Information
-------------------
The following table presents certain operating segment information:
(in thousands)
Three months ended North
March 31, 2002: America Europe Asia Corporate Consolidated
- --------------- -------- -------- ------- --------- ------------
Net Sales $109,881 $ 31,371 $ 2,068 $ -- $143,320
Operating income 14,398 3,332 38 (3,526) 14,242
Capital Expenditures 3,187 956 1,394 -- 5,537
Depreciation and Amortization 3,900 1,704 206 -- 5,810
Identifiable Assets 351,141 156,215 35,322 -- 542,678
Three months ended
March 31, 2001:
- ---------------
Net Sales $102,200 $ 30,540 $ 3,185 $ -- $135,925
Operating income 13,396 3,052 70 (2,699) 13,819
Capital Expenditures 2,836 385 220 -- 3,441
Depreciation and Amortization 4,044 1,701 184 -- 5,929
Identifiable Assets 332,056 145,162 23,752 -- 500,970
The above operating segments are presented on a basis consistent with the
presentation included in the Company's December 31, 2001 financial statements.
There have been no material changes in the identifiable assets of the individual
segments since December 31, 2001.
Corporate consists primarily of compensation expense for corporate
headquarters' staff, professional fees, including legal and audit, and product
liability and general liability insurances.
9. Other Comprehensive Income
--------------------------
The accumulated balances for the components of the Other Comprehensive
Income/(Loss) are:
Accumulated
Foreign Other
Currency Cash Flow Comprehensive
(in thousands) Translation Hedges Income/(loss)
----------- ------ ------------
Balance December 31, 2001 $(24,281) -- $(24,281)
Change in period (1,761) 32 (1,729)
-------- --- --------
Balance March 31, 2002 $(26,042) 32 $(26,010)
======== === ========
Balance December 31, 2000 $(19,728) -- $(19,728)
Change in period (5,034) 160 (4,874)
-------- --- --------
Balance March 31, 2001 $(24,762) 160 $(24,602)
======== === ========
11
Accumulated other comprehensive income/(loss) in the Consolidated Balance
Sheets as of March 31, 2002 and December 31, 2001 consists of cumulative
translation adjustments and as of March 31, 2002 changes in the fair value of
certain financial instruments which qualify for hedge accounting as required by
FAS 133. The Company's total comprehensive income was as follows:
Three Months Ended March 31,
(in thousands) 2002 2001
------- -------
Net Income $ 8,056 $ 7,273
Unrealized Gains Derivative Instruments, Net of Tax 32 160
Foreign Currency Translation Adjustments (1,761) (5,034)
------- -------
Total Comprehensive Income $ 6,327 $ 2,399
======= =======
10. Acquisitions
------------
On March 5, 2002, the Company entered into a joint venture with the Yuhuan
County Cheng Guan Metal Hose Factory ("Cheng Guan") located in Taizhou, Zhejiang
Province of the Peoples Republic of China. Cheng Guan, with annual sales prior
to the transaction of approximately $13 million, is a manufacturer of a variety
of plumbing products sold both into the Chinese domestic market and export
markets. Their product lines were contributed to the joint venture and include
hose, hose connectors, multi-layer tubing and stainless steel braided hose. The
joint venture is owned 60% by Watts and 40% by our Chinese partner. The Company
has invested $7,800,000 in cash to obtain this 60% interest. The March 31, 2002
Consolidated Balance Sheet of the Company contains a preliminary purchase price
allocation of the joint venture, consistent with the guidelines in FAS 141 and
FAS 142.
On September 28, 2001, a wholly owned subsidiary of the Company acquired
the assets of the Powers Process Controls Division of Mark Controls Corporation,
a subsidiary of Crane Co. located in Skokie, Illinois and Mississauga, Ontario,
Canada for approximately $13 million in cash. Powers designs and manufactures
thermostatic mixing valves for personal safety and process control applications
in commercial and institutional facilities. It also manufactures control valves
and commercial plumbing brass products including shower valves and lavatory
faucets. Powers annualized sales prior to the acquisition were approximately $20
million.
On June 13, 2001, a wholly owned subsidiary of the Company acquired
Premier Manufactured Systems, Inc., located in Phoenix, Arizona for
approximately $5 million in cash. Premier manufactures water filtration systems
for both residential and commercial applications and other filtration products
including under-the-counter ultraviolet filtration as well as a variety of
sediment and carbon filters. Premier's annualized sales prior to the acquisition
were approximately $10 million.
On June 1, 2001, a wholly owned subsidiary of the Company acquired Fimet
S.r.l. (Fabbrica Italiana Manometri e Terometri) located in Milan, Italy and its
wholly owned subsidiary, MTB AD, which is located in Bulgaria for approximately
$6 million in cash. The acquired business manufactures pressure and temperature
gauges for use in the HVAC market. Fimet's annualized sales prior to the
acquisition were approximately $9 million.
12
11. Debt Issuance
-------------
On February 28, 2002, the Company entered into a new revolving credit
facility with a syndicate of banks (the "Revolving Credit Facility"), which
replaces the Company's $100 million (U.S.) facility and its 39,350,000 euro
facility. The Revolving Credit Facility provides for borrowings of up to $150
million (U.S.), which includes a $100 million tranche for U.S. dollar borrowings
and a $50 million tranche for euro base borrowings and matures in February 2005.
Approximately $50 million of borrowings under the Revolving Credit Facility were
used to repay amounts outstanding under the prior facilities. The Revolving
Credit Facility will be used to support the Company's acquisition program,
working capital requirements and for general corporate purposes.
Outstanding indebtedness under the Revolving Credit Facility bears
interest at one of three customary rates plus a margin of 100 basis points,
depending on the applicable base rate and the Company's bond rating. The average
interest rate for March 2002 was approximately 3%. The Revolving Credit Facility
includes operational and financial covenants, customary for facilities of this
type, including, among others, restrictions on additional indebtedness, liens
and investments and maintenance of certain leverage ratios. As of March 31,
2002, the Company was in compliance with all covenants related to the Revolving
Credit Facility.
12. Contingencies
-------------
In April 1998, the Company became aware of a complaint that was filed
under seal in the State of California alleging violations of the California
False Claims Act (the "James Jones case"). The complaint alleges that a former
subsidiary of the Company sold products utilized in municipal water systems
which failed to meet contractually specified standards and falsely certified
that such standards had been met. The complaint further alleges that the
municipal entities have suffered tens of millions of dollars in damages as a
result of defective products and seeks treble damages, reimbursement of legal
costs and penalties. The original complaint has been amended, and the total
number of plaintiffs is 161, 14 of which have intervened to date. In June 2001,
the Company and the other defendants reached a proposed settlement with the Los
Angeles Department of Water and Power ("LADWP"), one of the plaintiffs in the
James Jones case, which was approved by the California Superior Court on October
31, 2001 and by the Los Angeles City Council on December 14, 2001. The other
plaintiffs remain, and the Company is vigorously contesting this matter.
The Company established initial reserves in the amount of $10,100,000
after tax which amount is currently $5,000,000 after tax, with respect to the
James Jones case, which are classified under the item "Accrued expenses and
other liabilities" in the Company's Consolidated Balance Sheet as of March 31,
2002. The Company presently believes, on the basis of all available information,
that these reserves are adequate to cover the Company's probable and reasonably
estimable losses resulting from the James Jones case. However, litigation is
inherently uncertain and the Company believes that there exists a reasonable
possibility that it may ultimately incur losses in the James Jones case in
excess of the amount accrued for that matter. The Company is currently unable to
make an estimate of the range of any additional losses. Also see Part II, Item
1. Other lawsuits and proceedings or claims, arising from the ordinary course of
operations, are also pending or threatened against the Company and its
subsidiaries. Based on the facts presently known to it, the Company does not
believe that the ultimate outcome of the James Jones case and these other
litigation matters will have a material adverse effect on its liquidity,
financial condition or results of operations.
13
Item 2. Management's Discussion and Analysis of Financial Condition and Results
-----------------------------------------------------------------------
of Operations
-------------
Recent Developments
- -------------------
On March 5, 2002, the Company entered into a joint venture with the Yuhuan
County Cheng Guan Metal Hose Factory ("Cheng Guan") located in Taizhou, Zhejiang
Province of the Peoples Republic of China. Cheng Guan, with annual sales prior
to the transaction of approximately $13 million, is a manufacturer of a variety
of plumbing products sold both into the Chinese domestic market and export
markets. Their product lines were contributed to the joint venture and include
hose, hose connectors, multi-layer tubing and stainless steel braided hose. The
joint venture is owned 60% by Watts and 40% by our Chinese partner. The Company
has invested $7,800,000 in cash to obtain this 60% interest. The March 31, 2002
Consolidated Balance Sheet of the Company contains a preliminary purchase price
allocation of the joint venture, consistent with the guidelines in FAS 141 and
FAS 142.
As part of the Company's $18,700,000 capital expenditure budget for fiscal
2002, the Company will be investing approximately $9,000,000 to establish a 100%
controlled bronze and brass manufacturing plant in Tianjin, China. The Company
anticipates the plant will be completed at the end of fiscal 2002. As of March
31, 2002 the Company has spent $1,127,000.
On February 28, 2002, the Company entered into a new revolving credit
facility with a syndicate of banks (the "Revolving Credit Facility"), which
replaces the Company's $100 million (U.S.) facility and its 39,350,000 euro
facility. The Revolving Credit Facility provides for borrowings of up to $150
million (U.S.), which includes a $100 million tranche for U.S. dollar borrowings
and a $50 million tranche for euro base borrowings and matures in February 2005.
Approximately $50 million of borrowings under the Revolving Credit Facility were
used to repay amounts outstanding under the prior facilities. The Revolving
Credit Facility will be used to support the Company's acquisition program,
working capital requirements and for general corporate purposes.
The Company is implementing a plan to consolidate several of its
manufacturing plants both in North America and Europe. At the same time it is
expanding its manufacturing capacity in China. The implementation of this
manufacturing restructuring plan began during the fourth quarter of fiscal 2001
and is expected to be completed during fiscal 2002 to insure the quality of its
products and minimize any interruption in its delivery of those products to its
customers. The Company recorded manufacturing restructuring plan costs of
$5,831,000 pre-tax in the fourth quarter of fiscal 2001 and $909,000 pre-tax in
the first quarter of fiscal 2002. The Company anticipates recording up to an
additional $4,100,000 pre-tax in 2002 as it continues to implement the program.
The restructuring costs recorded in 2001 and the first quarter of 2002 consist
primarily of severance costs of approximately 39 employees in manufacturing and
administration groups, 38 of whom have been terminated as of March 31, 2002.
Asset write-downs consist primarily of write-offs of inventory related to
product lines that the Company has discontinued as part of this restructuring
plan and have been recorded in cost of goods sold. Other costs primarily relate
to accelerated depreciation based on shorter estimated useful lives of certain
fixed assets. The tax benefits of the costs and asset write-downs are expected
to slightly exceed cash outlays to implement this program, which would allow the
Company to complete the restructuring without consuming any cash. The Company
estimates an annual pre-tax savings of approximately $4,000,000
14
following the completion of the plan. Both the estimated total costs to be
incurred in connection with this plan and the associated savings have been
reduced since the discussion of this topic in the Company's Annual Report on
Form 10-K for the year ended December 31, 2001.
Results of Operations
- ---------------------
Three Months Ended March 31, 2002 Compared to
- ---------------------------------------------
Three Months Ended March 31, 2001
- ---------------------------------
Net sales for the three months ended March 31, 2002 increased $7,395,000
(5.4%) to $143,320,000 compared to the same period in 2001. The increase in net
sales is attributable to the following:
Internal Growth $ (574) (0.4%)
Acquisitions 9,306 6.8%
Foreign Exchange (1,337) (1.0%)
------- ----
Total Change $ 7,395 5.4%
======= ====
The growth in net sales from acquired businesses is due to the inclusion
of the net sales of Powers Process Controls acquired on September 28, 2001,
Premier Manufactured Systems acquired on June 13, 2001 and Fimet S.r.l. acquired
on June 1, 2001. The decrease in foreign exchange is due primarily to the euro
devaluation against the U.S. dollar compared to the same period in 2001.
Watts monitors its net sales in three geographical segments: North
America, Europe and Asia. As outlined below, North America, Europe and Asia
accounted for 76.7%, 21.9% and 1.4% of net sales, respectively, in the three
months ended March 31, 2002, compared to 75.2%, 22.5%, and 2.3% of net sales,
respectively, in the three months ended March 31, 2001. The Company's net sales
in these groups for the three months ended March 31, 2002 and 2001 were as
follows:
3/31/02 3/31/01 Change
-------- -------- -------
North America $109,881 $102,200 $ 7,681
Europe 31,371 30,540 831
Asia 2,068 3,185 (1,117)
-------- -------- -------
Total $143,320 $135,925 $ 7,395
======== ======== =======
The increase in North America's net sales is due to the Powers Process
Controls and Premier acquisitions. The increase in Europe's net sales is due to
the Fimet acquisition, partially offset by the euro devaluation against the US
dollar. Sales in the European market on a local currency basis were 6.0% above
the comparable prior year period. The decrease in Asia's net sales is due to
reduced demand in the North American export market.
Gross profit for the three months ended March 31, 2002 increased
$2,815,000 (6.0%) from the comparable quarter last year and increased as a
percentage of net sales from 34.3% to 34.5%. The Company charged $847,000 of
costs associated with its manufacturing restructuring plan to cost of sales.
Excluding the manufacturing restructuring plan costs, the gross profit would
have increased $3,662,000 and would have increased as a percent of sales from
34.3% to 35.1%. This increase is primarily
15
attributable to reduced spending in manufacturing fixed overhead as well as
improved efficiencies in manufacturing compared to the comparable quarter last
year.
Selling, general and administrative expenses for the three months ended
March 31, 2002 increased $2,382,000 (7.3%) to $35,227,000 compared to the same
period in 2001. This increase is attributable to the inclusion of selling,
general, and administrative expenses of acquired companies and an increase in
the cost of product and general liability insurance and legal expenses. The
Company adopted FAS 142 "Goodwill and Other Intangible Assets" during the
quarter ended March 31, 2002, and accordingly has not recorded goodwill
amortization. The Company recorded goodwill amortization of $763,000 on a
pre-tax basis as part of its selling, general and administrative expenses in the
quarter ended March 31, 2001.
Operating income for the three months ended March 31, 2002 increased
$423,000 (3.1%) to $14,242,000 compared to the same period in 2001 due to
increased gross profit and the cessation of goodwill amortization partially
offset by increased selling, general and administrative expenses. The
manufacturing restructuring plan costs reduced operating income by $857,000.
The Company's operating income by segment for the three months ended March
31, 2002 and 2001 were as follows:
3/31/02 3/31/01 Change
-------- -------- -------
North America $ 14,398 $ 13,396 $ 1,002
Europe 3,332 3,052 280
Asia 38 70 (32)
Corporate (3,526) (2,699) (827)
-------- -------- -------
Total $ 14,242 $ 13,819 $ 423
======== ======== =======
The increase in North America is due to increased gross profit primarily
due to the inclusion of operating earnings of acquired companies. The increase
in Europe is due to the inclusion of the operating earnings of Fimet, which was
acquired in June 2001, partially offset by the euro devaluation against the US
dollar compared to the prior year. Expenses relating to corporate are primarily
compensation expense for corporate headquarters' staff, professional fees,
including legal and audit expenses, product liability and general liability
insurances. The increase in corporate expenses is primarily due to increased
premiums for product liability and general liability insurance and increased
legal expense.
Interest expense decreased $587,000 in the quarter ended March 31, 2002,
compared to the same period in 2001, primarily due to lower interest rates on
variable rate indebtedness. On September 1, 2001 the Company entered into an
interest rate swap on its $75,000,000 8 3/8% notes. The swap converted the
interest from fixed to floating and reduced the Company's interest expense by
$516,000 in the quarter ended March 31, 2002.
The Company's effective tax rate for continuing operations decreased from
35.6% to 35.0%. The decrease is primarily attributable to the elimination of
goodwill amortization which was not tax deductible.
16
Net income for the three months ended March 31, 2002 increased $783,000
(10.8%) to $8,056,000 or $.30 per common share compared to $.27 per common share
for the three months ended March 31, 2001 on a diluted basis.
Liquidity and Capital Resources
- -------------------------------
During the three month period ended March 31, 2002, the Company generated
$581,000 in cash flow from continuing operations. The Company spent $5,537,000
on capital equipment in the quarter ended March 31, 2002. Capital expenditures
were primarily for manufacturing machinery and equipment as part of the
Company's commitment to continuously improve its manufacturing capabilities. The
Company's capital expenditure budget for the twelve months ended December 31,
2002 is $18,700,000. The largest component of this budget is the establishment
of a 100% controlled bronze and brass manufacturing plant in Tianjin, China, for
an estimated cost of $9,000,000 of which $1,127,000 was spent in the first
quarter of 2002.
The Company has negative free cash flow of $6,553,000 (defined as cash
provided by continuing operations less dividends and capital expenditures)
during the three months ended March 31, 2002 versus positive free cash flow of
$3,319,000 in the comparable prior year period. The decrease is attributable to
a decrease in cash from operations compared to 2001, primarily due to an
increase in accounts receivable. This increase in accounts receivable is due to
the increased sales in the last month of the quarter compared to the quarter
ended December 31, 2001 as well as a change in payment terms from one of the
Company's largest customers. The Company does not anticipate any additional
material increases in accounts receivable from this customer's change in payment
terms.
On February 28, 2002, the Company entered into a new revolving credit
facility with a syndicate of banks (the "Revolving Credit Facility"), which
replaces the Company's $100 million (U.S.) facility and its 39,350,000 euro
facility. The Revolving Credit Facility provides for borrowings of up to $150
million (U.S.), which includes a $100 million tranche for U.S. dollar borrowings
and a $50 million tranche for euro base borrowings and matures in February 2005.
Approximately $50 million of borrowings under the Revolving Credit Facility were
used to repay amounts outstanding under the prior facilities. The Revolving
Credit Facility will be used to support the Company's acquisition program,
working capital requirements and for general corporate purposes. As of March 31,
2002, long term debt included $53,906,000 outstanding on the credit facility for
both U.S. dollar and euro base borrowings, and the Company was in compliance
with all covenants related to the Revolving Credit Facility.
Outstanding indebtedness under the Revolving Credit Facility bears
interest at one of three customary rates plus a margin of 100 basis points,
depending on the applicable base rate and the Company's bond rating. The average
interest rate for March 2002 was approximately 3%. The Revolving Credit Facility
includes operational and financial covenants, customary for facilities of this
type, including, among others, restrictions on additional indebtedness, liens
and investments and maintenance of certain leverage ratios. As of March 31,
2002, the Company was in compliance with all covenants related to the Revolving
Credit Facility.
17
Working capital at March 31, 2002 was $156,931,000 compared to
$142,595,000 at December 31, 2001. This increase is primarily due to the
increase in accounts receivable. The ratio of current assets to current
liabilities was 2.4 to 1 at March 31, 2002 compared to 2.3 to 1 at December 31,
2001. Cash and cash equivalents were $10,291,000 at March 31, 2002 compared to
$11,997,000 at December 31, 2001. The increase in long-term debt to $136,959,000
at March 31, 2002 from $123,212,000 at December 31, 2001 was due to the increase
in working capital, capital expenditures and the establishment of the "Cheng
Guan" joint venture. Debt as a percentage of total capital employed (defined as,
short term and long term debt as a percentage of the sum of short term and long
term debt plus equity) was 35.5% at March 31, 2002 compared to 33.7% at December
31, 2001.
The Company anticipates that available funds and those funds provided from
current operations will be sufficient to meet current operating requirements and
anticipated capital expenditures for at least the next 24 months.
The Company's long-term financial obligations are presented in the following
table:
(in thousands) Less than 1-3 4-5 After 5
Total 1 year years Years years
----- ------ ----- ----- -----
Long-term debt, including
current maturities (a) $140,150 $3,191 $134,824 $ 868 $1,267
Operating leases 1,851 566 1,152 133 --
-------- ------ -------- ------ ------
Total $142,001 $3,757 $135,976 $1,001 $1,267
======== ====== ======== ====== ======
(a) as recognized in the Consolidated Balance Sheet
Letters of Credit are purchased guarantees that ensure the Company's
performance or payment to third parties in accordance with specified terms and
conditions. The following table presents the Company's letters of credit for
amounts committed but not drawn-down and the amounts drawn-down on such
instruments. These instruments may exist or expire without being drawn down.
Therefore, the amounts committed but not drawn-down, do not necessarily
represent future cash flows.
(in thousands) Amounts Committed Amounts Drawn-down
But Not Drawn-down And Outstanding
------------------ ---------------
March 31, March 31, March 31, March 31,
2002 2001 2002 2001
---- ---- ---- ----
Commitments to Extend Credit $21,689 $21,946 $3,336 $7,131
Certain of the Company's loan agreements contain covenants that require,
among other items, the maintenance of certain financial ratios, and limit the
Company's ability to enter into secured borrowing arrangements.
The Company from time to time is involved with environmental proceedings
and other legal proceedings and incurs costs on an ongoing basis related to
these matters. The Company has not incurred material costs in fiscal 2002 in
connection with any of these matters. During the first quarter of 2002 the
18
Company disbursed $1,529,000 after tax, for defense and settlement costs related
to the James Jones case, and this amount is recorded as discontinued operations
in the Company's Consolidated Statement of Cash Flows. See Part II, Item 1,
Legal Proceedings.
New Accounting Standards
- ------------------------
In August 2001, the FASB issued Financial Accounting Standards Board
Statement No. 143, "Accounting for Asset Retirement Obligations" ("FAS 143")
which requires companies to record the fair value of an asset retirement
obligation as a liability in the period it incurs a legal obligation associated
with the retirement of tangible long-lived assets that result from the
acquisition, construction, development and or normal use of the assets. The
company must also record a corresponding increase in the carrying value of the
related long-lived asset and depreciate that cost over the remaining useful life
of the asset. The liability must be increased each period for the passage of
time with the offset recorded as an operating expense. The liability must also
be adjusted for changes in the estimated future cash flows underlying the
initial fair value measurement. Companies must also recognize a gain or loss on
the settlement of the liability. The provisions of FAS 143 are effective for
fiscal years beginning after June 15, 2002. At the date of the adoption of FAS
143, companies are required to recognize a liability for all existing asset
retirement obligations and the associated asset retirement costs. The Company is
currently evaluating the effect that the adoption of FAS 143 will have on its
results of operations and its financial position.
Quantitative and Qualitative Disclosures About Market Risk
- ----------------------------------------------------------
The Company uses derivative financial instruments primarily to reduce
exposure to adverse fluctuations in foreign exchange rates, interest rates and
prices of certain raw materials used in the manufacturing process. The Company
does not enter into derivative financial instruments for trading purposes. As a
matter of policy, all derivative positions are used to reduce risk by hedging
underlying economic exposure. The derivatives the Company uses are instruments
with liquid markets.
The Company's consolidated earnings, which are reported in United States
dollars are subject to translation risks due to changes in foreign currency
exchange rates. However, its overall exposure to such fluctuations is reduced by
the diversity of its foreign operating locations which encompass a number of
different European locations, Canada, and China.
The Company's foreign subsidiaries transact most business, including
certain intercompany transactions, in foreign currencies. Such transactions are
principally purchases or sales of materials and are denominated in European
currencies or the U.S. or Canadian dollar. The Company uses foreign currency
forward exchange contracts to manage the risk related to intercompany purchases
that occur during the course of a fiscal year and certain open foreign currency
denominated commitments to sell products to third parties. Additional details
are provided in Note 5 of the Notes to the Consolidated Financial Statements.
The Company has historically had a very low exposure to changes in
interest rates. Interest rate swaps are used to mitigate the impact of interest
rate fluctuations on certain variable rate debt instruments. However, the
Company's senior notes and its U.S. revolving line of credit are subject to
19
the impact of changes in interest rates. Additional details are provided in Note
5 of the Notes to the Consolidated Financial Statements.
The Company purchases significant amounts of bronze ingot, brass rod and
cast iron which are utilized in manufacturing its many product lines. The
Company's operating results can be adversely affected by changes in commodity
prices if it is unable to pass on related price increases to its customers. The
Company manages this risk by monitoring related market prices, working with its
suppliers to achieve the maximum level of stability in their costs and related
pricing, seeking alternative supply sources when necessary and passing increases
in commodity costs to its customers, to the maximum extent possible, when they
occur. Additionally, on a limited basis, the Company uses commodity futures
contracts to manage this risk. Additional details are provided in Note 5 of the
Notes to the Consolidated Financial Statements.
Certain Factors Affecting Future Results
- ----------------------------------------
This report includes statements which are not historical facts and are
considered forward looking within the meaning of the Private Securities
Litigation Reform Act of 1995. These forward looking statements reflect the
Company's current views about future results of operation and other forward
looking information and may be identified by their use of words like "plan",
"believe", "expect", "will", "anticipate", "estimate" and other words of similar
meaning. You should not rely on forward looking statements, because the
Company's actual results may differ materially from those indicated by these
forward looking statements as a result of a number of important factors. These
factors include, but are not limited to, the following: loss of market share
through competition, introduction of competing products by other companies,
pressure on prices from competitors, suppliers, and/or customers, failure or
delay in developing new products, lack of acceptance of new products, failure to
manufacture products that meet required performance and safety standards,
foreign exchange fluctuations, cyclicality of industries, such as plumbing and
heating wholesalers and home improvements retailers, in which the Company
markets certain of its products, reductions in the supply of raw materials,
increases in the prices of raw materials, economic factors, such as the levels
of housing starts and remodeling, impacting the markets where the Company's
products are sold, manufactured, or marketed, environmental compliance costs,
product liability risks, the results and timing of the Company's manufacturing
restructuring plan, changes in the status of current litigation, including the
James Jones case, and other risks and uncertainties discussed under "Managements
Discussion and Analysis of Financial Condition and Results of Operation -
Certain Factors Affecting Future Results" in the Company's Annual Report on Form
10-K for the year ended December 31, 2001 filed with the Securities Exchange
Commission and other reports Watts files from time to time with the Securities
and Exchange Commission.
PART II
- -------
Item 1. Legal Proceedings
-----------------
The Company is subject to a variety of potential liabilities connected
with its business operations, including potential liabilities and expenses
associated with possible product defects or failures and compliance with
environmental laws. The Company maintains product liability and other insurance
coverage, which it believes to be generally in accordance with industry
practices. Nonetheless, such
20
insurance coverage may not be adequate to protect the Company fully against
substantial damage claims which may arise from product defects and failures.
James Jones Litigation
- ----------------------
On June 25, 1997, Nora Armenta sued James Jones Company, Watts Industries,
Inc., which formerly owned James Jones, Mueller Co., and Tyco International
(U.S.) Inc. in the California Superior Court for Los Angeles County with a
complaint that sought tens of millions of dollars in damages. By this complaint
and an amended complaint filed on November 4, 1998 ("First Amended Complaint"),
Armenta, a former employee of James Jones, sued on behalf of 34 municipalities
as a qui tam plaintiff under the California False Claims Act (the "Armenta
case"). Late in 1998, the Los Angeles Department of Water and Power ("LADWP")
intervened. In December 2000, the court allowed the Relator to file a Second
Amended Complaint, which added a number of new cities and water districts as
plaintiffs and brought the total number of plaintiffs to 161. To date, 14 of the
total number of plaintiffs have intervened.
The First Amended Complaint alleges that the Company's former subsidiary
(James Jones Company) sold products that did not meet contractually specified
standards used by the named municipalities for their water systems and falsely
certified that such standards had been met. Armenta claims that these
municipalities were damaged by their purchase of these products, and seeks
treble damages, legal costs, attorneys' fees and civil penalties under the False
Claims Act.
The LADWP's intervention filed on December 9, 1998 adopted the First
Amended Complaint and added claims for breach of contract, fraud and deceit,
negligent misrepresentation, and unjust enrichment. The LADWP also sought past
and future reimbursement costs, punitive damages, contract difference in value
damages, treble damages, civil penalties under the False Claims Act and costs of
the suit.
One of the First Amended Complaint's allegations is the suggestion that
because some of the purchased James Jones products are out of specification and
contain more lead than the `85 bronze specified, a risk to public health might
exist. This contention is predicated on the average difference of about 2% lead
content in `81 bronze (6% to 8% lead) and `85 bronze (4% to 6% lead) alloys and
the assumption that this would mean increased consumable lead in public drinking
water. The evidence and discovery available to date indicate that this is not
the case.
In addition, bronze that does not contain more than 8% lead, like '81
bronze, is approved for municipal and home plumbing systems by municipalities
and national and local codes, and the Federal Environmental Protection Agency
defines metal for pipe fittings with no more than 8% lead as "lead free" under
Section 1417 of the Federal Safe Drinking Water Act.
In June, 2001, the Company and the other defendants reached a proposed
settlement with the LADWP, one of the plaintiffs, which was approved by the
California Superior Court on October 31, 2001 and by the Los Angeles City
Council on December 14, 2001.
On February 14, 2001, the Company filed a complaint in the California
Superior Court against its insurers for coverage of the claims in the Armenta
case. The James Jones Company filed a similar
21
complaint, and on October 30, 2001 the California Superior Court ruled that
Zurich American Insurance Company must pay all reasonable defense costs incurred
by the Company in the James Jones case since April 23, 1998 as well as the
Company's future defense costs in this case until its final resolution. Zurich
appealed the October 30, 2001 ruling, and on March 7, 2002, the California Court
of Appeal granted the Company's motion to dismiss Zurich's appeal of this
Superior Court ruling. After the trial court's resolution of the coverage case,
Zurich can then appeal this ruling. The Company is currently unable to predict
the outcome of the litigation relating to insurance coverage. The Company
intends to continue to contest vigorously the James Jones case and its related
litigation.
The Company currently has a reserve in the amount of $5,000,000 after tax
with respect to the James Jones case which is included under the item "Accrued
expenses and other liabilities" in the Company's consolidated balance sheet as
of March 31, 2002. The Company presently believes, on the basis of all available
information, that this reserve is adequate to cover the Company's probable and
reasonably estimable losses resulting from the James Jones case. Based on the
facts presently known to it, the Company does not believe that the ultimate
outcome of the James Jones case will have a material adverse effect on its
liquidity, financial condition or results of operations. However, litigation is
inherently uncertain, and the Company believes that there exists a reasonable
possibility that it may ultimately incur losses in the James Jones case in
excess of the amount accrued. The Company is currently unable to make an
estimate of the range of any additional losses.
Environmental
- -------------
Certain of the Company's operations generate solid and hazardous wastes,
which are disposed of elsewhere by arrangement with the owners or operators of
disposal sites or with transporters of such waste. The Company's foundry and
other operations are subject to various federal, state and local laws and
regulations relating to environmental quality. Compliance with these laws and
regulations requires the Company to incur expenses and monitor its operations on
an ongoing basis. The Company cannot predict the effect of future requirements
on its liquidity, financial condition or results of operations due to any
changes in federal, state or local environmental laws, regulations or
ordinances.
The Company is currently a party to or otherwise involved in various
administrative or legal proceedings under federal, state or local environmental
laws or regulations involving a limited number of sites. Based on facts
presently known to it, the Company does not believe that the outcome of these
environmental proceedings will have a material adverse effect on its liquidity,
financial condition or results of operations. Given the nature and scope of the
Company's manufacturing operations, there can be no assurance that the Company
will not become subject to other environmental proceedings and liabilities in
the future which may be material to the Company.
Other Litigation
- ----------------
Other lawsuits and proceedings or claims, arising from the ordinary course
of operations, are also pending or threatened against the Company and its
subsidiaries. Based on the facts presently known to it, the Company does not
believe that the ultimate outcome of these other litigation matters will have a
material adverse effect on its liquidity, financial condition or results of
operations.
22
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) The exhibits are furnished elsewhere in this report.
(b) Reports filed on Form 8-K during the Quarter ended March 31, 2002.
The Company did not file any reports on Form 8-K with the Securities and
Exchange Commission during the quarter ending March 31, 2002.
23
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
WATTS INDUSTRIES, INC.
Date: May 15, 2002 By: /s/ Timothy P. Horne
------------ --------------------
Timothy P. Horne
Chairman and Chief Executive Officer
Date: May 15, 2002 By: /s/ William C. McCartney
------------ ------------------------
William C. McCartney
Chief Financial Officer and Treasurer
24
EXHIBIT INDEX
-------------
Listed and indexed below are all Exhibits filed as part of this report.
Exhibit No. Description
- ----------- -----------
3.1 Restated Certificate of Incorporation, as amended. (1)
3.2 Amended and Restated By-Laws, as amended May 11, 1999 (2)
10.1 Revolving Credit Agreement dated as of February 28, 2002 among
the Registrant, Watts Regulator Co., Watts Industries Europe B.V.,
the lenders listed therein and Fleet National Bank, as
Administrative Agent (3)
10.2 Guaranty dated as of February 28, 2002 among the Registrant
Watts Investment Company, Watts Spacemaker, Inc., Watts
Distribution Company, Inc., Anderson-Barrows Metals Corporation,
Watts Drainage Products, Inc., Webster Valve, Inc. and Jameco
Industries, Inc. in favor of Fleet National Bank and the lenders
under the Revolving Credit Agreement dated February 28, 2002
Revolving Credit Agreement (3) (4).
11 Computation of Earnings per Share (5)
- ----------
(1) Incorporated by reference to the relevant exhibit to the Registrant's
Annual Report on Form 10-K filed with the Securities and Exchange
Commission on September 28, 1995.
(2) Incorporated by reference to the relevant exhibit to the Registrant's
Current Report on Form 10-Q for the Quarter ended March 31, 2000.
(3) Filed as an exhibit to this Report with the Securities and Exchange
Commission.
(4) This Guaranty is substantially similar in all material respects to the
Guaranties entered into by Watts Cazzaniga S.p.A. and Watts Ocean B.V.
(5) Incorporated by reference to the Notes to Consolidated Financial
Statements, Note 7, of this Report.
25