-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Wpq9IsqtC+iwQXBWyCvYnvraj8AuuPDKjYLLtvdiOuoN88eLtqdadgrx7rz1ot5j e2WzM9Nzg76YKjPDemBB8Q== 0000108312-99-000015.txt : 20000107 0000108312-99-000015.hdr.sgml : 20000107 ACCESSION NUMBER: 0000108312-99-000015 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19990930 FILED AS OF DATE: 19991223 FILER: COMPANY DATA: COMPANY CONFORMED NAME: WOODWARD GOVERNOR CO CENTRAL INDEX KEY: 0000108312 STANDARD INDUSTRIAL CLASSIFICATION: 3620 IRS NUMBER: 361984010 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-08408 FILM NUMBER: 99780104 BUSINESS ADDRESS: STREET 1: 5001 N SECOND ST STREET 2: P O BOX 7001 CITY: ROCKFORD STATE: IL ZIP: 61125-7001 BUSINESS PHONE: 8158777441 10-K405 1 10-K FILING UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) [ X ] Annual Report Pursuant to Section 13 or 15(d) of the Securities Act of 1934 For the fiscal year ended September 30, 1999 Commission file number 0-8408 or [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 WOODWARD GOVERNOR COMPANY (Exact name of registant specified in its charter) Delaware 36-1984010 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 5001 North Second Street, Rockford, Illinois 61125-7001 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (815) 877-7441 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common stock, par value $.00875 per share (Title of Class) 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. [ X ] Yes [ ] No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] There were 11,274,223 shares of common stock with a par value of $.00875 per share outstanding at November 30, 1999. The aggregate market value of the voting stock held by non-affiliates was approximately $219,445,335 at November 30, 1999 (such aggregate market value does not include voting stock beneficially owned by directors, officers, the Woodward Governor Company Profit Sharing Trust or the Woodward Governor Company Charitable Trust). DOCUMENTS INCORPORATED BY REFERENCE Portions of our annual report to shareholders for the fiscal year ended September 30, 1999 (1999 Annual Report), are incorporated by reference into Parts I, II and IV of this filing, to the extent indicated. Portions of our proxy statement dated December 6, 1999, are incorporated by reference into Part III of this filing, to the extent indicated. TABLE OF CONTENTS Page Part I Item 1. Business 3 Item 2. Properties 6 Item 3. Legal Proceedings 7 Item 4. Submission of Matters to a Vote of Shareholders 7 Part II Item 5. Market for the Registrant's Common Stock and Related Shareholder Matters 7 Item 6. Selected Financial Data 7 Item 7. Management Discussion and Analysis of Results of Operations and Financial Condition 8 Item 7a. Quantitative and Qualitative Disclosures About Market Risk 8 Item 8. Financial Statements and Supplementary Data 9 Item 9. Changes in and Disagreements with Accountants On Accounting and Financial Disclosure 8 Part III Item 10. Directors and Executive Officers of the Registrant 8 Item 11. Executive Compensation 9 Item 12. Security Ownership of Certain Beneficial Owners and Management 9 Item 13. Certain Relationships and Related Transactions 9 Part IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 10 Signatures 13 2 Part I Item 1. Business Woodward Governor Company, established in 1870 and incorporated in 1902, provides innovative engine controls and fuel delivery systems designed for a wide variety of applications. Serving global markets from locations worldwide, we are a leading producer of fuel control systems and components for aircraft and industrial engines and turbines. Our products and services are used in the aviation, marine, locomotive, large off-road vehicle, power generation, gas generation, and oil and gas process industries. Our operations are organized based on the nature of products and services provided. In 1999, we adopted Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information." Under this statement, we have two reportable segments - Aircraft Engine Systems and Industrial Controls. Aircraft Engine Systems provides fuel control systems and components primarily to original equipment manufacturers of aircraft engines. Industrial Controls provides fuel control systems and components primarily to original equipment manufacturers of industrial engines and turbines. Our other operations include Global Services and Automotive Products. Global Services, which resulted because of a change in the structure of our internal Industrial Controls organization in 1999, focuses on providing control systems and related services to industrial engine users in retrofit situations. Automotive Products, which began in 1998, focuses on products for small industrial engines that require low-cost, high-volume, high- reliability manufacturing processes characteristic of suppliers to the automotive industry. Information about our operations in 1999 and outlook for the future, including certain segment information, is included in "Management Discussion and Analysis of the Results of Operations and Financial Condition" on pages 14 through 21 of our 1999 Annual Report, incorporated here by reference. Additional segment information and certain geographical information is included in Note R to the Consolidated Financial Statements, on pages 32 through 33 of our 1999 Annual Report, incorporated here by reference. Other information about our business follows. Aircraft Engine Systems We provide fuel control systems and components through Aircraft Engine Systems, primarily to original equipment manufacturers of aircraft engines for use in those engines. We also sell components as spares or replacements, and provide repair and overhaul services to these customers and other customers. 3 Certain components with broader applications are also sold to original equipment manufacturers of industrial engines. In 1999, our largest customers were General Electric Company and United Technologies Corporation, together accounting for about 50% of Aircraft Engine Systems billings. We generally sell Aircraft Engine Systems products and services directly to our customers, although we also generate aftermarket sales through distributors, dealers, and independent service facilities. We carry certain finished goods and component parts inventory to meet rapid delivery requirements of customers, primarily for aftermarket needs. We do not believe Aircraft Engine Systems sales are subject to significant seasonal variation. We believe Aircraft Engine Systems has a significant competitive position within the market for fuel control systems and components for aircraft engines. We compete with several other manufacturers, including divisions of original equipment manufacturers of aircraft engines. While published information is not available in sufficient detail to enable an accurate assessment, we do not believe any company holds a dominant competitive position. Companies compete principally on price, quality and customer service. In our opinion, our prices are generally competitive, and our quality and customer service are favorable competitive factors. Aircraft Engine Systems backlog orders were $192 million at November 30, 1999, approximately 69% of which we expect to fill by September 30, 2000. Last year, Aircraft Engine Systems backlog orders were $211 million at November 30, 1998, approximately 77% of which we expected to fill by September 30, 1999. Backlog orders are not necessarily an indicator of future billing levels because of variations in lead times. Aircraft Engine Systems products make use of several patents and trademarks of various durations that we believe are collectively important. However, we do not consider our business dependent upon any one patent or trademark. Our products consist of mechanical, electronic, and electromagnetic components. Mechanical components are machined primarily from aluminum, iron, and steel. Generally there are numerous sources for the raw materials and components used in our products, and they are believed to be sufficiently available to meet all Aircraft Engine Systems requirements. Industrial Controls We provide fuel control systems and components through Industrial Controls, primarily to original equipment manufacturers of industrial engines and turbines. We also sell components as spares or replacements, and provide other related services to these customers and other customers. In 1999, our largest customer was General Electric Company, accounting for 11% of Industrial Controls billings. We generally sell Industrial Controls products and services directly to our customers, although we also generate sales through distributors, dealers, and independent service facilities. We carry certain finished goods and component parts inventory to meet rapid delivery requirements of customers, primarily for aftermarket needs. We do not believe Industrial Controls sales are subject to significant seasonal variation. We believe Industrial Controls has a significant competitive position within the market for fuel control systems and components for industrial engines. We compete with as many as 10 other independent manufacturers and with the in-house control operations of original equipment manufacturers. While published information is not available in sufficient detail to enable an accurate assessment, we believe we hold a strong position among the independent manufacturers for small steam turbines, diesel and gas engines, and gas turbine markets. Companies compete principally on price, quality and customer service. We also see increasing demand for products that result in lower environmental emissions, particularly in gas turbine applications. In our 4 opinion, our prices are generally competitive and our quality, customer service and technology used in products to reduce emissions are favorable competitive factors. Industrial Controls backlog orders were $41 million at November 30, 1999, approximately 96% of which we expect to fill by September 30, 2000. Last year, Industrial Controls included the operations of Global Services. On a combined basis, Industrial Controls' and Global Services' backlog orders were $60 million at November 30, 1999, 96% of which we expect to fill by September 30, 2000 and $74 million at November 30, 1998, approximately 90% of which we expected to fill by September 30, 1999. Backlog orders are not necessarily an indicator of future billing levels because of variations in lead times. Industrial Controls products make use of several patents and trademarks of various durations that we believe are collectively important. However, we do not consider our business dependent upon any one patent or trademark. Our products consist of mechanical, electronic and electromagnetic components. Mechanical components are machined primarily from aluminum, iron, and steel. Generally there are numerous sources for the raw materials and components used in our products, and they are believed to be sufficiently available to meet all Industrial Controls requirements. Other Operations Our other operations include Global Services and Automotive Products. Global Services provides control systems and related services to industrial engine users in retrofit situations. These industrial engine users are principally involved in power generation or oil and gas processing. Automotive Products focuses on products for small industrial engines, although products are also sold to original equipment manufacturers in the automotive industry. Products and services of Global Services and Automotive Products are sold directly to customers. We do not believe sales are subject to significant seasonal variation. Although power generators plan retrofit activities around periods of peak energy usage, these periods vary by location. The industrial engine retrofit market is a competitive market with about 15 major competitors. None of the competitors hold a dominant position. We compete effectively by providing what we believe is the best technical evaluation of retrofit needs in the industry, strong product performance, and high levels of customer services from locations worldwide. Our sales price is competitive, but rarely will our price be the lowest. We have a small, but growing, position in the small industrial engines market. Automotive Products began in May 1998 and is now designing products that use low-cost, high-volume, high- reliability manufacturing processes characteristic of suppliers to the automotive industry. We believe this will enable us to strengthen our competitive position in markets that compete principally on price, quality and customer service. Combined backlog orders for Global Services and Automotive Products were $21 million at November 30, 1999, approximately 97% of which we expect to fill by September 30, 2000. Last year, Global Services was included with Industrial Controls. Backlog orders for Automotive Products alone were $2.0 million at November 30, 1999, all of which we expect to fill by September 30, 2000 and were $1.1 million at November 30, 1998, all of which 5 we expected to fill by September 30, 1999. Backlog orders are not necessarily an indicator of future billings levels because of variations in lead times. Global Services and Automotive Products generally assemble their products using purchased components that are readily available from multiple sources. Many components for Global Services are purchased from Industrial Controls. In addition to purchased components, Automotive Products uses wire and plastics in its coil winding and injection molding operations. These materials are also readily available from multiple sources. Other Matters We spent approximately $24.6 million for company-sponsored research and development activities in 1999, $18.5 million in 1998, and $11.3 million in 1997. We are currently involved in matters of litigation arising from the normal course of business, including certain environmental matters. These matters are discussed in Note P to the Consolidated Financial Statements on page 32 of our 1999 Annual Report, incorporated here by reference. We do not believe that compliance with provisions regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, will have any material effect on our financial condition and competitive position, although such matters could have a material effect on our quarterly or annual operating results and cash flows (including capital expenditures) in a future period. We are not aware of any material capital expenditures that we will make for environmental control facilities through September 30, 2001. We employed about 3,765 people at November 30, 1999. This report and the 1999 Annual Report, sections of which have been incorporated by reference, contain forward-looking statements and should be read with the "Cautionary Statement" on page 35 of the 1999 Annual Report, incorporated here by reference. Item 2. Properties Our principal plants are as follows: United States Fort Collins, Colorado - Industrial Controls manufacturing Loveland, Colorado - Industrial Controls and Global Services manufacturing Rockford, Illinois - Aircraft Engine Systems manufacturing and corporate offices Rockton, Illinois - Aircraft Engine Systems manufacturing and repair and overhaul Memphis, Michigan (leased) - Automotive Products manufacturing Zeeland, Michigan - Aircraft Engine Systems manufacturing Buffalo, New York - Aircraft Engine Systems manufacturing Greenville, South Carolina (leased) - Aircraft Engine Systems manufacturing Oak Ridge, Tennessee (leased) - Automotive Products manufacturing 6 Other Countries Aken, Germany (leased) - Industrial Controls manufacturing Tomisato, Chiba, Japan - Industrial Controls manufacturing Hoofddorp, The Netherlands - Industrial Controls manufacturing Rotterdam, The Netherlands - Automotive Products manufacturing Reading, England, United Kingdom (leased) - Industrial Controls manufacturing Prestwick, Scotland, United Kingdom (leased) - Aircraft Engine Systems repair and overhaul Our principal plants are suitable and adequate for the manufacturing and other activities performed at those plants, and we believe our utilization levels are generally high. However, with continuing advancements in manufacturing technology and operational improvements, we believe we can continue to increase production in our existing plants. Also, following our Industrial Controls reorganization in 1999, we changed the way our Fort Collins and Loveland, Colorado, plants were used. The primary effect of this change was to reduce our utilization of the Loveland plant. Currently, approximately one-third of the space in the Loveland plant is not being used. In addition to the principal plants listed above, we lease several facilities in locations worldwide, used primarily for sales and service activities. Item 3. Legal Proceedings We are currently involved in environmental litigation. These matters are discussed in Note P to the Consolidated Financial Statements on ppage 30 of our 1999 Annual Report, incorporated here by reference. Item 4. Submission of Matters to a Vote of Shareholders There were no matters submitted to a vote of shareholders during the fourth quarter of the year ended September 30, 1999. Part II Item 5. Market for the Registrant's Common Stock and Related Shareholder Matters Our common stock is listed on the Nasdaq National Market and at November 30, 1999, there were 1,844 holders of record. Cash dividends were declared quarterly during 1999 and 1998. The amount of cash dividends per share and the high and low sales price per share for our common stock for each fiscal quarter in 1999 and 1998 are included in the "Selected Quarterly Financial Data" on page 35 of the 1999 Annual Report, incorporated here by reference. Item 6. Selected Financial Data Selected financial data is included in the "Summary of Operations/Eleven-Year Record" on page 36 of our 1999 Annual Report, incorporated here by reference. 7 Item 7. Management's Discussion and Analysis of Results of Operations and Financial Condition "Management Discussion and Analysis of Results of Operations and Financial Condition" is included on pages 14 through 21 of our 1999 Annual Report, incorporated here by reference. This discussion should be read with the consolidated financial statements on pages 22-33 of our 1999 Annual Report and the "Cautionary Statement" on page 35 of our 1999 Annual Report, both incorporated here by reference. Item 7.A. Quantitative and Qualitative Disclosures About Market Risk Disclosures about market risk are included under the captions "Other Matters - Market Risks" on page 20 of our 1999 Annual Report, incorporated here by reference. Item 8. Financial Statements and Supplementary Data Consolidated financial statements and schedules, as listed in Item 14(a) and excluding the two items listed under the caption "Other Financial Statement Schedules", are incorporated here by reference. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure There have been no changes in or disagreements on accounting principles and financial disclosure. PricewaterhouseCoopers LLP, or its predecessors, have been our independent accountants since 1940. Part III Item 10. Directors and Executive Officers of the Registrant Executive Officers: John A. Halbrook, age 54 - chairman and chief executive officer since January 1995; chief executive officer and president November 1993 through January 1995; president November 1991 through November 1993. Stephen P. Carter, age 48 - vice president, chief financial officer, and treasurer since January 1997; vice president and treasurer September 1996 through January 1997; and assistant treasurer January 1994 through September 1996. Gary D. Larrew, age 49 - vice president and manager of business development since June 1997; in the past five years has been in management positions. C. Phillip Turner, age 59 - vice president and general manager of Aircraft Engine Systems since 1988. Carol J. Manning, age 50 - secretary since June 1991. All executive officers were elected to their current positions at the January 19, 1999 Board of Directors' meeting to serve until the January 18, 2000 Board of Directors meeting, or until their successors have been elected. 8 Section 16(a) Beneficial Ownership Reporting Compliance: Section 16(a) of the Securities Exchange Act of 1934, as amended, requires our executive officers, directors and holders of more than 10% of the common stock to file with the Securities and Exchange Commission initial reports of ownership and reports of changes in ownership of common stock and other equity securities of the company. We believe that during the fiscal year ended September 30, 1999, with the exception of the following, our executive officers, directors and holders of more than 10% of the common stock complied with all Section 16(a) filing requirements. Messrs. Halbrook, Carter, Larrew and Turner filed Amended Form 5's correcting the failure to file Form 4's with respect to acquired grants of phantom stock under the Unfunded Deferred Compensation Plan No. 2. In making these statements, we have relied upon the written representations of our executive officers and directors. Other information regarding our directors and executive officers is included in our proxy statement dated December 6, 1999, incorporated here by reference. Item 11. Executive Compensation Executive compensation is under the caption "Executive Compensation" on Pages 12 through 14 of our proxy statement dated December 6, 1999, incorporated here by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management Security ownership of certain beneficial owners and management is under the captions "Share Ownership of Management" and "Persons Owning More than Five Percent of Woodward Stock" on Pages 9 through 10 of our proxy statement dated December 6, 1999, incorporated here by reference. Item 13. Certain Relationships and Related Transactions Information regarding certain relationships and related transactions is under the caption "Compensation Committee Interlocks and Insider Participation" on Page 8 of our proxy statement dated December 6, 1999, incorporated here by reference. 9 Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (a) Index to Consolidated Financial Statements and Schedules Reference Form 10-K Annual Report Annual Report to Shareholders Page Page Annual report to shareholder for the fiscal year ended September 30, 1999 filed as Exhibit 13 to this Form 10-K and incorporated by reference: Statements of Consolidated Earnings for the years ended September 30, 1999, 1998, and 1997 22 Consolidated Balance Sheets at September 30, 1999 and 1998 23 Statements of Consolidated Share- holders' Equity for the years ended September 30, 1999, 1998, and 1997 24 Statements of Consolidated Cash Flows for the years ended September 30, 1999, 1998, and 1997 25 Notes to Consolidated Financial Statements 26-33 Management's Responsibility for Financial Statements 34 Report of Independent Accountants 34 Selected Quarterly Financial Data 35 Separate financial statements of subsidiaries not consolidated and fifty percent-or-less-owned persons, included with this filing: GENXON Power Systems, L.L.C. Financial Statements and Report of Independent Accountants for the period from October 21, 1996 (date of inception) to September 30, 1997 S-1 - S-11 10 Reference Form 10-K Annual Report Annual Report to Shareholders Page Page Other Financial Statement Schedules: Report of Independent Accountants S-12 Valuation and Qualifying Accounts S-13 Financial statements and schedules other than those listed above are omitted for the reason that they are not applicable, are not required, or the information is included in the financial statements or the footnotes. With the exception of the consolidated financial statements and the reports of indendepent accountants listed in the above index, the information referred to in Items 1, 3, 5, 6, 7, and 8, and the supplementary quarterly financial information referred to in Item 8, all of which is included in the 1999 Annual Report to Shareholders of Woodward Governor Company and incorporated by reference into this Form 10-K Annual Report, the 1999 Annual Report to Shareholders is not to be deemed "filed" as part of this report. (b) Reports Filed on Form 8-K During the Fourth Quarter of the Fiscal Year Ended September 30, 1999. None (c) Exhibits Filed as Part of This Report (3)(i) Certificaterticles of Incorporation Filed as an exhibit. (3)(ii) By-laws, amended Filed as an exhibit. (4) Instruments defining Instruments with respect the rights of security to long-term debt and the ESOP holders, including debt guarantee are not being indentures filed as they do not individually exceed 10 percent of our assets. We agree to furnish a copy of each instrument to the Commission upon request. (10) Material contracts A $250,000,000 credit agreement dated June 15, 1998 is included in exhibits filed with Form 10-Q for the quarter ended June 30, 1998, incorporated here by reference. Purchase and sale agreement on the acquisition of Wooward FST dated June 15, 1998 is included in exhibits filled with Form 8-K on June 30, 1998, incorporated here by reference. 11 (11) Statement re computation of Filed as an exhibit hereto. per share earnings (13) Annual report to shareholders Except specifically incorporated for the fiscal year by reference, report is September 30, 1999 furnished solely for the information of the Commission and is not deemed "filed" as part of this report. (21) Subsidiaries Filed as an exhibit. (23) Consents of Independent Accountants Filed as an exhibit. (27) Financial data schedule Filed as an exhibit. (99) Additional exhibit - description of annual report graphs Filed as an exhibit. 12 SIGNATURES This report has been prepared in accordance with the rules and regulations of the Securities and Exchange Commission and the financial statements referenced have been prepared in accordance with such rules and regulations and with generally accepted accounting principles, by officers and worker members of Woodward Governor Company. This has been done under the general supervision of Stephen P. Carter, vice president, chief financial officer and treasurer. The consolidated financial statements have been audited by PricewaterhouseCoopers LLP, independent accountants, as indicated in their report in the annual report to shareholders for the fiscal year ended September 30, 1999. This report contains much detailed information of which the various signatories cannot and do not have independent personal knowledge. The signatories believe, however, that the preparation and review processes summarized above are such as to afford reasonable assurance of compliance with applicable requirements. Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned. WOODWARD GOVERNOR COMPANY /s/ John A. Halbrook Director, Chairman of the John A. Halbrook Board and Chief Executive Officer /s/ Stephen P. Carter Vice President, Chief Stephen P. Carter Financial Officer and Treasurer Date: December 18, 1999 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of Woodward Governor Company on the dates indicated: Signature Title Date /s/ J. Grant Beadle Director December 21, 1999 J. Grant Beadle /s/ Vern H. Cassens Director December 21, 1999 Vern H. Cassens /s/ Carl J. Dargene Director December 21, 1999 Carl J. Dargene /s/ Lawrence E. Gloyd Director December 22, 1999 Lawrence E. Gloyd /s/ Thomas W. Heenan Director December 20, 1999 Thomas W. Heenan _____________________ Director J. Peter Jeffrey /s/ Rodney O' Neal Director December 22, 1999 Rodney O'Neal _____________________ Director Lou L. Pai _____________________ Director Michael T. Yonker 13 NOTE: THE FOLLOWING FINANCIAL STATEMENTS AND REPORT OF INDEPENDENT ACCOUNTANTS OF OUR FIFTY PERCENT-OWNED JOINT VENTURE, WHICH IS NOT CONSOLIDATED, IS REQUIRED TO BE FILED AS PART OF THIS FORM 10-K IN ACCORDANCE WITH REGULATION S-X, RULE 3-09. GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) FINANCIAL STATEMENTS for the period October 21, 1996 (date of inception) to September 30, 1997 S-1 GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) FINANCIAL STATEMENTS for the period from October 21, 1996 (date of inception) to September 30, 1997 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Managers and Members GENXON Power Systems, L.L.C.: We have audited the accompanying balance sheet of GENXON Power Systems, L.L.C. (a Delaware limited liability company) as of September 30, 1997, and the related statements of operations, members' capital and cash flows for the period from October 21, 1996 (date of inception) to September 30, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit 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 audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of GENXON Power Systems, L.L.C. as of September 30, 1997, and the results of its operations and its cash flows for the period from October 21, 1996 (date of inception) to September 30, 1997 in conformity with generally accepted accounting principles. The accompanying financial statements have been prepared assuming the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has suffered losses from operations and has a net capital deficiency that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 2. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. San Jose, California October 17, 1997 S-2 GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) BALANCE SHEET, September 30, 1997
ASSETS Current assets : Cash and cash equivalents $ 54,366 Inventory 233,977 Prepaid expenses 358,482 Total current assets 646,825 Property and equipment 557,362 Total assets $ 1,204,187 LIABILITIES AND MEMBERS' CAPITAL Current liabilities: Payable to Woodward Governor Company$ 89,483 Payable to Catalytic Combustion Systems,Inc. 315,580 Accounts payable 1,852,014 Accrued liabilities 433,261 Total current liabilities 2,690,338 Commitments and contingencies (Note 3) Members' capital (1,486,151) Total liabilities and members' capital $1,204,187 The accompanying notes are an integral part of these financial statements.
S-3 GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) STATEMENT OF OPERATIONS for the period from October 21, 1996 (date of inception) to September 30, 1997
Revenues: Research contract$ $268,000 Operating expenses: Research and development 8,656,442 Selling, general and administrative expenses 2,147,797 10,804,239 Loss from operations (10,536,239) Other income (expense): Interest income, net 50,088 Net loss $ 10,486,151 The accompanying notes are an integral part of these financial statements.
S-4 GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) STATEMENT OF MEMBERS' CAPITAL for the period from October 21, 1996 (date of inception) to September 30, 1997 Woodward Catalytica Governor Combustion Company Systems, Inc. Total
Capital contributions $7,100,000 $1,900,000 $ 9,000,000 Net loss (8,243,076) (2,243,075) (10,486,151) Members' capital, September 30, 1997 $(1,143,076) $(343,075) $(1,486,151)
The accompanying notes are an integral part of these financial statements. S-5 GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) STATEMENT OF CASH FLOWS for the period from October 21, 1996 (date of inception) to September 30, 1997
Cash flows from operating activities: Net loss $(10,486,151) Adjustments to reconcile net loss to net cash used in operating activities: Changes in assets and liabilities: Inventory (233,977) Prepaid expenses (358,482) Payable to members 405,063 Accounts payable 1,852,014 Accrued liabilities 433,261 Net cash used in operating activities (8,388,272) Cash flows from investing activities: Acquisition of property and equipment (557,362) Cash flows from financing activities: Members' capital contributions 9,000,000 Net increase in cash and cash equivalents 54,366 Cash and cash equivalents, beginning of period _ Cash and cash equivalents, end of period$ 54,366 The accompanying notes are an integral part of these financial statements.
S-6 GENXON POWER SYSTEMS, L.L.C. (a Delaware limited liability company) NOTES TO FINANCIAL STATEMENTS 1.Formation and Business of the Company: GENXON Power Systems, L.L.C. (the Company), a Delaware limited liability company, was formed on October 21, 1996 to develop and sell products and services to a wide range of users of out-of-warranty gas turbines which require reductions in emissions, overhaul or upgrade. Except as provided for in the Limited Liability Operating Agreement, the existence of the Company will be perpetual. Investor members in GENXON Power Systems, L.L.C. received a percentage interest in the Company based on the amount of cash and the agreed-upon fair value of certain technology licenses contributed to the Company. There were two initial investor members, each receiving a 50 percent interest in the Company. Their initial capital commitments were as follows:
Cash Technology Commitment Licenses Total Catalytica Combustion Systems, Inc.(Catalytica) $2,000,000 $8,000,000 $10,000,000 Woodward Governor Company (Woodward) $8,000,000 $2,000,000 $10,000,000
At September 30, 1997, each member had contributed its agreed-upon technology licenses and cash in the total amount of $9 million. Subsequent to year-end, the members contributed the balance of their initial cash commitment and an additional $1,200,000 in cash. Additional future cash contributions will be at the discretion of each of the members, but will generally be in proportion to their respective percentage interests in the Company and will be governed by the terms of the Operating Agreement. For financial statement purposes only, the fair value of the technology licenses has not been recorded. S-7 1. Formation and Business of the Company, continued: The Operating Agreement generally provides that profits and losses in any fiscal year, or other applicable period, shall be allocated to each member in proportion to their respective percentage interest. In the event that a member's cumulative capital account, including the fair value of the technology licenses contributed, is reduced to zero, losses will be reallocated to members having positive capital account balances until all members' capital accounts have been reduced to zero. Thereafter, losses will again be allocated to the members based on their respective percentage interests. Such "reallocated" losses shall first be restored by an allocation of profits before any additional profits are allocated to the members. Under the terms of the Operating Agreement, the Company is required to make cash distributions to each member in the amount of the estimated tax liability for the net taxable income and gains allocated to such member during the fiscal year. Any additional distributions of cash or property will be at the discretion of the Board of Managers as provided for in the Operating Agreement. At September 30, 1997, cumulative capital account balances determined in accordance with the Operating Agreement are as follows: Catalytica Woodward Total
Cash contributed $1,900,000 $7,100,000 $9,000,000 Technology licenses contributed 8,000,000 2,000,000 10,000,000 Allocation of net loss (5,243,075) (5,243,076) (10,486,151) Capital account balances $4,656,925 $3,856,924 $8,513,849
2. Summary of Significant Accounting Policies: Basis of Presentation: The Company's financial statements have been prepared on a basis of accounting assuming that it is a going concern, which contemplates realization of assets and satisfaction of liabilities in the normal course of business. The Company has reported a net loss for the period from October 21, 1996 (date of inception) to September 30, 1997 in the amount of $10,486,151. Management plans to obtain additional capital contributions from its members or other additional investors to meet its current and ongoing obligations. Continued existence of the Company is dependent on the Company's ability to ensure the availability of adequate funding and the establishment of profitable operations. The financial statements do not include adjustments that might result from the outcome of this uncertainty. S-8 2. Summary of Significant Accounting Policies, continued: Use of Estimates: The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash and Cash Equivalents: The Company considers all highly liquid investments purchased with original or remaining maturities of three months or less at the date of purchase to be cash equivalents. Substantially all of the Company's excess cash is invested in money market accounts with a major investment company. Fair Value of Financial Instruments: Carrying amounts of certain of the Company's financial instruments, including cash and cash equivalents, accounts payable and other accrued liabilities approximate fair value due to their short maturities. Inventory: Inventory, consisting of purchased and manufactured parts to be used in the overhaul and upgrade of gas turbine engines, is stated at the lower of cost or market. Property and Equipment: Property and equipment are stated at cost and will be depreciated using the straight-line method over their estimated useful lives, generally 3 to 10 years. Gains and losses from the disposal of property and equipment will be taken into income in the year of disposition. At September 30, 1997, property and equipment consists solely of tooling costs incurred in the construction of the Company's manufacturing equipment. As this equipment has not yet been completed or placed in service, no depreciation costs have been recorded. S-9 2. Summary of Significant Accounting Policies, continued: Income Taxes: The financial statements include no provision for income taxes since the Company's income and losses are reported in the members' separate tax returns. Recent Accounting Pronouncements: In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130 (SFAS 130), Reporting Comprehensive Income. This statement establishes requirements for disclosure of comprehensive income and becomes effective for the Company for its fiscal year 1999, with reclass- ification of earlier financial statements for comparative purposes. Comprehensive income generally represents all changes in members' capital except those resulting from investments or contributions by members. The Company is evaluating alternative formats for presenting this information, but does not expect this pronouncement to materially impact the Company's results of operations. In June 1997, The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131 (SFAS 131), Disclosures about Segments of an Enterprise and Related Information. This statement establishes standards for disclosure about operating segments in annual financial statements and selected information in interim financial reports. It also establishes standards for related disclosures about products and services, geographic areas and major customers. This statement supersedes Statement of Financial Accounting Standards No. 14, Financial Reporting for Segments of a Business Enterprise. The new standard becomes effective for the Company's fiscal year 1999, and requires that comparative information from earlier years be restated to conform to the requirements of this standard. The Company is evaluating the requirements of SFAS 131 and the effects, if any, on the Company's current reporting and disclosures. S-10 3. Commitments and Contingencies The Company entered into an exclusive agreement with Agilis Group, Inc. (Agilis) to provide assistance and advice in the development and design of the combustor and combustor related hardware for the Company's proprietary catalytic combustion technology. Under the terms of the agreement, Agilis has responsibility as to the details, methods, and means of performing its services. Subject to the Company's approval and on its behalf, Agilis may enter into purchase commitments and contracts with outside vendors to provide materials and services to complete the projects. At September 30, 1997, the Company has approximately $2.3 million in open purchase commitments through Agilis. The agreement will expire on the later of the completion of all services described in the agreement or December 31, 1999, unless extended in writing and agreed to by both parties. The Company has entered into a technical services agreement with the City of Glendale, California to retrofit an FT4 gas turbine engine which was provided by the City. Under the terms of the agreement, the retrofit will include adding the Company's proprietary combustion system and a digital control system for a total turnkey price of $700,000, and must be completed by December 1999. In the event that the Company is unable to complete the agreed upon retrofit on time or damages the engine in the process, the agreement requires the Company to return the engine to its original state or replace it with a similar engine, for which the Company has recorded a reserve of $134,000. 4. Related Party Transactions: The Company has entered into a services agreement with Catalytica and Woodward to provide the Company with management support, technical services support and administrative services. For the period from October 21, 1996 (date of inception) through September 30, 1997, the Company incurred general and administrative support costs from Catalytica in the amount of $1,355,308 and research and development costs totaling $3,450,077. For the same period, the Company incurred $65,192 of general and administrative support costs from Woodward and $513,487 for research and development services. The Company has also entered into supply agreements with both Catalytica and Woodward to supply combustion system products and control system products to be used by the Company in its business of retrofitting installed and operating gas turbine engines. S-11 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Shareholders Woodward Governor Company Our audits of the consolidated financial statements referred to in our report dated November 9, 1999 appearing on page 34 in the 1999 Annual Report to Shareholders of Woodward Governor Company and Subsidiaries (which report and consolidated financial statements are incorporated by reference in this Annual Report on Form 10-K) also included an audit of the financial statement schedule listed in Item 14(a) of this Form 10-K. In our opinion, the financial statement schedule presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. PricewaterhouseCoopers LLP Chicago, Illinois November 9, 1999 S-12 Col A. Col. B Col. C Col. D Col. E Additions Balance Balance at Charged to Charged to at End Beginning Costs and Other of Description of Year Expenses Accounts (B) Deductions (A) Year 1999: Allowance for Doubtful accounts $4,451 $1,593 $49 $1,676 $4,417 1998: Allowance for Doubtful accounts $2,757 $1,869 $368 $543 $4,451 1997: Allowance for Doubtful accounts $2,755 $539 $136 $673 $2,757 S-13 EX-3 2 EXHIBIT 3(I) CERTIFICATE OF INCORPORATION Exhibit 3(i) Certificate of Incorporation Composite Certificate of Incorporation Of Woodward Governor Company A Delaware Corporation (The Corporation was Originally Incorporated Under the General Corporation Law of Delaware On November 18, 1976, as "New Wood Company") First. The name of the Corporation is Woodward Governor Company. Second. The address of the registered office of the Corporation in the State of Delaware is 300 South State Street, in the City of Dover, County of Kent. The name of its registered agent at that address is United States Corporation Company. Third. The purpose of the Corporation is to engage in any lawful act or activity for which a corporation may be organized under the General Corporation Law of Delaware as set forth in Title 8 of the Delaware Code. Without limiting in any manner the scope and generality of the foregoing, the nature of the business or purposes to be conducted or promoted by the Corporation includes: A. To carry on and conduct any and every kind of manufacturing, distribution and service business; to manufacture, process, fabricate, rebuild, service, purchase or otherwise acquire, to design, invent or develop, to import or export, and to distribute, lease, sell, assign or otherwise dispose of and generally deal in and with raw materials, products, goods, wares, merchandise and real and personal property of every kind and character; and to provide services of every kind and character. B. To acquire, own hold, use, lease, mortgage, pledge, sell, convey, or otherwise dispose of and deal in lands, leaseholds, and any interest, estates and rights in real property, any personal or mixed property, and any tangible or intangible property, legal and equitable. C. In general, to possess and exercise all the powers and privileges granted by the General Corporation Law of Delaware or by any other law of Delaware or by this Certificate of Incorporation together with any powers incidental thereto, so far as such powers and privileges are necessary or convenient to the conduct, promotion or attainment of the business or purposes of the Corporation. Fourth. The total number of shares of all classes of stock which the Corporation shall have authority to issue is 60,000,000, of which 50,000,000 shares shall be Common Stock with a par value of $0.00875 per share, and 10,000,000 shares shall be Preferred Stock with a par value of $0.003 per share. The Preferred Stock may be issued from time to time in one or more series, with each such series to consist of such number of shares and to have such voting powers (whether less than, equal to or greater than one vote per share), or limited voting powers or no voting powers, and such designations, preferences and relative, participating, optional or their special rights, and qualifications, limitations or restrictions thereof, as shall be stated in the resolution or resolutions providing for the issue of such series adopted by the Board of Directors, and the Board of Directors is expressly vested with authority to the full extent now or hereafter provided by law, to adopt any such resolution or resolutions. The number of authorized shares of Preferred Stock may be increased or decreased (but no below the number of shares then outstanding) by the affirmative vote of the holders of two-thirds of the outstanding shares of Common Stock without a vote of the holders of the shares of Preferred Stock, or of any series thereof, unless a vote of any such holders is required pursuant to the resolution or resolutions of the Board of Directors providing for the issue of the series of Preferred Stock. Fifth. The affirmative vote of the holders of two- thirds of the outstanding shares of Common Stock of the Corporation shall be required (i) for the adoption of any amendment, alteration, change or repeal of any provision of this Certificate of Incorporation, (ii) for the adoption of any agreement for the merger or consolidation of the Corporation with or into any assets of the Corporation, or (iv) to authorize the dissolution of the Corporation. Such affirmative vote shall be required notwithstanding the fact that no vote may be required, or that some lesser percentage may be specified, by law or in any agreement to which the Corporation is a party. Sixth. The holders of Common Stock of the Corporation shall be entitled to cumulative voting rights in the election of directors, which means that in each election of directors each holder of Common Stock shall be entitled to cast as many votes as the number of shares of Common Stock held by such holder multiplied by the number of directors to be elected any may cast all such votes for the election of one nominee or distribute such votes among two or more nominees as such holder chooses. Seventh. The following provisions are inserted for the management of the business and the conduct of the affairs of the Corporation, and for further definition, limitation and regulation of the powers of the Corporation and of its directors and stockholders: A. The business and affairs of the Corporation shall be managed by or under the direction of the Board of Directors. In connection with such management the directors shall be guided by the philosophy and concepts of human and industrial association of the Corporation as expressed in its Constitution. The Board of Directors shall have the sole power to establish the rights, qualifications, powers, duties, rules and procedures that from time to time shall govern the Board of Directors and each of its members and that from time to time shall affect the power of the Board of Directors to manage the business and affairs of the Corporation. Without limiting in any manner the scope and generality of the foregoing, the Board of Directors shall have the sole power (i) to elect and empower the officers of the Corporation, (ii) to designate and empower committees of the Board of Directors, (iii) to determine the time, place, notice, quorum and voting requirements of meetings of the Board of Directors and any committee thereof, and (iv) to determine the manner in which action by the Board of Directors may be taken. B. The Board of Directors shall have concurrent power with the stockholders to adopt, amend or repeal the By-Laws of the Corporation; provided, however, that (i) the By-Laws of the Corporation shall not be adopted, amended or repealed by the stockholders except by the affirmative vote of the holders of two- thirds of the outstanding shares of Common Stock of the Corporation, and (ii) no By-Law may be adopted by the stockholders which shall impair or impede the power of the Board of Directors under paragraph A of this Article Seventh. C. The number of directors of the Corporation which shall constitute the whole Board of Directors shall be not less than six, the exact number of directors and the exact number of directors in each class to be determined from time to time by the Board of Directors. Election of directors need not be by written ballot unless the By-Laws so provide. (1) The Board of Directors shall be divided into three classes, Class I, Class II, and Class III, which shall be as nearly equal in number as possible. Each director shall serve for a term ending on the date of the third annual meeting of stockholders following the annual meeting at which such director was elected; provided, however, that each initial director in Class I shall hold office until the annual meeting of stockholders next ensuing, each initial director in Class II shall hold office until the annual meeting of stockholders one year thereafter, and each initial director in Class III shall hold office until the annual meeting of stockholders two years thereafter. (2) If the number of directors is changed, any increase or decrease shall be apportioned among the three classes so as to maintain the number of directors in each class as nearly equal as possible. In no case will a decrease in the number of directors shorten the term of any incumbent director. (3) Should a vacancy occur or be created, whether arising through resignation, retirement, removal from office, disqualification, or death or through an increase in the number of directors, such vacancy shall be filled by a majority of the directors then in office although less than a quorum, or by the sole remaining director. Any director elected to fill a vacancy shall hold office for the remaining term of the class in which the vacancy shall have occurred or shall have been created. (4) Notwithstanding any of the foregoing provisions of this paragraph C of Article Seventh, each director shall serve until his or her successor is elected and qualified or until his or her earlier resignation, retirement, removal from office, disqualification or death. (5) Any director or the entire Board of Directors may be removed from office at any time, but only for cause and only by the affirmative vote of the holders of two-thirds of the outstanding shares of Common Stock of the Corporation. D. All action by stockholders shall be taken at a meeting duly called and held. The stockholders of the Corporation may not act by written consent. E. Special meetings of the stockholders for any proper purpose or purposes may be called by the Board of Directors or by the Chairman of the Board of Directors, and shall be called upon a request in writing therefore stating the purpose or purposes thereof signed by the holders of two- thirds of the outstanding shares of Common Stock of the Corporation. Eighth. The books of the Corporation may be kept (subject to any provision contained in the statutes) outside the State of Delaware at such place or places as may be designated from time to time by the Board of Directors or in the By-Laws of the Corporation. Ninth. The Corporation shall indemnify each director, officer, employee or agent of the Corporation and each person who is or was serving at the request of the Corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise in the manner and to the extent provided in the By-Laws of the Corporation as the same may be amended from time to time. Tenth. A director of the corporation shall not be liable to the Corporation or its stockholders for monetary damages for breach of fiduciary duty as a director except to the extent such exemption from liability or limitation thereof is not permitted under the Delaware General Corporation Law as the same exists or may hereafter be amended. Eleventh. Subject to the provisions of Article Fifth of this Certificate of Incorporation, the Corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation, in the manner now or thereafter prescribed by statute, and all rights conferred upon stockholders herein are granted subject to this reservation. Certificate of Designations Of Series A Preferred Stock Of Woodward Governor Company (Pursuant to Section 151(g) of the General Corporation Law of the State of Delaware) Woodward Governor Company, a corporation organized and existing under the General Corporation Law of the State of Delaware (hereinafter referred to as the "Corporation"), hereby certifies that the following resolution was adopted by the Board of Directors of the Corporation (hereinafter referred to as the "Board of Directors") pursuant to Section 151(g) of the General Corporation Law of the State of Delaware at a meeting of the Board of Directors held on January 17, 1996: RESOLVED, that pursuant to the authority granted to and vested in the Board of Directors in accordance with the provisions of the Certificate of Incorporation of the Corporation, the Board of Directors hereby creates a series of the Preferred Stock, par value $.01 per share (hereinafter referred to as the "Preferred Stock"), of the Corporation and hereby states the designation and number of shares, and fixes the relative rights, preferences and limitations thereof as follows: SERIES A PREFERRED STOCK: Section 1. Designation and Amount. The shares of such series shall be designated as "Series A Preferred Stock" (hereinafter referred to as the "Series A Preferred Stock") and the number of shares constituting the Series A Preferred Stock shall be 250,000. Such number of shares may be increased or decreased by resolution of the Board of Directors; provided, however, that no decrease shall reduce the number of shares of Series A Preferred Stock to a number less than the number of shares then outstanding plus the number of shares reserved for issuance upon the exercise of outstanding options, rights or warrants or upon the conversion of any outstanding securities issued by the Corporation convertible into Series A Preferred Stock. Section 2. Dividends and Distributions. (A) Subject to the rights of the holders of any shares of any series of Preferred Stock (or any similar stock) ranking prior and superior to the shares of any series of Preferred Stock (or any similar stock) ranking prior and superior to the Series A Preferred Stock with respect to dividends, the holders of shares of Series A Preferred Stock, in preference to the holders of Common Stock, par value $.0625 per share (hereinafter referred to as the "Common Stock"), of the Corporation, and of any other junior stock, shall be entitled to receive, when, as and if declared by the Board of Directors out of funds legally available for the purpose, quarterly dividends payable in cash on the first day of March, June, September and December in each year (each such date being referred to herein as a "Quarterly Dividend Payment Date"), commencing on the first Quarterly Dividend Payment Date after the first issuance of a share or fraction of a share of Series A Preferred Stock, in an amount per share (rounded to the nearest cent) equal to the greater of (a) $1.00 or (b) subject to the provision for adjustment hereinafter set forth, 100 times the aggregate per share amount of all cash dividends, and 100 times the aggregate per share amount (payable in kind) of all non-cash dividends or other distributions, other than a dividend payable in shares of Common Stock or a subdivision of the outstanding shares of Common Stock (by reclassification or otherwise), declared on the Common Stock since the immediately preceding Quarterly Dividend Payment Date or, with respect to the first Quarterly Dividend Payment Date, since the first issuance of any share or fraction of a share of Series A Preferred Stock. In the event the Corporation shall at any time declare or pay any dividend on the Common Stock payable in shares of Common Stock, or effect a subdivision or combination or consolidation of the outstanding shares of Common Stock (by reclassification or otherwise than by payment of a dividend in shares of Common Stock) into a greater or lesser number of shares of Common Stock, then in each such case the amount to which holders of shares of Series A Preferred Stock were entitled immediately prior to such event under clause (b) of the preceding sentence shall be adjusted by multiplying such amount by a fraction, the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. (B.) The Corporation shall declare a dividend or distribution on the Series A Preferred Stock as provided in paragraph (A) of this Section immediately after it declares a dividend or distribution on the Common Stock (other than a dividend payable in shares of Common Stock); provided that, in the event no dividend or distribution shall have been declared on the Common Stock during the period between any Quarterly Dividend Payment Date and the next subsequent Quarterly Dividend Payment Date, a dividend of $1.00 per share on the Series A Preferred Stock shall nevertheless by payable on such subsequent Quarterly Dividend Payment Date. (C.) Dividends shall begin to accrue and be cumulative on outstanding shares of Series A Preferred Stock from the Quarterly Dividend Payment Date next preceding the date of issue of such shares, unless the date of issue of such shares is prior to the record date for the first Quarterly Dividend Payment Date, in which case dividends on such shares shall begin to accrue from the date of issue of such shares, or unless the date of issue is a Quarterly Dividend Payment Date or is a date after the record date for the determination of holders of shares of Series A Preferred Stock entitled to receive a quarterly dividend and before such Quarterly Dividend Payment Date, in either of which events such dividends shall begin to accrue and be cumulative from such Quarterly Dividend Payment Date. Accrued but unpaid dividends shall not bear interest. Dividends paid on the shares of Series A Preferred Stock in an amount less than the pro rata on a share-by-share basis among all such shares at the time outstanding. The Board of Directors may fix a record date for the determination of holders of shares of Series A Preferred Stock entitled to receive payment of a dividend or distribution declared thereon, which record date shall be not more than 60 days prior to the date fixed for the payment thereof. Section 3. Voting Rights. The holders of shares of Series A Preferred Stock shall have the following voting rights: (A) Subject to the provision for adjustment hereinafter set forth, each share of Series A Preferred Stock shall entitle the holder thereof to 100 votes on all matters submitted to a vote of the stockholders of the Corporation. In the event the Corporation shall at any time declare or pay any dividend on the Common Stock payable in shares of Common Stock, or effect a subdivision or combination or consolidation of the outstanding shares of Common Stock (by reclassification or otherwise than by payment of a dividend in shares of Common Stock) into a greater or lesser number of shares of Common Stock, then in each such case the number of votes per share to which holders of shares of Series A Preferred Stock were entitled immediately prior to such event shall be adjusted by multiplying such number by a fraction, the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. (B) Except as otherwise provided herein, in any other Certificate of Designations creating a series of Preferred Stock or any similar stock, or by law, the holders of shares of Series A Preferred Stock and the holders of shares of Common Stock and any other capital stock of the Corporation having general voting rights shall vote together as one class on all matters submitted to a vote of stockholders of the Corporation. (C) Except as set forth herein, or as otherwise provided by law, holders of Series A Preferred Stock shall have no special voting rights and their consent shall not be required (except to the extent they are entitled to vote with holders of Common Stock as set forth herein) for the taking of any corporate action. Section 4. Certain Restrictions. (A) Whenever quarterly dividends or other dividends or distributions payable on the Series A Preferred Stock as provided in Section 2 are in arrears, thereafter and until all accrued and unpaid dividends and distributions, whether or not declared, on shares of Series A Preferred Stock outstanding shall have been paid in full, the Corporation shall not: (i) declare or pay dividends, or make any other distributions, on any shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Preferred Stock; (ii) declare or pay dividends, or make any other distributions, on any shares of stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) with the Series A Preferred Stock, except dividends paid ratably on the Series A Preferred Stock and all such parity stock on which dividends are payable or in arrears in proportion to the total amounts to which the holders of all such shares are then entitled; (iii) redeem or purchase or otherwise acquire for consideration shares of any stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Preferred Stock, provided that the Corporation may at any time redeem, purchase or otherwise acquire shares of any such junior stock in exchange for shares of any stock of the Corporation ranking junior (either as to dividends or upon dissolution, liquidation or winding up) to the Series A Preferred Stock; or (iv) redeem or purchase or otherwise acquire for consideration any shares of Series A Preferred Stock, or any shares of stock ranking on a parity with the Series A Preferred Stock, except in accordance with a purchase offer made in writing or by publication (as determined by the Board of Directors) to all holders of such shares upon such terms as the Board of Directors, after consideration of the respective annual dividend rates and other relative rights and preferences of the respective series and classes, shall determine in good faith will result in fair and equitable treatment among the respective series or classes. (B) The Corporation shall not permit any subsidiary of the Corporation to purchase or otherwise acquire for consideration any shares of stock of the Corporation unless the Corporation could, under paragraph (A) of this Section 4, purchase or otherwise acquire such shares at such time and in such manner. Section 5. Reacquired Shares. Any shares of Series A Preferred Stock purchased or otherwise acquired by the Corporation in any manner whatsoever shall be retired and cancelled promptly after the acquisition thereof. All such shares shall upon their cancellation become authorized but unissued shares of Preferred Stock and may be reissued as part of a new series of Preferred Stock subject to the conditions and restrictions on issuance set forth herein, in the Certificate of Incorporation or in any other Certificate of Designations creating a series of Preferred Stock or any similar stock or as otherwise required by law. Section 6. Liquidation, Dissolution or Winding Up. Upon any liquidation, dissolution or winding up of the Corporation, no distribution shall be made (1) to the holders of shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Preferred Stock unless, prior thereto, the holders of shares of Series A Preferred Stock distributions thereon, whether or not declared, to the date of such payment, provided that the holders of shares of Series A Preferred Stock shall be entitled to receive an aggregate amount per share, subject to the provision for adjustment hereinafter set forth, equal to 100 times the aggregate amount to be distributed per share to holders of shares of Common Stock, or (2) to the holders of shares of stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) with the Series A Preferred Stock, except distributions made ratably on the Series A Preferred Stock and all such parity stock in proportion to the total amounts to which the holders of all such shares are entitled upon such liquidation, dissolution or winding up. In the event the Corporation shall at any time declare or pay any dividend on the Common Stock payable in shares of Common Stock, or effect a subdivision or combination or consolidation of the outstanding shares of Common Stock (by reclassification or otherwise than by payment of a dividend in shares of Common Stock) into a greater or lesser number of shares of Common Stock, then in each such case the aggregate amount to which holders of shares of Series A Preferred Stock were entitled immediately prior to such event under the proviso in clause (1) of the preceding sentence shall be adjusted by multiplying such amount by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. Section 7. Consolidation, Merger, etc. In case the Corporation shall enter into any consolidation, merger, combination or other transaction in which the shares of Common Stock are exchanged for or changed into other stock or securities, cash and/or any other property, then in any such case each share of Series A Preferred Stock shall at the same time be similarly exchanged or changed into an amount per share, subject to the provision for adjustment hereinafter set forth, equal to 100 times the aggregate amount of stock, securities, cash and/or any other property (payable in kind), as the case may be, into which or for which each share of Common Stock is changed or exchanged. In the event the Corporation shall at any time declare or pay any dividend on the Common Stock payable in shares of Common Stock, or effect a subdivision or combination or consolidation of the outstanding shares of Common Stock (by reclassification or otherwise than by payment of a dividend in shares of Common Stock) into a greater or lesser number of shares of Common Stock, then in each such case the amount set forth in the preceding sentence with respect to the exchange or change of shares of Series A Preferred Stock shall be adjusted by multiplying such amount by a fraction, the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. Section 8. No Redemption. The shares of Series A Preferred Stock shall not be redeemable. Section 9. Rank. The Series A Preferred Stock shall rank, with respect to the payment of dividends and the distribution of assets, junior to all series of any other class of the Preferred Stock of the Corporation. Section 10. Amendment. The Certificate of Incorporation of the Corporation shall not be amended in any manner which would materially alter or change the powers, preferences or special rights of the Series A Preferred Stock so as to affect them adversely without the affirmative vote of the holders of at least two-thirds of the outstanding shares of Series A Preferred Stock, voting together as a single class. IN WITNESS WHEREOF, this Certificate of Designations is executed on behalf of the Corporation by its Chairman of the Board and attested by its Secretary this 17th day of January, 1996, who do hereby affirm, under penalties of perjury, that the foregoing Certificate of Designations is the act and deed of the Corporation and that the facts stated therein are true. WOODWARD GOVERNOR COMPANY By ________________________________ John A. Halbrook, Chairman, Chief Executive Officer and President Attest: By ______/s/ Carol J. Manning________ Carol J. Manning, Secretary EX-3 3 BYLAWS Exhibit 3(ii) Bylaws, as amended ARTICLE I SECTION 1.1. REGISTERED OFFICE The registered office shall be established and maintained as prescribed in the Certificate of Incorporation of the Corporation. SECTION 1.2. OTHER OFFICES The corporation may have other offices, either within or outside of the State of Delaware, at such place or places as the Board of Directors may from time to time appoint or the business of the corporation may require. ARTICLE II SECTION 2.1. PLACE OF MEETINGS All meetings of the stockholders for the election of directors shall be held in the City of Rockford, State of Illinois, at such place as may be fixed from time to time by the Board of Directors, or at such other place either within or without the State of Illinois as shall be designated from time to time by the Board of Directors and stated in the notice of the meeting. Meetings of stockholders for any other purpose may be held at such time and place, within or without the State of Illinois, as shall be stated in the notice of the meeting or in a duly executed waiver of notice thereof. SECTION 2.2. ANNUAL MEETING OF STOCKHOLDERS The annual meeting of stockholders for the election of directors and for such other business as may be stated in the notice of the meeting shall be held, in each year, commencing in 1999, by the third Wednesday following January 2 at 10:00 A.M., local time, or such other date and time as shall be designated from time to time by the Board of Directors and stated in the notice of the meeting. SECTION 2.3. VOTING Each stockholder entitled to vote in accordance with the terms of the Certificate of Incorporation and in accordance with the provisions of these bylaws shall, except as otherwise provided by the Certificate of Incorporation, be entitled to one vote, in person or by proxy, for each share of stock entitled to vote held by such stockholder, but no proxy shall be voted after three years from its date unless such proxy provides for a longer period. SECTION 2.4. LIST OF STOCKHOLDERS The officer who has charge of the stock ledger of the corporation shall prepare and make, at least ten days before every meeting of stockholders, a complete list of the stockholders entitled to vote at the meeting, arranged in alphabetical order, and showing the address of each stockholder and the number of shares registered in the name of each stockholder. Such list shall be open to the examination of any stockholder, for any purpose germane to the meeting, during ordinary business hours, for a period of at least ten days prior to the meeting, either at a place within the city where the meeting is to be held, which place shall be specified in the notice of the meeting, or, if not so specified, at the place where the meeting is to be held. The list shall also be produced and kept at the time and place of the meeting during the whole time thereof, and may be inspected by any stockholder who is present. SECTION 2.5. QUORUM The holders of a majority of the stock issued and outstanding and entitled to vote thereat, present in person or represented by proxy, shall constitute a quorum at all meetings of the stockholders for the transaction of business except as otherwise provided by statute or by the Certificate of Incorporation. If, however, such quorum shall not be present or represented at any meeting of the stockholders, the stockholders entitled to vote thereat, present in person or represented by proxy, shall have power to adjourn the meeting from time to time, without notice other than announcement at the meeting, until a quorum shall be present or represented. At such adjourned meeting at which a quorum shall be present or represented any business may be transacted which might have been transacted at the meeting as originally notified. If the adjournment is for more than thirty days, or if after the adjournment a new record date is fixed for the adjourned meeting, a notice of the adjourned meeting shall be given to each stockholder of record entitled to vote at the meeting. SECTION 2.6. SPECIAL MEETINGS Special meetings of the stockholders for any proper purpose or purposes may be called by the Board of Directors or by the Chairman of the Board of Directors, and shall be called upon a request in writing therefore stating the purpose or purposes thereof signed by the holders of two-thirds of the outstanding shares of Common Stock of the Corporation. SECTION 2.7. NOTICE OF MEETINGS Except as otherwise provided by law, written notice, stating the place, date and time of the meeting, and the general nature of the business to be considered, shall be given to each stockholder entitled to vote thereat at his address as it appears on the records of the corporation either personally or by mail, not less than ten nor more than sixty days before the date of the meeting. If mailed, such notice shall be deemed to be given at the time when the same shall be deposited in the United States mail. No business other than that stated in the notice shall be transacted at any meeting without the unanimous consent of all the stockholders entitled to vote thereat. SECTION 2.8. NOMINATIONS FOR DIRECTOR Nominations for election to the Board of Directors may be made by the Board of Directors or by any stockholder entitled to vote for the election of directors. Nominations other than those made by the Board of Directors shall be made by notice in writing, delivered or mailed by registered or certified United States mail, return receipt requested, postage prepaid, to the Secretary of the Corporation, not less than 20 days nor more than 50 days prior to any meeting of stockholders called for the election of directors; provided, however, if less than 21 days' notice of the meeting is given to stockholders, such written notice shall be delivered or mailed, as prescribed, not later than the close of business on the seventh day following the day on which the notice of meeting was mailed to the stockholders. Each such written notice shall contain the following information: (a) The name and residence address of the stockholder making the nomination; (b) Such information regarding each nominee as would have been required to be included in a proxy statement filed pursuant to the proxy rules of the Securities and Exchange Commission had the nominee been nominated by the Board of Directors; and (c) The signed consent of each nominee to serve as a member of the Board of Directors if elected, and the signed agreement of each nominee that if elected he or she will be guided by the philosophy and concepts of human and industrial association of the Corporation as expressed in its Constitution in connection with the nominee's service as a member of the Board of Directors. Unless otherwise determined by the Chairman of the Board of Directors or by a majority of the directors then in office, any nomination which is not made in accordance with the foregoing procedure shall be defective, and any votes which may be cast for the defective nominee shall be disregarded. ARTICLE III SECTION 3.1. GENERAL POWERS The business and affairs of the corporation shall be managed by or under the direction of its Board of Directors. The Board of Directors shall exercise all of the powers of the corporation except such as are by law, or by the Certificate of Incorporation of the corporation or by these bylaws conferred upon or reserved to the stockholders. SECTION 3.2. NUMBER AND TERM The Board of Directors shall be divided into three classes, Class I, Class II and Class III, which shall be as nearly equal in number as possible. The number of directors which shall constitute the whole Board of Directors shall be ten, consisting of three Class I directors, four Class II directors, and three Class III directors. Except as provided in Section 3.4 hereof, each director shall serve for a term ending on the date of the third annual meeting of stockholders following the annual meeting at which such director was elected; provided, however, that each initial director in Class I shall hold office until the annual meeting of stockholders next ensuing, each initial director in Class II shall hold office until the annual meeting of stockholders one year thereafter, and each initial director in Class III shall hold office until the annual meeting of stockholders two years thereafter. If the number of directors is changed, any increase or decrease shall be apportioned among the three classes so as to maintain the number of directors in each class as nearly equal as possible. In no case will a decrease in the number of directors shorten the term of any incumbent director. SECTION 3.3. VACANCIES Vacancies in the Board of Directors and newly created directorships resulting from any increase in the authorized number of directors shall be filled by a majority of the directors then in office, although less than a quorum, or by the sole remaining director. Except as provided in Section 3.4 hereof, any director elected to fill a vacancy shall hold office for the remaining term of the class in which the vacancy shall have occurred or shall have been created. SECTION 3.4. QUALIFICATIONS Unless otherwise determined by the Board of Directors, the term of any director shall end on September 30th next following said director's seventieth birthday. No person may serve as a director unless such person agrees in writing that in connection with such service he or she will be guided by the philosophy and concepts of human and industrial association of the corporation as expressed in its Constitution. SECTION 3.5. DIRECTOR EMERITUS Any director who requests that he be appointed a director emeritus and any director who is not re-elected by the stockholders may, with the approval of the Board of Directors, be a director emeritus until the next annual meeting of the Board of Directors. A director emeritus may attend directors' meetings and counsel the directors but will not be a member of the Board of Directors and will not have the voting rights of a director. SECTION 3.6. INCREASE OR DECREASE OF NUMBER The number of directors may be increased or decreased from time to time by amendment of these bylaws. SECTION 3.7. REMOVAL Any director or the entire Board of Directors may be removed from office at any time, but only for cause and only by the affirmative vote of the holders of two-thirds of the outstanding shares of Common Stock of the Corporation. SECTION 3.8. REGULAR MEETINGS The first regular meeting of each newly elected Board of Directors shall be held immediately after, and at the same place as, the Annual Meeting of Stockholders. Thereafter regular meetings of the Board of Directors shall be held at such times as the Board of Directors may from time to time establish. Regular meetings shall be held at the corporate office at 5001 North Second Street, Rockford, Illinois unless otherwise noted by prior written notice. Regular meetings of the Board of Directors will be held without other notice than this bylaw. Any such regular meeting other than the first regular meeting may be cancelled by the person or persons authorized to call special meetings of the Board of Directors. Any such cancellation shall be accomplished by giving notice in accordance with Section 3.11 of these bylaws. SECTION 3.9. SPECIAL MEETINGS Special meetings of the Board of Directors may be called by or at the request of the Chairman of the Board of Directors or any two directors. The person or persons authorized to call special meetings of the Board of Directors may fix the place of any meeting called by such person or persons. SECTION 3.10. MINIMUM SCHEDULE OF MEETINGS During each calendar quarter, the Board of Directors shall conduct at least one meeting. Each regular meeting and each special meeting shall be regarded as one meeting. For the purposes of this Section 3.10, action without meeting pursuant to Section 3.15 of these bylaws shall not be regarded as a meeting. SECTION 3.11. NOTICE Notice of any special meeting or the cancellation of any regular meeting shall be given to each director by letter delivered at least two days before the meeting, or by telegram delivered at least one day before the meeting, or by such shorter telephone or other notice as the person or persons calling or canceling the meeting may deem appropriate in the circumstances. If mailed, such notice shall be deemed to be delivered when deposited in the United States mail in a sealed envelope with postage thereon prepaid. If notice be given by telegram, such notice shall be deemed to be delivered when the telegram is delivered to the telegraph company. Neither the business to be transacted at nor the purpose of any special meeting need be specified in the notice thereof. SECTION 3.12. PRESIDING OFFICER Meetings of the stockholders and the Board of Directors shall be presided over by the Chairman of the Board of Directors, or if he is not present, by the Vice Chairman of the Board of Directors, or if he is not present, by the President, or if he is not present, by a Vice President, or if neither the Chairman of the Board of Directors, nor the Vice Chairman of the Board of Directors, nor the President, nor a Vice President is present, then by a presiding officer to be chosen by a majority of the directors present. SECTION 3.13. QUORUM A majority of the directors shall constitute a quorum for the transaction of business, and the act of a majority of the directors present at any meeting at which there is a quorum shall be the act of the Board of Directors, except as may be otherwise specifically provided by statute. If at any meeting of the board there shall be less than a quorum present, a majority of these present may adjourn the meeting from time to time until a quorum is obtained, and no further notice thereof need be given other than by announcement at the meeting which shall be so adjourned. SECTION 3.14. COMPENSATION The Board of Directors shall have authority to fix the compensation of all directors and directors emeritus. By resolution of the Board of Directors expenses of attendance, if any, may be allowed for attendance by each director and director emeritus at each regular or special meeting of the Board of Directors. Nothing herein shall be construed to preclude any director or director emeritus from serving the corporation in any other capacity and receiving compensation therefor. SECTION 3.15. ACTION WITHOUT MEETING Any action required or permitted to be taken at any meeting of the Board of Directors, may be taken without a meeting if all members of the board consent thereto in writing, and the writing or writings are filed with the minutes of proceedings of the board. SECTION 3.16. MEETINGS BY CONFERENCE TELEPHONE Members of the Board of Directors may participate in a meeting of such board by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and participation in such meetings shall constitute presence in person at such meeting. ARTICLE IV SECTION 4.1. COMMITTEES OF THE BOARD OF DIRECTORS The Board of Directors shall designate an Executive Committee, an Audit Committee, a Compensation Committee, a Selection Committee, a Management Operations Committee, and a Stock Option Committee, each of which shall have and may exercise the powers and authority of the Board of Directors to the extent hereinafter provided. The Board of Directors may designate one or more additional committees of the Board of Directors with such powers and authority as shall be specified in the resolution of the Board of Directors. Each committee shall consist of such number of directors not less than two as shall be determined from time to time by resolution of the Board of Directors. The Chairman of the Board of Directors shall be ex-officio a member of all committees of the Board of Directors other than the Audit Committee and the Stock Option Committee, and he shall be chairman of the Executive Committee. All actions of the Board of Directors designating committees, or electing or removing members of such committees, shall be taken by a resolution passed by a majority of the whole Board of Directors. Each committee shall keep a written record of all action taken by it. All action taken by a committee shall be reported to the Board of Directors at its meeting next succeeding such action and shall be subject to approval and revision by the Board of Directors, provided that no legal rights of third parties shall be affected by such revisions and in no event shall the Board of Directors take any action with respect to the Stock Option Committee which would cause the 1996 Long-Term Incentive Compensation Plan as amended from time to time (the "Long-Term Incentive Plan") to fail to comply with Rule 16b-3 of the Securities Exchange Act of 1934, as amended (the "Exchange Act") or cause the members of the Stock Option Committee not to qualify as "disinterested persons" under said Rule 16b-3. SECTION 4.2. ELECTION OF COMMITTEE MEMBERS The members of each committee shall be elected by the Board of Directors and shall serve until the first meeting of the Board of Directors after the annual meeting of stockholders and until their successors are elected and qualified or until their earlier resignation or removal. The Board of Directors may designate the chairman of each committee other than the Executive Committee and may designate one or more directors as alternate members of any committee who may replace any absent or disqualified member at any meeting of the committee. In the absence or disqualification of a member and all alternate members who may serve in the place and stead of such member, the member or members thereof present at any meeting and not disqualified from voting, whether or not such member or members constitute a quorum, may unanimously appoint another member of the Board of Directors to act at the meeting in the place of any such absent or disqualified member. SECTION 4.3. COMMITTEE RULES AND PROCEDURES The Chairman of the Board of Directors, the chairman of any committee, or a majority of the members of any committee, may call a meeting of that committee. Unless the Board of Directors otherwise provides, each committee may make, alter and repeal rules and procedures for the conduct of its business. In the absence of such rules and procedures, each committee shall conduct its business in the same manner as the Board of Directors conducts its business pursuant to Article III of these bylaws, except that a quorum of the Management Operations Committee for the transaction of business shall consist of one member so long as such committee consists of two members. SECTION 4.4. EXECUTIVE COMMITTEE During the intervals between meetings of the Board of Directors, the Executive Committee shall have and may exercise all the powers and authority of the Board of Directors in the management of the business and affairs of the corporation upon any matter which in the opinion of the Chairman of the Board of Directors should not be postponed until the next previously scheduled meeting of the Board of Directors. The Executive Committee shall have the power and authority to declare cash dividends. Notwithstanding the foregoing, as provided by law the Executive Committee shall not have power or authority in reference to amending the Certificate of Incorporation, adopting an agreement of merger or consolidation, recommending to the stockholders the sale, lease or exchange of all or substantially all of the corporation's property and assets, recommending to the stockholders a dissolution of the corporation or a revocation of a dissolution, or amending these bylaws. SECTION 4.5. AUDIT COMMITTEE The Audit Committee shall have the power to recommend to the Board of Directors the selection and engagement of independent accountants to audit the books and accounts of the corporation and the discharge of the independent accountants. The Audit Committee shall review the scope and approach of the annual audit as recommended by the independent accountants, the scope and approach of internal audits of the corporation, the system of internal accounting controls of the corporation, and shall review the reports to the Audit Committee of the independent accountants and the internal auditors. SECTION 4.6. COMPENSATION COMMITTEE The Compensation Committee shall have the power to recommend to the Board of Directors the compensation of the officers and key personnel of the corporation. SECTION 4.7. SELECTION COMMITTEE The Selection Committee shall have the power to recommend to the Board of Directors candidates for election to the Board of Directors. SECTION 4.8. MANAGEMENT OPERATIONS COMMITTEE The Management Operations Committee shall have the power to authorize and approve such routine matters arising in the ordinary course of business of the corporation as the Board of Directors shall establish from time to time by resolution. The Management Operations Committee shall have no power or authority to declare cash dividends and shall have no power denied to the Executive Committee in Section 4.4 hereof. SECTION 4.9. STOCK OPTION COMMITTEE The Stock Option Committee shall have the power to administer the Corporation's Long-Term Incentive Plan in accordance with the terms of the Long-Term Incentive Plan, and to make all determinations and to take all such actions in connection therewith or in relation thereto as it deems necessary or advisable, including the granting of all incentives to eligible working members in accordance with the terms of the Long-Term Incentive Plan. ARTICLE V SECTION 5.1. OFFICERS The officers of the corporation shall be a Chairman of the Board of Directors, a President, one or more Vice Presidents (the number thereof to be determined by the Board of Directors), a Treasurer and a Secretary, all of whom shall be elected by the Board of Directors. In addition, the Board of Directors may elect a Vice Chairman of the Board of Directors and one or more Assistant Treasurers and Assistant Secretaries. SECTION 5.2. OTHER OFFICERS AND AGENTS The Board of Directors may appoint such other officers and agents as it may deem advisable, who shall hold their offices for such terms and shall exercise such powers and perform such duties as shall be determined from time to time by the Board. SECTION 5.3. QUALIFICATIONS Except for the Chairman of the Board of Directors, and unless otherwise determined by the Board of Directors, each officer of the corporation shall be under the age of 65 at the time of election. None of the officers of the corporation, except the Chairman of the Board of Directors and the Vice Chairman of the Board of Directors, need be a Director. SECTION 5.4. ELECTION AND TERM OF OFFICE The officers of the corporation shall be elected annually by the Board of Directors at the first meeting of the Board of Directors held after each annual meeting of shareholders. If the election of officers shall not be held at such meeting, such election shall be held as soon thereafter as conveniently may be. Vacancies may be filled or new offices created and filled at any meeting of the Board of Directors. Each officer shall hold office until his successor shall have been duly elected and shall have qualified or until his death or until he shall resign or shall have been removed in the manner hereinafter provided. SECTION 5.5. REMOVAL Any officer or agent elected or appointed by the Board of Directors may be removed by the Board of Directors whenever in its judgment the best interests of the corporation would be served thereby, but such removal shall be without prejudice to the contract rights, if any, of the person so removed. SECTION 5.6. CHAIRMAN The Chairman of the Board of Directors shall be elected from among the members of the Board of Directors. He shall be the chief executive officer of the corporation, and he shall have general supervision of the business affairs and property of the corporation and over its several officers, subject, however, to the control of the Board of Directors. He shall, subject to the direction and control of the Board of Directors, be its representative and medium of communication; he shall, to the best of his ability, see that the acts of the officers conform to the policies of the corporation as determined by the Board of Directors, and shall perform such duties as may from time to time be assigned to him by the Board of Directors. SECTION 5.7. VICE CHAIRMAN The Board of Directors may from time to time elect a Vice Chairman of the Board of Directors. Such Vice Chairman shall be a director and shall serve as Vice Chairman until his term of office as director concludes, or until his successor as Vice Chairman shall have been elected and qualified, whichever event shall first occur. The Vice Chairman shall perform the duties and exercise all the powers of the Chairman of the Board of Directors, when, and for so long as the Chairman of the Board of Directors so directs in writing. The Vice Chairman shall perform such other duties as may from time to time be assigned to him by the Board of Directors. SECTION 5.8. PRESIDENT The President shall be the chief operating officer of the corporation. SECTION 5.9. VICE PRESIDENTS Each Vice President shall have such duties and powers as shall be assigned to him or her by the President or by the Board of Directors. SECTION 5.10. TREASURER If required by the Board of Directors, the Treasurer shall give a bond for the faithful discharge of his duties in such sum and with such surety or sureties as the Board of Directors shall determine. He shall: (a) have charge and custody of and be responsible for all funds and securities of the corporation; receive and give receipts for monies due and payable to the corporation from any source whatsoever, and deposit all such monies in the name of the corporation in such banks, trust companies, or other depositories as shall be selected by the Board of Directors; and (b) in general perform all the duties incident to the office of Treasurer and such other duties as from time to time may be assigned to him by the President or by the Board of Directors. SECTION 5.11. SECRETARY The Secretary shall: (a) keep the minutes of the meetings of the stockholders and of the Board of Directors in one or more books provided for the purpose; (b) see that all notices are duly given in accordance with the provisions of these bylaws or as required by law; (c) be custodian of the corporate records and of the seal of the corporation and see that the seal of the corporation is affixed to all certificates for shares prior to the issue thereof and to all documents, the execution of which on behalf of the corporation under its seal is duly authorized in accordance with the provisions of these bylaws; (d) keep a register of the post office address of each stockholder which shall be furnished to the secretary by such stockholder; (e) sign with the Chairman or Vice Chairman of the Board of Directors, the President, or a Vice President, certificates for shares of the corporation, the issue of which shall have been authorized by resolution of the Board of Directors; (f) have general charge of the stock transfer books of the corporation; (g) in general perform all duties incident to the office of Secretary and such other duties as from time to time may be assigned to him by the President or by the Board of Directors. SECTION 5.12. ASSISTANT TREASURERS AND ASSISTANT SECRETARIES The Assistant Treasurers shall respectively, if required by the Board of Directors, give bonds for the faithful discharge of their duties in such sums and with such sureties as the Board of Directors shall determine. The Assistant Secretaries, as thereunto authorized by the Board of Directors, may sign with the Chairman or Vice Chairman of the Board of Directors, the President or a Vice President certificates for shares of the corporation, the issue of which shall have been authorized by a resolution of the Board of Directors. The Assistant Treasurers and Assistant Secretaries, in general, shall perform such duties as shall be assigned to them by the Treasurer or the Secretary respectively, or by the President or the Board of Directors. SECTION 5.13. SALARIES The salaries of the officers shall be fixed from time to time by the Board of Directors and no officer shall be prevented from receiving such salary by reason of the fact that he is also a director of the corporation. ARTICLE VI SECTION 6.1. CERTIFICATES OF STOCK Every holder of stock in the corporation shall be entitled to have a certificate signed by, or in the name of the corporation, by the Chairman or the Vice Chairman of the Board of Directors, or the President or a Vice President, and by the Treasurer or an Assistant Treasurer, or the Secretary or an Assistant Secretary of the corporation, certifying the number of shares owned by him in the corporation. Any of or all the signatures on the certificate and the seal of the corporation if one be used may be a facsimile. In case any officer, transfer agent, or registrar who has signed or whose facsimile signature has been placed upon a certificate shall have ceased to be such officer, transfer agent, or registrar before such certificate is issued, it may be issued by the corporation with the same effect as if he were such officer, transfer agent, or registrar at the date of issue. SECTION 6.2. TRANSFER OF STOCK Transfer of shares of the corporation shall be made only on the books of the corporation by the registered holder thereof, by his attorney thereunto authorized, by power of attorney duly executed and filed with the Secretary of the corporation, and on surrender for cancellation of the certificate for such shares properly endorsed and with all taxes thereon paid. The person in whose name shares stand on the books of the corporation shall be deemed the owner thereof for all purposes as regards the corporation. However, if any transfer of shares is made only for the purpose of furnishing collateral security and such fact is made known to the Secretary of the corporation, or to the corporation's transfer clerk or transfer agent, the entry of the transfer shall record such fact. SECTION 6.3. TRANSFER AGENT AND REGISTRAR The Board of Directors may appoint one or more transfer agents and registrars, and thereafter it may require all stock certificates to bear the signature of a transfer agent and a registrar or a facsimile thereof. SECTION 6.4. RULES OF TRANSFER The Board of Directors shall have the power and authority to make all such rules and regulations as it may deem expedient concerning the issue, transfer and registration of certificates for the shares of the corporation. SECTION 6.5. LOST CERTIFICATE Any person claiming a certificate for shares of the corporation to have been lost, stolen, or destroyed shall make an affidavit of the fact and lodge such affidavit with the Secretary of the corporation, accompanied by a signed application for a new certificate. Any such person shall give the corporation a bond of indemnity with one or more sureties satisfactory to the Board of Directors and in an amount which in its judgment, shall be sufficient to save the corporation from loss, and thereupon, the proper officers may cause to be issued a new certificate of like tenor with the one alleged to have been lost, stolen, or destroyed, but the Board of Directors may refuse the issuance of such new certificate. SECTION 6.6. DIVIDENDS Subject to the provisions of the Certificate of Incorporation, the Board of Directors may, out of funds legally available therefor, at any regular or special meeting, declare dividends upon the capital stock of the corporation as and when it deems expedient. Before declaring any dividend there may be set apart out of any funds of the corporation available for dividends, such sum or sums as the directors from time to time in their discretion deem proper for working capital or as a reserve fund to meet contingencies or for equalizing dividends or for such other purposes as the directors shall deem conducive to the interests of the corporation. ARTICLE VII SECTION 7.1. (a)The corporation shall indemnify, subject to the requirements of subsection (d) of this Section, any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of the corporation), by reason of the fact that he is or was a director, officer, employee, or agent of the corporation, or is or was serving at the request of the corporation as a director, officer, employee, fiduciary or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise, against expenses (including attorneys' fees), judgments, fines, penalties, taxes and amounts paid in settlement actually and reasonably incurred by him in connection with such action, suit or proceeding if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the corporation and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful. The termination of any action, suit or proceeding by judgment, order, settlement, conviction or upon a plea of nolo contendere or its equivalent, shall not, of itself, create a presumption that the person did not act in good faith and in a manner which he reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had reasonable cause to believe that his conduct was unlawful. (b)The corporation shall indemnify, subject to the requirements of subsection (d) of this Section, any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action or suit by or in the right of the corporation to procure a judgment in its favor by reason of the fact that he is or was a director, officer, employee or agent of the corporation or is or was serving at the request of the corporation as a director, officer, employee, fiduciary or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise against expenses (including attorneys' fees) actually and reasonably incurred by him in connection with the defense or settlement of such action or suit if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the corporation and except that no indemnification shall be made in respect of any claim, issue or matter as to which such person shall have been adjudged to be liable to the corporation unless and only to the extent that the Court of Chancery of the State of Delaware or the court in which such action or suit was brought shall determine upon application that, despite the adjudication of liability but in view of all the circumstances of the case, such person is fairly and reasonably entitled to indemnity for such expenses which the Court of Chancery of the State of Delaware or such other court shall deem proper. (c)To the extent that a director, officer, employee or agent of the corporation, or a director, officer, employee, fiduciary or agent of any other enterprise serving at the request of the corporation, has been successful on the merits or otherwise in defense of any action, suit or proceeding referred to in subsections (a) and (b) of this Section, or in defense of any claim, issue or matter therein, the corporation shall indemnify him against expenses (including attorneys' fees) actually and reasonably incurred by him in connection therewith. (d)Any indemnification under subsections (a) and (b) of this Section (unless ordered by a court) shall be made by the corporation only as authorized in the specific case upon a determination that indemnification of the director, officer, employee, fiduciary or agent is proper in the circumstances because he has met the applicable standard of conduct set forth in subsections (a) and (b) of this Section. Such determination shall be made (1) by the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to such action, suit or proceeding, or (2) if such a quorum is not obtainable, or, even if obtainable a quorum of disinterested directors so directs, by independent legal counsel in a written opinion, or (3) by the stockholders. (e)Expenses (including attorney's fees) incurred by a director, officer, employee, fiduciary or agent in defending any civil, criminal, administrative or investigative action, suit or proceeding may be paid by the corporation in advance of the final disposition of such action, suit or proceeding upon receipt of an undertaking by or on behalf of the director, officer, employee, fiduciary or agent to repay such amount if it shall ultimately be determined that he is not entitled to be indemnified by the corporation as authorized in this Section. (f)The indemnification and advancement of expenses provided by, or granted pursuant to the other subsections of this Section shall not limit the corporation from providing any other indemnification permitted by law nor shall it be deemed exclusive of any other rights to which those seeking indemnification or advancement of expenses may be entitled under any bylaw, agreement, vote of stockholders or disinterested directors or otherwise, both as to action in his official capacity and as to action in another capacity while holding such office. (g)The provisions of this Section shall be applicable to all actions, suits or proceedings pending at the time or commenced after the adoption of this Section, whether arising from acts or omissions to act occurring, or based on claims asserted, before or after the adoption of this Section. A finding that any provision of this Section is invalid or of limited application shall not affect any other provision of this Section nor shall a finding that any portion of any provision of this Section is invalid or of limited application affect the balance of such provision. The adoption of this Section shall not impair the rights any person may have had under Article XII of the bylaws of Woodward Governor Company, an Illinois corporation, so that if such person is not entitled to the benefit of the provisions of this Section with respect to any action, suit or proceeding, he shall continue to be entitled to the benefit of the provisions of Article XII of the bylaws of Woodward Governor Company, an Illinois corporation, with respect to such action, suit or proceeding. (h)The corporation may purchase and maintain insurance on behalf of any person who is or was a director, officer, employee or agent of the corporation, or is or was serving at the request of the corporation as a director, officer, employee, fiduciary or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise against any liability asserted against him and incurred by him in any such capacity, or arising out of his status as such, whether or not the corporation would have the power to indemnify him against such liability under the provisions of this Section. (i)For the purposes of this Section, references to Othe corporationO shall include, in addition to the resulting corporation, any constituent corporation (including any constituent of a constituent) absorbed in a consolidation or merger which, if its separate existence had continued, would have had power and authority to indemnify its directors, officers, and employees or agents, so that any person who is or was a director, officer, employee or agent of such constituent corporation, or is or was serving at the request of such constituent corporation as a director, officer, employee, fiduciary or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise, shall stand in the same position under the provisions of this Section with respect to the resulting or surviving corporation as he would have with respect to such constituent corporation if its separate existence had continued. (j)The indemnification and advancement of expenses provided by, or granted pursuant to, this Section shall continue as to a person who has ceased to be a director, officer, employee or agent and shall inure to the benefit of the heirs, executors and administrators of such a person. ARTICLE VIII SECTION 8.1. CONTRACTS The Board of Directors may authorize any officer or officers, agent or agents, to enter into any contract or execute and deliver any instrument in the name of and on behalf of the corporation, and such authority may be general or confined to specific instances. SECTION 8.2. LOANS No loans shall be contracted on behalf of the corporation and no evidence of indebtedness shall be issued in its name unless authorized by a resolution of the Board of Directors. Such authority may be general or confined to specific instances. SECTION 8.3. CHECKS All checks, drafts, or other orders for payment of money, notes, or other evidences of indebtedness issued in the name of the corporation, shall be signed by such officer or officers, agent or agents of the corporation and in such manner as shall from time to time be determined by resolution of the Board of Directors. SECTION 8.4. DEPOSITS All funds of the corporation not otherwise employed shall be deposited from time to time to the credit of the corporation in such banks, trust companies, or other depositories as the Board of Directors may select. ARTICLE IX SECTION 9.1. SEAL The corporate seal of the corporation shall be circular in form and shall contain the name of the corporation and the words: ORockford, Illinois. Incorporated June 1902.O Said seal may be used by causing it or a facsimile thereof to be impressed, affixed, or reproduced. SECTION 9.2. FISCAL YEAR The fiscal year of the corporation shall commence on the first day of October and shall end of the thirtieth day of September in each year. SECTION 9.3. RESIGNATIONS Any director or officer may resign at any time. Such resignation shall be made in writing and shall take effect at the time specified therein, and if no time be specified, at the time of its receipt by the Chairman of the Board of Directors, the Vice Chairman of the Board of Directors, the President, or the Secretary. The acceptance of a resignation shall not be necessary to make it effective. SECTION 9.4. WAIVER OF NOTICE Whenever any notice is required to be given under the provisions of the statutes or of the Certificate of Incorporation or of these bylaws, a written waiver thereof, signed by the person or persons entitled to said notice, whether before or after the time stated therein, shall be deemed equivalent thereto. Attendance of a person at a meeting shall constitute a waiver of notice of such meeting, except when the person attends a meeting for the express purpose of objecting, at the beginning of the meeting, to the transaction of any business because the meeting is not lawfully called or convened. Neither the business to be transacted at, nor the purpose of, any regular or special meeting of the stockholders, directors or members of a committee of directors need be specified in any written waiver of notice. ARTICLE X SECTION 10.1. BYLAW AMENDMENTS The Board of Directors shall have concurrent power with the stockholders to adopt, amend or repeal these bylaws; provided, however, that (i) these bylaws shall not be adopted, amended or repealed by the stockholders except by the affirmative vote of the holders of two-thirds of the outstanding shares of Common Stock of the Corporation, and (ii) no bylaw may be adopted by the stockholders which shall impair or impede the power of the Board of Directors under paragraph A of Article SEVENTH of the Certificate of Incorporation of the Corporation. EX-13 4 ANNUAL REPORT
FINANCIAL HIGHLIGHTS Fiscal year ended September 30, 1999 1998 1997 (In thousands of dollars except per share amounts and other year- end data) Operating Results Net billings for products and services $596,904 $490,476 $442,216 Net earnings 30,829* 21,592* 18,140* Basic earnings per share 2.74* 1.90* 1.58* Diluted earnings per share 2.73* 1.90* 1.57* Cash dividends per share .93 .93 .93 Year-end Financial Position Working capital 124,392 119,506 124,827 Total assets 550,664 563,435 348,110 Long-term debt 139,000 175,685 17,717 Shareholders' equity 241,992 220,102 210,614 Other Year-end Data Shareholders' equity per diluted share $21.43 $19.34 $18.27 Worker members 3,791 3,994 3,246 Registered shareholder members 1,866 1,907 1,994
*Net earnings includes a reduction for the equity in loss of an unconsolidated affiliate, net of tax, of $1,287 or $.11 per basic and diluted share for 1999, $3,028 or $.27 per basic share and $.26 per diluted share for 1998, and $6,209 or $.54 per basic and diluted share for 1997. Without this item, net earnings would have been $32,116 or $2.85 per basic share and $2.84 per diluted share for 1999, $24,620 or $2.17 per basic share and $2.16 per diluted share for 1998, and $24,349 or $2.12 per basic share and $2.11 per diluted share for 1997. CONTENTS To All Shareholders 2 Focus on Our Members 5 Financial Section 13 Board of Directors 37 Board of Directors, Officers, and Investor Information 38 BUSINESS DESCTIPTION Woodward provides innovative engine controls and fuel delivery systems designed for a wide variety of applications. Serving global markets from locations worldwide, Woodward is a leading producer of fuel control systems and components for aircraft and industrial engines and turbines. Our products and services are used in the aviation, marine, locomotive, large off-road vehicle, power generation, gas generation, and oil and gas process industries. At Woodward we are responsive to the needs of our key stakeholders: our shareholders, our customers, our suppliers, and our members. We focus on both short- and long-term goals to ensure positive performance and growth. We constantly encourage our members to reach across business lines to share their experience and innovative ideas. The result-products that provide solutions for our customers. TO ALL SHAREHOLDERS We achieved record sales and earnings in fiscal 1999, primarily through our intense focus on Six Sigma initiatives that improved quality, productivity, and costs, coupled with billings generated by our Woodward FST business. Our strong financial results also reflect the repositioning of our Industrial Controls business and the introduction of new products. It is clear that the growth strategies we have put in place over the past few years are producing results. As we continued to invest in programs to sustain growth, we achieved significant milestones in a number of new, major product programs in our aircraft and industrial businesses. In addition, customers have responded positively to our small industrial engine business, which was launched last year. 2 FINANCIAL PERFORMANCE Our net earnings rose 43 percent in 1999 to $30.8 million or $2.73 per diluted share, from $21.6 million, or $1.90 per diluted share in 1998. Results for 1999 included a restructuring expense of $0.42 per diluted share and gains on sales of real estate totaling $0.15 per diluted share. Without the restructuring expense and gains on sales of real estate, earnings for 1999 would have been $3.00 per diluted share. Our improved earnings reflect our strong increase in net billings, up 22 percent to $596.9 million in 1999 from $490.5 million in 1998. Aircraft Engine Systems billings increased to $325.9 million from $234.2 million last year, primarily related to contributions from Woodward FST, which we acquired in June 1998. Woodward FST has experienced impressive growth in billings in 1999 beyond its full-year pro forma 1998 levels. Industrial Controls billings decreased to $191.6 million from $207.4 million in 1998, due to softness in Asian markets and the oil and gas sectors. Our other operations saw billings increase to $79.4 million in 1999, from $48.9 million in 1998, largely due to contributions from the small industrial engine business, which was formed in May 1998 following our acquisition of Baker Electrical Products, Inc. A WINNING COMBINATION This year, we successfully integrated Woodward FST after acquiring it in June 1998. As a global leader in fuel spray technologies, Woodward FST strengthens both our aircraft and industrial businesses. Woodward FST also created significant cross-selling opportunities for our existing businesses. The acquisition increased our presence in the thriving large, gas turbine industrial market and moved us a major step closer to offering complete, integrated fuel control and delivery systems for the aircraft engine market. As part of the integration, we consolidated a Woodward FST facility in Harvard, Illinois, to our Rockford, Illinois, facility to significantly reduce operating costs. REPOSITIONING TO STRENGTHEN PERFORMANCE We have seen positive results from the reorganization of Industrial Controls into two separate businesses, initiated at the end of the second quarter. Now, each business, Industrial Controls and Global Services, can tailor their operations around their distinct target markets. Industrial Controls will continue to benefit from its streamlined cost structure and from growing recognition of its capabilities by engine original equipment manufacturers (OEMs). Developing and manufacturing core fuel and combustion control products remains Industrial Controls' primary strategy. Advanced technologies and precision engineered products position Industrial Controls to partner with OEMs to develop high- performance, low-cost engines and turbines for the growing gas and power generation markets. Industrial Controls has earned the preferred supplier status with some OEMs and continues to develop these kinds of relationships with all its customers to increase revenues, profitability, and shareholder value. Global Services will address the needs of the end-user markets. Global Services provides engineered control systems for retrofit and aftermarket applications. With one business focusing on OEMs and the other on end users, both are realizing greater efficiencies and improved financial performance. More importantly, we are strengthening our credibility with our customers, which gives us the opportunity to build our market share and sustain our growth. NEW PRODUCT INTRODUCTIONS The backbone of Woodward's growth strategy is new products that will enhance our customers' competitive positions in the marketplace. In fiscal 1999, we achieved significant milestones in the development and validation of product platforms and systems. Williams International ordered Woodward's new integrated main fuel pump and control for an engine under development for a class of light, affordable business jets. Late in the year, our advanced Hydraulic Multiplexing Unit (HMUX), which replaces up to a dozen actuators and 3 valves on an aircraft engine, operated successfully on a General Electric Aircraft Engines test rig. The HMUX, designed to reduce cost and weight, was developed with the assistance of Lockheed Martin Control Systems, Woodward's AESYS joint venture partner. In addition to marketing the products introduced over the past few years, Industrial Controls accelerated work on platforms for distributed "smart" on-engine fuel systems for engines and turbines that will replace cabinet-mounted, off-engine controls. By combining advanced digital electronics and the latest hydro- mechanical components, this generation of products will provide significant advantages in performance, reliability, and cost. Our new product development efforts for the small industrial engine markets were well received by existing and prospective customers. This has confirmed the market needs and opportunities that we identified before launching our small industrial engine business. In fiscal 1999, we worked closely with customers to design three new products for gas engines that will start production in fiscal 2000. A PASSION FOR CUSTOMER SATISFACTION In fiscal 1999, our customers responded favorably as we improved our product quality, on-time delivery, responsiveness, and cost. We are determined to produce better products at a lower cost and at a faster pace than our competitors by continuing to implement Six Sigma methodologies. This year, more than 27 members and 9 supplier representatives earned the distinction of Six Sigma Black Belts, bringing the company-wide total to over 60. As our Black Belts continue to advise and guide our teams, we fully expect to see further process improvements that will lead to additional productivity gains. Also, this year, we trained hundreds of our members to use basic Six Sigma tools to help their teams reach their process improvement goals. Woodward extensively uses this basic method of measuring, analyzing, improving, and controlling processes to help eliminate waste from the business. By instilling the Six Sigma philosophy and tools among all our members, we will continue to raise Woodward to even higher performance levels. Not only has Six Sigma contributed to Woodward's financial success through improved profitability, it has generated a growing enthusiasm among our members as they personally contribute to our business. A BRIGHT FUTURE We look ahead with optimism. We are positioned to grow in our aircraft and industrial markets. We are delivering new products and new technologies, expanding our presence on customers' engines and turbines, and translating continuous quality improvements into competitive advantages, increased market share, and profitability improvements. We have good momentum as we move into fiscal 2000. First, global economic conditions continue to improve. Second, we are participating in the fast-growing regional and small business aircraft markets, as well as the expanding industrial power generation markets. And, we remain firmly committed to broadening our product offerings and services to achieve our growth targets in these markets. I want to thank our Board of Directors for their wisdom and guidance in matters crucial to Woodward's performance, our members for their enthusiasm and willingness to put our customers first, and our shareholders for their continued support. We look forward to the challenges and opportunities that lie ahead. John A. Halbrook Chairman of the Board and Chief Executive Officer December 6, 1999 4 Around the world, people depend on Woodward-probably more than they realize. Globally, every three seconds an airplane with our products takes off. With our aircraft engine fuel delivery systems and components, people rely on our products for on-time flight departures. Every day, our products help light, heat, and air condition homes. With our systems and components for gas engines and turbines, we help to produce the electricity used in people's homes. In emergency energy situations, hospitals depend on our products. With our controls for stand-by emergency power generator sets, patients are assured that when utility power is not available, services are not disrupted. At Woodward, we are focused on developing and producing quality products because we understand people depend on them. So, we listen to our customers; we learn from their experiences; and we create innovative solutions to meet their critical needs. 5 AIRCRAFT MARKET TRENDS With a renewed corporate jet industry and with passenger air miles projected to continue rising among regional airlines, aircraft manufacturers, such as Airbus, Boeing, and Bombardier, are relying heavily on engine manufacturers to provide complex propulsion systems to power their planes. In turn, engine manufacturers turn to Woodward for integrated engine fuel delivery systems, as well as subsystems and components. Both Woodward and engine original equipment manufacturers (OEMs) benefit from a systems approach, especially as OEMs are consolidating their supplier base by as much as 75 percent. Woodward offers fuel delivery systems to ensure our position as a preferred supplier, to increase our content on aircraft engines, and to help OEMs in their supplier consolidation efforts. As a systems provider, Woodward developed an integrated aircraft fuel pump and control in fiscal 1999. Williams International selected it for their FJ33 and FJ44 turbofan engines, which are being developed to power a new class of small business jets. The Woodward fuel pump and control will also be used by Pratt & Whitney Canada (P&WC) on PW200, PT6C, and PT6T engines to power a variety of helicopter applications. In addition, the PT6C is being developed for the revolutionary Bell Agusta BA609 Tiltrotor. The BA609 combines the vertical lift capability of a helicopter with the cruise speed of a fixed-wing aircraft. In addition, Woodward's systems expertise is represented with the new hydraulic multiplexer unit (HMUX), which was successfully tested on a test rig for General Electric Aircraft Engines. The HMUX streamlines the engine fuel system by replacing up to a dozen actuators and valves with a lighter, more reliable, and less expensive unit. AIRCRAFT AFTERMARKET SERVICES In the aftermarket arena, regional airlines continue to log more air miles than ever before, which is increasing the demand for spare parts, maintenance, overhaul, and retrofit services. We are proud to be known as a premier source for the overhaul and repair of engine fuel system accessories. 6 [PICTURES] 7 The acquisition of Fuel Systems Textron in 1998 strengthened Woodward's maintenance capabilities. Now, we offer our customers a complete fuel system repair and overhaul package to include fuel metering units, pumps, actuators, specialty valves, and fuel nozzles. In fiscal 1999, AESYS, a joint venture between Lockheed Martin Control Systems and Woodward, was awarded a portion of the largest private maintenance contract in U.S. military history-the Propulsion Business Area at Kelly Air Force Base in Texas. The AESYS team is performing repair and overhaul of General Electric TF39 engine fuel accessories-the electronic and mechanical systems that control engine fuel distribution-for the C-5 Galaxy transport aircraft. By combining Lockheed Martin's electronics expertise with Woodward's hydro-mechanical technology and fuel system integration expertise, AESYS provides more complete aircraft engine systems and services than either company could do separately. Also, this year, Woodward introduced a unique aftermarket program for propeller controls, Woodward ExpressT. Woodward knows its customers must keep their engines running with fast exchanges. So, our program offers solutions-exchange units within 24 hours and at competitive prices. 8 INDUSTRIAL MARKET TRENDS Similar to the aircraft market, industrial market trends are rapidly changing. In 1990, the use of natural gas for power generation was at two percent with coal power generation in the forefront. In 1997, natural gas use in gas power generation rose to 27 percent and it is expected to continue to increase. Deregulation of the energy market in the U.S. and Europe is a major catalyst for growth in this dynamic market. Also, stringent environmental laws governing emissions favor gas engine and turbine technology because natural gas is clean burning and efficient. Global leaders such as Caterpillar, General Electric, MHI, Wartsila, and others want suppliers who can provide core fuel controls that lower exhaust emissions and provide better fuel efficiency. And, some OEMs have capacity issues that are requiring them to outsource more than ever before. So, in fiscal 1999, Woodward developed a product strategy to introduce a revitalized line of on-engine electronics and fuel systems. By narrowing our product focus around core fuel and combustion control components, we are at the forefront of industrial market trends that favor electronic fuel injection systems and the emerging "networked" engine. Our broad product offerings, systems knowledge, and ability to address engine and turbine core fuel control applications are unmatched in the industrial market. We are the only manufacturer with a complete range of injection devices for diesel and gas engines and gas turbines, plus a complete offering of valves, actuators, electronic controls, and software. Once again, we are there meeting our customers' systems needs-offering products that help them sell more engines. 9 Three products, two introduced in fiscal 1999, greatly enhance industrial gas engines-the TecJetT, the Fire Fly, and the EGS. Woodward has partnered with OEMs to supply these products as standard offerings on their gas engines. The TecJet, an electronic gas injection valve, precisely controls fuel flow. The Fire Fly, an engine knock sensor, allows the engine to operate with greater efficiency and safety by detecting and compensating for knock before engine damage occurs. The EGS, an engine gas management system, calculates the gas flow desired for any load or speed the engine requires. Woodward is the first to offer an innovative, single-stage, solenoid-operated gas admission valve, the SOGAVT, which improves fuel efficiency and reduces emissions in industrial gas engines. The valve enables engine manufacturers with multi-port injection to more precisely control the timing and amount of gas entering the combustion chamber. In fiscal 1999, Cummins Wartsila and Wartsila NSD offered the SOGAV as standard for a number of its engines, and it was tested successfully for use by MAN B&W. We are also leveraging our expertise and responding to opportunities in the growing small industrial gas engine markets of less than 300 horsepower. In fiscal 1999, Woodward developed several new products for small industrial engines. Launched this year, the LCS (low-cost speed controller), an electromagnetic actuator control, is used for power generation applications, welders, and refrigeration units. In addition, the new OH1.2 gas engine control system provides low emissions with excellent fuel economy and "diesel equivalent" power. These products are expected to begin high-volume production in fiscal 2000. OPERATIONAL EXCELLENCE While Woodward's commitment to quality has always been in the forefront, over the past two years, we have intensified our focus. With the company-wide adoption of Six Sigma principles, a methodology used by leading industrial companies such as GE and Motorola, Woodward is striving to attain the highest level of customer satisfaction. Six Sigma concepts are based on measuring, analyzing, improving, and controlling manufacturing processes along with gaining a firm understanding of the customers' needs. Throughout Woodward, more than 60 members have been trained as Six Sigma Black Belts-a process that entails at least four weeks of specialized training. 10 Black Belts focus their daily efforts on applying Six Sigma concepts to quality improvement projects. For instance, in fiscal 1999, at our facility in Fort Collins, Colorado, members of the Mechanical Manufacturing Department reduced their scrap dollars to the lowest level ever recorded in the department's history. The average monthly scrap dollar fell by 32 percent from fiscal 1998 levels. At our facility in Rockton, Illinois, the number of rejects from final test for a part assembled in the Small Gas Assembly and Test area dropped dramatically. With a Black Belt as the project leader, the team reduced the variations in assembly without redesigning the part. Test stand rejects dropped to 0 percent while on-time delivery rose to almost 100 percent. Focusing on root causes, relying on Black Belts, and using Six Sigma tools make these quality achievements possible. Ultimately, Six Sigma methods are helping us improve product designs, reduce cycle times, and refine processes, which adds to the bottom line by reducing costs. During fiscal 1999, Woodward repositioned Industrial Controls by separating it into two businesses. Now, Industrial Controls is concentrating on the needs of OEMs while Global Services is focusing on designing and delivering flexible, customized control systems along with retrofit services for engine and turbine operators and aftermarket support services. To strengthen its position as a solutions provider for complex fuel systems, Woodward continually explores possibilities for obtaining complementary technology and manufacturing expertise through acquisitions, joint ventures, and alliances. For instance, this year Woodward successfully completed integrating the acquisitions it made in the later half of fiscal 1998-Fuel Systems Textron, now Woodward FST, and Baker Electrical Products. By adding Woodward FST nozzles to our product line along with our newly developed pumps and long-established fuel metering units, we can offer aircraft OEMs fully integrated engine fuel delivery systems. As part of our integration efforts, operations at our Woodward FST plant in Harvard, Illinois, were consolidated with our Rockford, Illinois, facility to generate additional cost savings. Acquiring Baker Electrical Products has provided Woodward low-cost, high-volume manufacturing capacity in solenoids, which accelerated product development and production capacity for the growing small industrial engine control market. A STRATEGIC ADVANTAGE-OUR MEMBERS Industry trends, short- and long-term strategies, and new product introductions are just part of the equation for success. The foundation of Woodward's business is our members. This diverse group of men and women, who are located in facilities throughout the world, are the primary reason for our success. This is why we devote significant resources to recruiting, training, and retaining our members. 11 With the implementation of Six Sigma, training has moved far beyond typical task-specific skills. Now, members use their problem-solving abilities to approach product design, manufacturing processes, supplier coordination, and customer service. Workers are developing into accountable leaders-leaders who work individually and belong to interdependent, supportive teams. At Woodward, it's our skilled members who design and produce innovative engine fuel delivery systems and components for aircraft and industrial markets. It is our members who are focused on our financial and operating performance and who are dedicated to customer satisfaction. It is our talented and motivated workforce who give us an unmatched strategic advantage in the marketplace. 12 FINANCIAL SECTION WOODWARD GOVERNOR COMPANY CONTENTS Management Discussion and Analysis of Results of Operations and Financial Condition 14 Consolidated Financial Statements 22 Management's Responsibility for Financial Statements 34 Report of Independent Accountants 34 Selected Quarterly Financial Data 35 Cautionary Statement 35 Summary of Operations/Eleven-Year Record 36 13 MANAGEMENT DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION INTRODUCTION We have prepared the following discussion and analysis to help you better understand our results of operations and financial condition. This discussion should be read with the consolidated financial statements, including the notes, and the cautionary statement on page 35. RESULTS OF OPERATIONS Our results of operations are discussed and analyzed by reportable segment. We have two reportable segments-Aircraft Engine Systems and Industrial Controls. Aircraft Engine Systems provides fuel control systems and components primarily to original equipment manufacturers of aircraft engines. Industrial Controls provides fuel control systems and components primarily to original equipment manufacturers of industrial engines and turbines. Our other operations include Global Services and Automotive Products. Global Services, which resulted because of a change in the structure of our internal Industrial Controls organization in mid-1999, focuses on providing control systems and related services to industrial engine users in retrofit situations. Automotive Products, which began in 1998 following the acquisition of Baker Electrical Products, Inc., focuses on products for the non-automotive small engine markets which require low-cost, high-volume, high-reliability manufacturing processes characteristic of suppliers to the automotive industry. Under our new basis of segmentation, Global Services and Automotive Products have been combined and are discussed and analyzed as "other segments." However, for comparative purposes, we also provide discussion and analysis under our old basis of segmentation before our organizational change, in which Global Services was combined with Industrial Controls. The segment earnings reported for these segments in the discussion and analysis that follows do not reflect restructuring expense, interest expense, interest income, and allocations of corporate expenses, and are before income taxes and equity in loss of unconsolidated affiliate. These other items are separately discussed and analyzed. Aircraft Engine Systems
1999 Compared to 1998 External net billings of Aircraft Engine Systems increased 39% in 1999 over 1998. Most of this increase was due to the June 1998 acquisition of Fuel Systems Textron, Inc., which we subsequently named Woodward FST, Inc. Woodward FST designs, develops and manufactures fuel injection nozzles, spray manifolds, and fuel metering and distribution valves for gas turbine engines in both aircraft and industrial markets. In 1999, Woodward FST generated billings 18% higher than the full year pro forma billings in 1998. Much of this increase was in industrial markets. Exclusive of Woodward FST, billings of Aircraft Engine Systems increased 3% in 1999. Billings from our domestic locations other than Woodward FST increased 2%, related to both price and volume changes. Our foreign locations generated billing increases of 38%, primarily related to increased volume. We believe the increase overseas is due to the positive impact of the 1998 consolidation of our European overhaul and service centers to a location in Prestwick, Scotland. We estimate that about 60% of our billings result from sales to original equipment manufacturers and 40% from the aftermarket. We are anticipating modest growth in Aircraft Engine Systems' billings in 2000. Overall, aircraft markets are expected to be flat to down in 2000. However, we expect to be suppliers for certain aircraft engine programs that are strengthening, which will help offset those that are weakening. Long-term, we believe that regional airlines will continue to log more air miles than ever before, which will increase the demand for spare parts, maintenance, overhaul, and retrofit services. Increases in billings of fuel injection nozzles to industrial markets that we saw in 1999 are also expected to continue in 2000 and for the next several years. Segment earnings of Aircraft Engine Systems increased 47% in 1999 over 1998. About 83% of our increase in earnings can be directly attributed to the increase in net billings, using 1998's segment earnings as a percent of net billings. The remaining difference is primarily related to the following: 1) Our selling, general, and administrative activities are relatively independent 14 of changes in billing volumes. As a result, our total selling, general, and administrative expenses increased only slightly on the 39% increase in billings. Domestically, our selling, general, and administrative expenses increased 6%. We actually reduced selling, general, and administrative expenses overseas by 35%, primarily because activities related to the start up of our Prestwick, Scotland, location were completed in 1998. 2) Included in the selling, general, and administrative expenses discussed above, and also in cost of goods sold, is depreciation expense. In 1999, we changed our depreciation methods from principally accelerated methods to the straight-line method for newly- acquired assets. This change reduced our 1999 cost of goods sold and selling, general, and administrative expenses by a total of about $1,080,000. 3) Amortization expense increased by $3,665,000 because we recognized expense associated with our June 1998 acquisition of Fuel Systems Textron, Inc. for a full 12-month period in 1999 as compared to 4 months in 1998. 1998 Compared to 1997 External net billings of Aircraft Engine Systems increased 18% in 1998 over 1997. The most significant reason for the increase was the June 1998 acquisition of Fuel Systems Textron, Inc. Excluding the effects of this acquisition, the increase would have been 2%. We estimate that about 60% of our billings result from sales to original equipment manufacturers and 40% from the aftermarket. Segment earnings increased 29% in 1998 over 1997. About 61% of our increase in earnings can be directly attributed to the increase in net billings, using 1997's segment earnings as a percent of net billings. The remaining difference is primarily related to reductions in cost of goods sold as a percent of net billings, partially offset by higher amortization expense. Improvements in cost of goods sold as a percent of billings were achieved because of changes in sales mix, including the impact of the June 1998 acquisition of Fuel Systems Textron, Inc., and cost reductions generated through various operational improvement initiatives. Amortization expense increased by $1,799,000 because of the impact of the June 1998 acquisition of Fuel Systems Textron, Inc. Industrial Controls
1999 Compared to 1998 External net billings for Industrial Controls under our new basis of segmentation, as restated for the mid-1999 change in the structure of the company's internal organization, decreased 8% in 1999 from 1998. Billings from our foreign locations, accounting for 60% of our 1999 billings, decreased 3%. Without the effects of foreign currency translation adjustments, the decrease overseas would have been 6%. Billings from our domestic location, accounting for 40% of our 1999 billings, decreased 15%. We believe these decreases, both foreign and domestic, are attributable to softness in Asian markets and in the oil and gas sectors. There are a number of signs that indicate to us the potential for increased sales in 2000 and beyond. The Asian markets are beginning to rebound, the price of oil has been increasing in recent months, and activities involving large gas turbines is very strong. In addition, the change in the structure of our internal organization is making it easier for us to focus on the specific needs of original equipment manufacturers. We believe this increased focus will help us succeed in becoming involved in more of the programs of original equipment manufacturers. The change in the organizational structure referred to above relates to the formation of Global Services, which focuses on providing control systems and related services to industrial engine users in retrofit situations. Prior to the change, Global Services was an integral part of Industrial Controls. External net billings of Industrial Controls under the old basis of segmentation, which included Global Services, decreased 2% in 1999 from 1998. In 1999, 55% of our billings were generated from our foreign locations and 45% from our domestic locations. Billings from our foreign locations decreased 3%. Without the effects of foreign currency translation adjustments, billings from our foreign locations would have decreased 5%. Billings from our domestic locations decreased 2% in 1999. Without estimated price increases, associated primarily with the Global Services portion of this segment, billings from our domestic locations would have decreased 5%. We believe these decreases, both domestic and foreign, are attributable to softness in Asian 15 markets and in the oil and gas sectors. However, we were able to somewhat offset the decrease of our domestic locations by completing several large contracts for control system upgrades. Intersegment sales of Industrial Controls under the old basis of segmentation increased substantially in 1999 over 1998 due to sales of inventory to Automotive Products, which is included in other segments discussed below. Segment earnings of Industrial Controls under the old basis of segmentation increased 46% in 1999 over 1998. This increase resulted primarily from the following: 1) In the second quarter 1999, we terminated 197 members in connection with the change in our internal organization that resulted in the formation of Global Services. Most of the terminations occurred in our domestic locations, affecting all job functions to varying degrees. As a result of these and other cost control actions, we were able to reduce both our cost of goods sold and our selling, general, and administrative expenses at our domestic locations by approximately 10% for 1999 as compared to 1998. These reductions were offset somewhat by increases at our foreign locations, primarily in selling, general, and administrative expenses. Overall, our cost of goods sold decreased 6% on a sales decrease of 2% for 1999. This decrease in costs included reductions associated with the change in our depreciation methods from principally accelerated methods to the straight-line method for newly-acquired assets. 2) The 1999 change in our depreciation method reduced cost of goods sold and selling, general, and administrative expenses by a total of about $430,000. 3) We sold land located in The Netherlands, which resulted in a gain of $1,914,000 in 1999. 4) In 1998, we incurred expenses related to the consolidation and integration of operations at one of our foreign locations that we did not incur in 1999. 5) Foreign currency transaction gains in Japan improved segment earnings by approximately $800,000 for 1999 as compared to 1998. We believe the favorable impact of the changes in our internal organization which began in the third quarter of 1999 will continue in 2000 and beyond. Not only did this change result in a reduced cost structure, but it will enable us to better focus on the divergent needs of original equipment manufacturers and end users in retrofit situations. 1998 Compared to 1997 External net billings of Industrial Controls, under our new basis of segmentation which excludes Global Services, increased 3% in 1998 over 1997. Billings from our foreign locations, representing 57% of total billings in 1998, increased by 9%. Excluding foreign currency translation adjustments, most significantly from the currencies of Japan and The Netherlands, the billings increase from foreign locations would have been 16%. This growth was primarily the result of a strong engine controls market in Europe. Billings from our domestic location, accounting for 43% of total billings in 1998, decreased by 4% due to softening market conditions. External net billings of Industrial Controls, under the old basis of segmentation which includes Global Services, also increased 3% in 1998 over 1997. Billings from our foreign locations accounted for 55% of 1998 billings and increased 8% over 1997. The increase from our foreign locations would have been 16% without considering the impacts of foreign currency translation adjustments, most significantly from the currencies of Japan and The Netherlands. This growth was primarily the result of a strong engine controls market and higher shipments of engineered systems in Europe. Net billings from our domestic locations accounted for 45% of 1998 billings and decreased 3% from 1997 due to softening market conditions. Segment earnings of Industrial Controls under the old basis of segmentation increased 4% in 1998 over 1997. This increase resulted primarily from a decrease in cost of goods sold as a percent of net billings. Overall, our cost of goods sold increased 1% on a 3% increase in billings, reflecting the net of sales mix and cost changes. This earnings increase was offset somewhat in that we incurred expenses related to the consolidation and integration of operations at one of our foreign locations in 1998 that we did not incur in 1997. Other Segments
1999 Compared to 1998 External net billings of other segments under our new basis of segmentation, as restated for the 1999 change in the structure of the company's internal organization, increased 62% in 1999 over 1998. Of the total billings reported for this segment in 1999, 71% was generated by domestic locations and 29% by foreign locations. Net billings from domestic locations increased 96% in 1999. This increase was due to the following: 1) In May 1998, we acquired Baker Electrical Products, Inc. Billings in 1999 reflect sales for a full 12-month period compared to a 5-month 16 period in 1998. 2) Global Services has increased its sales volumes over 1998 by completing several large contracts for control system upgrades. 3) Automotive Products, which was formed at the time of the Baker acquisition, has begun to generate sales of new products in 1999. 4) Global Services has increased some of its prices. Net billings by foreign locations increased 15% in 1999. This increase is primarily related to the establishment of an Automotive Products location in Europe to generate sales in that area of the world. We believe there are a number of factors that will generate higher sales for our other segments in 2000 and beyond. First, with demands high, independent power producers are likely to consider the possibility of retrofitting equipment rather than installing new equipment in their facilities. With our increased focus on the retrofit markets following the 1999 change in our organization, we are poised to take advantage of these opportunities. We have also developed a number of products in our Automotive Products group that will begin shipping in 2000. We are encouraged by the market acceptance of both our products and our company as a supplier to small industrial engine manufacturers. External net billings of other segments under the old basis of segmentation, which excluded Global Services, increased 340% in 1999 over 1998. In May 1998, we acquired Baker Electrical Products, Inc. Billings in 1999 reflect sales for a full 12-month period compared to a 5-month period last year. Also, Automotive Products, which was formed at the time of the Baker acquisition, has begun to generate sales of new products in 1999. Segment losses of other segments under the old basis of segmentation were slightly higher in 1999 as compared to 1998. The impact of the 1999 change in depreciation method from principally accelerated methods to the straight-line method for newly-acquired assets reduced our loss in 1999 by about $190,000 from what it would have been under our previous methods. However, in 1999, as was the case in 1998, our sales volumes were insufficient to cover our costs of continuing investments in developing new products for this relatively new operation. We plan to continue to make investments in developing new products in 2000 to benefit future periods. 1998 Compared to 1997 External net billings of other segments under our new basis of segmentation increased 15% in 1998 over 1997. This increase was primarily due to the May 1998 acquisition of Baker Electrical Products, Inc., which generated 1998 billings of $6,079,000. Global Services experienced only a slight increase in sales, from its foreign locations, in 1998. External net billings and segment losses of other segments under our old basis of segmentation would have consisted solely of Automotive Products, which was formed following the May 1998 acquisition of Baker Electrical Products, Inc. Expenses Excluded From Segment Earnings
1999 Compared to 1998 We incurred restructuring expense in 1999 primarily in connection with a change in the structure of our internal Industrial Controls organization. We terminated 197 members, impacting all job functions to varying degrees. Most of the terminations were in Fort Collins and Loveland, Colorado. As part of this organization change, we formed Global Services, which focuses on providing control systems and related services to industrial engine users in retrofit situations. Interest expense increased in 1999 because we had higher levels of average outstanding debt in 1999 over 1998, resulting from borrowings for business acquisitions made in May 1998 and June 1998. Unallocated corporate expenses increased in 1999 over 1998 because of increases in corporate activities in support of the company, offset somewhat by a gain of $1,013,000 on the sale of non-operating real estate in Stevens Point, Wisconsin. Excluding this gain, unallocated corporate expenses were 3% of consolidated net billings in both 1999 and 1998. The impact of the 1999 change in depreciation method from principally accelerated methods to the straight-line method for newly-acquired assets reduced our unallocated corporate expenses in 1999 by about $240,000. 1998 Compared to 1997 Interest expense increased in 1998 because we had higher levels of average outstanding debt in 1998 over 1997, resulting from borrowings for business acquisitions made in May 1998 and June 1998. Unallocated corporate expenses increased in 1998 over 1997 primarily because of increases in business development activities. Unallocated corporate expenses were 3% of consolidated net billings in both 1998 and 1997. 17 Net Earnings
1999 Compared to 1998 The increase in earnings before income taxes and equity in loss of unconsolidated affiliate, which consists of the segment earnings and expenses previously discussed, resulted in an increase in 1999 income taxes. Income taxes were provided at an effective rate in 1999 only slightly lower than the effective rate in 1998. The equity in loss of unconsolidated affiliate reflects our share of the losses generated by GENXON(tm) Power Systems, LLC, a 50/50 joint venture. Since its inception, most of the activities and costs incurred were directly related to product development. GENXON reduced the amount of development activities in 1999 from 1998. GENXON is focused on the retrofit market for installed, out- of-warranty industrial gas turbines, which we believed would develop before the original equipment manufacturer markets. However, the original equipment manufacturers have shown strong interest in the technology, and we are assessing our participation in that market. In the meantime, GENXON's costs will be significantly below the levels of those incurred in 1999. Basic and diluted earnings per share both increased about 44% on a net earnings increase of 43% in 1999 as compared to 1998. This difference is due to slight decreases in the weighted- average shares of common stock outstanding both before and after the assumed exercise of outstanding stock options. 1998 Compared to 1997 The increase in earnings before income taxes and equity in loss of unconsolidated affiliate resulted in an increase in 1998 income taxes. Income taxes were provided at a higher effective rate in 1998 than in 1997 due to the effects of foreign losses that provided no tax benefit and foreign tax rate differences. The equity in loss of unconsolidated affiliate reflects our share of the losses generated by GENXON Power Systems, LLC, a 50/50 joint venture. Since its inception, most of the activities and costs incurred were directly related to product development. GENXON reduced the amount of development activities in 1998 from 1997. Basic earnings per share increased about 20% and diluted earnings per share increased about 21% on a net earnings increase of 19% in 1998 as compared to 1997. This difference is due to slight decreases in the weighted-average shares of common stock outstanding both before and after the assumed exercise of outstanding stock options. FINANCIAL CONDITION Our discussion and analysis of financial condition is presented by segment for total segment assets, which consists of accounts receivable, inventories, property, plant, and equipment-net and intangibles-net. We also discuss and analyze other balance sheet and cash flow items. Together, this discussion and analysis will help you assess our liquidity and capital resources, as well as understand changes in our financial condition. Assets
In thousands at September 30, 1999 1998 1997 Total segment assets- old basis of segmentation: Aircraft Engine Systems $330,299 $321,646 $137,913 Industrial Controls 148,600 163,819 146,059 Other Segments 17,873 13,994 - Unallocated corporate property, plant, and equipment-net and intangibles-net 3,926 7,438 7,326 Other unallocated assets 49,966 56,538 56,812 Total assets $550,664 $563,435 $348,110
1999 Compared to 1998 Aircraft Engine Systems total segment assets at September 30, 1999, were 3% higher than a year earlier. Increases in accounts receivable and inventory attributable to increased business activity were offset somewhat by reductions in intangibles due to amortization expense, net of additions to goodwill. Additions to goodwill totaled $2,459,000 in 1999, most of which were related to recording accrued pension benefit costs assumed as part of the June 1998 acquisition of Fuel Systems Textron, Inc. 18 Industrial Controls total segment assets at September 30, 1999, were 9% lower than a year earlier. Domestic inventory balances were reduced from relatively high levels at the end of 1998. Also, total capital expenditures in 1999 were at about 50% of total depreciation expense for the year and $2,628,000 lower than in 1998. We do not expect to maintain this low level of capital expenditures in the future. Total segment assets of our other segmants increased during 1999 due to increased business activity in Automotive Products. 1998 Compared to 1997 Aircraft Engine Systems total segment assets at September 30, 1998, were $183,733,000 higher than a year earlier primarily because of the June 1998 acquisition of Fuel Systems Textron, Inc. Exclusive of segment assets at September 30, 1998, that are associated with this acquired business, total segment assets would have decreased 9%. These reductions were achieved primarily in accounts receivable and inventories. Industrial Controls total segment assets at September 30, 1998, were 12% higher than a year earlier. Accounts receivable balances in Europe increased due to higher shipments and lengthened collection periods, partially offset by increases in allowance for losses of accounts receivable. Inventory balances in the United States were also increased in anticipation of 1999 shipments. Total segment assets of our other segments at September 30, 1998, resulted from the May 1998 acquisition of Baker Electrical Products, Inc. Selected Other Balance Sheet Items
In thousands at September 30, 1999 1998 1997 Total assets $550,664 $563,435 $348,110 Working capital (current assets less current liabilities)124,392 119,506 124,827 Long-term debt, less current portion 139,000 175,685 17,717 Other liabilities 46,620 40,111 34,901 Commitments and contingencies - - - Shareholders' equity 241,992 220,102 210,614
1999 Compared to 1998 Our balance sheet remained strong at September 30, 1999. Changes in our balance sheet from 1998 included an increase in working capital and a reduction in long-term debt, made possible from operating cash flows. Other liabilities increased in 1999 due to pension benefit obligations assumed as part of the June 1998 acquisition of Fuel Systems Textron, Inc. and other changes in postemployment and retirement obligations. Shareholders' equity increased 10%, resulting from 1999 net earnings in excess of cash dividend payments. We are currently involved in matters of litigation arising from the normal course of business, including certain environmental and product liability matters. Further discussion of these matters are in Note P in the Notes to Consolidated Financial Statements. 1998 Compared to 1997 Our balance sheet remained strong at September 30, 1998. Changes in our balance sheet from 1997 included a significant increase in total assets and long-term debt, both driven primarily by the May and June 1998 business acquisitions. Working capital decreased only slightly from the prior year. Other liabilities increased in 1998 due to retirement healthcare benefit obligations assumed as part of the June 1998 acquisition of Fuel Systems Textron, Inc. and other changes in retirement obligations. Shareholders' equity increased 5%, resulting from 1999 net earnings in excess of cash dividend payments. Selected Cash Flow Items
In thousands for the year ended September 30, 1999 1998 1997 Net cash provided by operating activities $59,932 $43,053 $56,079 Net cash used in investing activities (17,963) (207,945) (28,579) Net cash provided by (used in) financing activities (42,982) 162,626 (25,179)
1999 Compared to 1998 Net cash flows provided by operations increased by 39% in 1999 over 1998. This increase is primarily driven by increased net earnings before noncash expenses. The most significant of these noncash expenses is depreciation and amortization, which increased largely due to intangibles associated with the May and June 1998 business acquisitions and deferred income taxes. Net cash flows used in investing activities decreased by $189,982,000 in 1999 as compared to 1998. Without the cash flows associated with the May and June 1998 business acquisitions, the decrease would have been $8,239,000. This change is primarily related to proceeds from the 1999 sale of non-operating real estate in Stevens Point, Wisconsin, and land in The Netherlands, and to reduced losses associated with our equity in the GENXON Power Systems, LLC joint venture. Based on current operating conditions, we expect an increase in capital expenditures in 2000 over 1999 more in line with depreciation expense. 19 Net cash flows for financing activities changed by $205,608,000 in 1999 as compared to 1998. Without the cash flows associated with 1998 borrowings under a term note and a revolving line of credit made because of the May and June 1998 business acquisitions, the change would have been $22,608,000. Net cash flows provided by operations in excess of net cash flows used in investing activities enabled us to reduce our debt by a greater amount than in 1998. Future cash flows from operations and available revolving lines of credit are expected to be adequate to meet our investing and financing cash requirements during the next twelve months. However, it is possible business acquisitions could be made in the future that would require amendments to existing debt agreements and the need to obtain additional financing. 1998 Compared to 1997 Net cash flows provided by operating activities decreased in 1998 compared to 1997 primarily due to relative changes in working capital, assets, and liabilities in 1998 compared to 1997. Net cash flows used in investing activities increased in 1998 over 1997 mainly due to the 1998 business acquisitions. Capital expenditure levels in 1998 were 1.4% lower than in 1997. Net cash flows related to financing activities changed by $187,805,000 in 1998 compared to 1997. Borrowing, both short-term and long-term, were the primary sources of cash during 1998. Without the cash flows associated with 1998 borrowings under a term note and a revolving line of credit made because of the May and June 1998 business acquisitions, the change would have been $4,805,000. OTHER MATTERS Market Risks Our long-term debt is sensitive to changes in interest rates. We monitor trends in interest rates as a basis for determining whether to enter into fixed rate or variable rate debt agreements and for the basis of determining the duration of such agreements. Our primary objective is to minimize our long-term costs of borrowing. Currently, all long-term debt is denominated in U.S. dollars and consists primarily of variable rate agreements associated with LIBOR market rates. We do not have any derivative instruments associated with interest rates. A hypothetical 1% immediate increase in interest rates would adversely affect our 2000 net earnings and cash flows by approximately $900,000 and reduce the fair value of our long-term debt, as measured at September 30, 1999, by approximately $250,000. Last year, a hypothetical 1% immediate increase in interest rates would have adversely affected our 1999 net earnings and cash flows by approximately $975,000 and reduced the fair value of our long- term debt by approximately $425,000. Assets, liabilities, and commitments that are to be settled in cash and are denominated in foreign currencies for transaction purposes are sensitive to changes in currency exchange rates. We monitor trends in foreign currency exchange rates and our exposure to changes in those rates as a basis for determining whether to use hedging strategies. Our primary exposures are to the European Monetary Union euro, the British pound and the Japanese yen. We do not have any derivative instruments associated with foreign currency exchange rates. A hypothetical 10% immediate decrease in the value of the United States dollar relative to all other currencies, when applied to September 30, 1999, balances, would adversely affect our expected 2000 net earnings and cash flows by approximately $1,780,000. Last year, a hypothetical 10% immediate decrease in the value of the United States dollar relative to all other currencies would have adversely affected our expected 1999 net earnings and cash flows by $1,750,000. Year 2000 Readiness We recognize the potential problems associated with the year 2000. In May 1997, we formed a task force, with representation from each location, to address this risk. The mission statement adopted by the task force is: We will provide year 2000 compliant products, work with customers who have existing products to validate year 2000 compliance, and provide other year 2000 services. We intend to provide uninterrupted, normal operation of business-critical systems at all Woodward locations before, during, and after the turn of the century and we will manage the problems associated with non-critical systems. In addition, we will encourage similar compliance from customers, suppliers, and partners as appropriate, and we will work with them to achieve this goal. We identified our year 2000 risks in three categories: products, internal systems, and external noncompliance by partners and suppliers. We evaluated our manufactured products, have determined the year 2000 compliance of such products, and informed our customers and end-users through our Internet site and by other appropriate means. As a stand-alone product and operating system, we will continue to determine year 2000 compliance, by testing and other means, to validate our product's 20 compliance. However, products with time-date functions have the capability of being programmed, configured or otherwise modified for their particular applications, prior to or following installation. We may or may not have had any involvement in, or responsibility for, these modifications. Additionally, in certain cases, our systems have included auxiliary hardware and software with time-date functions not manufactured by us, but provided by third party suppliers. While we remain committed to supporting and assisting our customers and end-users as they assess such systems, limitations imposed by license agreement restrictions, in some cases, and non-access to source code, in other cases, make it generally impossible for us to determine (except by testing individual systems) the year 2000 compliance of third party supplied hardware and software not manufactured by us. Regarding internal systems, including information systems, manufacturing equipment and facilities, we completed our awareness, inventory, assessment, and prioritization tasks. We have completed the upgrade/remediation, compliance validation, and contingency plan development tasks associated with mission- critical systems. Non-critical internal systems are being addressed now. Each non-critical system has been assigned a priority rating. The higher priority systems have been addressed. Medium and high priority systems will be addressed by December 31, 1999. We have contacted partners and suppliers with requests for their year 2000 project status to determine if they will be adversely affected by the year 2000 and consequently cause disruption to our operations. We are using phone audits for follow-up and have developed contingency plans for our high-risk critical suppliers. We have applied available and beneficial provisions of the federal "Year 2000 Information and Readiness Disclosure Act." Statements such as the mission statement and other comments above should be regarded as being "Year 2000 Statements" and "Year 2000 Readiness Disclosures," as applicable, within the meaning of, and subject to, the exclusions prescribed by this Act. External costs of corrective efforts, principally system reprogramming and upgrades, are not anticipated to be material and are currently estimated to be less than $600,000. Total external costs incurred for corrective efforts through September 30, 1999, were $247,000, with remaining budgeted year 2000 costs anticipated to be incurred in the first quarter of fiscal 2000. Even though management feels that planned corrective efforts should adequately address year 2000 issues, there can be no assurance that unforeseen difficulties will not arise. There is no assurance that the failure of any external party to resolve its year 2000 issues would not have an adverse effect on the company. Recent Accounting Pronouncements In March 1998, the American Institute of Certified Public Accountants issued Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." This statement provides guidance on accounting for the costs of software developed or obtained for internal use and is effective in fiscal year 2000. We have determined that we will need to capitalize certain software development costs that we have expensed in the past. We have estimated that the effect of complying with this statement for planned projects will be to increase net earnings in 2000 by approximately $650,000. In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities." Following a subsequent deferral of the original implementation date, it is effective in fiscal year 2001. This statement establishes accounting and reporting standards for derivative instruments and for hedging activities. Among other requirements, it requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative. We currently do not have any derivative instruments and do not expect this new statement to have any significant impact on our consolidated financial statements. 21 STATEMENTS OF CONSOLIDATED EARNINGS Woodward Governor Company and Subsidiaries
Year Ended September 30, (In thousands except per share amounts) 1999 1998 1997 Net billings for products and services $596,904 $490,476 $442,216 Costs and expenses: Cost of goods sold 437,121 356,802 325,837 Sales, general, and administrative expenses 79,043 79,332 72,295 Amortization of intangible assets 6,769 2,927 983 Restructuring expense 7,889 - - Interest expense 12,746 5,227 2,382 Interest income (827) (708) (780) Other expense-net 865 5,550 1,811 Total costs and expenses 543,606 449,130 402,528 Earnings before income taxes and equity in loss of unconsolidated affiliate 53,298 41,346 39,688 Income taxes 21,182 16,726 15,339 Earnings before equity in loss of unconsolidated affiliate 32,116 24,620 24,349 Equity in loss of unconsolidated affiliate, net of tax 1,287 3,028 6,209 Net earnings $30,829 $21,592 $18,140 Basic earnings per share $ 2.74 $ 1.90 $ 1.58 Diluted earnings per share $ 2.73 $ 1.90 $ 1.57 Weighted-average number of basic shares outstanding 11,272 11,340 11,482 Weighted-average number of diluted shares outstanding 11,292 11,379 11,525 See accompanying Notes to Consolidated Financial Statements.
22 CONSOLIDATED BALANCE SHEETS Woodward Governor Company and Subsidiaries
(In thousands except per share At September 30, amounts) 1999 1998 Assets Current assets: Cash and cash equivalents $ 10,449 $ 12,426 Accounts receivable, less allowance for losses of $4,417 for 1999 and $4,451 for 1998 115,517 108,212 Inventories 104,257 106,404 Deferred income taxes 17,221 20,001 Total current assets 247,444 247,043 Property, plant, and equipment, at cost: Land 6,100 6,127 Buildings and improvements 128,668 127,054 Machinery and equipment 227,611 215,358 Construction in progress 3,534 2,855 365,913 351,394 Less allowance for depreciation 241,791 221,342 Property, plant, and equipment-net 124,122 130,052 Intangibles-net 156,802 162,229 Other assets 4,287 4,540 Deferred income taxes 18,009 19,571 Total assets $550,664 $563,435 Liabilities and shareholders' equity Current liabilities: Short-term borrowings $ 7,303 $ 12,927 Current portion of long-term debt 34,650 25,033 Accounts payable and accrued expenses 76,772 82,916 Taxes on income 4,327 6,661 Total current liabilities 123,052 127,537 Long-term debt, less current portion139,000 175,685 Other liabilities 46,620 40,111 Commitments and contingencies - - Shareholders' equity represented by: Preferred stock, par value $.003 per share, authorized 10,000 shares, no shares issued - - Common stock, par value $.00875 per share, authorized 50,000 shares, issued 12,160 shares 106 106 Additional paid-in capital 13,300 13,304 Unearned ESOP compensation (7,450) (9,723) Accumulated other comprehensive earnings 9,351 9,849 Retained earnings 247,420 226,736 262,727 240,272 Less treasury stock, at cost 20,735 20,170 Total shareholders' equity 241,992 220,102 Total liabilities and shareholders' equity $550,664 $563,435 See accompanying Notes to Consolidated Financial Statements.
23 STATEMENTS OF CONSOLIDATED SHAREHOLDERS' EQUITY Woodward Governor Company and Subsidiaries
(In thousands Accum. of dollars Other except per Add'l ESOP Compre- share Common Paid-in Compen- hensive Retained Treasurey Stock Total amounts) Stock Capital sation Earnings Earnings Shares Amount Amount Balance at September 30, 1996 $106 $13,249 $(14,665) $13,620 $207,392 612,584 $(11,707) $207,995 Net earnings - - - - 18,140 - - 18,140 Other comprehensive earnings - - - (4,229) - - - (4,229) Total comprehensive earnings 13,911 Purchases of treasury stock - - - - - 109,600 (3,761) (3,761) Sales of treasury stock - 28 - - - (7,042) 168 196 Issuance of stock to ESOP- 6 - - - (2,108) 51 57 ESOP compensation expense - - 2,537 - - - - 2,537 Cash dividends-$.93 per common share - - - - (10,681) - - (10,681) Tax benefit applicable to ESOP dividend - - - - 360 - - 360 Balance at September 30, 1997 106 13,283 (12,128) 9,391 215,211 713,034 (15,249) 210,614 Net earnings - - - - 21,592 - - 21,592 Other comprehensive earnings - - - 458 - - - 458 Total comprehensive earnings 22,050 Purchases of treasury stock - - - - - 160,413 (5,174) (5,174) Sales of treasury stock - 10 - - - (8,580) 206 216 Issuance of stock to ESOP - 11 - - - (1,977) 47 58 ESOP compensation expense - - 2,405 - - - - 2,405 Cash dividends-$.93 per common share - - - - (10,543) - - (10,543) Tax benefit applicable to ESOP dividend - - - - 476 - - 476 Balance at September 30, 1998 106 13,304 (9,723) 9,849 226,736 862,890 (20,170) 220,102 Net earnings - - - - 30,829 - - 30,829 Other comprehensive earnings - - - (498) - - - (498) Total comprehensive earnings 30,331 Purchases of treasury stock - - - - - 46,700 (1,029) (1,029) Sales of treasury stock - (3) - - - (13,049) 313 310 Issuance of stock to ESOP - (1) - - - (6,287) 151 150 ESOP compensation expense - - 2,273 - - - - 2,273 Cash dividends-$.93 per common share - - - - (10,484) - - (10,484) Tax benefit applicable to ESOP dividend and stock options - - - - 339 - - 339 Balance at September 30, 1999 $106 $13,300 $ (7,450) $ 9,351 $247,420 890,254 $(20,735) $241,992 See accompanying Notes to Consolidated Financial Statements.
24 STATEMENTS OF CONSOLIDATED CASH FLOWS
Woodward Governor Company and Subsidiaries Year Ended September 30, (In thousands of dollars) 1999 1998 1997 Cash flows from operating activities: Net earnings $30,829 $21,592 $18,140 Adjustments to reconcile net earnings to Net cash provided by operating activities: Depreciation and amortization 32,036 26,642 22,837 Net (gain) loss on sale of property, plant, and equipment (2,848) 7 (258) Deferred income taxes 4,342 (1,046) 44 ESOP compensation expense 2,273 2,405 2,537 Equity in loss of unconsolidated affiliate 2,079 4,808 8,243 Changes in operating assets and liabilities, net of acquisitions: Accounts receivable (8,015) (5,489) (13,070) Inventories 2,145 (8,313) 7,262 Current liabilities, other than short-term borrowings and current portion of long-term debt (7,228) (3,893) 10,164 Other-net 4,319 6,340 180 Total adjustments 29,103 21,461 37,939 Net cash provided by operating activities 59,932 43,053 56,079 Cash flows from investing activities: Payments for purchase of property, plant, and equipment (22,789) (20,862) (21,152) Proceeds from sale of property, plant, and equipment 6,293 1,305 1,022 Investment in unconsolidated affiliate (1,405) (5,462) (8,243) Business acquisitions, net of cash acquired (62) (181,805) - Other - (1,121) (206) Net cash used in investing activities (17,963) (207,945) (28,579) Cash flows from financing activities: Cash dividends paid (10,484) (10,543) (10,681) Proceeds from sales of treasury stock 310 216 196 Purchases of treasury stock (1,029) (5,174) (3,761) Net proceeds (payments) from borrowings under revolving lines (23,050) 87,768 (6,431) Proceeds from long-term debt 75,000 100,000 - Payments of long-term debt (84,068) (10,117) (4,862) Tax benefit applicable to ESOP dividend and stock options 339 476 360 Net cash provided by (used in) financing activities (42,982) 162,626 (25,179) Effect of exchange rate changes on cash (964) (307) (392) Net change in cash and cash equivalents (1,977) (2,573) 1,929 Cash and cash equivalents, beginning of year 12,426 14,999 13,070 Cash and cash equivalents, end of year $10,449 $12,426 $14,999 Supplemental cash flow information: Interest expense paid $12,675 $ 3,797 $ 2,434 Income taxes paid $19,024 $11,255 $ 8,629 Noncash investing and financing activities: Liabilities assumed in business acquisitions $ 1,994 $25,527 $ - See accompanying Notes to Consolidated Financial Statements.
25 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (In thousands of dollars except per share amounts) A. Significant accounting policies: Principles of consolidation: The consolidated financial statements include the accounts of the company and its majority- owned subsidiaries. Transactions within and between these companies are eliminated. Results of joint ventures are included in the financial statements using the equity method of accounting. Use of estimates: Financial statements prepared in conformity with generally accepted accounting principles require the use of estimates and assumptions that affect amounts reported. Actual results could differ materially from our estimates. Foreign currency translation: The assets and liabilities of substantially all subsidiaries outside the United States are translated at year-end rates of exchange and earnings and cash flow statements are translated at weighted average rates of exchange. Translation adjustments are accumulated with other comprehensive earnings as a separate component of shareholders' equity and are presented net of tax in the statements of consolidated shareholders' equity. We have no other components of accumulated other comprehensive earnings. Revenue recognition: Billings for products and services are recognized when products are shipped or services are provided to the customer. Research and development costs: Expenditures related to new product development are charged to expense when incurred and totaled approximately $24,600 in 1999, $18,500 in 1998, and $11,300 in 1997. Income taxes: Deferred income taxes are provided for the temporary differences between the financial reporting basis and the tax basis of the company's assets and liabilities. We provide for taxes which may be payable if undistributed earnings of overseas subsidiaries were to be remitted to the United States. Cash equivalents: Highly liquid investments purchased with an original maturity of three months or less are considered to be cash equivalents. Inventories: Inventories are valued at the lower of cost or market, with cost being determined on a first-in, first-out basis. Property, plant, and equipment: Property, plant, and equipment are recorded at cost and are depreciated over the estimated useful lives of the assets, ranging from 5 to 45 years for buildings and improvements and 3 to 15 years for machinery and equipment. Assets placed in service as of and prior to September 30, 1998, are depreciated principally using accelerated methods. Assets placed in service after September 30, 1998, are depreciated using the straight-line method. This change was made to better reflect improvements in preventative maintenance practices that have generally resulted in more uniform productive capabilities and maintenance costs of machinery and equipment over the useful life of an asset. Net earnings in 1999 were increased by approximately $1,150 as a result of this change in depreciation method. Beginning October 1, 1999, we will capitalize certain costs associated with developing software to be used by us. Previously we expensed such costs as incurred. This change is being made to adopt the provisions of Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use," issued by the American Institute of Certified Public Accountants in March 1998. The effect of this change is expected to increase net earnings in 2000 by approximately $650. Intangibles: Intangibles are amortized over the periods estimated to be benefited using the straight-line method. No amortization period exceeds 30 years. We apply impairment losses on long-lived assets first to related goodwill. Impairment losses are recognized whenever expected operating cash flows are less than the carrying values of specific groups of property, plant and equipment, identifiable intangibles and related goodwill. B. Business acquisitions: In May 1998, we acquired the net assets of Baker Electrical Products, Inc., a manufacturer of electromagnetic coils for anti-lock braking systems, for $7,096. In June 1998, we acquired the stock of Fuel Systems Textron, Inc. (subsequently renamed Woodward FST, Inc.), a leading designer, developer, and manufacturer of fuel injection nozzles, spray manifolds, and fuel metering and distribution valves for gas turbine engines, for $174,771. These acquisitions were financed utilizing borrowings under a term loan and a revolving line of credit. Both of the acquisitions were accounted for using the purchase method of accounting and results of operations of the acquired companies were included in our consolidated results from their acquisition dates. The excess of the purchase price over the estimated fair value of tangible and identifiable intangible net assets acquired is being amortized over 15 years for Baker Electrical Products, Inc. and 30 years for Fuel Systems Textron, Inc. The following unaudited pro forma information summarizes the results of operations for 1998 and 1997 as if the acquisition of Fuel Systems Textron, Inc. had been completed on October 1, 1996, 26 the beginning of the 1997 fiscal year. This information reflects the actual operating results prior to the acquisition and adjustments to reflect estimated interest, depreciation, amortization of intangibles, and income taxes. These pro forma amounts should not be considered indicative of the results that would have actually been obtained if the acquisition had occurred on October 1, 1996, or that may be obtained in the future. (The pro forma information excludes the acquisition of Baker Electrical Products, Inc. as the resulting pro forma data would not have been materially different from the results reported.)
Year ended September 30, 1998 1997 Net billings $558,630 $524,316 Earnings before equity in loss of unconsolidated affiliate 24,627 23,953 Net earnings 21,599 17,744 Basic earnings per share 1.90 1.55 Diluted earnings per share 1.90 1.54
C. Restructuring expense: We incurred restructuring expense of $7,889 during 1999 in connection with a change in the structure of our internal Industrial Controls organization (described more fully in Note R) and the consolidation of two of our facilities. This amount reflects a $285 fourth quarter reduction of the amount originally recognized in our second quarter ended March 31, 1999. The amount of restructuring expense accrued at September 30, 1999, totaled $475 and is related to member termination benefits. Restructuring expense for termination benefits and other termination related costs totaled $7,351 and related to the termination of 197 members in 1999. The terminations impacted all job functions to varying degrees, primarily in Fort Collins and Loveland, Colorado, where 148 members were terminated. Restructuring expense associated with the consolidation of two of our facilities was primarily for the exit from one of those facilities and totaled $538. D. Equity in loss of unconsolidated affiliate: The equity in loss of unconsolidated affiliate is related to our 50% interest in GENXON Power Systems, LLC, and is presented net of tax benefit of $792 in 1999, $1,780 in 1998 and $2,034 in 1997. This venture combines our proprietary fuel metering and control technology with an unique catalytic combustion technology to offer an ultra- low NOx emission control system. To date, most of the activities and costs incurred were directly related to product development, resulting in joint venture pretax losses of $4,157 in 1999, $9,615 in 1998 and $10,486 in 1997. At September 30, 1999, the joint venture had total assets of $608 and total liabilities of $646. At September 30, 1998, the joint venture had total assets of $2,095 and total liabilities of $786. E. Income taxes: Income taxes, which are presented in the statement of consolidated earnings exclusive of the tax benefits associated with the unconsolidated affiliate GENXON Power Systems, LLC, consisted of the following:
Year ended September 30, 1999 1998 1997 Currently payable: Federal $11,242 $10,165 $ 6,504 State 1,484 1,768 1,551 Foreign 3,929 6,586 6,474 Deferred 4,527 (1,793) 810 $21,182 $16,726 $15,339
Deferred income taxes presented in the consolidated balance sheets are related to the following:
At September 30, 1999 1998 Deferred tax assets: Postretirement and early retirement benefits $18,560 $17,927 Foreign net operating loss and state tax credits 9,255 8,833 Inventory 8,624 8,609 Other 18,748 20,400 Valuation allowance (11,716) (11,296) Total deferred tax assets, net of valuation allowance 43,471 44,473 Deferred tax liabilities: Intangibles-net (4,734) (2,026) Other (3,507) (2,875) Total deferred tax liabilities (8,241) (4,901) Net deferred tax assets $35,230 $39,572
We recorded a valuation allowance to reflect the estimated amount of deferred tax assets which may not be realized primarily due to capital loss carryforwards and foreign net operating loss carryforward limitations. Remaining deferred tax assets are expected to be realized through future earnings. The changes in the valuation allowance were as follows:
Year ended September 30, 1999 1998 Beginning balance $(11,296) $ (9,703) Foreign net operating loss carryforward (376) (1,646) State net operating loss carryforward (44) (36) Capital loss carryforward - 89 Ending balance $(11,716) $(11,296)
27 The reasons for the differences between our effective income tax rate and the United States statutory federal income tax rate were as follows:
Percent of pre-tax earnings, year ended September 30, 1999 1998 1997 Statutory rate 35.0 35.0 35.0 State income taxes, net of federal tax benefit 2.5 2.5 2.2 Foreign loss effect 2.3 2.6 (0.1) Foreign tax rate differences2.1 1.8 0.4 Foreign sales corporation (1.6) (1.5) (0.8) Other items, net (0.6) 0.1 1.9 Effective rate 39.7 40.5 38.6
F. Earnings per share:
Year ended September 30, 1999 1998 1997 Net earnings (A) $30,829 $21,592 $18,140 Determination of shares, in thousands: Weighted-average shares of common stock outstanding (B) 11,272 11,340 11,482 Assumed exercise of stock options 20 39 43 Weighted-average shares of common stock outstanding assuming dilution, in thousands (C) 11,292 11,379 11,525 Basic earnings per share (A/B) $ 2.74 $ 1.90 $ 1.58 Diluted earnings per share (A/C) $ 2.73 $ 1.90 $ 1.57
The following stock options were outstanding during 1999, 1998, and 1997 but were not included in the computation of diluted earnings per share because the options' exercise prices were greater than the average market price of the common shares during the respective periods:
Year ended September 30, 1999 1998 1997 Options 220,375 181,935 266 Weighted-average exercise price $ 32.34 $ 32.46 $ 33.75
G. Inventories:
At September 30, 1999 1998 Raw materials $ 2,452 $ 2,397 Component parts 64,059 65,707 Work in process 26,955 26,994 Finished goods 12,021 13,256 105,487 108,354 Less progress payments (1,230) (1,950) $104,257 $106,404
H. Intangibles-net:
At September 30, 1999 1998 Goodwill $ 95,552 $ 97,479 Customer relationships 42,357 43,834 Other 18,893 20,916 $156,802 $162,229
Intangibles are shown net of accumulated amortization of $10,732 in 1999 and $5,424 in 1998. I. Short-term borrowings: Short-term borrowings reflect borrowings under certain bank lines of credit. The total amount available under these lines of credit, including outstanding borrowings, totaled $46,280 at September 30, 1999, and $49,949 at September 30, 1998. Interest on borrowings under the lines of credit is based on various short-term rates. Several of the lines require compensating balances or commitment fees. The lines, generally reviewed annually for renewal, are subject to the usual terms and conditions applied by the banks. The weighted-average interest rate for outstanding borrowings was 4.4% at September 30, 1999, 5.1% at September 30, 1998, and 4.7% at September 30, 1997. J. Long-term debt:
At September 30, 1999 1998 Term note $ 96,250 $100,000 Borrowings under revolving line of credit facility 65,000 83,000 ESOP debt guarantee-8.01% 9,500 12,000 Unsecured note-9.45% 2,900 5,600 Other - 118 173,650 200,718 Less current portion 34,650 25,033 $139,000 $175,685
During the third quarter of 1998, we entered into uncollateralized financing arrangements with a syndicate of U.S. banks, including a $100,000 term note and a revolving line of credit facility up to a maximum amount of $150,000. The interest rate on borrowings under the term note varies with LIBOR and was 5.94% at September 30, 1999. The revolving line of credit facility carries a facility fee of 0.25%, with outstanding borrowings due 5 years from the inception of the agreement. The interest rate on borrowings under the revolving line of credit facility varies with LIBOR, the money market rate or the prime rate, and was 5.87% at September 30, 1999. In June 1992, the company's Member Investment and Stock Ownership Plan (a qualified employee stock ownership plan) borrowed $25,000 for a term of 11 years and used the proceeds to buy 1,027,224 shares of common stock from the company. We guaranteed the payment of the 28 loan and agreed to make future contributions to the plan sufficient to repay the loan. Accordingly, the original amount of the loan was recorded as long-term debt and unearned ESOP compensation. The consolidated balance sheets reflect the outstanding balance of the loan in long-term debt and the remaining unearned ESOP compensation as a component of shareholders' equity. Unearned ESOP compensation has been reduced using the shares allocated method for shares allocated to plan participants. The unallocated shares were 306,088 at September 30, 1999, 399,492 at September 30, 1998, and 498,304 at September 30, 1997. Exclusive of the revolving line of credit facility, required future principal payments of long-term debt are: $21,650 in 2000, $22,500 in 2001, $22,500 in 2002, and $42,000 in 2003. At September 30, 1999, we classified $13,000 of borrowings under the revolving line of credit facility as current. The remaining borrowings of $52,000 are classified as long-term as we have both the intent and ability, through the company's revolving line of credit facility, to refinance this amount on a long-term basis. Provisions of the debt agreements require us to maintain a minimum fixed-charge coverage ratio, current ratio, consolidated net worth, and a maximum funded debt to total capitalization ratio, as defined in the agreements and permit the lenders to accelerate repayment requirements in the event of a material adverse event. In addition, the agreements require us to make a prepayment of all net proceeds from future indebtedness and 50% of the net proceeds from future issuance of equity instruments. Further provisions limit our ability to incur debt, pay cash dividends, sell certain assets, acquire other businesses, and purchase the company's capital stock, among other things. At September 30, 1999, we had the ability to pay dividends and purchase the company's common stock up to $32,630. K. Accounts payable and accrued expenses:
At September 30, 1999 1998 Accounts payable $20,923 $24,432 Salaries and other member benefits 27,706 24,656 Taxes, other than on income 5,479 7,255 Other items-net 22,664 26,573 $76,772 $82,916
L. Retirement benefits: We provide various benefits to eligible members of our company, including retirement healthcare benefits, pension benefits, and contributions to various defined contribution plans. Currently, approximately 56% of our members may become eligible for healthcare benefits, generally after reaching age 55 with 10 years of service or after reaching age 65. We pay 80% to 100% of eligible healthcare expenses of retired members, their dependents and survivors which are not paid by Medicare, up to maximum amounts established under the plans. Plan participants share in the cost of these benefits in varying amounts based on years of service, and we have the right to modify or terminate the plans. The plans are not funded and there are no plan assets. Changes in the benefit obligations, the unfunded status of the plans, and the amount of accrued benefit costs for our retirement healthcare plans were as follows:
At or for the year ended September 30, 1999 1998 Change in benefit obligation: Benefit obligation at beginning of year $40,651 $34,632 Service cost 1,103 1,054 Interest cost 2,587 2,551 Contributions by plan participants 2,208 2,581 Net actuarial losses (gains) (6,325) 1,560 Benefits paid (3,405) (4,120) Business acquisition - 2,393 Benefit obligation at end of year and unfunded status 36,819 40,651 Unrecognized net actuarial gains 7,785 1,460 Total accrued benefit cost 44,604 42,111 Portion of accrued benefit cost included in accrued expenses 2,000 2,000 Portion of accrued benefit cost included in other liabilities $42,604 $40,111
The components of the net periodic benefit cost associated with the retirement healthcare plans were as follows:
Year ended September 30, 1999 1998 1997 Service cost $1,103 $1,054 $ 923 Interest cost 2,587 2,551 2,388 Amortization of unrecognized net gain - (33) (24) Net periodic benefit cost $3,690 $3,572 $3,287
29 In accounting for the retirement healthcare plans, we assumed the weighted-average discount rate was 7.50% in 1999, 6.75% in 1998, and 7.50% in 1997. We also assumed net healthcare cost trend rates of 6.70% to 7.00% in 2000, decreasing gradually to 4.50% in 2005, and remaining at 4.50% thereafter. A 1.00% change in assumed healthcare cost trend rates would have had the following effects on amounts reported in 1999:
1.00% Increase 1.00% Decrease Effect on total of service and interest cost components $ 839 $ (634) Effect on benefits obligation at end of year 6,294 (4,975)
Approximately 14% of our members are currently covered under defined benefit pension plans. Benefits paid under these plans vary primarily due to members' length of service and compensation. However, effective September 30, 1999, the years of service factor was frozen for participants in one of our pension plans. Changes in benefit obligations and plan assets, and the funded status and the amount of accrued benefit costs for our pension plans were as follows:
At or for the year ended September 30, 1999 1998 Change in benefit obligations: Benefit obligation at beginning of year $10,212 $10,985 Service cost 1,490 467 Interest cost 1,575 413 Net actuarial losses (gains) 839 (187) Foreign currency exchange rate changes 2,987 (1,222) Benefits paid (711) (244) Business acquisition 12,069 - Benefit obligation at end of the year 28,461 10,212 Change in plan assets: Fair value of assets at beginning of year 10,386 11,621 Actual return on plan assets 1,259 (420) Foreign currency exchange rate changes 2,794 (1,092) Contributions by the company 566 521 Benefit paid (711) (244) Business acquisition 10,075 - Fair value of assets at the end of the year 24,369 10,386 Funded status (4,092) 174 Unamortized prior service cost (133) (112) Unrecognized net losses (gains) 512 (665) Unamortized transition obligation 1,088 938 Net prepaid (accrued) benefit cost (2,625) 335 Portion of net prepaid (accrued) benefit cost included in other assets 391 335 Portion of net prepaid (accrued) benefit cost included in other liabilities $ (3,016) $ -
The business acquisition referred to above relates to the June 1998 acquisition of Fuel Systems Textron, Inc. (more fully described in Note B). The actuarial valuation associated with the assumed defined benefit pension plan was not completed until 1999. The components of the net periodic benefit cost associated with the pension plans were as follows:
Year ended September 30, 1999 1998 1997 Service cost $1,490 $467 $484 Interest cost 1,575 413 438 Expected return on plan assets (1,529) (420) (464) Amortization of prior service cost (8) (7) (8) Recognized net gains - - (14) Amortization of transition obligation 90 80 90 Net periodic pension cost $1,618 $533 $526
The following weighted-average assumptions, reflecting rates appropriate in the United States and Japan, were used in accounting for pension plans:
Year ended September 30, 1999 1998 1997 Discount rate 5.3% 4.0% 4.0% Rate of compensation increase 4.3% 3.5% 3.5% Expected long-term rate of return on plan assets 5.2% 4.0% 4.0%
Approximately 78% of our members are currently eligible for one or more defined contribution plans. Contributions to these plans are discretionary. However, we do have a qualified employee stock ownership plan that has outstanding borrowings which have been guaranteed by the company. We have agreed to make future contributions to the plan sufficient to repay the loan. The proceeds of the borrowing were used by the plan to purchase common stock from the company, the shares of which are allocated to plan participants as contributions are made to the plan. Amounts charged to expense for defined contribution plans totaled $10,551 in 1999, $9,512 in 1998, and $9,082 in 1997. L. Stock Option Plan: In 1996, shareholders approved a plan in which options to purchase shares of common stock could be granted to key management members of the company. This plan reserved 800,000 shares of common stock for issuance. Granted options under the plan generally have a term of 10 years and generally vest immediately. These options are accounted for in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and therefore we do not recognize compensation expense in association with options granted at or above the market price of our common stock at the date of grant. 30 As required by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," the following table presents pro forma net earnings and per share information that has been prepared as if compensation for these options was recognized:
Year ended September 30, 1999 1998 1997 Net earnings $30,298 $20,814 $17,723 Basic earnings per share 2.69 1.84 1.54 Diluted earnings per share 2.68 1.83 1.54
The determination of compensation expense for this pro-forma information was based upon the estimated fair value of the options granted on the date of their grant using the Black- Scholes option pricing model and the following weighted-average assumptions by grant year:
Year ended September 30, 1999 1998 1997 Risk-free interest rate 4.9% 5.8% 6.1% Expected life 7 years 7 years 7 years Expected volatility 23.0% 21.9% 19.7% Expected dividend yield 4.2% 4.2% 4.6 %
Option activity was as follows:
The weighted-average fair value of options granted was $4.27 in 1999, $6.45 in 1998 and $4.26 in 1997. The number of options exercisable were 616,465 at September 30, 1999, 419,331 at September 30, 1998, and 230,840 at September 30, 1997. The exercise prices and weighted-average contractual lives of stock options outstanding at September 30, 1999, were as follows:
Weighted- Average Remaining Options Contractual Options Exercise Price Outstanding Life in Years Exercisable $16.625 69,640 5.0 69,640 22.000 196,000 9.0 196,000 23.500 155,400 6.1 155,400 30.594 12,600 8.7 3,150 32.000 53,716 7.5 53,716 32.250 133,059 7.3 133,059 33.750 1,000 7.7 500 34.875 20,000 8.0 5,000 641,415 7.3 616,465
N. Shareholder Rights Plan: We have a shareholder rights plan to protect shareholders against unsolicited attempts to acquire control of the company that do not offer what the Board of Directors believes to be an adequate price to all shareholders. In connection with this plan, a dividend of one preferred stock purchase right for each outstanding share of common stock was paid to shareholders in February 1996. Each Right entitles its holder to purchase from the company one-four hundredth of a share of Series A Preferred Stock, par value $.003 per share, at a price of $75.00 (subject to adjustment, and restated for the January 1997 stock split). The rights may not be exercised or transferred apart from the company's common stock until 10 days after it is announced that a person or group has acquired 15% or more of the outstanding common stock or 15 business days after it is announced that there is an offer (or an intent to make an offer ) by a person or group to acquire 15% or more of the outstanding common stock. The Board of Directors may increase the 15 business day period referred to above and may redeem the rights in whole (but not in part) at a redemption price of $.003 per right at any time prior to an acquisition of 15% or more of the outstanding common stock by a person or group. The rights expire on January 17, 2006. O. Leases: We have entered into leases for certain facilities. Future minimum rental commitments under these operating leases are: $2,965 in 2000, $2,737 in 2001, $2,586 in 2002, $1,973 in 2003, and $1,828 in 2004. Rent expense for facilities was approximately $2,634 in 1999, $1,740 in 1998, and $1,423 in 1997. 31 P. Contingencies: We are currently involved in matters of litigation arising from the normal course of business, including certain environmental and product liability matters. We have accruals of approximately $1,200 at September 30, 1999, and $1,572 at September 30, 1998. These accruals are based on our current estimate of the most likely amount of losses that we believe will be incurred. These amounts, which are expected to be paid over the next several years, have been included in accounts payable and accrued expenses. We have been designated a "de minimis potentially responsible party" with respect to the cost of investigation and environmental cleanup of certain third-party sites. Our current accrual for these matters is based on costs incurred to date that we have been allocated and our estimate of the most likely future investigation and cleanup costs. There is, as in the case of most environmental litigation, the possibility that under joint and several liability we could be required to pay more than our allocated share of costs. It is our opinion, after consultation with legal counsel, that additional liabilities, if any, resulting from these matters are not expected to have a material adverse effect on our financial condition, although such matters could have a material effect on our quarterly or annual operating results and cash flows when resolved in a future period. Q. Financial instruments: The estimated fair values of our financial instruments were as follows:
At September 30, 1999 1998 Cash and cash equivalents $10,449 $12,426 Short-term borrowings (7,303) (12,927) Long-term debt, including current portion (173,645) (202,227)
The fair value of cash and cash equivalents, short-term borrowings and long-term debt at variable interest rates were assumed to be equal to their carrying amounts. Cash and cash equivalents have short-term maturities, short-term borrowings have short-term maturities and market interest rates, and long- term debt at variable interest rates is repriced frequently at market rates of interest. The fair value of long-term debt at fixed interest rates was estimated based on a model that discounted future principal and interest payments at interest rates available to the company at year end for similar debt of the same maturity. R. Segment information: Our operations are organized based on the nature of products and services provided. In 1999, we adopted Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information." Under this statement, we have two reportable segments-Aircraft Engine Systems and Industrial Controls. Aircraft Engine Systems provides fuel control systems and components primarily to original equipment manufacturers of aircraft engines. Industrial Controls provides fuel control systems and components primarily to original equipment manufacturers of industrial engines and turbines. Our other operations include Global Services and Automotive Products, which are reported as other segments in the information which follows. Global Services, which resulted because of a change in the structure of our internal Industrial Controls organization in 1999, focuses on providing control systems and related services to industrial engine users in retrofit situations. Certain summarized financial information presented below for Global Services has not been restated for 1998 and 1997 because a restatement was not practicable. Such information has been marked "na." Comparative information has been provided using the old basis of segmentation in which Global Services was combined with Industrial Controls. Automotive Products, which began in 1998 following the acquisition of Baker Electrical Products, Inc., focuses on products for the small industrial engine markets which require low-cost, high-volume, high- reliability manufacturing processes characteristic of suppliers to the automotive industry. The accounting policies of the segments are the same as those described in Note A. Intersegment billings and transfers are made at established intersegment selling prices generally intended to approximate selling prices to unrelated parties. Our determination of segment earnings does not reflect restructuring expense, interest expense, interest income and allocations of corporate expenses, and is before income taxes and equity in loss of unconsolidated affiliate. Segment assets consist of accounts receivable, inventories, property, plant, and equipment-net, and intangible assets-net. Summarized financial information for the new basis in segmentation, reflecting the restatement of certain financial information in 1998 and 1997 related to the change in our internal structure in 1999, follows: 32
At or for the year ended September 30, 1999 1998 1997 Aircraft Engine Systems: External net billings $325,915 $234,173 $198,963 Intersegment net billings 1,564 1,706 1,603 Segment earnings 57,752 39,202 30,442 Segment assets 330,299 321,646 137,913 Depreciation and amortization 17,663 11,959 9,144 Capital expenditures 13,049 10,407 9,497 Industrial Controls: External net billings $191,568 $207,403 $200,809 Intersegment net billings 13,297 na na Segment earnings 36,008 na na Segment assets 126,344 na na Depreciation and amortization 9,918 10,974 11,147 Capital expenditures 4,831 6,135 7,804 Other Segments: External net billings $ 79,421 $ 48,900 $ 42,444 Intersegment net billings 4,534 na na Segment losses (3,541) na na Segment assets 40,129 na na Depreciation and amortization 2,797 1,734 919 Capital expenditures 2,879 2,924 1,459
Summarized financial information for the old basis in segmentation, which ignores the impact of the change in our internal structure in 1999, follows:
At or for the year ended September 30, 1999 1998 1997 Aircraft Engine Systems: External net billings $325,915 $234,173 $198,963 Intersegment net billings 1,564 1,706 1,603 Segment earnings 57,752 39,202 30,442 Segment assets 330,299 321,646 137,913 Depreciation and amortization 17,663 11,959 9,144 Capital expenditures 13,049 10,407 9,497 Industrial Controls: External net billings $244,235 $250,224 $243,253 Intersegment net billing s 8,728 457 631 Segment earnings 35,378 24,267 23,302 Segment assets 148,600 163,819 146,059 Depreciation and amortization 10,981 12,048 12,066 Capital expenditures 5,150 7,778 9,263 Other Segments: External net billings $ 26,754 $ 6,079 $ - Intersegment net billings 883 - - Segment losses (2,911) (2,587) - Segment assets 17,873 13,994 - Depreciation and amortization 1,734 660 - Capital expenditures 2,560 1,281 - The differences between the total of segment amounts, as measured using the old basis of segmentation, and the consolidated financial statements were as follows:
Year ended September 30, 1999 1998 1997 Total net billings for reportable segments $580,442 $486,560 $444,450 Other net billings 27,637 6,079 - Elimination of intersegment net billings (11,175) (2,163) (2,234) Consolidated net billings $596,904 $490,476 $442,216 Total earnings for reportable segments $ 93,130 $ 63,469 $ 53,744 Other losses (2,911) (2,587) - Restructuring expense, interest expense and interest income (19,808) (4,519) (1,602) Unallocated corporate expenses (17,113) (15,017) (12,454) Consolidated earnings before income taxes and equity in loss of unconsolidated affiliate $ 53,298 $ 41,346 $ 39,688
At September 30, 1999 1998 1997 Total assets for reportable segments $478,899 $485,465 $283,972 Other assets 17,873 13,994 - Unallocated corporate property, plant, and equipment-net, and intangibles-net 3,926 7,438 7,326 Other unallocated assets 49,966 56,538 56,812 Consolidated total assets $550,664 $563,435 $348,110
Differences between total depreciation and amortization and capital expenditures of reportable segments and the corresponding consolidated amounts are due to other segments and unallocated corporate amounts. One customer accounted for more than ten percent of consolidated net billings, impacting both the Aircraft Engine Controls and Industrial Controls segments, and totaled approximately $130,000 in 1999, $76,500 in 1998, and $75,000 in 1997. External net billings by geographical area, as determined by the location of the company invoiced, were as follows:
Year ended September 30, 1999 1998 1997 United States $350,999 $271,265 $245,536 Other countries 245,905 219,211 196,680 $596,904 $490,476 $442,216
Property, plant and equipment-net by geographical area, as determined by the physical location of the assets, were as follows:
At September 30, 1999 1998 1997 United States $106,325 $111,478 $ 94,035 Other countries 17,797 18,574 16,913 $124,122 $130,052 $110,948
33 MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS The management of Woodward Governor Company has prepared, and is responsible for the accuracy and consistency of, the financial statements and other information included in this annual report. Management believes that the financial statements have been prepared in conformity with generally accepted accounting principles and has made what it believes to be reasonable and prudent jugements and estimates where necessary. The company has developed a system of internal accounting control designed to provide reasonable assurance that its financial records are accurate, assets are safeguarded, transactions are executed in accordance with management's authorizations, and financial statements fairly present the financial position and results of operations of the company. The internal accounting control system is tested, monitored, and revised as necessary. The Board of Directors has an audit committee comprised of outside directors, who meet periodically with management and the company's independent auditors to review internal accounting control, auditing, and financial reporting matters. The independent auditors have unrestricted access to the audit committee and may meet with or without management being present. The company's independent accountants, PricewaterhouseCoopers LLP, audited the financial statements prepared by the management of Woodward Governor Company. Their opinion on these financial statements is presented below. John A.Halbrook Stephen P. Carter Chariman and Chief Executive Officer Vice President, Chief Financial Officer And Treasurer REPORT OF INDEPENDENT ACCOUNTANTS To Board of Directors and Shareholders Woodward Governor Company In our opinion, the accompanying consolidated balance sheets and the related statements of consolidated earnings, shareholders' equity and cash flows present fairly, in allmaterial respects, the financial position of Woodward Governor Company and its subsidiaries at September 30, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 1999, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which required that we plan and perofrm the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. As discussed in Note A to the consolidated financial statements, as of October 1, 1998, the Company changed from depreciating newly-acquired assets using principally accelerated methods to the straight-line method. PricewaterhouseCoopers LLP Chicago, Illinois November 9, 1999 34 SELECTED QUARTERLY FINANCIAL DATA
(Unaudited) 1999 Fiscal Quarters (In thousands except per share data) First Second Third Fourth Net billings for products and services $144,908 $144,408 $139,239 $168,349 Gross profit 34,893 36,844 38,994 49,052 Earnings before equity in loss of unconsolidated affiliate 5,596 2,343 8,387 15,790 Net earnings 5,204 2,064** 8,079 15,482 Net earnings per basic share 0.46 0.18** 0.72 1.37 Net earnings per diluted share 0.46 0.18** 0.72 1.37 Cash dividends per diluted share 0.2325 0.2325 0.2325 0.2325 Common stock price per share: High $ 25.56 $ 25.50 $ 27.25 $ 26.63 Low 20.00 20.50 23.00 24.00 Close 22.00 25.00 26.00 24.94 1998 Fiscal Quarters (In thousands except per share data) First Second Third Fourth Net billings for products and services $ 98,140 $113,160 $119,399 $159,777 Gross profit* 25,081 31,597 32,213 44,783 Earnings before equity in loss of unconsolidated affiliate 3,339 6,383 5,521 9,377 Net earnings 2,458 5,415 4,891 8,828 Net earnings per basic share 0.21 0.48 0.43 0.78 Net earnings per diluted share 0.21 0.48 0.43 0.78 Cash dividends per share 0.2325 0.2325 0.2325 0.2325 Common stock price per share High $ 35.75 $ 33.00 $ 31.00 $ 32.00 Low 30.87 25.25 27.50 20.50 Close 32.38 27.88 30.88 23.00
* Gross profit represents net billings for products and services less cost of goods sold as reported in our statements of consolidated earnings. ** We incurred restructuring expense, net of tax, of $4,904 in the second quarter 1999. Without this restructuring expense, our net earnings in the second quarter 1999 would have been $6,968 or $0.62 per basic and diluted share. CAUTIONARY STATEMENT This annual report contains forward-looking statements, including financial projections, our plans and objectives for future operations, expectations of future economic performance, and various other assumptions relating to the future. While such statements reflect our current expectations, all such statements involve risks and uncertainties. Actual results could differ materially from projections or any other forward-looking statement. Important factors that could cause results to differ materially from those projected or otherwise stated include the following: unanticipated global or regional economic developments, particularly in, but not limited to, Asia; changes in business cycles of particular industries served by our company, primarily original equipment manufacturers of aircraft engines and industrial engines and turbines; fluctuations in currency exchange rates of U.S. and foreign countries, primarily those located in Europe and Asia; fluctuations in interest rates, primarily LIBOR, which affect the cost of borrowing under our term note and line of credit facilities; timing and acceptance of new products and product enhancements; competitor actions that adversely impact our orders or pricing; adverse changes in the business acquisition climate; effects of any business acquisitions or divestitures; changes in U.S. and other country laws and regulations involving acquisitions, the environment, and taxes; relative success of quality and productivity initiatives, such as the Six Sigma initiative; business interruptions caused by incomplete or ineffective remediation of computer problems associated with the year 2000 throughout the company's supply chain; the outlook for GENXON products and markets and its funding requirements; and unusual or extraordinary events or developments involving litigation or other potential liabilities. 35 Net Billings, Costs, and Earnings
Net Earnings (Loss) For Net Billings Per Per % of Beginning For the for Products Income Basic Diluted Shareholders' the Year and Services Taxes Amount Share Share % of Sales Equity Year 1999 $596,904 $21,182 $30,829** $ 2.74** $ 2.73** 5.2 14.0 1999 1998 490,476 16,726 21,592** 1.90** 1.90** 4.4 10.3 1998 1997 442,216 15,339 18,140** 1.58** 1.57** 4.1 8.7 1997 1996 417,290 13,003 22,178 1.92 1.92 5.3 11.2 1996 1995 379,736 8,247 11,936 1.03 1.03 3.1 6.2 1995 1994 333,207 (1,922) (3,273) (0.28) (0.28) (1.0) (1.6) 1994 1993 331,156 9,695 13,389* 1.13* 1.13* 4.0 6.1 1993 1992 374,173 12,764 20,212 2.22 1.81 5.4 9.7 1992 1991 361,924 13,724 24,293 1.81 2.22 6.7 12.5 1991 1990 340,128 16,776 29,439 2.68 2.68 8.7 17.0 1990 1989 299,789 15,627 25,503 2.32 2.32 8.5 16.3 1989
Dividends, Expenditures, and Other Data
Weighted Cash Dividends Average At For Shares Registered the the Diluted Capital Deprec. Worker Shareholder Year Year Outstanding Amount Per Share Expenditures Expense Members Members End 1999 11,292 $10,484 $0.93 $22,789 $25,267 3,791 1,866 1999 1998 11,379 10,543 0.93 20,862 23,715 3,994 1,907 1998 1997 11,525 10,681 0.93 21,152 21,854 3,246 1,994 1997 1996 11,570 10,758 0.93 21,163 22,786 3,211 2,029 1996 1995 11,623 10,811 0.93 18,988 23,334 3,071 2,179 1995 1994 11,765 10,956 0.93 16,515 26,114 3,439 2,256 1994 1993 11,889 11,057 0.93 18,335 24,837 3,264 2,301 1993 1992 11,179 10,330 0.92 52,684 22,241 3,632 2,301 1992 1991 10,967 10,145 0.92 33,075 18,236 3,953 2,303 1991 1990 10,966 9,181 0.84 22,057 15,397 3,673 2,209 1990 1989 10,996 7,971 0.72 31,190 13,165 3,317 2,084 1989
Financial Position
At At the Plant and Shareholders' Equity the Year Working Current Equipment Total Long-term Per Diluted Year End Capital Ratio Net Assets Debt Amount Share End 1999 $124,392 2.0 to 1 $124,122 $550,664 $139,000 $241,992 $21.43 1999 1998 119,506 1.9 to 1 130,052 563,435 175,685 220,102 19.34 1998 1997 124,827 2.5 to 1 110,948 348,110 17,717 210,614 18.27 1997 1996 121,103 2.4 to 1 114,213 348,798 22,696 207,995 18.01 1996 1995 116,364 2.3 to 1 118,066 349,599 27,796 197,903 17.05 1995 1994 113,751 2.7 to 1 122,911 323,318 32,665 193,846 16.57 1994 1993 107,809 2.7 to 1 144,016 332,461 36,246 206,222 17.36 1993 1992 103,818 2.5 to 1 151,126 331,653 40,135 219,690 18.48 1992 1991 105,213 2.4 to 1 118,417 306,534 17,300 208,564 19.02 1991 1990 115,737 3.3 to 1 101,985 269,221 18,700 194,081 17.70 1990 1989 83,009 2.2 to 1 96,075 249,833 - 173,241 15.74 1989
Management's Financial Summary and Analysis is on pages 14-21. *Net earnings for 1993 is before cumulative effect of accounting changes. **Net earnings includes a reduction for the equity in loss of an unconsolidated affiliate, net of tax, of $1,287 or $.11 per basic and diluted share for 1999, $3,028 or $.27 per basic share and $.26 per diluted share for 1998, and $6,209 or $.54 per basic and diluted share for 1997. 36 [BOARD OF DIRECTORS PICTURES] 37 BOARD OF DIRECTORS J. GRANT BEADLE Retired Chairman and Chief Executive Officer Union Special Corporation VERN H. CASSENS Retired Senior Vice President and Chief Financial Officer Woodward Governor Company CARL J. DARGENE Chairman of the Board AMCORE Financial, Inc. LAWRENCE E. GLOYD Chairman and Chief Executive Officer CLARCOR Inc. JOHN A. HALBROOK Chairman and Chief Executive Officer Woodward Governor Company THOMAS W. HEENAN Retired Partner Chapman and Cutler law firm J. PETER JEFFREY Retired Vice President Development Father Flanagan's Boys' Home RODNEY O'NEAL Vice President Delphi Automotive Systems and President Delphi Interior Systems LOU L. PAI Chairman and Chief Executive Officer Enron Energy Services MICHAEL T. YONKER Retired President and Chief Executive Officer Portec, Inc. OFFICERS JOHN A. HALBROOK Chairman and Chief Executive Officer STEPHEN P. CARTER Vice President Chief Financial Officer and Treasurer RONALD E. FULKROD Vice President General Manager Industrial Controls North America GARY D. LARREW Vice President Business Development C. PHILLIP TURNER Vice President General Manager Aircraft Engine Systems CAROL J. MANNING Corporate Secretary INVESTOR INFORMATION WOODWARD GOVERNOR COMPANY Corporate Headquarters 5001 North Second Street P.O. Box 7001 Rockford, IL 61125-7001 U.S.A. www.woodward.com TRANSFER AGENT AND REGISTRAR American Stock Transfer & Trust Company New York, NY 1-800-937-5449 Correspondence and transfer requests should be sent to the following: American Stock Transfer & Trust Company Shareholder Services 40 Wall Street New York, NY 10005 U.S.A. SHAREHOLDER ACCOUNT ASSISTANCE Shareholders who wish to change the address or ownership of stock, report lost certificates, eliminate duplicate mailings or for other account registration procedures and assistance should contact the Transfer Agent at the address or phone number above. DIVIDEND REINVESTMENT PLAN AND DIRECT DEPOSIT OF DIVIDENDS Woodward offers shareholders of record a convenient Dividend Reinvestment Plan whereby dividends can be automatically reinvested in Woodward's common stock. The plan also provides for a voluntary quarterly cash deposit option for the purchase of additional stock. For further information and authorization forms, contact the Transfer Agent at the address or phone number above. ANNUAL MEETING January 18, 2000, at 10:00 A.M. Woodward Auditorium 5001 North Second Street Rockford, IL ANNUAL REPORT ON FORM 10-K Shareholders may obtain, without charge, a single copy of Woodward's 1999 annual report on Securities and Exchange Commission Form 10-K upon written request to the Corporate Secretary, Woodward Governor Company, Rockford, IL. STOCK EXCHANGE Nasdaq National Market Ticker Symbol: WGOV AN EQUAL OPPORTUNITY EMPLOYER It is Woodward's policy to take affirmative action to provide equal employment opportunity to all members and applicants for employment without regard to race, color, religion, sex, national origin, disability, veteran's or handicapped status, and to base all employment decisions so as to further this principle of equal employment opportunity. 38 EX-21 5 SUBSIDIARIES Exhibit 21 Woodward Governor Company Subsidiaries of the Registrant Woodward Governor Nederland B.V. Hoofddorp, The Netherlands Woodward Governor (U.K.) Limited Reading, England, United Kingdom Woodward Governor GmbH Lucerne, Switzerland and Hoofddorp, The Netherlands Woodward Governor (Japan) Ltd. Tomisato, Chiba, Japan and Kobe, Japan Woodward Governor (Reguladores) Limitada Campinas, Sao Paulo, Brazil Woodward Governor (Quebec) Inc. Montreal, Quebec, Canada Woodward Governor France S.A.R.L. Venissieux, France Woodward Governor Asia/Pacific PTE. LTD. Singapore, Republic of Singapore Woodward Governor Poland, Limited Warsaw, Poland Woodward Governor Germany GmbH Aken, Germany Woodward HSC, Inc. Buffalo, New York Woodward Governor de Mexico S.A. de C.V. Mexico City, Mexico Woodward Governor Company (New Zealand) Limited Christchurch, New Zealand Woodward Governor India PTE. LTD. Ballabgarh, India Woodward Aircraft Controls Prestwick, Inc. Prestwick, Scotland, United Kingdom Woodward Foreign Sales Corporation St. Thomas, U.S. Virgin Islands Baker Electrical Products, Inc. Memphis, Michigan Woodward FST, Inc. Zeeland, Michigan Woodward Tianjin Controls Company Limited Tianjin, China EX-23 6 AUDITORS CONSENTS Exhibit 23.1 Woodward Governor Company CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statement on Form S-8 (File No. 333-10409) of Woodward Governor Company and Subsidiaries of our report dated November 9, 1999 relating to the consolidated financial statements, which appears in the Annual Report to Shareholders, which is incorporated in this Annual Report on Form 10-K. We also consent to the incorporation by reference of our report dated November 9, 1999 relating to the financial statement schedule, which appears in this Form 10-K. PricewaterhouseCoopers LLP Chicago, Illinois December 22, 1999 Exhibit 23.2 Woodward Governor Company CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statement on Form S-8 (File No. 333-10409) of Woodward Governor Company and Subsidiaries of our report dated October 17, 1997 relating to the financial statements of GENXON Power Systems, L.L.C., as of September 30, 1997 and for the period from October 21, 1996 (date of inception) to September 30, 1997, which report appears in this Form 10-K. PricewaterhouseCoopers LLP San Jose, California December 22, 1999 EX-27 7 FDS SCHEDULE
5 This schedule contains summary financial information extracted from the Consolidated Financial Statements for the year ended September 30, 1999, incorporated by reference. 1000 12-MOS SEP-30-1999 SEP-30-1999 10449 0 119934 4417 104257 247444 365913 241791 550664 123052 139000 0 0 106 241886 550664 596904 596904 437121 516164 14696 0 12746 53298 21182 0 0 0 0 30829 2.74 2.73
EX-99 8 GRAPH DOCUMENTATION Exhibit 99 Woodward Governor Company Additional Exhibit - Description of Annual Report Graphs Below is a description of the graphs appearing under "Financial Highlights on page 1 of our 1999 Annual Report. NET BILLINGS: This bar graph shows consolidated net billings for products and services in millions of dollars for the fiscal years ended 1995 through 1999. Consolidated plot points are $380, $417, $442, $490, and $597 with the first plot point for 1995. NET EARNINGS: The bar graph for consolidated net earnings is in millions of dollars for fiscal years 1995 through 1999. The plot points beginning with 1995 are $12, $22, $18, $22, and $31. A second plot point reflecting earnings before equity in loss of an unconsolidated affiliate, beginning in 1997 is $24 in 1997, $25 in 1998, and $32 in 1999. NET EARNINGS AND CASH DIVIDENDS PER SHARE: The bar graph for consolidated net earnings and cash dividends per diluted share is for fiscal years ended 1995 through 1999. Beginning with 1995, plot points for net earnings per diluted share are $1.03, $1.92 $1.57, $1.90, and $2.73. Plot points for cash dividends per diluted share, beginning with 1995, are $.93 for all years. -----END PRIVACY-ENHANCED MESSAGE-----