10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K
ANNUAL REPORT

(Mark One)

             [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2002
OR

             [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 1-5684
W.W. Grainger, Inc.
(Exact name of registrant as specified in its charter)

Illinois (State or other jurisdiction of incorporation or organization)	36-1150280 (I.R.S. Employer Identification No.)
100 Grainger Parkway, Lake Forest, Illinois 60045-5201 (Address of principal executive offices) (Zip Code)

Registrant's telephone number including area code: 847/535-1000

Securities registered pursuant to Section 12(b) of the Act:

Title of each class
Common Stock $0.50 par value, and accompanying
   Preferred Share Purchase Rights Name of each exchange on which registered
New York Stock Exchange
Chicago Stock Exchange

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes  X    No     

Indicate 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 of information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. (X)

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

Yes  X    No     

The aggregate market value of the voting common equity held by non-affiliates of the registrant was $3,996,680,807 as of the close of trading reported on the Consolidated Transaction Reporting System on June 28, 2002. The Company does not have non-voting common equity.

APPLICABLE ONLY TO CORPORATE REGISTRANTS

Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date.

Common Stock $0.50 par value                                                    91,585,616 shares outstanding as of March 3, 2003

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s Annual Report to Shareholders for the year ended December 31, 2002 are incorporated by reference into Parts II and IV hereof.

Portions of the proxy statement relating to the annual meeting of shareholders of the registrant to be held on April 30, 2003, are incorporated by reference into Part III hereof.

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CONTENTS

		Page(s)
PART I
Item 1:	BUSINESS	3-6
	THE COMPANY	3
	BRANCH-BASED DISTRIBUTION BUSINESSES	3-5
	INDUSTRIAL SUPPLY	3-4
	ACKLANDS-GRAINGER INC.	5
	FINDMRO	5
	GLOBAL SOURCING	5
	PARTS	5
	MEXICO	5
	DIGITAL BUSINESSES	5
	LAB SAFETY	5
	INTEGRATED SUPPLY	6
	INDUSTRY SEGMENTS	6
	COMPETITION	6
	EMPLOYEES	6
	WEB SITE ACCESS TO COMPANY REPORTS	6
Item 2:	PROPERTIES	6-7
Item 3:	LEGAL PROCEEDINGS	7
Item 4:	SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS	7
Executive Officers of the Company		8
PART II
Item 5:	MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED    SHAREHOLDER MATTERS	9
Item 6:	SELECTED FINANCIAL DATA	9
Item 7:	MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL    CONDITION AND RESULTS OF OPERATIONS	9
Item 7A:	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	9
Item 8:	FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA	9
Item 9:	CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON    ACCOUNTING AND FINANCIAL DISCLOSURE	9
PART III
Item 10:	DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT	9
Item 11:	EXECUTIVE COMPENSATION	9
Item 12:	SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND    MANAGEMENT	9
Item 13:	CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS	9
Item 14:	CONTROLS AND PROCEDURES	9
PART IV
Item 15:	EXHIBITS AND REPORTS ON FORM 8-K	10-11
Signatures		12
Certifications		13-14

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PART I

Item 1: Business

The Company
W.W. Grainger, Inc., was incorporated in the State of Illinois in 1928 and regards itself as being in the service business. It is the leading North American distributor of products used by businesses and institutions to keep their facilities and equipment running. As used herein, "Company" or "Grainger" means W.W. Grainger, Inc., and/or its subsidiaries as the context may require.

The Company uses a multichannel business model to provide customers with a range of options for finding and purchasing products through a network of branches, a field sales force, direct marketing, and Internet channels. The Company serves more than 1.5 million customers, both large and small. Orders can be placed via telephone, fax, Internet, or in person. Products are available for immediate pick-up or for shipment.

The Company reports its operating results in three segments: Branch-based Distribution Businesses, Lab Safety, and Integrated Supply. The Branch-based Distribution Businesses primarily serve the needs of North American businesses for facility maintenance products. Lab Safety Supply, Inc., serves customers who choose to purchase safety and other industrial products through a direct marketing company. Grainger’s Integrated Supply division serves customers seeking to outsource some or all of their indirect materials management process. In April 2001, the Company discontinued its Digital segment.

The Company also has internal business support functions which provide coordination and guidance in the areas of Accounting, Administrative Services, Business Development, Communications, Compensation and Benefits, Employee Development, Enterprise Systems, Finance, Human Resources, Investor Relations, Insurance and Risk Management, Internal Audit, International Operations, Legal, Real Estate and Construction Services, Security and Safety, Taxes, and Treasury services. These services are provided in varying degrees to all business units.

A number of Company-wide capabilities assist business units in serving their respective markets. These capabilities include technology and information management, supplier partnerships, supply chain management skills, and an understanding of the customers’ facility maintenance environments.

The Company does not engage in basic or substantive product research and development activities. Items are added and deleted regularly to the Company’s product lines on the basis of market information, recommendations of employees, customers, and suppliers, and other factors. The Company focuses research and development efforts on methods of serving customers and the product distribution process.

Branch-based Distribution Businesses
The Branch-based Distribution Businesses provide North American customers with product solutions to their facility maintenance needs. Logistics networks are configured for rapid availability. Grainger offers a broad selection of facility maintenance products through local branches, catalogs, and via the Internet. The Branch-based Distribution Businesses consist of Grainger's Industrial Supply division, Acklands-Grainger Inc. (Canada), Grainger's FindMRO division, Grainger's Export division, Grainger's Global Sourcing division, Grainger's Parts division, Grainger, S.A. de C.V. (Mexico), and Grainger Caribe Inc. (Puerto Rico). Described below are the more significant of these businesses.

Industrial Supply
The focus of Grainger’s Industrial Supply division is to provide U.S. businesses and institutions of all sizes the best combination of product breadth, local availability, speed of delivery, and simplicity of ordering at a competitive price. Its primary customers are small and medium-sized companies, but it also addresses the needs of large organizations.

Grainger’s Industrial Supply division operates 393 branches located in all 50 states. These branches are located within 20 minutes of the majority of U.S. businesses and serve the immediate needs of their local market. Customers pick up items directly from the branches.

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On average, a branch is 20,000 square feet, has 12 employees, and handles about 231 transactions per day. During 2002, an average of 91,000 sales transactions were completed daily. Industrial Supply’s branches range in size from small storefront branches to large master branches. Storefront branches are used to fulfill will-call needs and customer service. Industrial Supply has four master branches, which range in size from 45,000 square feet to 109,000 square feet. Master branches handle a high volume of counter/will-call customers daily, in addition to shipping for other branches. In 2002, Industrial Supply opened a 62,000 square foot branch in Atlanta, Georgia, with a large showroom, which encourages self-service. In 2002, Industrial Supply invested more than $4 million in plant and equipment related to new branches, branch relocations, and branch additions. During the year, six new branches were opened, five were relocated, one was closed, and a number of remodeling projects were completed.

Industrial Supply is in the process of reconfiguring its distribution network to remove a warehousing step from the current distribution system. This redesign is intended to reduce costs, increase capacity, and improve customer service. As part of the redesign, Industrial Supply is transforming its existing zone and regional distribution centers into more highly automated distribution centers (DCs). Five new and four redesigned DCs will take over most of the shipping currently handled by the branches. When complete, the DCs will average more than 300,000 square feet in size, employ state-of-the-art equipment and processes, and stock approximately 50,000 frequently purchased items within a particular market.

Industrial Supply currently operates three zone distribution centers, and three new automated DCs. DCs ship orders, including Internet orders, directly to customers for all branches located in their service area and replenish branch inventories. Two regional distribution centers located in Greenville County, South Carolina, and Kansas City, Missouri, replenish DC inventories and branches not served by a DC. The national distribution center merged with the Chicago DC in the fourth quarter of 2002. In addition to the other functions of a DC, the Chicago facility continues to be the national distribution center, serving customers and the entire network with slower moving inventory items.

Industrial Supply sells principally to industrial and commercial maintenance departments, service shops, manufacturers, hotels, government facilities, contractors, and healthcare and educational facilities. Sales transactions during 2002 were made to approximately 1.3 million customers. It is estimated that approximately 23% of 2002 sales consisted of items bearing the Company’s registered trademarks, including DAYTON® (principally electric motors, heating, and ventilation equipment), TEEL® (liquid pumps), SPEEDAIRE® (air compressors), AIR HANDLER® (air filtration equipment), DEM-KOTE® (spray paints), WESTWARD® (hand and power tools), CONDOR™ (safety products), and LUMAPRO® (task and outdoor lighting), as well as other Company trademarks. The Company has taken steps to protect these trademarks against infringement and believes that they will remain available for future use in its business. Sales of remaining items generally consisted of products carrying the names of other well-recognized brands.

The current Industrial Supply catalog, issued in February 2003, offers almost 90,000 facility maintenance products. Approximately 1.4 million copies of the catalog were produced in 2002. A CD-ROM version of the catalog supplements the paper version with a fast, easy way to select products. Approximately 190,000 copies of the CD-ROM catalog were produced in 2002.

Customers can also use grainger.com. This Web site serves as a prominent service channel for the Industrial Supply division. Customers have access to a much larger selection of products through grainger.com. It is available 24 hours a day, seven days a week, providing real-time product availability, customer-specific pricing, multiple product search capabilities, customer personalization, and links to customer support and the fulfillment system. For large customers interested in connecting to grainger.com through sophisticated purchasing platforms, grainger.com has a universal connection. This technology translates the different data formats used by electronic marketplaces, exchanges, and e-procurement systems and allows information from these systems to be fed directly into Industrial Supply’s operating platform. Orders processed through grainger.com resulted in sales of approximately $420 million in 2002, $333 million in 2001, and $267 million in 2000.

Industrial Supply purchases products from approximately 1,200 suppliers, most of whom are manufacturers. No single supplier comprised more than 10% of Industrial Supply’s purchases; and no significant difficulty has been encountered with respect to sources of supply.

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Acklands-Grainger Inc. (Acklands)Acklands is Canada’s leading broad-line distributor of industrial, fleet, and safety supplies. It serves customers through 176 branches across Canada. Acklands distributes tools, lighting, HACR, safety supplies, pneumatics, instruments, welding equipment and supplies, motors, and shop equipment, as well as many other items. A comprehensive catalog, printed in both English and French, showcases the product line and helps customers select products. This catalog, with more than 70,000 products, supports the efforts of approximately 250 field sales representatives throughout Canada. During 2002, approximately 15,000 sales transactions were completed daily. In addition, customers can access products online via the Internet at acklandsgrainger.com. On February 1, 2002, the Company finalized a joint venture agreement combining Acklands’ automotive aftermarket parts division and the Western Division of Uni-Select Inc., a Canadian distributor of automotive and industrial supplies. The Company has a 50% stake in the new joint venture, which is managed by Uni-Select.

FindMROFindMRO is a sourcing service for facilities maintenance products that meet specific customer requirements. Through sophisticated search technologies and sourcing expertise, FindMRO locates products when a source is unknown to the customer. FindMRO has access to more than 4,000 suppliers and five million products. Its services can be accessed through a Grainger sales representative or a branch.

Global SourcingGlobal Sourcing procures competitively priced, high-quality products produced outside the United States. Grainger businesses sell these items primarily under private labels. Products obtained through Global Sourcing in 2002 include WESTWARD® tools, LUMAPRO® lighting products, and CONDOR™ safety products, as well as products bearing other trademarks.

PartsParts provides access to more than 2.5 million parts and accessories, stocking 72,000 of them in its Northbrook, Illinois, warehouse. Customers can purchase over the telephone or online at grainger.com. Trained customer service representatives have online access to more than 270,000 pages of detailed parts diagrams. Parts handled about 1.6 million customer calls in 2002 through its call centers in Northbrook, Illinois, and Waterloo, Iowa. 

Parts has been ISO 9002 certified since 1995 and its 100% compliance with ISO 9002 standards ranked it among the top 10% of all ISO-certified companies.

MexicoGrainger’s operations in Mexico provide local businesses with facility maintenance products from both Mexico and the United States. The business employed 68 sales representatives at December 31, 2002. From its five branches in Mexico and U.S. branches along the border, the business provides delivery of approximately 70,000 products throughout Mexico. Customers can order products using a Spanish-language general catalog or online at grainger.com.mx. The largest branch in Mexico, an 80,000 square foot facility, is located outside of Monterrey, Mexico.

Digital Businesses
In April 2001, the Company announced it was discontinuing the operations of Material Logic. All of Material Logic’s branded e-commerce sites were shut down with the exception of FindMRO, which remains in the Branch-based Distribution Businesses segment.

Lab Safety
Lab Safety is a direct marketer of safety and other industrial products to U.S. and Canadian businesses. Lab Safety, located in Janesville, Wisconsin, primarily reaches its customers through targeted catalogs and other marketing materials distributed throughout the year.

Lab Safety offers extensive product depth, technical support, and high service levels. It is a primary supplier for many small and medium-sized companies and a backup supplier for many larger companies. During 2002, Lab Safety issued ten unique catalogs targeted to specific customer groups. Lab Safety provides access to more than 100,000 products through its catalogs. In addition, customers can access products using a CD-ROM version of the catalog or online via the Internet at labsafety.com.

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Integrated Supply
Effective 2001, this segment consists solely of Grainger's Integrated Supply division. In prior years, this segment was called "Integrated Supply and Other Businesses" and included additional business units.

Integrated Supply
Integrated Supply serves customers who have chosen to outsource some or all of their indirect materials management processes. The service offering enables customers to focus on their core business objectives.

Integrated Supply offers a full complement of on-site outsourcing solutions, including business process reengineering, inventory and tool crib management, supply chain management, purchasing management, and information management.

Industry Segments
For 2002 the Company is reporting three industry segments: Branch-based Distribution, Lab Safety, and Integrated Supply. For segment information and the Company’s consolidated net sales and operating earnings see “Item 7: Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Item 8: Financial Statements and Supplementary Data.” The total assets of the Company for the last five years were: 2002, $2,437 million; 2001, $2,331 million; 2000, $2,460 million; 1999, $2,565 million; and 1998, $2,104 million.

Competition
The Company faces competition in all the markets it serves, from manufacturers (including some of the Company’s own suppliers) that sell directly to certain segments of the market, from wholesale distributors, from catalog houses, from certain Internet-based businesses and product fulfillment mechanisms, and from certain retail enterprises.

The principal means by which the Company competes with manufacturers and other distributors are by local stock availability, efficient service, account managers, competitive pricing, its catalogs (which include product descriptions and in certain cases extensive technical and application data), electronic and Internet commerce technology, and other efforts to assist customers in lowering their total facility maintenance costs. The Company believes that it can effectively compete on a price basis with manufacturers on small orders, but that manufacturers may enjoy a cost advantage in filling large orders.

The Company serves a number of diverse markets and in some markets reasonably estimates the Company’s competitive position within those markets. However, taken as a whole, the Company is unable to determine its market share relative to others engaged in whole or in part in similar activities.

Employees
As of December 31, 2002, the Company had 15,236 employees, of whom 13,183 were full-time and 2,053 were part-time or temporary. The Company has never had a major work stoppage and considers employee relations to be good.

Web Site Access to Company Reports
The Company makes available, free of charge, on or through its Web site, its Annual Report on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K, and amendments to those reports as soon as reasonably practicable after this material is electronically filed with or furnished to the Securities and Exchange Commission. This material may be accessed by visiting the Investor Relations section of the Company’s Web site at http://investor.grainger.com.

Item 2: Properties
As of December 31, 2002, the Company’s owned and leased facilities totaled 17,564,000 square feet, a decrease of about 2% from 2001. Industrial Supply and Acklands accounted for the majority of the total square footage. Industrial Supply facilities are located throughout the United States. Acklands facilities are located throughout Canada.

Industrial Supply branches range in size from 1,200 to 109,000 square feet and average approximately 20,000 square feet. Most are located in or near major metropolitan areas with many located in industrial parks. Typically, a branch is on one floor, is of masonry construction, consists primarily of warehouse space, sales areas and offices and has off-the-street parking for customers and employees. The Company considers that its properties are generally in good condition, well maintained, and are suitable and adequate to carry on the Company’s business.

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The significant facilities of the Company are briefly described below:

Location	Facility and Use	Size in  Square Feet
Chicago Area (1)	Headquarters and General Offices	1,176,000
Kansas City, MO (1)	Regional Distribution Center	1,435,000
Greenville County, SC (1)	Regional Distribution Center	1,090,000
United States (1)	Six Distribution Centers	2,280,000
United States (2)	393 Industrial Supply branch locations	7,662,000
United States and Mexico (3)	All other facilities	1,832,000
Canada (4)	176 Acklands facilities	2,089,000
	Total Square Feet	17,564,000

(1)	These facilities are either owned or leased with most leases expiring between 2003 and 2008. The owned facilities are not subject to any mortgages.
(2)	Industrial Supply branches consist of 286 owned and 107 leased properties. The owned facilities are not subject to any mortgages.
(3)	Other facilities represent Lab Safety as well as other owned and leased general branch offices, distribution centers, and leased branches. Two branches are located in Puerto Rico and five are located in Mexico. The owned facilities are not subject to any mortgages.
(4)	Acklands' facilities consist of general offices, distribution centers, and branches, of which 63 are owned and 113 leased. The owned facilities are not subject to any mortgages.

Item 3: Legal Proceedings
As of January 28, 2003, the Company is named, along with numerous other non-affiliated companies, as a defendant in approximately 600 lawsuits brought on behalf of approximately 1,110 named plaintiffs pending in the courts of various states. These lawsuits typically involve claims of personal injury arising from alleged exposure to products containing asbestos and allegedly distributed by the Company. From January 1, 2002, to January 28, 2003, the Company has been dismissed from approximately 60 similar lawsuits, typically because there has not been product identification. The Company has denied, or intends to deny, the allegations in the remaining lawsuits. If a specific product distributed by the Company is identified in any of these lawsuits, the Company would attempt to exercise indemnification remedies against the product manufacturer. In addition, the Company believes that a substantial portion of these claims are covered by insurance. The Company is engaged in active discussions with its insurance carriers regarding the scope and amount of coverage. While the Company is unable to predict the outcome of these lawsuits, it believes that the ultimate resolution will not have, either individually or in the aggregate, a material adverse effect on the Company’s consolidated financial position or results of operations.

Item 4: Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fourth quarter of 2002.

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Executive Officers of the Company

Following is information about the Executive Officers of the Company including age in March 2003. Executive Officers of the Company generally serve until the next annual election of officers, or until earlier resignation or removal.

 

Name and Age Positions and Offices Held and Principal Occupations and Employment During the Past Five Years

Judith E. Andringa (42)	Vice President and Controller. Before joining the Company in 2002, Ms. Andringa was Controller of the Foodservice Division of Kraft Foods, Inc., a position assumed in 2000 after serving Kraft as Director of Finance, Marketing Services Group. Her prior positions at Kraft included Controller, Sales and Customer Service, and Director, Financial Planning and Analysis, of the Meals Division.
Wesley M. Clark (51)	President and Chief Operating Officer, a position assumed in 2001 after serving as Group President. Before assuming the last-mentioned position in 1997, Mr. Clark served as Senior Vice President, Operations and Quality.
Timothy M. Ferrarell (46)	Senior Vice President, Enterprise Systems, a position assumed in 2001 after serving as Vice President, Quality and Business Planning. Before assuming the last mentioned position in 1998, Mr. Ferrarell served as Vice President, Marketing. Previously, he served as Vice President, Product Management.
Nancy A. Hobor (56)	Senior Vice President (formerly Vice President), Communications and Investor Relations. Before joining the Company in 1999, Ms. Hobor was Vice President, Corporate Communications and Investor Relations of Morton International, Inc.
John L. Howard (45)	Senior Vice President and General Counsel. Before joining the Company in 2000, Mr. Howard was Vice President and General Counsel of Tenneco Automotive, a position assumed after serving as Vice President, Law and Assistant General Counsel of Tenneco, Inc.
Richard L. Keyser (60)	Chairman of the Board, a position assumed in 1997, and Chief Executive Officer, a position assumed in 1995. Previously, Mr. Keyser served as the Company's President and Chief Operating Officer.
Larry J. Loizzo (48)	Senior Vice President (formerly Vice President), of the Company and President of Lab Safety Supply, Inc.
P. Ogden Loux (61)	Senior Vice President, Finance and Chief Financial Officer, positions assumed in 1997 after serving as Vice President, Finance.
Peter M. Perez (49)	Senior Vice President, Human Resources. Before joining the Company in 2002, Mr. Perez was Chief Human Resource Officer of Alliant Exchange, Inc., an affiliate of Clayton, Dublier & Rice, Inc. Previously, he was Senior Vice President, Human Resources of Whitman Corporation, an affiliate of PepsiCo, Inc.
James T. Ryan (44)	Executive Vice President, Marketing, Sales and Service. Until assuming his current role in 2001, Mr. Ryan served as Vice President of the Company and President of grainger.com. Previously, he served as Vice President, Information Services.
John A. Schweig (45)	Senior Vice President, Strategy and Development, a position assumed in 2003 after serving as Senior Vice President, Business Development and International.
John W. Slayton, Jr. (57)	Senior Vice President, Merchandising, a position assumed in 2003 after serving as Senior Vice President, Supply Chain Management. Before assuming the last-mentioned position in 1997, Mr. Slayton served as Senior Vice President, Product Management.

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PART II

Item 5: Market for Registrant's Common Equity and Related Shareholder Matters

The information required by this item is incorporated by reference to the inside back cover of the Company’s 2002 Annual Report to Shareholders. 

Item 6: Selected Financial Data

The information required by this item is incorporated by reference to page 31 of the Company’s 2002 Annual Report to Shareholders.

Item 7: Management’s Discussion and Analysis of Financial Condition and Results of Operations

The information required by this item is incorporated by reference to pages 21 to 30 of the Company’s 2002 Annual Report to Shareholders.

Item 7A: Quantitative and Qualitative Disclosures about Market Risk

The information required by this item is incorporated by reference to page 30 of the Company’s 2002 Annual Report to Shareholders.

Item 8: Financial Statements and Supplementary Data

The information required by this item is incorporated by reference to the financial statements and report thereon by Grant Thornton LLP dated January 28, 2003, appearing on pages 31 to 58, and the supplementary data attached herein on pages 15 to 16.

Item 9: Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

None.

PART III

Item 10: Directors and Executive Officers of the Registrant

The information required by this item regarding directors of the Company is incorporated by reference to the Company’s proxy statement relating to the annual meeting of shareholders to be held April 30, 2003, under the captions “Election of Directors,” and “Section 16(a) Beneficial Ownership Reporting Compliance.” The information required by this item regarding executive officers of the Company is set forth in Part I of this report under the caption “Executive Officers of the Company.”

Item 11: Executive Compensation

The information required by this item is incorporated by reference to the Company’s proxy statement relating to the annual meeting of shareholders to be held April 30, 2003, under the captions “Director Compensation” and “Executive Compensation.”

Item 12: Security Ownership of Certain Beneficial Owners and Management

The information required by this item is incorporated by reference to the Company’s proxy statement relating to the annual meeting of shareholders to be held April 30, 2003, under the captions “Ownership of Grainger Stock” and “Equity Compensation Plans.”

Item 13: Certain Relationships and Related Transactions

The information required by this item is incorporated by reference to the Company’s proxy statement relating to the annual meeting of shareholders to be held April 30, 2003, under the caption “Director Compensation.”

Item 14: Controls and Procedures

(a)

Evaluation of disclosure controls and procedures.

Within the 90 days prior to the filing date of this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of the Company’s (including its consolidated subsidiaries) disclosure controls and procedures pursuant to Exchange Act Rule13a-14. Based upon that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective.

(b)	Changes in internal controls.
	There were no significant changes in the Company’s internal controls or in other factors that could significantly affect these controls subsequent to the evaluation date.

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PART IV

Item 15: Exhibits and Reports on Form 8-K 

(a)	1.	The following financial statements of the Company and its consolidated subsidiaries are filed as part of this report:
				2002 Annual Report Page(s)
		Report of Independent Certified Public Accountants		31
		Consolidated Statements of Earnings     for the years ended December 31, 2002, 2001, and 2000		32
		Consolidated Statements of Comprehensive Earnings     for the years ended December 31, 2002, 2001, and 2000		33
		Consolidated Balance Sheets as of    December 31, 2002, 2001, and 2000		34-35
		Consolidated Statements of Cash Flows     for the years ended December 31, 2002, 2001, and 2000		36-37
		Consolidated Statements of Changes in Shareholders' Equity     for the years ended December 31, 2002, 2001, and 2000		38-39
		Notes to Consolidated Financial Statements		40-58
	2.	The schedules listed in Reg. 210.5-04 have been omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto.
	3.	Exhibits:
		(3) (a)	Restated Articles of Incorporation dated April 27, 1994, incorporated by reference to Exhibit 3(i) to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998.
		(b)	Bylaws, as amended, incorporated by reference to Exhibit 3 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2001.
		(4)	Instruments Defining the Rights of Security Holders, Including Indentures
		(a)	Agreement dated as of April 28, 1999 between the Company and Fleet National Bank (formerly Bank Boston, NA), as rights agent, incorporated by reference to Exhibit 4 to the Company's Current Report on Form 8-K dated April 28, 1999, and related letter concerning the appointment of EquiServe Trust Company, N.A., as successor rights agent, effective August 1, 2002, incorporated by reference to Exhibit 4 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.
		(b)	No instruments which define the rights of holders of the Company's Industrial Development Revenue Bonds are filed herewith, pursuant to the exemption contained in Regulation S-K, Item 601(b)(4)(iii). The Company hereby agrees to furnish to the Securities and Exchange Commission, upon request, a copy of any such instrument.

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	(10)	Material Contracts:
		Compensatory Plans or Arrangements
			(i)	Director Stock Plan, as amended, incorporated by reference to Exhibit 10(d)(i) to the Company's Annual Report on Form 10-K for the year ended December 31, 1998.
			(ii)	Office of the Chairman Incentive Plan, incorporated by reference to Appendix B of the Company's Proxy Statement dated March 26, 1997.
			(iii)	1990 Long-Term Stock Incentive Plan, as amended.
			(iv)	2001 Long-Term Stock Incentive Plan, as amended.
			(v)	Executive Death Benefit Plan, as amended, incorporated by reference to Exhibit 10(b)(v) to the Company's Annual Report on Form 10-K for the year ended December 31, 2001.
			(vi)	Executive Deferred Compensation Plan, incorporated by reference to Exhibit 10(e) to the Company's Annual Report on Form 10-K for the year ended December 31, 1989.
			(vii)	1985 Executive Deferred Compensation Plan, as amended, incorporated by reference to Exhibit 10(d)(vii) to the Company's Annual Report on Form 10-K for the year ended December 31, 1998.
			(viii)	Supplemental Profit Sharing Plan, as amended, incorporated by reference to Exhibit 10(b)(viii) to the Company's Annual Report on Form 10-K for the year ended December 31, 2001.
			(ix)	Form of Change in Control Employment Agreement between the Company and certain of its executive officers, incorporated by reference to Exhibit 10(c) to the Company's Annual Report on Form 10-K for the year ended December 31, 1999.
	(11)	Computations of Earnings Per Share.
	(13)	Portions of the Company's 2002 Annual Report to Shareholders.
	(21)	Subsidiaries of the Company.
	(23)	Consent of Independent Certified Public Accountants.
	(99)	Additional Exhibits
		(99.1)		Chief Executive Officer certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
		(99.2)		Chief Financial Officer certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(b)	Reports on Form 8-K. No reports on Form 8-K were filed during the last quarter of 2002.

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SIGNATURES

Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, the Company has duly issued this report to be signed on its behalf by the undersigned, thereunto duly authorized.

DATE: March 20, 2003

W.W. GRAINGER, INC.
By:	/s/  R. L. Keyser
	R. L. Keyser      Chairman of the Board      and Chief Executive Officer

Pursuant to the requirements of the Securities and Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company on March 20, 2003 in the capacities indicated.

/s/ R.L. Keyser	/s/ Frederick A. Krehbiel
R.L. Keyser Chairman of the Board and Chief Executive Officer (Principal Executive Officer and Director)	Frederick A. Krehbiel Director
/s/ P.O. Loux	/s/ John W. McCarter, Jr.
P.O. Loux Senior Vice President, Finance and Chief Financial Officer (Principal Financial Officer)	John W. McCarter, Jr. Director
/s/ J.E. Andringa	/s/ Neil S. Novich
J.E. Andringa Vice President and Controller (Principal Accounting Officer)	Neil S. Novich Director
/s/ Brian P. Anderson	/s/ James D. Slavik
Brian P. Anderson  Director	James D. Slavik Director
/s/ Wesley M. Clark	/s/ Harold B. Smith
Wesley M. Clark Director	Harold B. Smith Director
/s/ Wilbur H. Gantz	/s/ Fred L. Turner
Wilbur H. Gantz Director	Fred L. Turner Director
/s/ David W. Grainger	/s/ Janiece S. Webb
David W. Grainger Director	Janiece S. Webb Director

K-12

CERTIFICATION

I, R. L. Keyser, certify that:

1.	I have reviewed this annual report on Form 10-K of W.W. Grainger, Inc.;
2.	Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3.	Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4.	The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
	a)	designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
	b)	evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
	c)	presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5.	The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
	a)	all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
	b)	any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6.	The registrant's other certifying officer and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: March 20, 2003

By: /s/ R. L. Keyser
Name: R. L. Keyser
Title: Chairman and Chief Executive Officer

K-13

CERTIFICATION

I, P. O. Loux, certify that:

1.	I have reviewed this annual report on Form 10-K of W.W. Grainger, Inc.;
2.	Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3.	Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4.	The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
	a)	designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
	b)	evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
	c)	presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5.	The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
	a)	all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
	b)	any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6.	The registrant's other certifying officer and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: March 20, 2003

By: /s/ P.O. Loux 
Name: P.O Loux
Title: Senior Vice President, Finance and Chief Financial Officer

K-14

W.W. Grainger, Inc., and Subsidiaries COMPUTATIONS OF EARNINGS PER SHARE					EXHIBIT 11
	2002		2001		2000
BASIC:
Weighted average number of shares outstanding during the year	91,982,430		93,189,132		93,003,813
Earnings before cumulative effect of accounting change	$ 235,488,000		$ 174,530,000		$ 192,903,000
Cumulative effect of accounting change	(23,921,000	)	--		--
Net earnings	$ 211,567,000		$ 174,530,000		$ 192,903,000
Earnings per share before
cumulative effect of accounting change	$              2.56		$              1.87		$              2.07
Cumulative effect of accounting change per share	(0.26	)	--		--
Earnings per share	$              2.30		$              1.87		$              2.07
DILUTED:
Weighted average number of
shares outstanding during the year	91,982,430		93,189,132		93,003,813
Potential shares:
Shares issuable under outstanding options	7,115,270		4,155,999		1,661,573
Shares which could have been purchased based on
the average market value for the period	(5,721,423	)	(3,625,281	)	(1,267,602	)
	1,393,847		530,718		393,971
Dilutive effect of exercised options prior to being exercised	29,738		16,696		21,406
Shares for the portion of the period
that the options were outstanding	1,423,585		547,414		415,377
Contingently issuable shares	897,482		991,322		804,625
	2,321,067		1,538,736		1,220,002
Adjusted weighted average number of shares
outstanding during the year	94,303,497		94,727,868		94,223,815
Earnings before cumulative effect of accounting change	$ 235,488,000		$ 174,530,000		$ 192,903,000
Cumulative effect of accounting change	(23,921,000	)	--		--
Net earnings	$ 211,567,000		$ 174,530,000		$ 192,903,000
Earnings per share before
cumulative effect of accounting change	$              2.50		$              1.84		$              2.05
Cumulative effect of accounting change per share	(0.26	)	--		--
Earnings per share	$              2.24		$              1.84		$              2.05

K-15

CONSENT OF INDEPENDENT CERTIFIED	EXHIBIT 23
PUBLIC ACCOUNTANTS

 

We hereby consent to the incorporation of our report on page 31 of the Annual Report by reference in the
prospectuses constituting part of the Registration Statements on Form S-8 (Nos. 33-43902, 333-24215, 333-56362
and 333-61980) and on Form S-4 (No. 33-32091) of W.W. Grainger, Inc.

                                                              GRANT THORNTON LLP

Chicago, Illinois
March 20, 2003

K-16

EX-10

                                            Exhibit 10(iii) to the Annual Report
                                            on Form 10-K of W.W. Grainger, Inc.
                                            for the year ended December 31, 2002


                                    GRAINGER(R)
                       1990 LONG TERM STOCK INCENTIVE PLAN

                            AS AMENDED MARCH 5, 2003







                               W.W. Grainger, Inc.
                              100 Grainger Parkway
                        Lake Forest, Illinois 60045-5201
                                 (847) 535-1000


                               W.W. GRAINGER, INC.
                       1990 LONG TERM STOCK INCENTIVE PLAN
                            AS AMENDED APRIL 25, 2001


Section 1.  Objective.

The objective of the W.W. Grainger, Inc. 1990 Long Term Stock Incentive Plan
(the "Plan") is to attract and retain the best available executive personnel and
other key employees to be responsible for the management, growth and success of
the business, and to provide an incentive for such employees to exert their best
efforts on behalf of the Company and its shareholders.

Section 2.  Definitions.

2.1. General Definitions. The following words and phrases, when used herein,
shall have the following meanings:

         (a) "Act" - The Securities Exchange Act of 1934, as amended.

         (b) "Agreement" - The document which evidences the grant of any Award
         under the Plan and which sets forth the terms, conditions, and
         limitations relating to such Award.

         (c) "Award" - The grant of any stock option, stock appreciation right,
         share of restricted stock, share of phantom stock, other stock-based
         award, or any combination thereof.

         (d) "Board" - The Board of Directors of W.W. Grainger, Inc.

         (e) "Change in Control" means any one or more of the following events:

                  (i) approval by the shareholders of the Company of:

                           (A) any merger, reorganization or consolidation of
                           the Company or any Subsidiary with or into any
                           corporation or other Person if Persons who were the
                           beneficial owners (as such term is used in Rule 13d-3
                           under the Act) of Common Stock and securities of the
                           Company entitled to vote generally in the election of
                           directors ("Voting Securities") immediately before
                           such merger, reorganization or consolidation are not,
                           immediately thereafter, the beneficial owners,
                           directly or indirectly, of at least 60% of the
                           then-outstanding common shares and the combined
                           voting power of the then-outstanding Voting
                           Securities ("Voting Power") of the corporation or
                           other Person surviving or resulting from such merger,
                           reorganization or consolidation (or the parent
                           corporation thereof) in substantially the same
                           respective proportions as their

                                       1

                           beneficial ownership, immediately before the
                           consummation of such merger, reorganization or
                           consolidation, of the then-outstanding Common Stock
                           and Voting Power of the Company;

                           (B) the sale or other disposition of all or
                           substantially all of the consolidated assets of the
                           Company, other than a sale or other disposition by
                           the Company of all or substantially all of its
                           consolidated assets to an entity of which at least
                           60% of the common shares and the Voting Power
                           outstanding immediately after such sale or other
                           disposition are then beneficially owned (as such term
                           is used in Rule 13d-3 under the Act) by shareholders
                           of the Company in substantially the same respective
                           proportions as their beneficial ownership of Common
                           Stock and Voting Power of the Company immediately
                           before the consummation of such sale or other
                           disposition; or

                           (C) a liquidation or dissolution of the Company;

                  provided, however, that if the consummation of an event
                  described in this paragraph (i) (a "Transaction") is subject
                  to an Other Party Approval Requirement (as defined below), the
                  approval of such Transaction by the shareholders of the
                  Company shall not be deemed a Change in Control until the
                  first date on which such Other Party Approval Requirement has
                  been satisfied. For this purpose, "Other Party Approval
                  Requirement" means a requirement expressly set forth in a
                  Transaction Agreement (as defined below) between the Company
                  and another Person to the effect that such Person shall obtain
                  the approval of one or more elements of the Transaction by the
                  stockholders, members, partners, or other holders of equity
                  interests of such Person (or of a parent of such Person) prior
                  to the consummation of such Transaction in order to comply
                  with the mandatory provisions of (x) the law of the
                  jurisdiction of the incorporation or organization of such
                  Person (or its parent) or (y) the articles of incorporation or
                  other charter or organizational documents of such Person (or
                  its parent) that are applicable to such Transaction. For this
                  purpose, "Transaction Agreement" means a written agreement
                  that sets forth the terms and conditions of the Transaction;

                  (ii) the following individuals cease for any reason to
                  constitute a majority of the directors of the Company then
                  serving: individuals who, on the Effective Date, constitute
                  the Board and any subsequently appointed or elected director
                  of the Company (other than a director whose initial assumption
                  of office is in connection with an actual or threatened
                  election contest, including a consent solicitation, relating
                  to the election or removal of one or more directors of the
                  Company) whose appointment or election by the Board or
                  nomination for election by the Company's shareholders was
                  approved or recommended by a vote of at least two-thirds of
                  the Company's directors then in office whose appointment,
                  election or
                                       2

                  nomination for election was previously so approved or
                  recommended or who were directors on the Effective Date; or

                  (iii) the acquisition or holding by any person, entity or
                  "group" (within the meaning of Section 13(d)(3) or 14(d)(2) of
                  the Act, other than by any Exempt Person (as such term is
                  defined below), the Company, any Subsidiary, any employee
                  benefit plan of the Company or a Subsidiary) of beneficial
                  ownership (within the meaning of Rule 13d-3 under the Act) of
                  20% or more of either the Company's then-outstanding Common
                  Stock or Voting Power; provided that:

                           (A) no such person, entity or group shall be deemed
                           to own beneficially any securities held by the
                           Company or a Subsidiary or any employee benefit plan
                           (or any related trust) of the Company or a
                           Subsidiary;

                           (B) no Change in Control shall be deemed to have
                           occurred solely by reason of any such acquisition if
                           both (x) after giving effect to such acquisition,
                           such person, entity or group has beneficial ownership
                           of less than 30% of the then-outstanding Common Stock
                           and Voting Power of the Company and (y) prior to such
                           acquisition, at least two-thirds of the directors
                           described in (and not excluded from) paragraph (ii)
                           of this definition vote to adopt a resolution of the
                           Board to the specific effect that such acquisition
                           shall not be deemed a Change in Control; and

                           (C) no Change in Control shall be deemed to have
                           occurred solely by reason of any such acquisition or
                           holding in connection with any merger, reorganization
                           or consolidation of the Company or any Subsidiary
                           which is not a Change in Control within the meaning
                           of paragraph (i)(A) above.

         Notwithstanding the occurrence of any of the events specified in
         paragraphs (i), (ii) or (iii) of this definition, no Change in Control
         shall occur with respect to any Participant if (x) the event which
         otherwise would be a Change in Control (or the transaction which
         resulted in such event) was initiated by such Participant, or was
         discussed by him with any third party, without the approval of the
         Board with respect to such Participant's initiation or discussion, as
         applicable, or (y) such Participant is, by written agreement, a
         participant on his own behalf in a transaction in which the persons (or
         their affiliates) with whom such Participant has the written agreement
         cause the Change in Control to occur and, pursuant to the written
         agreement, such Participant has an equity interest (or a right to
         acquire such equity interest) in the resulting entity.

         (f) "Code" - The Internal Revenue Code of 1986, as amended, including
         the regulations promulgated pursuant thereto.

                                       3

         (g) "Committee" - The Compensation Committee of the Board, which shall
         consist of two or more members. The members of the Committee shall be
         "non-employee directors" within the meaning of Rule 16b-3, as the same
         may be amended or supplemented from time to time, as promulgated under
         the Act.

         (h) "Common Stock" - The present shares of common stock of the Company,
         and any shares into which such shares are converted, changed or
         reclassified.

         (i) "Company" - W.W. Grainger, Inc., an Illinois corporation.

         (j) "Effective Date" - December 9, 1998.

         (k) "Employee" - Any person designated as an employee of the Company or
         a Subsidiary on the payroll records thereof.

         (l) "Exempt Person" means any one or more of the following:

                  (i) any descendant of W.W. Grainger (deceased) or any spouse,
                  widow or widower of any such descendant (any such descendants,
                  spouses, widows and widowers collectively defined as the
                  "Grainger Family Members");

                  (ii) any descendant of E.O. Slavik (deceased) or any spouse,
                  widow or widower of any such descendant (any such descendants,
                  spouses, widows and widowers collectively defined as the
                  "Slavik Family Members" and with the Grainger Family Members
                  collectively defined as the "Family Members");

                  (iii) any trust which is in existence on the Effective Date
                  and which has been established by one or more Grainger Family
                  Members, any estate of a Grainger Family Member who died on or
                  before the Effective Date, and The Grainger Foundation (such
                  trusts, estates and named entity collectively defined as the
                  "Grainger Family Entities");

                  (iv) any trust which is in existence on the Effective Date and
                  which has been established by one or more Slavik Family
                  Members, any estate of a Slavik Family Member who died on or
                  before the Effective Date, Mark IV Capital, Inc., and Mountain
                  Capital Corporation (such trusts, estates and named entities
                  collectively defined as the "Slavik Family Entities" and with
                  the Grainger Family Entities collectively defined as the
                  "Existing Family Entities");

                  (v) any estate of a Family Member who dies after the Effective
                  Date or any trust established after the Effective Date by one
                  or more Family Members or Existing Family Entities; provided
                  that one or more Family Members, Existing Family Entities or
                  charitable organizations which qualify as exempt organizations
                  under Section 501(c) of the Code

                                       4


                  ("Charitable Organizations"), collectively, are the
                  beneficiaries of at least 50% of the actuarially determined
                  beneficial interests in such estate or trust;

                  (vi) any Charitable Organization which is established by one
                  or more Family Members or Existing Family Entities (a "Family
                  Charitable Organization");

                  (vii) any corporation of which a majority of the voting power
                  and a majority of the equity interest is held, directly or
                  indirectly, by or for the benefit of one or more Family
                  Members, Existing Family Entities, estates or trusts described
                  in clause (v) above, or Family Charitable Organizations; or

                  (viii) any partnership or other entity or arrangement of which
                  a majority of the voting interest and a majority of the
                  economic interest is held, directly or indirectly, by or for
                  the benefit of one or more Family Members, Existing Family
                  Entities, estates or trusts described in clause (v) above, or
                  Family Charitable Organizations.

         (m) "Fair Market Value" - The fair market value of Common Stock on a
         particular day shall be the closing price of the Common Stock on the
         New York Stock Exchange, or any other national stock exchange on which
         the Common Stock is traded, on the last preceding trading day on which
         such Common Stock was traded.

         (n) "Option" - The right to purchase Common Stock at a stated price for
         a specified period of time. For purposes of the Plan, the option is a
         non-qualified stock option.

         (o) "Other Stock Based Award" - An award under Section 9 that is valued
         in whole or in part by reference to, or is otherwise based on, the
         Common Stock.

         (p) "Participant" - Any Employee designated by the Committee to
         participate in the Plan.

         (q) "Person" - Any individual, corporation, partnership, limited
         liability company, sole proprietorship, trust or other entity.

         (r) "Period of Restriction" - The period during which Shares of
         Restricted Stock or Phantom Stock rights are subject to forfeiture or
         restrictions on transfer pursuant to Section 8 of the Plan.

         (s) "Phantom Stock" - A right to receive payment from the Company in
         cash, stock, or in combination thereof, in an amount determined by the
         Fair Market Value.

                                       5

         (t) "Restricted Stock" - Shares granted to a Participant which are
         subject to restrictions on transferability pursuant to Section 8 of the
         Plan.

         (u) "Shares" - Shares of Common Stock.

         (v) "Stock Appreciation Right" or "SAR" - The right to receive a
         payment from the Company in cash, Common Stock, or in combination
         thereof, equal to the excess of the Fair Market Value of a share of
         Common Stock on the date of exercise over a specified price fixed by
         the Committee, but subject to such maximum amounts as the Committee may
         impose.

         (w) "Subsidiary" - Any corporation, partnership, joint venture, limited
         liability company, or other entity in which the Company directly or
         indirectly owns securities representing a majority of the aggregate
         voting power.

2.2. Other Definitions. In addition to the above definitions, certain words and
phrases used in the Plan and any Agreement may be defined elsewhere in the Plan
or in such Agreement.

Section 3.  Common Stock.

3.1. Number of Shares. Subject to the provisions of Section 3.3, the number of
Shares which may be issued or sold or for which Options or Stock Appreciation
Rights may be granted under the Plan may not exceed 8,056,828 Shares.*
Notwithstanding the foregoing, the total number of Shares with respect to which
Options or Stock Appreciation Rights may be granted to any Participant shall not
exceed 800,000 Shares**(proportionately adjusted pursuant to Section
3.3) in any calendar year.

3.2. Re-usage. If an Option or SAR expires or is terminated, surrendered, or
canceled without having been fully exercised, if Restricted Stock is forfeited
or cancelled, if Phantom Stock is forfeited or cancelled, if Shares otherwise
deliverable upon (i) exercise of Options, (ii) exercise of SARs, (iii) vesting
of Restricted Stock, or (iv) settlement of Phantom Stock, are not delivered by
reason of payments of the Option exercise price pursuant to Section 6.5(b)
hereunder or withholdings of Shares in satisfaction of tax obligations under
Section 14.4 hereunder, or if any other grant results in any Shares not being
delivered, the Shares covered by such Option, SAR, grant of Restricted Stock,
grant of Phantom Stock or other grant, as the case may be, shall again be
available for Awards under the Plan.

3.3. Adjustments. In the event of any change in the outstanding Common Stock by
reason of a stock split, stock dividend, combination, reclassification or
exchange of Shares, recapitalization, merger, consolidation or other similar
event, the number of

- --------
* As adjusted to reflect (i) the number of shares remaining available for
grants under the Company's Restated 1975 Non-Qualified Stock Option Plan, (ii)
the Company's 1991 two-for-one stock split and (iii) the Company's 1998
two-for-one stock split.

** As adjusted to reflect the Company's 1998 two-for-one stock split.


                                       6

SARs and the number of Shares available for Options, grants of Restricted Stock,
grants of Phantom Stock, and Other Stock-Based Awards and the number of Shares
subject to outstanding Options, SARs, grants of Restricted Stock, grants of
Phantom Stock, and Other Stock-Based Awards, and the price thereof, and the Fair
Market Value, as applicable, shall be appropriately adjusted by the Committee in
its sole discretion and any such adjustment shall be binding and conclusive on
all parties. Any fractional Shares resulting from any such adjustment shall be
disregarded.

Section 4.  Eligibility and Participation.

Participants in the Plan shall be those key employees selected by the Committee
to participate in the Plan who hold positions of responsibility and whose
participation in the Plan the Committee or management of the Company determines
to be in the best interests of the Company.

Section 5.  Administration.

5.1. Committee. The Plan shall be administered by the Committee. The members of
the Committee shall be appointed by and shall serve at the pleasure of the
Board, which may from time to time change the Committee's membership.

5.2. Authority. The Committee shall have the sole and complete authority to:

         (a) determine the individuals to whom Awards are granted, the type and
         amounts of awards to be granted and the time of all such grants;

         (b) determine the terms, conditions and provisions of, and restrictions
         relating to, each Award granted;

         (c) interpret and construe the Plan and all Agreements;

         (d) prescribe, amend and rescind rules and regulations relating to the
         Plan;

         (e) determine the content and form of all Agreements;

         (f) determine all questions relating to Awards under the Plan;

         (g) maintain accounts, records and ledgers relating to Awards;

         (h) maintain records concerning its decisions and proceedings;

         (i) employ agents, attorneys, accountants or other persons for such
         purposes as the Committee considers necessary or desirable;

         (j) do and perform all acts which it may deem necessary or appropriate
         for the administration of the Plan and to carry out the objectives of
         the Plan.


                                       7

5.3. Determinations. All determinations, interpretations, or other actions made
or taken by the Committee pursuant to the provisions of the Plan shall be final,
binding, and conclusive for all purposes and upon all persons.

5.4. Delegation. Except as required by Rule 16b-3 promulgated under the Act (and
any successor to such Rule) with respect to the grant of Awards to Participants
who are subject to Section 16 of the Act, the Committee may delegate to
appropriate senior officers of the Company its duties under the Plan pursuant to
such conditions and limitations as the Committee may establish.

Section 6.  Stock Options.

6.1. Type of Option. It is intended that only non-qualified stock options may be
granted by the Committee under this section of the Plan.

6.2. Grant of Option. An Option may be granted to Participants at such time or
times as shall be determined by the Committee. Each Option shall be evidenced by
an Option Agreement that shall specify the exercise price, the duration of the
Option, the number of Shares to which the Option applies, and such other terms
and conditions not inconsistent with the Plan as the Committee shall determine.

6.3. Option Price. The per share option price shall be at least 100% of the Fair
Market Value at the time the Option is granted.

6.4. Exercise of Options. Options awarded under the Plan shall be exercisable at
such times and shall be subject to such restrictions and conditions, including
the performance of a minimum period of service after the grant, as the Committee
may impose, which need not be uniform for all participants; provided, however,
that no Option shall be exercisable for more than 10 years after the date on
which it is granted.

6.5. Payment. Options shall be exercised by the delivery of a written notice to
the Company, setting forth the number of Shares with respect to which the Option
is to be exercised, and accompanied by full payment for the Shares. Upon the
exercise of any Option, the exercise price shall be payable by any one or
combination of the following means:

         (a) cash or its equivalent,

         (b) with the prior approval of the Committee, delivery of Shares
         already owned by the participant and valued at the Fair Market Value
         thereof at the time of exercise,

         (c) with the prior approval of the Committee, a cashless exercise
         through a broker-dealer approved for this purpose by the Company.

                                       8

6.6. Rights as a Shareholder. Until the exercise of an Option and the issuance
of the Shares in respect thereof, a Participant shall have no rights as a
Shareholder with respect to the Shares covered by such Option.

Section 7.  Stock Appreciation Rights.

7.1. Grant of Stock Appreciation Rights. Stock Appreciation Rights may be
granted to Participants at such time or times as shall be determined by the
Committee and shall be subject to such terms and conditions as the Committee may
decide. A grant of an SAR shall be made pursuant to a written Agreement
containing such provisions not inconsistent with the Plan as the Committee shall
approve.

7.2. Exercise of SARs. SARs may be exercised at such times and subject to such
conditions, including the performance of a minimum period of service, as the
Committee shall impose. SARs which are granted in tandem with an Option may only
be exercised upon the surrender of the right to exercise an equivalent number of
Shares under the related Option and may be exercised only with respect to the
Shares for which the related Option is then exercisable. Notwithstanding any
other provision of the Plan, the Committee may impose conditions on the exercise
of an SAR, including, without limitation, the right of the Committee to limit
the time of exercise to specified periods.

7.3. Payment of SAR Amount. Upon exercise of an SAR, the Participant shall be
entitled to receive payment of an amount determined by multiplying:

         (a) any increase in the Fair Market Value of a Share at the date of
         exercise over the Fair Market Value of a Share at the date of grant, by

         (b) the number of Shares with respect to which the SAR is exercised;

provided, however, that at the time of grant, the Committee may establish, in
its sole discretion, a maximum amount per Share which will be payable upon
exercise of an SAR.

7.4. Method of Payment. Subject to the discretion of the Committee, which may be
exercised at the time of grant, the time of payment, or any other time, payment
of an SAR may be made in cash, Shares or any combination thereof.

Section 8.  Restricted Stock or Phantom Stock.

8.1. Grant of Restricted Stock or Phantom Stock. The Committee may grant Shares
of Restricted Stock or Phantom Stock rights to such Participants at such times
and in such amounts, and subject to such other terms and conditions not
inconsistent with the Plan as it shall determine. Each grant of Restricted Stock
or Phantom Stock rights shall be evidenced by a written Agreement setting forth
the terms of such Award.

8.2. Restrictions on Transferability. Restricted Stock or Phantom Stock rights
may not be sold, transferred, pledged, assigned, or otherwise alienated until
such time, or until


                                       9


the satisfaction of such conditions as shall be determined by the Committee
(including without limitation, the satisfaction of performance goals, the
occurrence of such events as shall be determined by the Committee, or pursuant
to a determination under Section 14.1). At the end of the period of restriction
applicable to any Restricted Stock, such Shares will be transferred to the
Participant free of all restrictions. At the end of the restriction period
applicable to Phantom Stock, payment shall be made in the manner set forth in
the applicable award agreement.

8.3. Rights as a Shareholder. Unless otherwise determined by the Committee at
the time of grant, Participants holding Restricted Stock granted hereunder may
exercise full voting rights and other rights as a Shareholder with respect to
those Shares during the period of restriction. Holders of Phantom Stock rights
shall not be deemed Shareholders and, except to the extent provided in
accordance with the Plan, shall have no rights related to any Shares.

8.4. Dividends and Other Distributions. Unless otherwise determined by the
Committee at the time of grant, Participants holding Restricted Stock shall be
entitled to receive all dividends and other distributions paid with respect to
those Shares, provided that if any such dividends or distributions are paid in
shares of stock, such shares shall be subject to the same forfeiture
restrictions and restrictions on transferability as apply to the Restricted
Stock with respect to which they were paid. Unless otherwise determined by the
Committee at the time of grant, Participants holding shares of Phantom Stock
shall be entitled to receive cash payments equal to any cash dividends and other
distributions paid with respect to a corresponding number of Shares; provided,
however, that if any such dividends or distributions are paid in Shares, the
Fair Market Value of such Shares shall be converted into shares of Phantom Stock
which shall be subject to the same forfeiture restrictions and restrictions on
transferability as apply to the shares of Phantom Stock with respect to which
they are paid.

8.5. Payment of Phantom Stock Rights. The Committee may, at the time of grant,
provide for other methods of payment in respect of Phantom Stock rights in cash,
Shares, partially in cash and partially in Shares, or in any other manner not
inconsistent with this Plan.

Section 9.  Other Stock Based Awards and Other Benefits.

9.1. Other Stock Based Awards. The Committee shall have the right to grant Other
Stock Based Awards which may include, without limitation, the grant of Shares
based on certain conditions, the payment of cash based on the performance of the
Common Stock, and the payment of Shares in lieu of cash under other Company
incentive bonus programs. Payment under or settlement of any such Awards shall
be made in such manner and at such times as the Committee may determine.

9.2. Other Benefits. The Committee shall have the right to provide types of
Awards under the Plan in addition to those specifically listed utilizing shares
of stock or cash, or a combination thereof, if the Committee believes that such
Awards would further the purposes for which the Plan was established. Payment
under or settlement of any such

                                       10



Awards shall be made in such manner and at such times as the Committee may
determine.

Section 10.  Amendment, Modification, and Termination of Plan.

The Board at any time may terminate or suspend the Plan, and from time to time
may amend or modify the Plan. No amendment, modification, or termination of the
Plan shall in any manner adversely affect any Award theretofore granted under
the Plan to a Participant without the consent of such Participant.

Section 11.  Termination of Employment.

11.1. Termination of Employment Due to Retirement. Unless otherwise determined
by the Committee at the time of grant, in the event a Participant's employment
terminates by reason of retirement, any Option or SAR granted to such
Participant which is then outstanding may be exercised at any time prior to the
expiration of the term of the Option or SAR or within six (6) years following
the Participant's termination of employment, whichever period is shorter, and
any Restricted Stock, Phantom Stock rights, or other Award then outstanding for
which any restriction has not lapsed prior to the effective date of retirement
shall be forfeited.

11.2. Termination of Employment Due to Death or Disability. Unless otherwise
determined by the Committee at the time of grant, in the event a Participant's
employment is terminated by reason of death or disability, any Option or SAR
granted to such Participant which is then outstanding may be exercised by the
Participant, the Participant's designated beneficiary, the Participant's legal
representative or other person entitled thereto, at any time prior to the
expiration date of the term of the Option or SAR or within six (6) years
following the Participant's termination of employment, whichever period is
shorter, and any Restricted Stock, Phantom Stock rights, or other Award then
outstanding shall become nonforfeitable and shall become transferable or
payable, as the case may be, as though any restriction had expired.

11.3. Termination of Employment for Any Other Reason. Unless otherwise
determined by the Committee at the time of grant, in the event the employment of
the Participant shall terminate for any reason other than misconduct or one
described in Section 11.1 or 11.2, any Option or SAR granted to such Participant
which is then outstanding may be exercised by the Participant at any time prior
to the expiration date of the term of the Option or SAR or within three (3)
months following the Participant's termination of employment, whichever period
is shorter; any Restricted Stock, Phantom Stock rights, or other Award then
outstanding for which any restriction has not lapsed prior to the date of
termination of employment shall be forfeited upon termination of employment. If
the employment of a Participant is terminated by the Company or a Subsidiary by
reason of the Participant's misconduct, any outstanding Option or SAR shall
cease to be exercisable on the date of the Participant's termination of
employment; any Restricted Stock, Phantom Stock rights, or other Award then
outstanding for which any restriction has not lapsed prior to the date of
termination of employment shall be forfeited upon termination of employment. As
used herein, "misconduct" means that the


                                       11

Participant has engaged, or intends to engage, in competition with the Company
or a Subsidiary, has induced any customer of the Company or a Subsidiary to
breach any contract with the Company or a Subsidiary, has made any unauthorized
disclosure of any of the secrets or confidential information of the Company or a
Subsidiary, has committed an act of embezzlement, fraud, or theft with respect
to the property of the Company or a Subsidiary, or has deliberately disregarded
the rules of the Company or a Subsidiary in such a manner as to cause any loss,
damage, or injury to, or otherwise endanger the property, reputation, or
employees of the Company or a Subsidiary. The Committee shall determine whether
a Participant's employment is terminated by reason of misconduct.

11.4. Accrual of Right at Date of Termination. The Participant shall have the
right to exercise an Option or SAR as indicated in Sections 11.1, 11.2, and 11.3
only to the extent the Participant's right to exercise such Option or SAR had
accrued at the date of termination of employment pursuant to the terms of the
Option or SAR Agreement and had not previously been exercised.

Section 12.  Change in Control.

Except as otherwise provided in an Agreement, if a Change in Control occurs,
then:

         (i) the Participant's Restricted Stock, Phantom Stock, or Other
         Stock-Based Awards that were forfeitable shall, unless otherwise
         determined by the Committee, become nonforfeitable and, to the extent
         applicable, shall be converted into Shares; and

         (ii) any unexercised Option or SAR, whether or not exercisable on the
         date of such Change in Control, shall thereupon be fully exercisable
         and may be exercised, in whole or in part.

Section 13.  Effect of Disposition of Facility or Operating Unit.

In the event that the Company or any of its Subsidiaries closes or disposes of
the facility at which a Participant is located or the Company or any of its
Subsidiaries diminish or eliminate ownership interests in any operating unit of
the Company or any of its Subsidiaries so that such operating unit ceases to be
majority owned by the Company or any of its Subsidiaries, then, with respect to
Awards held by Participants who subsequent to such event will not be employees
of the Company or any of its Subsidiaries, the Committee may (i) accelerate the
exercisability of Awards to the extent not yet otherwise exercisable or remove
any restrictions applicable to any Awards and (ii) extend the period during
which Awards will be exercisable to a date subsequent to the date when such
Awards would otherwise have expired by reason of the termination of such
Participant's employment with the Company or any of its Subsidiaries (but in no
event to a date later than the expiration date of the Awards or the fifth
anniversary of the transaction in which such facility closes or operating unit
ceases). If the Committee takes no special action with respect to any
disposition of a facility or an operating unit, then any

                                       12

cessation of employment resulting from such disposition will be treated as an
ordinary cessation of employment as described in Section 11.

Section 14.  Miscellaneous Provisions.

14.1. Non-transferability of Awards. Unless otherwise determined by the
Committee, whether at the time of grant or thereafter, and except as provided in
Sections 11.2 and 14.2, no Awards granted under the Plan shall be assignable,
transferable, or payable to or exercisable by anyone other than the Participant
to whom it was granted.

14.2 Beneficiary Designation. Unless otherwise determined by the Committee,
whether at the time of grant or thereafter, each Participant may from time to
time name any beneficiary or beneficiaries (who may be named contingently or
successively) to whom any benefit under the Plan is to be paid in the event of
such Participant's death before he or she receives any or all of such benefit.
Each such designation shall revoke all prior designations by such Participant,
shall be in a form prescribed by the Company, and will be effective only when
filed by the Participant in writing with the Company during the Participant's
lifetime.

14.3. No Guarantee of Employment or Participation. Nothing in the Plan shall
interfere with or limit in any way the right of the Company or a Subsidiary to
terminate any Participant's employment at any time, nor confer upon any
Participant any right to continue in the employment of the Company or a
Subsidiary. No employee shall have a right to be selected as a Participant, or,
having been so selected, to receive any future awards.

14.4. Tax Withholding. The Company shall have the authority to withhold, or
require a Participant to remit to the Company an amount sufficient to satisfy
federal, state, and local withholding tax requirements on any Award under the
Plan, and the Company may defer payment of cash or issuance of Shares until such
requirements are satisfied. The Committee may, in its discretion, permit a
Participant to elect, subject to such conditions as the Committee shall require,
to have Shares otherwise issuable under the Plan withheld by the Company and
having a Fair Market Value sufficient to satisfy all or part of the
Participant's estimated total federal, state, and local tax obligation
associated with the transaction.

14.5. Governing Law. The Plan and all determinations made and actions taken
pursuant hereto, to the extent not otherwise governed by the Code or Act, shall
be governed by the law of the State of Illinois and construed in accordance
therewith.

14.6. Effectiveness of Plan. The Plan became effective upon its approval by the
shareholders of the Company on April 25, 1990; provided, however, that no Award
requiring the issuance of Shares shall be exercised or paid out unless at the
time of such exercise or payout (i) such Shares are covered by a currently
effective registration statement filed under the Securities Act of 1933, as
amended, if one is then required, or in the sole opinion of the Company and its
counsel such issuance of Shares is otherwise exempt from the registration
requirements of such act, and (ii) such Shares

                                       13

are listed on any securities exchange upon which the Common Stock of the Company
is listed.

14.7. Termination of the 1975 Plan. The Company's Restated 1975 Non-Qualified
Stock Option Plan shall be terminated as of the date of Shareholder approval of
this Plan, provided, however, that such termination shall not affect any Options
or Stock Appreciation Rights outstanding thereunder, all of which shall remain
subject to and be governed by such plan.

14.8. Unfunded Plan. Insofar as the Plan provides for Awards of cash, Shares,
rights or a combination thereof, the Plan shall be unfunded. The Company may
maintain bookkeeping accounts with respect to Participants who are entitled to
Awards under the Plan, but such accounts shall be used merely for bookkeeping
convenience. The Company shall not be required to segregate any assets that may
at any time be represented by interests in Awards nor shall the Plan be
construed as providing for any such segregation. None of the Committee, the
Company or Board shall be deemed to be a trustee of any cash, Shares or rights
to Awards granted under the Plan. Any liability of the Company to any
Participant with respect to an Award or any rights thereunder shall be based
solely upon any contractual obligations that may be created by the Plan and any
Agreement, and no obligation of the Company under the Plan shall be deemed to be
secured by any pledge or other encumbrance on any property of the Company.

14.9. Deferrals. The Committee may permit a Participant to defer such
Participant's receipt of the payment of cash or the delivery of Shares that
would otherwise be due to such Participant by virtue of the exercise of an
Option or SAR, the lapse or waiver of restrictions with respect to Restricted
Stock or Phantom Stock, or the satisfaction of any requirements or goals with
respect to Other Stock-Based Awards. If any such deferral election is permitted,
the Committee shall, in its sole discretion, establish rules and procedures for
such payment deferrals and the manner in which such deferral shall be
accomplished.

                                       14

EX-10

                                            Exhibit 10(iv) to the Annual Report
                                            on Form 10-K of W.W. Grainger, Inc.
                                            for the year ended December 31, 2002



                                  GRAINGER(R)

                                ---------------

                       2001 LONG TERM STOCK INCENTIVE PLAN

                            AS AMENDED MARCH 5, 2003

                                ---------------






                               W.W. Grainger, Inc.
                              100 Grainger Parkway
                        Lake Forest, Illinois 60045-5201
                                 (847) 535-1000




                               W.W. GRAINGER, INC.

                       2001 LONG TERM STOCK INCENTIVE PLAN


Section 1.  Objective.

The objective of the 2001 Long Term Stock Incentive Plan (the "Plan") is to
attract and retain highly qualified executives and other employees, to advance
the interests of the Company by giving Employees a stake in the Company's future
growth and success, and to strengthen the alignment of interests between
Employees and the Company's shareholders through the ownership of shares of the
Company's Common Stock.

Section 2.  Definitions.

         2.1. General Definitions. The following words and phrases, when used
         herein, shall have the following meanings:

                  (a) "Act" - The Securities Exchange Act of 1934, as amended.

                  (b) "Award" - The grant of any Option, Stock Appreciation
                  Right, Share of Restricted Stock, Share of Phantom Stock,
                  Share of Stock, Other Stock-Based Award, or any combination
                  thereof.

                  (c) "Board" - The Board of Directors of the Company.

                  (d) "Change in Control" - Any one or more of the following
                  events:

                           (i) approval by the shareholders of the Company of:

                                    (A) any merger, reorganization or
                                    consolidation of the Company or any
                                    Subsidiary with or into any corporation or
                                    other Person if Persons who were the
                                    beneficial owners (as such term is used in
                                    Rule 13d-3 under the Act) of Common Stock
                                    and securities of the Company entitled to
                                    vote generally in the election of directors
                                    ("Voting Securities") immediately before
                                    such merger, reorganization or consolidation
                                    are not, immediately thereafter, the
                                    beneficial owners, directly or indirectly,
                                    of at least 60% of the then-outstanding
                                    common shares and the combined voting power
                                    of the then-outstanding Voting Securities
                                    ("Voting Power") of the corporation or other
                                    Person surviving or resulting from such
                                    merger, reorganization or consolidation (or
                                    the parent corporation thereof) in
                                    substantially the same respective
                                    proportions as their beneficial ownership,
                                    immediately before the consummation of such
                                    merger, reorganization or



                                       1

                                    consolidation, of the then-outstanding
                                    Common Stock and Voting Power of the
                                    Company;

                                    (B) the sale or other disposition of all or
                                    substantially all of the consolidated assets
                                    of the Company, other than a sale or other
                                    disposition by the Company of all or
                                    substantially all of its consolidated assets
                                    to an entity of which at least 60% of the
                                    common shares and the Voting Power
                                    outstanding immediately after such sale or
                                    other disposition are then beneficially
                                    owned (as such term is used in Rule 13d-3
                                    under the Act) by shareholders of the
                                    Company in substantially the same respective
                                    proportions as their beneficial ownership of
                                    Common Stock and Voting Power of the Company
                                    immediately before the consummation of such
                                    sale or other disposition; or

                                    (C) a liquidation or dissolution of the
                                    Company;

                           provided, however, that if the consummation of an
                           event described in this paragraph (i) (a
                           "Transaction") is subject to an Other Party Approval
                           Requirement (as defined below), the approval of such
                           Transaction by the shareholders of the Company shall
                           not be deemed a Change in Control until the first
                           date on which such Other Party Approval Requirement
                           has been satisfied. For this purpose, "Other Party
                           Approval Requirement" means a requirement expressly
                           set forth in a Transaction Agreement (as defined
                           below) between the Company and another Person to the
                           effect that such Person shall obtain the approval of
                           one or more elements of the Transaction by the
                           stockholders, members, partners, or other holders of
                           equity interests of such Person (or of a parent of
                           such Person) prior to the consummation of such
                           Transaction in order to comply with the mandatory
                           provisions of (x) the law of the jurisdiction of the
                           incorporation or organization of such Person (or its
                           parent) or (y) the articles of incorporation or other
                           charter or organizational documents of such Person
                           (or its parent) that are applicable to such
                           Transaction. For this purpose, "Transaction
                           Agreement" means a written agreement that sets forth
                           the terms and conditions of the Transaction;

                           (ii) the following individuals cease for any reason
                           to constitute a majority of the directors of the
                           Company then serving: individuals who, on the
                           Effective Date, constitute the Board and any
                           subsequently appointed or elected director of the
                           Company (other than a director whose initial
                           assumption of office is in connection with an actual
                           or threatened election contest, including a consent
                           solicitation, relating to the election or removal of
                           one or more

                                       2

                           directors of the Company) whose appointment or
                           election by the Board or nomination for election by
                           the Company's shareholders was approved or
                           recommended by a vote of at least two-thirds of the
                           Company's directors then in office whose appointment,
                           election or nomination for election was previously so
                           approved or recommended or who were directors on the
                           Effective Date; or

                           (iii) the acquisition or holding by any person,
                           entity or "group" (within the meaning of Section
                           13(d)(3) or 14(d)(2) of the Act, other than by any
                           Exempt Person (as such term is defined below), the
                           Company, any Subsidiary, any employee benefit plan of
                           the Company or a Subsidiary) of beneficial ownership
                           (within the meaning of Rule 13d-3 under the Act) of
                           20% or more of either the Company's then-outstanding
                           Common Stock or Voting Power; provided that:

                                    (A) no such person, entity or group shall be
                                    deemed to own beneficially any securities
                                    held by the Company or a Subsidiary or any
                                    employee benefit plan (or any related trust)
                                    of the Company or a Subsidiary;

                                    (B) no Change in Control shall be deemed to
                                    have occurred solely by reason of any such
                                    acquisition if both (x) after giving effect
                                    to such acquisition, such person, entity or
                                    group has beneficial ownership of less than
                                    30% of the then-outstanding Common Stock and
                                    Voting Power of the Company and (y) prior to
                                    such acquisition, at least two-thirds of the
                                    directors described in (and not excluded
                                    from) paragraph (ii) of this definition vote
                                    to adopt a resolution of the Board to the
                                    specific effect that such acquisition shall
                                    not be deemed a Change in Control; and

                                    (C) no Change in Control shall be deemed to
                                    have occurred solely by reason of any such
                                    acquisition or holding in connection with
                                    any merger, reorganization or consolidation
                                    of the Company or any Subsidiary which is
                                    not a Change in Control within the meaning
                                    of paragraph (i)(A) above.

                  Notwithstanding the occurrence of any of the events specified
                  in paragraphs (i), (ii) or (iii) of this definition, no Change
                  in Control shall occur with respect to any Participant if (x)
                  the event which otherwise would be a Change in Control (or the
                  transaction which resulted in such event) was initiated by
                  such Participant, or was discussed by him with any third
                  party, without the approval of the Board with respect to such
                  Participant's initiation or discussion, as applicable, or (y)
                  such Participant is, by written agreement, a participant on
                  his own behalf in a transaction in which the

                                       3

                  persons (or their affiliates) with whom such Participant has
                  the written agreement cause the Change in Control to occur
                  and, pursuant to the written agreement, such Participant has
                  an equity interest (or a right to acquire such equity
                  interest) in the resulting entity.

                  (e) "Code" - The Internal Revenue Code of 1986, as amended,
                  including the regulations thereunder, as amended from time to
                  time.

                  (f) "Committee" - The Compensation Committee of the Board or
                  such other Committee of the Board appointed by the Board to
                  administer the Plan. No Employee may serve as a member of the
                  Committee. If the Committee does not exist or cannot function
                  for any reason, the Board may take any action under the Plan
                  that would otherwise be the responsibility of the Committee.

                  (g) "Common Stock" - The shares of common stock of the
                  Company, and any shares into which such shares are converted,
                  changed or reclassified.

                  (h) "Company" - W.W. Grainger, Inc., an Illinois corporation.

                  (i) "Disability" or "Disabled" - A Participant's inability to
                  engage in any substantial gainful activity by reason of any
                  medically determinable physical or mental impairment that can
                  be expected to result in death or that has lasted for a
                  continuous period of not less than twelve (12) months.

                  (j) "Effective Date" - The date the Plan is approved by the
                  Company's shareholders.

                  (k) "Employee" - Any person designated as an employee of the
                  Company or a Subsidiary on the payroll records thereof. An
                  Employee shall not include any individual during any period he
                  or she is classified or treated by the Company or a Subsidiary
                  as an independent contractor, a consultant, or any employee of
                  an employment, consulting, or temporary agency or any other
                  entity other than the Company or a Subsidiary, without regard
                  to whether such individual is subsequently determined to have
                  been, or is subsequently retroactively reclassified as, a
                  common-law employee of the Company or a Subsidiary during such
                  period.

                  (l) "Exempt Person" - Any one or more of the following:

                           (i) any descendant of W.W. Grainger (deceased) or any
                           spouse, widow or widower of any such descendant (any
                           such descendants, spouses, widows and widowers
                           collectively defined as the "Grainger Family
                           Members");

                                       4

                           (ii) any descendant of E.O. Slavik (deceased) or any
                           spouse, widow or widower of any such descendant (any
                           such descendants, spouses, widows and widowers
                           collectively defined as the "Slavik Family Members"
                           and with the Grainger Family Members collectively
                           defined as the "Family Members");

                           (iii) any trust which is in existence on the
                           Effective Date and which has been established by one
                           or more Grainger Family Members, any estate of a
                           Grainger Family Member who died on or before the
                           Effective Date, and The Grainger Foundation (such
                           trusts, estates and named entity collectively defined
                           as the "Grainger Family Entities");

                           (iv) any trust which is in existence on the Effective
                           Date and which has been established by one or more
                           Slavik Family Members, any estate of a Slavik Family
                           Member who died on or before the Effective Date, Mark
                           IV Capital, Inc., and Mountain Capital Corporation
                           (such trusts, estates and named entities collectively
                           defined as the "Slavik Family Entities" and with the
                           Grainger Family Entities collectively defined as the
                           "Existing Family Entities");

                           (v) any estate of a Family Member who dies after the
                           Effective Date or any trust established after the
                           Effective Date by one or more Family Members or
                           Existing Family Entities; provided that one or more
                           Family Members, Existing Family Entities or
                           charitable organizations which qualify as exempt
                           organizations under Section 501(c) of the Code
                           ("Charitable Organizations"), collectively, are the
                           beneficiaries of at least 50% of the actuarially
                           determined beneficial interests in such estate or
                           trust;

                           (vi) any Charitable Organization which is established
                           by one or more Family Members or Existing Family
                           Entities (a "Family Charitable Organization");

                           (vii) any corporation of which a majority of the
                           voting power and a majority of the equity interest is
                           held, directly or indirectly, by or for the benefit
                           of one or more Family Members, Existing Family
                           Entities, estates or trusts described in clause (v)
                           above, or Family Charitable Organizations; or

                           (viii) any partnership or other entity or arrangement
                           of which a majority of the voting interest and a
                           majority of the economic interest is held, directly
                           or indirectly, by or for the benefit of one or more
                           Family Members, Existing Family Entities, estates or
                           trusts described in clause (v) above, or Family
                           Charitable Organizations.

                                       5

                  (m) "Fair Market Value" - The closing price of a share of
                  Common Stock as reported in the Composite Tape for New York
                  Stock Exchange listed stocks or any other national stock
                  exchange or national market system on which the Common Stock
                  is then traded, on the last day on which a trade occurred
                  preceding the relevant date, or as otherwise determined by the
                  Committee.

                  (n) "Option" - The right to purchase a specified number of
                  shares of Common Stock at a stated price for a specified
                  period of time. For purposes of the Plan, the option is a
                  non-qualified stock option.

                  (o) "Other Stock-Based Award" - An award under Section 10 that
                  is valued in whole or in part by reference to, or is otherwise
                  based on, the Common Stock.

                  (p) "Participant" - Any Employee designated by the Committee
                  to participate in the Plan.

                  (q) "Person" - Any individual, corporation, partnership,
                  limited liability company, sole proprietorship, trust or other
                  entity.

                  (r) "Period of Restriction" - The period during which Shares
                  of Restricted Stock or Phantom Stock rights are subject to
                  forfeiture or restrictions on transfer pursuant to Section 8
                  of the Plan.

                  (s) "Phantom Stock" - A right to receive payment from the
                  Company in cash, stock, or any combination thereof, in an
                  amount determined by the Fair Market Value of the Common
                  Stock.

                  (t) "Restricted Stock" - Shares granted to a Participant which
                  are subject to restrictions on transferability pursuant to
                  Section 8 of the Plan.

                  (u) "Shares" - Shares of Common Stock.

                  (v) "Stock" - An Award of Shares granted under Section 9 of
                  the Plan.

                  (w) "Stock Appreciation Right" or "SAR" - The right to receive
                  a payment from the Company in cash, Common Stock, or any
                  combination thereof, equal to the excess of the Fair Market
                  Value of a share of Common Stock on the date of exercise over
                  a specified price fixed by the Committee, but subject to such
                  maximum amounts as the Committee may impose.

                  (x) "Subsidiary" - Any corporation, partnership, joint
                  venture, limited liability company, or other entity in which
                  the Company or any successor to the Company directly or
                  indirectly owns securities representing a majority of the
                  aggregate voting power or profits interest.

                                       6

         2.2. Other Definitions. In addition to the above definitions, certain
         words and phrases used in the Plan or any certificate, notice or
         agreement evidencing an Award may be defined elsewhere in the Plan or
         in such certificate, notice or agreement.

Section 3.  Shares Subject to the Plan.

         3.1. Number of Shares Available for Awards. Subject to the provisions
         of Section 3.3, the number of Shares deliverable under the Plan may not
         exceed 6,000,000 Shares, provided, however, that the number of Shares
         of Stock and Shares of Restricted Stock delivered under the Plan other
         than with respect to grants of Options or SARs may not exceed 10% of
         the total. Notwithstanding the foregoing, the total number of Shares
         with respect to which Options or Stock Appreciation Rights may be
         granted to any Participant shall not exceed 600,000 Shares
         (proportionately adjusted pursuant to Section 3.3) in any calendar
         year.

         3.2 Re-usage. If an Option or SAR expires or is terminated,
         surrendered, or canceled without having been fully exercised, if
         Restricted Stock is forfeited or cancelled, if Phantom Stock is
         forfeited or cancelled, if Shares otherwise deliverable upon (i)
         exercise of Options, (ii) exercise of SARs, (iii) vesting of Restricted
         Stock, or (iv) settlement of Phantom Stock, are not delivered by reason
         of payments of the Option exercise price pursuant to Section 6.5(b)
         hereunder or withholdings of Shares in satisfaction of tax obligations
         under Section 15.4 hereunder, or if any other grant results in any
         Shares not being delivered, the Shares covered by such Option, SAR,
         grant of Restricted Stock, grant of Phantom Stock or other grant, as
         the case may be, shall again be available for Awards under the Plan.

         3.3 Adjustments. Subject to Section 5.3, in the event of any change in
         the outstanding Common Stock by reason of a stock split, stock
         dividend, combination, reclassification or exchange of Shares,
         recapitalization, merger, consolidation or other similar event, the
         number of SARs and the number of Shares available for Options, grants
         of Restricted Stock, grants of Phantom Stock, and Other Stock-Based
         Awards and the number of Shares subject to outstanding Options, SARs,
         grants of Restricted Stock, grants of Phantom Stock, and Other
         Stock-Based Awards, and the price thereof, and the Fair Market Value,
         as applicable, shall be appropriately adjusted by the Committee in its
         sole discretion and any such adjustment shall be binding and conclusive
         on all parties. Any fractional Shares resulting from any such
         adjustment shall be disregarded.

Section 4.  Eligibility and Participation.

The Committee may grant an Award only to an Employee who is actively employed by
the Company or any Subsidiary on the date the Award is made. The granting of
Awards

                                       7

under the terms of this Plan is made at the discretion of the Committee and does
not entitle a Participant to receive future Awards. The adoption of this Plan
shall not be deemed to give any Employee any right to be granted an Award,
except to the extent as may be determined by the Committee.

Section 5.        Administration.

         5.1. Committee. The Plan and all Awards granted pursuant hereto shall
         be administered by the Committee, which has sole and absolute
         discretion with respect to all decisions and determinations pertaining
         thereto. The members of the Committee shall be appointed by and shall
         serve at the pleasure of the Board, which may from time to time change
         the Committee's membership.

         5.2. Authority. The Committee shall have the sole and complete
         authority to:

                  (a) determine the individuals to whom Awards are granted, the
                  type and amounts of awards to be granted and the time of all
                  such grants;

                  (b) determine the terms, conditions and provisions of, and
                  restrictions relating to, each Award granted;

                  (c) interpret and construe the Plan and all Awards and any
                  certificates, notices or agreements relating thereto;

                  (d) prescribe, amend and rescind rules, guidelines and
                  regulations relating to the Plan;

                  (e) determine the content and form of all certificates,
                  notices and agreements relating to Awards;

                  (f) determine all questions relating to Awards under the Plan;

                  (g) maintain accounts, records and ledgers relating to Awards;

                  (h) maintain records concerning its decisions and proceedings;

                  (i) employ agents, attorneys, accountants or other persons for
                  such purposes as the Committee considers necessary or
                  desirable; and

                  (j) do and perform all acts which it may deem necessary or
                  appropriate for the administration of the Plan and to carry
                  out the objectives of the Plan.

         5.3. Additional Terms. The Committee may: (i) modify or restrict
         exercise procedures and any other Plan procedures; (ii) establish local
         country plans as subplans to this Plan, each of which may be attached
         as an Appendix hereto and to the extent that the Committee determines
         that the restrictions imposed by the

                                       8

         Plan preclude the achievement of the material purposes of the Awards in
         jurisdictions outside the United States under such a subplan, the
         Committee will have the authority and discretion to modify those
         restrictions as the Committee determines to be necessary or appropriate
         to conform to applicable requirements or practices of jurisdictions
         outside the United States; (iii) take any action, before or after an
         Award is made, which it deems advisable to obtain or comply with any
         necessary local government regulatory exemptions or approvals; provided
         that the Committee may not take any action hereunder which would
         violate any securities law or any governing statute; and (iv) in the
         event of an extraordinary dividend or other distribution, merger,
         reorganization, consolidation, combination, sale of assets, split up,
         exchange, or spin off, or other extraordinary corporate transaction,
         the Committee may, in such manner and to such extent (if any) as it
         deems appropriate and equitable make provision for a cash payment or
         for the substitution or exchange of any or all outstanding Awards of
         the cash, securities or property deliverable to the holder of any or
         all outstanding Awards based upon the distribution or consideration
         payable to holders of Common Stock upon or in respect of such event.

         5.4. Delegation. The Committee may delegate to appropriate senior
         officers of the Company, or such other persons or committees as it
         deems appropriate, its duties under the Plan pursuant to such
         conditions and limitations as the Committee may establish.

         5.5. Determinations. All determinations, interpretations, or other
         actions made or taken by the Committee pursuant to the provisions of
         the Plan shall be final, binding, and conclusive for all purposes and
         upon all persons. Neither the Committee nor the Board, nor any member
         of the Committee or the Board or anyone acting at the direction of the
         Committee or the Board, shall be liable for any action or determination
         made hereunder in good faith.

Section 6.  Stock Options.

         6.1. Type of Option. It is intended that only non-qualified stock
         options may be granted by the Committee under this Section 6 of the
         Plan.

         6.2. Grant of Option. An Option may be granted to Participants at such
         time or times as shall be determined by the Committee. Each Option
         shall be evidenced by a certificate, notice or agreement that shall
         specify the exercise price, the duration of the Option, the number of
         Shares to which the Option applies, and such other terms and conditions
         not inconsistent with the Plan as the Committee shall determine.

         6.3. Option Price. The per-share Option price shall be at least 100% of
         the Fair Market Value at the time the Option is granted.

                                       9

         6.4. Exercise of Options. Options awarded under the Plan shall be
         exercisable at such times and shall be subject to such restrictions and
         conditions, including the performance of a minimum period of service
         after the grant, as the Committee may impose, which need not be uniform
         for all Participants; provided, however, that no Option shall be
         exercisable for more than ten (10) years after the date on which it is
         granted.

         6.5. Payment. The Committee shall determine the procedures governing
         the exercise of Options, and shall require that the per-share option
         price be paid in full at the time of exercise. The per-share option
         price shall be payable in full either: (a) in cash or its equivalent
         (acceptable cash equivalents shall be determined by the Committee); (b)
         unless otherwise determined by the Committee, by tendering previously
         acquired shares of Common Stock having an aggregate Fair Market Value
         at the time of exercise equal to the total option exercise price
         (provided that the shares of Common Stock which are tendered must have
         been held by the Participant for at least six (6) months prior to their
         tender); (c) unless otherwise determined by the Committee, pursuant to
         a "cashless exercise" procedure, as permitted under United States
         Federal Reserve Board's Regulation T, subject to securities law
         restrictions; (d) by a combination of (a), (b) and (c); or (e) by any
         other means which the Committee determines to be consistent with the
         Plan's purpose and applicable law.

         6.6. Rights as a Shareholder. Until the exercise of an Option and the
         delivery of the Shares in respect thereof, a Participant shall have no
         rights as a Shareholder with respect to the Shares covered by such
         Option.

Section 7.  Stock Appreciation Rights.

         7.1. Grant of Stock Appreciation Rights. Stock Appreciation Rights may
         be granted to Participants at such time or times as shall be determined
         by the Committee and shall be subject to such terms and conditions as
         the Committee may decide. A grant of an SAR shall be made pursuant to a
         certificate, notice or agreement containing such provisions not
         inconsistent with the Plan as the Committee shall approve.

         7.2. Exercise of SARs. SARs may be exercised at such times and subject
         to such conditions, including the performance of a minimum period of
         service, as the Committee shall impose. SARs that are granted in tandem
         with an Option may only be exercised upon the surrender of the right to
         exercise an equivalent number of Shares under the related Option and
         may be exercised only with respect to the Shares for which the related
         Option is then exercisable. Notwithstanding any other provision of the
         Plan, the Committee may impose conditions on the exercise of an SAR,
         including, without limitation, the right of the Committee to limit the
         time of exercise to specified periods.


                                       10

         7.3. Payment of SAR Amount. Upon exercise of an SAR, the Participant
         shall be entitled to receive payment of an amount determined by
         multiplying:

                  (a) any increase in the Fair Market Value of a Share at the
                  date of exercise over the Fair Market Value of a Share at the
                  date of grant, by

                  (b) the number of Shares with respect to which the SAR is
                  exercised;

         provided, however, that at the time of grant, the Committee may
         establish, in its sole discretion, a maximum amount per Share which
         will be payable upon exercise of an SAR.

         7.4. Method of Payment. Subject to the discretion of the Committee,
         which may be exercised at the time of grant, the time of payment, or
         any other time, payment of an SAR may be made in cash, Shares or any
         combination thereof.

Section 8.  Restricted Stock or Phantom Stock.

         8.1. Grant of Restricted Stock or Phantom Stock. The Committee may
         grant Shares of Restricted Stock or Phantom Stock rights to such
         Participants at such times and in such amounts, and subject to such
         other terms and conditions not inconsistent with the Plan as it shall
         determine. Each grant of Restricted Stock or Phantom Stock rights shall
         be evidenced by a certificate, notice or agreement setting forth the
         terms of such Award.

         8.2. Restrictions on Transferability. Restricted Stock or Phantom Stock
         rights may not be sold, transferred, pledged, assigned, or otherwise
         alienated until such time, or until the satisfaction of such conditions
         as shall be determined by the Committee (including without limitation,
         the satisfaction of performance goals, the occurrence of such events as
         shall be determined by the Committee, or pursuant to a determination
         under Section 15.1). At the end of the Period of Restriction applicable
         to any Restricted Stock, such Shares will be transferred to the
         Participant free of all restrictions. At the end of the restriction
         period applicable to Phantom Stock, payment shall be made in the manner
         set forth in the applicable award agreement.

         8.3. Rights as a Shareholder. Unless otherwise determined by the
         Committee at the time of grant, Participants holding Restricted Stock
         granted hereunder may exercise full voting rights and other rights as a
         Shareholder with respect to those Shares during the Period of
         Restriction. Holders of Phantom Stock rights shall not be deemed
         Shareholders and, except to the extent provided in accordance with the
         Plan, shall have no rights related to any Shares.

         8.4. Dividends and Other Distributions. Unless otherwise determined by
         the Committee at the time of grant, Participants holding Restricted
         Stock shall be entitled to receive all dividends and other
         distributions paid with respect to those

                                       11


         Shares, provided that if any such dividends or distributions are paid
         in shares of stock, such shares shall be subject to the same forfeiture
         restrictions and restrictions on transferability as apply to the
         Restricted Stock with respect to which they were paid. Unless otherwise
         determined by the Committee at the time of grant, Participants holding
         shares of Phantom Stock shall be entitled to receive cash payments
         equal to any cash dividends and other distributions paid with respect
         to a corresponding number of Shares; provided, however, that if any
         such dividends or distributions are paid in Shares, the Fair Market
         Value of such Shares shall be converted into shares of Phantom Stock
         which shall be subject to the same forfeiture restrictions and
         restrictions on transferability as apply to the shares of Phantom Stock
         with respect to which they are paid.

         8.5. Payment of Phantom Stock Rights. The Committee may, at the time of
         grant, provide for other methods of payment in respect of Phantom Stock
         rights in cash, Shares, partially in cash and partially in Shares, or
         in any other manner not inconsistent with this Plan.

Section 9.  Awards of Stock.

Subject to the provisions of the Plan, Shares of Stock may be awarded to
Participants in such number, upon such terms, and at such time or times as the
Committee shall determine in its discretion. Each grant of Stock may be
evidenced by a certificate, notice or agreement setting forth the terms of such
Award.

Section 10.  Other Stock-Based Awards and Other Benefits.

         10.1. Other Stock-Based Awards. The Committee shall have the right to
         grant Other Stock-Based Awards which may include, without limitation,
         the grant of Shares based on certain conditions, the payment of cash
         based on the performance of the Common Stock, and the payment of Shares
         in lieu of cash under other Company incentive or bonus programs.
         Payment under or settlement of any such Awards shall be made in such
         manner and at such times as the Committee may determine.

         10.2. Other Benefits. The Committee shall have the right to provide
         types of Awards under the Plan in addition to those specifically listed
         utilizing shares of stock or cash, or a combination thereof, if the
         Committee believes that such Awards would further the purposes for
         which the Plan was established. Payment under or settlement of any such
         Awards shall be made in such manner and at such times as the Committee
         may determine.

         10.3. Substitution or Assumption of Awards. The Committee, from time to
         time, also may substitute or assume outstanding awards granted by
         another company, whether in connection with an acquisition of such
         other company or otherwise, by either (a) granting an Award under the
         Plan in substitution of such other company's award, or (b) assuming
         such award as if it had been granted under

                                       12

         the Plan if the terms of such assumed award could be applied to an
         Award granted under the Plan. Such substitution or assumption shall be
         permissible if the holder of the substituted or assumed award would
         have been eligible to be granted an Award under the Plan if the other
         company had applied the rules of the Plan to such grant. In the event
         the Company assumes an award granted by another company, the terms and
         conditions of such award shall remain unchanged, except that the
         exercise price and the number and nature of Shares issuable upon
         exercise of any such option will be adjusted pursuant to Section 424(a)
         of the Code, notwithstanding other provisions of the Plan. In the event
         the Company elects to grant a new Award rather than assuming an
         existing option, such new Award may be granted with a similarly
         adjusted exercise price.

Section 11.  Amendment, Modification, and Termination of Plan.

Subject to the terms of the Plan, the Board at any time may terminate or suspend
the Plan, and from time to time may amend or modify the Plan, except that no
amendment or modification by the Board without shareholder approval shall
increase the number of Shares available for delivery under the Plan, decrease
the minimum per-share Option or SAR price or permit Employees to serve on the
Committee. No amendment, modification, or termination of the Plan shall in any
manner adversely affect any Award theretofore granted under the Plan to a
Participant without the consent of such Participant.

Section 12.  Termination of Employment.

         12.1. Termination of Employment Due to Retirement. Unless otherwise
         determined by the Committee at the time of grant, in the event a
         Participant's employment terminates by reason of retirement, any Option
         or SAR granted to such Participant which is then outstanding may be
         exercised at any time prior to the expiration of the term of the Option
         or SAR or within six (6) years following the Participant's termination
         of employment, whichever period is shorter, and any Restricted Stock,
         Phantom Stock rights, or other Award then outstanding for which any
         restriction has not lapsed prior to the effective date of retirement
         shall be forfeited.

         12.2. Termination of Employment Due to Death or Disability. Unless
         otherwise determined by the Committee at the time of grant, in the
         event a Participant's employment is terminated by reason of death or
         Disability, any Option or SAR granted to such Participant which is then
         outstanding may be exercised by the Participant, the Participant's
         designated beneficiary, the Participant's legal representative or other
         person entitled thereto, at any time prior to the expiration date of
         the term of the Option or SAR or within six (6) years following the
         Participant's termination of employment, whichever period is shorter,
         and any Restricted Stock, Phantom Stock rights, or other Award then
         outstanding shall become nonforfeitable and shall become transferable
         or payable, as the case may be, as though any restriction had expired.

                                       13

         12.3. Termination of Employment for Any Other Reason. Unless otherwise
         determined by the Committee, whether at the time of grant or
         thereafter, in the event the employment of the Participant shall
         terminate for any reason other than misconduct or one described in
         Section 12.1 or 12.2, any Option or SAR granted to such Participant
         which is then outstanding may be exercised by the Participant at any
         time prior to the expiration date of the term of the Option or SAR or
         within three (3) months following the Participant's termination of
         employment, whichever period is shorter; any Restricted Stock, Phantom
         Stock rights, or other Award then outstanding for which any restriction
         has not lapsed prior to the date of termination of employment shall be
         forfeited upon termination of employment. If the employment of a
         Participant is terminated by the Company or a Subsidiary by reason of
         the Participant's misconduct, any outstanding Option or SAR shall
         terminate and cease to be exercisable on the date of the Participant's
         termination of employment; any Restricted Stock, Phantom Stock rights,
         or other Award then outstanding for which any restriction has not
         lapsed prior to the date of termination of employment shall be
         forfeited upon termination of employment. As used herein, "misconduct"
         means that the Participant has engaged, or intends to engage, in
         competition with the Company or a Subsidiary, has induced any customer
         of the Company or a Subsidiary to breach any contract with the Company
         or a Subsidiary, has made any unauthorized disclosure of any of the
         trade secrets or confidential information of the Company or a
         Subsidiary, has committed an act of embezzlement, fraud, or theft with
         respect to the property of the Company or a Subsidiary, or has
         deliberately disregarded the rules of the Company or a Subsidiary in
         such a manner as to cause any loss, damage, or injury to, or otherwise
         endanger the property, reputation, or employees of the Company or a
         Subsidiary. The Committee shall determine whether a Participant's
         employment is terminated by reason of misconduct.

         12.4. Accrual of Right at Date of Termination. The Participant shall
         have the right to exercise an Option or SAR as indicated in Section
         12.3 only to the extent the Participant's right to exercise such Option
         or SAR had accrued at the date of termination of employment pursuant to
         the terms of the Award and had not previously been exercised.

Section 13.  Change in Control.

Except as otherwise provided at the time of grant in the certificate, notice or
agreement relating to a particular Award, if a Change in Control occurs, then:

         (i) the Participant's Restricted Stock, Phantom Stock, or Other
         Stock-Based Awards that were forfeitable shall, unless otherwise
         determined by the Committee, become nonforfeitable and, to the extent
         applicable, shall be converted into Shares; and

                                       14

         (ii) any unexercised Option or SAR, whether or not exercisable on the
         date of such Change in Control, shall thereupon be fully exercisable
         and may be exercised, in whole or in part.

Section 14.  Effect of Disposition of Facility or Operating Unit.

In the event that the Company or any of its Subsidiaries closes or disposes of
the facility at which a Participant is located or the Company or any of its
Subsidiaries diminish or eliminate ownership interests in any operating unit of
the Company or any of its Subsidiaries so that such operating unit ceases to be
majority owned by the Company or any of its Subsidiaries, then, with respect to
Awards held by Participants who subsequent to such event will not be employees
of the Company or any of its Subsidiaries, the Committee may (i) accelerate the
exercisability of Awards to the extent not yet otherwise exercisable or remove
any restrictions applicable to any Awards and (ii) extend the period during
which Awards will be exercisable to a date subsequent to the date when such
Awards would otherwise have expired by reason of the termination of such
Participant's employment with the Company or any of its Subsidiaries (but in no
event to a date later than the expiration date of the Awards or the fifth
anniversary of the transaction in which such facility closes or operating unit
ceases). If the Committee takes no special action with respect to any
disposition of a facility or an operating unit, then any cessation of employment
resulting from such disposition will be treated as an ordinary cessation of
employment as described in Section 12.

Section 15.  Miscellaneous Provisions.

         15.1. Non-transferability of Awards. Unless otherwise determined by the
         Committee, whether at the time of grant or thereafter, and except as
         provided in Sections 12.2 and 15.2, no Award granted under the Plan
         shall be assignable, transferable, or payable to or exercisable by
         anyone other than the Participant to whom it was granted.

         15.2. Beneficiary Designation. Unless otherwise determined by the
         Committee, whether at the time of grant or thereafter, each Participant
         may from time to time name any beneficiary or beneficiaries (who may be
         named contingently or successively) to whom any benefit under the Plan
         is to be paid in the event of such Participant's death before he or she
         receives any or all of such benefit. Each such designation shall revoke
         all prior designations by such Participant, shall be in a form
         prescribed by the Company, and will be effective only when filed by the
         Participant in writing with the Company during the Participant's
         lifetime.

         15.3. No Guarantee of Employment or Participation. Nothing in the Plan
         shall interfere with or limit in any way the right of the Company or a
         Subsidiary to terminate any Participant's employment at any time, nor
         confer upon any Participant any right to continue in the employment of
         the Company or a

                                       15

         Subsidiary. No Employee shall have a right to be selected as a
         Participant, or, having been so selected, to receive any future Awards.

         15.4. Tax Withholding. The Company shall have the authority to
         withhold, or require a Participant to remit to the Company an amount
         sufficient to satisfy federal, state, and local withholding tax
         requirements on any Award under the Plan, and the Company may defer
         payment of cash or issuance of Shares until such requirements are
         satisfied. Unless otherwise determined by the Committee, a Participant
         may elect, subject to such conditions as the Committee may require, to
         have Shares otherwise deliverable under the Plan withheld by the
         Company and having a Fair Market Value sufficient to satisfy all or
         part of such requirements or, if so determined by the Committee, the
         Participant's estimated total federal, state, and local tax obligation
         associated with the transaction.

         15.5. Governing Law. The Plan and all determinations made and actions
         taken pursuant hereto, to the extent not otherwise governed by the Code
         or Act, shall be governed by the law of the State of Illinois and
         construed in accordance therewith.

         15.6. Effectiveness of Plan. The Plan shall become effective upon its
         approval by the shareholders of the Company; provided, however, that no
         Award requiring the delivery of Shares shall be exercised or paid out
         unless at the time of such exercise or payout (i) such Shares are
         covered by a currently effective registration statement filed under the
         Securities Act of 1933, as amended, if one is then required, or in the
         sole opinion of the Company and its counsel such issuance of Shares is
         otherwise exempt from the registration requirements of such act, and
         (ii) such Shares are listed on any securities exchange upon which the
         Common Stock of the Company is listed.

         15.7. Unfunded Plan. Insofar as the Plan provides for Awards of cash,
         Shares, rights or a combination thereof, the Plan shall be unfunded.
         The Company may maintain bookkeeping accounts with respect to
         Participants who are entitled to Awards under the Plan, but such
         accounts shall be used merely for bookkeeping convenience. The Company
         shall not be required to segregate any assets that may at any time be
         represented by interests in Awards nor shall the Plan be construed as
         providing for any such segregation. None of the Committee, the Company
         or Board shall be deemed to be a trustee of any cash, Shares or rights
         to Awards granted under the Plan. Any liability of the Company to any
         Participant with respect to an Award or any rights thereunder shall be
         based solely upon any contractual obligations that may be created by
         the Plan and any Agreement, and no obligation of the Company under the
         Plan shall be deemed to be secured by any pledge or other encumbrance
         on any property of the Company.

         15.8. Deferrals. The Committee may permit a Participant to defer such
         Participant's receipt of the payment of cash or the delivery of Shares
         that would

                                       16

         otherwise be due to such Participant by virtue of the exercise of an
         Option or SAR, the lapse or waiver of restrictions with respect to
         Restricted Stock or Phantom Stock, or the satisfaction of any
         requirements or goals with respect to Other Stock-Based Awards. If any
         such deferral election is permitted, the Committee shall, in its sole
         discretion, establish rules and procedures for such payment deferrals
         and the manner in which such deferral shall be accomplished.


                                       17

EX-13

Exhibit 13 to the Annual Report
on Form 10-K of W.W. Grainger, Inc.
for the year ended December 31, 2002

W.W. GRAINGER, INC., AND SUBSIDIARIES 

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses in the financial statements. Management bases its estimates on historical experience and other assumptions, which it believes are reasonable. If actual amounts are ultimately different from these estimates, the revisions are included in the Company’s results of operations for the period in which the actual amounts become known.

        Accounting policies are considered critical when they require management to make assumptions about matters that are highly uncertain at the time the estimate is made and when different estimates than management reasonably could have used have a material impact on the presentation of the Company’s financial condition, changes in financial condition, or results of operations.

        A description of the Company’s critical accounting policies follows.

Postretirement Healthcare Benefits

The Company has a postretirement healthcare benefits plan that provides coverage to its retired employees and their dependents who have elected to maintain such coverage. A majority of the Company’s employees become eligible for participation when they qualify for retirement while working for the Company. Participation in the plan is voluntary and requires participants to make contributions toward the cost of the plan, as determined by the Company. The benefit obligation was determined by applying the terms of the plan and actuarial models required by Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions.” These models include various actuarial assumptions, including discount rates, assumed rates of return on plan assets, and healthcare cost trend rates. The actuarial assumptions also anticipate future cost-sharing changes to retiree contributions that will maintain the current cost-sharing ratio between the Company and the retirees. The Company evaluates its actuarial assumptions on an annual basis and considers changes in these long-term factors based upon

21

market conditions, historical experience, and the requirements of SFAS No. 106. The Company has established a Group Benefit Trust as the vehicle to fund the plan and process benefit payments. The funding of the trust is an estimated amount that is intended to allow the maximum deductible contribution under the Internal Revenue Code of 1986, as amended. The assets of the trust are invested in Standard & Poor’s 500 index (S&P 500) funds. The Company uses long-term historical actual return on plan assets and the historical performance of the S&P 500 to develop its expected return on plan assets. The expected return on plan assets that the Company used as of December 31, 2002, was 5.4%, net of tax at 40%. The use of expected long-term rate of return on plan assets may result in projected returns that are greater or less than the actual return on plan assets in any given year. Over time, however, the expected long-term returns are designed to approximate the actual long-term returns and, therefore, result in a pattern of income and expense recognition that more closely matches the pattern of the services provided by the employees. The change in the expected long-term rate of return on plan assets did not have a material effect on the net periodic benefit cost for the year ended December 31, 2002. The Company reviews external data and its own historical trends for healthcare costs to determine the healthcare cost trend rates.

        Actual results could differ materially from the Company’s estimates if the Company modified its assumptions. For example, if the assumed healthcare cost trend rate increased by one percentage point for each year, the accumulated postretirement benefit obligation (APBO) as of December 31, 2002, would increase by $18.0 million. The aggregate of the service cost and interest cost components of the 2002 net periodic postretirement benefits expense would increase by $2.4 million. If the assumed healthcare cost trend decreased by one percentage point for each year, the APBO as of December 31, 2002, would decrease by $14.3 million. The aggregate of the service cost and interest cost components of the 2002 net periodic postretirement benefits expense would decrease by $1.9 million. While the Company has used its best judgment in making its assumptions and estimates, assumption changes may be required in future years. For additional information, see Note 13 to the Consolidated Financial Statements.

Insurance Reserves

The Company purchases insurance for catastrophic exposures as well as those risks required to be insured by law. The Company also retains a significant portion of the risk of losses related to workers’ compensation, general liability, and property. Reserves for these potential losses are based on an external analysis of the Company’s historical claims results and other actuarial assumptions.

Allowance for Doubtful Accounts

The Company establishes reserves for customer accounts receivable balances that are potentially uncollectible. The methods used to estimate the required allowance are based on several factors including the age of the receivable, the historical ratio of actual write-offs to sales, and projected write-offs. These analyses take into consideration economic conditions that may have an impact on a specific industry, group of customers, or a specific customer. The reserves could be materially different if economic conditions change or actual results deviate from historical trends.

Inventory Reserves

The Company establishes inventory reserves for valuation, shrinkage, and excess and obsolete inventory. Inventories are stated at the lower of cost or market. For the majority of operations, the Company has elected to use the last-in, first-out (LIFO) method of inventory costing. Typically this method results in a lower inventory value and higher cost of sales than the first-in, first-out (FIFO) method due to the effect of inflation.

        The Company records provisions for inventory shrinkage based on historical experience to account for unmeasured usage or loss. Actual results differing from these estimates could significantly affect the Company’s inventories and cost of goods sold.

        The Company records provisions for excess and obsolete inventories for the difference between the cost of inventory and its estimated realizable value based on assumptions about future product demand and market conditions. Actual product demand or market conditions could be different than projected by management.

Other

Other significant accounting policies, not involving the same level of measurement uncertainties as those discussed above, are nevertheless important to an understanding of the financial statements. Policies relating to revenue recognition, depreciation, intangibles, long-lived assets, income taxes, and warranties require judgments on complex matters that are often subject to multiple external sources of authoritative guidance such as the Financial Accounting Standards Board, Securities and Exchange Commission, etc. Although no specific conclusions reached by these authorities appear likely to cause a material change in the Company’s accounting policies, outcomes cannot be predicted with confidence. Also see Note 2 to the Consolidated Financial Statements, which provides a summary of the Company’s significant accounting policies.

22

RESULTS OF OPERATIONS

The following table is included as an aid to understanding changes in the Company’s Consolidated Statements of Earnings.

	For the Years Ended December 31,
	Items in Consolidated Statements  of Earnings as a Percent of Net Sales						Percent Increase (Decrease) from Prior Year
	2002		2001		2000		2002		2001
Net sales	100	.0%	100	.0%	100	.0%	(2	.3)%	(4	.5)%
Cost of merchandise sold	65	.6	66	.6	68	.2	(3	.8)	(6	.7)
Operating expenses	25	.9	26	.3	25	.1	(3	.7)	0	.0
Operating earnings	8	.5	7	.1	6	.7	16	.1	1	.0
Other income (expense), net	0	.1	(0	.8)	0	.0	(111	.3)	1,071	.4
Income taxes	3	.5	2	.6	2	.8	32	.3	(11	.5)
Cumulative effect of       accounting change (expense)	(0	.5)	--		--		N	/A	N	/A
Net earnings	4	.6%	3	.7%	3	.9%	21	.2%	(9	.5)%

Net Sales
Company Net Sales -- 2002 Compared to 2001

The Company’s net sales of $4,643.9 million for 2002 decreased 2.3% from net sales of $4,754.3 million for 2001. This decrease resulted from a 2.4% decrease in the Branch-based Distribution Businesses segment, an 11.7% decrease at Lab Safety, and elimination of the Digital Businesses segment, partially offset by an 18.4% increase at Integrated Supply. The year 2002 had 255 sales days, the same number as 2001. Sales performance was affected by the general weakness in the North American economy.

Segment Net Sales

The following comments at the segment level include external and intersegment net sales. Comments at the business unit level include external and inter- and intrasegment net sales. For segment information see Note 21 to the Consolidated Financial Statements.

Branch-based Distribution Businesses

Net sales at the Branch-based Distribution Businesses amounted to $4,148.0 million in 2002, a 2.4% decrease as compared with 2001 sales of $4,251.6 million.

        Sales in the U.S. decreased slightly in 2002 as compared with 2001 primarily due to weakness in the North American economy. While 2002 sales to government and national accounts increased 13% and 6%, respectively, when compared with the prior year, sales declines in other categories offset those increases. The increased sales to government and national accounts were primarily due to programs focused on developing those markets.

        Sales were favorably affected by continued momentum in the Company’s Internet programs. For 2002, grainger.com processed sales of approximately $420 million, a 26% increase from the $333 million processed in 2001. The Company continues to focus on converting its customers to purchasing online. The Company has experienced incremental revenue across all channels by customers who convert to online purchasing.

        In Canada, sales decreased 12.6% in 2002 as compared with 2001. This decrease was primarily due to the elimination of automotive aftermarket parts sales as a result of the joint venture with Uni-Select Inc. established on February 1, 2002. Excluding the impact of the joint venture, sales were down 5.2% for the year due to the weakness in the natural resources sector and the loss of a few major accounts.

        In Mexico, sales decreased 5.0% in 2002 as compared with 2001. This decrease was attributable to the weak economy in Mexico, partially offset by selected price increases intended to offset the declining value of the peso.

Digital Businesses

On April 23, 2001, the Company announced that it would shut down the operations of Material Logic, with the exception of FindMRO. The Company launched Material Logic in January 2001 as a utility for large customers to facilitate the purchase of facilities maintenance products over the Internet. Material Logic would have allowed large customers to access a single, networked catalog containing easily searchable and detailed product information, pre-negotiated prices, and availability information for indirect materials from major distributors. In order for Material Logic to grow, it needed broad industry support and funding from other equity participants. The Company closed Material Logic because economic and market conditions made it difficult to find funding partners and the market developed slower than anticipated. In connection with this announcement, the Company took a

23

pretax charge of $39.1 million in 2001. Beginning with the 2001 third quarter, the Digital Businesses segment ceased operations. For additional information, see Note 5 to the Consolidated Financial Statements. Effective June 1, 2001, FindMRO was added to the Branch-based Distribution Businesses. Consequently, no results were reported for the Digital Businesses segment in 2002, but $30.0 million of net sales were reported in 2001.

Lab Safety

Net sales at Lab Safety amounted to $286.8 million in 2002, an 11.7% decrease compared with 2001 sales of $324.8 million. Sales at Lab Safety included the results of The Ben Meadows Co., a company acquired on February 26, 2001. The sales decrease was primarily the result of weak sales in the U.S. manufacturing sector.

Integrated Supply

Net sales at Integrated Supply amounted to $226.0 million in 2002, an 18.4% increase over 2001 sales of $190.8 million. Sales growth for this business was primarily the result of increased penetration of existing customers and includes both product sales and management fees.

Cost of Merchandise Sold
Company Cost of Merchandise Sold -- 2002 Compared to 2001

The Company’s cost of merchandise sold of $3,045.7 million for 2002 decreased 3.8% from the cost of merchandise sold of $3,165.0 million for 2001. This decrease was primarily volume related due to the decline in net sales mentioned above and supply chain efficiencies.

Operating Expenses
Company Operating Expenses -- 2002 Compared to 2001

Operating expenses of $1,205.1 million for 2002 decreased 3.7% from operating expenses of $1,250.7 million for 2001. Operating expenses for 2002 included a pretax benefit related to a $1.9 million reduction of a portion of the reserve established in 2001 relating to the shutdown of Material Logic. Operating expenses for 2001 included a pretax restructuring charge of $39.1 million related to the shutdown of Material Logic, with the exception of FindMRO. Excluding these restructuring amounts from both 2002 and 2001, operating expenses decreased 0.4%. This was the result of tighter variable expense control, although the Company was unable to decrease expenses in line with the sales decrease. Advertising and bad debt expenses decreased due to fewer catalogs being printed, Company cost controls, and fewer bankruptcies of large customers, partially offset by increased payroll and benefits expenses. For additional information, see Note 5 to the Consolidated Financial Statements.

Operating Earnings 
Company Operating Earnings -- 2002 Compared to 2001

The Company’s operating earnings of $393.2 million for 2002 increased 16.1% from operating earnings of $338.6 million for 2001. Operating earnings were impacted by a $1.9 million benefit and a $39.1 million expense for 2002 and 2001, respectively, related to the restructuring charge established for Material Logic. Excluding these amounts from 2002 and 2001, operating earnings increased 3.6% to $391.2 million in 2002 from $377.6 million in 2001. This increase was attributable to improved operating performance of the Company’s Branch-based Distribution Businesses, the elimination of losses of the Digital Businesses, and improved performance of Integrated Supply, partially offset by weaker performance at Lab Safety and an increase in Company level expenses not allocated to business units. The results for 2001 included operating losses of the Digital Businesses of $10.2 million.

Segment Operating Earnings

The following comments at the segment level include external and intersegment operating earnings. Comments at the business unit level include external and inter- and intrasegment operating earnings. For segment information, see Note 21 to the Consolidated Financial Statements.

Branch-based Distribution Businesses

Operating earnings of $394.9 million increased 2.2% in 2002 as compared with $386.3 million for 2001. The effect of higher gross profit margins was partially offset by lower sales and an increase in operating expenses.

        Gross profit margins improved due to selected pricing actions in 2002 intended to cover freight and supplier cost increases and to favorable product mix. Partially offsetting these improvements were an unfavorable change in selling price category mix and higher freight costs related to the logistics project.

        Operating expenses increased 1.7% in 2002 versus 2001. Operating expenses increased due to higher payroll and benefits expenses partially offset by lower advertising and bad debt expenses.

Digital Businesses

On April 23, 2001, the Company announced plans to shut down the operations of Material Logic, as previously described in the Digital Businesses Net Sales section. For additional information, see Note 5 to the Consolidated Financial Statements.

Lab Safety

Operating earnings of $47.1 million decreased 7.8% in 2002 as compared with $51.1 million for 2001. The decrease in operating earnings was primarily the result of lower sales, partially offset by lower operating expenses. The operating expense reduction was primarily the result of second quarter 2002 workforce reductions and other cost control measures, including lower advertising expenditures.

24

Integrated Supply

Integrated Supply had operating income of $6.2 million in 2002 compared with $0.4 million in 2001. This improvement in operating performance for 2002 was the result of eliminating or restructuring unprofitable contracts throughout 2001 and productivity gains attained by leveraging the existing cost structure. Operating income for 2002 also benefited from lower bad debt expense compared with 2001, where provisions were made for losses related to two large customer bankruptcies.

Other Income and Expense

Other income and expense was $4.7 million of income in 2002, an improvement of $46.0 million as compared with $41.3 million of expense in 2001.

        The following table provides an analysis of the components of other income and expense:

	For the Years Ended
	December 31,
(In thousands of dollars)	2002		2001
Other income and (expense)
Interest (expense),
net of interest income	$(1,590	)	$  (7,847	)
Equity in losses of
unconsolidated entities	(3,025	)	(7,205	)
Loss on liquidation of
equity in unconsolidated entity	--		(20,123	)
Unclassified-net:
Gains on sales of
investment securities	7,308		138
Write-down of investments	(3,192	)	(7,400	)
Gains on sales of
fixed assets, net	5,219		1,613
Other	(38	)	(469	)
	$  4,682		$(41,293	)

        In April 2001, the Company wrote down its investment in other digital businesses and took a pretax charge of $25.1 million. This included the loss on the divestiture of the Company’s 40% investment in Works.com, Inc. (Works.com). The Company acquired its ownership in Works.com, an unrelated third party, on August 1, 2000, when the Company’s OrderZone.com business unit was combined with Works.com. Of this pretax charge, $20.1 million related to the divestiture of Works.com and was reported separately as Loss on liquidation of equity in unconsolidated entity on the income statement. Additionally, a loss of $5.0 million was included in Unclassified–net relating to the write-down to net realizable value of investments in other digital businesses. See Note 5 to the Consolidated Financial Statements.

Income Taxes

Income taxes of $162.3 million in 2002 increased 32.3% as compared with $122.8 million in 2001.

        The Company’s effective tax rate was 40.8% and 41.3% in 2002 and 2001, respectively. The rate decrease in 2002 as compared with 2001 was primarily due to a reduction of losses in unconsolidated entities. The effective tax rate for 2001 was also higher due to the tax effect of capital losses, which were not deductible in the absence of capital gains. Partially offsetting these items which increased the 2001 tax rate, was the tax effect of the write-off of investment in unconsolidated entity that had tax benefits disproportionate to the write-off.

        Excluding the effect of these items, the effective tax rate was 40.5% for both 2002 and 2001.

Cumulative Effect of Accounting Change

Effective January 1, 2002, the Company adopted SFAS No. 142, "Goodwill and Other Intangible Assets."

        In the second quarter of 2002, the Company completed the initial process of evaluating goodwill for impairment under SFAS No. 142. Fair values of reporting units were estimated using a present value method that discounted future cash flows. When available and as appropriate, comparative market multiples were used to corroborate results of the discounted cash flows. As a result of the application of the impairment methodology introduced by SFAS No. 142, the Company recorded a noncash charge to earnings of $32.3 million ($23.9 million after-tax, or $0.26 per diluted share) related to the write-down of goodwill of its Canadian subsidiary, Acklands. Previous accounting rules incorporated a comparison of book value to undiscounted cash flows, whereas new rules require a comparison of book value to discounted cash flows, which are lower. In November 2002, the Company performed its annual evaluation of goodwill for impairment and no further write-downs were required. For additional information see Note 3 to the Consolidated Financial Statements.

Net Earnings
Company Net Earnings -- 2002 Compared to 2001

The Company’s net earnings of $211.6 million for 2002 increased 21.2% compared with 2001 net earnings of $174.5 million. The Company’s earnings per share for the year increased 21.7% to $2.24 in 2002 from $1.84 in 2001. The results for 2002 included an after-tax gain of $4.5 million from the sales of investment securities and an after-tax gain of $1.2 million related to the reduction of restructuring charges. The results for 2002 also included an after-tax charge of $23.9 million related to the cumulative effect of a change in accounting principle. The results for 2001 included an after-tax charge of $36.6 million, or $0.39 per share, related to the digital businesses described earlier. Excluding these items from both periods and excluding the cumulative effect of the change in accounting principle from 2002 results, net earnings increased 8.8% to $229.8 million in 2002 from $211.2 million in 2001, and earnings per share increased 9.4% to $2.44 in 2002 from $2.23 in 2001.

25

Net Sales
Company Net Sales -- 2001 Compared to 2000

The Company’s net sales of $4,754.3 million for 2001 decreased 4.5% from net sales of $4,977.0 million for 2000. This decrease resulted from a 5.2% decrease in the Branch-based Distribution Businesses segment, a 46.2% decrease in the Digital Businesses segment, and a 1.6% decrease at Lab Safety, partially offset by a 5.5% increase in the Integrated Supply and Other Businesses of the Company. The year 2001 had 255 sales days, the same number of sales days as 2000. Sales performance was affected by the general weakness in the North American economy and worsened by quarter throughout the year.

Segment Net Sales

The following comments at the segment level include external and intersegment net sales. Comments at the business unit level include external and inter- and intrasegment net sales. For segment information see Note 21 to the Consolidated Financial Statements.

Branch-based Distribution Businesses

Net sales at the Branch-based Distribution Businesses amounted to $4,251.6 million in 2001, a 5.2% decrease as compared with 2000 sales of $4,483.8 million.

        Sales in the United States decreased in 2001 as compared with 2000 primarily due to the recession in the United States. Also contributing to the decline was a decrease in the sales of seasonal products due to relatively mild weather in the summer and winter seasons. Sales to government accounts increased primarily due to strategy focused on developing the government market. Other categories declined primarily as a result of the recession in the United States.

        Sales were favorably affected by continued momentum in the Company’s Internet programs. For 2001, grainger.com processed sales of approximately $333 million, a 24.7% increase from the $267 million processed in 2000.

        In Canada, sales decreased 2.8% in 2001 as compared with 2000. This decrease was driven primarily by an unfavorable Canadian exchange rate. In local currency, sales increased 1.3% in 2001 as compared with 2000. The growth in Canada was driven primarily by an improvement in the oil and gas sector of the economy, partially offset by the impact of the weakness in other sectors of the Canadian economy. The Company’s Canadian operations also experienced a negative sales trend with sales declining in the second half of the year on a comparative basis with 2000.

        In Mexico, sales decreased 17.0% in 2001 as compared with 2000. This performance reflects the weakness in the automotive and electronics manufacturing industries and deterioration of the Mexican economy, coupled with the impact of the recession in the U.S.

Digital Businesses

Net sales for the Digital Businesses amounted to $30.0 million in 2001, a 46.2% decrease as compared with 2000 sales of $55.7 million. Net sales for this segment represented product sales and service fee revenues for FindMRO and service fee revenues for the rest of Material Logic.

        On April 23, 2001, the Company announced that it would shut down the operations of Material Logic with the exception of FindMRO. The Company launched Material Logic in January of 2001 as a utility for large customers to facilitate the purchase of facilities maintenance products over the Internet. Material Logic would have allowed large customers to access a single, networked catalog containing easily searchable and detailed product information, pre-negotiated prices, and availability information for indirect materials from major distributors. In order for Material Logic to grow, it needed broad industry support and funding from other equity participants. The Company closed Material Logic in April because economic and market conditions made it difficult to find funding partners and the market developed slower than anticipated. In connection with this announcement, the Company took a pretax charge of $39.1 million in 2001. FindMRO was then established as an operating unit separate from Material Logic. Effective June 1, 2001, FindMRO was added to the Branch-based Distribution Businesses. Beginning with the 2001 third quarter, the Digital Businesses segment ceased operations. For additional information, see Note 5 to the Consolidated Financial Statements.

Lab Safety

Net sales at Lab Safety amounted to $324.8 million in 2001, a 1.6% decrease compared with 2000 sales of $330.1 million. Sales at Lab Safety included the results of The Ben Meadows Co., a company acquired on February 26, 2001. Excluding the sales of The Ben Meadows Co., 2001 sales would have been down 6.2% when compared with 2000, primarily the result of weak sales in the U.S. industrial sector.

Integrated Supply and Other Businesses

Net sales at Integrated Supply and Other Businesses amounted to $190.8 million in 2001, a 5.5% increase over 2000 sales of $180.9 million. Sales growth for this group of businesses was related to strong sales at Integrated Supply, primarily the result of increased penetration of existing customers through the expansion of the number of locations served. Sales included product sales and management fees.

26

Cost of Merchandise Sold
Company Cost of Merchandise Sold -- 2001 Compared to 2000

The Company’s cost of merchandise sold of $3,165.0 million for 2001 decreased 6.7% from cost of merchandise sold of $3,391.7 million in 2000. This decrease was primarily volume related due to the decline in net sales as mentioned previously.

Operating Expenses
Company Operating Expenses -- 2001 Compared to 2000

Operating expenses of $1,250.7 million for 2001 were essentially flat when compared with operating expenses of $1,250.2 million for 2000. Operating expenses for 2001 included a pretax restructuring charge of $39.1 million related to the shutdown of Material Logic with the exception of FindMRO. Excluding the restructuring charge from 2001 and the operating expenses of Material Logic, operating expenses were essentially flat between years. This was the result of tighter variable expense control, although the Company was unable to decrease expenses in line with the sales decrease. Increases included data processing costs, as the Company continued to invest in its information systems, and increased bad debt provision in response to the weakening economic conditions in North America. Offsetting these increases were lower advertising and travel expenses. For additional information, see Note 5 to the Consolidated Financial Statements.

Operating Earnings
Company Operating Earnings -- 2001 Compared to 2000

The Company’s operating earnings of $338.6 million for 2001 increased 1.0% from operating earnings of $335.1 million for 2000. This increase was primarily attributable to improved operating performance at the Company’s Integrated Supply and Other Businesses segment, partially offset by weaker performance in the Branch-based Distribution Businesses and at Lab Safety.

Segment Operating Earnings

The following comments at the segment level include external and intersegment operating earnings. Comments at the business unit level include external and inter- and intrasegment operating earnings. For segment information, see Note 21 to the Consolidated Financial Statements.

Branch-based Distribution Businesses

Operating earnings of $386.3 million declined 2.7% in 2001 as compared with $397.3 million for 2000. Lower sales and an increase in operating expenses contributed to the decline in operating earnings, partially offset by higher gross profit margins.

        Operating expenses increased 1.9% in 2001 versus 2000. Operating expenses increased due to higher occupancy expenses, including the effect of start-up costs relating to the opening of two new distribution centers, increased data processing expenses, and increased employee benefits costs. These factors were partially offset by lower travel and entertainment expenses and lower advertising expenses.

        Gross profit margins were affected by selected pricing actions in 2001 intended to cover freight and supplier cost increases, and lower sales of seasonal products. Historically, the sales of seasonal products have lower than average gross profit margins.

Digital Businesses

On April 23, 2001, the Company announced that it would shut down the operations of Material Logic as previously described in the Digital Businesses Net Sales section. For additional information, see Note 5 to the Consolidated Financial Statements.

Lab Safety

Operating earnings of $51.1 million decreased 7.1% in 2001 as compared with $55.0 million for 2000. The decrease in operating earnings was impacted by the decline in net sales and an increase in payroll and employee benefits costs, and increased data processing costs.

Integrated Supply and Other Businesses

Integrated Supply and Other Businesses had operating income of $0.4 million in 2001 compared with operating losses of $13.3 million in 2000. This increase was primarily attributable to improved operating results at Integrated Supply. These results were achieved by eliminating or restructuring unprofitable contracts and by reducing its cost structure through improved productivity.

Other Income and Expense

Other income and expense was $41.3 million of expense in 2001 as compared with $3.5 million of expense for 2000.

        The following table provides an analysis of the components of other income and expense:

	For the Years Ended
	December 31,
(In thousands of dollars)	2001		2000
Other income and (expense)
Interest (expense),
net of interest income	$  (7,847	)	$(22,512	)
Equity in losses of
unconsolidated entities	(7,205	)	(10,855	)
Loss on liquidation of equity
in unconsolidated entity	(20,123	)	--
Unclassified-net:
Gains on sales of
investment securities	138		30,017
Write-down of investments	(7,400	)	--
Gains (losses) on sales
of fixed assets, net	1,613		(638	)
Other	(469	)	463
	$(41,293	)	$  (3,525	)

27

        In April 2001, the Company wrote down its investment in other digital businesses and took a pretax charge of $25.1 million. This included the loss on the divestiture of the Company’s 40% investment in Works.com, Inc. (Works.com). The Company acquired its ownership in Works.com, an unrelated third party, on August 1, 2000, when the Company’s OrderZone.com business unit was combined with Works.com. Of this pretax charge, $20.1 million related to the divestiture of Works.com and was reported separately as Loss on liquidation of equity in unconsolidated entity on the income statement. Additionally, a loss of $5.0 million was included in Unclassified–net, relating to the write-down to net realizable value of investments in other digital businesses. In 2000, the Company had a pretax gain on the sales of investment securities of $30.0 million. See Note 5 to the Consolidated Financial Statements.

        Excluding these items from both periods, the year 2001 had net expenses of $16.2 million versus net expenses of $33.5 million in the comparable 2000 period. The difference was primarily attributable to lower interest expense.

Income Taxes

Income taxes, which totaled $122.8 million in 2001, decreased 11.5% as compared with $138.7 million in 2000.

        The Company’s effective tax rate was 41.3% and 41.8% in 2001 and 2000, respectively. The rate decrease in 2001 was primarily due to a reduction in the amount of losses in unconsolidated entities and the tax impact of the write-off of investments in unconsolidated entities, which had tax benefits disproportionate to the loss incurred.

        These items were partially offset by the tax impact of capital losses, which are not deductible in the absence of capital gains.

        Excluding the impact of these items, the effective tax rate was 40.5% for both 2001 and 2000.

Net Earnings 
Company Net Earnings -- 2001 Compared to 2000

The Company’s net earnings of $174.5 million for 2001 decreased 9.5% compared with 2000 net earnings of $192.9 million. The Company’s earnings per share for the year declined 10.2% to $1.84 in 2001 from $2.05 in 2000. The results for 2001 included an after-tax charge of $36.6 million, or $0.39 per share. The results for 2000 included an after-tax gain of $17.9 million, or $0.19 per share, related to sales of investment securities. Excluding these items from both periods, net earnings increased 20.6% to $211.2 million in 2001 from $175.0 million in 2000, and earnings per share increased 19.9% to $2.23 in 2001 from $1.86 in 2000.

Financial Condition

The Company expects its strong working capital position and cash flows from operations to continue, allowing it to maintain its planned level of operations, capital expenditures, and payment of its cash dividends.

Cash Flow

Net cash flows from operations of $303.5 million in 2002, $509.2 million in 2001, and $278.4 million in 2000 have continued to improve the Company’s financial position and serve as the primary source of funding for capital requirements. The majority of the decrease in net cash flows from operations from 2001 to 2002 was attributable to the 2002 inventory increases to improve service levels and position the Branch-based Distribution Businesses segment to gain share in the economic recovery. For information as to the Company’s cash flows, see the Consolidated Financial Statements and Notes thereto.

Working Capital

Internally generated funds have been the primary source of working capital and for funds used in business expansion, supplemented by debt as circumstances dictated. In addition, funds are being expended for facilities optimization, business development, and systems and other infrastructure enhancements.

        Working capital was $898.7 million at December 31, 2002, compared with $838.8 million at December 31, 2001, and $735.7 million at December 31, 2000. The ratio of current assets to current liabilities was 2.5, 2.5, and 2.0, respectively, at such dates.

Capital Expenditures

In each of the past three years, a portion of working capital has been used for additions to property, buildings, equipment, and capitalized software as summarized in the following table:

	For the Years Ended December 31,
(In thousands of dollars)	2002	2001	2000
Land, buildings,
structures, and
improvements	$  61,083	$  26,534	$32,822
Furniture, fixtures,
machinery, and
equipment	72,895	73,917	32,685
Subtotal	133,978	100,451	65,507
Capitalized software	10,047	6,717	29,406
Total	$144,025	$107,168	$94,913

        Additional investments in inventory and capital projects are anticipated in 2003, and the Company believes that cash flows from operations will remain strong.

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Restructuring

On April 23, 2001, the Company announced that it would shut down the operations of Material Logic with the exception of FindMRO. In connection with this announcement, the Company took a pretax charge of $39.1 million in 2001. At the beginning of 2002, $9.5 million of this reserve remained. The Company utilized $5.0 million of this reserve in 2002, of which $4.1 million were cash payments, and reduced the reserve by $1.9 million to reflect management’s current estimate of costs. The Company utilized internally generated funds for these payments. As of December 31, 2002, the $2.5 million reserve primarily relates to severance and lease obligations, which the Company anticipates will be funded from internally generated cash. See Note 5 to the Consolidated Financial Statements for additional information.

Debt and Capital

The Company maintains a debt ratio and liquidity position that provide flexibility in funding working capital needs and long-term cash requirements. In addition to internally generated funds, the Company has various sources of financing available, including commercial paper sales and bank borrowings under lines of credit. At December 31, 2002, the Company’s long-term debt was rated AA+ by Standard & Poor’s, a rating the Company has held since 1987. The Company’s available lines of credit, as further discussed in Note 12 to the Consolidated Financial Statements, were $264.7 million, $413.1 million, and $515.3 million, as of December 31, 2002, 2001, and 2000, respectively. Total debt as a percent of total capitalization was 7.2%, 7.8%, and 17.3% for the same periods.

        In September 2002, the Company received net proceeds of $113.7 million from the issuance of commercial paper. The proceeds were used to repay outstanding long-term debt in the amount of C$180.4 million. Since the Company has the ability to refinance the commercial paper with debt having a longer maturity, and the Company’s intent is to keep the debt outstanding for greater than one year, the commercial paper has been classified as long-term debt on the Company’s balance sheet as of December 31, 2002. The long-term debt that was repaid with the proceeds of the commercial paper issuance had been designated by the Company as a nonderivative hedge of the Company’s net investment in its Canadian subsidiary. The Company entered into a cross-currency swap on September 25, 2002, which replaced the Canadian dollar long-term debt as a hedge of the net investment in the Company’s Canadian subsidiary. The counterparty to the financial instrument is an investment grade financial institution. The Company does not expect any loss from nonperformance by this counterparty. For additional information concerning the cross-currency swap agreement, see Note 14 to the Consolidated Financial Statements included in this report.

        The Company believes any circumstances that would trigger early payment or acceleration with respect to any outstanding debt securities would not have a material impact on its results of operations or financial condition. Holders of industrial revenue bonds may require the Company to redeem certain of the bonds, such as in response to changes in interest rates.

        The Company repurchased 2,221,500 shares, 1,820,000 shares, and 31,400 shares of its common stock during 2002, 2001, and 2000, respectively. As of December 31, 2002, approximately 10 million shares of common stock remained available under the Company’s repurchase authorization.

        Dividends paid to shareholders were $66.5 million in 2002, $65.4 million in 2001, and $62.9 million in 2000.

Commitments

The Company has future commitments for leased land, buildings, and equipment as of December 31, 2002. The Company also has $3.0 million of short-term debt and $126.2 million of long-term debt as of December 31, 2002. See Notes 12 and 14 to the Consolidated Financial Statements for additional information related to these obligations. As of December 31, 2002, the Company had $23.2 million of outstanding commitments for capital expenditures.

        As of December 31, 2002, the future contractual cash obligations related to long-term debt and leases were as follows:

	Payments Due by Period
(In thousands of dollars)	2003	2004	2005	2006	After 2006	Total
Long-term debt	$  6,505	$114,798	$  4,895	$      --	$        --	$126,198
Operating leases	17,219	13,159	9,874	6,282	11,469	58,003
Total	$23,724	$127,957	$14,769	$6,282	$11,469	$184,201

29

Off-Balance-Sheet Arrangements

The Company does not have any material exposures to off-balance-sheet arrangements. The Company does not have any variable interest entities or activities that include non-exchange-traded contracts accounted for at fair value.

Other

On March 26, 2001, a group of 83 executive officers and other key managers bought 787,020 shares from the Company at the then-current market price of the shares. Cash proceeds from the sale, which amounted to $24.4 million, were used by the Company to repurchase shares of the Company’s stock on the open market. Most employees financed their purchases through loans arranged with a local bank. The principal of each loan is payable by the employee on April 16, 2003, or earlier, upon termination of employment, sale by the borrower of shares under the program, or the occurrence of certain financial or other events affecting the employee or the Company. Among the financial or other events affecting the Company (triggering events) are a default on certain other indebtedness, a change in control, and a merger or sale of substantially all of the Company’s assets. The Company entered into a Note Purchase Agreement with the bank, agreeing to purchase the loan of any employee as a result of the employee’s failure to repay the loan when due or the occurrence of a triggering event. Should the Company be obliged to purchase any loan under the Note Purchase Agreement, the employee would be liable to the Company for the outstanding principal and accrued interest in accordance with the note’s terms. The Company has not recognized a liability for any potential defaults associated with this contingent credit risk, nor has the Company been called upon to purchase any loan or make any payments as a result of any employee default or triggering event. As of December 31, 2002, 70 employees had loans outstanding to a bank aggregating $22.4 million, the largest of which was $4.4 million. In compliance with new statutory requirements, the Company will not continue this program.

Inflation and Changing Prices

Inflation during the last three years has not had a significant effect on operations. The predominant use of the LIFO method of accounting for inventories and accelerated depreciation methods for financial reporting and income tax purposes result in a substantial recognition of the effects of inflation in the financial statements.

        The major impact of inflation is on buildings and improvements, where the gap between historic cost and replacement cost continues to be significant for these long-lived assets. The related depreciation expense associated with these assets increases significantly when adjusting for the cumulative effect of inflation.

        The Company believes the most positive means to combat inflation and advance the interests of investors lies in the continued application of basic business principles, which include improving productivity, increasing working capital turnover, and offering products and services which can command appropriate price levels in the marketplace.

Forward-Looking Statements

This document contains forward-looking statements under the federal securities laws. The forward-looking statements relate to the Company’s expected future financial results and business plans, strategies, and objectives and are not historical facts. They are often identified by qualifiers such as “will,” “is transforming,” “expects,” “intends,” or similar expressions. There are risks and uncertainties the outcome of which could cause the Company’s results to differ materially from what is projected.

        Factors that may affect forward-looking statements include the following: higher product costs or other expenses; a major loss of customers; increased competitive pricing pressure on the Company’s businesses; failure to develop or implement new technologies or other business strategies; the outcome of pending and future litigation and governmental proceedings; changes in laws and regulations; facilities disruptions or shutdowns; disruptions in transportation services; natural and other catastrophes; unanticipated weather conditions; and other difficulties in achieving or improving margins or financial performance.

        Trends and projections could also be affected by general industry and market conditions, gross domestic product growth rates, general economic conditions, including interest rate and currency rate fluctuations, global and other conflicts, and other factors.

Quantitative and Qualitative Disclosures about Market Risk

The Company is exposed to foreign currency exchange risk related to its transactions, assets, and liabilities denominated in foreign currencies. The Company partially hedges the net Canadian dollar investment in its Canadian subsidiary with borrowings denominated in Canadian dollars or with a cross- currency swap agreement. See Note 14 to the Consolidated Financial Statements for additional information. For 2002, a uniform 10% strengthening of the U.S. dollar relative to those foreign currencies that affect the Company and its joint ventures would have resulted in a $1.8 million increase in net income. This sensitivity analysis of the effects of changes in foreign currency exchange rates does not factor in potential changes in sales levels or local currency prices.

        The Company also is exposed to interest rate risk in its debt portfolio. All of the Company’s long-term debt at December 31, 2002, is variable rate debt. See Note 14 to the Consolidated Financial Statements for the maturity schedule of the debt outstanding as of December 31, 2002. For 2002, a 1% increase in interest rates paid by the Company would have resulted in a decrease in net income of approximately $0.8 million. This sensitivity analysis of the effects of changes in interest rates on long-term debt does not factor in potential changes in exchange rates or long-term debt levels.

        The Company is not exposed to commodity price risk since it purchases its goods for resale and does not purchase commodities directly.

30

W.W. GRAINGER, INC., AND SUBSIDIARIES 

Selected Financial Data

(In thousands of dollars,
except for per share amounts)	2002	2001	2000	1999	1998
Net sales	$4,643,898	$4,754,317	$4,977,044	$4,636,275	$4,438,975
Net earnings	211,567	174,530	192,903	180,731	238,504
Net earnings per basic share	2.30	1.87	2.07	1.95	2.48
Net earnings per diluted share	2.24	1.84	2.05	1.92	2.44
Total assets	2,437,448	2,331,246	2,459,601	2,564,826	2,103,966
Long-term debt
(less current maturities)	119,693	118,219	125,258	124,928	122,883
Cash dividends paid per share	$       0.715	$       0.695	$       0.670	$       0.630	$       0.585

        The results for 2002 included an after-tax gain on the sale of securities of $4.5 million, or $0.04 per diluted share, and an after-tax gain on the reduction of restructuring reserves established for the shutdown of Material Logic of $1.2 million, or $0.01 per diluted share. These were offset by the cumulative effect of a change in accounting of $23.9 million after-tax, or $0.26 per diluted share.

        The results for 2001 included an after-tax charge of $36.6 million, or $0.39 per share, related to the restructuring charge established in connection with the closing of Material Logic and the write-down of the investment in other digital enterprises.

        The results for 2000 included an after-tax gain of $17.9 million, or $0.19 per share, related to sales of investment securities.

        For further information see Management’s Discussion and Analysis of Financial Condition and Results of Operations, and Notes 3 and 5 to the Consolidated Financial Statements.

Report of Independent Certified Public Accountants

Shareholders and Board of Directors
W.W. Grainger, Inc.

We have audited the accompanying consolidated balance sheets of W.W. Grainger, Inc., and Subsidiaries as of December 31, 2002, 2001, and 2000, and the related consolidated statements of earnings, comprehensive earnings, shareholders’ equity, and cash flows for the years then ended. 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 in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

        In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of W.W. Grainger, Inc., and Subsidiaries as of December 31, 2002, 2001, and 2000, and the consolidated results of their operations and their consolidated cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.

        As discussed in Note 3, effective January 1, 2002, the Company changed its method of accounting for goodwill and other intangible assets upon adoption of Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets.”

GRANT THORNTON LLP

Chicago, Illinois
January 28, 2003
(except Note 26 for which the date is February 14, 2003)

31

Consolidated Statements of Earnings

	For the Years Ended December 31,
(In thousands of dollars, except for per share amounts)		2002		2001		2000
Net sales		$   4,643,898		$   4,754,317		$   4,977,044
Cost of merchandise sold		3,045,686		3,165,030		3,391,707
Gross profit		1,598,212		1,589,287		1,585,337
Warehousing, marketing, and administrative expenses		1,206,996		1,211,644		1,250,217
Restructuring (credit) charge		(1,939	)	39,070		--
Total operating expenses		1,205,057		1,250,714		1,250,217
Operating earnings		393,155		338,573		335,120
Other income (expense):
Interest income		4,573		2,827		1,891
Interest expense		(6,163	)	(10,674	)	(24,403	)
Equity in loss of unconsolidated entities		(3,025	)	(7,205	)	(10,855	)
Loss on liquidation of equity in unconsolidated entity		--		(20,123	)	--
Unclassified-net		9,297		(6,118	)	29,842
		4,682		(41,293	)	(3,525	)
Earnings before income taxes and
cumulative effect of accounting change		397,837		297,280		331,595
Income taxes		162,349		122,750		138,692
Earnings before cumulative effect of accounting change		235,488		174,530		192,903
Cumulative effect of accounting change		(23,921	)	--		--
Net earnings		$      211,567		$      174,530		$      192,903
Earnings per share before cumulative effect of accounting change:
Basic		$            2.56		$            1.87		$            2.07
Diluted		$            2.50		$            1.84		$            2.05
Cumulative effect of accounting change:
Basic		$          (0.26	)	$               --		$                --
Diluted		$          (0.26	)	$               --		$                --
Earnings per share:
Basic		$            2.30		$            1.87		$            2.07
Diluted		$            2.24		$            1.84		$            2.05
Weighted average number of shares outstanding:
Basic		91,982,430		93,189,132		93,003,813
Diluted		94,303,497		94,727,868		94,223,815

The accompanying notes are an integral part of these financial statements.

32

Consolidated Statements of Comprehensive Earnings

	For the Years Ended December 31,
(In thousands of dollars)		2002		2001		2000
Net earnings		$ 211,567		$ 174,530		$ 192,903
Other comprehensive earnings (losses) net of income taxes:
Foreign currency translation adjustments,
net of tax benefit (expense) on a designated hedge
of $551, $(5,455) and $0, respectively		(170	)	(15,457	)	(9,487	)
(Losses) gains on investment securities:
Unrealized holding (losses) gains,
net of tax benefit (expense) of
$1,523, $(3,069) and $39,711, respectively		(2,383	)	4,820		(60,066	)
Reclassifications for net (gains) losses
included in earnings, net of tax
expense of $2,325, $54 and $11,947, respectively		(3,636	)	(84	)	(18,070	)
		(6,189	)	(10,721	)	(87,623	)
Comprehensive earnings		$ 205,378		$ 163,809		$ 105,280

    The accompanying notes are an integral part of these financial statements.

33

Consolidated Balance Sheets

	As of December 31,
(In thousands of dollars)	2002	2001	2000
Assets
Current Assets
Cash and cash equivalents	$   208,528	$   168,846	$     63,384
Accounts receivable (less allowances for
doubtful accounts of $26,868, $30,552,
and $23,436, respectively)	423,240	454,180	608,297
Inventories	721,178	634,654	704,071
Prepaid expenses and other assets	36,665	37,477	25,173
Deferred income tax benefits	95,336	97,454	82,077
Total current assets	1,484,947	1,392,611	1,483,002
Property, Buildings, and Equipment
Land	154,065	150,335	147,437
Buildings, structures, and improvements	769,124	722,043	711,392
Furniture, fixtures, machinery, and equipment	569,669	514,046	449,198
	1,492,858	1,386,424	1,308,027
Less accumulated depreciation and amortization	756,051	696,706	631,630
Property, buildings, and equipment-net	736,807	689,718	676,397
Deferred Income Taxes	20,541	--	8,820
Investments in Unconsolidated Entities	15,988	4,776	23,838
Other Assets
Goodwill	142,140	177,753	180,644
Customer lists and other intangibles	93,644	93,622	89,611
	235,784	271,375	270,255
Less accumulated amortization	117,089	115,892	111,094
	118,695	155,483	159,161
Investments	5,315	27,023	27,761
Capitalized software-net	30,247	39,207	56,118
Sundry	24,908	22,428	24,504
Other assets-net	179,165	244,141	267,544
Total Assets	$2,437,448	$2,331,246	$2,459,601

34

Consolidated Balance Sheets
(continued)

	As of December 31,
(In thousands of dollars, except for per share amounts)	2002		2001		2000
Liabilities and Shareholders' Equity
Current Liabilities
Short-term debt	$        2,967		$        4,526		$    173,538
Current maturities of long-term debt	6,505		12,520		22,770
Trade accounts payable	290,807		275,893		283,112
Accrued compensation and benefits	67,114		64,549		70,756
Accrued contributions to employees' profit sharing plans	62,982		60,103		54,739
Accrued expenses	117,989		127,108		113,057
Income taxes	37,902		9,112		29,352
Total current liabilities	586,266		553,811		747,324
Long-Term Debt (less current maturities)	119,693		118,219		125,258
Deferred Income Taxes	--		1,239		--
Accrued Employment-Related Benefits Costs	63,791		54,649		49,537
Minority Interest	--		139		96
Shareholders' Equity
Cumulative Preferred Stock- $5 par value-12,000,000
shares authorized; none issued nor outstanding	--		--		--
Common Stock-$0.50 par value-
300,000,000 shares authorized;
issued, 109,017,642, 108,473,703,
and 108,037,082 shares, respectively	54,509		54,237		54,019
Additional contributed capital	379,942		289,201		276,817
Retained earnings	2,083,072		1,937,972		1,837,298
Unearned restricted stock compensation	(17,144	)	(17,722	)	(22,720	)
Accumulated other comprehensive losses	(35,742	)	(29,553	)	(18,832	)
Treasury stock, at cost-17,449,587, 15,129,062,
and 14,104,212 shares, respectively	(796,939	)	(630,946	)	(589,196	)
Total shareholders' equity	1,667,698		1,603,189		1,537,386
Total Liabilities and Shareholders' Equity	$ 2,437,448		$ 2,331,246		$ 2,459,601

    The accompanying notes are an integral part of these financial statements.

35

Consolidated Statements of Cash Flows

	For the Years Ended December 31,
(In thousands of dollars)		2002		2001		2000
Cash flows from operating activities:
Net earnings		$ 211,567		$ 174,530		$ 192,903
Provision for losses on accounts receivable		13,328		21,483		18,076
Deferred income taxes		(6,480	)	(8,938	)	(7,612	)
Depreciation and amortization:
Property, buildings, and equipment		75,226		77,737		81,898
Goodwill and other intangibles		677		5,989		8,746
Capitalized software		17,585		19,483		16,249
Tax benefit of stock incentive plans		5,897		1,814		3,198
Gains on sales of investment securities		(7,308	)	(138	)	(30,017	)
Net (gains) losses on sales of property, buildings, and equipment		(5,219	)	(1,613	)	638
Noncash restructuring (credit) charge		(1,939	)	11,996		--
Write-down of investments		3,192		7,400		--
Losses on unconsolidated entities		3,025		25,228		10,855
Cumulative effect of accounting change		23,921		--		--
Change in operating assets and liabilities-
net of business acquisition, joint venture
contributions, and asset write-downs:
Decrease (increase) in accounts receivable		14,514		130,521		(66,332	)
(Increase) decrease in inventories		(97,297	)	66,446		54,468
Increase in prepaid expenses		(72	)	(13,286	)	(7,163	)
Increase (decrease) in trade accounts payable		14,801		(7,168	)	(27,017	)
(Decrease) increase in other current liabilities		(867	)	12,773		2,909
Increase (decrease) in current income taxes payable		27,824		(24,158	)	15,455
Increase in accrued employment-related benefits costs		7,086		5,112		8,819
Other-net		4,009		3,970		2,322
Net cash provided by operating activities		303,470		509,181		278,395
Cash flows from investing activities:
Additions to property, buildings, and equipment		(133,978	)	(100,451	)	(65,507	)
Proceeds from sales of property, buildings, and equipment-net		16,158		12,080		1,063
Additions to capitalized software		(10,047	)	(6,717	)	(29,406	)
Proceeds from sales of investment securities		15,957		1,015		31,665
Purchases of investment securities		--		--		(5,000	)
Net cash paid for business acquisition		--		(14,407	)	--
Investments in unconsolidated entities		(3,211	)	(5,764	)	(26,862	)
Distributions from unconsolidated entities		8,959		--		--
Other-net		404		180		(774	)
Net cash used in investing activities		(105,758	)	(114,064	)	(94,821	)

36

Consolidated Statements of Cash Flows 
(continued)

	For the Years Ended December 31,
(In thousands of dollars)		2002		2001		2000
Cash flows from financing activities:
Net decrease in short-term debt		$    (2,830	)	$(169,012	)	$(123,298	)
Long-term debt payments		(119,760	)	(10,250	)	(70	)
Long-term debt issuance		113,810		--		--
Stock options exercised		17,076		7,981		6,011
Proceeds from sale of treasury stock		--		24,366		--
Purchase of treasury stock-net		(99,882	)	(74,631	)	(947	)
Distributions (to) and contributions from minority interest		--		(91	)	100
Cash dividends paid		(66,467	)	(65,445	)	(62,863	)
Net cash used in financing activities		(158,053	)	(287,082	)	(181,067	)
Exchange rate effect on cash and cash equivalents		23		(2,573	)	(1,806	)
Net Increase in Cash and Cash Equivalents		39,682		105,462		701
Cash and cash equivalents at beginning of year		168,846		63,384		62,683
Cash and cash equivalents at end of year		$ 208,528		$ 168,846		$   63,384
Supplemental cash flow information:
Cash payments for interest (net of amounts capitalized)		$     7,197		$   10,501		$   24,578
Cash payments for income taxes		133,975		154,228		112,934
Noncash investing activities:
Fair value of noncash assets acquired in business acquisition		$          --		$   17,175		$          --
Liabilities assumed in business acquisition		--		(2,768	)	--
(Decrease) increase in fair value
of investment securities, net of tax		(6,019	)	4,736		(78,136	)
Investments in unconsolidated entities		19,618		--		7,831

 The accompanying notes are an integral part of these financial statements.

37

Consolidated Statements of Shareholders' Equity

				Unearned	Accumulated
		Additional		Restricted	Other
(In thousands of dollars,	Common	Contributed	Retained	Stock	Comprehensive	Treasury
except for per share amounts)	Stock	Capital	Earnings	Compensation	Earnings (Loss)	Stock
Balance at January 1, 2000	$53,730	$255,569	$1,707,258	($16,581)	$ 68,791	$(588,238)
Exercise of stock options	140	8,859	--	--	--	--
Issuance of 367,500 shares
of restricted stock	184	15,143	--	(15,450)	--	--
Cancellation of 70,500 shares
of restricted stock	(35)	(2,975)	--	3,010	--	--
Amortization of unearned
restricted stock compensation	--	210	--	6,301	--	--
Purchase of 31,400 shares
of treasury stock, net of
6,480 shares issued	--	11	--	--	--	(958)
Cumulative translation adjustments	--	--	--	--	(9,487)	--
Unrealized holding loss
on investments, net of tax	--	--	--	--	(60,066)	--
Reclassification adjustments
for realized gains included
in net earnings	--	--	--	--	(18,070)	--
Net earnings	--	--	192,903	--	--	--
Cash dividends paid
($0.670 per share)	--	--	(62,863)	--	--	--
Balance at December 31, 2000	$54,019	$276,817	$1,837,298	$(22,720)	$(18,832)	$(589,196)
Exercise of stock options	166	9,476	--	--	--	--
Issuance of 55,000 shares of
restricted stock, net of
28,216 shares retained	13	(849)	--	(2,807)	--	--
Issuance of 192,275 shares
of restricted stock related to
executive stock purchase	96	5,857	--	(5,953)	--	--
Cancellation of 114,655 shares
of restricted stock	(57)	(2,785)	--	4,842	--	--
Issuance of 787,020 shares
of treasury stock related to
executive stock purchase	--	(72)	(8,411)	--	--	32,849
Remeasurement of restricted stock	--	526	--	--	--	--
Amortization of unearned
restricted stock compensation	--	263	--	8,916	--	--
Purchase of 1,820,000 shares
of treasury stock, net of
8,130 shares issued	--	(32)	--	--	--	(74,599)
Cumulative translation adjustments	--	--	--	--	(15,457)	--
Unrealized holding gain on
investments, net of tax	--	--	--	--	4,820	--
Reclassification adjustments
for realized gains included
in net earnings	--	--	--	--	(84)	--
Net earnings	--	--	174,530	--	--	--
Cash dividends paid
($0.695 per share)	--	--	(65,445)	--	--	--
Balance at December 31, 2001	$54,237	$289,201	$1,937,972	$(17,722)	$(29,553)	$(630,946)

38

Consolidated Statements of Shareholders' Equity
(continued)

				Unearned	Accumulated
		Additional		Restricted	Other
(In thousands of dollars,	Common	Contributed	Retained	Stock	Comprehensive	Treasury
except for per share amounts)	Stock	Capital	Earnings	Compensation	Earnings (Loss)	Stock
Balance at December 31, 2001	$54,237	$289,201	$1,937,972	$(17,722)	$(29,553)	$(630,946)
Exercise of stock options	291	22,386	--	--	--	46
Issuance of 110,000 shares
of restricted stock, net of
35,224 shares retained	37	4,631	--	(6,327)	--	--
Remeasurement of restricted stock	--	132	--	--	--	--
Cancellation of 16,360 shares
of restricted stock	(8)	(1,017)	--	507	--	--
Conversion of restricted stock to
restricted stock units	(48)	48	--	--	--	--
Amortization of unearned
restricted stock compensation	--	250	--	6,398	--	--
Purchase of 4,801,600 shares
of stock, net of 4,695,725
shares transferred in connection
with related party transaction	--	64,267	--	--	--	(66,113)
Purchase of 2,221,500 shares
of treasury stock, net of
5,850 shares issued	--	44	--	--	--	(99,926)
Cumulative translation adjustments	--	--	--	--	(170)	--
Unrealized holding losses
on investments, net of tax	--	--	--	--	(2,383)	--
Reclassification adjustments for
realized gains included
in net earnings	--	--	--	--	(3,636)	--
Net earnings	--	--	211,567	--	--	--
Cash dividends paid ($0.715 per share)	--	--	(66,467)	--	--	--
Balance at December 31, 2002	$54,509	$379,942	$2,083,072	$(17,144)	$(35,742)	$(796,939)

 The accompanying notes are an integral part of these financial statements.

39

W.W. GRAINGER, INC., AND SUBSIDIARIES 

December 31, 2002, 2001, and 2000
Notes to Consolidated Financial Statements

NOTE 1--BACKGROUND AND BASIS OF PRESENTATION

Industry Information

The Company is the leading broad-line supplier of facilities maintenance products in North America.

Management Estimates

In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and revenues and expenses. Actual results could differ from those estimates.

Reclassifications

Certain amounts in the 2001 and 2000 financial statements, as previously reported, have been reclassified to conform to the 2002 presentation.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany transactions are eliminated from the consolidated financial statements.

Foreign Currency Translation

The financial statements of the Company’s foreign subsidiaries are generally measured using the local currency as the functional currency. Net exchange gains or losses resulting from the translation of financial statements of foreign operations and related long-term debt are recorded as a separate component of shareholders’ equity.

Investments in Unconsolidated Entities

For investments in which the Company owns or controls from 20% to 50% of the voting shares, the equity method of accounting is used. The Company also accounts for investments below 20% using the equity method when significant influence over operating and financial policies of the investee company can be exercised for those investments. See Note 9 to the Consolidated Financial Statements.

NOTE 2--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition

Revenues recognized include product sales, billings for freight and handling charges, and fees earned for services provided. The Company recognizes product sales and billings for freight and handling charges primarily on the date products are shipped to, or picked up by, the customer. The Company’s standard shipping terms are FOB shipping point. On occasion, the Company will negotiate FOB destination terms. These sales are recognized upon delivery to the customer. Fee revenues, which account for less than 1% of total revenues, are recognized after services are completed.

Cost of Merchandise Sold

Cost of merchandise sold includes product costs and product related costs, freight-out costs, and handling costs. The Company defines handling costs as those costs incurred to fulfill a shipped sales order.

Warehousing, Marketing, and Administrative Expenses

The Company includes in this category purchasing, branch operations, information services, and marketing and selling, as well as other types of general and administrative costs.

Stock Incentive Plans

The Company maintains various stock incentive plans. See Note 16 for additional information regarding these plans. The Company accounts for these plans under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. The Company recognizes compensation cost for restricted shares and restricted stock units to employees. No compensation cost is recognized for stock option grants. All options granted under the Company’s plans had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net earnings and earnings per share if the Company had applied the fair value recognition provisions of Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 123, “Accounting for Stock-based Compensation,” to stock-based compensation. The following table also provides the amount of stock-based compensation cost included in net earnings as reported.

- --------------------------------------------------------------------------
                                          For the Years Ended December 31,
- --------------------------------------------------------------------------

   (In thousands of dollars,
   except for per
   share amounts)                   2002             2001             2000
- --------------------------------------------------------------------------

   Net earnings as reported  $   211,567      $   174,530      $   192,903
   Deduct:
     Total stock-based
     employee
     compensation
     expense determined
     under the fair value
     based method
     for all awards, net
     of related tax              (14,707)         (12,261)          (9,772)
- --------------------------------------------------------------------------
   Pro forma net earnings    $   196,860      $   162,269      $   183,131
==========================================================================

   Earnings per share:
     Basic-as reported       $      2.30      $      1.87      $      2.07
     Basic-pro forma         $      2.14      $      1.74      $      1.97
     Diluted-as reported     $      2.24      $      1.84      $      2.05
     Diluted-pro forma       $      2.10      $      1.72      $      1.94
   Stock-based employee
     compensation cost,
     net of related tax,
     included in net
     earnings as reported    $     4,083      $     5,554      $     4,002
- --------------------------------------------------------------------------

Advertising

Advertising costs are expensed in the year the related advertisement is first presented. Cooperative reimbursements from vendors, which offset advertising costs, are recorded when the related advertising is expensed. Advertising expense was $26.6 million, $55.1 million, and $65.8 million for 2002,

40

2001, and 2000, respectively. For interim reporting purposes, advertising expense is amortized equally over each period, based on estimated expenses for the full year. Advertising costs for media that have not been presented by December 31 are capitalized in prepaid expenses. Amounts included in prepaid expenses at December 31, 2002, 2001, and 2000 were $13.7 million, $13.6 million, and $6.5 million, respectively.

Software Costs

The Company does not sell, lease, or market software. The CD-ROM used by the Company’s customers is a version of the catalog and is distributed at no charge. Costs associated with the CD-ROM are expensed in the year incurred.

Income Taxes

The Company accounts for income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes.” Income taxes are recognized during the year in which transactions enter into the determination of financial statement income, with deferred taxes being provided for temporary differences between financial and tax reporting.

Other Comprehensive Earnings

The Company’s other comprehensive earnings include unrealized gains and losses on investments, net of tax, and foreign currency translation adjustments with no related income tax effects. The cumulative amounts of other comprehensive losses were $35.7 million, $29.6 million, and $18.8 million, at December 31, 2002, 2001, and 2000, respectively.

Allowance for Doubtful Accounts

The Company establishes reserves for customer accounts that are potentially uncollectible. The methods used to estimate the allowances are based on several factors including the age of the receivable, the historical ratio of actual write-offs to sales, and projected write-offs. These analyses take into consideration economic conditions that may have an impact on a specific industry, group of customers, or a specific customer. The reserves could be materially different if economic conditions change or actual results deviate from historical trends.

Inventories

Inventories are valued at the lower of cost or market. Cost is determined primarily by the last-in, first-out (LIFO) method, which accounts for approximately 85% of total inventory. For foreign operations, cost is determined by the first-in, first-out (FIFO) method.

Purchased Tax Benefits

The Company purchased tax benefits through leases as provided by the Economic Recovery Tax Act of 1981. Realized tax benefits, net of repayments, are included in Deferred Income Taxes.

Property, Buildings, and Equipment

Property, buildings, and equipment are valued at cost.

        For financial statement purposes, depreciation and amortization are provided in amounts sufficient to relate the cost of depreciable assets to operations over their estimated service lives, principally on the declining-balance and sum-of-the-years-digits methods. The principal estimated useful lives used in determining depreciation are as follows:

Buildings, structures, and improvements         10 to 45 years

Furniture, fixtures, machinery, and equipment    3 to 10 years

        Improvements to leased property are amortized over the initial terms of the respective leases or the estimated service lives of the improvements, whichever is shorter. The Company capitalized interest costs of $0.6 million, $1.3 million, and $0.7 million in 2002, 2001, and 2000, respectively.

Long-Lived Assets

The Company has adopted SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” effective January 1, 2002. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This statement supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,” and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, “Reporting the Results of Operations – Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions,” for the disposal of a segment of a business. The adoption of this statement did not have a material effect on the Company’s results of operations or financial position.

Insurance Reserves

The Company purchases insurance for catastrophic exposures and those risks required to be insured by law. It also retains a significant portion of the risk of losses related to workers’ compensation, general liability, and property. Reserves for these potential losses are based on an external analysis of the Company’s historical claims results and other actuarial assumptions.

Warranty Reserves

The Company generally warrants the products it sells against defects for one year. For a significant portion of warranty claims, the manufacturer is responsible for the expenses associated with this warranty. For warranty expenses not covered by the manufacturer, the Company provides a reserve for costs based on historical experience. The reserve activity was as follows:

- ---------------------------------------------------------------
                                   As of December 31,
- ---------------------------------------------------------------

   (In thousands of dollars)     2002         2001         2000
- ---------------------------------------------------------------

   Beginning balance          $ 2,368      $ 2,597      $ 2,587
   Returns                     (8,415)      (7,730)      (7,973)
   Provisions                   9,047        7,501        7,983
- ---------------------------------------------------------------
   Ending balance             $ 3,000      $ 2,368      $ 2,597
===============================================================

Cash Flows

The Company considers investments in highly liquid debt instruments, purchased with an original maturity of ninety days or less, to be cash equivalents. For cash equivalents, the carrying amount approximates fair value due to the short maturity of these instruments.

41

New Accounting Standards

In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." SFAS No. 145 addresses a variety of accounting practices. Its provisions related to the rescission of SFAS No. 4 (Reporting Gains and Losses from Extinguishment of Debt) are effective for fiscal years beginning after May 15, 2002. Its provisions related to SFAS No. 13 (Accounting for Leases) are effective for transactions occurring after May 15, 2002. All other provisions are effective for financial statements issued on or after May 15, 2002. SFAS No. 44 was titled "Accounting for Intangible Assets of Motor Carriers." SFAS No. 64 was titled "Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements."

        The Company adopted the provisions of SFAS No. 145 that were effective as of May 15, 2002. This adoption did not have a material effect on the Company’s results of operations or financial position. The Company does not expect adoption of the provisions that are effective for fiscal years beginning after May 15, 2002, to have a material effect on its results of operations or financial position.

        In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” It requires recognition of costs associated with exit or disposal activities at the time they are incurred rather than at the date of a commitment to an exit or disposal plan. The statement is effective for exit or disposal activities initiated after December 31, 2002. The Company does not expect adoption of this statement to have a material effect on its results of operations or financial position.

        In November 2002, the Emerging Issues Task Force of the FASB reached consensus on Issue 02-16, “Accounting by a Customer for Certain Consideration Received from a Vendor.” The consensus reached was that cash consideration from a vendor is presumed to be a reduction of the prices of the vendor’s products and should be recognized as a reduction of cost of merchandise sold. It also reached consensus on when a customer should recognize a rebate or refund that is payable when the customer completes a specific level of purchases. Recognition should occur when the rebate or refund is probable and reasonably estimable and should be based on a systematic and rational method. This is effective for arrangements entered into after November 21, 2002. The Company does not expect adoption to have a material effect on its results of operations or financial position.

        In November 2002, the FASB issued Interpretation No. 45 (FIN 45), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.” It is an interpretation of FASB Statements No. 5, 57, and 107 and rescission of FASB Interpretation No. 34. FIN 45 elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. It also clarifies that a guarantor is required to recognize at the inception of a guarantee a liability for the fair value of the obligation undertaken in issuing the guarantee. Initial recognition and measurement provisions of FIN 45 are applicable on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor’s fiscal year-end. Disclosure requirements of FIN 45 are effective for financial statements of interim or annual periods ending after December 15, 2002. The Company does not expect adoption of this interpretation to have a material effect on its results of operations or financial position, and it has complied with the disclosure requirements for the year ended December 31, 2002. The Company has guaranteed certain bank loans of employees as disclosed in Note 16 to the Consolidated Financial Statements and has certain other guarantees as disclosed in Note 25 to the Consolidated Financial Statements.

        In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation—Transition and Disclosure.” It amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. It also amends the disclosure requirements of SFAS No. 123 to require more prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method on reported amounts. The amendments to SFAS No. 123 in paragraphs 2(a)-2(e) were effective for financial statements for fiscal years ending after December 15, 2002, and were adopted by the Company in 2002. This adoption did not have a material effect on the Company’s results of operations or financial position. The amendment to SFAS No. 123 in paragraph 2(f) and the amendment to Opinion 28 in paragraph 3 are effective for financial reports containing condensed financial statements for interim periods beginning after December 15, 2002. The Company does not expect adoption of these portions of the statement to have a material effect on its results of operations or financial position.

        In January 2003, the FASB issued Interpretation No. 46 (FIN 46), “Consolidation of Variable Interest Entities.” It is an interpretation of Accounting Research Bulletin No. 51 and revises the requirements for consolidation by business enterprises of variable interest entities. FIN 46 applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest acquired before February 1, 2003. FIN 46 applies to public enterprises as of the beginning of the applicable interim or annual period and to nonpublic enterprises as of the end of the applicable annual period. It may be applied prospectively with a cumulative-effect adjustment as of the date on which it is first applied or by restating previously issued financial statements for one or more years with a cumulative-effect adjustment as of the beginning of the first year restated. The Company is not party to any variable interest entity. It does not expect adoption of this interpretation to have a material effect on its results of operations or financial position.

NOTE 3--GOODWILL AND OTHER INTANGIBLES

On July 20, 2001, the FASB issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." As a result of adopting SFAS No. 141

42

and SFAS No. 142, the Company's accounting policies for goodwill and other intangibles changed effective January 1, 2002, as described below:

        Intangibles subject to amortization. The Company recognizes an acquired intangible apart from goodwill whenever the intangible arises from contractual or other legal rights, or whenever it can be separated or divided from the acquired entity and sold, transferred, licensed, rented, or exchanged, either individually or in combination with a related contract, asset, or liability. Such intangibles are amortized over their estimated useful lives of seven to 17 years. Impairment losses are recognized if the carrying amount of an intangible subject to amortization is not recoverable from expected future cash flows and its carrying amount exceeds its fair value. Intangible amortization is expected to be $0.6 million per year for 2003 through 2007.

        Goodwill and intangibles with indefinite lives. The Company recognizes goodwill as the excess cost of an acquired entity over the net amount assigned to assets acquired and liabilities assumed. Prior to January 1, 2002, goodwill was amortized over periods of up to 40 years. Beginning January 1, 2002, goodwill is no longer amortized. Goodwill will be tested for impairment on an annual basis and between annual tests whenever there is an impairment indicated. Impairment losses will be recognized whenever the implied fair value of goodwill is less than its carrying value. Beginning January 1, 2002, intangibles with indefinite lives are no longer amortized. They are tested for impairment by comparing their carrying value to fair value annually or whenever there is an impairment indicated. Impairment losses will be recognized whenever the fair value is less than the carrying value.

        In the second quarter of 2002, the Company completed its initial process of evaluating goodwill for impairment in adopting SFAS No. 142. Fair values of reporting units were estimated using a present value method that discounted future cash flows. When available and as appropriate, comparative market multiples were used to corroborate results of the discounted cash flows. As a result of application of the new impairment methodology introduced by SFAS No. 142, the Company recorded a noncash charge to earnings of $32.3 million ($23.9 million after-tax, or $0.26 per diluted share) related to the write-down of goodwill of its Canadian subsidiary, Acklands-Grainger Inc. (Acklands). Previous accounting rules incorporated a comparison of book value to undiscounted cash flows, whereas new rules require a comparison of book value to discounted cash flows, which are lower. There were no material adjustments relating to the classification of the Company’s intangible assets or amortization periods as a result of adopting SFAS No. 142.  In November 2002, the Company performed its annual evaluation of goodwill for impairment and no further write-downs were required.

        Reported net earnings would have been as set forth below if SFAS No. 142 had been in effect for all periods presented and excludes amortization expense (including any related tax) related to goodwill and other intangible assets that are no longer being amortized.

	For the years ended December 31,
(In thousands of dollars, except for per share amounts)	2002	2001	2000
Earnings before cumulative effect of accounting change, as reported	$ 235,488	$ 174,530	$ 192,903
Amortization, net of tax	--	3,253	2,610
Adjusted earnings before cumulative effect of accounting change	$ 235,488	$ 177,783	$ 195,513
Net earnings as reported	$ 211,567	$ 174,530	$ 192,903
Amortization, net of tax	--	3,253	2,610
Adjusted net earnings	$ 211,567	$ 177,783	$ 195,513
Before cumulative effect of accounting change:
Basic earnings per share:
As reported	$       2.56	$       1.87	$       2.07
Change in amortization expense	--	0.03	0.03
Adjusted basic earnings per share	$       2.56	$       1.90	$       2.10
Diluted earnings per share:
As reported	$       2.50	$       1.84	$       2.05
Change in amortization expense	--	0.03	0.03
Adjusted diluted earnings per share	$       2.50	$       1.87	$       2.08
After cumulative effect of accounting change:
Basic earnings per share:
As reported	$       2.30	$       1.87	$       2.07
Change in amortization expense	--	0.03	0.03
Adjusted basic earnings per share	$       2.30	$       1.90	$       2.10
Diluted earnings per share:
As reported	$       2.24	$       1.84	$       2.05
Change in amortization expense	--	0.03	0.03
Adjusted diluted earnings per share	$       2.24	$       1.87	$       2.08

43

The change in the carrying amount of goodwill by segment from December 31, 2001, to December 31, 2002, is as follows:

Goodwill, Net by Segment

(In thousands of dollars)	December 31, 2001	Transition Impairment		Transfer to Investment in Joint Venture		Translation and Other	December 31,  2002
Branch-based Distribution	$125,443	$(32,265	)	$(5,063	)	$1,208	$  89,323
Lab Safety	25,002	--		--		103	25,105
Integrated Supply	--	--		--		--	--
Total	$150,445	$(32,265	)	$(5,063	)	$1,311	$114,428

   The Company's balances of other intangibles were as follows:

- -----------------------------------------------------------------
                                             As of December 31,
- -----------------------------------------------------------------
   (In thousands of dollars)                  2002        2001
- -----------------------------------------------------------------

   Other amortizable intangibles, gross   $ 91,970       $ 91,970
   Accumulated amortization                (88,525)       (87,744)
- -----------------------------------------------------------------

   Other amortizable intangibles, net     $  3,445       $  4,226
=================================================================

   Other intangibles with
     indefinite lives, net                $    822       $    812
=================================================================

NOTE 4--BUSINESS ACQUISITION

On February 26, 2001, Lab Safety Supply, Inc., the Company's wholly owned subsidiary, acquired The Ben Meadows Co., Inc. (Ben Meadows), for approximately $14.4 million, including costs associated with the acquisition.

        Ben Meadows, a privately held U.S. corporation with annual sales of $20 million, was a business-to-business direct marketer specializing in equipment and supplies for the environmental and forestry management markets. The acquisition was accounted for under the purchase method of accounting. Results for Ben Meadows are included in the Company’s results since the date of its acquisition. Given the size of the acquisition, pro forma disclosures are not considered necessary.

NOTE 5--SPECIAL CHARGES

On April 23, 2001, the Company announced plans to shut down the operations of Material Logic, with the exception of FindMRO, and write down its investment in other digital activities. The Company launched Material Logic in January 2001 as a utility for large customers to facilitate the purchase of facilities maintenance products over the Internet. Material Logic would have allowed large customers to access a single, networked catalog containing easily searchable and detailed product information, pre-negotiated prices, and availability information for indirect materials from major distributors. In order for Material Logic to grow, it needed broad industry support and funding from other equity participants. The Company closed Material Logic in April 2001 because economic and market conditions made it difficult to find funding partners and the market developed slower than anticipated. The Company shut down all of Material Logic’s branded e-commerce sites except FindMRO, which remains an integrated sourcing service for the Company’s customers. Effective June 1, 2001, the results for FindMRO were added to the Branch-based Distribution Businesses segment.

        In connection with the closing of Material Logic, the Company took a pretax charge of $39.1 million (after-tax $23.2 million) in 2001. The Company provided a comprehensive separation package, including outplacement services, to the employees whose jobs were eliminated. As part of the shutdown, 166 employees were severed. Severance payments began in July 2001 and will continue until June 2004, when the last severance package expires. Other shutdown costs include lease obligations which, if not settled earlier, will continue until 2004. In 2002, the Company reduced the reserve by $1.9 million to reflect management’s current estimate of costs.

        In addition, as part of other income and expense, the Company wrote down its investment in other digital enterprises and took a pretax charge of $25.1 million (after-tax $13.4 million) in 2001. This included a $20.1 million pretax loss on the divestiture of the Company’s 40% investment in Works.com, Inc. (Works.com), which was recorded as Loss on liquidation of equity in unconsolidated entity. The Company acquired its ownership in Works.com, an unrelated third party, on August 1, 2000, when the Company’s OrderZone.com business unit was combined with Works.com. Also included was a $5.0 million write-down to net realizable value of investments in other digital businesses, which was recorded in Unclassified-net.

The total effect of these charges amounted to an after-tax cost of $36.6 million, or $0.39 per share, in 2001.

44

The following tables show the activity from April 23, 2001, to December 31, 2002, and balances of the Material Logic restructuring reserve:

	April 23,			December 31,
(In thousands of dollars)	2001	Deductions	Adjustments	2001
Restructuring reserve (Operating expenses):
Workforce reductions	$ 17,200	$  (9,264)	$ (3,056)	$   4,880
Asset and equipment write-offs and disposals	5,800	(4,277)	(587)	936
Contractual obligations	5,000	(7,482)	2,482	--
Other shutdown costs	12,000	(8,570)	231	3,661
	$ 40,000	$(29,593)	$    (930)	$   9,477
	December 31,			December 31,
(In thousands of dollars)	2001	Deductions	Adjustments	2002
Restructuring reserve (Operating expenses):
Workforce reductions	$ 4,880	$  (2,737)	$    (499)	$   1,644
Asset and equipment write-offs and disposals	936	(936)	--	--
Other shutdown costs	3,661	(1,371)	(1,440)	850
	$ 9,477	$  (5,044)	$ (1,939)	$   2,494

        Deductions in 2001 reflect cash payments of $17.6 million and noncash charges of $12.0 million.

        Deductions in 2002 reflect cash payments of $4.1 million and noncash charges of $0.9 million. The amounts in the adjustments column are reclassifications and reductions to reflect management’s current estimate of costs, by expense category.

NOTE 6--CONCENTRATION OF CREDIT RISK

The Company places temporary cash investments with institutions of high credit quality and, by policy, limits the amount of credit exposure to any one institution.

        The Company has a broad customer base representing many diverse industries doing business in all regions of the United States as well as other areas of North America. Consequently, no significant concentration of credit risk is considered to exist.

NOTE 7--ALLOWANCE FOR DOUBTFUL ACCOUNTS

The following table shows the activity of allowance for doubtful accounts:

- ---------------------------------------------------------------------
                                   For the Years Ended December 31,
- ---------------------------------------------------------------------

   (In thousands of dollars)       2002           2001           2000
- ---------------------------------------------------------------------

   Balance at beginning
     of period                 $ 30,552       $ 23,436       $ 18,369
   Charged to costs
     and expenses                13,328         21,483         18,076
   Deductions (a)               (17,012)       (14,367)       (13,009)
- ---------------------------------------------------------------------

   Balance at
     end of period             $ 26,868       $ 30,552       $ 23,436
=====================================================================

(a) Accounts charged off as uncollectible, less recoveries.

NOTE 8--INVENTORIES

Inventories primarily consist of merchandise purchased for resale.

        Inventories would have been $228.1 million, $225.1 million, and $227.8 million higher than reported at December 31, 2002, 2001, and 2000, respectively, if the first-in, first-out (FIFO) method of inventory accounting had been used for all Company inventories. Net earnings would have increased (decreased) by $1.8 million, $(1.6) million, and $(0.7) million for the years ended December 31, 2002, 2001, and 2000, respectively, using the FIFO method of accounting. Inventories under FIFO approximate replacement cost.

NOTE 9--INVESTMENTS IN UNCONSOLIDATED ENTITIES

During 2001 and 2000, the Company made investments in several Internet related start-up joint ventures.

        On August 1, 2000, the Company completed a transaction that combined the assets of its OrderZone.com business with Works.com. The Company’s investment in Works.com consisted of $21 million in cash, contribution of net assets at their historic cost of $8.1 million, and costs incurred of $3.2 million. In addition, the Company agreed to make Works.com’s purchasing management service and marketplace available to the Company’s small and mid-size customers through grainger.com. For its contributions, the Company received a 40% equity stake in the combined company, which was subject to certain voting and transfer restrictions. Subsequent to August 1, 2000, the Company accounted for its interest in Works.com using the equity method. Prior to August 1, 2000, the results of OrderZone.com were included in the consolidated results of the Company. In the second quarter of 2001, the Company divested its 40% ownership share of Works.com, Inc. See Note 5 to the Consolidated Financial Statements.

45

        On February 1, 2002, the Company finalized the agreement creating the joint venture USI-AGI Prairies Inc. The joint venture was between Acklands and Uni-Select Inc. (Uni-Select), a Canadian company. The joint venture combined Uni-Select’s Western Division with the automotive aftermarket division of Acklands, which operated as Bumper to Bumper. Acklands’ contribution of net assets was approximately U.S.$14.6 million. Additionally, Acklands’ carrying value of its investment in this joint venture includes U.S.$5.1 million of allocated goodwill. The Company has a 50% stake in the new entity, which is managed by Uni-Select. Net sales for the automotive aftermarket parts division of Acklands were approximately U.S.$33 million in 2001.

        No gain or loss was recognized when this transaction was finalized. Through February 1, 2002, the results of the Company’s automotive aftermarket parts division were consolidated with Acklands. Beginning February 2, 2002, the Company accounted for its joint venture investment using the equity method.

        The Company also made investments in three other joint ventures. The Company accounts for these joint ventures using the equity method of accounting. The Company’s ownership percentages for these joint ventures range from 11% to 49%.  As start-up businesses, the time frame or the ultimate ability to achieve profitability is uncertain. Reaching profitability is also dependent upon the entities securing sufficient capital funding to support developmental activities. The losses reflect the start-up nature of these businesses.

        The table below summarizes the activity of these investments.

- --------------------------------------------------------------------
                                            Cumulative
                                             After-Tax
                                                Equity
                            Investment          Income
   (In thousands of dollars)      Cost         (Losses)        Total
- --------------------------------------------------------------------

   Balance at
     January 1, 2000          $     --       $     --       $     --
       Works.com                32,284        (10,031)        22,253
       Other equity
         investments             2,409           (824)         1,585
- --------------------------------------------------------------------

   Balance at
     December 31, 2000          34,693        (10,855)        23,838
       Works.com                    --         (4,608)        (4,608)
       Other equity
         investments             5,764         (2,597)         3,167
       Divestiture of
         Works.com             (17,621)            --        (17,621)
- --------------------------------------------------------------------

   Balance at
     December 31, 2001          22,836        (18,060)         4,776
       USI-AGI
         Prairies Inc.          19,985            970         20,955
       Distribution of cash
         from USI-AGI
         Prairies Inc.          (8,959)            --         (8,959)
       Other equity
         investments             3,211         (3,995)          (784)
- --------------------------------------------------------------------

   Balance at
     December 31, 2002        $ 37,073       $(21,085)      $ 15,988
====================================================================

NOTE 10--INVESTMENTS

Investments consist of marketable securities and non-publicly traded equity securities for which a market value is not readily determinable. Marketable securities are all classified as available-for-sale and are reported at fair value, with unrealized gains or losses on such securities reflected, net of taxes, as a separate component of shareholders’ equity. In accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” the Company evaluates whether a decline in fair value below cost is other than temporary based on the amount of unrealized losses and their duration. Other-than-temporary impairments are recognized in earnings. Non-publicly traded equity securities are reported at lower of cost or estimated net realizable value. Adjustments to net realizable value are recognized in earnings. There have been no dividends earned on these investments. During 2002, 2001, and 2000, the Company sold a portion of its marketable securities investments. The gains on these sales were calculated using the specific identification method and were reported in Unclassified–net.

        The original cost, pretax realized and unrealized (losses) gains, adjustments to net realizable value, and fair value of investments are summarized as follows:

- ------------------------------------------------------------------
                                      As of December 31,
- ------------------------------------------------------------------

   (In thousands of dollars)     2002        2001        2000
- ------------------------------------------------------------------

   Marketable securities
     Cost                    $  6,521       $ 16,517       $16,852
     Unrealized (losses)
       gains, net              (1,206)         8,661           909
- ------------------------------------------------------------------

     Fair value                 5,315         25,178        17,761
   Non-publicly traded
     equity securities,
     at estimated net
     realizable value              --          1,845        10,000
- ------------------------------------------------------------------

                             $  5,315       $ 27,023       $27,761
==================================================================

   Proceeds from sales       $ 15,957       $  1,015       $31,665
==================================================================

   Realized gains on sales   $  7,308       $    138       $30,017
==================================================================

   Reductions to net
     realizable value        $ (1,845)      $ (8,155)      $    --
==================================================================

NOTE 11--CAPITALIZED SOFTWARE

Amortization of capitalized software is predominately on a straight-line basis over three and five years. Amortization expense was $17.6 million, $19.5 million, and $16.2 million, for the years ended December 31, 2002, 2001, and 2000, respectively.

46

NOTE 12--SHORT-TERM DEBT

The following summarizes information concerning short-term debt:

	As of December 31,
(In thousands of dollars)		2002		2001		2000
Bank Debt
Outstanding at
December 31		$2,967		$    4,526		$    2,972
Maximum month-end
balance during
the year		$4,194		$    4,559		$    4,818
Average amount
outstanding during
the year		$3,611		$    3,645		$    4,191
Weighted average
interest rate
during the year		3.4	%	5.3	%	6.9	%
Weighted average
interest rate at
December 31		2.9	%	3.4	%	7.4	%
Commercial Paper
Outstanding at
December 31		$     --		$         --		$170,566
Maximum month-end
balance during
the year		$     --		$128,632		$300,607
Average amount
outstanding during
the year		$     --		$  64,438		$247,640
Weighted average
interest rate
during the year		--	%	5.3	%	6.5	%
Weighted average
interest rate at
December 31		--	%	--	%	6.6	%

        The Company and its subsidiaries had committed lines of credit totaling $267.7 million, $417.6 million, and $518.3 million at December 31, 2002, 2001, and 2000, respectively, including $12.7 million, $12.6 million, and $13.3 million, respectively, denominated in Canadian dollars. At December 31, 2002, 2001, and 2000, borrowings under Company committed lines of credit were $3.0 million, $4.5 million, and $3.0 million, respectively. The Company had committed lines of credit available of $264.7 million, $413.1 million, and $515.3 million at December 31, 2002, 2001, and 2000, respectively.

        The Company also had a $15.9 million, $15.7 million, and $16.7 million uncommitted line of credit denominated in Canadian dollars at December 31, 2002, 2001, and 2000, respectively.

NOTE 13--EMPLOYEE BENEFITS

Retirement Plans. A majority of the Company’s employees are covered by a noncontributory profit sharing plan. This plan provides for annual employer contributions based upon a formula related primarily to earnings before federal income taxes, limited to 25% of the total compensation paid to all eligible employees. The Company also sponsors additional defined contribution plans, which cover most of the other employees. Provisions under all plans were $50.0 million, $47.6 million, and $42.4 million, for the years ended December 31, 2002, 2001, and 2000, respectively.

        Postretirement Benefits. The Company has a postretirement healthcare benefits plan that provides coverage to its retired employees and their dependents should they elect to maintain such coverage. A majority of the Company’s U.S. employees become eligible for participation when they qualify for retirement while working for the Company. Participation in the plan is voluntary and requires participants to make contributions toward the cost of the plan, as determined by the Company.

        The net periodic benefits costs charged to operating expenses included the following components:

- -------------------------------------------------------------------
                                 For the Years Ended December 31,
- -------------------------------------------------------------------

   (In thousands of dollars)       2002          2001          2000
- -------------------------------------------------------------------

   Service cost                $  5,332       $ 3,442       $ 3,083
   Interest cost                  5,097         3,689         3,189
   Expected return
     on assets                   (1,192)       (1,421)       (1,563)
   Amortization of
     transition asset
     (22-year amortization)        (143)         (143)         (143)
   Amortization of
     unrecognized
     losses (gains)               1,079          (144)         (724)
   Amortization of
     prior service cost             (75)          (75)          (75)
- -------------------------------------------------------------------

     Net periodic
       benefits cost           $ 10,098       $ 5,348       $ 3,767
===================================================================

47

        A reconciliation of the beginning and ending balances of the accumulated postretirement benefit obligation (APBO), the fair value of assets, and the funded status of the benefit obligation were as follows:

- -----------------------------------------------------------------------
  (In thousands of dollars)          2002           2001           2000
- -----------------------------------------------------------------------

   Benefit obligation
     at the beginning
     of the year                 $ 62,811       $ 49,044       $ 40,394
       Service cost                 5,332          3,442          3,083
       Interest cost                5,097          3,689          3,189
       Plan participant
         contributions                929            882            762
       Actuarial loss              18,956          7,960          3,598
       Benefits paid               (2,984)        (2,206)        (1,982)
- -----------------------------------------------------------------------

   Benefit obligation
     at the end
     of the year                   90,141         62,811         49,044
- -----------------------------------------------------------------------

   Fair value of
     plan assets at
     beginning of year             19,866         20,505         22,188
       Actual loss on
         plan assets               (3,738)        (2,785)        (1,848)
       Employer
         contributions              5,940          3,470          1,385
       Plan participant
         contributions                929            882            762
       Benefits paid               (2,984)        (2,206)        (1,982)
- -----------------------------------------------------------------------

   Fair value of plan
     assets at the
     end of the year               20,013         19,866         20,505
- -----------------------------------------------------------------------

   Funded status                  (70,128)       (42,945)       (28,539)
   Unrecognized
     transition asset              (1,714)        (1,856)        (1,999)
   Unrecognized
     net actuarial
     losses (gains)                31,669          8,863         (3,447)
   Unrecognized prior
     service cost                    (625)          (702)          (777)
- -----------------------------------------------------------------------

   Accrued postretirement
     benefits cost               $(40,798)      $(36,640)      $(34,762)
=======================================================================

        The benefit obligation was determined by applying the terms of the plan and actuarial models required by SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions.” These models include various actuarial assumptions, including discount rates, assumed rates of return on plan assets, and healthcare cost trend rates. The actuarial assumptions also anticipate future cost-sharing changes to retiree contributions that will maintain the current cost-sharing ratio between the Company and the retirees. The Company evaluates its actuarial assumptions on an annual basis and considers changes in these long-term factors based upon market conditions, historical experience, and the requirements of SFAS No. 106.

        The following assumptions were used in accounting for postretirement benefits:

- -----------------------------------------------------------
                               2002        2001        2000
- -----------------------------------------------------------

   Discount rate               6.5%        7.0%        7.5%
   Expected long-term
     rate of return on
     plan assets,
     net of tax at 40%         5.4%        6.0%        6.0%
   Initial healthcare
     cost trend rate          10.0%        8.1%        8.5%
   Ultimate healthcare
     cost trend rate           5.0%        5.0%        5.0%
   Year ultimate healthcare
     cost trend
     rate reached              2014        2010        2010
- -----------------------------------------------------------

        The discount rate assumptions reflect the rates available on high-quality fixed income debt instruments on December 31 of each year.

        The Company has established a Group Benefit Trust as the vehicle to fund the plan and process benefit payments. The funding of the trust is an estimated amount which is intended to allow the maximum deductible contribution under the Internal Revenue Code of 1986, as amended, and was $5.9 million, $3.5 million, and $1.4 million, for the years ended December 31, 2002, 2001, and 2000, respectively. The assets of the trust are invested in Standard & Poor’s 500 index (S&P 500) funds. The Company uses long-term historical actual return on the plan assets and the historical performance of the S&P 500 to develop its expected return on plan assets. The required use of expected long-term rate of return on plan assets may result in recognized income that is greater or less than the actual return on plan assets in any given year. Over time, however, the expected long-term returns are designed to approximate the actual long-term returns and, therefore, result in a pattern of income and expense recognition that more closely matches the pattern of the services provided by the employees. The change in the expected long-term rate of return on plan assets did not have a material effect on the net periodic benefit cost for the year ended December 31, 2002.

        The Company reviews external data and its own historical trends for healthcare costs to determine the healthcare cost trend rates. If the assumed healthcare cost trend rate increased by one percentage point for each year, the APBO as of December 31, 2002, would increase by $18.0 million. The aggregate of the service cost and interest cost components of the 2002 net periodic postretirement benefits expense would increase by $2.4 million. If the assumed healthcare cost trend rate decreased by one percentage point for each year, the APBO as of December 31, 2002, would decrease by $14.3 million. The aggregate of the service cost and interest cost components of the 2002 net periodic postretirement benefits expense would decrease by $1.9 million.

48

Note 14—LONG-TERM DEBT

Long-term debt consisted of the following:

- -------------------------------------------------------------------
                                         As of December 31,
- -------------------------------------------------------------------

  (In thousands of dollars)        2002          2001          2000
- -------------------------------------------------------------------

   Commercial paper            $114,798      $     --      $     --
   Uncommitted revolving
     credit facility                 --       113,324       120,363
   Industrial development
     revenue and private
     activity bonds              11,400        17,415        27,650
   Other                             --            --            15
- -------------------------------------------------------------------

                                126,198       130,739       148,028
   Less current maturities        6,505        12,520        22,770
- -------------------------------------------------------------------

                               $119,693      $118,219      $125,258
===================================================================

        During the third quarter of 2002, the Company refinanced a C$180.4 million bank loan that had been designated as a non-derivative hedge of the net investment in the Company’s Canadian subsidiary. The bank loan was replaced with commercial paper. Concurrently, the Company entered into a cross-currency swap. This derivative instrument was designated as a hedge of the net investment in the Company’s Canadian subsidiary and is recognized on the balance sheet at its fair value.

        The two-year cross-currency swap matures on September 27, 2004. The cross-currency swap is based on notional principal amounts of C$180.4 million and U.S.$113.7 million, respectively. Initially the Company gave the counterparty U.S.$113.7 million and received from the counterparty C$180.4 million. The Company receives interest based on the 30-day U.S. commercial paper rate. At December 31, 2002, this rate was 1.31%. The Company pays interest to the counterparty based on the 90-day Canadian Bankers’ Acceptances rate plus 14 basis points. At December 31, 2002, this rate was 2.98%. The outstanding underlying commercial paper was $113.8 million with an interest rate of 1.40% at December 31, 2002. The fair value of the cross-currency swap was $1.0 million as of December 31, 2002, and is included in commercial paper. The Company has the intent and the ability to refinance the underlying commercial paper issued in connection with the cross-currency swap with its credit lines up to and through the swap’s maturity. At maturity of this cross-currency swap, the Company will pay the counterparty C$180.4 million and will receive U.S.$113.7 million.

        The Company formally assesses, on a quarterly basis, whether the cross-currency swap is effective at offsetting changes in the fair value of the underlying exposure. Because of the high degree of effectiveness between the hedging instrument and the underlying exposure being hedged, fluctuations in the value of the cross-currency swap are generally offset by changes in the net investment due to exchange rates. Under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” changes in the fair value of this instrument are recognized in foreign currency translation adjustment, a component of accumulated other comprehensive earnings, to offset the change in the value of the net investment of the Canadian investment being hedged. During 2002, the Company included a $1.0 million loss in the accumulated translation adjustment related to this hedge. Any ineffective portion of a financial instrument’s change in fair value is recognized in earnings. The impact to 2002 earnings resulting from the ineffective portion of the hedge was immaterial. The cross-currency swap is an over-the-counter instrument with a liquid market. The Company has established strict counterparty credit guidelines and entered into the transaction with an investment grade financial institution. The Company does not enter into derivative financial instruments for trading purposes.

        The industrial development revenue and private activity bonds include various issues that bear interest at variable rates up to 15%, or variable rates up to 78.2% of the prime rate, and come due in various amounts from 2003 through 2021. Interest rates on some of the issues are subject to change at certain dates in the future. The bondholders may require the Company to redeem certain bonds concurrent with a change in interest rates and certain other bonds annually. In addition, $6.5 million of these bonds had an unsecured liquidity facility available at December 31, 2002, for which the Company compensated a bank through a commitment fee of 0.07%. There were no borrowings related to this facility at December 31, 2002. The Company classified $6.5 million, $12.5 million and $22.8 million of bonds currently subject to redemption options in current maturities of long-term debt at December 31, 2002, 2001, and 2000, respectively.

        The aggregate amounts of long-term debt maturing in each of the five years subsequent to December 31, 2002, are as follows:

- ------------------------------------------------------------
                                        Amounts     Amounts
                                  Payable Under  Subject to
                                       Terms of  Redemption
   (In thousands of dollars)         Agreements     Options
- ------------------------------------------------------------

   2003                                $     --      $6,505
   2004                                 114,798          --
   2005                                      --       4,895
   2006                                      --          --
   2007                                      --          --
- ------------------------------------------------------------

        The Company’s debt instruments include only standard affirmative and negative covenants that are normal in debt instruments of similar amounts and structure. The Company’s debt instruments do not contain financial or performance covenants restrictive to the business of the Company, reflecting its strong financial position.

        The Company is in compliance with all debt covenants for the year ended December 31, 2002.

49

NOTE 15--LEASES

The Company leases certain land, buildings, and equipment. The Company capitalizes all significant leases that qualify as capital leases.

        At December 31, 2002, the approximate future minimum aggregate payments for all leases were as follows:

	Real
(In thousands of dollars)	Property
Operating Leases
2003	$17,219
2004	13,159
2005	9,874
2006	6,282
2007	4,665
Thereafter	6,804
Total minimum payments required	$58,003
Less amounts representing sublease income	769
	$57,234

        Total rent expense, including both items under lease and items rented on a month-to-month basis, was $20.9 million, $18.8 million, and $20.8 million, for 2002, 2001, and 2000, respectively.

NOTE 16--STOCK INCENTIVE PLANS

The Company maintains stock incentive plans under which the Company may grant a variety of incentive awards to employees. Shares of common stock were authorized for issuance under the plans in connection with awards of non-qualified stock options, stock appreciation rights, restricted stock, phantom stock rights, and other stock-based awards.

        The plans authorize the granting of options to purchase shares at a price of not less than 100% of the closing market price on the last trading day preceding the date of grant. The options expire no later than ten years after the date of grant.

        Shares relating to terminated, surrendered, or canceled options and stock appreciation rights, to forfeited restricted stock or other awards, or to transactions that result in fewer shares being issued under the plans, are again available for awards under the plans.

        In 2001, a broad-based stock option grant covering 764,400 shares was made to employees who had a minimum of five years of service and who were not participants in other stock option programs. In 2002, the Company continued to give broad-based stock option grants by granting options covering 74,300 shares to those employees who reached major service milestones.

        The plans authorize the granting of restricted stock, which is held by the Company pursuant to the terms and conditions related to the applicable grants. Except for the right of disposal, holders of restricted stock have full shareholders’ rights during the period of restriction, including voting rights and the right to receive dividends.

        There were 110,000 shares of restricted stock issued in 2002 with a weighted average fair market value of $56.31 per share. There were 247,275 shares of restricted stock issued in 2001 with a weighted average fair market value of $33.30 per share. There were 367,500 shares of restricted stock issued in 2000 with a weighted average fair market value of $41.90 per share. The shares vest over periods from two to ten years from issuance, although accelerated vesting is provided in certain instances. Restricted stock released totaled 112,000, 87,000, and 5,000 shares in 2002, 2001, and 2000, respectively. Compensation expense related to restricted stock awards is based upon market prices at the date of grant and is charged to earnings on a straight-line basis over the period of restriction. Total compensation expense related to restricted stock was $6.4 million, $8.9 million, and $6.3 million in 2002, 2001, and 2000, respectively. In 2001, $2.2 million of restricted stock compensation expense related to the 2001 digital business restructuring was included in restructuring charges.

        In 2002, 95,720 shares of restricted stock were converted into a like number of restricted stock units, which are subject to the same vesting provisions as the original restricted stock. These restricted stock units are to be settled, at various times after vesting, by the delivery of unrestricted shares of Company common stock on a one for one basis.

        On March 26, 2001, a group of 83 executive officers and other key managers bought 787,020 treasury shares from the Company at the then-current market price of the shares. Cash proceeds from the sale, which amounted to $24.4 million, were used by the Company to repurchase shares of the Company’s stock on the open market. Executives who met a threshold purchase requirement of one times their annual base salary received a 25% matching grant of restricted stock that will vest if they remain with the Company and hold their purchased shares for a minimum of two years. The grant totaled 192,275 shares of restricted stock. Most employees financed their purchases through loans arranged with a local bank. The principal of each loan is payable by the employee on April 16, 2003, or earlier, upon termination of employment, sale by the borrower of shares under the program, or the occurrence of certain financial or other events affecting the employee or the Company. Among the financial and other events affecting the Company (triggering events) are a default on certain other indebtedness, a change in control, and a merger or sale of substantially all of the Company’s assets. The Company entered into a Note Purchase Agreement with the bank, agreeing to purchase the loan of any employee as a result of the employee’s failure to repay the loan when due or the occurrence of a triggering event. Should the Company be obliged to purchase any loan under the Note Purchase Agreement, the employee 

50

would be liable to the Company for the outstanding principal and accrued interest in accordance with the note’s terms. The Company has not recognized a liability for any potential defaults associated with this contingent credit risk under the program as of December 31, 2002. Nor has the Company been called upon to purchase any loan or make any payments as a result of any employee default or triggering event. As of December 31, 2002, 70 employees had loans outstanding to the bank aggregating $22.4 million, the largest of which was $4.4 million. In compliance with new statutory requirements the Company will not continue the program.

        The Company has adopted a Director Stock Plan in which non-employee directors participate. A total of 368,630 shares of common stock were available for issuance under the plan as of December 31, 2002.

        A retainer fee for board service is paid to non-employee directors in the form of an annual award under the Director Stock Plan of unrestricted shares of common stock. The number of shares is equal to the retainer fee divided by the fair market value of a share of common stock at the time of the award, rounded up to the next ten-share increment. Total shares granted were 5,850, 8,130, and 6,480 in 2002, 2001, and 2000, respectively.

        Additionally, non-employee directors receive under the Director Stock Plan an annual grant, denominated in dollars, of options to purchase shares of common stock. The number of shares covered by each option is equal to the dollar amount divided by the fair market value of a share of common stock at the time of the award, rounded to the next ten-share increment. The options are issued at market price at date of grant. The options are fully exercisable upon award and have a ten-year term. Total option awards covered 14,850, 19,200, and 16,560 shares in 2002, 2001, and 2000, respectively.

        The Company awards stock units under the Director Stock Plan in connection with deferrals of director fees and dividend equivalents on existing stock units. A stock unit is the economic equivalent of a share of common stock. Deferred fees and dividend equivalents on existing stock units are converted into stock units on the basis of the market value of the stock at the relevant times. Payment of the value of stock units is scheduled to be made after termination of service as a director. As of December 31, 2002, ten directors held stock units. As of December 31, 2001 and 2000, ten and nine directors held stock units, respectively. The Company recognized expense for these stock units of $0.5 million, $0.4 million, and $0.4 million for 2002, 2001, and 2000, respectively. Total stock units outstanding were 45,556, 45,844, and 45,765 as of December 31, 2002, 2001, and 2000, respectively.

        Transactions involving stock options are summarized as follows:

- ------------------------------------------------------------
                                       Weighted
                             Shares     Average
                            Subject   Price Per     Options
                          to Option       Share Exercisable
- ------------------------------------------------------------

   Outstanding at
     January 1, 2000      4,609,760      $39.23   2,239,940
                                                ============    

       Granted            1,974,650      $43.17
       Exercised           (301,860)     $23.68
       Canceled or
         expired           (329,140)     $45.85
- -----------------------------------------------
   Outstanding at
     December 31, 2000    5,953,410      $40.96   2,363,810
                                                ============

       Granted            3,080,780      $39.26
       Exercised           (385,567)     $26.13
       Canceled or
         expired           (259,036)     $42.78
- -----------------------------------------------
   Outstanding at
     December 31, 2001    8,389,587      $40.96   2,826,979
                                                ============

       Granted            2,080,005      $54.50
       Exercised           (706,102)     $33.68
       Canceled or
         expired           (298,652)     $42.19
- -----------------------------------------------
   Outstanding at
     December 31, 2002    9,464,838      $44.44   3,320,888
===========================================================

        All options were issued at market price on the date of grant. Options were issued with initial vesting periods ranging from immediate to six years.

        Information about stock options outstanding and exercisable as of December 31, 2002, is as follows:

- ------------------------------------------------------------
                      Options Outstanding
- ------------------------------------------------------------

                                         Weighted Average
- ------------------------------------------------------------

                                      Remaining
   Range of                  Number Contractual    Exercise
   Exercise Prices      Outstanding        Life       Price
- ------------------------------------------------------------

   $29.38-$37.50          3,320,480   6.4 years     $36.13
   $38.75-$47.25          2,468,678   7.6            43.62
   $48.00-$57.07          3,675,680   7.8            52.49
- ------------------------------------------------------------
                          9,464,838   7.3 years     $44.44

- ------------------------------------------------------------
                      Options Exercisable
- ------------------------------------------------------------

   Range of                  Number        Weighted Average
   Exercise Prices      Exercisable          Exercise Price
- ------------------------------------------------------------

   $29.38-$37.50          1,302,975                  $34.19
   $38.75-$47.25            375,363                   43.52
   $48.00-$57.07          1,642,550                   49.95
- ------------------------------------------------------------

                          3,320,888                  $43.04
- ------------------------------------------------------------

51

        Shares available for issuance in connection with awards of stock options, stock appreciation rights, phantom stock, stock units, shares of common stock, and restricted shares of common stock to employees and directors were 2,161,563, 3,805,674, and 768,168 at December 31, 2002, 2001, and 2000, respectively.

        In accordance with SFAS No. 123, “Accounting for Stock-Based Compensation,” the Company has elected to continue to account for stock compensation under Accounting Principles Board Opinion No. 25. Pro forma net earnings and earnings per share, as calculated under SFAS No. 123, are as follows:

- --------------------------------------------------------------------------
                                    For the Years Ended December 31,
- --------------------------------------------------------------------------

 (In thousands of dollars,
 except for per
 share amounts)                     2002             2001             2000
- --------------------------------------------------------------------------

 Net earnings, pro forma    $    196,860   $      162,269   $      183,131
 Earnings per share,
   pro forma:
   Basic                    $       2.14   $         1.74   $         1.97
   Diluted                  $       2.10   $         1.72   $         1.94
- --------------------------------------------------------------------------

        The weighted average fair value of the stock options granted during 2002, 2001, and 2000 was $14.77, $10.89, and $13.65, respectively. The fair value of each option grant was estimated using the Black-Scholes option-pricing model based on the date of the grant and the following weighted average assumptions:

- ------------------------------------------------------------
                               2002        2001        2000
- ------------------------------------------------------------

   Risk-free interest rate     4.9%        5.1%        6.4%
   Expected life            7 years     7 years     7 years
   Expected volatility        20.1%       20.1%       20.1%
   Expected dividend yield     1.8%        1.8%        1.8%
- ------------------------------------------------------------

NOTE 17--CAPITAL STOCK

The Company had no shares of preferred stock outstanding as of December 31, 2002, 2001, and 2000. The activity of outstanding common stock and common stock held in treasury was as follows:

	2002		2001		2000
	Outstanding	Treasury	Outstanding	Treasury	Outstanding	Treasury
	Common Stock	Stock	Common Stock	Stock	Common Stock	Stock
Balance at beginning of period	93,344,641	15,129,062	93,932,870	14,104,212	93,381,686	14,079,292
Exercise of stock options	582,243	(1,000)	332,217	--	279,104	--
Issuance of restricted
stock, net of 35,224,
28,216, and 0 shares
retained, respectively	74,776	--	219,059	--	367,500	--
Cancellation of restricted shares	(16,360)	--	(114,655)	--	(70,500)	--
Conversion of restricted stock
to restricted stock units	(95,720)	--	--	--	--	--
Purchase of 4,801,600 shares
of stock, net of 4,695,725
treasury shares transferred
in connection with related
party transaction	(105,875)	105,875	--	--	--	--
Purchase of treasury shares,
net of 5,850, 8,130, and
6,480 shares issued, respectively	(2,215,650)	2,215,650	(1,811,870)	1,811,870	(24,920)	24,920
Issuance of treasury shares related
to executive stock purchase	--	--	787,020	(787,020)	--	--
Balance at end of period	91,568,055	17,449,587	93,344,641	15,129,062	93,932,870	14,104,212

52

NOTE 18--INCOME TAXES

The Company accounts for income taxes under the provisions of SFAS No. 109, “Accounting for Income Taxes.” SFAS No. 109 requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial reporting and tax bases of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse. The Company does not provide for a U.S. income tax liability on undistributed earnings of its foreign subsidiaries. The earnings of non-U.S. subsidiaries, which reflect full provision for non-U.S. income taxes, are indefinitely reinvested in those non-U.S. operations or will be remitted substantially free of additional tax.

Income tax expense consisted of:

- ------------------------------------------------------------
                            For the Years Ended December 31,
- ------------------------------------------------------------

   (In thousands of dollars)   2002        2001        2000
- ------------------------------------------------------------

   Current provision:
     Federal               $138,804    $106,322    $116,253
     State                   24,696      18,998      22,948
     Foreign                  5,329       6,368       7,103
- ------------------------------------------------------------

     Total current          168,829     131,688     146,304
   Deferred tax benefits     (6,480)     (8,938)     (7,612)
- ------------------------------------------------------------

   Total provision         $162,349    $122,750    $138,692
============================================================

        The income tax effects of temporary differences that gave rise to the net deferred tax asset were:

	As of December 31,
(In thousands of dollars)		2002		2001		2000
Current deferred tax assets:
Inventory valuations		$   38,583		$ 37,810		$ 33,216
Administrative and general expenses deducted on a paid basis for tax
purposes		52,090		55,850		45,582
Employment-related benefits expense		4,581		3,683		3,120
Other		82		111		159
Total current deferred tax assets		$   95,336		$ 97,454		$ 82,077
Noncurrent deferred tax (liabilities) assets:
Purchased tax benefits		$(11,854	)	$(12,540	)	$(13,283	)
Temporary differences related to property, buildings, and equipment		(5,273	)	(5,329	)	(6,749	)
Intangible amortization		6,723		3,623		8,493
Deferred tax liability of foreign investment corporation		--		(11,359	)	(7,553	)
Employment-related benefits expense		27,810		25,638		24,793
Foreign net operating loss carryforwards		10,032		10,618		8,217
Unrealized losses (gains) on investments		470		(3,378	)	(362	)
Capital loss carryforwards		1,950		3,316		--
Other		2,665		2,106		3,481
Total noncurrent deferred tax asset		32,523		12,695		17,037
Less valuation allowance		(11,982	)	(13,934	)	(8,217	)
Net noncurrent deferred tax asset (liability)		20,541		(1,239	)	8,820
Net deferred tax asset		$ 115,877		$ 96,215		$ 90,897

        The purchased tax benefits represent lease agreements acquired in prior years under the provisions of the Economic Recovery Act of 1981.

        At December 31, 2002, the Company has approximately $28.0 million of foreign operating loss carryforwards related to a foreign operation, which begin to expire in 2004. The valuation allowance represents a provision for uncertainty as to the realization of these carryforwards.

        In addition, the Company recorded a valuation allowance to reflect the estimated amount of deferred tax assets that may not be realized due to capital loss carryforward limitations. The changes in the valuation allowance were as follows:

- -------------------------------------------------------------
                             For the Years Ended December 31,
- -------------------------------------------------------------

   (In thousands of dollars)    2002        2001         2000
- -------------------------------------------------------------

   Beginning balance         $13,934      $8,217       $6,492
   Foreign net operating
     loss carryforwards
     (decrease) increase        (586)      2,401        1,725
   Capital loss carryforwards
     (decrease) increase      (1,366)      3,316           --
- -------------------------------------------------------------

   Ending balance            $11,982     $13,934       $8,217
=============================================================

53

        A reconciliation of income tax expense with federal income taxes at the statutory rate follows:

- ---------------------------------------------------------------------
                                  For the Years Ended December 31,
- ---------------------------------------------------------------------

 (In thousands of dollars)         2002           2001           2000
- ---------------------------------------------------------------------

   Federal income
     taxes at the
     statutory rate            $139,243       $104,048       $119,857
   Foreign rate
     differences                  1,631          1,725          1,578
   State income taxes,
     net of federal
     income tax benefits         15,404         12,349         13,197
   Other-net                      6,071          4,628          4,060
- ---------------------------------------------------------------------

     Income tax expense        $162,349       $122,750       $138,692
=====================================================================

     Effective tax rate            40.8%          41.3%          41.8%
=====================================================================

NOTE 19--EARNINGS PER SHARE

Basic earnings per share is based on the weighted average number of shares outstanding during the year. Diluted earnings per share is based on the combination of weighted average number of shares outstanding and dilutive potential shares.

        The following table sets forth the computation of basic and diluted earnings per share:

	For the Years Ended December 31,
(In thousands, except for per share amounts)	2002		2001	2000
Earnings before cumulative effect of accounting change	$       235,488		$174,530	$192,903
Cumulative effect of accounting change	(23,921	)	--	--
Net earnings	$       211,567		$174,530	$192,903
Denominator for basic earnings per share-weighted average shares	91,982		93,189	93,004
Effect of dilutive securities-stock based compensation	2,321		1,539	1,220
Denominator for diluted earnings per share-weighted average shares
adjusted for dilutive securities	94,303		94,728	94,224
Basic earnings per share before cumulative effect of accounting change	$            2.56		$      1.87	$      2.07
Cumulative effect of accounting change	(0.26	)	--	--
Basic earnings per common share	$            2.30		$      1.87	$      2.07
Diluted earnings per share before cumulative effect of accounting change	$            2.50		$      1.84	$      2.05
Cumulative effect of accounting change	(0.26	)	--	--
Diluted earnings per common share	$            2.24		$      1.84	$      2.05

NOTE 20--PREFERRED SHARE PURCHASE RIGHTS

The Company has a Shareholder Rights Plan, under which there is outstanding one preferred share purchase right (Right) for each outstanding share of the Company’s common stock. Each Right, under certain circumstances, may be exercised to purchase one one-hundredth of a share of Series A-1999 Junior Participating Preferred Stock (intended to be the economic equivalent of one share of the Company’s common stock) at a price of $250.00, subject to adjustment. The Rights become exercisable only after a person or a group, other than a person or group exempt under the plan, acquires or announces a tender offer for 15% or more of the Company’s common stock. If a person or group, other than a person or group exempt under the plan, acquires 15% or more of the Company’s common stock or if the Company is acquired in a merger or other business combination transaction, each Right generally entitles the holder, other than such person or group, to purchase, at the then-current exercise price, stock and/or other securities or assets of the Company or the acquiring company having a market value of twice the exercise price.

        The Rights expire on May 15, 2009, unless earlier redeemed. They generally are redeemable at $.001 per Right until thirty days following announcement that a person or group, other than a person or group exempt under the plan, has acquired 15% or more of the Company’s common stock. The Rights do not have voting or dividend rights and, until they become exercisable, have no dilutive effect on the earnings of the Company.

54

NOTE 21--SEGMENT INFORMATION

The Company reports three segments: Branch-based Distribution, Lab Safety, and Integrated Supply. The Branch-based Distribution segment provides customers with solutions to their immediate facilities maintenance needs. Branch-based Distribution is an aggregation of the following: Industrial Supply, Acklands (Canada), FindMRO, Export, Global Sourcing, Parts, Grainger, S.A. de C.V. (Mexico), and Grainger Caribe Inc. (Puerto Rico). In April 2001, the Company discontinued its Digital segment except FindMRO, which became part of Branch-based Distribution. See Note 5 to the Consolidated Financial Statements. Lab Safety is a direct marketer of safety and other industrial products. Integrated Supply serves customers who have chosen to outsource a portion or all of their indirect materials management processes. In 2000, the Integrated Supply segment also included a few other minor businesses.

        After the shutdown of the Digital segment in the second quarter of 2001, FindMRO was included, on a prospective basis only, in the Branch-based Distribution segment. Separate books and records for FindMRO were not maintained prior to the shutdown. Thus, extracting the operating results of FindMRO for restatement purposes was impracticable.

        The Company’s segments offer differing ranges of services and products and require different resources and marketing strategies. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. Intersegment transfer prices are established at external selling prices, less costs not incurred due to the related party sale.

	2002
	Branch-based		Lab	Integrated
(In thousands of dollars)	Distribution	Digital	Safety	Supply	Total
Total net sales	$ 4,147,955	$          --	$ 286,797	$ 225,967	$ 4,660,719
Intersegment net sales	(15,411)	--	(1,410)	--	(16,821)
Net sales to external customers	$ 4,132,544	$          --	$ 285,387	$ 225,967	$ 4,643,898
Segment operating earnings	$    394,861	$          --	$   47,105	$     6,231	$    448,197
Segment assets	$ 1,872,471	$          --	$ 104,372	$   29,539	$ 2,006,382
Depreciation and amortization	68,966	--	6,421	1,214	76,601
Additions to long-lived assets	123,039	--	2,127	1,581	126,747
	2001
	Branch-based		Lab	Integrated
(In thousands of dollars)	Distribution	Digital	Safety	Supply	Total
Total net sales	$ 4,251,596	$   29,979	$ 324,797	$ 190,811	$ 4,797,183
Intersegment net sales	(13,436)	(28,138)	(1,292)	--	(42,866)
Net sales to external customers	$ 4,238,160	$     1,841	$ 323,505	$ 190,811	$ 4,754,317
Segment operating earnings (loss)	$    386,331	$(49,227)	$   51,114	$        449	$    388,667
Segment assets	$ 1,804,216	$           --	$ 114,030	$   27,401	$ 1,945,647
Depreciation and amortization	75,686	1,383	8,012	617	85,698
Additions to long-lived assets	71,281	639	2,157	185	74,262
	2000
				Integrated
	Branch-based		Lab	Supply
(In thousands of dollars)	Distribution	Digital	Safety	and Other	Total
Total net sales	$ 4,483,777	$   55,683	$ 330,108	$ 180,852	$ 5,050,420
Intersegment net sales	(13,156)	(54,270)	(951)	(4,999)	(73,376)
Net sales to external customers	$ 4,470,621	$     1,413	$ 329,157	$ 175,853	$ 4,977,044
Segment operating earnings (losses)	$    397,252	$ (48,207)	$   55,037	$(13,257)	$    390,825
Segment assets	$ 2,016,220	$     9,933	$ 111,961	$   54,095	$ 2,192,209
Depreciation and amortization	74,389	1,170	9,784	2,334	87,677
Additions to long-lived assets	72,606	8,153	7,397	2,990	91,146

55

        Following are reconciliations of the segment information with the consolidated totals per the financial statements:

- --------------------------------------------------------------------------------
(In thousands of dollars)             2002                2001              2000
 -------------------------------------------------------------------------------

   Operating Earnings:
   Total operating
     earnings for
     reportable segments       $   448,197         $   388,667      $   390,825
   Unallocated expenses            (55,042)            (50,094)         (55,705)
- --------------------------------------------------------------------------------

     Total consolidated
       operating earnings      $   393,155         $   338,573      $   335,120
================================================================================

   Assets:
   Total assets for
     reportable segments       $ 2,006,382         $ 1,945,647      $ 2,192,209
   Unallocated assets              431,066             385,599          267,392
- -------------------------------------------------------------------------------

     Total consolidated
       assets                  $ 2,437,448         $ 2,331,246      $ 2,459,601
===============================================================================


                                           2002
- ------------------------------------------------------------------
                                 Segment              Consolidated
(In thousands of dollars)        Totals   Adjustments        Total
- ------------------------------------------------------------------

   Other significant items:
   Depreciation and
     amortization              $ 76,601  $   16,887     $   93,488
   Additions to
     long-lived assets         $126,747  $   17,278     $  144,025


- ------------------------------------------------------------------
                                                        Long-lived
   Geographic Information:                 Revenues         Assets
- ------------------------------------------------------------------

   United States                         $4,215,483     $  764,249
   Canada                                   342,489        117,391
   Other foreign countries                   85,926          4,109
- ------------------------------------------------------------------

                                         $4,643,898     $  885,749
==================================================================

                                                           2001
- --------------------------------------------------------------------------------
                                      Segment                       Consolidated
(In thousands of dollars)             Totals        Adjustments            Total
- --------------------------------------------------------------------------------

   Other significant items:
   Depreciation and
     amortization                 $ 85,698          $   17,511        $  103,209
   Additions to
     long-lived assets            $ 74,262          $   32,906        $  107,168


                                                                      Long-lived
   Geographic Information:                            Revenues            Assets
- --------------------------------------------------------------------------------

   United States                                    $4,275,852        $  725,096
   Canada                                              392,433           154,163
   Other foreign countries                              86,032             5,149
- --------------------------------------------------------------------------------

                                                    $4,754,317        $  884,408
================================================================================



                                                         2000
- --------------------------------------------------------------------------------

                                     Segment                        Consolidated
   (In thousands of dollars)          Totals        Adjustments            Total
- --------------------------------------------------------------------------------

   Other significant items:
   Depreciation and
     amortization                 $   87,677        $   19,216        $  106,893
   Additions to
     long-lived assets            $   91,146        $    3,767        $   94,913


                                                                      Long-lived
   Geographic Information:                            Revenues            Assets
- --------------------------------------------------------------------------------

   United States                                    $4,475,425        $  718,954
   Canada                                              404,320           170,434
   Other foreign countries                              97,299             2,288
- --------------------------------------------------------------------------------

                                                    $4,977,044        $  891,676
================================================================================

        Long-lived assets consist of property, buildings, equipment, capitalized software, goodwill, and other intangibles.

        Revenues are attributed to countries based on the location of the customer.

        Unallocated expenses and unallocated assets primarily relate to the Company headquarters' support services, which are not part of any business segment. Unallocated expenses include payroll and benefits, depreciation, and other costs associated with headquarter-related support services. Unallocated assets include non-operating cash and cash equivalents, prepaid expenses, and property, buildings and equipment, net.

56

NOTE 22-SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)

A summary of selected quarterly information for 2002 and 2001 is as follows:

	2002 Quarter Ended
(In thousands of dollars, except for per share amounts)	March 31	June 30	September 30	December 31	Total
Net sales	$1,125,265	$1,194,792	$1,203,400	$ 1,120,441	$ 4,643,898
Cost of merchandise sold	742,236	795,230	800,840	707,380	3,045,686
Gross profit	383,029	399,562	402,560	413,061	1,598,212
Warehousing, marketing,
and administrative expenses	293,069	305,298	302,370	306,259	1,206,996
Restructuring credit	--	--	--	(1,939)	(1,939)
Operating earnings	89,960	94,264	100,190	108,741	393,155
Net earnings	34,537	54,499	59,953	62,578	211,567
Earnings per share-basic	0.37	0.59	0.65	0.69	2.30
Earnings per share-diluted	$         0.36	$         0.57	$         0.64	$          0.67	$          2.24
	2001 Quarter Ended
(In thousands of dollars, except for per share amounts)	March 31	June 30	September 30	December 31	Total
Net sales	$1,219,420	$1,225,040	$1,199,358	$ 1,110,499	$ 4,754,317
Cost of merchandise sold	824,509	830,124	803,507	706,890	3,165,030
Gross profit	394,911	394,916	395,851	403,609	1,589,287
Warehousing, marketing,
and administrative expenses	311,222	301,228	300,474	298,720	1,211,644
Restructuring charge (credit)	--	40,000	--	(930)	39,070
Operating earnings	83,689	53,688	95,377	105,819	338,573
Net earnings	42,175	14,820	56,022	61,513	174,530
Earnings per share-basic	0.45	0.16	0.60	0.66	1.87
Earnings per share-diluted	$         0.45	$         0.15	$         0.59	$          0.65	$          1.84

        In 2002, the Company reduced $1.9 million of the restructuring reserve related to the shutdown of Material Logic to reflect management’s current estimate of costs. See Note 5 to Consolidated Financial Statements.

        In the 2002 first quarter, the Company recorded a cumulative effect of a change in accounting of $23.9 million after-tax. See Note 3 to Consolidated Financial Statements.

        In 2001, the Company recorded charges relating to the shutdown of its Material Logic business unit and other restructuring charges. See Note 5 to Consolidated Financial Statements.

NOTE 23--RELATED PARTY TRANSACTION

On February 28, 2002, the Company purchased substantially all of the assets, consisting of 4,801,600 shares of Company common stock and cash, of Mountain Capital Corporation, a Nevada corporation (MCC). In exchange, the Company transferred to MCC 4,695,725 shares of Company common stock. The number of shares transferred reflected a 1.5% discount (72,024 shares) from the number of shares received, and additionally reflected other adjustments designed to reimburse the Company for its direct transaction expenses of $0.6 million (10,549 shares) and for the Company’s payment of indebtedness of MCC of $1.3 million (23,302 shares). The effect on the Company of this transaction was to increase the number of shares held as Treasury stock, thereby reducing the number of shares outstanding by 105,875 shares. The shares received by MCC from the Company were subsequently distributed to the MCC shareholders pursuant to a plan of complete liquidation of MCC.

57

        The transaction documentation includes:

(i)	a Purchase Agreement containing the terms and conditions of the transaction;
(ii)	an Escrow Agreement providing for the pledge by MCC of 10% of the shares received in the transaction, and the pledge by the MCC shareholders of the escrowed shares, as security for the indemnification obligations and liabilities of MCC and the MCC shareholders; and
(iii)	a Share Transfer Restriction Agreement providing for certain restrictions on the transfer of Company common stock received by or otherwise held by the MCC shareholders and certain other parties to that agreement.

        Prior to the transaction, James D. Slavik, a Company director, was the president and a director of MCC. In addition, Mr. Slavik and certain members of his family owned all of the outstanding stock of MCC either directly or indirectly, including through family trusts of which Mr. Slavik served as trustee. Mr. Slavik was not present and did not participate in any of the deliberations of the Board of Directors or any of its committees relating to the review, consideration, or approval of the transaction.

NOTE 24--UNCLASSIFIED-NET

The components of Unclassified–net were as follows:

- ----------------------------------------------------------------------
                                   For the Years Ended December 31,
- ----------------------------------------------------------------------

   (In thousands of dollars)         2002          2001           2000
- ----------------------------------------------------------------------

   Gains on sales of
     investment securities       $  7,308      $    138       $ 30,017
   Gains on sales
     of fixed assets                6,409         1,613             --
   Other income                     1,106            48            752
- ----------------------------------------------------------------------

     Total other income            14,823         1,799         30,769
- ----------------------------------------------------------------------

   Write-down of
     investments                   (3,192)       (7,400)            --
   Losses on sales
     of fixed assets               (1,190)           --           (638)
   Other expense                   (1,144)         (517)          (289)
- ----------------------------------------------------------------------

     Total other expense           (5,526)       (7,917)          (927)
- ----------------------------------------------------------------------

   Unclassified-net              $  9,297      $ (6,118)      $ 29,842
======================================================================

NOTE 25--OTHER CONTINGENCIES AND LEGAL MATTERS

The Company has an outstanding guarantee relating to an industrial revenue bond assumed by the buyer of one of the Company’s formerly owned facilities. It also has outstanding guarantees for loans to certain joint ventures. The maximum exposure under these guarantees is $9.0 million. The Company has not recorded any liability relating to these guarantees and believes it is unlikely that material payments will be required.

        As of January 28, 2003, the Company is named, along with numerous other non-affiliated companies, as a defendant in approximately 600 lawsuits brought on behalf of approximately 1,110 named plaintiffs pending in the courts of various states. These lawsuits typically involve claims of personal injury arising from alleged exposure to products containing asbestos and allegedly distributed by the Company. From January 1, 2002, to January 28, 2003, the Company has been dismissed from approximately 60 similar lawsuits, typically because there has not been product identification. The Company has denied, or intends to deny, the allegations in the remaining lawsuits. If a specific product distributed by the Company is identified in any of these lawsuits, the Company would attempt to exercise indemnification remedies against the product manufacturer. In addition, the Company believes that a substantial portion of these claims are covered by insurance. The Company is engaged in active discussions with its insurance carriers regarding the scope and amount of coverage. While the Company is unable to predict the outcome of these lawsuits, it believes that the ultimate resolution will not have, either individually or in the aggregate, a material adverse effect on the Company’s consolidated financial position or results of operations.

NOTE 26--SUBSEQUENT EVENTS

On February 14, 2003, Lab Safety Supply, Inc., a wholly owned subsidiary, signed a definitive agreement to acquire Gempler’s, a division of Gempler’s, Inc., for approximately $35 million in cash and the assumption of certain liabilities. Gempler’s is a direct marketer serving the agricultural, horticultural, grounds maintenance, and contractor markets. The Company expects the acquisition to close, subject to standard conditions, in the second quarter of 2003.

        Gempler’s, with 2002 sales of more than $30 million, sells tools, safety supplies, and industrial supplies. Gempler’s will become part of Lab Safety.

58

MARKETS FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS

The Company’s common stock is traded on the New York Stock Exchange and the Chicago Stock Exchange under the ticker symbol GWW. The high and low sales prices for the common stock and the dividends declared and paid for each calendar quarter during 2002 and 2001 are shown below.

	Prices
Quarters	High		Low		Dividends
2002
First	$59	.40	$46	.60	$0	.175
Second	59	.00	47	.09	0	.180
Third	50	.74	40	.40	0	.180
Fourth	55	.20	39	.20	0	.180
Year	$59	.40	$39	.20	$0	.715
2001
First	$39	.78	$29	.51	$0	.170
Second	48	.00	32	.00	0	.175
Third	45	.25	36	.86	0	.175
Fourth	48	.99	37	.85	0	.175
Year	$48	.99	$29	.51	$0	.695

The approximate number of shareholders of record of the Company’s common stock as of March 3, 2003, was 1,550.

EX-21

Exhibit 21 to the Annual Report
on Form 10-K of W.W. Grainger, Inc.
for the year ended December 31, 2002

W.W. GRAINGER, INC.

Subsidiaries as of December 31, 2002

Acklands - Grainger Inc. (Canada)

     - USI - AGI Prairies Inc. (Canada) (50% owned)

AGI Investment Corporation (Alberta)

Dayton Electric Manufacturing Co. (Illinois)

Grainger Caribe, Inc. (Illinois)

Grainger FSC, Inc. (U.S. Virgin Islands)

Grainger International, Inc. (Illinois)

     - WWG de Mexico, S.A. de C.V. (Mexico)

     - Grainger, S.A. de C.V. (Mexico)

     - WWG Servicios, S.A. de C.V. (Mexico)

     - ProQuest Brands, Inc. (Illinois)

     - SC Grainger Co., Ltd. (Japan) (34% owned)

     - MRO Korea Co., Ltd. (Korea) (49% owned)

     - Grainger Global Holdings, Inc.

            - Alpha Purchase Co., Ltd. (Japan) (11% owned)

 Lab Safety Supply, Inc. (Wisconsin)

     - The Ben Meadows Co., Inc. (Georgia)

EX-99

Exhibit 99.1 to the Annual Report on
Form 10-K of  W.W. Grainger, Inc. for
the year ended December 31, 2002

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

I, R.L. Keyser, Chairman and Chief Executive Officer of W.W. Grainger, Inc. (the "Company"), certify, pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

1.	The Annual Report on Form 10-K of the Company for the year ended December 31, 2002 (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
2.	The information contained in the Report fairly presents, in all material respects, the financial condition  and results of operations of the Company.

/s/ R.L. Keyser
R.L. Keyser
Chairman and Chief Executive Officer

March 20, 2003

EX-99

Exhibit 99.2 to the Annual Report on
Form 10-K of  W.W. Grainger, Inc. for
the year ended December 31, 2002

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

I, P.O. Loux, Senior Vice President, Finance and Chief Financial Officer of W.W. Grainger, Inc. (the "Company"),
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, that:

1.	The Annual Report on Form 10-K of the Company for the year ended December 31, 2002 (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
2.	The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

/s/ P.O. Loux
P.O. Loux
Senior Vice President, Finance and Chief Financial Officer

March 20, 2003