10-Q 1 secondqtrtext.txt SECOND QUARTER 10-Q FOR PERIOD ENDING 6/28/02 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q Quarterly Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934 For the quarterly period ended June 28, 2002 Commission File Number: 001-9249 -------- GRACO INC. ------------------------------------------------------ (Exact name of Registrant as specified in its charter) Minnesota 41-0285640 ------------------------ --------------------------------------- (State of incorporation) (I.R.S. Employer Identification Number) 88 - 11th Avenue N.E. Minneapolis, Minnesota 55413 ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) (612) 623-6000 ---------------------------------------------------- (Registrant's telephone number, including area code) 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, and (2) has been subject to such filing requirements for the past 90 days. Yes X No ------ ------- 47,583,000 common shares were outstanding as of July 26, 2002. GRACO INC. AND SUBSIDIARIES INDEX Page Number PART I FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Statements of Earnings 3 Consolidated Balance Sheets 4 Consolidated Statements of Cash Flows 5 Notes to Consolidated Financial Statements 6-9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10-12 PART II OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders 13 Item 6. Exhibits and Reports on Form 8-K 13 SIGNATURES 14 EXHIBITS Restated Bylaws as amended June 13, 2002 Exhibit 3 Executive Long Term Incentive Agreement. Form of agreement used for award of restricted stock to executive officers under the Graco Inc. Stock Incentive Plan with schedule of awards current as of June 28, 2002. Exhibit 10 Executive Group Long-Term Disability Policy Exhibit 10.1 Computation of Net Earnings per Common Share Exhibit 11 Certification of Chief Executive Officer Exhibit 99 Certification of Vice President & Treasurer Exhibit 99.1 PART I GRACO INC. AND SUBSIDIARIES Item I. CONSOLIDATED STATEMENTS OF EARNINGS (Unaudited) (In thousands except per share amounts) Thirteen Weeks Ended Twenty-six Weeks Ended ----------------------------- ----------------------------- June 28, 2002 June 29, 2001 June 28, 2002 June 29, 2001 ------------- ------------- ------------- ------------- Net Sales $132,796 $130,873 $240,653 $240,687 Cost of products sold 65,655 66,620 118,349 121,296 ------------- ------------- ------------- ------------- Gross Profit 67,141 64,253 122,304 119,391 Product development 4,527 5,711 8,688 11,998 Selling, marketing and distribution 22,096 20,441 41,888 41,113 General and administrative 8,785 9,597 16,502 17,293 ------------- ------------- ------------- ------------- Operating Earnings 31,733 28,504 55,226 48,987 Interest expense 110 355 260 805 Other expense 207 601 204 814 ------------- ------------- ------------- ------------- Earnings Before Income Taxes 31,416 27,548 54,762 47,368 Income taxes 9,900 9,300 17,700 16,000 ------------- ------------- ------------- ------------- Net Earnings $ 21,516 $ 18,248 $ 37,062 $ 31,368 ============= ============= ============= ============= Basic Net Earnings Per Common Share $ .45 $ .39 $ .78 $ .68 ============= ============= ============= ============= Diluted Net Earnings Per Common Share $ .44 $ .39 $ .77 $ .67 ============= ============= ============= ============= See notes to consolidated financial statements.
GRACO INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (Unaudited) (In thousands) June 28, 2002 Dec. 28, 2001 ------------- ------------- ASSETS Current Assets Cash and cash equivalents $ 63,866 $ 26,531 Accounts receivable, less allowances of $5,700 and $4,500 97,197 85,440 Inventories 28,657 30,333 Deferred income taxes 12,349 11,710 Prepaid expenses 1,833 1,483 ------------- ------------- Total current assets 203,902 155,497 Property, Plant and Equipment: Cost 213,744 211,523 Accumulated depreciation (119,356) (112,579) ------------- ------------- 94,388 98,944 Intangible Assets, net 13,009 14,274 Other Assets 8,159 7,398 ------------- ------------- $ 319,458 $ 276,113 ============= ============= LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities Notes payable to banks $ 9,649 $ 9,512 Current portion of long-term debt 500 550 Trade accounts payable 12,284 10,676 Salaries, wages and commissions 9,857 10,620 Accrued insurance liabilities 10,467 10,380 Accrued warranty and service liabilities 6,234 6,091 Income taxes payable 4,894 6,014 Other current liabilities 17,752 19,410 ------------- ------------- Total current liabilities 71,637 73,253 Retirement Benefits and Deferred Compensation 28,297 27,359 Deferred Income Taxes 1,765 1,761 Shareholders' Equity Common stock 47,643 31,113 Additional paid-in capital 69,485 54,269 Retained earnings 102,405 89,155 Other, net (1,774) (797) ------------- ------------- Total shareholders' equity 217,759 173,740 ------------- ------------- $ 319,458 $ 276,113 ============= ============= See notes to consolidated financial statements. GRACO INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In thousands) Twenty-six Weeks ------------------------------ June 28, 2002 June 29, 2001 ------------- ------------- Cash Flows from Operating Activities Net Earnings $37,062 $31,368 Adjustments to reconcile net earnings to net cash provided by operating activities Depreciation and amortization 9,416 8,946 Deferred income taxes (719) 123 Tax benefit related to stock options exercised 3,300 - Change in: Accounts receivable (9,197) (2,520) Inventories 1,677 (2,013) Trade accounts payable 1,551 732 Salaries, wages and commissions (970) (5,716) Retirement benefits and deferred (189) (1,040) compensation Other accrued liabilities (2,886) 2,421 Other (275) (916) ------------- ------------- 38,770 31,385 ------------- ------------- Cash Flows from Investing Activities Property, plant and equipment additions (3,926) (12,084) Proceeds from sale of property, plant and equipment 271 105 Acquisition of business, net of cash acquired - (15,949) ------------- ------------- (3,655) (27,928) ------------- ------------- Cash Flows from Financing Activities Borrowings on notes payable and lines of credit 11,736 106,130 Payments on notes payable and lines of credit (12,329) (109,598) Borrowings on long-term debt - 21,000 Payments on long-term debt (50) (27,810) Common stock issued 11,567 10,951 Common stock retired (1,028) (2,025) Cash dividends paid (6,905) (6,123) ------------- ------------- 2,991 (7,475) ------------- ------------- Effect of exchange rate changes on cash (771) 162 ------------- ------------- Net increase (decrease) in cash and cash equivalents 37,335 (3,856) Cash and cash equivalents Beginning of year 26,531 11,071 ------------- ------------- End of period $ 63,866 $ 7,215 ============= ============= See notes to consolidated financial statements.
GRACO INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. The consolidated balance sheet of Graco Inc. and Subsidiaries (the Company) as of June 28, 2002, and the related statements of earnings for the thirteen and twenty-six weeks ended June 28, 2002 and June 29, 2001, and cash flows for the twenty-six weeks ended June 28, 2002 and June 29, 2001 have been prepared by the Company without being audited. In the opinion of management, these consolidated statements reflect all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the financial position of Graco Inc. and Subsidiaries as of June 28, 2002, and the results of operations and cash flows for all periods presented. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. Therefore, these statements should be read in conjunction with the financial statements and notes thereto included in the Company's 2001 Form 10-K. The results of operations for interim periods are not necessarily indicative of results that will be realized for the full fiscal year. 2. Major components of inventories were as follows (in thousands): June 28, 2002 Dec. 28, 2001 ------------- ------------- Finished products and components $26,351 $23,863 Products and components in various stages of completion 16,506 18,827 Raw materials and purchased components 16,833 18,899 ------------- ------------- 59,690 61,589 Reduction to LIFO cost (31,033) (31,256) ------------- ------------- $28,657 $30,333 ============= ============= 3. The Company has three reportable segments; Industrial/Automotive, Contractor and Lubrication. The Company does not identify assets by segment. Sales and operating earnings by segment for the thirteen and twenty-six weeks ended June 28, 2002 and June 29, 2001 were as follows (in thousands): Thirteen Weeks Ended Twenty-six Weeks Ended ----------------------------- ---------------------------- June 28, 2002 June 29, 2001 June 28, 2002 June 29,2001 ------------- ------------- ------------- ------------ Net Sales Industrial/Automotive $ 50,759 $ 51,449 $ 96,862 $ 99,098 Contractor 68,593 66,776 119,728 116,677 Lubrication 13,444 12,648 24,063 24,912 ------------- ------------- ------------- ------------ Consolidated $132,796 $130,873 $240,653 $240,687 ============= ============= ============= ============ Operating Earnings Industrial/Automotive $ 13,223 $ 12,114 $ 24,960 $ 21,507 Contractor 17,243 15,537 28,108 24,157 Lubrication 3,129 3,072 5,521 6,028 Unallocated Corporate expenses (1,862) (2,219) (3,363) (2,705) ------------- ------------- ------------- ------------ Consolidated Operating Earnings $ 31,733 $ 28,504 $ 55,226 $ 48,987 ============= ============= ============= ============
4. Total comprehensive income in 2002 was $21.5 million in the second quarter and $37.1 million year-to-date. In 2001, comprehensive income was $17.6 million for the second quarter and $30.0 million for the six-month period. There have been no significant changes to the components of comprehensive income from those noted on the 2001 Form 10-K except as described in note 6 below, with respect to translation gains and losses. 5. Effective at the beginning of fiscal year 2002, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets." Upon adoption of SFAS No. 142, amortization of goodwill ceased, and results of initial goodwill impairment testing indicated no impairment. Had SFAS No. 142 been effective at the beginning of 2001, the non-amortization provisions would have increased net earnings for the second quarter and six months ended June 29, 2001 by $140,000. GRACO INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Components of intangible assets were (in thousands): June 28, 2002 Dec. 28, 2001 ------------- ------------- Goodwill $ 7,939 $ 7,939 Other identifiable intangibles, net of accumulated amortization of $7,700 and $6,400 5,070 6,335 ------------- ------------- $13,009 $14,274 ============= ============= Amortization of intangibles was $624,000 in the second quarter of 2002 and $1,266,000 year-to-date. Estimated annual amortization is as follows: $2,400,000 in 2002, $1,600,000 in 2003, $800,000 in 2004, $400,000 in 2005 and $300,000 in 2006. 6. During the third quarter of 2001, the Company announced plans to relocate the operations of its German subsidiary, Graco Verfahrenstechnik (GV) to other Company facilities in Belgium and the U.S. This included termination of approximately 50 employees, termination of leases and consolidation of product lines. General and administrative expense in the third quarter of 2001 included a $1.4 million charge to establish a restructuring accrual for incremental costs associated with relocating GV operations. Through the end of the second quarter of 2002, there were no significant payments charged against the accrual, but the Company expects that all amounts accrued will be paid by the end of 2002. The economic facts and circumstances considered in determining the functional currency of GV changed as a result of relocating GV operations. Consequently, the Company determined that the functional currency of GV changed from the euro to the U.S. dollar. Effective at the beginning of 2002, adjustments resulting from the translation of GV financial statements into U.S. dollars are no longer charged or credited to shareholders' equity, but are now included in other expense (income). 7. Statement of Financial Accounting Standards (SFAS) No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" was effective for the Company at the beginning of fiscal year 2002. This standard provides for a single accounting model to be used for long-lived assets to be disposed of, and broadens the presentation of discontinued operations to include more disposal transactions. The adoption of SFAS No. 144 had no effect on the Company's 2002 financial position or operating results. 8. On May 7, 2002, the Board of Directors declared a three-for-two split of the Company's common stock, distributed on June 6, 2002 to shareholders of record on May 21, 2002. Share and per share amounts for all periods presented reflect the stock split. Also on May 7, 2002, the Company issued 36,750 shares of restricted common stock to key employees under the Stock Incentive Plan. Compensation cost totaling $1,069,000 related to the restricted shares will be charged to operations over the three-year vesting period. Item 2. GRACO INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Results of Operations --------------------- Increased sales, improved gross profit rate and lower expenses resulted in higher net earnings for the second quarter. Year-to-date, sales are flat compared to last year, but improved gross profit rate and lower expenses resulted in increased net earnings. The following table sets forth items from the Company's Consolidated Statements of Earnings as percentages of net sales: Thirteen Weeks Ended Twenty-six Weeks Ended ----------------------------- ---------------------------- June 28, 2002 June 29, 2001 June 28, 2002 June 29, 2001 ------------- ------------- ------------- ------------- Net Sales 100.0% 100.0% 100.0% 100.0% Cost of products sold 49.4 50.9 49.2 50.4 Product development 3.4 4.4 3.6 5.0 Selling, marketing and distribution 16.7 15.6 17.4 17.1 General and administrative 6.6 7.3 6.9 7.2 ------------- ------------- ------------- ------------- Operating Earnings 23.9 21.8 22.9 20.3 Interest expense 0.1 0.3 0.1 0.3 Other (income) expense, net 0.1 0.5 - 0.3 ------------- ------------- ------------- ------------- Earnings Before Income Taxes 23.7 21.0 22.8 19.7 Income taxes 7.5 7.1 7.4 6.7 ------------- ------------- ------------- ------------- Net Earnings 16.2% 13.9% 15.4% 13.0% ============= ============= ============= =============
Net Sales Sales in the Industrial / Automotive segment have yet to recover from weak economic conditions in the U.S. and Japan. Sales in the Contractor segment were higher due to increased sales in the home center channel. Sales in the Lubrication segment improved in the second quarter, but were still lower than last year's year-to-date sales, which included large sales to key customers. Sales by geographic area were as follows: Thirteen Weeks Ended Twenty-six Weeks Ended ----------------------------- ---------------------------- June 28, 2002 June 29, 2001 June 28, 2002 June 29,2001 ------------- ------------- ------------- ------------ Americas $ 97,220 $ 97,095 $175,798 $176,088 Europe 22,942 20,857 42,744 41,579 Asia Pacific 12,634 12,921 22,111 23,020 ------------- ------------- ------------- ------------ Consolidated $132,796 $130,873 $240,653 $240,687 ============= ============= ============= ============
For the second quarter, the strengthening of the euro versus the dollar had a small favorable effect on the Company's profits. Sales in Europe increased 10 percent but would have been only 6 percent higher than last year if translated at consistent exchange rates. Changes in exchange rates had no significant impact on sales reported for the quarter in Asia Pacific. Year-to-date, changes in exchange rates had no significant impact on the translation of euro-denominated sales in Europe, but sales in Asia Pacific decreased 4 percent and would have decreased only 1 percent if translated at consistent exchange rates. Gross Profit High factory productivity, product cost improvements, product mix and price increases all contributed to higher gross profit rates compared to the same periods last year. Operating Expenses Product development expenses were down as a result of actions taken last year. Selling, marketing and distribution expenses increased compared to last year due in part to increased sales incentives and marketing programs. Efforts to control costs have been successful in most general and administrative areas, with the largest decrease coming from information systems. Year-to-date operations include a $.5 million pension credit related to the Company's U.S. defined benefit pension plan, compared to a $1.7 million credit in the same period last year. These credits resulted from recognition of investment gains attributable to pension plan assets, and are included in cost of products sold and operating expenses based on salaries and wages. Interest Expense and Other Expense Interest expense decreased due to reduced debt levels and interest income (included in Other Expense) increased due to higher interest-bearing cash balances. Liquidity and Capital Resources Cash generated from operations in the first six months of 2002 increased cash and cash equivalents by $37 million. Accounts receivable increased in 2002 due to extended terms on selected accounts and higher sales in the second quarter. Issuance of common stock (from stock options exercised and employee stock purchase plan) was a significant source of cash. In 2001, significant uses of cash included the construction of expanded manufacturing, warehouse and office facilities in Minneapolis, Minnesota and Sioux Falls, South Dakota, the acquisition of ASM, and reduction of debt. The Company had unused lines of credit available at June 28, 2002 totaling $37 million. The available credit facilities, cash balances of $64 million at June 28, 2002, and internally generated funds provide the Company with the financial flexibility to meet liquidity needs. Outlook Contractor Equipment segment sales continue to benefit from the introduction of new products and a strong housing market. Even though sales in the Industrial / Automotive segment have yet to recover from economic weakness, management believes that the segment is well positioned to benefit from a recovery in North American capital equipment spending. While internal sales growth may be challenged by continued difficult economic conditions, management remains committed to high profitability while funding the Company's long-term growth strategies of introducing new products, entering new markets, expanding distribution coverage and pursuing strategic acquisitions. Management is cautiously optimistic that 2002 will be a year of higher net earnings for the Company. SAFE HARBOR CAUTIONARY STATEMENT A forward-looking statement is any statement made in this report and other reports that the Company files periodically with the Securities and Exchange Commission, as well as in press or earnings releases, analyst briefings and conference calls, which reflects the Company's current thinking on market trends and the Company's future financial performance at the time they are made. All forecasts and projections are forward-looking statements. The Company desires to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 by making cautionary statements concerning any forward-looking statements made by or on behalf of the Company. The Company cannot give any assurance that the results forecasted in any forward-looking statement will actually be achieved. Future results could differ materially from those expressed, due to the impact of changes in various factors. These risk factors include, but are not limited to: economic conditions in the United States and other major world economies, currency fluctuations, political instability, changes in laws and regulations, and changes in product demand. Please refer to Exhibit 99 to the Company's Annual Report on Form 10-K for fiscal year 2001 for a more comprehensive discussion of these and other risk factors. PART II Item 4. Submission of Matters to a Vote of Security Holders At the Annual Meeting of Shareholders held on May 7, 2002, David A. Koch, Lee R. Mitau, James H. Moar, Martha A.M. Morfitt and David A. Roberts were elected to the Office of Director with the following votes (prior to stock split): FOR WITHHELD ---------- --------- David A. Koch 27,998,318 1,038,713 Lee R. Mitau 20,715,895 8,321,136 James H. Moar 28,548,656 488,375 Martha A.M. Morfitt 28,566,460 470,571 David A. Roberts 21,502,764 7,534,267 At the same meeting, the selection of Deloitte & Touche LLP as independent auditors for the current year was approved and ratified, with the following votes (prior to stock split): FOR AGAINST ABSTENTIONS BROKER NON-VOTE ---------- --------- ----------- --------------- 27,707,199 1,302,366 27,466 0 No other matters were voted on at the meeting. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 3 Restated Bylaws as amended June 13, 2002 10 Executive Long Term Incentive Agreement. Form of agree- ment used for award of restricted stock to executive officers under the Graco Inc. Stock Incentive Plan with schedule of awards current as of June 28, 2002 10.1 Executive Group Long-Term Disability Policy 11 Computation of Net Earnings per Common Share 99 Certification of Chief Executive Officer 99.1 Certification of Vice President and Treasurer (b) No reports on Form 8-K have been filed during the quarter for which this report is filed. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. GRACO INC. Date: August 1, 2002 By: /s/David A. Roberts -------------------------------- ----------------------------------- David A. Roberts President & Chief Executive Officer Date: July 30, 2002 By: /s/James A. Graner -------------------------------- ----------------------------------- James A. Graner Vice President & Controller Date: July 30, 2002 By: /s/Mark W. Sheahan -------------------------------- ----------------------------------- Mark W. Sheahan Vice President & Treasurer