-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, JwIY3rdIfhOTKp8zYEmsPKEG7Ytg6fAovgdjlBWy7JuHEUP8AIQwnuJQOL2bMrde Jk9ffPqg3dbkBIuOto4Zgw== 0000093469-99-000014.txt : 19990729 0000093469-99-000014.hdr.sgml : 19990729 ACCESSION NUMBER: 0000093469-99-000014 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990728 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PITTWAY CORP /DE/ CENTRAL INDEX KEY: 0000093469 STANDARD INDUSTRIAL CLASSIFICATION: COMMUNICATIONS EQUIPMENT, NEC [3669] IRS NUMBER: 135616408 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-04821 FILM NUMBER: 99671794 BUSINESS ADDRESS: STREET 1: 200 S WACKER DR STE 700 CITY: CHICAGO STATE: IL ZIP: 60606-5802 BUSINESS PHONE: 3128311070 MAIL ADDRESS: STREET 1: 200 S WACKER DR STE 700 CITY: CHICAGO STATE: IL ZIP: 60606-5802 FORMER COMPANY: FORMER CONFORMED NAME: STANDARD SHARES INC DATE OF NAME CHANGE: 19900321 FORMER COMPANY: FORMER CONFORMED NAME: STANDARD POWER & LIGHT CORP DATE OF NAME CHANGE: 19660905 10-Q 1 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549-1004 FORM 10-Q [x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 1-4821 PITTWAY CORPORATION (Exact Name of Registrant as Specified in its Charter) DELAWARE 13-5616408 (State of Incorporation) (I.R.S. Employer Identification No.) 200 South Wacker Drive, Chicago, Illinois 60606-5802 (Address of Principal Executive Offices) (Zip Code) 312/831-1070 (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 (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date (July 21, 1999). Common Stock 7,877,664 Class A Stock 34,876,739 PITTWAY CORPORATION AND SUBSIDIARIES FORM 10-Q QUARTER ENDED JUNE 30, 1999 INDEX PART I. FINANCIAL INFORMATION Page ITEM 1. Financial Statements Consolidated Statement of Income - Three and Six Months Ended June 30, 1999 and 1998 3 Consolidated Balance Sheet - June 30, 1999 and December 31, 1998 4 - 5 Consolidated Statement of Cash Flows - Six Months Ended June 30, 1999 and 1998 6 Notes to Consolidated Financial Statements 7 - 11 ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11 - 14 PART II. OTHER INFORMATION ITEM 1. Legal Proceedings 14 - 17 ITEM 4. Submission of Matters to a Vote of Security Holders 17 ITEM 6. Exhibits and Reports on Form 8-K 18 SIGNATURES 18 2 PITTWAY CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF INCOME FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 1999 AND 1998 (Unaudited; Dollars in Thousands, Except Per Share Data) Three Months Ended Six Months Ended June 30, June 30, 1999 1998 1999 1998 CONTINUING OPERATIONS - NET SALES............................ $412,732 $325,538 $794,638 $629,677 OPERATING EXPENSES: Cost of sales....................... 254,867 208,432 494,878 400,764 Selling, general and administrative..................... 114,776 85,284 219,527 167,323 Litigation accrual (reversal)....... (43,000) (43,000) 43,000 Depreciation and amortization....... 11,558 8,453 22,549 16,876 338,201 302,169 693,954 627,963 OPERATING INCOME..................... 74,531 23,369 100,684 1,714 OTHER INCOME (EXPENSE): Gain on sale of USSB securities..... 38,315 49,317 Change in equity of affiliate....... (1,000) 618 (1,832) 7,902 Income from marketable securities and other interest................. 1,190 690 2,490 1,469 Interest expense.................... (3,786) (3,072) (7,790) (6,573) Income from investments............. 195 4,977 415 5,201 Miscellaneous, net.................. 120 (501) 346 (473) 35,034 2,712 42,946 7,526 INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES................. 109,565 26,081 143,630 9,240 PROVISION FOR INCOME TAXES........... 41,709 9,809 54,582 3,311 INCOME FROM CONTINUING OPERATIONS.... 67,856 16,272 89,048 5,929 INCOME FROM DISCONTINUED OPERATIONS, net of income taxes of $2,236 and $3,902............................... 3,056 5,404 NET INCOME............................ $ 67,856 $ 19,328 $ 89,048 $ 11,333 INCOME PER SHARE OF COMMON AND CLASS A STOCK (NOTE 3): Basic: Continuing operations...... $ 1.59 $ .39 $ 2.08 $ .14 Discontinued operations.... .07 .13 Net income................. $ 1.59 $ .46 $ 2.08 $ .27 Diluted: Continuing operations...... $ 1.55 $ .38 $ 2.04 $ .14 Discontinued operations.... .07 .12 Net income................. $ 1.55 $ .45 $ 2.04 $ .26 CASH DIVIDENDS DECLARED PER SHARE: Common.............................. $ .0217 $ .0333 $ .0434 $ .0667 Class A............................. $ .0300 $ .0417 $ .0600 $ .0834 AVERAGE SHARES OUTSTANDING (000's).... 42,741 42,231 42,710 42,137 AVERAGE SHARES AND DILUTIVE EQUIVALENTS OUTSTANDING (000's)...... 43,718 43,077 43,693 42,970 See accompanying notes. 3 PITTWAY CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET JUNE 30, 1999 AND DECEMBER 31, 1998 (Unaudited; Dollars in Thousands) June 30, December 31, 1999 1998 ASSETS CURRENT ASSETS: Cash and equivalents................... $ 10,835 $ 16,998 Marketable securities.................. 65,006 44,200 Accounts and notes receivable, less allowance for doubtful accounts of $14,466 and $12,173.................. 295,355 263,127 Inventories............................ 294,045 252,947 Future income tax benefits............. 32,549 32,870 Prepayments, deposits and other........ 10,510 10,666 708,300 620,808 PROPERTY, PLANT AND EQUIPMENT, at cost: Buildings.............................. 38,615 39,645 Machinery and equipment................ 248,772 225,835 287,387 265,480 Less: Accumulated depreciation......... (150,940) (132,679) 136,447 132,801 Land................................... 2,406 2,481 138,853 135,282 INVESTMENTS: Marketable securities (USSB)........... 51,994 Investment in affiliate (Cylink)....... 19,784 21,616 Real estate and other ventures......... 51,087 49,131 Leveraged leases....................... 15,963 16,821 86,834 139,562 OTHER ASSETS: Goodwill, less accumulated amortization of $12,374 and $9,642... 141,490 134,686 Other intangibles, less accumulated amortization of $5,807 and $6,266.... 2,509 2,906 Notes receivable....................... 17,283 15,862 Miscellaneous.......................... 25,937 25,949 187,219 179,403 $1,121,206 $1,075,055 See accompanying notes. 4 PITTWAY CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET JUNE 30, 1999 AND DECEMBER 31, 1998 (Unaudited; Dollars in Thousands) June 30, December 31, 1999 1998 LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Notes payable........................... $ 87,201 $ 92,395 Long-term debt due within one year...... 15,153 16,719 Accounts payable........................ 180,208 167,773 Accrued liabilities..................... 72,327 66,304 Income taxes payable.................... 23,442 6,136 378,331 349,327 LONG-TERM DEBT, less current maturities... 103,220 104,609 DEFERRED LIABILITIES: Income taxes............................ 77,445 71,114 Litigation.............................. 43,000 Other................................... 8,621 11,841 86,066 125,955 STOCKHOLDERS' EQUITY: Preferred stock, none issued............ Common capital stock, $1 par value- Common stock.......................... 7,878 7,878 Class A stock......................... 34,870 34,763 Capital in excess of par value.......... 20,579 18,671 Retained earnings....................... 503,977 417,363 Accumulated other comprehensive income (loss) - Marketable securities valuation adjustment.............. 8 22,416 Foreign currency translation adjustment........................ (13,723) (5,927) 553,589 495,164 $1,121,206 $1,075,055 See accompanying notes. 5 PITTWAY CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30 1999 AND 1998 (Unaudited; Dollars in Thousands) 1999 1998 CASH FLOWS FROM CONTINUING OPERATING ACTIVITIES: Income from continuing operations................ $ 89,048 $ 5,929 Adjustments to reconcile income from continuing operations to net cash provided by continuing operating activities: Depreciation and amortization.................. 22,549 16,876 Gain on sale of USSB securities, net of taxes.. (30,187) Equity in affiliate, net of taxes.............. 1,145 (4,939) Deferred income taxes.......................... 4,873 (4,220) Retirement and deferred compensation plans..... (1,385) (3,274) Income/loss from investments adjusted for cash distributions received............... 958 674 Provision for losses on accounts receivable.... 3,775 1,866 Litigation (reversal) accrual, net of taxes.... (26,875) 26,875 Change in assets and liabilities, excluding effects from acquisitions and foreign currency adjustments: Increase in accounts receivable.............. (18,978) (24,219) Increase in inventories...................... (36,357) (17,861) Decrease (increase)in prepayments and deposits............................... 388 (515) Increase (decrease)in accounts payable and accrued liabilities.................... 12,085 (5,419) Increase (decrease)in income taxes payable... 18,120 (31) Other changes, net............................. 200 (1,508) Net cash provided (used) by continuing operating activities........................... 39,359 (9,766) CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures............................. (25,695) (20,116) Proceeds from sales of USSB securities, net of taxes................................... 39,390 Net increase in current marketable securities.... (20,779) (827) Dispositions of property and equipment........... 693 220 Additions to investments......................... (2,095) (8) Increase in notes receivable..................... (5,741) (8,291) Net assets of businesses acquired, net of cash... (21,016) (11,616) Net cash used by investing activities............ (35,243) (40,638) CASH FLOWS FROM FINANCING ACTIVITIES: Net (decrease) increase in notes payable......... (3,915) 35,521 Proceeds of long-term debt....................... 992 6,447 Repayments of long-term debt..................... (4,725) (2,799) Stock options exercised.......................... 108 4,379 Dividends paid................................... (2,437) (5,067) Net cash (used) provided by financing activities. (9,977) 38,481 EFFECT OF EXCHANGE RATE CHANGES ON CASH............ (302) (108) NET CASH PROVIDED BY DISCONTINUED OPERATIONS....... - 3,699 NET DECREASE IN CASH AND EQUIVALENTS............... (6,163) (8,332) CASH AND EQUIVALENTS AT BEGINNING OF PERIOD........ 16,998 29,257 CASH AND EQUIVALENTS AT END OF PERIOD.............. $ 10,835 $ 20,925 See accompanying notes. 6 PITTWAY CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited; Dollars in Thousands) NOTE 1. BASIS OF PRESENTATION The accompanying consolidated financial statements include the accounts of Pittway Corporation and its majority-owned subsidiaries (the "Company" or "Registrant"). Certain businesses were discontinued in 1998, as discussed in Note 2. Except where otherwise indicated, the following notes relate to continuing operations. Certain prior year amounts have been reclassified to conform to the current year classification. All share and per share data reflect a 2-for-1 stock split paid September 11, 1998. The accompanying consolidated financial statements are unaudited but reflect all adjustments of a normal recurring nature which are, in the opinion of management, necessary for a fair presentation of the financial statements contained herein. However, the financial statements and related notes do not include all disclosures normally provided in the Company's Annual Report on Form 10-K. Accordingly, these financial statements and related notes should be read in conjunction with the Company's Annual Report on Form 10-K for the year ended December 31, 1998. NOTE 2 - DISCONTINUED OPERATIONS On August 7, 1998 the Company distributed its investment in Penton Media, Inc. ("Penton"), a wholly-owned subsidiary of the Company, to stockholders in a tax-free spin-off. Net sales of the discontinued operations prior to their disposition were $59,186 and $111,671 for the quarter and six months ended June 30, 1998, respectively. NOTE 3. COMPREHENSIVE INCOME Total comprehensive income (loss) for the three and six month periods ended June 30 was: Three Months Six Months 1999 1998 1999 1998 Net income $67,856 $19,328 $89,048 $11,333 Other comprehensive (loss) income (24,408) 6,050 (30,204) 7,944 Total comprehensive income $43,448 $25,378 $58,844 $19,277 Other comprehensive (loss) income for the three and six month periods in 1999 reflects the reclassification of $23,311 and $30,187, respectively, of after tax gains realized in net income from the sale of USSB securities. 7 NOTE 4. ACQUISITIONS During the first six months of 1999, the Company acquired the assets and business of a domestic distributor of alarm and other security products and a domestic distributor of structured cable products. The total purchase price for these businesses was $21,016 cash plus $1,711 of debt assumed. During the same period in 1998, the Company acquired the assets and business of a domestic distributor of alarms and other security equipment and three foreign alarm businesses for stock and cash totaling $15,716. All of these acquisitions were accounted for as purchase transactions in the consolidated financial statements from their respective dates of acquisition. The impact on consolidated results of operations was not significant. NOTE 5. INVENTORIES The recorded value of inventories at June 30, 1999 and December 31, 1998 approximate current cost and consist of the following: June 30, Dec 31, 1999 1998 Raw materials $ 66,253 $ 57,763 Work in process 19,165 22,089 Finished goods - Manufactured by the Company 114,828 98,199 Manufactured by others 93,799 74,896 $294,045 $252,947 NOTE 6. MARKETABLE SECURITIES Information about the Company's marketable securities at June 30, 1999 and December 31, 1998 is as follows: June 30, Dec 31, 1999 1998 Current - Adjustable Rate Preferred Stocks - Aggregate cost $ 64,994 $ 44,198 Net unrealized holding (loss) gain 12 2 Aggregate fair value $ 65,006 $ 44,200 Non-Current - USSB Common Stock - Aggregate cost $ - $ 15,789 Unrealized holding gain - 36,205 Aggregate fair value $ - $ 51,994 Realized gains and losses are based upon the specific identification method. Such gains and losses on the adjustable rate preferred stock, for the quarter and six months ended June 30, 1999 and 1998 were not significant. In the three months and six months ended June 30, 1999, the Company recorded gains, net of taxes, of $23,311 and $30,187 ($.53 and $.69 per diluted share) respectively, on the sale of all its shares of USSB stock. 8 NOTE 7. INVESTMENT IN AFFILIATE The investment in affiliate consists of the Company's interest in Cylink Corporation (Cylink), which is carried at equity. At June 30, 1999, the Company's 8.6 million shares of Cylink had a quoted market value of $32,273. In March 1998 Cylink sold its wireless division for $60.5 million. The Company increased the carrying value of its investment in Cylink by $6,646 and recorded an after-tax gain of $4,154, or $.10 per diluted share, to reflect its equity in the gain on this divestiture. The summarized results of operations of Cylink for the quarter and six months ended June 30, 1999 and 1998 (as restated by Cylink in December 1998) are as follows: Three Months Six Months 1999 1998 1999 1998 Revenue $15,209 $12,363 $27,094 $20,425 Gross profit 10,440 8,373 18,213 13,804 Loss from continuing operations (3,054) (1,667) (7,119) (5,042) Net income (loss) (3,054) (1,667) (7,119) 17,475 NOTE 8. EARNINGS PER SHARE Basic net income per share amounts were calculated by dividing earnings by the combined weighted average number of Class A and Common shares outstanding. Diluted net income per share amounts were based on the same reported earnings but assume the issuance of Class A stock upon exercise of outstanding stock options and distributable as performance and bonus share awards. NOTE 9. SEGMENT INFORMATION Segment information for the quarter and six months ended June 30, excluding the patent litigation were: Three Months Six Months 1999 1998 1999 1998 Sales - Alarm Manufacturing $246,597 $174,786 $473,651 $348,866 Alarm Distribution 250,687 202,921 482,872 388,766 General Corporate and Other 297 154 297 187 Less inter-segment sales (84,849) (52,323) (162,182) (108,142) $412,732 $325,538 $794,638 $629,677 Operating Income - Alarm Manufacturing $ 26,102 $ 15,172 $ 48,742 $ 32,200 Alarm Distribution 9,279 8,271 18,278 14,911 General Corporate and Other (2,164) (1,949) (4,476) (3,890) Less inventory profit on inter-segment sales (1,686) 1,875 (4,860) 1,493 $ 31,531 $ 23,369 $ 57,684 $ 44,714 9 NOTE 10. LEGAL PROCEEDINGS In 1989 a judgment was entered against Saddlebrook Resorts, Inc. ("Saddlebrook"), a former subsidiary of the Company, in a lawsuit which arose out of the development of Saddlebrook's resort and a portion of the adjoining residential properties owned and developed by the Company. The lawsuit alleged damage to plaintiffs' adjoining property caused by surface water effects from improvements to the properties. Damages of approximately $8 million were awarded to the plaintiffs and an injunction was entered requiring, among other things, that Saddlebrook work with local regulatory authorities to take corrective actions. In 1990 the trial court entered an order vacating the judgment and awarding a new trial. In December 1994, Saddlebrook's motion for summary judgment based on collateral estoppel was granted on the ground that Plaintiffs' claims were fully retried and rejected in a related administrative proceeding. Plaintiffs appealed the trial court's decision granting summary judgment. In August 1996, the appellate court affirmed all but three issues in the trial court's summary judgment order in favor of Saddlebrook. On April 1, 1998, the trial court entered an order limiting the scope of the retrial in light of the appellate court's ruling. At an April 1, 1999 pretrial conference the retrial was scheduled to commence in the first quarter of 2000. The Company believes that the ultimate outcome of the aforementioned lawsuit will not have a material adverse effect on its financial statements. In 1995 a lawsuit was brought against the Company by Interactive Technologies, Inc. ("ITI"), seeking lost profits and royalty damages of up to $66,800 on account of Company sales of products which the plaintiff alleged infringed on its patent. The plaintiff also asserted trebling of damages, if awarded, based upon alleged willful infringement. The Company moved for summary judgment of non- infringement and, in December 1997, the Court issued its order granting the Company partial summary judgment, stating its products did not literally infringe upon plaintiff's patent claims. In March 1998, the jury handed down a verdict against the Company awarding damages of $35,954. The jury found that the Company did not willfully infringe. The Company recorded a provision of $43,000 in the first quarter of 1998 which considers the judgment and interest. The Company appealed the verdict. In May 1999, the Federal Circuit Court of Appeals unanimously reversed the March 1998 verdict. ITI's petition to the Court of Appeals for a re-hearing of its decision was summarily denied. The $43,000 provision has been reversed in the second quarter of 1999 as a result of the favorable decision of the Circuit Court of Appeals. In August 1998, ITI filed a second lawsuit against the Company which alleges that certain of the Company's products not specified in the prior litigation infringe on the same patent. The Company filed a motion for summary judgment dismissing the lawsuit based on the favorable decision of the Circuit Court of Appeals in the first lawsuit. The Company in the normal course of business is subject to a number of lawsuits and claims both actual and potential in nature. While management believes that resolution of other existing claims and 10 lawsuits will not have a material adverse effect on the Company's financial statements, management is unable to estimate the magnitude of financial impact of claims and lawsuits which may be filed in the future. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF CONTINUING OPERATIONS Sales for the second quarter and first six months of 1999 were $412.7 million and $794.6 million, respectively, a 27 and 26 percent increase over the same periods in 1998. Operating income, excluding the accrual/reversal of a litigation provision, increased 35 percent for the quarter and 29 percent year to date. Income from continuing operations amounted to $67.9 million and $89.0 million for the quarter and six month periods in 1999 compared to $16.3 million and $5.9 million in the respective periods of 1998. The increase in earnings between years was affected by the inclusion of two special items and the Cylink results for both years. The special items are the reversal, in the second quarter of 1999, of a $26.9 million ($.61 per diluted share in 1999) after-tax provision for patent litigation recorded in the first quarter of 1998 and an after-tax gain on the sale of USSB stock in 1999 - $23.3 million ($.53 per diluted share) in the second quarter and $30.2 million ($.69 per diluted share) for the year to date. The change in the Company's equity in Cylink included an after-tax gain on the 1998 sale of Cylink's wireless communications business of $4.2 million ($.10 per diluted share) recorded in the second quarter of 1998. Pro forma operating results after excluding discontinued operations, the patent litigation accrual/reversal, changes in Pittway's equity investment in Cylink, the gain on sale of USSB stock and related tax effects are as follows: Three Months Six Months 1999 1998 1999 1998 Net sales $412,732 $325,538 $794,638 $629,677 Operating expenses: Cost of sale 254,867 208,432 494,878 400,764 Selling, general and administrative 114,776 85,284 219,527 167,323 Depreciation and amortization 11,558 8,453 22,549 16,876 381,201 302,169 736,954 584,963 Operating income 31,531 23,369 57,684 44,714 Interest expense (3,786) (3,072) (7,790) (6,573) Other income (expense), net 1,505 5,166 3,251 6,197 Income before income taxes 29,250 25,463 53,145 44,338 Provision for income taxes 10,955 9,577 20,014 16,473 Net income $ 18,295 $ 15,886 $ 33,131 $ 27,865 Net income per diluted share of Common and Class A stock $ .42 $ .37 $ .76 $ .65 11 Domestic sales for the second quarter and first six months of 1999 increased 25 percent and 24 percent respectively over the same periods in 1998. International sales increased 38 percent in the second quarter and 39 percent for the first six months of 1999 over the same periods last year. International sales now represent 18 percent of total year to date sales up from 16 percent for the first six months of 1998. International operations represent 15 percent of operating income for the second quarter in 1999 and 1998 and 12 percent for the six month period this year versus 14 percent last year. Cost of sales increased 22 percent for the second quarter and 23 percent for the first six months of 1999 compared to prior year periods. This was less than the overall 27 percent and 26 percent sales increases for these periods due to better operating efficiencies than last year and an improved product mix. Alarm Manufacturing sales increased 41 percent during the quarter, and 36 percent year to date leading to a 72 and 51 percent increase in operating income, respectively. The segment's operating margin improved to 10.6 percent of sales for the quarter and 10.3 percent year to date from 8.7 percent and 9.2 percent in 1998 respectively. The increased sales volume reflects the benefit of the continued acceptance of numerous new product offerings and from expanded worldwide distribution capabilities. Businesses acquired in 1998 and 1999 accounted for 13 percent for the second quarter and 14 percent year to date of segment sales in 1999. Sales to the Distribution segment accounted for 34 percent of Manufacturing revenue in the second quarter and first six months of 1999 and 30 percent for the quarter and 31 percent year to date in 1998. Such sales increased 62 percent and 50 percent for the quarter and six months, respectively, from a year ago. A large portion of the increase resulted from building inventory for the Distribution segment to meet increased customer demand, particularly for national accounts. This build-up is expected to lessen as the year progresses. Alarm Distribution sales increased 24 percent during the quarter and six months leading to a 12 percent and 23 percent increase in operating income, respectively. The segment's operating margin dipped slightly to 3.7 percent in the quarter but remained level with the prior year at 3.8 percent of sales for the six months ended June 30, 1999. Much of the increased volume originated from continuing growth in national account business for products manufactured by the Alarm Manufacturing segment. Sales volume also expanded due to expansion of its outlet network, both internally and from acquisitions. However, ADI has not yet fully realized operating efficiencies from integrating a recent acquisition as well as its recent move into a new headquarters building. Businesses acquired in 1998 and 1999 accounted for 3 percent of segment sales for the quarter and 5 percent year to date in 1999. Depreciation and amortization expense increased 37 percent in the second quarter and 34 percent for the first six months. Depreciation expense increased $3.8 million due to capital additions from both acquisitions in 1998 and 1999 and existing operations. Amortization expense increased $1.8 million year to date over 1998 due to acquisitions. 12 Other income (expense) during the first six months of 1999 included a $49.3 million pretax gain on the sale of USSB stock including $38.3 million in the second quarter. For the second quarter of 1999, the Company recorded a loss on it's equity in Cylink of $1.0 million versus income of $.6 million in 1998. The six month period in 1998 included Pittway's $6.7 million share of Cylink's gain on the divestiture of its wireless division. Other income in the second quarter of 1998 included special cash distributions from real estate ventures and a gain on the sale of an investment which totaled $4.5 million. Effective tax rates were 38.1 percent and 37.6 percent for the second quarter and 38.0 percent and 35.8 percent for the first six months of 1999 and 1998, respectively. The 1999 rate increased reflecting a higher effective foreign income tax rate. DISCONTINUED OPERATIONS Income from the discontinued operations of Penton Media, Inc., which was spun-off in August 1998, is $3.1 million and $5.4 million ($.07 and $.12 per diluted share) for the second quarter and year to date in 1998. FINANCIAL CONDITION The Company's financial condition remained strong during the first six months of 1999. Net working capital at June 30, 1999 was $330.0 million, up from $271.5 million at December 31, 1998. Management anticipates that operations, borrowings and marketable securities will continue to be the primary sources of funds needed to meet ongoing programs for capital expenditures, to finance acquisitions and investments and to pay dividends. In the first half of 1999, the $63.9 million generated from income from continuing operations excluding depreciation, amortization, the reversal of the litigation accrual, the change in equity of Cylink, other non-cash items and the gain on sale of USSB stock was partially used to fund the net increase in working capital items. The $39.4 million of net cash generated from operating activities, together with $39.4 million of proceeds from the sales of USSB stock, $.7 million proceeds from the disposition of property and equipment and $6.2 million of cash was used primarily to finance $21.0 million in acquisitions, $25.7 million of capital expenditures, $7.7 million net repayments of notes payable and long term debt, a $5.7 million increase in notes receivable, $20.8 million of net purchases of marketable securities, $2.1 million additions to investments and $2.4 million of dividends. The Company continually investigates investment opportunities for growth in related areas and is presently committed to invest up to $45.9 million in certain affordable housing ventures through 2005. The Company has real estate investments in various limited partnerships with interests in commercial rental properties, which may be sold or turned over to lenders. Such events have no effect on net income although they do have a negative impact on the Company's cash position 13 because tax payments become due when the properties are sold or returned to the lenders. The Company has approximately $3.1 million accrued at June 30, 1999 to fully cover the remaining tax payments that would be due if all the properties were sold or returned to the lenders. The Company presently intends to hold its existing investment in Cylink and has classified it as a long-term investment. YEAR 2000 ISSUE All work necessary to upgrade the Company's systems for Year 2000 (Y2K) compliance is expected to be completed in a timely fashion and should not involve a significant amount of the Company's resources. The Company's Y2K project is proceeding on schedule. Although the Company expects its critical systems to be compliant, there is no guarantee that these results will be achieved. Specific factors that give rise to this uncertainty include a possible loss of technical resources to perform the work, failure to identify all susceptible systems, noncompliance by third parties whose systems and operations impact the Company, and other similar uncertainties. Due to the general uncertainty inherent in the Y2K problem, resulting in part from the uncertainty of Y2K readiness of customers, third-party suppliers and other vendors, the Company is unable to determine at this time whether the consequences of Y2K failures will have a material impact on the Company's results of operations, liquidity or financial condition. **** This quarterly report, other than historical financial information, contains forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, that involve a number of risks and uncertainties. Important factors that could cause actual results to differ materially from those indicated by such forward-looking statements are set forth in Item 1 of the Company's annual report on Form 10-K for the year ended December 31, 1998. These include risks and uncertainties relating to pending litigation, government regulation, competition and technological change, intellectual property rights, capital spending, international operations, and the Company's acquisition strategies. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Property Damage Claim On May 10, 1989, the Circuit Court of the Sixth Judicial Circuit in and for Pasco County, Florida, entered a judgment against Saddlebrook 14 Resorts, Inc. ("Saddlebrook"), a former subsidiary of the Company, in a lawsuit which arose out of the development of Saddlebrook's resort and a portion of the adjoining residential properties owned and developed by the Company. The lawsuit (James H. Porter and Martha Porter, Trustees, et al. vs. Saddlebrook Resorts, Inc. and The County of Pasco, Florida; Case No. CA83-1860) alleges damage to plaintiffs' adjoining property caused by surface water effects from improvements to the properties. Damages of approximately $8 million were awarded to the plaintiffs and an injunction was entered requiring, among other things, that Saddlebrook work with local regulatory authorities to take corrective actions. Saddlebrook made two motions for a new trial, based on separate grounds. One such motion was granted on December 18, 1990. Such grant was appealed by the plaintiffs. The other such motion was denied on February 28, 1991. Saddlebrook appealed such denial. The appeals were consolidated, fully briefed and heard in February 1992. Saddlebrook received a favorable ruling on March 18, 1992, dismissing the judgment and remanding the case to the Circuit Court for a new trial. An agreed order has been entered by the Court preserving the substance of the injunction pending final disposition of this matter. As part of its plan to comply with the agreed order, Saddlebrook filed applications with the regulatory agency to undertake various remediation efforts. Plaintiffs, however, filed petitions for administrative review of the applications, which administrative hearing was concluded in February 1992. On March 31, 1992, the hearing officer issued a recommended order accepting Saddlebrook's expert's testimony. The agency's governing board was scheduled to consider this recommended order on April 28, 1992, however, shortly before the hearing, the plaintiffs voluntarily dismissed their petitions and withdrew their challenges to the staff's proposal to issue a permit. At the April 28, 1992 hearing the governing board closed its file on the matter and issued the permits. Saddlebrook appealed the board's refusal to issue a final order. On July 9, 1993 a decision was rendered for Saddlebrook remanding jurisdiction to the governing board for further proceedings, including entry of a final order which was issued on October 25, 1993. The plaintiffs appealed the Appellate Court decision to the Florida Supreme Court and appealed the issuance of the final order to the Second District Court of Appeals. The Florida Supreme Court heard the appeal on May 3, 1994 and denied plaintiffs' appeal. The other appeal was voluntarily dismissed by the plaintiffs on June 17, 1994. On remand to the trial court, Saddlebrook's motion for summary judgment, based on collateral estoppel on the grounds that plaintiffs' claims were fully retried and rejected in a related administrative proceeding was granted on December 7, 1994. Plaintiffs filed for a rehearing which was denied. Plaintiffs appealed the trial court's decision granting summary judgment. In August 1996, the appellate court affirmed all but three issues in the trial court's summary judgment order in favor of Saddlebrook. On April 1, 1998 the trial court entered an order limiting the scope of a retrial in light of the appellate court's ruling. At an April 1, 1999 pretrial conference the retrial was scheduled to commence in the first quarter of 2000. Until October 14, 1989, Saddlebrook disputed responsibility for ultimate liability and costs (including costs of corrective action). On 15 that date, the Company and Saddlebrook entered into an agreement with regard to such matters. The agreement, as amended and restated on July 16, 1993, provides for the Company and Saddlebrook to split equally the costs of the defense of the litigation and the costs of certain related litigation and proceedings, the costs of the ultimate judgment, if any, and the costs of any mandated remedial work. Patent Infringement Claim On August 16, 1995, Interactive Technologies, Inc. ("ITI" - plaintiff) commenced a lawsuit in U.S. District Court against the Company alleging patent infringement. The plaintiff claimed the Company infringed on their patent by making, using and selling certain security system products in the United States, and that the infringement was willful. Plaintiff initially sought unspecified damages, and an injunction. The Company denied infringement, maintaining the plaintiff's patent was invalid, as well as unenforceable because the plaintiff committed inequitable conduct before the Patent Office when applying for the patent. During discovery, the plaintiff informed the Company it was seeking damages measured by its lost profits or not less than a reasonable royalty on sales of the Company. Fact discovery in the action closed on January 17, 1997. The Court conducted a Markman hearing in October 1997 to construe the patent claims asserted by plaintiff and issued its Order interpreting the claims on October 24, 1997. The Company moved for summary judgment of non-infringement. On December 2, 1997 the Court issued its Order granting partial summary judgment that the Company's products did not literally infringe the patent claims, and denying summary judgment of no infringement. Jury trial started on January 7, 1998. During the trial, the plaintiff indicated it was seeking lost profits and royalty damages of up to $66.8 million. The plaintiff also asserted trebling of damages, if awarded, based upon alleged willful infringement. On March 9, 1998 the jury handed down a verdict against the Company awarding damages of $36.0 million. The jury found that the Company did not willfully infringe. The Court entered judgment on the jury's verdict on April 9, 1998. Consequently, the Company recorded a provision of $43.0 million in the first quarter of 1998, which considered the judgment and interest. The Company filed post-trial motions on April 20, 1998 for judgment as a matter of law in favor of the Company which were denied. The Company appealed the verdict. Appeal briefs were filed and oral arguments on the appeal were heard on March 4, 1999. In May 1999, the Federal Circuit Court of Appeals unanimously reversed the March 1998 verdict. ITI's petition to the Court of Appeals for a re-hearing of its decision was summarily denied. The $43.0 million provision has been reversed in the second quarter of 1999 as a result of the favorable decision of the Circuit Court of Appeals. In August 1998, ITI filed a second lawsuit against the Company which alleges that certain of the Company's products not specified in the prior litigation infringe on the same patent. The Company filed a motion for summary judgment dismissing the lawsuit based on the favorable decision of the Circuit Court of Appeals in the first lawsuit. 16 Other The Company in the normal course of business is subject to a number of claims and lawsuits, both actual and potential in nature. While management believes that the ultimate outcome of the aforementioned lawsuits and resolution of other existing claims and lawsuits will not have a material adverse effect on the Company's financial statements, management is unable to estimate the magnitude of financial impact of claims and lawsuits which may be filed in the future. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The annual meeting of stockholders was held on May 6, 1999 and the following actions were taken: (a) Management's slate of nominees for directors was unopposed and elected in its entirety. The results of the voting were as follows: Director For Withheld Common Stock- R. Barrows 6,972,712 11,629 F. Conforti 6,972,712 11,629 L. Guthart 6,972,712 11,629 I. Harris 6,972,712 11,629 K. Harris 6,972,712 11,629 N. Harris 6,972,712 11,629 W. Harris 6,972,712 11,629 J. Kahn. Jr. 6,972,712 11,629 J. McCarter 6,969,212 15,129 Class A Stock- E. Barnett 27,789,572 450,287 E. Coolidge III 27,794,933 444,926 A. Downs 27,792,072 447,787 There were no broker non-votes in the above voting. 17 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits. Number Description 27 Financial Data Schedule (submitted only in electronic format) (b) Reports on Form 8-K On March 10, 1998, Registrant reported on a Form 8-K that a jury in the U.S. District Court in St. Paul, Minnesota handed down a verdict the previous day in ITI's patent suit against the Registrant relating to ITI's U.S. Patent 4,855,713. The patent relates to a method of entering wireless transmitter identity codes into security system control panels. The jury verdict awarded damages of approximately $36 million plus accrued interest. On June 1, 1999, the Registrant filed a Form 8-K under Item 5 reporting that the Federal Circuit Court of Appeals reversed the jury verdict handed down in the U.S. District Court. 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. PITTWAY CORPORATION (Registrant) By /s/ Paul R. Gauvreau Paul R. Gauvreau Financial Vice President, Treasurer and Chief Financial Officer (Duly Authorized Officer and Principal Financial Officer) Date: July 28, 1999 18 EX-27 2 FDS
5 1,000 6-MOS DEC-31-1999 JUN-30-1999 10,835 65,006 309,821 14,466 294,045 708,300 289,793 150,940 1,121,206 378,331 103,220 0 0 42,748 510,841 1,121,206 794,638 794,638 494,878 494,878 19,548 3,775 7,790 143,630 54,582 89,048 0 0 0 89,048 2.08 2.04 Excluding the reversal of a litigation provision, changes in Pittway's equity investment in Cylink, the gain on sale of USSB stock and related tax benefits, net income would have been $33.1 million ($.76 per diluted share).
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