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Illinois Tool Works 10-Q 2010 UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________________________________________
FORM 10-Q
(Mark One)
Commission File Number: 1-4797
ILLINOIS TOOL WORKS INC.
(Exact name of registrant as specified in its charter)
(Registrant’s telephone number, including area code) 847-724-7500
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 whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer X Accelerated filer ___
Non-accelerated filer ___ (Do not check if a smaller reporting company)Smaller reporting company ___
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
The number of shares of registrant’s common stock, $0.01 par value, outstanding at June 30, 2010: 503,511,009.
Part I – Financial Information
Item 1 – Financial Statements
ILLINOIS TOOL WORKS INC. and SUBSIDIARIES
STATEMENT OF INCOME (UNAUDITED)
The Notes to Financial Statements are an integral part of these statements. ILLINOIS TOOL WORKS INC. and SUBSIDIARIES
STATEMENT OF FINANCIAL POSITION (UNAUDITED)
The Notes to Financial Statements are an integral part of these statements.
ILLINOIS TOOL WORKS INC. and SUBSIDIARIES
STATEMENT OF CASH FLOWS (UNAUDITED)
The Notes to Financial Statements are an integral part of these statements.
ILLINOIS TOOL WORKS INC. and SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
(1) FINANCIAL STATEMENTS
The unaudited financial statements included herein have been prepared by Illinois Tool Works Inc. and Subsidiaries (the “Company”). In the opinion of management, the interim financial statements reflect all adjustments of a normal recurring nature necessary for a fair statement of the results for interim periods. It is suggested that these financial statements be read in conjunction with the financial statements and notes to financial statements included in the Company’s 2009 Annual Report on Form 10-K. Certain reclassifications of prior year data have been made to conform to current year reporting.
(2) COMPREHENSIVE INCOME
The components of comprehensive income in the periods presented were:
(3) DISCONTINUED OPERATIONS
The Company periodically reviews its operations for businesses which may no longer be aligned with its long-term objectives. In August 2008, the Company’s Board of Directors authorized the divestiture of the Click Commerce industrial software business which was previously reported in the All Other segment. In the second quarter of 2009, the Company completed the sale of the Click Commerce business.
In 2007, the Company classified an automotive components business as held for sale which was sold in the third quarter of 2009.
Results of the discontinued operations for the second quarter and year-to-date periods of 2009 were as follows:
In 2009, the Company recorded a pre-tax loss on the disposal of the Click Commerce business of $29,827,000.
(4) INCOME TAXES
In March 2010, the Patient Protection and Affordable Care Act and Health Care and Education Reconciliation Act were signed into law. As a result, future tax deductions for retiree prescription drug coverage will be reduced by the amount of subsidies received starting in 2013. In the first quarter of 2010, the Company recorded a discrete charge of $21,881,000 for the impact of the health care reform legislation.
In the first half of 2009, the Company incurred significant charges related to the impairment of goodwill and intangible assets of $89,997,000 that were mostly non-deductible and discrete tax items of $43,540,000 to record reserves on net operating loss carryforwards no longer expected to be utilized and other tax adjustments.
The components of the effective tax rate for the six month periods ended June 30, 2010 and 2009 were as follows:
The Company and its subsidiaries file tax returns in the U.S. and various state, local and foreign jurisdictions. These tax returns are routinely audited by the tax authorities in these jurisdictions and a number of these audits are currently ongoing.
The Company is litigating its dispute with the Australian Tax Office over the treatment of an intercompany financing transaction between the U.S. and Australia. The Company has recorded its best estimate of the exposure for this audit; however, it is reasonably possible that the Company will resolve the Australian financing issue within the next 12 months and that the amount of the Company’s unrecognized tax benefits may decrease by approximately $163,000,000.
(5) INVENTORIES
Inventories at June 30, 2010 and December 31, 2009 were as follows:
(In thousands)
(6) GOODWILL AND INTANGIBLE ASSETS
Goodwill represents the excess cost over fair value of the net assets of purchased businesses. The Company does not amortize goodwill and intangible assets that have indefinite lives. The Company performs an annual impairment assessment of goodwill and intangible assets with indefinite lives based on the estimated fair value of the related reporting unit or intangible asset.
When performing its annual impairment assessment, the Company compares the estimated fair value of each of its 60 reporting units to its carrying value. Fair values are determined primarily by discounting estimated future cash flows based either on current operating cash flows or on a detailed cash flow forecast prepared by the relevant reporting unit. The Company also considers additional valuation techniques, such as market multiples from similar transactions and quoted market prices of relevant public companies. If the fair value of a reporting unit is less than its carrying value, an impairment loss, if any, is recorded for the difference between the implied fair value and the carrying value of the reporting unit’s goodwill. During 2009, the Company changed the date of its annual goodwill impairment assessment from the first quarter to the third quarter.
The Company’s indefinite-lived intangibles consist of trademarks and brands. The estimated fair values of these intangibles are determined based on a relief-of-royalty income approach derived from internally forecasted revenues of the related products. If the fair value of the trademark or brand is less than its carrying value, an impairment loss is recorded for the difference between the estimated fair value and carrying value of the intangible asset.
In the first quarter of 2009, the Company performed a goodwill impairment assessment which resulted in impairment charges of $60,000,000 related to the pressure sensitive adhesives reporting unit in the Polymers & Fluids segment and $18,000,000 related to the PC board fabrication reporting unit in the Power Systems & Electronics segment.
Also in the first quarter of 2009, intangible asset impairments of $11,997,000 were recorded to reduce to the estimated fair value the carrying value of certain trademarks and brands. Approximately $5,800,000 of this total charge related to the PC board fabrication reporting unit and the remainder to various trademarks and brands of other reporting units.
The impairments during 2009 were primarily related to new reporting units which had been acquired before the recent economic downturn. These charges were driven primarily by lower current forecasts compared to the expected forecasts at the time the reporting units were acquired.
A summary of goodwill and indefinite-lived intangible assets that were adjusted to fair value and the related impairment charges included in earnings for the first quarter of 2009 were as follows:
(7) RETIREMENT PLANS AND POSTRETIREMENT BENEFITS
Pension and other postretirement benefit costs for the periods ended June 30, 2010 and 2009 were as follows:
The Company expects to contribute $70,500,000 to its pension plans and $37,900,000 to its other postretirement plans in 2010. As of June 30, 2010, contributions of $35,800,000 to pension plans and $18,400,000 to other postretirement plans have been made.
(8) SHORT-TERM DEBT
In June 2009, the Company entered into a $2,000,000,000 Line of Credit Agreement with a termination date of June 11, 2010. This line of credit was replaced on June 11, 2010 by a $1,000,000,000 Line of Credit Agreement with a termination date of June 10, 2011. No amounts were outstanding under this facility at June 30, 2010.
The Company had outstanding commercial paper of $248,491,000 at June 30, 2010 and $135,498,000 at December 31, 2009.
(9) LONG-TERM DEBT
Based on rates for comparable instruments the approximate fair value and related carrying value of the Company’s long-term debt, including current maturities, were as follows:
(In thousands)
On June 11, 2010, the Company entered into a $1,000,000,000 Line of Credit Agreement with a termination date of June 11, 2013. No amounts were outstanding under this facility at June 30, 2010.
(10) SEGMENT INFORMATION
See Management’s Discussion and Analysis for information regarding operating revenues and operating income for the Company’s segments.
Item 2 - Management’s Discussion and Analysis
CONSOLIDATED RESULTS OF OPERATIONS
The Company’s consolidated results of operations for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Revenues increased 20.1% and 17.5% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to higher base revenues, the favorable effect of currency translation and revenues from acquisitions. Base revenues increased 15.1% and 11.5% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 as the Company saw improvement in macroeconomic data across many worldwide end markets. North American base revenues increased 15.8% and 11.7% in the second quarter and year-to-date periods, respectively, while international base revenues increased 14.2% and 11.1% in the same periods. End markets including transportation, polymers and fluids, industrial packaging and PC board/electronics showed strength in the second quarter and year-to-date periods.
Operating Income
Operating income increased $317.9 million and $710.5 million in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to the increase in base revenues, lower operating expenses, lower restructuring expenses and lower year-to-date goodwill and intangible asset impairment charges. Base margins increased 4.7% and 6.4% in the second quarter and year-to-date periods of 2010, respectively, primarily due to the positive leverage effect of the increase in base revenues and the cumulative benefits of restructuring projects. Selling price versus material cost comparisons were unfavorable in the second quarter but remained favorable for the year-to-date period. In the prior year first quarter, the Company recorded goodwill and intangible asset impairment charges of $90.0 million.
The reconciliation of segment operating revenues to total operating revenues is as follows:
TRANSPORTATION
Businesses in this segment produce components, fasteners, fluids and polymers, as well as truck remanufacturing and related parts and service.
This segment primarily serves the automotive original equipment manufacturers and tiers and automotive aftermarket markets.
The results of operations for the Transportation segment for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Revenues increased 34.1% and 34.8% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to the increase in base revenues, revenues from acquisitions and the favorable effect of currency translation, partially offset by a decline in revenue for the truck remanufacturing business. The increase in acquisition revenue is primarily due to the purchase of a North American automotive aftermarket business in the second quarter of 2010. North American automotive base revenues increased 38.2% and 30.4% in the second quarter and year-to-date periods, respectively, due to a year-to-date increase in car builds of 72%. International automotive base revenues increased 30.6% and 44.6% in the second quarter and year-to-date periods, respectively, due to a year-to-date increase in European car builds of 29%. The automotive aftermarket businesses, which were less impacted in 2009 by the economic downturn, increased 4.2% and 2.5% in the same periods, respectively.
Operating Income
Operating income increased $87.4 million and $187.1 million in the second quarter and year-to-date periods of 2010, respectively, versus 2009, primarily due to the increase in base revenues and lower operating costs. Total base margins increased 10.1% and 12.8% for the second quarter and year-to-date periods, respectively, as a result of leverage from the increase in base revenues and an improved cost structure due to business unit consolidations and restructurings. In addition, favorable inventory obsolescence expense comparisons in the year-to-date period improved margins. In the second quarter of 2010, unfavorable selling price versus material cost comparisons were more than offset by productivity gains.
INDUSTRIAL PACKAGING
Businesses in this segment produce steel, plastic and paper products and equipment used for bundling, shipping and protecting goods in transit.
This segment primarily serves the general industrial, primary metals, food and beverage and construction markets.
The results of operations for the Industrial Packaging segment for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Operating revenues increased 23.5% and 22.3% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to the increase in base revenues, the favorable impact of currency translation and revenues from acquisitions. Base revenues increased 28.7% and 23.3% for the North American strapping businesses in the second quarter and year-to-date periods, respectively, largely due to an increase in steel and plastic strap volume driven by increased demand in key industries such as automotive, construction and appliance. In addition, equipment revenues increased versus the second quarter and year-to-date periods of 2009. The international strapping businesses increased 15.1% and 11.3% in the second quarter and year-to-date periods, respectively, primarily due to a partial recovery in the worldwide steel industry, particularly in the European, Brazilian, Indian and Australasian regions. Worldwide protective packaging increased 13.0% and 19.5% in the second quarter and year-to-date periods, respectively, while worldwide stretch packaging increased 10.3% and 3.9% in the same periods. Acquisition revenue increased primarily due to the purchase of a North American protective packaging business in the fourth quarter of 2009.
Operating Income
Operating income increased $44.8 million and $98.7 million in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to the increase in base revenues and lower operating expenses. Base operating margins increased 5.8% and 8.3% in the second quarter and year-to-date periods of 2010, respectively, primarily driven by leverage from the increase in base revenues, restructuring benefits and favorable year-to-date inventory obsolescence expense comparisons, partially offset by unfavorable year-to-date selling price versus material cost comparisons.
FOOD EQUIPMENT
Businesses in this segment produce commercial food equipment and related service.
This segment primarily serves the food institutional/restaurant, service and food retail markets.
The results of operations for the Food Equipment segment for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Revenues increased 0.7% and 0.1% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to the favorable effect of currency translation partially offset by the decline in base business. North American base revenues declined 3.7% and 3.2% in the second quarter and year-to-date periods, respectively, primarily due to declines in the lodging and casino markets partially offset by strong growth in the government and school markets. Base revenues in the service portion of the business increased 2.8% and 1.9% in the second quarter and year-to-date periods, respectively. International base revenues increased 3.3% in the second quarter while declining 1.8% for the year-to date period largely due to strong Asian revenue offset in the year-to-date period by lower European equipment sales in 2010 versus 2009.
Operating Income
Operating income increased $2.4 million and $8.6 million in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to lower restructuring expenses and the favorable effect of currency translation partially offset by the negative leverage effect of the lower revenues described above. Total operating margins increased 0.5% and 0.9% in the second quarter and year-to-date periods, respectively, primarily due to lower restructuring expenses partially offset by lower base business operating margins.
POWER SYSTEMS & ELECTRONICS
Businesses in this segment produce equipment and consumables associated with specialty power conversion, metallurgy and electronics.
This segment primarily serves the general industrial, electronics and construction markets.
The results of operations for the Power Systems & Electronics segment for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in operating revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Revenues increased 24.6% and 19.2% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to growth in base business and the favorable effect of currency translation. Base revenues for the PC board fabrication businesses increased 89.8% and 89.6% in the second quarter and year-to-date periods, respectively, as demand for consumer electronics and capital equipment increased significantly. North American welding base business revenues increased 20.6% and 10.7% in the second quarter and year-to-date periods, respectively, as end markets experienced improved recovery. Base business revenues for the international welding businesses declined 0.1% and 4.1% in the same periods primarily due to softening in end markets in both Europe and Asia.
Operating Income
Operating income increased $46.3 million and $113.8 million, in the second quarter and year-to-date periods of 2010, respectively, versus 2009 mainly due to the favorable leverage effect of the growth in base revenues, lower restructuring expenses, lower operating expenses, and favorable year-to-date goodwill impairment comparisons. During the first quarter of 2009, a $23.8 million goodwill and intangible asset impairment charge was recorded in the PC Board fabrication business. In addition, base income and margins increased primarily due to the cumulative benefits of restructuring projects, favorable year-to-date inventory obsolescence expense comparisons and favorable sales mix. These increases were partially offset by unfavorable selling price versus material cost comparisons.
CONSTRUCTION PRODUCTS
Businesses in this segment produce tools, fasteners and other products for construction applications.
This segment primarily serves the residential construction, commercial construction and renovation construction markets.
The results of operations for the Construction Products segment for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Revenues increased 24.0% and 19.4% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to an increase in base revenues, the favorable effect of currency translation and revenues from acquisitions. Base revenues for the Asia-Pacific region increased 6.3% and 5.3% in the second quarter and year-to-date periods, respectively, as market conditions in the residential market improved. North American base revenues increased 17.2% and 8.1% in the second quarter and year-to-date periods, respectively, primarily due to slightly better year-over-year housing starts, modest inventory restocking, and a one-time licensing agreement settlement in the second quarter of 2010 in the commercial construction business. European base revenues increased 11.6% and 5.8% in the second quarter and year-to-date periods, respectively, primarily due to improved market conditions.
Operating Income
Operating income increased $46.0 million and $81.6 million in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to positive leverage from the increase in base revenues described above, lower operating expenses and the favorable effect of currency translation, partially offset by higher year-to-date restructuring expenses. Base margins increased 8.5% and 10.6% in the second quarter and year-to-date periods, primarily due to favorable selling price versus material cost comparisons, favorable year-to-date inventory obsolescence expense comparisons, benefits from restructuring projects, and a favorable one-time licensing agreement settlement in the second quarter of 2010 in the commercial construction business.
POLYMERS & FLUIDS
Businesses in this segment produce adhesives, sealants, lubrication and cutting fluids, and hygiene products.
This segment primarily serves the general industrial, construction, maintenance, repair and operations and automotive aftermarket markets.
The results of operations for the Polymers & Fluids segment for the second quarter and year-to-date periods of 2010 and 2009 were as follows:
In the second quarter and year-to-date periods of 2010, the changes in revenues and operating margins over the prior year were primarily due to the following factors:
Operating Revenues
Revenues increased 22.8% and 20.7% in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to an increase in base revenues, the favorable effect of currency translation and revenues from acquisitions. Acquisition revenue was primarily the result of the purchase of four Latin American adhesive businesses in 2009. Total base revenues increased 15.6% and 11.8% in the second quarter and year-to-date periods, respectively, due to recovery in most end markets served by this segment, with particularly strong growth in Brazil, Russia and China. Worldwide base revenues for the fluids businesses increased 10.8% and 12.3% in the second quarter and year-to-date periods, respectively, while base revenues for the polymers businesses increased 16.1% and 10.6% in the same periods.
Operating Income
Operating income increased $26.7 million and $112.9 million in the second quarter and year-to-date periods of 2010, respectively, versus 2009 primarily due to favorable goodwill and intangible asset impairment comparisons, the increase in base revenues described above, and lower operating expenses. During the first quarter of 2009, a $60.0 million goodwill impairment charge was taken against the goodwill of the pressure sensitive adhesive business. Base margins increased 4.2% and 6.7% in the second quarter and year-to-date periods, respectively, due to the positive leverage effect of the increase in base revenues, benefits of restructuring projects and favorable year-to-date selling price versus material cost comparisons.
DECORATIVE SURFACES
Businesses in this segment produce decorative surfacing materials for furniture, office and retail space, countertops, flooring, and other applications.
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