Item 1. Business
Arvin Industries, Inc. (which together with its consolidated subsidiaries is referred to herein as "Arvin" or "the Company") is a diversified international manufacturer and supplier of automotive parts and a variety of other products through operating entities in the United States (U.S.) and numerous other countries. The Company is a worldwide leader in automotive exhaust systems and ride control products for the original equipment and replacement markets. The Company's consolidated revenues were over $2 billion in fiscal 1996. Since its founding in 1919, Arvin has grown through internal development, acquisitions and a number of international joint ventures. In recent years, the Company's strategy has been to strengthen its automotive parts businesses by achieving a mix of sales to both original equipment manufacturers ("OEMs") and replacement market parts suppliers on a global basis. Recently, management has implemented a series of strategic initiatives to increase the Company's global competitive position within the automotive parts marketplace.
The Company classifies its business based on the two primary markets it serves: Automotive Original Equipment ("OE") and Automotive Replacement ("Replacement"). In fiscal 1996, Arvin derived approximately 70 percent of its total revenues from the OE market, with the remaining 30 percent coming from replacement market sales.
Automotive Original Equipment:
Principal products of the Automotive Original Equipment segment include exhaust systems (mufflers, exhaust and tail pipes, catalytic converters and tubular manifolds), ride control products (shock absorbers and struts), gas springs, vacuum actuators, metal tubular parts, coated coil steel and aluminum, press-molded thermoplastics and vinyl-metal stampings.
Primary customers of the Automotive Original Equipment segment include Chrysler, Fiat, Ford, General Motors, Honda, Mazda, Mercedes Benz, Mitsubishi, Nissan, Renault, Toyota/Nummi, Volkswagen/SEAT and Volvo. The Company believes that it is the leading exhaust system supplier to OE customers in North America and Europe, and among the top three OE ride control suppliers in these markets.
Arvin's OE segment has undergone a significant transformation in the last decade, moving to a fully integrated engineering, development and production operation. This transformation has been driven by the shift in customer requirements and a change in the capabilities required to be a successful, long term participant in this market.
Arvin competes with other independent parts suppliers and with manufacturers' captive parts operations. The Company has significantly enhanced its delivery capabilities geographically since the late 1980s through both acquisitions and the formation of a number of international joint ventures. Arvin believes that its aggressive capital spending program has resulted in world- class manufacturing operations, capable of delivering outstanding value and quality to its customers.
Automotive Replacement:
The principal products, brand names and primary customers of the Automotive Replacement segment are set forth below. The Company believes that it is among the top two replacement exhaust and ride control manufacturers in both North America and Europe.
Principal products include mufflers, exhaust and tail pipes, catalytic converters, shock absorbers, MacPherson struts and gas springs.
Brand names for mufflers include Maremont, Cherry Bomb, TIMAX, ANSA, ROSI, and TESH. Shock absorbers are marketed under the Gabriel brand name and gas-charged lift supports are marketed under the Strong Arm brand name.
Primary customers of the Automotive Replacement segment include retailers (Sears, Canadian Tire, Pep Boys and AutoZone), wholesale distributors (Parts, Inc., United Auto Parts and General Parts) and installers (Meineke and Kwik-Fit).
The Company's replacement market operations compete with both OEMs and independent suppliers in North America and Europe, and serve the market through its own sales force as well as a network of manufacturers' representatives. The Company's competitive position has been enhanced by rigorous attention to lead time reduction, with some product offerings improving from seven days to about one day. The foregoing has enabled the Company to increase its order fill rate and to provide quick order turnaround through more responsive manufacturing operations. These enhanced manufacturing processes have also had a positive impact on the cost and quality of the product.
B. Number of Employees
At year-end, the Company had 12,982 employees.
C. Competition and Customer Relationships
Each of the Company's business segments operates in a highly competitive market. Customer loyalty, developed through long- standing relationships, is a primary element of competition as well as competitive product pricing and customized services provided. The Company's long-standing relationships with its principal customers have been dependent upon the Company's ability to meet such customers' quantity and quality requirements in a timely manner.
The loss of a principal customer or a significant decline in the requirements for the Company's products (resulting, for example, from a prolonged strike against the customer) could have a materially adverse effect on the operating results or financial condition of the Company. In 1996, the Company had sales to three customers that exceeded 10% of its consolidated net sales (Ford Motor Company - 19.1 percent, General Motors Corporation - 13.0 percent and Chrysler Corporation - 10.2 percent).
In the OE segment, the Company competes with vehicle manufacturers and independent suppliers. The Company believes that it is the leading supplier among four major competitors in the North American OE exhaust systems market and one of the leaders among nine major competitors in the European Union. For OE ride control products, the Company believes that it is one of the three largest suppliers in the North American market and one of seven major suppliers in the European Union.
The Company also competes with vehicle manufacturers and independent suppliers in the Replacement segment. The Company believes that it is one of four primary suppliers in the North American automotive replacement exhaust systems market and one of three major suppliers in the European Union. The Company is one of two major suppliers in the North American automotive replacement ride control products market and is one of several suppliers in the European Union. The Company is the leader in the U.S. replacement market for gas-charged lift supports.
D. Regulations
United States air pollutant emissions as well as acoustical emissions are controlled by government regulations that, coupled with mandated fuel economy improvements, continue to affect Arvin. Over the near term, the Company does not anticipate any regulatory changes that will materially impact the use of catalytic converters in the United States.
European air pollutant emissions regulations continue to become more stringent and are applicable throughout the European Union. Current legislation requires catalytic converters to be fitted to all newly produced gasoline fueled passenger cars. Further reductions in the permissible levels of emissions have been introduced in 1996 in the "Stage 2" standards. Additional tightening of the standards are planned for "Stage 3" in the year 2000. The Company believes that the introduction of more stringent standards should have a positive impact on the results of operations for the Company.
Arvin believes that its facilities either comply with applicable environmental control regulations or that remedial action is being taken to bring such facilities into compliance. While Arvin does not believe that continuing compliance will have a material effect on its competitive or financial condition, some additional capital expenditures and other expenses will be required to maintain compliance with such regulations.
E. Patents
The Company owns a considerable number of patents and patent applications which are, in its judgment, adequate for, but not essential to, the conduct of its businesses.
F. Research and Development
Expenses for the development of new products and processes, including significant improvements and refinements to existing products were $26.2 $24.7, and $22.8, million for 1996, 1995, and 1994, respectively.
Item 2.
Item 2. Properties - ------------------
The Company has manufacturing facilities, distribution outlets, sales offices and research centers located throughout the world. The Company believes that all of its plants have been adequately maintained and are suitable for its current needs through productive utilization of the facilities.
Automotive Original Equipment: - ------------------------------
The Company has approximately 6.3 million square feet to conduct its business activities related to the OE segment. The Company's original equipment facilities are nearly fully utilized.
Principal manufacturing facilities in the United States are located in Indiana, Missouri, Alabama and Tennessee. Additional manufacturing activities are conducted in South Carolina. The facilities in Indiana, Missouri, South Carolina and Tennessee are owned, while the other manufacturing facilities are leased. Principal sales offices for this segment are leased in Rochester Hills and Farmington Hills, Michigan.
Principal manufacturing facilities outside of the United States are located in the United Kingdom, Spain, Italy, the Netherlands and Canada. Additional manufacturing activities are conducted in South Africa, France and Mexico.
Automotive Replacement: - -----------------------
The Company has approximately 2.8 million square feet of space to conduct its Automotive Replacement business. The Company's Replacement facilities are nearly fully utilized.
Principal manufacturing facilities located within the United States are in Tennessee and Oklahoma. Also, the Replacement operations lease warehouses in Utah and South Carolina from which products are distributed.
Principal manufacturing facilities located outside the U. S. are in the United Kingdom. Other manufacturing activities are conducted in South Africa, Spain, Mexico, Italy and France. The major distribution center in Blackpool, England is leased, as are other smaller distribution centers in the United Kingdom.
Item 3.
Item 3. Legal Proceedings - -------------------------
The Company is defending various environmental claims and legal actions that arise in the normal course of its business, including matters in which the Company has been designated a potentially responsible party at certain waste disposal sites or has been notified that it may be a potentially responsible party at other sites as to which no proceedings have been initiated. At a majority of these sites, the information currently available leads the Company to believe it has very limited or even de minimis responsibility. At other sites, neither the remediation method, amount of remediation costs nor the allocation among potentially responsible parties has been determined. Where reasonable estimates are possible, the Company has provided for the costs of study, cleanup, remediation, and certain other costs, taking into account, as applicable, available information regarding site conditions, potential cleanup methods and the extent to which other parties can be expected to bear those costs.
The Company is a participant with the EPA and the current owner of a site previously owned by the Company's Maremont subsidiary in a corrective action proceeding under the Resource Conservation and Recovery Act. The Company has accrued for its share of the reasonably estimable minimum remediation costs at this site, which include costs incurred in connection with further studies and design of a remediation plan, remedial costs, including cleanup activities, and administrative, legal and consulting fees. Given the inherent uncertainties in evaluating legal and environmental exposures, actual costs to be incurred in future periods may vary from the currently recorded estimates. The Company expects that any sum it may be required to pay in connection with legal and environmental matters in excess of the amounts recorded will not have a material adverse effect on its financial condition.
Two previously disclosed suits filed by Chamberlain Manufacturing Corporation were settled during 1996. Both claims grew out of the May 1987 sale of a Maremont unit, Saco Defense, Inc., to Chamberlain and related to (i) certain worker compensation cases pending at the time of the sale and (ii) assertions of nonconforming products being shipped to the U.S. government prior to the sale. The settlement, which included dismissal of all litigation, was within amounts previously reserved for this litigation and did not have a significant impact on the Company's 1996 results of operations.
All terms of all officers of the Registrant run until their respective successors are elected and qualified.
All listed executive officers except Mr. Snyder have been employed by the Registrant or one of its subsidiaries for the past five years. Mr. Snyder joined Arvin in his current capacity in December, 1992. Previously, he was a partner in the Indianapolis law firm of Barnes & Thornburg.
Item 4.
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 the 1996 fiscal year.
Part II
Item 5.
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters - ---------------------------------------------------------- Arvin's common shares are listed on the New York Stock Exchange and the Chicago Stock Exchange. Set forth below are the dividends declared and the high and low sales prices of the common shares for each quarter during the last two fiscal years.
Market Price Ranges and Quarterly Dividends Paid (Prices and dividends on common shares)
1996 1995 ---------------------------- -------------------------- Market Price Market Price ------------------- ----------------- Dividend High Low Dividend High Low -------- ------ ----- -------- ------ -----
First Quarter $ .19 $ 22 3/8 $ 16 3/4 $ .19 $ 24 7/8 $ 19 3/4 Second Quarter .19 24 7/8 19 3/4 .19 23 3/4 20 3/4 Third Quarter .19 24 5/8 19 5/8 .19 24 1/8 20 7/8 Fourth Quarter .19 25 1/4 22 3/4 .19 22 1/8 16 1/8
As of March 7, 1997, Arvin had 4,510 holders of record of its common shares.
Item 6.
Item 6. Selected Financial Data - -------------------------------
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - -----------------------------------------------------------
Overview
Arvin's 1996 consolidated sales were at the highest level in the Company's history. The Company recorded sales of $2.2 billion, a 13 percent increase over 1995. The primary factors that contributed to the increase were increased market share in the original equipment segment in both the United States (U.S.) and Western Europe, the Company's acquisition of a controlling interest in Way Assauto S.r.l., growth in Western Europe's new car market of 6.6 percent, improved product mix due to higher value exhaust production in North American original equipment, and improved pricing in the replacement market.
Graphic Table - Bar-graph indicating annual sales for original equipment and replacement segments, respectively, for the following years, in millions: 1996 $1,549.5 and $663.2 1995 $1,337.2 and $629.2 1994 $1,194.7 and $654.8
Operating income increased 21 percent, to $120.1 million, in 1996. In addition to the increased volume, improved product mix and improved pricing mentioned above, the increase in operating income resulted from a reduction in new business costs in the North American Automotive Replacement operations.
Graphic Table - Bar-graph indicating annual operating income for original equipment and replacement segments, respectively, for the following years, in millions: 1996 $71.6 and $48.5 1995 $67.8 and $31.7 1994 $70.9 and $33.2
Currency fluctuations had a negative impact on the comparative levels of sales and operating income during 1996. Using a constant exchange rate basis, sales increased 14 percent and operating income increased 24 percent.
Results of Operations (in millions)
Net Sales by Segment 1996 1995 1994 - ------------------- -------------- -------------- --------------
Automotive Original Equipment $1,549.5 70% $1,337.2 68% $1,194.7 65% Automotive Replacement 663.2 30 629.2 32 654.8 35 --------- ----- --------- ----- --------- ----- Total $2,212.7 100% $1,966.4 100% $1,849.5 100% ========= ===== ========= ===== ========= =====
Operating Income by Segment 1996 1995 1994 - ------------------- -------------- -------------- --------------
Automotive Original Equipment $ 71.6 60% $67.8 68% $ 70.9 68% Automotive Replacement 48.5 40 31.7 32 33.2 32 --------- ----- --------- ----- --------- ----- Total $120.1 100% $99.5 100% $104.1 100% ========= ===== ========= ===== ========= =====
Automotive Original Equipment (OE), 1996 vs. 1995: Sales in the OE segment of $1,549.5 million for 1996 were 16 percent higher than OE sales for 1995. Market forces in the Company's primary markets of Western Europe and North America
Graphic Table - Pie-chart indicating percentage of 1996 sales from original equipment and replacement segments: Original Equipment Sales 70% Replacement Sales 30%
were mixed. Western Europe's car registrations increased 6.6 percent, while North American car and light truck production declined 1.3 percent. Despite these mixed market influences, the Company experienced strong increases in sales volumes. Increased volume in ongoing operations accounted for 52 percent of the overall increase, while volume increases as a result of the consolidation of the ride control manufacturer Way Assauto S.r.l. contributed 16 percent of the increase. In addition to the increased volume, the Company's OE markets continued a trend toward higher quality, higher valued original equipment parts, which contributed approximately 21 percent of the increase. Coated steel and other component automotive parts posted modest volume increases when compared with the prior year. Offsetting these strong positive trends were selective price concessions, which averaged less than one percent of OE sales.
Operating income of $71.6 million in the OE segment for 1996 improved by $3.8 million, or 6 percent, despite the first quarter effect of the General Motors strike, estimated at $2.5 million. Volume increases and the positive effect on product mix as a result of a more complex product line were the primary drivers of the increase. Previously mentioned price concessions were offset by negotiated material price decreases.
Comparison of the effect of changes in volume from period to period is subject to a number of limitations, principally centered around what constitutes a "unit" for volume measurement. The appropriate measure of a "unit" varies over time as products develop, varies among the different countries in which the Company operates, and varies within each operating unit of the Company. As a result, there is a certain degree of imprecision and subjectivity in estimating the impact of volume changes.
1995 vs. 1994: Sales in the OE segment of $1,337.2 million for 1995 were 12 percent higher than OE sales for 1994. The effect of price changes on sales was negligible. Ride control units sold increased in every major market served. Exhaust unit sales declined in the United States as a result of lower vehicle production, and increased throughout Western Europe. The effect of net increased sales volume of exhaust systems approximated $21 million, while ride control's unit volume increase approximated $22 million. The Company recognized increased sales volumes despite essentially level market volumes in Western Europe and a modest decline in the North American market. The Company's sales volume in Mexico declined an estimated $17.7 million as a result of general economic conditions in that country. Sales increases in excess of identified price and volume factors reflect the industry's demand for higher quality, more expensive OE parts. Coated steel volumes were level with the prior year, while changing volumes in other component automotive parts posted modest decreases.
Operating income of $67.8 million in the OE segment for 1995 declined by $3.1 million, or 4 percent, when compared with 1994. The decline was primarily a result of increased material and labor costs of approximately $18 million, offset by the positive effect of productivity improvements of approximately $12 million. Selling price increases contributed approximately $3 million to the current year's operating income. Costs to complete the 1994 restructuring plan for this segment, which were not eligible to be expensed in 1994 under generally accepted accounting principles, exceeded the 1994 restructuring charge by approximately $1 million.
Automotive Replacement (Replacement), 1996 vs. 1995: Sales in the Replacement segment of $663.2 million for 1996 were 5 percent higher than Replacement sales for 1995. Improved pricing contributed approximately 55 percent of the overall increase. The Company's recent acquisition of a controlling interest in Way Assauto S.r.l. accounted for approximately 28 percent of the increase. Both the North American and West European replacement exhaust markets reported a decline in total market volume; however, favorable channel and product mix effectively offset those market declines.
Operating units in the Replacement segment sell their product through a variety of different customer "channels" including merchandisers, installers, and wholesale distributors. As a result of period to period variations in this "channel mix," in addition to normal variations in "product mix," the average price of units sold may not correspond to price changes. As in the OE segment, there is also a certain degree of imprecision and subjectivity in estimating the impact of period to period volume changes, principally because of questions as to what constitutes a "unit" for volume measurement. The appropriate measure of a "unit" varies over time as products develop, varies among the different countries in which the Company operates, and varies within each operating unit of the Company.
Graphic Table - Pie-chart indicating percentage of 1996 operating income from original equipment and replacement segments: Original Equipment Operating Income 60% Replacement Operating Income 40%
Operating income in the Replacement segment increased $16.8 million during 1996, when compared to 1995. In addition to the improved pricing mentioned above, operating income improved as a result of reduced expenditures to obtain new business, which decreased $9.3 million in the current period, from the unusually high level reported in the prior year. Increased accounts receivable collection costs of $3.1 million, a one-time customer stock adjustment of approximately $3.0 million, and a reserve of $2.6 million, which resulted from a decision to consolidate some of the Company's West European distribution locations, offset those positive factors. Material cost reductions nearly offset labor inflation.
1995 vs. 1994: Sales in the Replacement segment of $629.2 million for 1995 were 4 percent lower than Replacement sales for 1994, despite the overall 2 percent positive effect on sales of price increases. Volume fell at an overall rate of 3 percent. The volume decline was most pronounced in the North American exhaust aftermarket, where the Company's 13 percent decline in volume approximated the estimated overall North American market decrease. All North American markets reported volume declines. The West European replacement exhaust market also reported a slight decline in volume. Sales to developing countries continued to post strong increases.
Operating income in the Replacement segment decreased $1.5 million during 1995, when compared to 1994. Labor and material cost inflation amounted to approximately $7 million. Volume declines accounted for an estimated $5 million of the decrease and increased costs of acquiring new customers accounted for approximately $3 million of the decrease. Both 1994 and 1995 reflect unusually high costs to acquire new business. Total 1995 new business costs were elevated by significant amounts pertaining to new customer commitments made prior to year-end 1994. At year-end 1995, the comparable commitments to new customers were negligible. Reported results for 1994 include $18.0 million of restructuring costs for this segment. Costs to complete the 1994 restructuring program in the Replacement segment were less than $1 million in 1995.
Corporate general and administrative expenses in 1996 increased $5.4 million to $17.6 million. The increase was primarily a result of increased employee costs. The 1995 expense of $12.2 million, a 3 percent decrease when compared to 1994, was primarily the result of reduced expenditures for employee costs and professional services.
Restructuring charges result from the Company's restructuring plan announced during the fourth quarter of 1994. The workforce reductions and consolidation of manufacturing facilities and product lines announced as a part of that restructuring were substantially completed by year-end 1995. Severance expense resulting from the plan was $3.0 and $7.4 million for 1995 and 1994, respectively. Severance expense for 1995 is net of a $.6 million income adjustment to severance reserves established in 1994. Cash expenditures during 1995 included $2.9 million for continuing operations' employees separated under the 1994 restructuring plan and $.5 million for employees in discontinued operations. The total number of actual employee separations was 308 versus 338 as a part of the plan. Nine employees of discontinued operations are included in both the actual and planned employee separations.
The 1994 restructuring expense includes $7.3 million for asset write downs to reduce the carrying value of underperforming assets to their estimated fair values. A majority of the assets written down were a part of a facility consolidation in the Replacement segment, which closed its Canadian exhaust manufacturing and distribution facilities and merged those operations into the U.S. parent company. Facility consolidations in the U.S. also included a consolidation of Replacement ride control manufacturing operations and a consolidation of certain Replacement administrative functions.
Facility consolidations also took place in Western Europe, where the Company closed a Replacement ride control distribution facility. Restructuring expense for 1995 and 1994 includes $1.7 and $5.6 million of facility consolidations expense, respectively. Reported expense for 1995 is net of $.5 million of income as a result of an adjustment to facility consolidation reserves established in 1994. Cash expenditures during 1995 to complete facility consolidations approximated $2.3 million for continuing and $.8 million for discontinued operations.
The results of discontinued operations for 1994 include restructuring and special charges totaling $53.0 million, which were primarily to reduce the carrying values of underperforming assets, including goodwill.
Special charges and credits, net: Included in 1996 special charges is a $2.6 million reserve for future lease commitments at abandoned or under-utilized properties, which resulted from a decision to consolidate some of the Company's West European distribution locations. Special charges also include $1.7 million for the net addition to legal and environmental reserves, primarily for operations previously owned by the Company's Maremont subsidiary, $1.5 million for costs related to the redemption of the Company's 7.5 percent subordinated convertible debentures and $1.2 million for contract termination costs. Offsetting these charges is a special credit of $2.0 million related to a 1996 insurance settlement.
During 1995, based upon a judgment entered against an Arvin subsidiary and assessments by legal counsel of other pending legal matters, the Company added $13.7 million to its litigation reserves. The 1995 results also include a special credit of $3.2 million as a result of a settlement with a party potentially liable for certain costs in connection with various environmental matters.
The 1994 special charge of $7.8 million included increases in environmental and other reserves related primarily to the completion of a feasibility study which identified and estimated remediation costs at the Platt Saco Lowell site previously owned by the Company's Maremont subsidiary.
Gain on sale of affiliate: During the fourth quarter of 1996, the Company sold its 31.4 percent equity interest in its Argentinean affiliate, Fric Rot S.A.I.C., for $17.3 million. The pre-tax gain on the sale was $10.8 million.
Interest expense decreased 9 percent or $3.7 million in 1996. The decrease was primarily a result of the 10 percent decrease in average outstanding debt. During 1995 interest expense decreased less than 1 percent, mirroring a decrease in average outstanding debt of less than 1 percent over the same period.
Other expense, net increased $.2 million in 1996 and $2.1 million in 1995. Increased charitable contributions of $1.2 million, non-manufacturing asset write-downs of $1.1 million and increased net loss on sale of capital assets of $1.1 million in 1996 were offset by a decrease in foreign currency transaction losses. The 1995 increase was primarily a result of a $1.6 million increase in foreign currency transaction losses, primarily in Mexico.
Equity earnings of affiliates increased $3.3 million in 1996. Of that increase, $2.6 million reflects stronger OE sales and profits in the United States; $1.0 million of the increase was contributed by the Company's Argentinean affiliate, which was sold in December 1996.
During 1995, the Company instituted a review of an underperforming 50 percent owned joint venture serving the West European Original Equipment market. The Company's previously disclosed negotiations were satisfactorily concluded and approved by regulatory agencies in the second quarter of 1996. An agreement was also reached with the Company's joint venture partner and lending institutions for the restructuring of the joint venture's debt. The agreement did not have a material impact on the Company's financial statements.
Minority interest in net income of consolidated subsidiaries increased $.3 million in the current year and $.5 million in 1995. The 1996 increase was primarily a result of improved results from the Company's 75 percent owned Spanish subsidiary, AP Amortiguadores, S.A. (APA). The 1995 increase was a result of improved earnings of both the Company's Timax business unit and APA.
Income (Loss) from discontinued operations: During 1995, Arvin completed the sale of its Schrader Automotive unit (Schrader) and its 70 percent ownership interest in Space Industries International, Inc. (Space Industries). The 1995 income represents the results of Space Industries for the first nine months of 1995. In 1994, the $41.7 million loss primarily represents losses from Space Industries, net of $.3 million of earnings from Schrader. Included in Space Industries' 1995 results are a one-time credit of $3.9 million to reduce prior years' accruals of employee benefits and a one-time charge approximating $1.6 million for the settlement of certain retirement benefits.
For 1994, the results of Space Industries include a pre-tax restructuring and special charge of $53.0 million ($40.1 million net of tax and minority interest). The components of this charge were employee separations of $.7 million, asset write-downs of $19.6 million, goodwill impairment of $29.6 million, facility consolidations of $2.7 million and other special charges of $.4 million. There were no further restructuring charges or credits in 1995 for Space Industries.
Income from disposal of discontinued operations relates to earnings of the Company's Schrader subsidiary after the decision to sell this business, adjustments in 1995 to tax liabilities related to the Schrader business, and a provision to adjust the carrying value of preferred stock received in conjunction with the sale of Schrader. There was no gain or loss recorded on the disposition of Space Industries.
Financial Condition
Liquidity: Working capital decreased $32.4 million or 27 percent in 1996. Accounts receivable increased 10 percent and accounts payable increased 19 percent, primarily due to the consolidation of Way Assauto S.r.l. Days sales outstanding at the end of 1996 were 49.8 days compared to 50.7 days at the end of 1995. Short- term debt increased 26 percent primarily as a result of the December 27, 1996 redemption of the 7.5 percent convertible subordinated debentures. The current ratio decreased from 1.3 at the end of 1995 to 1.2 at the end of 1996. (See the Consolidated Statement of Cash Flows for a detailed analysis of changes in cash.)
Assets of business transferred under contractual arrangements and Liabilities and deferred credit of business transferred represent 100 percent of the assets of the Company's former subsidiary, Space Industries, which was sold to a new company formed by the senior management of Space Industries for approximately $30.6 million in cash. Under the agreement, the Company guaranteed approximately $22.9 million of the new company's debt incurred as a part of the transaction. The guarantee amount, which was $18.0 million at December 29, 1996, is scheduled to decline on a quarterly basis before expiring on September 30, 1999. The accounting for the Space Industries transaction follows the treatment set forth in the Securities and Exchange Commission's Staff Accounting Bulletins - Topic 5E (SAB Topic 5E) "Accounting for divestiture of a subsidiary or other business operation."
Capital Resources:
On December 27, 1996, the Company redeemed the remaining $61.9 million of its 7.5 percent convertible subordinated debentures at par value plus a 2.25 percent call premium. On January 28, 1997, in connection with the redemption of the convertible subordinated debt, Arvin Capital I, a subsidiary of Arvin Industries, Inc., issued $100 million of its 9.5 percent Capital Securities, maturing on February 1, 2027, callable in 10 years. Proceeds from this issue have been or are expected to be used for the acquisition of additional shares in Autocomponents Suspension S.r.l., the purchase of the remaining shares of Timax Exhaust Systems Holding B.V. (TESH), general corporate purposes and to pay down short-term borrowings incurred in connection with the December 27, 1996 redemption of the convertible subordinated debentures.
On January 29, 1997 the Company exercised its option to purchase an additional 5 percent of Autocomponents Suspension S.r.l. for a purchase price of $1.8 million.
In January 1997 the Company notified Sogefi S.p.A. of its intent to exercise its option to acquire the remaining 50 percent of the joint venture with Sogefi S.p.A. The anticipated purchase price is $30 million. The purchase of the remaining half of the joint venture company, TESH, based in the Netherlands, will further increase the Company's European replacement market presence.
During the fourth quarter of 1996, the Company sold its 31.4 percent equity interest in Fric Rot S.A.I.C., for $17.3 million. The pre-tax gain on the sale was $10.8 million. Funds generated from the December 1996 sale of Fric Rot were used to reduce the Company's debt and for other corporate purposes.
Based on the Company's projected cash flow from operations and existing credit facility arrangements, management believes that sufficient liquidity is available to meet anticipated capital and dividend requirements over the foreseeable future. Capital expenditures of continuing operations were $79.1, $98.8 and $100.7 million in 1996, 1995 and 1994, respectively, and related to ongoing production improvements, product enhancements, new production, and manufacturing efficiencies as well as normal replacement. Business acquisitions, net of cash acquired, and additional investments in affiliates were $16.5 and $10.1 million in 1996 and 1994, respectively. Planned capital expenditures for 1997 are adequate for normal growth and replacement and are consistent with projections for future sales and earnings. Near- term expenditures are expected to be funded from the issuance of capital securities and from internally generated funds.
Financial Instruments and Risk Management: The Company uses financial derivatives, including forward exchange contracts and options and interest rate swaps and options, to manage its global foreign exchange and interest rate exposure. The foreign exchange derivatives serve primarily to protect the functional currency value of certain non-functional currency positions and anticipated transactions of the Company and its foreign subsidiaries. (See also Notes 1 and 7 to the Consolidated Financial Statements.)
Legal/Environmental Matters: The Company is defending various environmental claims and legal actions that arise in the normal course of its business, including matters in which the Company has been designated a potentially responsible party at certain waste disposal sites or has been notified that it may be a potentially responsible party at other sites as to which no proceedings have been initiated. At a majority of these sites, the information currently available leads the Company to believe it has very limited or even de minimis responsibility. At other sites, neither the remediation method, amount of remediation costs nor the allocation among potentially responsible parties has been determined. Where reasonable estimates are possible, the Company has provided for the costs of study, cleanup, remediation, and certain other costs, taking into account, as applicable, available information regarding site conditions, potential cleanup methods and the extent to which other parties can be expected to bear those costs.
The Company is a participant with the EPA and the current owner of a site previously owned by the Company's Maremont subsidiary in a corrective action proceeding under the Resource Conservation and Recovery Act. The Company has accrued for its share of the reasonably estimable minimum remediation costs at this site, which include costs incurred in connection with further studies and design of a remediation plan, remedial costs, including cleanup activities, and administrative, legal and consulting fees. Given the inherent uncertainties in evaluating legal and environmental exposures, actual costs to be incurred in future periods may vary from the currently recorded estimates. The Company expects that any sum it may be required to pay in connection with legal and environmental matters in excess of the amounts recorded will not have a material adverse effect on its financial condition.
Two previously disclosed suits filed by Chamberlain Manufacturing Corporation were settled during 1996. Both claims grew out of the May 1987 sale of a Maremont unit, Saco Defense, Inc., to Chamberlain and related to (i) certain worker compensation cases pending at the time of the sale and (ii) assertions of nonconforming products being shipped to the U.S. government prior to the sale. The settlement, which included dismissal of all litigation, was within amounts previously reserved for this litigation and did not have a significant impact on the Company's 1996 results of operations.
Item 8.
Item 8. Financial Statements and Supplementary Data
Page No.
Index to Consolidated Financial Statements
Consolidated Financial Statements: Consolidated Statement of Operations for each of the three years in the period ended December 29, 1996 17
Consolidated Statement of Financial Condition at December 29, 1996 and December 31, 1995 18
Consolidated Statement of Shareholders' Equity for each of the three years in the period ended December 29, 1996 19
Consolidated Statement of Cash Flows for each of the three years in the period ended December 29, 1996 20
Notes to Consolidated Financial Statements 21
Report of Independent Accountants 40
Financial Statement Schedules: For each of the three years in the period ended December 29, 1996 II Valuation and Qualifying Accounts 41
Supplementary Data: Selected Quarterly Financial Data 42
Financial statements of unconsolidated affiliates have been omitted because the registrant's proportionate share of the income from continuing operations before income taxes, and total assets of each such company is less than 20% of the respective consolidated amounts, and the investment in and advances to each company is less than 20% of consolidated total assets.
All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions, are not applicable or the required information is shown in the financial statements or the notes thereto.
Arvin Industries, Inc. Notes to Consolidated Financial Statements
(Dollar amounts in millions unless noted otherwise)
Note 1 - Significant Accounting Policies:
Principles of Consolidation: The consolidated financial statements include the accounts of Arvin Industries, Inc. ("the Company") and its majority-owned subsidiaries. All significant intercompany transactions have been eliminated. The Company's investments in 20 to 50 percent owned companies are accounted for on the equity method. Accordingly, the Company's share of the earnings of these companies is included in consolidated net income. Investments in other companies are carried at the lower of cost or fair value.
Cash Equivalents: The Company considers all highly liquid investments purchased with a maturity of three months or less to be cash equivalents.
Inventories: Substantially all inventories located in the United States (U.S.) are valued under the last-in, first-out (LIFO) cost method. The remaining inventories are valued primarily on a first-in, first-out (FIFO) basis.
Property, Plant and Equipment and Depreciation: Property, plant and equipment, including capital leases and significant additions or improvements extending asset lives, are stated at cost less accumulated depreciation. Depreciation is recorded using the straight-line method over the estimated useful lives of the assets for financial reporting purposes. The estimated service lives to compute depreciation range from 10 to 40 years for buildings and 7 to 12 years for machinery, equipment and fixtures. Where appropriate, the Company uses accelerated depreciation methods for tax purposes. Maintenance and repair costs are expensed as incurred.
Goodwill: Goodwill represents the excess of cost over the fair value of assets acquired and is generally amortized using the straight-line method over 40 years. The Company assesses the recoverability of its goodwill whenever adverse events or changes in circumstances or business climate indicate that expected future cash flows (undiscounted and without interest charges) for individual business units may not be sufficient to support recorded goodwill. If undiscounted cash flows are not sufficient to support the recorded asset, an impairment is recognized to reduce the carrying value of the goodwill based on the expected discounted cash flows of the business unit. Expected cash flows are discounted at a rate commensurate with the risk involved.
Foreign Currency: The Company uses the local currency as the functional currency for all of its consolidated operating subsidiaries outside of the U.S. Results are translated into U.S. dollars using monthly average exchange rates, while assets and liabilities are translated into U.S. dollars using year-end exchange rates. The resulting translation adjustments are recorded in a separate component of shareholders' equity. Foreign currency transactions resulted in a gain of $.3 million in 1996 and losses of $4.0 and $2.4 million in 1995 and 1994, respectively.
Derivatives: Derivative financial instruments are used by the Company to manage foreign currency and interest rate exposures. The Company uses the designation method to qualify foreign currency and interest rate derivative transactions for hedge accounting treatment. Gains and losses on foreign currency hedges of existing assets and liabilities are included in the carrying amounts of those assets and liabilities and are recognized in income on a current basis, while gains and losses on anticipated debt issuance transactions are deferred and amortized as an adjustment to interest expense. Gains and losses on derivative transactions affecting anticipated foreign currency cash flows are also recognized in income on a current basis. Gains and losses on interest rate swap and option agreements, which qualify as hedges of existing liabilities, are deferred and are recognized as an adjustment to interest expense as realized over the lives of the agreements.
Pension Plans: Substantially all of the Company's employees in the U.S. are covered by non-contributory trusteed pension plans. Employees of certain of the Company's international operations are covered by either contributory or non-contributory trusteed pension plans. Benefits are based on, in the case of certain plans, final average salary and years of service and, in the case of other plans, a fixed amount for each year of service. Net periodic pension costs are determined using the Projected Unit Credit Cost method. The Company's funding policy provides that annual contributions to the pension trusts will be at least equal to the minimum amounts required by ERISA in the U.S. and actuarial recommendations or statutory requirements in other countries.
Research and Development Costs: Expenditures relating to the development of new products and processes, including significant improvements and refinements to existing products, are expensed as incurred. The amounts charged against income in 1996, 1995, and 1994 were $26.2, $24.7 and $22.8 million, respectively.
Graphic Table - Bar-graph indicating research and development costs for the following years, in millions: 1996 $26.2 1995 $24.7 1994 $22.8
Income Taxes: Deferred income taxes are provided for the temporary differences between the financial reporting basis and the tax basis of assets and liabilities.
Earnings Per Share: Earnings per share are based on the weighted average number of common and common equivalent shares (principally stock options) outstanding during the year. Shares of common stock issued to a related trust are not considered in the calculation of earnings per share until such shares are released from the trust to the employee benefit plans to fund the obligations for which the trust was established.
Reclassifications: Certain amounts in the accompanying financial statements and notes thereto have been reclassified to conform to the current year presentation.
Use of Estimates: The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Fiscal Year: The Company's fiscal year ends on the Sunday nearest to December 31.
Note 2 - Acquisitions, Divestitures and Discontinued Operations:
In January 1997 the Company notified Sogefi S.p.A. of its intent to exercise its option to acquire the remaining 50 percent of the joint venture with Sogefi S.p.A. The anticipated purchase price is approximately $30 million. The purchase of the remaining half of the Netherlands based joint venture company, Timax Exhaust Systems Holdings, B.V. (TESH), will further increase the Company's European replacement market presence.
On January 29, 1997 the Company exercised its option to purchase an additional 5 percent of Autocomponents Suspension S.r.l., a ride control manufacturer in Melfi, Italy, for an estimated purchase price of $1.8 million. The Company's previous 49.9 percent share of Autocomponents Suspension S.r.l. was acquired in 1994.
During the fourth quarter of 1996, the Company sold its 31.4 percent equity interest in its Argentinean affiliate, Fric Rot S.A.I.C., for $17.3 million. The pre-tax gain on the sale was $10.8 million.
During the fourth quarter of 1996, the Company purchased the remaining 20 percent of the European exhaust manufacturer MTA S.r.l., located in Mosciano St. Angelo, Italy for $1.2 million. MTA manufactures car exhaust down pipes, catalysts and other related parts principally for the original equipment market. Goodwill resulting from this transaction will be amortized using the straight-line method over a 40 year period. The Company's previous 80 percent ownership interest was purchased during the first quarter of 1994.
On June 26, 1996, the Company increased its ownership in Way Assauto S.r.l. from 49.9 percent to 54.9 percent for $8.0 million. The results of Way Assauto's operations are included in the Company's consolidated financial results subsequent to the date of acquisition of this controlling interest. Way Assauto is located in Asti, Italy and manufactures principally for the original equipment market. Goodwill resulting from this transaction will be amortized using the straight-line method over a 40 year period.
On September 29, 1995, the Company completed the sale of its ownership interest in Space Industries International, Inc. (SIII) to a new company formed by the senior management of SIII for $30.6 million in cash. The accompanying financial statements present the results of SIII's operations as discontinued operations. SIII's 1995 revenues through the sale date and 1994 revenues were $95.5 million and $189.8 million, respectively. Income (Loss) from discontinued operations includes $.4 and ($42.0) million for SIII for 1995 and 1994, respectively.
In conjunction with the September 29, 1995 sale of SIII, the Company guaranteed a portion of the purchaser's debt (see Note 10). As a result of this guarantee, the Company has accounted for the SIII transaction following the treatment set forth in the Securities and Exchange Commission's Staff Accounting Bulletins - Topic 5E (SAB Topic 5E) "Accounting for divestiture of a subsidiary or other business operation." Accordingly, the assets of SIII at the sale date have been recorded under the caption "Assets of business transferred under contractual arrangements" with a corresponding amount recorded as "Liabilities and deferred credit of business transferred." The Company will continue to follow this accounting treatment until the amount of the outstanding debt guarantee declines to a level which permits the Company to record the transaction as a sale for accounting purposes.
The Company sold its Schrader Automotive unit on February 16, 1995. Proceeds from the sale included $36.2 million cash and preferred stock and warrants with a face value of $8.5 million. The gain on the sale, recorded in the first quarter 1995, was $.7 million, net of tax. The results of Schrader have been classified as discontinued operations in the accompanying financial statements. Schrader's 1995 revenues through the sale date and 1994 revenues were $13.1 and $91.2 million, respectively. Income from discontinued operations includes $.3 million for Schrader for 1994. Income from disposal of discontinued operations related to Schrader was $.7 and $.8 million for 1995 and 1994, respectively. The effective tax rate included in these amounts differs from the U.S. statutory rate due to rate differentials related to the non-U.S. subsidiaries of Schrader. In addition, the 1995 difference relates to an adjustment to tax liabilities arising from permanent book versus tax basis differences.
Note 3 - Special Charges and Credits and Restructuring:
Special charges and credits, net for 1996 of $5.0 million include $2.6 million to reserve for future lease commitments at abandoned or under-utilized properties, which resulted from a decision to consolidate some of the Company's European distribution locations. Special charges also include $1.2 million for contract termination costs, $1.7 million for the net additions to legal and environmental reserves for operations previously owned by the Company's Maremont subsidiary, and a special credit of $2.0 million, which resulted from insurance settlements. In addition, the Company recorded a special charge of $1.5 million related to the fourth quarter redemption of its 7.5 percent convertible subordinated debentures, which were due in 2014.
During 1995, based upon a judgment entered against an Arvin subsidiary and assessments by legal counsel of other pending legal matters, the Company added $13.7 million to its litigation reserves. The 1995 results also include a special credit of $3.2 million as a result of an insurance settlement.
The 1994 special charge of $7.8 million included increases in environmental and other reserves related primarily to the completion of a feasibility study which identified and estimated remediation costs at the Platt Saco Lowell site previously owned by the Company's Maremont subsidiary.
The Company announced a restructuring plan during the fourth quarter of 1994. The workforce reductions and consolidation of manufacturing facilities and product lines announced as a part of that restructuring were substantially completed by year-end 1995. Severance expense resulting from the plan was $3.0 and $7.4 million for 1995 and 1994, respectively. The total number of actual employee separations was 308 versus 338 as a part of the plan. Nine employees of discontinued operations are included in both the actual and planned employee separations.
Facility consolidations took place in Europe, Canada, and the United States. Restructuring expense for 1995 and 1994 includes $1.7 and $5.6 million of facility consolidations expense, respectively.
The 1994 restructuring expense includes $7.3 million for asset write downs. The results of discontinued operations for 1994 also included restructuring and special charges totaling $53.0 million, which were primarily to reduce the carrying values of underperforming assets, including goodwill.
Note 4 - Inventories:
The Company uses the dollar-value link chain method for calculating its LIFO inventories. It is impractical to classify LIFO inventories into the finished goods, work in process and raw material components since in determining the overall index, the Company uses the method of pooling by individual inventory components; e.g., steel, substrate, labor and overhead. The effect of reductions in LIFO inventories increased pre-tax earnings $.1 and $1.2 million in 1995 and 1994, respectively.
Approximately $55.8 and $42.0 million of total inventories at year-end 1996 and 1995 were stated on the LIFO method. The current costs of these inventories exceeded their LIFO value by approximately $4.9 and $4.6 million at year-end 1996 and 1995, respectively.
Note 5 - Income Taxes:
Earnings from continuing operations before income taxes were as follows:
1996 1995 1994 ----- ----- -----
United States $ 23.8 $ (8.9)$ 29.2 International 40.3 38.3 9.6 ----- ----- ----- $ 64.1 $ 29.4 $ 38.8 ===== ===== ===== The provision for income taxes was as follows: 1996 1995 1994 ----- ----- ----- Current tax expense: Federal $ 6.9 $ (.3) $ 9.0 State 2.3 1.2 2.2 International 15.8 17.1 11.5
Deferred tax expense: Federal (3.0) (5.6) (3.1) State (1.8) (.6) (.3) International (.5) (.6) (3.1) ----- ----- ----- Continuing operations provision $ 19.7 $ 11.2 $ 16.2 ===== ===== =====
The provision for income taxes was different from the U.S. federal statutory rate applied to earnings from continuing operations before income taxes, and is reconciled as follows: 1996 1995 1994 ----- ----- ----- Statutory rate 35.0 % 35.0 % 35.0 %
State and local income taxes, net 1.0 2.8 3.0 International tax rate difference (1.1) 1.0 7.5 Amortization of goodwill 2.8 5.2 4.0 Foreign tax credit utilization, net (.4) (3.3) (6.1) Other items, net (.3) (2.7) (1.7) Subtotal 37.0 38.0 41.7 Capital loss carryforward utilization (6.3) .0 .0 ----- ----- ----- Effective tax rate 30.7 % 38.0 % 41.7 % ===== ===== =====
Deferred tax assets (liabilities) are comprised of the following at fiscal year-end:
1996 1995 ----- ----- Gross deferred tax assets: Accrued employee benefits $ 18.4 $ 18.9 Inventory and receivables reserves 17.7 10.2 Environmental and other legal reserves 7.6 11.5 Accrued vacation pay .8 .8 Other 5.6 4.0 Net losses and tax credit carryforward 21.8 26.2 Valuation allowance for deferred tax assets (16.0) (21.8) ----- ----- Deferred tax assets, net of valuation allowance 55.9 49.8 ----- -----
Gross deferred tax liabilities: Depreciation (29.9) (30.4) Pension (1.5) (1.4) ----- ----- Gross deferred tax liabilities (31.4) (31.8) ----- ----- Net deferred tax assets $ 24.5 $ 18.0 ===== =====
During 1996, the valuation allowance for deferred tax assets decreased by $5.8 million. The decrease was caused principally by a capital loss carryforward utilized in connection with the gain on sale of an affiliate.
Net operating loss, capital loss, and tax credit carryforwards available in various tax jurisdictions at December 29, 1996 expire in the amounts of $.5, $1.0, $2.5, $13.3, $2.0 and $2.5 million for the years 1997 through 2002 and beyond, respectively.
Graphic Table - Bar-graph indicating the effective tax rate for the following years: 1996 (1) 37.0% 1995 38.0% 1994 41.7% (1) Effective tax rate prior to capital loss carryforward utilization.
Realization of deferred tax assets is dependent upon taxable income within the carryback and carryforward periods available under the tax laws. Although realization of deferred tax assets in excess of deferred tax liabilities is not certain, management has concluded that it is "more likely than not" that the Company will realize the full benefit of U.S. deferred tax assets, except for approximately $7.7 million of capital loss carryforward. While in the aggregate, the Company's non-U.S. subsidiaries have generated cumulative taxable income over the last three years, certain non-U.S. subsidiaries are in net operating loss carryforward positions. There is currently insufficient evidence as required by Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes," to substantiate recognition of net deferred tax assets in the financial statements for certain of those non-U.S. subsidiaries in a net operating loss carryforward position. Accordingly, a valuation allowance of $8.3 million has been recorded. It is reasonably possible that sufficient positive evidence could be generated in the near term at one or more of these non-U.S. subsidiaries to support a reduction in the valuation allowance. Increases in the valuation allowance at the Company's non-U.S. subsidiaries were $2.0, $2.4, and $2.9 million and reductions of valuation allowances were $4.0, $1.5, and $3.9 million for 1996, 1995, and 1994, respectively.
At year-end 1996, consolidated retained earnings included undistributed earnings of non-U.S. subsidiaries of approximately $114.1 million. These earnings are permanently invested and are not considered available for distribution to the parent company or will be remitted substantially free of additional U.S. income taxes. Accordingly, no provision has been made for income taxes that may be payable upon remittance of such earnings.
Note 6 - Borrowings:
At fiscal year-end, long-term debt consisted of:
1996 1995 ----- ----- Capital lease obligations $ 5.1 $ 5.4 9-5/8% medium-term notes due 1996 -- 15.0 7.94% notes due 2005 50.0 50.0 6-7/8% notes due 2001 74.9 74.9 9.8% - 9.98% medium-term notes due 1998 45.0 45.0 10% medium-term notes due 2000 49.8 49.7 7-1/2% convertible subordinated debentures due 2014 -- 63.8 9-1/8% sinking fund debentures due 2017 28.4 28.4 10-3/8% Euro-Sterling Notes due 2018 43.2 43.5 Other 4.1 6.5 Less: Current maturities (6.5) (21.5) ----- ----- $ 294.0 $ 360.7 ===== =====
Maturities of long-term debt for fiscal 1997 through 2001 are $5.6, $51.9, $6.9, $56.4 and $82.0 million, respectively. Capital lease payments for fiscal 1997 through 2000 of $1.2, $1.6, $1.2 and $1.8 million, respectively, include $.7 million of interest.
The company has two revolving credit facilities totaling $100.0 million, both with a termination date of June 6, 1999. At December 29, 1996, there were no borrowings under these facilities. In addition, the Company has uncommitted credit facilities totaling $279.1 million with various domestic and foreign banks. At December 29, 1996, borrowings under these facilities totaled $39.2 million.
The weighted average interest rates on short-term borrowings at December 29, 1996 and at December 31, 1995 were 5.6 percent and 6.4 percent, respectively.
Graphic Table - Bar-graph indicating total debt for the following years, in millions: 1996 $346.6 1995 $402.3 1994 $441.4
During 1996, $1.9 million of the 7.5 percent convertible subordinated debentures were converted to common shares at a rate of approximately 35.09 shares for each $1,000 debenture held. On December 27, 1996, the Company redeemed the remaining $61.9 million of convertible debentures at par value plus a 2.25 percent call premium. This redemption was funded with cash on hand and short-term borrowings.
On January 28, 1997, in connection with the redemption of the convertible subordinated debt, Arvin Capital I, a subsidiary of Arvin Industries, Inc., issued $100 million of 9.5 percent capital securities, maturing on February 1, 2027, callable in 10 years. Proceeds from this issue have been or are expected to be used for the acquisition of additional shares in Autocomponents, the purchase of the remaining shares in TESH, general corporate purposes and to pay down short term borrowings incurred in connection with the December 27, 1996 redemption of the convertible debentures.
Note 7 - Financial Instruments and Risk Management:
The Company uses financial derivatives, including forward exchange contracts and options and interest rate swaps and options, to manage its global foreign exchange and interest rate exposure. The foreign exchange derivatives serve primarily to protect the functional currency value of non-functional currency positions and anticipated transactions of the Company and its foreign subsidiaries. The interest rate derivative transactions are used principally to manage the Company's floating rate exposure target within parameters that are consistent with its long-term financial strategy and to hedge anticipated debt issuance transactions. Interest rate derivative contracts are linked to specific debt instruments. The Company does not hold or issue derivative financial instruments for trading purposes or use leveraged derivatives in its financial risk management program.
The notional amounts of interest rate swaps serve as the basis for the cash flows from the swaps, but do not represent the Company's exposure through its use of these instruments. The Company is exposed to credit losses in the event of nonperformance (which is not anticipated) by the counterparties to the agreements. Forward agreements are subject to the creditworthiness of the counterparties, which are principally large banks.
Interest Rate Risk Management: The Company had no interest rate swap agreements outstanding at December 29, 1996. At December 31, 1995, the Company had interest rate swap agreements totaling $246.6 million notional amount with commercial and investment banks (the counterparties). Under each swap, the Company agreed to exchange with the counterparties the difference between fixed rate and floating rate interest amounts calculated on the notional amounts. In each case, the floating rate was the LIBOR, reset every six months. At year-end 1995, $171.6 million notional amount of the swap agreements effectively changed long- term debt issued by the Company or its subsidiaries from a fixed to a floating rate of interest. The average fixed interest rate received on such swaps during the year was 5.5 percent. The remaining $75.0 million of swaps at year-end 1995 resulted in the Company paying a fixed rate of interest while receiving a floating rate of interest. The average fixed interest rate paid on such swaps during the year was 8.4 percent. The net impact of the Company's interest rate hedging was $2.9 million expense in both 1996 and 1995 and $2.4 million expense in 1994. During 1995, the Company used the short sale of U.S. Treasury securities to fix the effective interest cost of a new debt issue completed in October. There was no material gain or loss on this short sale, nor were there any such anticipatory hedges outstanding at either year end.
Foreign Exchange Risk Management: At year-end 1996 and 1995, the Company had forward exchange contracts totaling $126.8 and $55.2 million, respectively, to hedge certain financial and operating transactions denominated in currencies other than various functional currencies. The full amount of the forward contracts at year-end 1996 and 1995 hedged existing non-functional currency denominated assets and liabilities. Although the Company used forward contracts during 1996 and 1995 to hedge anticipated non- functional currency denominated transactions, there were none outstanding at either year-end. The forward exchange contracts are principally in the major European currencies, and are usually for a term not exceeding one year.
During 1996 and in prior years, the Company also used foreign exchange options to reduce the Company's exposure to changes in exchange rates. These option contracts were principally in the major European currencies, and were written for a term of less than one year. There were no option contracts outstanding at year-end 1996 or 1995.
Fair Value of Financial Instruments: Interest rate swap agreements had a carrying value of a $.7 million liability at December 31, 1995. The fair value of these agreements approximated a $3.7 million liability at that date. Fair value of these agreements generally reflects the estimated amounts that the Company would have paid to terminate the contracts at the reporting date.
At December 29, 1996 the fair value of long-term debt, including that due within one year, approximated $318.6 million. The carrying value at that date was $300.5 million. At year-end 1995 the fair and carrying values of debt were $414.2 and $382.2 million, respectively. The fair value of debt was estimated for both years using quoted market prices and discounted cash flow analyses, based on the Company's incremental borrowing rates for similar types of lending arrangements. The differences between the carrying and fair values of the foreign exchange contracts at year-end 1996 and 1995 were not material.
Note 8 - Stock Based Compensation:
The Company has options outstanding under two stock-based compensation plans: the 1988 Stock Benefit Plan and the 1978 Stock Option Plan. The 1988 Stock Benefit Plan made available 2,760,000 shares of common stock for employee grant awards. These awards may include incentive and non-statutory stock options, stock appreciation rights, restricted shares and performance shares or units.
The Company has elected to continue following Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related Interpretations in accounting for its employee stock options. Accordingly, no compensation cost has been recognized for the Company's fixed stock option plans.
The 1996 income statement includes $.8 million of compensation expense for performance shares granted under the 1988 plan. A total of 24,500 performance shares were awarded in 1997 based on the Company's achievement of certain profitability measures during 1996. Compensation expense for 1996 was estimated based on an anticipated grant of 24,500 shares and the closing year-end share price of $24 3/4. Recipients of performance share grants are required to hold at least 50 percent of the shares granted for a minimum period of three years.
Stock option grants are outstanding under both the 1978 and 1988 plans. The exercise price of each option is not less than the fair market value of the Company's common stock on the date of grant. Options granted generally vest one year from grant date and generally expire ten years from grant date.
All outstanding options under the 1978 Stock Option Plan, if not exercised, will expire in 1997. No additional options may be granted under this plan.
A summary of the Company's fixed incentive stock option activity is presented below:
1996 1995 1994 Options outstanding at beginning of year 2,271,050 2,096,339 1,936,595 Options granted 401,609 325,450 345,850 Options exercised (56,900) (65,092) (86,598) Options expired (169,500) (85,647) (99,508) ---------- ---------- ---------- Options outstanding at year-end 2,446,259 2,271,050 2,096,339 ========== ========== ==========
Options exercisable at year-end 1,944,650 1,795,600 1,600,489 ========== ========== ==========
Options available for grant at year-end 614,006 62,915 324,245
Weighted average option prices per share: At beginning of year $25.07 $25.77 $25.47 Granted 20.49 18.56 25.00 Exercised 17.37 16.47 18.10 Expired 31.07 24.08 23.93 Outstanding at year-end 24.07 25.07 25.77 Exercisable at year-end 24.17 25.48 25.14
For the weighted-average fair value of options granted during the year, the fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 1996 and 1995, respectively: dividend yield of 3.7 and 4.1 percent; expected volatility of 27.8 and 27.8 percent, risk-free interest rates of 6.4 and 5.7 percent; and expected lives of 4.4 and 4.4 years.
1996 1995 ----- ----- Weighted-average fair value per option of options granted during the year. $4.73 $4.02
Had compensation cost for the Company's employee stock options been determined based on the fair value at the grant dates for awards under those plans consistent with the method of Statement of Financial Accounting Standards No. 123, "Accounting for Stock- Based Compensation," the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
1996 1995 ----- ----- Net Income As reported $ 47.1 $ 19.0 Pro forma 45.3 17.2
Primary earnings per share As reported $ 2.09 $ .85 Pro forma 2.01 .77
The following table summarizes information about stock options outstanding and options exercisable at December 29, 1996.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure - -------------------------------------------------------- None. Part III
Item 10.
Item 10. Directors and Executive Officers of the Registrant - -----------------------------------------------------------
Information regarding Directors of the Registrant is contained in the definitive proxy statement of the Registrant for the Annual Meeting of Shareholders to be held April 17, 1997, under the captions "Election of Directors" and "Compliance with Forms 3, 4 and 5 Reporting Requirements", and is incorporated herein by reference.
Item 11.
Item 11. Executive Compensation - -------------------------------
This information is contained in the definitive proxy statement of the Registrant for the Annual Meeting of Shareholders to be held April 17, 1997 under the caption "Executive Compensation" (exclusive of the portion under the subcaption "Report of the Compensation Committee on Executive Compensation") and is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management - ----------------------------------------------------------
This information is contained in the definitive proxy statement of the Registrant for the Annual Meeting of Shareholders to be held April 17, 1997 under the captions "Certain Beneficial Owners" and "Election of Directors" and is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions - ------------------------------------------------------- See Notes 2 and 10 to the Consolidated Financial Statements, Item 8 herein, with respect to the Company's sale of its ownership interest in Space Industries International, Inc. to Calspan SRL Corporation of which Joseph P. Allen, a director of Arvin, is president, chief executive officer and a shareholder.
Part IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K - ---------------------------------------------------------------
(a) (1) Financial Statements The following financial statements are filed as part of this report See index to Consolidated Financial Statements in Item 8.
Consolidated Statement of Operations for each of the three years in the period ended December 29, 1996
Consolidated Statement of Financial Condition at December 29, 1996 and December 31, 1995
Consolidated Statement of Shareholders' Equity for each of the three years in the period ended December 29, 1996
Consolidated Statement of Cash Flows for each of the three years in the period ended December 29, 1996
Notes to Consolidated Financial Statements
Report of Independent Accountants
(a) (2) Financial Statement Schedules
Financial Statement Schedules: For each of the three years in the period ended December 29, 1996 II Valuation and Qualifying Accounts
The registrant's Consolidated Financial Statement schedules are included in Item 8 herein.
(a) (3) Exhibits
The exhibits filed as a part of this Annual Report on Form 10-K are:
(b) Reports on Form 8-K
Report Dated - May 10, 1996 Item 5. Other Events On April 18, 1996 the Board of Directors of Arvin Industries, Inc. (the "Company") authorized an amendment to the Rights Agreement dated as of May 28, 1986, as amended as of February 23, 1989 and November 10, 1994, (the "Rights Agreement") between the Company and Harris Trust and Savings Bank, as Rights Agent. The Rights Agreement was amended (the "Amendment") to extend the term of the rights issued thereunder for a period of ten additional years. The rights are now set to expire on June 13, 2006.
Report Dated - May 10, 1996 Item 5. Other Events At its April 18, 1996 regular meeting, the Board of Directors of Arvin Industries amended Section 6.1 of its ByLaws to expand the categories of affiliated entities for which the Company may guarantee obligations upon the approval of certain designated officers.
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused the report to be signed on its behalf by the undersigned, thereunto duly authorized.
Arvin Industries, Inc.
by: /s/ R. A. Smith _____________________ R. A. Smith Vice President-Finance & Chief Financial Officer
by: /s/ W. M. Lowe, Jr. _____________________ W. M. Lowe, Jr. Controller & Chief Accounting Officer
Date: March 24, 1997
The signatures that follow constitute a majority of the Board of Directors of the Registrant.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated.
/s/ B. O. Pond March 24, 1997 ________________________________ ______________ B. O. Pond Chairman of the Board of Directors and Chief Executive Officer
/s/ J. K. Baker March 24, 1997 ________________________________ ______________ J. K. Baker Vice-Chairman of the Board of Directors
/s/ V. W. Hunt March 24, 1997 ________________________________ ______________ V. W. Hunt President, Chief Operating Officer and Director
/s/ R. A. Smith March 24, 1997 ________________________________ ______________ R. A. Smith Vice President-Finance, Chief Financial Officer and Director
/s/ I. W. Gorr March 24, 1997 ________________________________ ______________ I. W. Gorr Director
/s/ F. R. Meyer March 24, 1997 ________________________________ ______________ F. R. Meyer Director
/s/ A. R. Velasquez March 24, 1997 ________________________________ ______________ A. R. Velasquez Director
/s/ J. P. Allen March 24, 1997 ________________________________ ______________ J. P. Allen Director
/s/ S. C. Beering March 24, 1997 ________________________________ ______________ S. C. Beering Director
/s/ J. P. Flannery March 24, 1997 ________________________________ ______________ J. P. Flannery Director
/s/ R. W. Hanselman March 24, 1997 ________________________________ ______________ R. W. Hanselman Director
/s/ D. J. Kacek March 24, 1997 ________________________________ ______________ D. J. Kacek Director