UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
----------
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______ to ______
Commission file number 1-8974
Honeywell International Inc.
-------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 22-2640650
------------------------------ ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
101 Columbia Road
Morris Township, New Jersey 07962
---------------------------------- ------------------
(Address of principal executive offices) (Zip Code)
(973)455-2000
----------------------------------------------------
(Registrant's telephone number, including area code)
NOT APPLICABLE
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(Former name, former address and former fiscal year,
if changed since last report)
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 is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [X] No [_]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class of Common Stock Outstanding at
--------------------- March 31, 2004
$1 par value ------------------
859,196,365 shares
Honeywell International Inc.
Index
Page No.
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Part I. - Financial Information
---------------------
Item 1. Financial Statements:
Consolidated Statement of Operations -
Three Months Ended March 31, 2004 and 2003 3
Consolidated Balance Sheet -
March 31, 2004 and December 31, 2003 4
Consolidated Statement of Cash Flows -
Three Months Ended March 31, 2004 and 2003 5
Notes to Financial Statements 6
Report of Independent Accountants 21
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 22
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 31
Item 4. Controls and Procedures 31
Part II. - Other Information
-----------------
Item 1. Legal Proceedings 31
Item 2. Changes in Securities and Use of Proceeds 31
Item 4. Submission of Matters to a Vote of Security Holders 32
Item 6. Exhibits and Reports on Form 8-K 33
Signatures 34
----------
This report contains certain statements that may be deemed "forward-looking
statements" within the meaning of Section 21E of the Securities Exchange Act of
1934. All statements, other than statements of historical fact, that address
activities, events or developments that we or our management intends, expects,
projects, believes or anticipates will or may occur in the future are
forward-looking statements. Such statements are based upon certain assumptions
and assessments made by our management in light of their experience and their
perception of historical trends, current conditions, expected future
developments and other factors they believe to be appropriate. The
forward-looking statements included in this report are also subject to a number
of material risks and uncertainties, including but not limited to economic,
competitive, governmental and technological factors affecting our operations,
markets, products, services and prices. Such forward-looking statements are not
guarantees of future performance and actual results, developments and business
decisions may differ from those envisaged by such forward-looking statements.
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Honeywell International Inc.
Consolidated Statement of Operations
(Unaudited)
Three Months Ended
March 31,
-------------------------
2004 2003
------ ------
(Dollars in millions,
except per share amounts)
Net sales $6,178 $5,399
------ ------
Costs, expenses and other
Cost of goods sold 4,930 4,240
Selling, general and administrative expenses 808 703
(Gain) on sale of non-strategic businesses (32) --
Equity in (income) loss of affiliated companies (7) 2
Other (income) expense (10) (3)
Interest and other financial charges 84 84
------ ------
5,773 5,026
------ ------
Income before taxes and cumulative effect of
accounting change 405 373
Tax expense 110 99
------ ------
Income before cumulative effect of accounting
change 295 274
Cumulative effect of accounting change -- (20)
------ ------
Net income $ 295 $ 254
====== ======
Earnings per share of common stock - basic:
Income before cumulative effect of accounting
change $ 0.34 $ 0.32
Cumulative effect of accounting change -- (0.02)
------ ------
Net income $ 0.34 $ 0.30
====== ======
Earnings per share of common stock - assuming
dilution:
Income before cumulative effect of accounting
change $ 0.34 $ 0.32
Cumulative effect of accounting change -- (0.02)
------ ------
Net income $ 0.34 $ 0.30
====== ======
Cash dividends per share of common stock $.1875 $.1875
====== ======
The Notes to Financial Statements are an integral part of this statement.
3
Honeywell International Inc.
Consolidated Balance Sheet
(Unaudited)
March 31, December 31,
2004 2003
--------- ------------
(Dollars in millions)
ASSETS
Current assets:
Cash and cash equivalents $ 3,200 $ 2,950
Accounts, notes and other receivables 3,888 3,643
Inventories 3,090 3,040
Deferred income taxes 1,386 1,526
Other current assets 479 465
------- -------
Total current assets 12,043 11,624
Investments and long-term receivables 412 569
Property, plant and equipment - net 4,248 4,295
Goodwill 5,895 5,789
Other intangible assets - net 1,103 1,098
Insurance recoveries for asbestos
related liabilities 1,344 1,317
Deferred income taxes 395 342
Prepaid pension benefit cost 3,107 3,173
Other assets 1,119 1,107
------- -------
Total assets $29,666 $29,314
======= =======
LIABILITIES
Current liabilities:
Accounts payable $ 2,314 $ 2,240
Short-term borrowings 177 152
Commercial paper 365 --
Current maturities of long-term debt 21 47
Accrued liabilities 4,344 4,314
------- -------
Total current liabilities 7,221 6,753
Long-term debt 4,954 4,961
Deferred income taxes 294 316
Postretirement benefit obligations
other than pensions 1,690 1,683
Asbestos related liabilities 2,246 2,279
Other liabilities 2,504 2,593
SHAREOWNERS' EQUITY
Capital - common stock issued 958 958
- additional paid-in capital 3,518 3,486
Common stock held in treasury, at cost (3,807) (3,655)
Accumulated other nonowner changes (175) (189)
Retained earnings 10,263 10,129
------- -------
Total shareowners' equity 10,757 10,729
------- -------
Total liabilities and shareowners' equity $29,666 $29,314
======= =======
The Notes to Financial Statements are an integral part of this statement.
4
Honeywell International Inc.
Consolidated Statement of Cash Flows
(Unaudited)
Three Months Ended
March 31,
---------------------
2004 2003
------ ------
(Dollars in millions)
Cash flows from operating activities:
Net income $ 295 $ 254
Adjustments to reconcile net income to net cash
provided by operating activities:
Cumulative effect of accounting change -- 20
(Gain)on sale of non-strategic businesses (32) --
Repositioning, environmental and litigation charges 56 --
Severance and exit cost payments (50) (50)
Environmental and non-asbestos litigation payments (37) (21)
Asbestos related liability payments (101) (31)
Insurance receipts for asbestos related liabilities 18 2
Depreciation 146 142
Undistributed earnings of equity affiliates (8) 2
Deferred income taxes 29 49
Pension and other postretirement benefits expense 160 89
Other postretirement benefit payments (48) (48)
Other 1 (55)
Changes in assets and liabilities, net of the effects
of acquisitions and divestitures:
Accounts, notes and other receivables (168) (29)
Inventories (46) (90)
Other current assets (14) 42
Accounts payable 75 110
Accrued liabilities 61 87
------ ------
Net cash provided by operating activities 337 473
------ ------
Cash flows from investing activities:
Expenditures for property, plant and equipment (135) (105)
Decrease in investments 80 --
Cash paid for acquisitions (96) (90)
Proceeds from sales of businesses 71 --
------ ------
Net cash (used for) investing activities (80) (195)
------ ------
Cash flows from financing activities:
Net increase in commercial paper 365 177
Net increase (decrease) in short-term borrowings 3 (4)
Proceeds from issuance of common stock 26 24
Payments of long-term debt (20) (70)
Repurchases of common stock (229) --
Cash dividends on common stock (161) (161)
------ ------
Net cash (used for) financing activities (16) (34)
------ ------
Effect of foreign exchange rate changes
on cash and cash equivalents 9 25
------ ------
Net increase in cash and cash equivalents 250 269
Cash and cash equivalents at beginning of year 2,950 2,021
------ ------
Cash and cash equivalents at end of period $3,200 $2,290
====== ======
The Notes to Financial Statements are an integral part of this statement.
5
Honeywell International Inc.
Notes to Financial Statements
(Unaudited)
(Dollars in millions, except per share amounts)
NOTE 1. In the opinion of management, the accompanying unaudited consolidated
financial statements reflect all adjustments, consisting only of normal
recurring adjustments, necessary to present fairly the financial position of
Honeywell International Inc. and its consolidated subsidiaries at March 31, 2004
and the results of operations and cash flows for the three months ended March
31, 2004 and 2003. The results of operations for the three-month period ended
March 31, 2004 should not necessarily be taken as indicative of the results of
operations that may be expected for the entire year 2004. We reclassified
certain prior period amounts to conform to the current period presentation.
We report our quarterly financial information using a calendar convention;
that is, the first, second and third quarters are consistently reported as
ending on March 31, June 30 and September 30, respectively. It has been our
practice to establish actual quarterly closing dates using a predetermined
"fiscal" calendar, which requires our businesses to close their books on a
Saturday in order to minimize the potentially disruptive effects of quarterly
closing on our business processes. The effects of this practice are generally
not significant to reported results for any quarter and only exist within a
reporting year. In the event that differences in actual closing dates are
material to year-over-year comparisons of quarterly results, we will provide
appropriate disclosures. Our actual quarterly closing dates for the three months
ended March 31, 2004 and 2003 were April 3, 2004 and March 29, 2003,
respectively. Our fiscal closing calendar for the years 2000 through 2012 is
available on our website at www.honeywell.com under the heading "Investor
Relations".
We estimate that approximately 5 percentage points of the increase in sales
volume in the first quarter of 2004 compared with the first quarter of 2003
relates to additional reporting days in the current quarter resulting from our
normal quarterly closing practice.
The financial information as of March 31, 2004 should be read in
conjunction with the financial statements contained in our Annual Report on Form
10-K for 2003.
NOTE 2. In January 2003, the Financial Accounting Standards Board (FASB) issued
FASB Interpretation No. 46 "Consolidation of Variable Interest Entities" (FIN
46), which provides guidance on consolidation of variable interest entities. In
December 2003, the FASB deferred the effective date of FIN 46 for certain
variable interest entities (i.e., non-special purpose entities) until the first
quarter of 2004. Our full adoption of the provisions of FIN 46 in the first
quarter of 2004 did not have a material effect on our consolidated financial
statements.
On January 1, 2003, in connection with our adoption of Statement of
Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations", we recorded an increase in property, plant and equipment, net of
$16 million and recognized an asset retirement obligation of $47 million
primarily related to costs associated with the future retirement of nuclear fuel
conversion facilities in our Specialty Materials reportable segment. This
resulted in the recognition of a non-cash charge of $31 million ($20 million
after-tax, or $0.02 per share) that was reported as a cumulative effect of an
accounting change.
NOTE 3. We account for our fixed stock option plans under Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB No. 25).
Under APB No. 25, there is no compensation cost recognized for our fixed stock
6
option plans, because the options granted under these plans have an exercise
price equal to the market value of the underlying stock at the grant date.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS No. 123) allows, but does not require, companies to record
compensation cost for fixed stock option plans using a fair value based method.
As permitted by SFAS No. 123, we elected to continue to account for compensation
cost for our fixed stock option plans using the intrinsic value based method
under APB No. 25. The following table sets forth pro forma information as if
compensation cost had been determined consistent with the requirements of SFAS
No. 123.
Three Months Ended
March 31,
------------------
2004 2003
------ -----
Net income, as reported $ 295 $ 254
Deduct: Total stock-based employee compensation cost
determined under fair value method for fixed stock
option plans, net of related tax effects (9) (13)
------ -----
Pro forma net income $ 286 $ 241
====== =====
Earnings per share of common stock:
Basic - as reported $ 0.34 $0.30
====== =====
Basic - pro forma $ 0.33 $0.28
====== =====
Earnings per share of common stock:
Assuming dilution - as reported $ 0.34 $0.30
====== =====
Assuming dilution - pro forma $ 0.33 $0.28
====== =====
The following sets forth fair value per share
information, including related assumptions, used to
determine compensation cost consistent with the
requirements of SFAS No. 123:
Weighted average fair value per share of options
granted during the period (estimated on grant date
using Black-Scholes option-pricing model) $10.44 $8.98
Assumptions:
Historical dividend yield 2.4% 1.9%
Historical volatility 38.1% 46.7%
Risk-free rate of return 2.4% 2.9%
Expected life (years) 5.0 5.0
NOTE 4. A summary of repositioning and other charges follows:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Severance $15 $--
Asset impairments 4 --
Exit costs 3 --
Reserve adjustments (7) --
--- ---
Total net repositioning charge 15 --
--- ---
Probable and reasonably estimable environmental liabilities 30 --
Asbestos related litigation charges, net of insurance 11 --
--- ---
Total net repositioning and other charges $56 $--
=== ===
7
The following table summarizes the pretax distribution of total net
repositioning and other charges by income statement classification:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Cost of goods sold $52 $--
Selling, general and administrative expenses 2 --
Equity in (income) loss of affiliated companies 2 --
--- ---
$56 $--
=== ===
The following table summarizes the pretax impact of total net repositioning
and other charges by reportable segment:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Aerospace $ 1 $--
Automation and Control Solutions 3 --
Specialty Materials 4 --
Transportation Systems 18 --
Corporate 30 --
--- ---
$56 $--
=== ===
In the first quarter of 2004, we recognized a repositioning charge of $22
million primarily for severance costs related to workforce reductions of 587
manufacturing and administrative positions principally in our Automation and
Control Solutions and Transportation Systems reportable segments. Also, $7
million of previously established accruals for severance and other exit costs
were returned to income in the first quarter of 2004. Severance liabilities were
reduced by $4 million mainly in our Automation and Control Solutions reportable
segment due to fewer employee separations than originally anticipated associated
with certain prior repositioning actions. Other exit costs liabilities were
reduced by $3 million related primarily to excess environmental remediation
reserves for a closed facility in our Specialty Materials reportable segment.
The following table summarizes the status of our total repositioning costs:
Severance Asset Exit
Costs Impairments Costs Total
--------- ----------- ----- -----
Balance at December 31, 2003 $171 $-- $42 $213
2004 charges 15 4 3 22
2004 usage (43) (4) (7) (54)
Adjustments (4) -- (3) (7)
---- --- --- ----
Balance at March 31, 2004 $139 $-- $35 $174
==== === === ====
In the first quarter of 2004, we recognized a charge of $30 million for
legacy environmental matters deemed probable and reasonably estimable in the
first quarter of 2004, including liabilities for environmental conditions around
Onondaga Lake in New York. We also recognized a charge of $11 million for Bendix
related asbestos claims filed and defense costs incurred during the first
quarter of 2004, net of probable insurance recoveries. See Note 13 for further
discussion.
NOTE 5. In the first quarter of 2004, we sold our VCSEL Optical Products
non-strategic business in our Automation and Control Solutions reportable
segment for cash proceeds of $74 million resulting in a pretax gain of $32
million (after-tax $14 million).
8
NOTE 6. The details of the earnings per share calculations for the three-month
periods ended March 31, 2004 and 2003 follow:
Three Months 2004
-------------------------
Per
Average Share
Income Shares Amount
------ ------- ------
Net Income
----------
Earnings per share of common stock - basic $295 860.5 $0.34
Dilutive securities issuable in connection
with stock plans 3.6
---- ----- -----
Earnings per share of common stock - assuming
dilution $295 864.1 $0.34
==== ===== =====
Three Months 2003
-------------------------
Per
Average Share
Income Shares Amount
------ ------- ------
Income Before Cumulative Effect of Accounting
Change
---------------------------------------------
Earnings per share of common stock - basic $274 856.8 $0.32
Dilutive securities issuable in connection
with stock plans 0.7
---- ----- -----
Earnings per share of common stock - assuming
dilution $274 857.5 $0.32
==== ===== =====
Net Income
----------
Earnings per share of common stock - basic $254 856.8 $0.30
Dilutive securities issuable in connection
with stock plans 0.7
---- ----- -----
Earnings per share of common stock - assuming
dilution $254 857.5 $0.30
==== ===== =====
The diluted earnings per share calculation excludes the effect of stock
options when the options' exercise prices exceed the average market price of the
common shares during the period. For the three-month periods ended March 31,
2004 and 2003, the number of stock options not included in the computations were
38.7 and 46.2 million, respectively. These stock options were outstanding at the
end of each of the respective periods.
9
NOTE 7. Accounts, notes and other receivables consist of the following:
March 31, December 31,
2004 2003
--------- ------------
Trade $3,371 $3,230
Other 666 563
------ ------
4,037 3,793
Less - Allowance for doubtful accounts (149) (150)
------ ------
$3,888 $3,643
====== ======
NOTE 8. Inventories consist of the following:
March 31, December 31,
2004 2003
--------- ------------
Raw materials $ 968 $ 972
Work in process 807 802
Finished products 1,462 1,412
------ ------
3,237 3,186
Less - Progress payments (21) (20)
- Reduction to LIFO cost basis (126) (126)
------ ------
$3,090 $3,040
====== ======
NOTE 9. The change in the carrying amount of goodwill for the three months ended
March 31, 2004 by reportable segment is as follows:
Currency
Translation
Dec. 31, 2003 Acquisitions (Divestitures) Adjustment Mar. 31, 2004
------------- ------------ -------------- ----------- -------------
Aerospace $1,641 $ 97 $ -- $ 9 $1,747
Automation and
Control Solutions 2,832 6 (17) 1 2,822
Specialty Materials 781 -- -- - 781
Transportation Systems 535 -- -- 10 545
------ ---- ---- --- ------
$5,789 $103 $(17) $20 $5,895
====== ==== ==== === ======
Intangible assets are comprised of:
March 31, 2004 December 31, 2003
---------------------------------- ----------------------------------
Gross Net Gross Net
Carrying Accumulated Carrying Carrying Accumulated Carrying
Amount Amortization Amount Amount Amortization Amount
-------- ------------ -------- -------- ------------ --------
Intangible assets with
determinable lives:
Investments in Aerospace
customer incentives $ 884 $(154) $ 730 $ 860 $(141) $ 719
Patents and trademarks 426 (295) 131 425 (295) 130
Other 395 (190) 205 398 (186) 212
------ ----- ------ ------ ----- ------
1,705 (639) 1,066 1,683 (622) 1,061
Trademark with indefinite
life 46 (9) 37 46 (9) 37
------ ----- ------ ------ ----- ------
$1,751 $(648) $1,103 $1,729 $(631) $1,098
====== ===== ====== ====== ===== ======
Amortization expense related to intangible assets was $21 and $15 million
for the three months ended March 31, 2004 and 2003, respectively. Amortization
expense related to intangible assets for 2004 to 2008 is expected to approximate
$80 million each year.
10
We completed our goodwill and intangible assets impairment testing for our
reporting units as of March 31, 2004 and determined that there was no impairment
as of that date.
NOTE 10. Total nonowner changes in shareowners' equity consist of the following:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Net income $295 $254
Foreign exchange translation adjustments 15 93
Change in fair value of effective cash flow hedges (1) 28
---- ----
$309 $375
==== ====
NOTE 11. Segment financial data follows:
Three Months Ended
March 31,
------------------
2004 2003
------ ------
Net Sales
---------
Aerospace $2,304 $2,062
Automation and Control Solutions 1,947 1,717
Specialty Materials 856 777
Transportation Systems 1,071 840
Corporate -- 3
------ ------
$6,178 $5,399
====== ======
Segment Profit
--------------
Aerospace $ 307 $ 257
Automation and Control Solutions 195 197
Specialty Materials 48 31
Transportation Systems 143 92
Corporate (39) (32)
------ ------
Total segment profit 654 545
------ ------
Gain on sale of non-strategic businesses 32 --
Equity in income (loss) of affiliated companies 7 (2)
Other income 10 3
Interest and other financial charges (84) (84)
Pension and other postretirement benefits (expense) (A) (160) (89)
Repositioning, environmental and litigation charges (A) (54) --
------ ------
Income before taxes and cumulative effect of
accounting change $ 405 $ 373
====== ======
(A) Amounts included in cost of goods sold and selling, general and
administrative expenses.
11
NOTE 12. Net periodic pension and other postretirement benefit costs for our
significant plans include the following components.
Three Months Ended
March 31,
------------------
2004 2003
----- -----
Pension Benefits
----------------
Service cost $ 60 $ 60
Interest cost 189 189
Expected return on plan assets (262) (256)
Amortization of transition asset -- (2)
Amortization of prior service cost 9 10
Recognition of actuarial losses 102 42
----- -----
$ 98 $ 43
===== =====
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Other Postretirement Benefits
-----------------------------
Service cost $ 5 $ 6
Interest cost 36 36
Expected return on plan assets -- --
Amortization of prior service (credit) (9) (6)
Recognition of actuarial losses 24 11
--- ---
$56 $47
=== ===
NOTE 13. COMMITMENTS AND CONTINGENCIES
Shareowner Litigation -- Honeywell and three of its former officers are
defendants in a class action lawsuit filed in the United States District Court
for the District of New Jersey. Plaintiffs allege, among other things, that the
defendants violated federal securities laws by purportedly making false and
misleading statements and by failing to disclose material information concerning
Honeywell's financial performance, thereby allegedly causing the value of
Honeywell's stock to be artificially inflated. The Court has certified a class
consisting of all purchasers of Honeywell stock between December 20, 1999 and
June 19, 2000. Discovery is ongoing. Although we continue to believe that the
allegations in this matter are without merit, we are engaged in mediation with
the plaintiffs in an effort to resolve the matter without resorting to a trial.
While we cannot be certain that the parties will be able to resolve the matter
through mediation, a provision has been made in our financial statements
regarding a potential settlement. Although it is not possible at this time to
predict the outcome of this matter, we expect to prevail if the parties are
unable to resolve this litigation through mediation. However, an adverse outcome
could be material to our consolidated financial position or results of
operations.
ERISA Class Action Lawsuit -- Honeywell and several of its current and
former officers and directors are defendants in a purported class action lawsuit
filed in the United States District Court for the District of New Jersey. The
complaint principally alleges that the defendants breached their fiduciary
duties to participants in the Honeywell Savings and Ownership Plan (the "Savings
Plan") by purportedly making false and misleading statements, failing to
disclose material information concerning Honeywell's financial performance, and
failing to diversify the Savings Plan's assets and monitor the prudence of
Honeywell stock as a Savings Plan investment. In September 2003, Honeywell filed
a motion to dismiss this matter.
12
Although it is not possible at this time to predict the outcome of this
matter, we believe that the allegations in this matter are without merit and we
expect to prevail. An adverse litigation outcome could, however, be material to
our consolidated financial position or results of operations. As a result of the
uncertainty regarding the outcome of this matter, no provision has been made in
our financial statements with respect to this contingent liability.
Environmental Matters - We are subject to various federal, state and local
government requirements relating to the protection of the environment. We
believe that, as a general matter, our policies, practices and procedures are
properly designed to prevent unreasonable risk of environmental damage and
personal injury and that our handling, manufacture, use and disposal of
hazardous or toxic substances are in accord with environmental and safety laws
and regulations. However, mainly because of past operations and operations of
predecessor companies, we, like other companies engaged in similar businesses,
have incurred remedial response and voluntary cleanup costs for site
contamination and are a party to lawsuits and claims associated with
environmental and safety matters, including past production of products
containing toxic substances. Additional lawsuits, claims and costs involving
environmental matters are likely to continue to arise in the future.
With respect to environmental matters involving site contamination, we
continually conduct studies, individually at our owned sites, and jointly as a
member of industry groups at non-owned sites, to determine the feasibility of
various remedial techniques to address environmental matters. It is our policy
to record appropriate liabilities for environmental matters when environmental
assessments are made or remedial efforts or damage claim payments are probable
and the costs can be reasonably estimated. With respect to site contamination,
the timing of these accruals is generally no later than the completion of
feasibility studies. We expect to fund expenditures for these matters from
operating cash flow. The timing of cash expenditures depends on a number of
factors, including the timing of litigation and settlements of personal injury
and property damage claims, regulatory approval of cleanup projects, remedial
techniques to be utilized and agreements with other parties.
Although we do not currently possess sufficient information to reasonably
estimate the amounts of liabilities to be recorded upon future completion of
studies, litigation or settlements, and neither the timing nor the amount of the
ultimate costs associated with environmental matters can be determined, they
could be material to our consolidated results of operations or operating cash
flows in the periods recognized or paid. However, considering our past
experience and existing reserves, we do not expect that these environmental
matters will have a material adverse effect on our consolidated financial
position.
In the matter entitled Interfaith Community Organization, et al. v.
Honeywell International Inc., et al., the United States District Court for the
District of New Jersey held in May 2003 that a predecessor Honeywell site
located in Jersey City, New Jersey constituted an imminent and substantial
endangerment and ordered Honeywell to conduct the excavation and transport for
offsite disposal of approximately one million tons of chromium residue present
at the site. Honeywell strongly disagrees with the Court's determinations and
has appealed the Court's decision to the Third Circuit Court of Appeals. Per the
Appeals Court's order, the parties are engaged in mediation. In October 2003,
the District Court denied Honeywell's motion for a stay of certain aspects of
its May 2003 order, and we are considering whether to appeal such ruling. The
site at issue is one of twenty-one sites located in Jersey City, New Jersey
which are the subject of an Administrative Consent Order (ACO) entered into with
the New Jersey Department of Environmental Protection (NJDEP) in 1993. Under the
ACO, Honeywell agreed to study and remediate these sites in accordance with
NJDEP's directions,
13
provided that the total costs of such studies and remediation do not exceed $60
million. Honeywell has cooperated with the NJDEP under the ACO and believes that
decisions regarding site cleanups should be made by the NJDEP under the ACO. We
are confident that proceeding under the ACO will ensure a safe remediation and
allow the property to be placed back into productive use much faster and at a
cost significantly less than the remedies required by the Court's order. We have
not completed development of a remedial action plan for the excavation and
offsite disposal directed under the Court's order and therefore are unable to
estimate the cost of such actions. At trial, plaintiff's expert testified that
the excavation and offsite disposal cost might be $400 million. However, there
are significant variables in the implementation of the Court's order and
depending on the method of implementation chosen, the estimate could increase or
decrease. Provisions have been made in our financial statements for remedial
costs consistent with the ACO and for additional costs which are likely to be
incurred during the pendency of our appeal, which provisions do not assume
excavation and offsite removal of chromium from the site. There are alternative
outcomes and remedies beyond the scope of the ACO that could result from the
remanding, reversal or replacement of the Court's decision and order. At this
time, we can neither identify a probable alternative outcome nor reasonably
estimate the cost of an alternative remedy. Although we expect the Court's
decision and order to be remanded, reversed or replaced, should the remedies
prescribed in the Court's decision and order ultimately be upheld, such outcome
could have a material adverse impact on our consolidated results of operations
or operating cash flows in the periods recognized or paid. We do not expect that
this matter will have a material adverse effect on our consolidated financial
position.
In accordance with a 1992 consent decree with the State of New York,
Honeywell is studying environmental conditions in and around Onondaga Lake (the
Lake), in Syracuse, New York. The purpose of the study is to identify, evaluate
and propose remedial measures that can be taken to remedy historic industrial
contamination in the Lake. A predecessor company to Honeywell operated a
chemical plant which is alleged to have contributed mercury and other
contaminants to the Lake and certain surrounding areas. In May 2003, Honeywell
submitted to the New York State Department of Environmental Conservation (DEC) a
draft Feasibility Study for the Lake and certain surrounding areas. In November
2003, the DEC issued formal comments on the Feasibility Study. Those comments
include a request for further evaluation of remedies for the Lake and
surrounding areas. Accordingly, pursuant to the consent decree, Honeywell is
required to submit a revised Feasibility Study on or before May 3, 2004.
Provisions have been made in our financial statements based on our expected
revisions to our Feasibility Study. We do not expect that this matter will have
a material adverse effect on our consolidated financial position. However,
should the DEC ultimately require a substantially more extensive remedy than
that expected to be proposed in the revised Feasibility Study and should
Honeywell agree to undertake such a remedy, such outcome could have a material
adverse impact on our consolidated results of operations and operating cash
flows in the periods recognized or paid.
During 2003, three incidents occurred at Honeywell's Baton Rouge, Louisiana
chemical plant including a release of chlorine, a release of antimony
pentachloride which resulted in an employee fatality, and an employee exposure
to hydrofluoric acid. As a result of these incidents, the United States
Environmental Protection Agency (USEPA), Occupational Health and Safety
Administration (OSHA), the Chemical Safety Board and state and local agencies
commenced investigations. A number of potential government claims have been
settled, including a $110,000 penalty paid to OSHA for citations arising from
the incidents. The USEPA and Chemical Safety Board investigations are ongoing;
however no charges have been filed or claims asserted. Honeywell has been served
with several civil lawsuits. We do not expect that these matters will have a
14
material adverse effect on our consolidated financial position, consolidated
results of operations or operating cash flows.
The Arizona Department of Environmental Quality (ADEQ) is considering an
enforcement action based on various alleged environmental violations. As part of
an effort to resolve ADEQ's claims, Honeywell has proposed, among other things,
the payment of a $300,000 penalty. Negotiations with ADEQ are ongoing. We do not
expect that this matter will have a material adverse effect on our consolidated
financial position, consolidated results of operations or operating cash flows.
Asbestos Matters -- Like many other industrial companies, Honeywell is a
defendant in personal injury actions related to asbestos. We did not mine or
produce asbestos, nor did we make or sell insulation products or other
construction materials that have been identified as the primary cause of
asbestos related disease in the vast majority of claimants. Products containing
asbestos previously manufactured by Honeywell or by previously owned
subsidiaries fall into two general categories; refractory products and friction
products.
Refractory Products -- Honeywell owned North American Refractories Company
(NARCO) from 1979 to 1986. NARCO produced refractory products (high temperature
bricks and cement) which were sold largely to the steel industry in the East and
Midwest. Less than 2 percent of NARCO's products contained asbestos.
When we sold the NARCO business in 1986, we agreed to indemnify NARCO with
respect to personal injury claims for products that had been discontinued prior
to the sale (as defined in the sale agreement). NARCO retained all liability for
all other claims. NARCO had resolved approximately 176,000 claims through
January 4, 2002, the date NARCO filed for reorganization under Chapter 11 of the
U.S. Bankruptcy Code, at an average cost per claim of two thousand two hundred
dollars. Of those claims, 43 percent were dismissed on the ground that there was
insufficient evidence that NARCO was responsible for the claimant's asbestos
exposure. As of the date of NARCO's bankruptcy filing, there were approximately
116,000 remaining claims pending against NARCO, including approximately 7
percent in which Honeywell was also named as a defendant. Since 1983, Honeywell
and our insurers have contributed to the defense and settlement costs associated
with NARCO claims. We have approximately $1.3 billion of insurance remaining
that can be specifically allocated to NARCO related liability.
As a result of the NARCO bankruptcy filing, all of the claims pending
against NARCO are automatically stayed pending the reorganization of NARCO,
except one claim which is not material as to which the stay was lifted in August
2003. Because the claims pending against Honeywell necessarily will impact the
liabilities of NARCO, because the insurance policies held by Honeywell are
essential to a successful NARCO reorganization, and because Honeywell has
offered to commit the value of those policies to the reorganization, the
bankruptcy court has temporarily enjoined any claims against Honeywell, current
or future, related to NARCO. Although the stay has been extended twenty-six
times since January 4, 2002, there is no assurance that such stay will remain in
effect. In connection with NARCO's bankruptcy filing, we paid NARCO's parent
company $40 million and agreed to provide NARCO with up to $20 million in
financing. We also agreed to pay $20 million to NARCO's parent company upon the
filing of a plan of reorganization for NARCO acceptable to Honeywell, and to pay
NARCO's parent company $40 million, and to forgive any outstanding NARCO
indebtedness, upon the confirmation and consummation of such a plan.
As a result of ongoing negotiations with counsel representing NARCO related
asbestos claimants regarding settlement of all pending and potential NARCO
related asbestos claims against Honeywell, we have reached definitive agreements
with approximately 260,000 claimants, which represents in excess of 90 percent
of the approximately 275,000 current claimants who are now expected to file a
claim
15
as part of the NARCO reorganization process. We are also in discussions with the
NARCO Committee of Asbestos Creditors on Trust Distribution Procedures for
NARCO. We believe that, as part of the NARCO plan of reorganization, a trust
will be established pursuant to these Trust Distribution Procedures for the
benefit of all asbestos claimants, current and future. If the trust is put in
place and approved by the Court as fair and equitable, Honeywell as well as
NARCO will be entitled to a permanent channeling injunction barring all present
and future individual actions in state or federal courts and requiring all
asbestos related claims based on exposure to NARCO products to be made against
the federally-supervised trust. We expect the NARCO plan of reorganization and
the NARCO trust to be approved by the Court in 2004. As part of its ongoing
settlement negotiations, Honeywell has reached agreement in principle with the
representative for future NARCO claimants to cap its annual contributions to the
trust with respect to future claims at a level that would not have a material
impact on Honeywell's operating cash flows. Given the substantial progress of
negotiations between Honeywell and NARCO related asbestos claimants and between
Honeywell and the Committee of Asbestos Creditors during the fourth quarter of
2002, Honeywell developed an estimated liability for settlement of pending and
future asbestos claims and recorded a charge of $1.4 billion for NARCO related
asbestos litigation charges, net of insurance recoveries. This charge consists
of the estimated liability to settle current asbestos related claims, the
estimated liability related to future asbestos related claims through 2018 and
obligations to NARCO's parent, net of insurance recoveries of $1.8 billion.
The estimated liability for current claims is based on terms and
conditions, including evidentiary requirements, in definitive agreements with in
excess of 90 percent of current claimants. Settlement payments with respect to
current claims are expected to be made through 2007.
The liability for future claims estimates the probable value of future
asbestos related bodily injury claims asserted against NARCO over a 15 year
period and obligations to NARCO's parent as discussed above. The estimate is
based upon the disease criteria and payment values contained in the NARCO Trust
Distribution Procedures negotiated with the NARCO Committee of Asbestos
Creditors and the NARCO future claimants representative. In light of the
uncertainties inherent in making long-term projections we do not believe that we
have a reasonable basis for estimating asbestos claims beyond 2018 under
Statement of Financial Accounting Standards No. 5. Honeywell retained the expert
services of Hamilton, Rabinovitz and Alschuler, Inc. (HR&A) to project the
probable number and value, including trust claim handling costs, of asbestos
related future liabilities based upon historical experience with similar trusts.
The methodology used to estimate the liability for future claims has been
commonly accepted by numerous courts and is the same methodology that is
utilized by an expert who is routinely retained by the asbestos claimants
committee in asbestos related bankruptcies. The valuation methodology includes
an analysis of the population likely to have been exposed to asbestos containing
products, epidemiological studies to estimate the number of people likely to
develop asbestos related diseases, NARCO claims filing history, the pending
inventory of NARCO asbestos related claims and payment rates expected to be
established by the NARCO trust.
Honeywell has substantial insurance that reimburses it for portions of the
costs incurred to settle NARCO related claims and court judgments as well as
defense costs. This coverage is provided by a large number of insurance policies
written by dozens of insurance companies in both the domestic insurance market
and the London excess market. At March 31, 2004, a significant portion of this
coverage is with London-based insurance companies which is covered under an
agreement entered into in the first quarter of 2004 under which the insurers
agree to pay full policy limits based on corresponding Honeywell claims costs.
Approximately $60 million in remaining London-based insurance limits is covered
under coverage-in-place agreements. Coverage-in-place agreements are settlement
agreements between policyholders and the insurers specifying the terms and
16
conditions under which coverage will be applied as claims are presented for
payment. These agreements govern such things as what events will be deemed to
trigger coverage, how liability for a claim will be allocated among insurers and
what procedures the policyholder must follow in order to obligate the insurer to
pay claims. We conducted an analysis to determine the amount of insurance that
we estimate is probable that we will recover in relation to payment of current
and projected future claims. While the substantial majority of our insurance
carriers are solvent, some of our individual carriers are insolvent, which has
been considered in our analysis of probable recoveries. Some of these remaining
London-based insurance carriers have challenged our right to enter into
settlement agreements resolving all NARCO related asbestos claims against
Honeywell. However, we believe there is no factual or legal basis for such
challenges and we believe that it is probable that we will prevail in the
resolution of, or in any litigation that is brought regarding these disputes
and, as of March 31, 2004, we have recognized approximately $60 million in
probable insurance recoveries from these carriers. We are in advanced ongoing
settlement discussions with these carriers and while we cannot predict the
outcome of these discussions we expect that a substantial majority of the
carriers will participate in the settlement agreement that is being negotiated.
The amounts that we expect to realize through the settlement process are
consistent with our reserves. We made judgments concerning insurance coverage
that we believe are reasonable and consistent with our historical dealings with
our insurers, our knowledge of any pertinent solvency issues surrounding
insurers and various judicial determinations relevant to our insurance programs.
Projecting future events is subject to many uncertainties that could cause
the NARCO related asbestos liabilities to be higher or lower than those
projected and recorded. There is no assurance that a plan of reorganization will
be proposed or confirmed, that insurance recoveries will be timely or whether
there will be any NARCO related asbestos claims beyond 2018. Given the inherent
uncertainty in predicting future events, we review our estimates periodically,
and update them based on our experience and other relevant factors. Similarly we
will reevaluate our projections concerning our probable insurance recoveries in
light of any changes to the projected liability or other developments that may
impact insurance recoveries.
Friction Products -- Honeywell's Bendix Friction Materials (Bendix)
business manufactured automotive brake pads that contained chrysotile asbestos
in an encapsulated form. There is a group of existing and potential claimants
consisting largely of individuals that allege to have performed brake
replacements.
From 1981 through March 31, 2004, we have resolved about 65,000 Bendix
related asbestos claims including trials covering 120 plaintiffs, which resulted
in 115 favorable verdicts. Trials covering five individuals resulted in adverse
verdicts; however, two of these verdicts were reversed on appeal and the
remaining three claims were settled.
Through the second quarter of 2002, Honeywell had no out-of-pocket costs
for Bendix related asbestos claims since its insurance deductible was satisfied
many years ago. Beginning with claim payments made in the third quarter of 2002,
Honeywell began advancing indemnity and defense claim costs. During the first
quarter of 2004, those indemnity and defense costs were approximately $35
million. During the years ended December 31, 2003 and 2002, those indemnity and
defense costs amounted to approximately $112 and $70 million, respectively.
Approximately 50 percent of these amounts are deemed probable to be reimbursed
by insurance. During the year ended December 31, 2003 Honeywell collected $90
million in insurance reimbursements and settlements related to asbestos claims.
See further discussion of insurance coverage below.
17
The following tables present information regarding Bendix related asbestos
claims activity:
Years Ended
December 31,
Three Months Ended ---------------
Claims Activity March 31, 2004 2003 2002
--------------- -------------- ------ ------
Claims Unresolved at the beginning of period 72,976 50,821 47,000
Claims Filed 2,845 25,765 10,000
Claims Resolved (698) (3,610) (6,179)
------ ------ ------
Claims Unresolved at the end of period 75,123 72,976 50,821
====== ====== ======
December 31,
---------------
Disease Distribution of Unresolved Claims March 31, 2004 2003 2002
----------------------------------------- -------------- ------ ------
Mesothelioma and Other Cancer Claims 3,400 3,277 3,810
Other Claims 71,723 69,699 47,011
------ ------ ------
Total Claims 75,123 72,976 50,821
====== ====== ======
Approximately 30 percent of the 75,000 pending claims at March 31, 2004 are
on the inactive, deferred, or similar dockets established in some jurisdictions
for claimants who allege minimal or no impairment. The approximately 75,000
pending claims also include claims filed in jurisdictions such as Texas,
Virginia and Mississippi that allow for consolidated filings. In these
jurisdictions, plaintiffs are permitted to file complaints against a
pre-determined master list of defendants, regardless of whether they have claims
against each individual defendant. Many of these plaintiffs may not actually
have claims against Honeywell. Based on state rules and prior experience in
these jurisdictions, we anticipate that many of these claims will ultimately be
dismissed. During the second quarter of 2003, Honeywell was served with numerous
complaints filed in Mississippi in advance of the January 1, 2003 effective date
for tort reform in that state. Also during 2003, Honeywell experienced an
increase in nonmalignancy filings that we believe were in response to the
possibility of federal legislation. Based on prior experience, we anticipate
that many of these claims will be placed on deferred, inactive or similar
dockets or be dismissed. Honeywell has experienced average resolution values
excluding legal costs for malignant claims of approximately ninety five thousand
and one hundred sixty six thousand dollars in 2003 and 2002, respectively.
Honeywell has experienced average resolution values excluding legal costs for
nonmalignant claims of approximately three thousand five hundred and one
thousand three hundred dollars in 2003 and 2002, respectively. It is not
possible to predict whether resolution values for Bendix related asbestos claims
will increase, decrease or stabilize in the future.
We have accrued for the estimated cost of pending asbestos related claims.
The estimate is based on the number of pending claims at March 31, 2004, disease
classifications, expected settlement values and historic dismissal rates.
Honeywell retained the expert services of HR&A (see discussion of HR&A under
Refractory products above) to assist in developing the estimated expected
settlement values and historic dismissal rates. We cannot reasonably estimate
losses which could arise from future Bendix related asbestos claims because we
cannot predict how many additional claims may be brought against us, the
allegations in such claims or their probable outcomes and resulting settlement
values in the tort system.
Honeywell presently has approximately $1.9 billion of insurance coverage
remaining with respect to pending Bendix related asbestos claims as well as
claims which may be filed against us in the future. This coverage is provided by
a large number of insurance policies written by dozens of insurance companies in
18
both the domestic insurance market and the London excess market. Although
Honeywell has approximately $1.9 billion in insurance, there are gaps in our
coverage due to insurance company insolvencies, a comprehensive policy buy-back
settlement with Equitas in 2003 and certain uninsured periods. We analyzed the
amount of insurance that we estimate is probable that we will recover in
relation to payment of asbestos related claims and determined that approximately
50 percent of expenditures for such claims are recoverable by insurance. While
the substantial majority of our insurance carriers are solvent, some of our
individual carriers are insolvent, which has been considered in our analysis of
probable recoveries. We made judgments concerning insurance coverage that we
believe are reasonable and consistent with our historical dealings with our
insurers, our knowledge of any pertinent solvency issues surrounding insurers
and various judicial determinations relevant to our insurance programs. Based on
our analysis, at March 31, 2004 we had amounts receivable from our insurers of
approximately $230 million representing probable reimbursements associated with
our liability for pending claims as well as amounts due to us for previously
settled and paid claims related to the estimated liabilities for pending claims.
Honeywell believes it has sufficient insurance coverage and reserves to
cover all pending Bendix related asbestos claims. Although it is impossible to
predict the outcome of pending claims or to reasonably estimate losses which
could arise from future Bendix related asbestos claims, we do not believe that
such claims would have a material adverse effect on our consolidated financial
position in light of our insurance coverage and our prior experience in
resolving such claims. If the rate and types of claims filed, the average
indemnity cost of such claims and the period of time over which claim
settlements are paid (collectively, the "Variable Claims Factors") does not
substantially increase, Honeywell would not expect future Bendix related
asbestos claims to have a material adverse effect on our results of operations
or operating cash flows in any fiscal year. No assurances can be given, however,
that the Variable Claims Factors will not substantially increase.
Refractory and Friction Products -- NARCO and Bendix asbestos related
balances are included in the following balance sheet accounts:
March 31, December 31,
2004 2003
--------- ------------
Other current assets $ 116 $ 130
Insurance recoveries for asbestos related liabilities 1,344 1,317
------ ------
$1,460 $1,447
====== ======
Accrued liabilities $ 704 $ 730
Asbestos related liabilities 2,246 2,279
------ ------
$2,950 $3,009
====== ======
During the first quarter of 2004, we paid $101 million in indemnity and
defense costs related to NARCO and Bendix claims. Additionally, we recorded a
charge of $11 million for Bendix related asbestos claims filed and defense costs
incurred during the first quarter of 2004, net of probable insurance recoveries.
We are monitoring proposals for federal asbestos legislation pending in the
United States Congress. Due to the uncertainty surrounding the proposed
legislation, it is not possible at this point in time to determine what impact
such legislation would have on the NARCO bankruptcy strategy or our asbestos
liabilities and related insurance recoveries.
19
Warranties and Guarantees - As disclosed in Note 21 to our consolidated
financial statements in our 2003 Annual Report on Form 10-K, we have issued or
are a party to certain direct and indirect guarantees. As of March 31, 2004,
there has been no material change to these guarantees.
The following table summarizes information concerning our recorded
obligations for product warranties and product performance guarantees:
Three Months Ended March 31,
-------------------------------
2004 2003
-------------- --------------
Beginning of period $275 $217
Accruals for warranties/guarantees
issued during the period 63 43
Adjustments of pre-existing
warranties/guarantees 10 (3)
Settlement of warranty/guarantee claims (55) (35)
---- ----
End of period $293 $222
==== ====
Other Matters - We are subject to a number of other lawsuits,
investigations and claims (some of which involve substantial amounts) arising
out of the conduct of our business. With respect to all these other matters,
including those relating to commercial transactions, government contracts,
product liability and non-environmental health and safety matters, while the
ultimate results of these lawsuits, investigations and claims cannot be
determined, we do not expect that these matters will have a material adverse
effect on our consolidated results of operations, operating cash flows or
financial position.
20
Report of Independent Accountants
---------------------------------
To the Board of Directors and Shareowners
of Honeywell International Inc.
We have reviewed the accompanying consolidated balance sheet of Honeywell
International Inc. and its subsidiaries as of March 31, 2004, and the related
consolidated statement of operations for each of the three-month periods ended
March 31, 2004 and 2003 and the consolidated statement of cash flows for the
three-month periods ended March 31, 2004 and 2003. These interim financial
statements are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with generally
accepted auditing standards, the objective of which is the expression of an
opinion regarding the financial statements taken as a whole. Accordingly, we do
not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying consolidated interim financial statements for them
to be in conformity with accounting principles generally accepted in the United
States of America.
We previously audited in accordance with auditing standards generally accepted
in the United States of America, the consolidated balance sheet as of December
31, 2003, and the related consolidated statements of operations, of shareowners'
equity, and of cash flows for the year then ended (not presented herein), and in
our report dated February 5, 2004, we expressed an unqualified opinion on those
consolidated financial statements. In our opinion, the information set forth in
the accompanying consolidated balance sheet information as of December 31, 2003,
is fairly stated in all material respects in relation to the consolidated
balance sheet from which it has been derived.
/s/ PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP
Florham Park, NJ
April 26, 2004
----------
The "Report of Independent Accountants" included above is not a "report" or
"part of a Registration Statement" prepared or certified by an independent
accountant within the meanings of Sections 7 and 11 of the Securities Act of
1933, and the accountants' Section 11 liability does not extend to such report.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
-----------------------------------------------
(Dollars in millions, except per share amounts)
A. RESULTS OF OPERATIONS - FIRST QUARTER 2004 COMPARED WITH FIRST QUARTER 2003
---------------------------------------------------------------------------
Net Sales
---------
2004 2003
------ ------
Net sales $6,178 $5,399
% change compared with prior period 14%
The increase in net sales in the first quarter of 2004 compared with the
first quarter of 2003 is attributable to the following:
Acquisitions 2%
Divestitures (2)
Price --
Volume 10
Foreign Exchange 4
---
14%
===
We estimate that approximately 5 percentage points of the increase in sales
volume (both on a consolidated basis and for each reportable segment) in the
first quarter of 2004 compared with the first quarter of 2003 relates to
additional reporting days in the current quarter resulting from our normal
quarterly closing practice. See Note 1 of Notes to Financial Statements for
further discussion. A discussion of net sales by reportable segment can be found
in the Review of Business Segments section of this MD&A.
Cost of Goods Sold
------------------
2004 2003
------ ------
Cost of Goods Sold $4,930 $4,240
Gross Margin % 20.2% 21.5%
Gross margin decreased by 1.3 percentage points in the first quarter of
2004 compared with the first quarter of 2003 due primarily to higher pension and
other postretirement benefits expense of $63 million and an increase in
repositioning, environmental and litigation charges of $52 million.
Selling, General and Administrative Expenses
--------------------------------------------
2004 2003
----- -----
Selling, general and administrative expenses $ 808 $ 703
Percent of sales 13.1% 13.0%
Selling, general and administrative expenses as a percentage of net sales
increased by 0.1 percentage points in the first quarter of 2004 compared with
the first quarter of 2003 due primarily to higher pension and other
postretirement benefits expense.
22
2004 2003
---- ----
Pension and other postretirement benefits
expense included in cost of goods sold and
selling, general and administrative expenses $160 $89
Increase compared with prior period $ 71
Pension expense increased by $62 million, or 144 percent, in the first
quarter of 2004 compared with the first quarter of 2003 due primarily to the
following:
o A systematic recognition of higher losses resulting principally from
actual plan asset returns below the expected rate of return during the
period 2000 to 2002.
o A decrease in the discount rate from 6.75 percent in 2003 to 6.00
percent in 2004.
(Gain) on Sale of Non-Strategic Businesses
------------------------------------------
2004 2003
---- ----
(Gain) on sale of non-strategic businesses $(32) $--
Gain on sale of non-strategic businesses of $32 million in the first
quarter of 2004 represents the pretax gain on the sale of our VSCEL Optical
Products business in our Automation and Control Solutions reportable segment.
Equity in (Income) Loss of Affiliated Companies
-----------------------------------------------
2004 2003
---- ----
Equity in (income) loss of affiliated companies $(7) $2
Equity income increased by $9 million in the first quarter of 2004 compared
with the first quarter of 2003 due primarily to an improvement in earnings from
our UOP joint venture.
Other (Income) Expense
----------------------
2004 2003
---- ----
Other (income) expense $(10) $(3)
Other income increased by $7 million in the first quarter of 2004 compared
with the first quarter of 2003 due primarily to a decrease in foreign exchange
losses.
23
Tax Expense
-----------
2004 2003
----- -----
Tax expense $ 110 $ 99
Effective tax rate 27.2% 26.5%
The effective tax rate increased by 0.7 percentage points in the first
quarter of 2004 compared with the first quarter of 2003 due principally to the
tax impact of the gain on the sale of our VSCEL Optical Products business. The
effective tax rate in both periods was lower than the statutory rate of 35
percent due in part to tax benefits from export sales and foreign tax planning
strategies. The effective tax rate in the first quarter of 2003 also benefited
from tax benefits associated with favorable tax audit settlements.
Net Income
----------
2004 2003
----- -----
Net income $ 295 $ 254
Earnings per share of common stock -- assuming dilution $0.34 $0.30
The increase of $0.04 per share in the first quarter of 2004 compared with
the first quarter of 2003 relates primarily to an increase in segment profit
from higher sales across all reportable segments partially offset by higher
pension and other postretirement benefits expense.
24
Review of Business Segments
Three Months Ended
March 31,
------------------
2004 2003
------ ------
Net Sales
---------
Aerospace $2,304 $2,062
Automation and Control Solutions 1,947 1,717
Specialty Materials 856 777
Transportation Systems 1,071 840
Corporate -- 3
------ ------
$6,178 $5,399
====== ======
Segment Profit
--------------
Aerospace $ 307 $ 257
Automation and Control Solutions 195 197
Specialty Materials 48 31
Transportation Systems 143 92
Corporate (39) (32)
------ ------
Total segment profit 654 545
------ ------
Gain on sale of non-strategic businesses 32 --
Equity in income (loss) of affiliated companies 7 (2)
Other income 10 3
Interest and other financial charges (84) (84)
Pension and other postretirement benefits (expense) (A) (160) (89)
Repositioning, environmental and litigation charges (A) (54) --
------ ------
Income before taxes and cumulative effect
of accounting change $ 405 $ 373
====== ======
(A) Amounts included in cost of goods sold and selling, general and
administrative expenses.
Aerospace
---------
2004 2003
------ ------
Net sales $2,304 $2,062
% change compared with prior period 12%
Segment profit $ 307 $ 257
% change compared with prior period 19%
25
Aerospace sales by the major market segments follows:
% of Aerospace % Change in
Sales Sales
-------------- -----------
2004
Versus
Market Segment 2004 2003 2003
-------------- ---- ---- ------
Commercial:
Air transport aftermarket 22% 22% 15%
Air transport original equipment 10 10 8
Regional transport aftermarket 8 8 14
Regional transport original equipment 2 2 16
Business and general aviation aftermarket 8 8 20
Business and general aviation original equipment 7 7 13
Defense and Space:
Defense and space aftermarket 12 11 18
Defense and space original equipment 31 32 8
--- ---
Total 100% 100% 12%
=== ===
Aerospace sales increased by 12 percent in the first quarter of 2004
compared with the first quarter of 2003 due to higher volumes of 11 percent
(including the impact of additional reporting days in the quarter) and an
acquisition of 1 percent. Sales details by market segment are as follows:
o Air transport aftermarket sales improved in 2004 primarily reflecting
higher global flying hours, increases in maintenance and outsourcing
activity by the airlines and an increase in upgrades of avionics
equipment (ground proximity systems) to meet new regulatory standards.
o Air transport original equipment (OE) sales increased in 2004
primarily reflecting the timing of certain product deliveries.
Overall, aircraft deliveries by our OE customers (primarily Airbus and
Boeing) were slightly higher compared with the prior period.
o Regional transport aftermarket sales increased in 2004 due to higher
flying hours and the initial provisioning for the Primus Epic
integrated avionics system.
o Business and general aviation aftermarket sales were higher in 2004
largely due to an improving economy, an increase in flying hours and
upgrade activity in avionics equipment to meet new regulatory
standards.
o Defense and space aftermarket sales continued to be strong in 2004
driven by war-related activities such as increases in repair, upgrades
and modifications for fixed, rotary wing and ground vehicles.
Aerospace segment profit increased by 19 percent in the first quarter of
2004 compared with the first quarter of 2003 due primarily to an increase in
sales of higher margin commercial aftermarket products and services and volume
growth. This increase was partially offset by lower licensing income, higher
development expense associated with new programs and an increase in spending for
information technology systems.
26
Automation and Control Solutions
--------------------------------
2004 2003
------ ------
Net sales $1,947 $1,717
% change compared with prior period 13%
Segment profit $ 195 $ 197
% change compared with prior period (1)%
Automation and Control Solutions sales increased by 13 percent in the first
quarter of 2004 compared with the first quarter of 2003 due to higher volumes of
7 percent (including the impact of additional reporting days in the current
quarter), the favorable effect of foreign exchange of 6 percent and acquisitions
of 1 percent, partially offset by the impact of lower prices of 1 percent. Sales
increased by 14 percent for our Automation and Control Products business due
principally to strong sales of fire solutions and sensor products and the
favorable effect of foreign exchange. Sales for our Building Solutions business
increased by 17 percent due primarily to the favorable effect of foreign
exchange, improvement in the overall economy and the impact of investments in
sales and marketing capacity. Sales for our Process Solutions business increased
by 9 percent due primarily to the favorable effect of foreign exchange.
Automation and Control Solutions segment profit decreased by 1 percent in
the first quarter of 2004 compared with the first quarter of 2003 as increased
investments in sales and marketing capacity, principally in our Building
Solutions business, and the adverse impact of pricing pressures principally in
our Automation and Control Products and Process Solutions businesses more than
offset the favorable impact of higher sales.
Specialty Materials
-------------------
2004 2003
---- ----
Net sales $856 $777
% change compared with prior period 10%
Segment profit $ 48 $ 31
% change compared with prior period 55%
Specialty Materials sales increased by 10 percent in the first quarter of
2004 compared with the first quarter of 2003 due to higher volumes of 9 percent
(including the impact of additional reporting days in the current quarter), the
impact of higher prices of 2 percent (mainly in our Nylon System business) and
the favorable effect of foreign exchange of 2 percent, partially offset by prior
year divestitures, net of acquisitions, of 3 percent. Higher volumes were
principally driven by increasing demand for ozone friendly HFC products for
refrigeration and air conditioning applications, as well as for blowing agents
for insulation applications, increased demand for electronic materials due to
improvement in the semiconductor industry and strong demand for Spectra fiber
principally from the U.S. military.
Specialty Materials segment profit increased by 55 percent in the first
quarter of 2004 compared with the first quarter of 2003 due principally to
higher sales volumes and price increases, partially offset by higher raw
material costs (principally phenol resulting from increases in benzene prices).
27
Transportation Systems
----------------------
2004 2003
------ ----
Net sales $1,071 $840
% change compared with prior period 28%
Segment profit $ 143 $ 92
% change compared with prior period 55%
Transportation Systems sales increased by 28 percent in the first quarter
of 2004 compared with the first quarter of 2003 due primarily to higher volumes
of 17 percent (including the impact of additional reporting days in the current
quarter) and the favorable effect of foreign exchange of 11 percent. The
increase in sales for the segment resulted principally from a 38 percent
increase in sales in our Honeywell Turbo Technologies business due to a
favorable sales mix and volume growth driven by increasing diesel penetration in
Europe and strength in the North American truck segment, and the favorable
effect of foreign exchange.
Transportation Systems segment profit increased by 55 percent in the first
quarter of 2004 compared with the first quarter of 2003 due primarily to the
effect of favorable sales mix and volume growth in our Honeywell Turbo
Technologies business.
Repositioning and Other Charges
-------------------------------
A summary of repositioning and other charges follows:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Severance $15 $--
Asset impairments 4 --
Exit costs 3 --
Reserve adjustments (7) --
--- ---
Total net repositioning charge 15 --
--- ---
Probable and reasonably estimable environmental liabilities 30 --
Asbestos related litigation charges, net of insurance 11 --
--- ---
Total net repositioning and other charges $56 $--
=== ===
The following table summarizes the pretax distribution of total net
repositioning and other charges by income statement classification:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Cost of goods sold $52 $--
Selling, general and administrative expenses 2 --
Equity in (income) loss of affiliated companies 2 --
--- ---
$56 $--
=== ===
28
The following table summarizes the pretax impact of total net repositioning
and other charges by reportable segment:
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Aerospace $ 1 $--
Automation and Control Solutions 3 --
Specialty Materials 4 --
Transportation Systems 18 --
Corporate 30 --
--- ---
$56 $--
=== ===
In the first quarter of 2004, we recognized a repositioning charge of $22
million primarily for severance costs related to workforce reductions of 587
manufacturing and administrative positions principally in our Automation and
Control Solutions and Transportation Systems reportable segments. Also, $7
million of previously established accruals for severance and other exit costs
were returned to income in the first quarter of 2004. Severance liabilities were
reduced by $4 million mainly in our Automation and Control Solutions reportable
segment due to fewer employee separations than originally anticipated associated
with certain prior repositioning actions. Other exit costs liabilities were
reduced by $3 million related primarily to excess environmental remediation
reserves for a closed facility in our Specialty Materials reportable segment.
The 2003 and 2004 repositioning actions will generate incremental pretax
savings of approximately $80 million in 2004 compared with 2003 principally from
planned workforce reductions. Cash expenditures for severance and other exit
costs necessary to execute these actions were $50 million in the three months
ended March 31, 2004 and were funded through operating cash flows. Cash spending
for severance and other exit costs necessary to execute the remaining
repositioning actions will approximate $200 million in 2004 and will be funded
primarily though operating cash flows.
In the first quarter of 2004, we recognized a charge of $30 million for
legacy environmental matters deemed probable and reasonably estimable in the
first quarter of 2004, including liabilities for environmental conditions around
Onondaga Lake in New York. We also recognized a charge of $11 million for Bendix
related asbestos claims filed and defense costs incurred during the first
quarter of 2004, net of probable insurance recoveries. See Note 13 of Notes to
Financial Statements for further discussion.
B. LIQUIDITY AND CAPITAL RESOURCES
Cash Flow Summary
-----------------
Our cash flows from operating, investing and financing activities, as
reflected in the Consolidated Statement of Cash Flows for the three months ended
March 31, 2004 and 2003, are summarized as follows:
2004 2003
---- -----
Cash provided by (used for):
Operating activities $337 $ 473
Investing activities (80) (195)
Financing activities (16) (34)
Effect of exchange rate changes on cash 9 25
---- -----
Net increase in cash and cash equivalents $250 $ 269
==== =====
29
Cash provided by operating activities decreased by $136 million during the
first quarter of 2004 compared with the first quarter of 2003 due primarily to
an increase in working capital (receivables, inventories and accounts payable)
usage of $130 million related to higher sales and an increase in asbestos
related liability payments of $70 million, partially offset by increased
earnings.
We made asbestos related payments of $101 million, including legal fees, in
the first quarter of 2004 and expect to make additional asbestos related
payments of approximately $670 million during the remainder of 2004. This
estimate is based on our experience in the first quarter of 2004 regarding the
timing of submissions of required evidential data by plaintiff firms. We had $18
million of asbestos related insurance recoveries during the first quarter of
2004. We expect to receive approximately $100 million in asbestos related
insurance recoveries during the remainder of 2004. These cash flow projections
are consistent with our existing asbestos reserves and anticipated insurance
recoveries related to asbestos related liabilities. See Note 13 of Notes to
Financial Statements for further details.
Cash used for investing activities decreased by $115 million during the
first quarter of 2004 compared with the first quarter of 2003 due primarily to
proceeds from sales of businesses of $71 million mainly from the disposition of
our VSCEL Optical Products business and proceeds from the maturity of investment
securities of $80 million. This decrease in cash used for investing activities
was partially offset by higher capital spending across all reportable segments
of $30 million.
We continuously assess the relative strength of each business in our
portfolio as to strategic fit, market position, profit and cash flow
contribution in order to upgrade our combined portfolio and identify business
units that will most benefit from increased investment. We identify acquisition
candidates that will further our strategic plan and strengthen our existing core
businesses. We also identify business units that do not fit into our long-term
strategic plan based on their market position, relative profitability or growth
potential. These business units are considered for potential divestiture,
restructuring or other repositioning actions subject to regulatory constraints.
Cash used for financing activities decreased by $18 million during the
first quarter of 2004 compared with the first quarter of 2003 due primarily to
net borrowings (principally commercial paper) of $348 million in the current
quarter principally to fund an increase in working capital, and for repurchases
of common stock of $229 million in connection with our stock repurchase program
announced in November 2003. Total debt of $5,517 million at March 31, 2004 was
$357 million, or 7 percent higher than at December 31, 2003 principally
reflecting higher levels of commercial paper outstanding in the current quarter.
Liquidity
---------
See our 2003 Annual Report on Form 10-K for a detailed discussion of our
liquidity. As of March 31, 2004, there has been no material changes in our
liquidity.
C. OTHER MATTERS
Litigation
----------
We are subject to a number of lawsuits, investigations and claims (some of
which involve substantial amounts) arising out of the conduct of our business.
See a discussion of environmental, asbestos and other litigation matters in Note
13 of Notes to Financial Statements.
30
Recent Accounting Pronouncements
--------------------------------
See Note 2 of Notes to Financial Statements for a discussion of recent
accounting pronouncements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See our 2003 Annual Report on Form 10-K (Item 7A). As of March 31, 2004,
there has been no material change in this information.
ITEM 4. CONTROLS AND PROCEDURES
Honeywell management, including the Chief Executive Officer and Chief
Financial Officer, conducted an evaluation of the effectiveness of our
disclosure controls and procedures as of the end of the period covered by this
Quarterly Report on Form 10-Q. Based upon that evaluation, the Chief Executive
Officer and the Chief Financial Officer concluded that such disclosure controls
and procedures were effective as of the end of the period covered by this
Quarterly Report on Form 10-Q in alerting them on a timely basis to material
information relating to Honeywell required to be included in Honeywell's
periodic filings under the Exchange Act. There have been no changes that have
materially affected, or are reasonably likely to materially affect, Honeywell's
internal control over financial reporting that have occurred during the period
covered by this Quarterly Report on Form 10-Q.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are subject to a number of lawsuits, investigations and claims (some of
which involve substantial amounts) arising out of the conduct of our business.
See a discussion of environmental, asbestos and other litigation matters in Note
13 of Notes to Financial Statements.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
The following table summarizes Honeywell's purchases of its common stock,
par value $1 per share, for the quarter ending March 31, 2004:
Issuer Purchases of Equity Securities
(a) (b) (c) (d)
Total Maximum Number
Number of (or Approximate
Shares Dollar Value) of
Total Purchased as Shares that May
Number of Average Part of Publicly Yet be Purchased
Shares Price Paid Announced Plans Under Plans or
Period Purchased per Share or Programs Programs
------------- --------- ---------- ---------------- ----------------
January 2004 3,350,600 $34.82 3,350,600 (A)
February 2004 2,219,000 $35.94 2,219,000 (A)
March 2004 250,000 $32.35 250,000 (A)
(A) In November 2003 Honeywell announced its intention to repurchase sufficient
outstanding shares of its common stock to offset the dilutive impact of
employee stock based compensation plans, including future option exercises,
restricted unit vesting and matching contributions under our savings plans.
We estimate share repurchases of approximately 10 million shares annually.
31
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Annual Meeting of Shareowners of Honeywell held on April 26, 2004,
the following matters set forth in our Proxy Statement dated March 15, 2004,
which was filed with the Securities and Exchange Commission pursuant to
Regulation 14A under the Securities Exchange Act of 1934, were voted upon with
the results indicated below.
(1) The nominees listed below were elected directors for a three-year term
ending at the 2007 Annual Meeting with the respective votes set forth
opposite their names:
FOR WITHHELD
--- --------
James J. Howard 504,626,078 207,304,839
Bruce Karatz 511,099,398 200,831,519
Russell E. Palmer 507,314,962 204,615,954
Ivan G. Seidenberg 510,775,679 201,155,238
Eric K. Shinseki 652,071,853 59,859,068
(2) A proposal seeking approval of the appointment of
PricewaterhouseCoopers LLP as independent accountants for 2004 was
approved, with 678,799,358 votes cast FOR, 21,255,784 votes cast
AGAINST, and 11,863,868 abstentions;
(3) A shareowner proposal regarding annual election of directors was
approved, with 419,823,887 votes cast FOR, 155,694,787 votes cast
AGAINST, 14,474,654 abstentions and 121,937,606 broker non-votes;
(4) A shareowner proposal regarding shareowner voting provisions was
approved, with 438,110,585 votes cast FOR, 137,254,245 votes cast
AGAINST, 14,628,506 abstentions and 121,937,598 broker non-votes;
(5) A shareowner proposal regarding shareowner input regarding golden
parachutes was not approved, with 294,330,506 votes cast FOR,
277,179,767 votes cast AGAINST, 18,481,252 abstentions and 121,939,409
broker non-votes;
(6) The proponent did not appear at the Annual Meeting of Shareowners to
present the shareowner proposal regarding pay disparity and, thus,
such proposal was not considered;
(7) A shareowner proposal regarding shareowner cumulative voting was not
approved, with 250,517,998 votes cast FOR, 281,679,422 votes cast
AGAINST, 57,795,415 abstentions and 121,938,099 broker non-votes.
32
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits. See the Exhibit Index on page 35 of this Quarterly Report on
Form 10-Q.
(b) Reports on Form 8-K. The following reports on Form 8-K were filed
during the three months ended March 31, 2004.
1. On January 19, 2004, a report was filed announcing the
termination of discussions regarding the possible sale of our
Bendix Friction Materials business.
2. On January 29, 2004, a report was filed which furnished, under
Item 12, a press release reporting our earnings for the fourth
quarter of 2003.
33
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
Honeywell International Inc.
Date: May 3, 2004 By: /s/ John J. Tus
------------------------------------
John J. Tus
Vice President and Controller
(on behalf of the Registrant
and as the Registrant's
Principal Accounting Officer)
34
EXHIBIT INDEX
-------------
Exhibit Number Description
-------------- -----------
2 Omitted (Inapplicable)
3 Omitted (Inapplicable)
4 Omitted (Inapplicable)
10 Omitted (Inapplicable)
11 Computation of Per Share Earnings*
12 Computation of Ratio of Earnings to Fixed Charges (filed
herewith)
15 Independent Accountants' Acknowledgment Letter as to the
incorporation of their report relating to unaudited interim
financial statements (filed herewith)
18 Omitted (Inapplicable)
19 Omitted (Inapplicable)
22 Omitted (Inapplicable)
23 Omitted (Inapplicable)
24 Omitted (Inapplicable)
31.1 Certification of Principal Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)
31.2 Certification of Principal Financial Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)
32.1 Certification of Principal Executive Officer Pursuant to 18
U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (filed herewith)
32.2 Certification of Principal Financial Officer Pursuant to 18
U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (filed herewith)
99 Omitted (Inapplicable)
----------
* Data required by Statement of Financial Accounting Standards No. 128,
"Earnings per Share", is provided in Note 6 to the condensed consolidated
financial statements in this report.
35