Washington, D.C. 20549
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.þ
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* | Excludes the Common Stock held by the registrant’s executive officers, directors and stockholders whose ownership exceeds 5% of the Common Stock outstanding at June 30, 2004. Exclusion of such shares should not be construed to indicate that any such person possesses the power, direct or indirect, to direct or cause the direction of the management or policies of the registrant or that such person is controlled by or under common control with the registrant. |
LENNOX INTERNATIONAL INC.
FORM 10-K
For the Fiscal Year Ended December 31, 20042005
INDEX
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PART I
The Company
Lennox International Inc. (“LII” or the “Company”), through its subsidiaries, is a leading global provider of climate control solutions. The Company designs, manufactures and markets a broad range of products for the heating, ventilation, air conditioning and refrigeration (“HVACR”) markets. LII has leveraged its expertise to become an industry leader known for innovation, quality and reliability. The Company’s products and services are sold through multiple distribution channels under well-established brand names including “Lennox,” “Armstrong Air,” “Ducane,” “Bohn,” “Larkin,” “Advanced Distributor Products,” “Service Experts” and others.
Shown below are the Company’s four business segments, the key products and brand names within each segment and 20042005 net sales by segment. Segment financial data for the years 2002 through2005, 2004 and 2003, including financial information about foreign and domestic operations, areis included in Note 3 of the Notes to Consolidated Financial Statements on pages 45 through 47 herein.in “Item B. Financial Statements and Supplementary Data” and incorporated herein by reference.
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| Segment | | Products/Services | | Brand Names | | 2004 Net Sales | | | Products/Services | | Brand Names | | 2005 Net Sales | |
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| | | (In Millions) | | | (In Millions) | |
| Residential Heating & Cooling | | Furnaces, air conditioners, heat pumps, packaged heating and cooling systems, indoor air quality equipment, pre-fabricated fireplaces and freestanding stoves | | Lennox, Armstrong Air, Ducane, Aire-Flo, AirEase, Concord, Magic-Pak, Advanced Distributor Products (ADP), Superior, Whitfield, Security Chimneys | | $ | 1,419.8 | | | Furnaces, air conditioners, heat pumps, packaged heating and cooling systems, indoor air quality equipment, pre-fabricated fireplaces and freestanding stoves | | Lennox, Armstrong Air, Ducane, Aire-Flo, AirEase, Concord, Magic-Pak, Advanced Distributor Products (ADP), Superior, Whitfield, Security Chimneys | | $ | 1,685.8 | |
| Commercial Heating & Cooling | | Unitary heating and air conditioning equipment and applied systems | | Lennox, Armstrong Air | | | 580.8 | | | Unitary heating and air conditioning equipment and applied systems | | Lennox, Armstrong Air | | | 651.7 | |
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| Total Heating & Cooling | Total Heating & Cooling | | | 2,000.6 | | Total Heating & Cooling | | | 2,337.5 | |
| Service Experts | | Sales, installation and service of residential and light commercial heating and cooling equipment | | Service Experts, various individual service center names | | | 611.7 | | | Sales, installation and service of residential and light commercial heating and cooling equipment | | Service Experts, various individual service center names | | | 641.4 | |
| Refrigeration | | Chillers, condensing units, unit coolers, fluid coolers, air cooled condensers and air handlers | | Bohn, Larkin, Climate Control, Chandler Refrigeration, Heatcraft Worldwide Refrigeration, Friga-Bohn, HK Refrigeration, Kirby, Lovelocks, Frigus-Bohn | | | 444.7 | | | Chillers, condensing units, unit coolers, fluid coolers, air cooled condensers and air handlers | | Bohn, Larkin, Climate Control, Chandler Refrigeration, Heatcraft Worldwide Refrigeration, Friga-Bohn, HK Refrigeration, Kirby, Lovelocks, Frigus-Bohn | | | 467.2 | |
| Eliminations | | | (74.3 | ) | | | (79.9 | ) |
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| | | Total | | $ | 2,982.7 | | | Total | | $ | 3,366.2 | |
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The Company was founded in 1895 in Marshalltown, Iowa when Dave Lennox, the owner of a machine repair business for the railroads, successfully developed and patented a riveted steel coal-fired furnace, which was substantially more durable than the cast iron furnaces used at thethat time. The manufacturing ofManufacturing these furnaces had growngrew into a significant business and was diverting the Lennox Machine Shop from its core business.focus. As a result, in 1904, a group of investors headed by D.W. Norris bought the furnace business and named it the Lennox Furnace Company. In 1991, the Company reincorporated as a Delaware corporation and completed its initial public offering in 1999. Over the years, D.W. Norris ensured that ownership of the Company was distributed to succeeding generations of his family. In 1991, the Company reincorporated as a Delaware corporation. On August 3, 1999, the Company completed the initial public offering of its common stock. The Company believes a significant portion of LII’s outstanding
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common stock is currently broadly distributed among descendants of, or persons otherwise related to, D.W. Norris.
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| Forward-Looking Statements |
Various sections of this Annual Report on Form 10-K (“Form 10-K”), including Business and Management’s Discussion and Analysis of Financial Condition and Results of Operations, contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that are based upon management’s beliefs, as well as assumptions made by and information currently available to management. All statements other than statements of historical fact included in this Form 10-K constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including but not limited to statements identified by the words “may,” “will,” “should,” “plan,” “predict,” “anticipate,” “believe,” “intend,” “estimate” and “expect” and similar expressions. Such statements reflect the current views of LII with respect to future events, based on what it believes are reasonable assumptions; however, such statements are subject to certain risks, uncertainties and assumptions. In addition to the specific uncertainties discussed elsewhere in this Form 10-K, the following risks and uncertainties may affect the Company’s performance and results of operations:
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| • | the Company’s business is affected by economic factors including the level of economic activity in the markets in which the Company operates, and a decline in this activity typically results in a decline in new construction and replacement purchases, which could decrease LII’s sales and profitability; |
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| • | the demand for the Company’s products and services is strongly affected by the weather, and cooler than normal summers depress the Company’s sales of replacement air conditioning and refrigeration products and warmer than normal winters have the same effect on the Company’s heating products; |
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| • | implementation of the new minimum efficiency standard for residential air conditioners mandated by the National Appliance Energy Conservation Act (“NAECA”) could adversely impact the Company’s results of operations, including increased costs of production and distribution, potential margin pressures and higher levels of working capital; |
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| • | increases in the prices or required quantities of raw materials or components, or problems in their availability, whether related to the implementation of the new NAECA standard or otherwise, could increase the costs of its products and/or depress the Company’s sales; |
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| • | the Company may not be able to realize the price increases required to offset the impact of higher raw materials, components or distribution costs, whether related to the implementation of the new NAECA standard or otherwise; |
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| • | the development, manufacture, sale and use of the Company’s products involve a risk of warranty and product liability claims, and such claims could be material and have an adverse effect on its future profitability; |
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| • | the Company incurs the risk of liability claims for the installation and service of heating and cooling products with its Company-owned dealer service centers, and if these claims exceed the limits of the Company’s product liability insurance policies it may result in material costs that could have an adverse effect on future profitability; |
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| • | the success of the Company will depend in part on its ability to integrate and operate acquired businesses profitably and to identify and implement opportunities for cost savings; any future determination that a significant impairment of the value of the Company’s intangible assets has occurred could have a material adverse effect on its results of operations; |
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| • | as of December 31, 2004 the Company had $310.5 million of consolidated debt outstanding, and the Company’s level of indebtedness may have important consequences for its operations, including that it may have to use a large portion of its cash flow to pay principal and interest on its indebtedness and it could affect the Company’s ability to borrow money in the future for working capital, capital expenditures, acquisitions or other purposes; |
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| • | the Company operates in very competitive markets with competitors that may have greater financial and marketing resources, and competitive factors could cause the Company to reduce its prices or lose market share and negatively affect its cash flow; |
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| • | the Company’s future success will depend upon its continued investment in research and new product development and its ability to commercialize new technological advances in the HVACR industries; |
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| • | the Company faces a risk of work stoppage and other labor relations matters because a significant percentage of its workforce is unionized, and the results of future negotiations with the unions, including the effect of any production interruptions or labor stoppages, could have an adverse effect on the Company’s future financial results; and |
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| • | the Company is subject to extensive and changing federal, state and local laws and regulations designed to protect the environment, and these laws and regulations could impose liability for remediation costs and civil or criminal penalties for non-compliance. |
Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may differ materially from those in the forward-looking statements. The Company disclaims any intention or obligation to update or review any forward-looking statements or information, whether as a result of new information, future events or otherwise.
Business Strategy
The Company’s business strategy is designed to capitalize on its competitive strengths in order to expand its profitability and market share in the HVACR markets. The key elements of this strategy include:
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| Improve the Profitability of Service Experts |
The acquisition of heating and air conditioning contractors, also referred to as dealer service centers,Profitable Growth in the United States and Canada has enabled the Company to extend its distribution directly to the end consumer, thereby permitting it to participate in the revenues and margins available at the retail level while strengthening and protecting its brand equity. The Company has assembled an experienced management team to manage the dealer operations and has developed a portfolio of management procedures and best practices, training programs, and goods and services that it believes will enhance the quality, effectiveness and profitability of this business. In April 2004, the Company announced a plan to focus Service Experts primarily on service and replacement opportunities in the residential and light commercial markets in major metropolitan areas. As a result, 48 dealer service centers that did not fit this strategy were divested. The Company is focused on establishing best practices and processes, and improving the profitability of the approximately 130 dealer service centers that comprise Service Expert’s ongoing operations. While the Company believes the retail sales and service market represents a significant growth opportunity because this market is large and highly fragmented, comprised of approximately 40,000 contractors, no further significant acquisitions are currently planned.
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| Exploit Global Refrigeration Opportunities |
The Company believes increasing international demand for commercial refrigeration products presents substantial opportunities. Examples of this include equipment to preserve perishable food products. Refrigeration products generally have similar design and applications globally, and LII believes it can use its domestic product knowledge and business model to grow internationally. To take advantage of international opportunities, the Company has made investments in manufacturing facilities in Europe, Latin America, South America and the Asia Pacific region through acquisitions and joint ventures.
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| Increase Heating & Cooling Market Share in North America |
The Company intends to increase its share ofgrow in the residential and light commercial HVACheating, ventilation and air conditioning (“HVAC”) market in North America by:
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| | • | improving replacement sales of commercial heating and cooling equipment by enhancing distribution capabilities to shorten lead times and promoting planned replacements with national account customers;times; |
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| | • | introducing innovative new productsresidential and commercial products; |
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| • | expanding the offering of residential and commercial Indoor Air Quality (IAQ) related products and services; |
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| | • | selectively expandingimproving penetration and growing its “Lennox”share of original equipment manufacturers’ purchases by Lennox independent dealer network;dealers; and |
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| | • | expanding the geographic market forpresence of the “Armstrong Air”Company’s Armstrong Air, Ducane and “Ducane”other brands of residential heating and cooling products.products sold to distributors and wholesalers through the addition of new customers. |
Technology, Product Innovation
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| Exploit Global Refrigeration Opportunities |
The Company believes increasing international demand for commercial refrigeration products presents substantial opportunities. Refrigeration equipment generally has similar designs and Manufacturing Efficiencyapplications globally, and LII believes it can use its domestic product knowledge and business model to grow internationally. To take advantage of international opportunities, the Company intends to promote organic growth through investments in its international manufacturing and distribution facilities, as well as explore opportunities for joint ventures and strategic alliances to expand market penetration.
An important part of LII’s growth strategy
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| Focus on Profitable Growth of Service Experts |
Company-owned heating and air conditioning contractors, also referred to as dealer service centers, enable LII to extend its distribution directly to the end consumer in the United States and Canada, thereby permitting it to participate in the revenues and margins available at the retail level. The Company’s dealer network is continued investmentfocused primarily on service and replacement opportunities in researchresidential and product development.light commercial markets in metropolitan areas, which the Company believes are more stable and profitable than new construction. The Company has designatedassembled an experienced management team to manage the dealer operations. A portfolio of management procedures and best practices, including a numbertraining program for new general managers, common IT systems and financial controls, regional accounting centers, an inventory management program and a focus on service agreements, is designed to enhance the quality, effectiveness and profitability of this business. The Company believes the retail sales and service market represents a significant growth opportunity because it is large and highly fragmented, comprised of approximately 85,000 contractors. While no significant acquisitions are currently planned, the Company intends to selectively expand and/or rationalize service centers to optimize the performance of its facilities as “centers for excellence” that are responsible for the research and development of core competencies vital to its success, such as heat transfer, indoor air quality and materials. Technological advances are disseminated from these “centers for excellence” to all of LII’s operating divisions, as appropriate. In addition, LII has embraced Lean-manufacturing principles across its manufacturing operations, accompanied by initiatives to achieve high product quality.dealer network.
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Products and Services
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| Residential Heating & Cooling |
Heating & Cooling Products. The Company manufactures and markets a broad range of furnaces, air conditioners, heat pumps, packaged heating and cooling systems, replacement parts and related products for both the residential replacement and new construction markets in the United States and Canada. These products are available in a variety of product designs and efficiency levels, and at a range of price points intended to provide a complete line of home comfort systems. The Company markets these products under multiple brand names and believes that by maintaining a broad product line withmarketed under multiple brand names it can address different market segments and penetrate multiple distribution channels.
The “Lennox” brandand “Aire-Flo” brands of residential heating and air conditioning products isare sold directly to a network of approximately 7,000 installing dealers, which currently numbers approximately 7,000, making the Company one of the largest wholesale distributors of theseresidential heating and air conditioning products in North America. The “Armstrong Air”Air,” “Ducane,” “AirEase,” “Concord,” “Magic-Pak” and “Ducane”“Advanced Distributor Products” brands are sold through third party distributors.
The Company’s Advanced Distributor Products divisionoperation builds evaporator coils unit heaters and air handlers under the “Advanced Distributor Products” brand as well as the “Lennox,” “Armstrong Air”Air,” “AirEase,” “Concord” and “Ducane” brands. This division suppliesIn addition to supplying the Company with components for its heating and cooling products, andAdvanced Distributor Products produces evaporator coils to be used in connection with competitors’ heating and cooling products as an alternative to such competitors’ brand name components. The Company has been able to achieveachieved a significant share of the market for evaporator coils through the application of its technological and manufacturing skills, and customer service capabilities.
Hearth Products. The Company’s hearth products include prefabricated gas, wood burning and electric fireplaces;fireplaces, free standing pellet and gas stoves;stoves, fireplace inserts, gas logs and accessories. Many of the fireplaces are built with a blower or fan option and are efficient heat sources as well as attractive amenities to the home. The Company currently markets its hearth products under the “Lennox,” “Superior,” “Whitfield,” “Earth Stove”“Whitfield” and “Security Chimneys” brand names.
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| Commercial Heating & Cooling |
North America. In North America, the Company’sCompany sells unitary heating and cooling equipment that is used in light commercial applications, such as low-rise office buildings, restaurants, retail centers, churches and schools.schools, as opposed to larger applied systems. The Company’s product offerings for these applications include rooftop units that range from two to 4050 tons of cooling capacity and split system/air handler combinations, which range from 1.5 to 20 tons.tons, and are distributed primarily through commercial contractors. The Company believes the success of its products is attributable to their efficiency, design flexibility, low life cycle cost, ease of service and advanced control technology. In North America, the Company sells unitary equipment as opposed to larger applied systems.
Europe. In Europe, the Company manufactures and sells unitary products, which range from two to 30 tons, and applied systems that rangewith up to 500 tons.tons of cooling capacity. LII’s European products consist of small package units, rooftop units, chillers, air handlers and fan coils whichthat serve medium-rise commercial buildings, shopping malls, other retail and entertainment buildings, institutional applications and other field-engineered applications. LII manufacturersmanufactures heating and cooling products in several locations in Europe and markets these products through both direct and indirect distribution channels in Europe, Russia and the Middle East.
Through approximately 130 Company-owned dealer service centers in its Service Experts operation,segment, the Company provides installation, preventive maintenance, emergency repair services, and the replacement of heating and cooling systems directly to both residential and light commercial customers.customers in the United States and Canada. In connection with these services, the Company sells a wide range of equipment, parts and supplies under both Lennox Internationalmanufactured by LII and othernon-LII brands as well as other brand names.produced by third parties.
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The Company manufactures and markets equipment for the global commercial refrigeration market through subsidiaries organized under the Heatcraft Worldwide Refrigeration name. These products are sold to distributors, installing contractors and original equipment manufacturers.
North America. The Company is a leading manufacturer ofCompany’s commercial refrigeration products infor the North America. The Company’s refrigeration productsAmerican market include condensing units, unit coolers, fluid coolers, air cooled condensers and air handlers. These products are sold for cold storage applications, primarily to preserve food and other perishables, and are used by supermarkets, convenience stores, restaurants, warehouses and distribution centers. As part of its sale of commercial refrigeration products, the Company routinely provides application engineering for consulting engineers, contractors and others.
International. In international markets, LII manufactures and markets refrigeration products including condensing units, unit coolers, air-cooled condensers, fluid coolers, refrigeration racks and small chillers. These products are sold to distributors, installing contractors and original equipment manufacturers. The Company has manufacturing locations in Europe, Australia, Brazil and China. The Company also owns 50% of a joint venture in Mexico that produces unit coolers and condensing units of the same design and quality as those manufactured by the Company in the United States. Since thisThis venture produces a smaller range of products, and therefore the product line is complemented with imports from the United States, which are sold through the joint venture’s distribution network. Sales in Mexico are to wholesalers, installing contractors and original equipment manufacturers. As production volumes increase, there exists the potential to export some products from the joint venture into the United States, Canada and other parts of Latin America.
Marketing and Distribution
The Company managesutilizes multiple channels of distribution and offers different brands at various price points in order to better penetrate the HVACR markets. The Company’s products and services are sold through a combination of distributors, independent and Company-owned dealer service centers, wholesalers, manufacturers’ representatives, original equipment manufacturers and national accounts. Dedicated sales forces and manufacturers’ representatives are deployed across all the Company’s business segments and brands in a manner designed to maximize their ability to service a particular distribution channel. To
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maximize enterprise-wide effectiveness, the Company has active cross-functional and cross-organizational teams coordinating approaches to pricing, product design, distribution and national account customers.
An example of the competitive strength of the Company’s marketing and distribution strategy is in the North American residential heating and cooling market in which itLII uses three distinctly different distribution approaches —approaches: the one-step distribution system, the two-step distribution system and sales made directly to consumers through Company-owned dealers.consumers. The Company markets and distributes its “Lennox” and “Aire-Flo” brands in a one-step process directly to independent dealers that install these heating and cooling products. The Company distributes its “Armstrong Air,” “Ducane,” “AirEase,” “Concord,” Magic-Pak” and “Advanced Distributor Products” brands through the traditional two-step distribution process whereby it sells its products to distributors who, in turn, sell the products to dealers and to installing contractors. In addition, the Company provides heating and cooling products and services directly to consumers through Company-owned Service Experts dealer service centers.
Over the years, the “Lennox” brand has become synonymous with “Dave Lennox”Lennox,” a highly recognizable advertising icon in the heating and cooling industry. The “Dave Lennox” image is utilized in television and print advertising, as well as in numerous locally produced dealer ads, open houses and trade events.
Manufacturing
The Company operates manufacturing facilities in the United States and other parts ofthroughout the world. LII has embraced lean-manufacturing principles, a manufacturing philosophy which reduces waste in manufactured products by shortening the timeline between the customer order and delivery, across its manufacturing operations, accompanied by initiatives to achieve high product quality. In its facilities most impacted by seasonal demand, the Company manufactures both heating and cooling products to smooth seasonal production demands and maintain a relatively stable labor force. The Company is generally able to hire temporary employees to meet changes in demand.
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PurchasingStrategic Sourcing
The Company relies on various suppliers to furnish the raw materials and components used in the manufacturemanufacturing of its products. To maximize its buying effectiveness in the marketplace, the Company utilizes purchasing councilshas developed a central strategic sourcing group that consolidateconsolidates required purchases of materials and components across domestic business segments. The purchasing councilsstrategic sourcing group generally concentrateconcentrates purchases for a given material or component with one or two suppliers, although the Company believes there are alternative suppliers for all of its key raw material and component needs. Compressors, motors and controls constitute the Company’s most significant component purchases, while steel, copper and aluminum account for the bulk of the Company’s raw material purchases. The Company owns a 24.5% interest in a joint venture that manufactures compressors in the one and one-half1.5 to six and one-half6.5 horsepower range. This joint venture provides the Company with the majority of its domestic compressor requirements for its unitary residential and commercial cooling equipment.
Technology and Research and Development and Technology
The Company supports an extensiveAn important part of LII’s growth strategy is continued investment in research and product development program focusing on the development ofto both develop new products andas well as make improvements to its existing product lines. TheAs a result, the Company spent an aggregate of $40.3 million, $37.6 million $38.0 million and $38.2$38.0 million on research and development during 2005, 2004 and 2003, respectively. The Company has designated a number of its facilities as “centers for excellence” that are responsible for the research and 2002, respectively.development of core competencies vital to its success, such as heat transfer, indoor air quality and materials used in the construction and application of its products. Technological advances are disseminated from these “centers for excellence” to LII’s operating divisions, as appropriate. The Company uses advanced, commercially available computer-aided design, computer-aided manufacturing, computational fluid dynamics and other sophisticated software not only to streamline the design and manufacturing processes, but also to run complex computer simulations on a product design before a working prototype is created. The Company operates a full line of metalworking equipment and advanced laboratories certified by applicable industry associations.
Cyclical and Seasonal Nature of Business
Total Company sales and related segment income tend to be seasonally higher in the second and third quarters of the year because, in the U.S. and other North American markets,Canada, summer is the peak season for sales of air conditioning equipment and services.
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Patents and Trademarks
The Company holds numerous patents that relate to the design and use of its products. The Company considers these patents important, but no single patent is material to the overall conduct of its business. The Company’s policy is to obtain and protect patents whenever such action would be beneficial. The Company owns or licenses several trademarks it considers important in the marketing of its products, including Lennox®Lennox®, Armstrong Airtm, Ducanetm, Advanced Distributor Products®Products®,Aire-Flotm, AirEase®AirEase®, Concord®Concord®,Magic-Pak®, Superior®Superior®, Whitfield®Whitfield®, Earth Stovetm, Security Chimneystm, Service Experts®Experts®, Bohn®Bohn®, Larkintm, Climate Controltm, Chandler Refrigeration®Refrigeration®, Kirbytm, Heatcraft Worldwide Refrigerationtm, Lovelockstm, HK Refrigerationtm,Frigus-Bohntm andFriga-Bohntm.tm. These trademarks have no fixed expiration datesdate and the Company believes its rights in these trademarks are adequately protected.
Competition
Essentially all markets in which the Company participates are highly competitive. The most significant competitive factors facing the Company are product reliability, product performance, service and price, with the relative importance of these factors varying among its businesses. In its Service Experts segment, the Company faces competition from independent dealers, as well as dealers owned by utility companies and other consumer services providers. Listed below are some of the companies LII views as mainsignificant competitors in each segment it serves, with relevant brand names, when different than the company name, shown in parentheses.
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| | • | Residential Heating & Cooling — United Technologies Corp. (Carrier, Bryant)Bryant, Tempstar, Comfortmaker, Heil, Areoaire, Keeprite); Goodman Global Holdings, Inc.Manufacturing Company, L.P. (Janitrol, Amana); American Standard Companies Inc. (Trane, American Standard); Paloma Co., Ltd. (Rheem, Ruud); York International Corporation;Johnson Controls, Inc. (York, Weatherking); Nordyne (Westinghouse, Frigidaire, Tappan, Philco, Kelvinator, Gibson); HNI Corporation (Heatilator)(Heatilator, Heat-n-Glo); CFM Corporation (Majestic). |
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| | • | Commercial Heating & Cooling — United Technologies Corp. (Carrier); American Standard Companies Inc. (Trane); York International Corporation;Johnson Controls, Inc. (York); AAON, Inc.; Daikin Industries, Ltd.; McQuay International. |
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| | • | Service Experts — The ServiceMaster Company (ARS, AMS). |
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| | • | Refrigeration — United Technologies Corp. (Carrier); Ingersoll-Rand Company Limited (Hussmann); Tecumseh Products Company; Emerson Electric Co. (Copeland). |
Employees
As of January 1,December 31, 2005, the Company employed approximately 15,00016,000 employees, of whom approximately 3,900 of which5,000 were represented by unions.salaried and 11,000 were hourly. The number of hourly workers the Company employs may vary in order to match its labor needs during periods of fluctuating demand. Approximately 4,000 employees are represented by unions. The Company believes its relationships with its employees and with the unions representing somecertain of its employees are generally good and does not anticipate any material adverse consequences resulting from negotiations to renew any collective bargaining agreements. As previously
On October 6, 2005, Lennox Industries Inc., a subsidiary of the Company, announced thethat it had ratified a collective bargaining agreement with The International Union United Automobile, Aerospace and Agricultural Implement Workers of America (“UAW”) Local 893, Unit 11 with respect to its Marshalltown, Iowa manufacturing facility, a major manufacturer of residential air conditioning and heating equipment. The previous collective bargaining agreement between Lennox Industries Inc. and the United Auto Workers with respect to the Company’s Marshalltown, Iowa manufacturing facilityUAW expired by its terms on October 31, 2004. Although the agreement expired,2004; however, the employees at the Marshalltown facility are continuingcontinued to work under its terms. Althoughterms until the United Auto Workers have twice voted down a contract proposal, discussions between Lennox and the United Auto Workers regarding a replacementnew collective bargaining agreement are continuing.was ratified.
Environmental Regulation
The Company’s operations are subject to evolving and often increasingly stringent international, federal, state, and local laws and regulations concerning the environment. Environmental laws that affect or could affect the Company’s domestic operations include, among others, the National Appliance Energy Conservation Act of 1987, as amended (“NAECA”), the Clean Air Act, the Clean Water Act, the Resource Conservation and Recovery Act, the Comprehensive Environmental Response, Compensation and Liability Act, the Occupational Safety and Health Act, the National Environmental Policy Act, the Toxic
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Substances Control Act, any regulations promulgated under these acts and various other international, federal, state and local laws and regulations governing environmental matters. The Company believes it is in substantial compliance with such existing environmental laws and regulations. The Company’s non-United States operations are also subject to various environmental statutesregulations and regulations. Generally, these statutes and regulations impose operational requirements similar to those imposed in the United States. The Company believes it is in substantial compliance with applicable non-United States environmental statutes and regulations.
Refrigerants. There exists today international and country specific regulation to phase out the use of certain ozone depleting substances, including hydrochlorofluorocarbons, which are sometimes referred to as “HCFCs.” This development is of particular importance to the Company and its competitors because of the common usage of HCFCs as a refrigerant for air conditioning and refrigeration equipment. This phase out will not occur prior to 2010 and the Company has, and continues to, introduce new product offerings that replace HCFCs as the refrigerant fluid with an approved alternative. As discussed below, the Company does not believe implementation ofexpect that any compliance measures taken by the phase-out schedule for HCFCs contained in the current regulationsCompany will have a material adverse effect on its financial position or results of operations. The Company does believe, however, there will likely be continued pressure by the international environmental community to accelerate the phase-out schedule. The Company has been an active participant in the ongoing international dialogue on these issues and believes that it is well positioned to react to any changes in the regulatory landscape.
In 1987, the United States became a signatory to an international agreement titled the Montreal Protocol on Substances that Deplete the Ozone Layer. The Montreal Protocol requires its signatories to phase out HCFCs on a predictable and orderly basis. All countries in the developed world have become signatories to the Montreal Protocol. The manner in which these countries implement the Montreal Protocol and regulate HCFCs differs widely. The 1990 U.S. Clean Air Act amendments implement the Montreal Protocol by establishing a program to limit the production, importation and use of specified ozone depleting substances, including HCFCs currently used as refrigerants by the Company and its competitors. Under the Clean Air Act and implementing regulations, all HCFCs produced within the U.S. must be phased out in new equipment by 2010, and as used in servicing equipment by 2030. The Company believes these regulations, as currently in effect, will not have a material adverse effect on its operations.
The Company, together with major chemical manufacturers, is reviewing and addressing the potential impact of refrigerant regulations on its products. The Company believes the combination of products that presently utilize HCFCs and new products utilizing alternative refrigerants being phased in will allow it to offer a complete line of commercial and industrial products. Therefore, the Company does not foresee any material adverse impact on its businessCompany’s capital expenditures, earnings or competitive position as a result of the Montreal Protocol, the 1990 Clean Air Act amendments or their implementing regulations. However, the Company believes the implementation of severe restrictions on the production, importation or use of refrigerants the Company employs in larger quantities or acceleration of the current phase-out schedule could have such an impact on the Company and its competitors.fiscal 2006.
There is growing concern over the anthropogenic impact on global climate, often referred to as “global warming.” It is believed that new “alternative” refrigerants that are replacing the HCFCs possess a global warming potential and, therefore, must be managed wisely and contained hermetically within air-conditioning and refrigeration systems. The Company along with the HVACR industry is taking proactive steps to implement responsible use principles that adhere to the implementation of “best in class” practices to limit refrigerants from escaping to the atmosphere throughout the life span of equipment. Because HFC’s provide a higher degree of safety to consumers and employees and because HFCs provide a higher efficiency than other alternatives, the use of HFCs is an acceptable industry norm and this Company does not have greater exposure to these environmental concerns than it’s competitors. The leadership that this Company has taken to develop both, responsible use principles and responsible use guidelines demonstrates the commitment that it has toward environmental stewardship.
Energy Efficiency. The Company is subject to appliance efficiency regulations promulgated under the National Appliance Energy Conservation Act of 1987, as amended,NAECA and various state regulations concerning the energy efficiency
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of its products. As of January 23, 2006, all residential central air conditioners manufactured after such date must comply with a minimum 13 seasonal energy efficiency rating, or “SEER,” standard under NAECA. The Company has successfully developed and will continue to develop,energy-efficient products that comply with new National Appliance Energy Conservation Act regulations and does not believe that such regulations will have a material adverse effect on its business. In 1998, the United States Department of Energy began its review of national standards for comfort products covered under the National Appliance Energy Conservation Act. The National Appliance Energy Conservation Act regulations requiring manufacturers to phase in new higher efficiency products become effective in January 2006. Although the Company believes it is well positioned to comply with the new standards promulgated by the Department of Energy, the implementation of these standards could adversely affect the Company’s results of operations.meet this standard. Similar new standards are being promulgated for commercial air-conditioningair conditioning and refrigeration equipment. The Company is actively involved in participation of the development of these new standards and is prepared to have product in place in advance of the implementation of all thesuch regulations being considered.considered by the Department of Energy.
Refrigerants. The use of hydrochlorofluorocarbons, or “HCFCs,” as a refrigerant for air conditioning and refrigeration equipment is common practice in the industry. However, international and country specific regulations require the use of certain substances deemed to be ozone depleting, including HCFCs, to be
6
phased out over a particular period of time. Under the Clean Air Act and implementing regulations, the use of all HCFCs in new equipment within the U.S. must be phased out by 2010. The Company, together with major chemical manufacturers, is reviewing and addressing the potential impact of these regulations on its product offerings and has developed and continues to develop new products that replace the use of HCFCs with the widely accepted Hydroflurocarbons, or “HFCs,” and other approved substitutes. LII has been an active participant in the ongoing international dialogue on this subject and believes it is well positioned to react in a timely manner to any changes in the regulatory landscape. In addition, the Company is taking proactive steps to implement responsible use principles and guidelines with respect to limiting refrigerants from escaping into the atmosphere throughout the life span of HVAC and refrigeration equipment.
Remediation Activity. In addition to affecting the Company’s ongoing operations, applicable environmental laws can impose obligations to remediate hazardous substances at itsLII’s properties, at properties formerly owned or operated by the Company and at facilities to which it has sent or sends waste for treatment or disposal. The Company’s former Grenada facility, now part of a joint venture, is subject to an administrative order issued by the Mississippi Department of Environmental Quality under which the Company is conducting groundwater remediation. The expenditures from this groundwater remediation are not expected to materially affect the Company’s financial condition or results of operations. The Company is aware of contamination at some of its other facilities; however, the Company does not presently believe that any future remediation costs at such facilities will be material.material to the Company’s results of operations.
The Company has received notices in the past that it is a potentially responsible party along with other potentially responsible parties in Superfund proceedings under the Comprehensive Environmental Response, Compensation and Liability Act for cleanup of hazardous substances at certain sites to which the potentially responsible parties are alleged to have sent waste. Based on the facts presently known, the Company does not believe environmental cleanup costs associated with any Superfund sites where the Company has received notice that it is a potentially responsible party will be material.
Service Center Operations.European WEEE and RoHS Compliance. The heatingBeginning in August 2005, various electrical and cooling dealer service centers acquiredelectronic equipment sold in the United StatesEuropean Union (“EU”) is required to comply with the Directive on Waste Electrical and CanadaElectronic Equipment (“WEEE”) and, as of July 2006, such equipment must also comply with the Directive on Restriction of Use of Certain Hazardous Substances (“RoHS”). WEEE aims to prevent waste by encouraging reuse and recycling and RoHS restricts the use of six hazardous substances in electrical and electronic products. All HVAC and refrigeration products and certain components of such products “put in the market” in the EU (whether or not manufactured in the EU) are potentially subject to WEEE and RoHS. Because all HVAC and refrigeration manufacturers selling within or from the EU are subject to various federal, statethe standards promulgated under WEEE and local laws and regulations, including:
| | |
| • | permitting and licensing requirements applicable to service technicians in their respective trades; |
|
| • | building, heating, ventilation, air conditioning, plumbing and electrical codes and zoning ordinances; |
|
| • | laws and regulations relating to consumer protection, including laws and regulations governing service contracts for residential services; and |
|
| • | laws and regulations relating to worker safety and protection of the environment. |
A large number of state and local regulations governingRoHS, LII believes that neither WEEE nor RoHS uniquely impact the residential and commercial maintenance services trades require various permits and licensesCompany as compared to be held by individuals. In some cases, a required permit or license held by a single individual may be sufficient to authorize specified activities for allsuch other manufacturers. Similar directives are being introduced in other parts of the Company’s service technicians who workworld, including the United States. For example, the California Electronic Waste Recycling Act is already in effect and both China and Japan are expected to implement local equivalents to RoHS around the same time as the EU. The Company is actively monitoring the development of such directives and believes it is well positioned to comply with WEEE and RoHS as well as similar directives in the geographic area covered by the permit or license.required time frames.
Available Information
LII’s InternetThe Company’s web site address iswww.lennoxinternational.com. www.lennoxinternational.com. The Company makes available, free of charge through this web site, its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after such material is electronically filed with, or furnished to, the Securities and Exchange Commission. Information contained onCommission (the “SEC”).
Certifications
The Company’s Chief Executive Officer submitted the 2005 New York Stock Exchange (the “NYSE”) Annual CEO Certification regarding the Company’s website is not incorporated by reference into this Annual Report on Form 10-K or any of its other filingscompliance with the SEC.NYSE’s corporate governance listing standards to the NYSE on May 13, 2005.
The certifications of the Chief Executive Officer and Chief Financial Officer of the Company pursuant to Section 302 and Section 906 of the Sarbanes-Oxley Act of 2002 are filed and furnished, respectively, as exhibits to this Form 10-K.
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Executive Officers of the Company
The executive officers of the Company, their present positions and their ages are as follows:
| | | | | | | |
| Name | | Age | | | Position |
| | | | | | |
| John W. Norris, Jr. | | | 6970 | | | Chairman of the Board |
| Robert E. Schjerven | | | 6263 | | | Chief Executive Officer |
| Harry J. Ashenhurst, Ph.D | | | 5657 | | | Executive Vice President and Chief Administrative Officer and Interim President and Chief Operating Officer, Worldwide Refrigeration |
| Scott J. Boxer | | | 5455 | | | Executive Vice President and President and Chief Operating Officer, Service Experts |
| Susan K. Carter | | | 4647 | | | Executive Vice President and Chief Financial Officer and Treasurer |
| Linda A. Goodspeed | | | 4344 | | | Executive Vice President and Chief Technology Officer |
| Robert J. McDonough | | | 4546 | | | Executive Vice President and President and Chief Operating Officer, Worldwide Heating & Cooling |
Michael G. Schwartz | | | 46 | | | Executive Vice President and President and Chief Operating Officer, Worldwide Refrigeration |
| William F. Stoll, Jr. | | | 5657 | | | Executive Vice President, Chief Legal Officer and Secretary |
| David L. Inman | | | 5051 | | | Vice President, Controller and Chief Accounting Officer |
The following biographies describe the business experience of the Company’s executive officers:
John W. Norris, JrJr.., 69, was elected Chairman of the Board of Directors of the Company in 1991. He has served as a Directordirector of the Company since 1966. After joining the Company in 1960, Mr. Norris held a variety of key positions including Vice President of Marketing, President of Lennox Industries (Canada) Ltd., a subsidiary of the Company, and Corporate Senior Vice President. He became President of the Company in 1977 and was appointed President and Chief Executive Officer of the Company in 1980, and servedserving through 2001. Mr. Norris is on the Board of Directors of the Air-Conditioning & Refrigeration Institute, of which he was Chairman in 1986. He is also an active Board member of the Gas Appliance Manufacturers Association, where he was Chairman from 1980 to 1981. He is a past Chairman of The Nature Conservancy of Texas Board of Trustees. HeTrustees and also serves as a Directordirector of AmerUs Group Co., a life insurance and annuity company. Mr. Norris will retire from the Company’s Board of Directors effective July 21, 2006.
Robert E. Schjerven 62, was named Chief Executive Officer of the Company in 2001 and has served on the Board of Directors since that time. Prior to his electionappointment as Chief Executive Officer, of the Company, he served as Chief Operating Officer of the Company in 2000 and as President and Chief Operating Officer of Lennox Industries Inc., a subsidiary of the Company, from 1995 to 2000. He joined the Company in 1986 as Vice President of Marketing and Engineering for Heatcraft Inc., a subsidiary of the Company. From 1988 to 1991, he held the position of Vice President and General Manager of Heatcraft. From 1991 to 1995, he served as President and Chief Operating Officer of Armstrong Air Conditioning Inc., also a subsidiary of the Company. Mr. Schjerven spent the first 20 years of his career with The Trane Company, an international manufacturer and marketer of HVAC systems, and McQuay-Perfex Inc.
Harry J. Ashenhurst 56, was appointed Chief Administrative Officer in 2000. Dr. Ashenhurst joined the Company in 1989 as Vice President of Human Resources, was named Executive Vice President, Human Resources forof the Company in 1990 and in 1994 became Executive Vice President, Human Resources and Administration and assumed responsibility for the public relations and communications and aviation departments. Currently, Dr. Ashenhurst is also has responsibilitiesresponsible for risk management, corporate safety, facilities and government affairsaffairs. On June 2, 2005, Dr. Ashenhurst assumed additional responsibilities as interim President and investor relations.Chief Operating Officer of the Company’s Worldwide Refrigeration segment, while the Company
8
conducts an internal and external search for a permanent replacement. Prior to joining the Company, heDr. Ashenhurst worked as an independent management consultant with the consulting firm of Roher, Hibler and Replogle.
Scott J. Boxer 54, joined the Company in 1998 as Executive Vice President, Lennox Global Ltd., a subsidiary of the Company, and President, European Operations. He was appointed President of Lennox Industries Inc., a subsidiary of the Company, in 2000 and was named
10
President and Chief Operating Officer of the Company’s Service Experts segment in July 2003. Prior to joining the Company, Mr. Boxer spent 26 years with York International Corporation, a HVACR manufacturer, in various roles, most recently asincluding President, Unitary Products Group Worldwide, where he reported directly to the Chairman of that company and was responsible for directingdirected residential and light commercial heating and air conditioning operations worldwide. Mr. Boxer is an Executive Board Member of the Air-Conditioning & Refrigeration Institute and an Officer onChairman of the Board of Trustees of North American TechnicianTechnical Excellence, Inc.
Susan K. Carter 46, was appointed Executive Vice President and Chief Financial Officer and Treasurer in August 2004. Ms. Carter also served as Treasurer of the Company from August 2004 through September 2005. Prior to joining the Company, Ms. Carter was Vice President of Finance and Chief Accounting Officer of Cummins, Inc., a global power leader and manufacturer of engines, electric power generation systems, and engine-related products. Priorproducts from 2002 to her career at Cummins,2004. From 1996 to 2002, Ms. Carter had beenserved as Vice President and Chief Financial Officer of Transportation & Power Systems and held other senior financial management positions forat Honeywell, Inc., formerly AlliedSignal, Inc. from 1996 to 2002. She had also previously served in senior financial management positions at Crane Co., and DeKalb Corporation.
Linda A. Goodspeed 43, was appointed Executive Vice President and Chief Technology Officer effectivein September 2001. Prior to joining the Company, Ms. Goodspeed wasserved as President and Chief Operating Officer forof Partminer, Inc., a privately held electronics business-to-businessbusiness-to-business supply chain parts and service company. Before goingcompany from 2000 to Partminer,2001. Beginning her career in engineering with Ford Motor Company in 1984, Ms. Goodspeed had served since 1999 asmoved to Nissan research and development in 1989 and joined General Electric (“GE”) Appliances in 1996. She became GE’s Range Product Development Manager in 1997 and was promoted to Product General Manager of General Electric (GE) Appliances.in 1999. She also became General Manager in 1999 for Six Sigma, managing a team of 160 GE quality leaders spanning operations across the company. Beginning her career in engineering with Ford Motor Company in 1984, Ms. Goodspeed moved to Nissan research and development in 1989 and joined GE in 1996. She became GE’s Range Product Development Manager in 1997 and was promoted to Product General Manager in 1999.
Robert J. McDonough 45, was named President and Chief Operating Officer of Worldwide Heating & Cooling in July 2003. Previously, he had beenserved as President, Worldwide Refrigeration and International Operations since 2001. Mr. McDonough joined Heatcraft, Inc., a subsidiary of the Company, in 1990 as a Division Sales Manager, when the Company acquired Larkin Coils, as a Division Sales Manager.Coils. He was named Director of Sales in 1992 and became Vice President and General Manager of the Refrigeration Products Division in 1995. In 2000, he was appointed President, Worldwide Commercial Refrigeration. Previously heMr. McDonough held a number of sales positions at Larkin Coils before becoming National Sales Manager in 1987.
Michael G. Schwartz, 46, became President and Chief Operating Officer, Worldwide Refrigeration in July 2003. Prior to his current appointment, he had served as President, North American Distributed Products since 2000, and President and Chief Operating Officer of Armstrong Air Conditioning Inc. since 1997. Mr. Schwartz joined Heatcraft in 1990 when the Company acquired Bohn Heat Transfer Inc. and served as Director of Sales and Marketing, Original Equipment Manufacturer Products and Vice President of Commercial Products for Heatcraft Inc. where his responsibilities included the development of Heatcraft’s position in the A-Coil market. Mr. Schwartz began his career with Bohn Heat Transfer Inc. in 1981.
William F. Stoll, Jr.,56, became Executive Vice President, Chief Legal Officer and Secretary of the Company in March 2004. Most recently, Mr. Stoll served as Executive Vice President and Chief Legal Officer for Lennox International in March 2004. Most recently, Mr. Stoll was Executive Vice President and Chief Legal Officer forof Borden, Inc. from 1996 to 2003. Prior to his career with Borden, Inc., he worked for 21 years with Westinghouse Electric Corporation, becoming Vice President and Deputy General Counsel in 1993.
David L. Inman 50, was named Vice President, Controller and Chief Accounting Officer for the Company in 2001. Previously, he served as Vice President and Group Controller of North American Distributed Products from 2000 to 2001. Mr. Inman has held multiple positions in accounting, internal audit and financial systems within the Company since 1978 including Controller of Armstrong Air Conditioning Inc., a subsidiary of the Company.
Item 1A. Risk Factors
References in this item to “we,” “our” or “us” refer to Lennox International Inc. and its subsidiaries, unless the context requires otherwise.
9
Forward-Looking Statements
This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that are based on information currently available to management as well as management’s assumptions and beliefs. All statements, other than statements of historical fact, included in this Form 10-K constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including but not limited to statements identified by the words “may,” “will,” “should,” “plan,” “predict,” “anticipate,” “believe,” “intend,” “estimate” and “expect” and similar expressions. Such statements reflect our current views with respect to future events, based on what we believe are reasonable assumptions; however, such statements are subject to certain risks and uncertainties. In addition to the specific uncertainties discussed elsewhere in this Form 10-K, the risk factors set forth below may affect our performance and results of operations. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may differ materially from those in the forward-looking statements. We disclaim any intention or obligation to update or review any forward-looking statements or information, whether as a result of new information, future events or otherwise.
Risk Factors
The following risk factors and other information included in this Form 10-K should be carefully considered. We believe these are the principal material risks currently facing our business, however, additional risks and uncertainties not presently known to us or that we presently deem less significant may also impair our business operations. If any of the following risks actually occur, our business, financial condition or results of operations could be materially adversely affected.
| |
| Cooler than Normal Summers and Warmer than Normal Winters May Depress Our Sales. |
Demand for our products and for our services is strongly affected by the weather. Cooler than normal summers depress our sales of replacement air conditioning and refrigeration products and warmer than normal winters have the same effect on our heating products.
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| Implementation of the New Minimum Efficiency Standard for Residential Air Conditioners Mandated by NAECA Could Adversely Impact Our Results of Operations. |
We are subject to appliance efficiency regulations promulgated under NAECA and various state regulations concerning the energy efficiency of our products. As of January 23, 2006, all residential central air conditioners manufactured after such date must comply with a minimum 13 SEER standard under NAECA. This standard increased the minimum SEER standard by 30 percent. We are currently in compliance with the new standard; however, air conditioning products with ratings lower than 13 SEER manufactured prior to January 23, 2006 can continue to be sold legally after that date. Therefore, quantities of non-13 SEER compliant product that remain in the industry’s distribution pipeline after January 23, 2006 may have an adverse effect on our operating results during the 2006 cooling season. We are unable to predict the extent to which this may occur. Similar new standards are being promulgated for commercial air conditioning and refrigeration equipment. Implementation of the new 13 SEER minimum efficiency standard for residential air conditioners and any new standards for commercial air conditioning and refrigeration equipment could adversely impact our results of operations, due to lower factory productivity, increased costs of production and distribution, potential margin pressures, increased costs related to warranty and product liability claims and higher levels of working capital and we may not be able to realize the price increases required to offset the increases in cost of goods sold.
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| We May Incur Substantial Costs as a Result of Warranty and Product Liability Claims Which Could Negatively Affect Our Profitability. |
The development, manufacture, sale and use of our products involve risks of warranty and product liability claims. In addition, because we own installing heating and air conditioning dealers in the United
10
States and Canada, we incur the risk of liability claims for the installation and service of heating and air conditioning products. Our product liability insurance policies have limits that, if exceeded, may result in substantial costs that would have an adverse effect on our future profitability. In addition, warranty claims are not covered by our product liability insurance and certain product liability claims may not be covered by our product liability insurance either.
| |
| Our Business Could be Adversely Affected by an Economic Downturn. |
Our business is affected by a number of economic factors, including the level of economic activity in the markets in which we operate. Our sales in the residential and commercial new construction market correlate to the number of new homes and buildings that are built, which in turn is influenced by cyclical factors such as interest rates, inflation, consumer spending habits, employment rates and other macroeconomic factors over which we have no control. In the HVACR business, a decline in economic activity as a result of these cyclical or other factors typically results in a decline in new construction and replacement purchases, which could result in a decrease in our sales and profitability.
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| We May Not be Able to Compete Favorably in the Highly Competitive HVACR Business. |
Substantially all of the markets in which we operate are highly competitive. The most significant competitive factors we face are product reliability, product performance, service and price, with the relative importance of these factors varying among our product lines. Other factors that affect competition in the HVACR market include the development and application of new technologies, an increasing emphasis on the development of more efficient HVACR products, and new product introductions. Our competitors may have greater financial resources than we have, allowing them to invest in more extensive research and development and/or marketing activity. In addition, our Service Experts segment faces competition from independent dealers and dealers owned by utility companies and other consumer service providers, some of whom may be able to provide their products or services at lower prices than we can. We may not be able to compete successfully against current and future competitors and current and future competitive pressures may cause us to reduce our prices or lose market share, or could negatively affect our cash flow, which could have an adverse effect on our future financial results.
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| We May Not be Able to Successfully Develop and Market New Products. |
Our future success depends on our continued investment in research and new product development and our ability to commercialize new technological advances in the HVACR industry. If we are unable to continue to successfully develop and market new products or to achieve technological advances on a pace consistent with that of our competitors, our business and results of operations could be adversely impacted.
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| We Use a Variety of Raw Materials and Components in Our Business and Price Increases or Significant Supply Interruptions Could Increase Our Operating Costs and/or Depress Sales. |
We depend on raw materials, such as copper, aluminum and steel, and components purchased from third parties. We generally concentrate purchases for a given raw material or component with one or two suppliers. Although we believe there are alternative suppliers for all of our key raw material and component needs, if a supplier is unable or unwilling to meet our supply requirements, we could experience supply interruptions or cost increases, either of which could have an adverse effect on our gross profit. In addition, although we regularly pre-purchase a portion of our raw materials at a fixed price each year to hedge against price increases, a large increase in raw materials prices could significantly increase our cost of goods sold. Increases in the prices or quantities of raw materials or components we require or significant supply interruptions could affect the prices we charge for our products and services negatively impacting our competitive position, which may result in depressed sales.
11
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| Because a Significant Percentage of Our Workforce is Unionized, We Face Risks of Work Stoppages and Other Labor Relations Problems. |
As of December 31, 2005, approximately 24% of our workforce was unionized. As we expand our operations, we may be subject to increased unionization of our workforce. While we believe our relationships with the unions representing our employees are generally good, the results of future negotiations with these unions and the effects of any production interruptions or labor stoppages could have an adverse effect on our financial results.
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| We are Subject to Litigation and Environmental Regulations that Could Have an Adverse Effect on Our Results of Operations. |
We are involved in various claims and lawsuits incidental to our business, including those involving product liability, labor relations and environmental matters, some of which claim significant damages. Given the inherent uncertainty of litigation, we cannot be certain that existing litigation or any future adverse developments will not have a material adverse impact on our financial condition. In addition, we are subject to extensive and changing federal, state and local laws and regulations designed to protect the environment. These laws and regulations could impose liability for remediation costs and civil or criminal penalties in cases of non-compliance. Compliance with environmental laws increases our costs of doing business. Because these laws are subject to frequent change, we are unable to predict the future costs resulting from environmental compliance.
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| Any Future Determination that a Significant Impairment of the Value of Our Goodwill Intangible Asset has Occurred Could Have a Material Adverse Affect on Our Results of Operations. |
As of December 31, 2005, we had goodwill, net of accumulated amortization, of approximately $223.9 million on our Consolidated Balance Sheet. Any future determination that a significant impairment of the value of goodwill has occurred would require a write-down of the impaired portion of unamortized goodwill to fair value, which would reduce our assets and stockholders’ equity and could have a material adverse affect on our results of operations.
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| We May Not be Able to Successfully Integrate and Operate Businesses that We may Acquire. |
From time to time, we may seek to complement or expand our business through strategic acquisitions. The success of these transactions will depend, in part, on our ability to integrate and operate the acquired businesses profitably. If we are unable to successfully integrate acquisitions with our operations, we may not realize the anticipated benefits associated with such transactions, which could adversely affect our business and results of operations.
12
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| Item 1B. | Unresolved Staff Comments |
None.
Real Property and Leases
The following chart lists the Company’s major domestic and international manufacturing, distribution and office facilities and indicates the business segment that uses such facilities, the approximate size of such facilities and whether such facilities are owned or leased:
| | | | | | | | | | | |
| Location | | Segment | | Approx. Sq. Ft. | | | Owned/Leased | |
| | | | | | | | | |
| | | | | (inIn thousands) | | | |
| Richardson, TX | | Headquarters | | | 311 | | | | Owned & Leased | |
| Marshalltown, IA | | Residential Heating & Cooling | | | 1,300 | | | | Owned & Leased | |
| Bellevue, OH | | Residential Heating & Cooling | | | 613 | | | | Owned | |
| Blackville, SC | | Residential Heating & Cooling | | | 375 | | | | Owned | |
| Orangeburg, SC | | Residential Heating & Cooling | | | 329 | | | | Owned | |
| Grenada, MS | | Residential Heating & Cooling | | | 300 | | | | Leased | |
| Union City, TN | | Residential Heating & Cooling | | | 295 | | | | Owned | |
| Lynwood, CA | | Residential Heating & Cooling | | | 200 | | | | Leased | |
Burlington, WA | | Residential Heating & Cooling | | | 120 | | | | Owned | |
| Orange, CA | | Residential Heating & Cooling | | | 67 | | | | Leased | |
| Laval, Canada | | Residential Heating & Cooling | | | 152 | | | | Owned | |
| Des Moines, IA | | Residential & Commercial
Heating & Cooling | | | 352 | | | | Leased | |
| Stuttgart, AR | | Commercial Heating & Cooling | | | 500 | | | | Owned | |
| Prague, Czech Republic | | Commercial Heating & Cooling | | | 161 | | | | Owned | |
| Longvic, France | | Commercial Heating & Cooling | | | 133 | | | | Owned | |
| Mions, France | | Commercial Heating & Cooling | | | 129 | | | | Owned | |
| Burgos, Spain | | Commercial Heating & Cooling | | | 71 | | | | Owned | |
| Danville, IL | | Refrigeration | | | 322 | | | | Owned | |
| Tifton, GA | | Refrigeration | | | 232 | | | | Owned | |
| Stone Mountain, GA | | Refrigeration | | | 145 | | | | Owned | |
| Milperra, Australia | | Refrigeration | | | 412 | | | | Owned | |
| Genas, France | | Refrigeration | | | 172 | | | | Owned | |
| San Jose dos Campos, Brazil | | Refrigeration | | | 160 | | | | Owned | |
| Auckland, New Zealand | | Refrigeration | | | 80 | | | | Owned | |
| Barcelona, Spain | | Refrigeration | | | 65 | | | | Leased | |
| Krunkel, Germany | | Refrigeration | | | 48 | | | | Owned | |
Wuzi,Wuxi, China | | Refrigeration | | | 23 | | | | Owned | |
| Carrollton, TX | | Research & Development facility | | | 130 | | | | Owned | |
In addition to the properties described above and excluding dealer facilities, the Company leases over 55 facilities in the United States for use as sales offices and district warehouses and additional facilities worldwide for use as sales and service offices and regional warehouses. The vast majority of the Company-owned service center facilities in LII’s Service Experts segment are leased and the remainders are owned.leased. The Company believes that its properties are in good condition, suitable and adequate for its present requirements. The Company also believesrequirements and that its principal plants are generally adequate to meet its production needs.
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As previously disclosed, on February 7, 2006, Allied Air Enterprises, a division of LII’s Heating & Cooling business, announced that it has commenced plans to close its current operations in Bellevue, Ohio. The consolidation will be a phased process expected to be completed by the end of the first quarter of fiscal 2007.
The Company is involved in various claims and lawsuits incidental to its business. In addition, the Company and its subsidiary Heatcraft Inc. have been named in four lawsuits in connection with its former heat transfer operations. The lawsuits allege personal injury resulting from alleged emissions of trichloroethylene, dichloroethylene, and vinyl chloride and other unspecified emissions from the South Plant in Grenada, Mississippi, previously owned by Heatcraft Inc. The Mississippi Supreme Court has ordered that these four lawsuits be severed and transferred to Grenada County. This will require plaintiffs’ counsel to maintain a separate lawsuit for each of the approximately 112 original plaintiffs. Since the court order, there has been no action taken towards instigating the individual lawsuits. It is not possible to predict with certainty the outcome of these matters or an estimate of any potential loss; however, basedloss. Based on present knowledge, management believes that it is unlikely that any final resolution of these matters will result in a material liability for the Company. As of December 31, 2004, no accrual has been made for these matters. The Company anticipates the future legal fees in defense of these matters could be significant.
As more fully described under “Item 9A — Controls and Procedures,” inIn March 2004, the Company announced that the Audit Committee of the Company’s Board of Directors initiated an independent inquiry into certain accounting matters related to the Company’s Canadian service centers in its Service Experts operations.segment. Immediately prior to such announcement, the Company contacted the Fort Worth office of the SEC to inform them of the existence and details of such allegations and the related independent inquiry. Independent counsel for the Audit Committee communicated the results of the independent inquiry to the SEC. On January 31, 2005, the Company announced the SEC investigation was converted to a formal status and the Company continues to fully cooperate with the SEC by producing information and documentation in response to requests from the SEC. The Company is unable to predict the ultimate outcome of this matter.
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| Item 4. | Submission of Matters to a Vote of Security Holders |
The Company’s 2004 Annual MeetingNo matters were submitted to a vote of Stockholders (“Annual Meeting”) was held on November 16, 2004. Atstockholders of the Annual Meeting,Company during the Company’s stockholders elected five directors with terms expiring at the Company’s Annual Meetingfourth quarter of Stockholders in 2007.
The following sets forth the results of voting at the Annual Meeting for the election of directors*:
| | | | | | | | | | | | | |
| Directors | | For | | | Withheld | | | Abstentions | |
| | | | | | | | | | |
| Janet K. Cooper | | | 42,488,356 | | | | 2,865,626 | | | | * | |
| C.L. (Jerry) Henry | | | 44,033,050 | | | | 1,320,932 | | | | * | |
| Robert E. Schjerven | | | 41,009,093 | | | | 4,344,889 | | | | * | |
| Terry D. Stinson | | | 40,893,725 | | | | 4,460,257 | | | | * | |
| Richard L. Thompson | | | 44,755,341 | | | | 598,641 | | | | * | |
| |
* | With respect to the election of Directors, the form of proxy permitted stockholders to check boxes indicating votes with “For” or “Withhold Authority,” or to vote “Exceptions” and to name exceptions. Votes relating to directors designated above as “Withheld” include votes cast as “Withhold Authority” and for named exceptions. |
Following the Annual Meeting, Thomas W. Booth, James J. Byrne, John W. Norris III, and John W. Norris Jr., having terms expiring in 2005, and Linda G. Alvarado, Steve R. Booth, David V. Brown, John E. Major and Walden W. O’Dell, having terms expiring in 2006, continued in office.fiscal 2005.
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PART II
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| Item 5. | Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |
The Company’s common stock is listed for trading on the New York Stock Exchange under the symbol “LII.” The high and low sales prices for the Company’s common stock for each quarterly period during 2005 and 2004 were as follows:
| | | | | | | | | | | | | | | | | |
| | | Price Range Per Common Share | |
| | | | |
| | | 2005 | | | 2004 | |
| | | | | | | |
| | | High | | | Low | | | High | | | Low | |
| | | | | | | | | | | | | |
| First Quarter | | $ | 22.99 | | | $ | 19.33 | | | $ | 19.22 | | | $ | 14.75 | |
| Second Quarter | | | 22.41 | | | | 18.65 | | | | 19.26 | | | | 15.34 | |
| Third Quarter | | | 27.42 | | | | 20.50 | | | | 18.31 | | | | 14.74 | |
| Fourth Quarter | | | 30.60 | | | | 24.81 | | | | 20.50 | | | | 13.97 | |
During 2005 and 2003 are set forth in Note 15 of the Notes to Consolidated Financial Statements on page 66 herein. During 2004, and 2003, the Company declared quarterly cash dividends as set forth in Note 15 of the Notes to Consolidated Financial Statements on page 66 herein. The quarterly dividend declared in December 2004 was paid on January 10, 2005.below:
| | | | | | | | | |
| | | Dividends per | |
| | | Common Share | |
| | | | |
| | | 2005 | | | 2004 | |
| | | | | | | |
| First Quarter | | $ | 0.10 | | | $ | .095 | |
| Second Quarter | | | 0.10 | | | | .095 | |
| Third Quarter | | | 0.10 | | | | .095 | |
| Fourth Quarter | | | 0.11 | | | | .100 | |
| | | | | | | |
| Fiscal Year | | $ | 0.41 | | | $ | 0.385 | |
| | | | | | | |
The amount and timing of dividend payments are determined by the Company’s Board of Directors and subject to certain restrictions under the Company’s credit agreements. As of the close of business on February 18, 2005,27, 2006, there were approximately 11,500 beneficial879 record holders of the Company’s common stock.
The Company expects quarterly dividends will continue to be paid in 2006. On February 28, 2005,March 13, 2006, the Company’s Board of Directors approved a cash dividend of $0.10$0.11 per share of outstanding common stock. The dividend will be paid on April 8, 20057, 2006 to all common shareholdersstockholders of record as of March 25, 2005.
Equity Compensation Plans Information24, 2006.
The information inOn September 19, 2005, the sectionCompany announced that the Board of Directors (i) authorized a stock repurchase program, pursuant to which the Company may repurchase up to ten million shares of the Company’s common stock, from time to time, through open market-purchases; and (ii) terminated a prior repurchase program that was announced November 2, 1999. In the fourth quarter of 2005, Proxy Statement captioned “Equity Compensation Plans Information” is incorporated in this Item 5 by reference.the Company made the following repurchases of common stock under the new stock repurchase program:
| | | | | | | | | | | | | | | | | |
| | | | | | | Total Number of | | | Maximum Number | |
| | | Total | | | | | Shares Purchased as | | | of Shares that may | |
| | | Number of | | | Average Price | | | Part of Publicly | | | yet be Purchased | |
| | | Shares | | | Paid per Share | | | Announced Plans or | | | Under the Plans or | |
| Period | | Purchased | | | (including fees) | | | Programs | | | Programs | |
| | | | | | | | | | | | | |
October 1 through
October 31 | | | — | | | $ | — | | | | — | | | | 10,000,000 | |
| November 1 through November 30 | | | 447,400 | | | $ | 28.65 | | | | 447,400 | | | | 9,552,600 | |
| December 1 through December 31 | | | — | | | $ | — | | | | — | | | | 9,552,600 | |
| | | | | | | | | | | | | |
| Total | | | 447,400 | | | $ | 28.65 | | | | 447,400 | | | | 9,552,600 | |
| | | | | | | | | | | | | |
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| |
| Item 6. | Selected Financial Data (unaudited) |
The table below shows the selected financial data of the Company for the five years ended December 31, 2004:2005:
| | | | | | | | | | | | | | | | | | | | | | | |
| | | For the Year Ending December 31, | | | For the Year Ended December 31, | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2002 | | | 2001 | | | 2000 | | | 2005 | | | 2004 | | | 2003 | | | 2002 | | | 2001 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | (In millions, except per share data) | | | (In millions, except per share data) | |
Statements of Operations Data | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Net Sales | | $ | 2,982.7 | | $ | 2,789.9 | | $ | 2,727.4 | | $ | 2,802.7 | | $ | 2,928.1 | | | $ | 3,366.2 | | $ | 2,982.7 | | $ | 2,789.9 | | $ | 2,727.4 | | $ | 2,802.7 | |
Operational (Loss) Income From Continuing Operations(1) | | | (36.6 | ) | | | 157.8 | | | 101.3 | | | (7.3 | ) | | | 137.4 | | | | 253.4 | | | (36.6 | ) | | | 157.8 | | | 101.3 | | | (7.3 | ) |
(Loss)Income From Continuing Operations(1) | | | (93.5 | ) | | | 86.7 | | | (209.5 | ) | | | (46.6 | ) | | | 44.6 | | |
Net (Loss) Income(1) | | | (134.4 | ) | | | 86.4 | | | (203.5 | ) | | | (40.6 | ) | | | 59.3 | | |
| Diluted (Loss) Earnings Per Share From Continuing Operations | | | (1.56 | ) | | | 1.36 | | | 0.66 | | | (0.83 | ) | | | 0.79 | | |
| Income (Loss) From Continuing Operations | | | | 152.1 | | | (93.5 | ) | | | 86.7 | | | (209.5 | ) | | | (46.6 | ) |
| Net Income (Loss) | | | | 150.7 | | | (134.4 | ) | | | 86.4 | | | (203.5 | ) | | | (40.6 | ) |
| Diluted Earnings (Loss) Per Share From Continuing Operations | | | | 2.13 | | | (1.56 | ) | | | 1.36 | | | 0.66 | | | (0.83 | ) |
| Dividends Per Share | | | 0.385 | | | 0.38 | | | 0.38 | | | 0.38 | | | 0.38 | | | | 0.41 | | | 0.385 | | | 0.38 | | | 0.38 | | | 0.38 | |
| | |
Other Data | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Capital Expenditures | | $ | 40.3 | | $ | 39.7 | | $ | 22.4 | | $ | 16.6 | | $ | 56.7 | | | $ | 63.3 | | $ | 40.3 | | $ | 39.7 | | $ | 22.4 | | $ | 16.6 | |
| Research & Development Expenses | | | 37.6 | | | 38.0 | | | 38.2 | | | 37.3 | | | 36.5 | | | | 40.3 | | | 37.6 | | | 38.0 | | | 38.2 | | | 37.3 | |
Balance Sheet Data | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total Assets(1) | | $ | 1,518.6 | | $ | 1,720.1 | | $ | 1,510.9 | | $ | 1,793.4 | | $ | 2,051.4 | | |
| Total Assets | | | $ | 1,737.6 | | $ | 1,518.6 | | $ | 1,720.1 | | $ | 1,510.9 | | $ | 1,793.4 | |
| Total Debt | | | 310.5 | | | 362.3 | | | 379.9 | | | 517.8 | | | 690.5 | | | | 120.5 | | | 310.5 | | | 362.3 | | | 379.9 | | | 517.8 | |
Stockholders’ Equity(1) | | | 472.9 | | | 577.7 | | | 433.6 | | | 654.0 | | | 739.5 | | |
| Stockholders’ Equity | | | | 794.4 | | | 472.9 | | | 577.7 | | | 433.6 | | | 654.0 | |
In 2004, the Company recorded a non-cash goodwill impairment charge of $208.0 million, which is included as a component of operating income in the accompanying Consolidated Statements of Operations. Upon the adoption of Statement of Financial Accounting Standards No. 142 “Goodwill and Other Intangible Assets” (“SFAS No. 142”) on January 1, 2002, the Company recorded a $283.7 million ($247.9 million, net of tax) goodwill impairment charge. See further discussion in Note 2 — Summary of Significant Accounting Policies in the Notes to the Consolidated Financial Statements.
Note:
| |
(1) | In the fourth quarter of 2004, the Company changed to equity accounting for its investment in one of its affiliates. The Company has adjusted prior years information to reflect this change. The change increased prior year earnings of affiliates by $2.0 million in 2003, $1.5 million in 2002, $1.8 million in 2001 and |
14
| |
| $0.2 million in 2000. The change also increased the Company’s stockholders’ equity by $5.4 million in 2003, $3.3 million in 2002, $1.7 million in 2001 and $0.2 million in 2000. |
| |
| Item 7. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
Overview
LIILennox International Inc. (“LII” or the “Company”) participates in four reportable business segments of the heating, ventilation, air conditioning and refrigeration (“HVACR”) industry. The first reportable segment is Residential Heating & Cooling, in which LII manufactures and markets a full line of heating, air conditioning and Hearth Productshearth products for the residential replacement and new construction markets in the United States and Canada. The second reportable segment is Commercial Heating & Cooling, in which LII manufactures and sells primarily rooftop products and related equipment for light commercial applications.applications in the United States and primarily rooftop products, chillers and air handlers in Europe. Combined, the Residential Heating & Cooling and Commercial Heating & Cooling segments form LII’s Heating and& Cooling business. The third reportable segment is Service Experts, which includes sales and installation of, and maintenance and repair services for, HVAC equipment. The fourth reportable segment is Refrigeration, in which LII manufactures and sells unit coolers, condensing units and other commercial refrigeration products.
Improving the performance of the Service Experts business segment remains a top priority of LII’s management. In the first fiscal quarter of 2004, LII’s Board of Directors approved a turnaround plan designed to improve the performance of its Service Experts business segment. The plan realigns Service Experts’ dealer service centers to focus on service and replacement opportunities in the residential and light commercial markets. LII identified 130 dealer service centers, whose primary business is residential and light commercial service and replacement, which comprise the ongoing Service Experts business segment. As of the end of 2004, LII has divested the remaining 48 centers (47 existing centers plus a branch of an ongoing center), in addition to the previously announced closure of four centers. The 48 centers that are no longer a part of Service Experts have been classified as a discontinued business. See “Results of Operations — Year Ended December 31, 2004 Compared to Year Ended December 31, 2003 — Loss from Discontinued Operations” for more detail regarding Service Experts’ discontinued operations.
In addition to the realignment of dealer service centers discussed above, the Service Experts business segment continues the implementation of a program focused on the sharing of best practices across all residential service and replacement service centers. This rollout began mid-year in 2003 and was completed at most of the U.S. service centers in the third quarter of 2004. Rollout of the program to the Service Experts Canadian service centers has commenced and completion is expected by the end of 2005. The deployment of a common information technologies (“IT”) system in Service Experts Canadian service centers was completed in the third quarter of 2004. This IT system facilitates the consolidation of service center accounting functions as well as the tracking of key performance indicators used in the best practices program described above. Item 9A “Controls and Procedures” also contains a listing of actions that have been implemented and continue to be implemented in the Service Experts business segment.
During the first quarter of 2004, LII conducted fair-value-based tests, which are required at least annually by Statement of Financial Accounting Standards No. 142 “Goodwill and Other Intangible Assets” (“SFAS No. 142”), and determined that the carrying value of Service Experts’ goodwill exceeded its fair value. As a result, LII recorded a pre-tax, non-cash charge of $208.0 million for the year ended December 31, 2004 in the Company’s Service Experts business segment. The impairment charge was driven primarily by lower than expected operating results as well as the turnaround plan discussed above. The tax benefit of this charge was $23.2 million. The $208.0 million pre-tax goodwill impairment charge is included in LII’s operating loss from continuing operations for the year ended December 31, 2004. Subsequent to the recognition of the $208.0 million goodwill impairment under SFAS No. 142 and as part of the realignment of service centers discussed above, LII also recognized $14.8 million in pre-tax goodwill impairment included in its $38.9 million pre-tax loss on discontinued operations under Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS No. 144”), resulting in a total pre-tax goodwill impairment charge of $222.8 million for the year ended December 31, 2004.
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LII’s customers include distributors, installing dealers, property owners, national accounts and original equipment manufacturers. LII recognizes sales revenue when products are shipped or when services are rendered. The demand for LII’s products and services is influenced by national and regional economic and demographic factors, such as interest rates, the availability of financing, regional population and employment trends, new construction, general economic conditions and consumer confidence. In addition to economic cycles, demand for LII’s products and services is seasonal and dependent on the weather. Hotter than normal
16
summers generate strong demand for replacement air conditioning and refrigeration products and services and colder than normal winters have the same effect on heating products and services. Conversely, cooler than normal summers and warmer than normal winters depress HVACR sales and services.
The principal components of cost of goods sold in LII’s manufacturing operations are component costs, raw materials, factory overhead, labor and estimated costs of warranty expense. In LII’s Service Experts segment, the principal components of cost of goods sold are equipment, parts and supplies and labor. The principal raw materials used in LII’s manufacturing processes are steel, copper and aluminum. Higher prices for these commodities and related components continue to present a challenge to LII. Commodity prices and related component costs in LII’s manufacturing businesses increased by approximately $67 million for the year ended December 31, 2005 compared to the same period in 2004. LII partially mitigated the impact of risinghigher commodity prices in 20042005 through a combination of price increases, commodity futures contracts, improved production efficiency and cost reduction initiatives, hedging programs and price increases. LII anticipates that it will continue to at least partially mitigate rising commodity prices in 2005 in a similar manner.initiatives. Warranty expense is estimated based on historical trends and other factors.
On January 1, 2002, LII adopted SFAS No. 142, and recordedContinuing to improve the performance of the Service Experts business segment remains a $283.7 million impairment of goodwill ($247.9 million, net of taxes). The impairment charge related primarily to the 1998 to 2000 acquisitionstop priority of LII’s management. Initiatives within the Service Experts and Hearth Products operations, where lower than expected operating results occurred.
During August 2002, LII formed joint ventures with Outokumpu Oyj of Finland (“Outokumpu”). Outokumpu purchased a 55% interest in the Company’s former Heat Transfer business segment in 2005 included increasing focus on revenue generating activities and continuing to strengthen the U.S.leadership at Service Experts through its general manager development program. This general manager development program graduated its first class in the latter part of 2004 and Europe for $55 million in cashits second class during the first quarter of 2005. A third class graduated during the fourth quarter of 2005. These general managers have assumed leadership positions at dealer service centers.
Notable events impacting LII’s financial condition and notes, with LII retaining 45% ownership. The net after-tax gain on the sale and the related expenses and charges was $6.4 million. LII accounts for its remaining 45% ownership interest using the equity method of accounting. The Company currently reports the historical results of operations in 2005 include, without limitation, the following:
| | |
| • | Due to competitive cost pressures, on April 4, 2005, Lennox Hearth Products Inc., a subsidiary of the Company, commenced plans to relocate its Whitfield pellet stove and Lennox cast iron stove product lines from Burlington, Washington to a third party production facility in Juarez, Mexico, discontinue its existing steel wood stove line manufactured in Burlington and close the Burlington facility. These actions were substantially complete as of December 31, 2005. In connection with the plant closure, the Company recorded pre-tax restructuring charges of $2.4 million for the year ended December 31, 2005, which are included in Restructuring Charge in the accompanying Consolidated Statements of Operations. The tax benefit of this charge was $0.8 million. |
|
| • | On June 7, 2005, the Company completed the sale of its 45% interest in its heat transfer joint venture to Outokumpu Copper Products OY of Finland (Outokumpu) for $39.3 million and the Company recorded a pre-tax gain of $9.3 million for the year ended December 31, 2005, which is included in (Gains), Losses and Other Expenses, Net in the accompanying Consolidated Statements of Operations. The income tax provision on this gain was $2.3 million. In connection with the sale, the Company entered into an agreement with Outokumpu related to joint remediation of certain existing environmental matters. In conjunction with the new agreement, the Company updated its estimate of its portion of the on-going remediation costs and recorded pre-tax expenses of $2.2 million for the year ended December 31, 2005. The income tax benefit of the remediation expenses was $0.8 million. |
|
| • | As of July 1, 2005, LII adopted Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”), using the modified-prospective-transition method. The cumulative effect of the change in accounting principle related to the adoption of SFAS No. 123R was not material for the year ended December 31, 2005. Under the standard, companies are required to recognize compensation cost for share-based compensation issued to or purchased by employees, net of estimated forfeitures, under stock-based compensation plans using a fair-value-based method effective not later than January 1, 2006. As permitted by SFAS No. 123R, the Company adopted the standard early. For more information, see Note 2 — Summary of Significant Accounting Policies —Stock-Based Compensationin the Notes to Consolidated Financial Statements. |
|
| • | On September 7, 2005, the Company called for redemption all of its outstanding 6.25% convertible subordinated notes due 2009 (“Convertible Notes”) on October 7, 2005. The redemption price was |
17
| | |
| | 103.571% of the principal amount, plus accrued and unpaid interest to the redemption date. As of September 7, 2005, there was $143.75 million aggregate principal amount of Convertible Notes outstanding, which could be converted into the Company’s common stock at a rate of 55.2868 shares of common stock per $1,000 principal amount of Convertible Notes at anytime before the close of business on the business day prior to the redemption date. As of October 6, 2005, the holders of all of the Convertible Notes had converted the Convertible Notes into an aggregate of approximately 7.9 million shares of common stock. |
|
| • | On September 19, 2005, LII announced its Board of Directors had authorized a stock repurchase program, pursuant to which the Company may repurchase up to ten million shares of its common stock, and had terminated a prior repurchase program that was announced November 2, 1999. Purchases under the stock repurchase program are made on an open-market basis at prevailing market prices. The timing of any repurchases depends on market conditions, the market price of LII’s common stock and management’s assessment of the company’s liquidity needs and investment requirements and opportunities. No time limit was set for completion of the program and there is no guarantee as to the exact number of shares that will be repurchased. As of December 31, 2005, LII had repurchased 447,400 shares of its common stock. |
|
| • | In 2005, management successfully managed the transition to the new National Appliance Energy Conservation Act regulation requiring a 13 seasonal energy efficiency rating, or “SEER,” standard for residential central air conditioners. This standard, which applies to central air conditioners manufactured after January 23, 2006, increased by 30 percent the minimum SEER standard that applied to models produced prior to January 23, 2006. Although this new standard created several engineering, manufacturing and marketing challenges for the Company, the Company successfully met the new regulation by January 23, 2006. Air-conditioning products with ratings lower than 13 SEER manufactured prior to January 23, 2006 can continue to be sold legally after such date. It is possible that quantities of non-13 SEER compliant product may remain in the industry’s distribution pipeline after January 23, 2006 and this may have an adverse effect on operating results during the 2006 cooling season. However, management is unable to predict the extent to which this may occur. The Company used the new standard as an opportunity to redesign its entire line of cooling products to standardize product platforms across its brands and to integrate other improvements in its products. For the twelve months ended December 31, 2005, expenditures for property, plant and equipment (“Capital Spending”) of $63.3 million were driven in part by expenditures in connection with this redesign effort. The Company expects carry-over Capital Spending of approximately $3.9 million related to this redesign effort to occur early in 2006. |
At December 31, 2005 and 2004, LII’s projected benefit obligation for its pension plans exceeded the fair value of the plans’ assets by $69.6 million and $75.9 million, respectively. These unfunded obligations may fluctuate due to changes in discount rates, changes in assumptions and estimates and changes in investment returns of plan assets. LII’s pension expense has increased from $10.0 million for the year ended December 31, 2004 to $11.0 million for the year ended December 31, 2005. LII is projecting an additional $1 million to $2 million of pension expense in 2006 based on updated mortality tables and demographic assumptions and discount rate and return on plan assets assumptions of 5.75% and 8.25%, respectively.
LII’s annual pension expense is determined in accordance with the actuarial and accounting requirements of Statement of Financial Accounting Standards No. 87, “Employers’ Accounting for Pensions”, and No. 88, “Employers’ Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits”, and cannot be finalized until year-end. In future years beyond 2006, LII expects pension expense to stabilize and then decrease as contributions are made, assuming a constant 5.75% discount rate and an 8.25% return on plan assets.
LII expects to make required contributions to its former Heat Transfer business segmentpension plans to maintain the funded status in future years. Due to the “Corporate and other” business segment.fluid nature of current pension funding law, LII cannot currently determine the amount or timing of these contributions. The cash flow required to fund the plans in accordance with minimum funding standards is not expected to impact LII’s ability to operate. For the year ended December 31, 2005, LII’s
18
employer contribution to its pension plans totaled $29.8 million, of which $25.2 million was discretionary. LII will evaluate additional discretionary contributions throughout 2006; however, no discretionary contributions for 2006 are planned at this time.
LII’s fiscal year ends on December 31 of each year and its interim fiscal quarters are each comprised of 13 weeks. For convenience, throughout this Management’s Discussion and Analysis of Financial Condition and Results of Operations, the13-week periods comprising each fiscal quarter are denoted by the last day of the calendar quarter.
Accounting for Futures Contracts
In connection with the completion of 2005 year-end procedures related to the accounting for futures contracts for copper and aluminum, the Company determined that these futures contracts, previously designated as cash flow hedges, did not qualify for hedge accounting under Statement of Financial Accounting Standards No. 133 “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”), as the Company’s documentation did not meet the criteria specified by SFAS No. 133 in order for the hedging instruments to qualify for cash flow designation. This determination resulted in two different types of adjustments to the Company’s consolidated financial statements for the year ended December 31, 2005.
First, the Company recorded an unrealized gain of $23.3 million pre-tax, or $14.9 million after-tax, in (Gains), Losses and Other Expenses, net in the accompanying Consolidated Statements of Operations. This resulted in an increase in net income of $6.1 million, or $0.08 per share, in the first quarter of 2005, which included $6.4 million of net income impact related to open futures contracts as of December 31, 2004. Additionally, this resulted in a decrease in net income of $3.5 million, or $0.05 per share, in the second quarter of 2005; and an increase in net income of $6.3 million, or $0.09 per share, in the third quarter of 2005, by releasing amounts previously recorded in the Accumulated Other Comprehensive Income (Loss) component of Stockholders’ Equity. The cumulative impact to previously reported earnings for the nine-month period ended September 30, 2005 is an increase of $8.9 million. A positive impact to net income of $6.0 million, or $0.08 per share, also resulted in the fourth quarter of 2005. The Company had previously recorded this unrealized gain in Accumulated Other Comprehensive Income in the accompanying Consolidated Balance Sheets.
Second, the Company realized gains of $16.7 million pre-tax, or $10.7 million after-tax, related to settled futures contracts, which are also recorded in (Gains), Losses and Other Expenses, net in the accompanying Consolidated Statements of Operations. Of these gains, $8.8 million was previously included in Cost of Goods Sold for the nine-month period ended September 30, 2005 and should have been included in (Gains), Losses and Other Expenses, net in the accompanying Consolidated Statements of Operations. The amounts that had been included in Cost of Goods Sold were $2.0 million, $2.8 million, and $4.0 million for the first, second, and third quarters of 2005, respectively, and had no impact on previously reported net income. For the fourth quarter of 2005, and $8.0 million gain was recorded in (Gains), Losses and Other Expenses, net.
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These adjustments did not affect the Company’s cash flows and the impact on results for all periods presented prior to 2005 was not material. As a result of these adjustments, the Company’s Consolidated Statements of Operations for the quarters ended March 31, June 30, and September 30, 2005 and the Consolidated Balance Sheets as of March 31, June 30, and September 30, 2005 were restated. The following table provides the impact on previously reported amounts within the Company’s first, second and third quarters of 2005 related to the Company’s accounting for futures contracts for copper and aluminum. Amounts are in millions and items in parenthesis represent a decrease from the amounts previously reported.
| | | | | | | | | | | | | | |
| | | For the Three Months Ended | |
| | | | |
| | | March 31, | | | June 30, | | | September 30, | |
| | | 2005 | | | 2005 | | | 2005 | |
| | | | | | | | | | |
| | | Increase/(Decrease) | |
| Cost of goods sold | | $ | 2.0 | | | $ | 2.8 | | | $ | 4.0 | |
| Gross profit | | | (2.0 | ) | | | (2.8 | ) | | | (4.0 | ) |
| | Realized gains on settled futures contracts previously included in cost of goods sold | | | 2.0 | | | | 2.8 | | | | 3.9 | |
| | Unrealized gains (losses) on open futures contracts previously included in accumulated other comprehensive income (loss) | | | 9.5 | | | | (5.5 | ) | | | 10.1 | |
| (Gains), losses and other expenses, net | | | 11.5 | | | | (2.7 | ) | | | 14.0 | |
| Operation income from continuing operations | | | 9.5 | | | | (5.5 | ) | | | 10.0 | |
| Income from continuing operations before income taxes and cumulative effect of accounting change | | | 9.5 | | | | (5.5 | ) | | | 10.0 | |
| Provision for income taxes previously included in accumulated other comprehensive income (loss) | | | 3.4 | | | | (2.0 | ) | | | 3.7 | |
| Income from continuing operations before cumulative effect of accounting change | | | 6.1 | | | | (3.5 | ) | | | 6.3 | |
| Income from continuing operations | | | 6.1 | | | | (3.5 | ) | | | 6.3 | |
| Net income and retained earnings | | | 6.1 | | | | (3.5 | ) | | | 6.3 | |
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Results of Operations
As a result of the Service Experts’ turnaround plan discussed above in the Overview, the operating results of the 48 dealer service centers that are no longer a part of the Service Experts business segment have been reported as discontinued operations in the Company’s Consolidated Statements of Operations. Prior years results of operations have been restated to conform to the current year presentation.
16
The following table sets forth, as a percentage of net sales, LII’s statement of income data for the years ended December 31, 2005, 2004 2003 and 2002:2003:
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Year Ended December 31, | | | | Years Ended December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2002 | | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | | | |
| Net sales | Net sales | | | 100.0 | % | | | | 100.0 | % | | | | 100.0 | % | Net sales | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % |
| Cost of good sold | Cost of good sold | | | 66.6 | | | | | 66.2 | | | | | 68.2 | | Cost of good sold | | | 67.1 | | | 66.6 | | | 66.2 | |
| | | | | | | | | | | | | | | | | | | | | |
| | Gross profit | | | 33.4 | | | | | 33.8 | | | | | 31.8 | | | Gross profit | | | 32.9 | | | 33.4 | | | 33.8 | |
| Selling, general and administrative expense | Selling, general and administrative expense | | | 27.7 | | | | | 28.1 | | | | | 28.0 | | Selling, general and administrative expense | | | 26.8 | | | 27.7 | | | 28.1 | |
| (Gains) losses and other expenses, net | | (Gains) losses and other expenses, net | | | (1.5 | ) | | | — | | | 0.1 | |
| Restructuring charge | | Restructuring charge | | | 0.1 | | | — | | | — | |
| Goodwill impairment | Goodwill impairment | | | 6.9 | | | | | — | | | | | — | | Goodwill impairment | | | — | | | 6.9 | | | — | |
| (Gains) losses and other expenses | | | — | | | | | 0.1 | | | | | (0.3 | ) | |
| Restructurings | | | — | | | | | — | | | | | 0.3 | | |
| | | | | | | | | | | | | | | | | | | | | |
| | Operational (loss) income from continuing operations | | | (1.2 | ) | | | | 5.6 | | | | | 3.8 | | | Operational income (loss) from continuing operations | | | 7.5 | | | (1.2 | ) | | | 5.6 | |
| Interest expense, net | Interest expense, net | | | 0.9 | | | | | 1.0 | | | | | 1.2 | | Interest expense, net | | | 0.5 | | | 0.9 | | | 1.0 | |
| Other income | Other income | | | — | | | | | (0.1 | ) | | | | — | | Other income | | | — | | | — | | | (0.1 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| | (Loss) income from continuing operations before income taxes and cumulative effect of accounting change | | | (2.1 | ) | | | | 4.7 | | | | | 2.6 | | Income (loss) from continuing operations before income taxes and cumulative effect of accounting change | | | 7.0 | | | (2.1 | ) | | | 4.7 | |
| Provision for income taxes | Provision for income taxes | | | 1.0 | | | | | 1.6 | | | | | 1.2 | | Provision for income taxes | | | 2.5 | | | 1.0 | | | 1.6 | |
| | | | | | | | | | | | | | | | | | | | | |
| | (Loss) income from continuing operations before cumulative effect of accounting change | | | (3.1 | ) | | | | 3.1 | | | | | 1.4 | | Income (loss) from continuing operations before cumulative effect of accounting change | | | 4.5 | | | (3.1 | ) | | | 3.1 | |
| | | | | | | | | | | | | | | | | | | | | |
| Cumulative effect of accounting change | | Cumulative effect of accounting change | | | — | | | — | | | — | |
| | | | | | | | | | |
| Discontinued operations: | Discontinued operations: | | | | | | | | | | | | | | | Discontinued operations: | | | | | | | | | | |
| | Loss (income) from operations of discontinued operations | | | 1.3 | | | | | — | | | | | (0.3 | ) | Loss from operations of discontinued operations | | | — | | | 1.3 | | | — | |
| | Income tax (benefit) provision | | | (0.3 | ) | | | | — | | | | | 0.1 | | Income tax benefit | | | — | | | (0.3 | ) | | | — | |
| | Loss on disposal of discontinued operations | | | 0.5 | | | | | — | | | | | — | | Loss on disposal of discontinued operations | | | — | | | 0.5 | | | — | |
| | Income tax benefit | | | (0.1 | ) | | | | — | | | | | — | | Income tax benefit | | | — | | | (0.1 | ) | | | — | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Loss (income) from discontinued operations | | | 1.4 | | | | | — | | | | | (0.2 | ) | |
| | | | | | | | | | | | | |
| Cumulative effect of accounting change | | | — | | | | | — | | | | | 9.1 | | |
| Loss from discontinued operations | | Loss from discontinued operations | | | — | | | 1.4 | | | — | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Net (loss) income | | | (4.5 | )% | | | | 3.1 | % | | | | (7.5 | )% | | Net income (loss) | | | 4.5 | % | | | (4.5 | )% | | | 3.1 | % |
| | | | | | | | | | | | | | | | | | | | | |
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The following table sets forth net sales by business segment and geographic market (dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Year Ended December 31, | | | | Year Ended December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2002 | | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | | | |
| | | | Amount | | | % | | | Amount | | | % | | | Amount | | | % | | | | Amount | | | % | | | Amount | | | % | | | Amount | | | % | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Business Segment: | Business Segment: | | | | | | | | | | | | | | | | | | | | Business Segment: | | | | | | | | | | | | | | | | | | | |
| Residential | Residential | | $ | 1,419.8 | | | 47.6 | % | | $ | 1,358.7 | | | 48.7 | % | | $ | 1,249.1 | | | 45.8 | % | Residential | | $ | 1,685.8 | | | 50.1 | % | | $ | 1,419.8 | | | 47.6 | % | | $ | 1,358.7 | | | 48.7 | % |
| Commercial | Commercial | | | 580.8 | | | 19.5 | | | 508.4 | | | 18.2 | | | 442.4 | | | 16.2 | | Commercial | | | 651.7 | | | 19.3 | | | 580.8 | | | 19.5 | | | 508.4 | | | 18.2 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Heating & Cooling | | | 2,000.6 | | | 67.1 | | | 1,867.1 | | | 66.9 | | | 1,691.5 | | | 62.0 | | Heating & Cooling | | | 2,337.5 | | | 69.4 | | | 2,000.6 | | | 67.1 | | | 1,867.1 | | | 66.9 | |
| Service Experts | Service Experts | | | 611.7 | | | 20.5 | | | 611.3 | | | 21.9 | | | 613.8 | | | 22.5 | | Service Experts | | | 641.4 | | | 19.1 | | | 611.7 | | | 20.5 | | | 611.3 | | | 21.9 | |
| Refrigeration | Refrigeration | | | 444.7 | | | 14.9 | | | 387.2 | | | 13.9 | | | 363.8 | | | 13.3 | | Refrigeration | | | 467.2 | | | 13.9 | | | 444.7 | | | 14.9 | | | 387.2 | | | 13.9 | |
| Corporate and other | Corporate and other | | | — | | | — | | | — | | | — | | | 129.3 | | | 4.7 | | Corporate and other | | | — | | | — | | | — | | | — | | | — | | | — | |
| Eliminations | Eliminations | | | (74.3 | ) | | | (2.5 | ) | | | (75.7 | ) | | | (2.7 | ) | | | (71.0 | ) | | | (2.5 | ) | Eliminations | | | (79.9 | ) | | | (2.4 | ) | | | (74.3 | ) | | | (2.5 | ) | | | (75.7 | ) | | | (2.7 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Total net sales | | $ | 2,982.7 | | | 100.0 | % | | $ | 2,789.9 | | | 100.0 | % | | $ | 2,727.4 | | | 100.0 | % | Total net sales | | $ | 3,366.2 | | | 100.0 | % | | $ | 2,982.7 | | | 100.0 | % | | $ | 2,789.9 | | | 100.0 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Geographic Market: | Geographic Market: | | | | | | | | | | | | | | | | | | | | Geographic Market: | | | | | | | | | | | | | | | | | | | |
| U.S. | U.S. | | $ | 2,254.8 | | | 75.6 | % | | $ | 2,135.1 | | | 76.5 | % | | $ | 2,140.4 | | | 78.5 | % | U.S. | | $ | 2,603.0 | | | 77.3 | % | | $ | 2,254.8 | | | 75.6 | % | | $ | 2,135.1 | | | 76.5 | % |
| International | International | | | 727.9 | | | 24.4 | | | 654.8 | | | 23.5 | | | 587.0 | | | 21.5 | | International | | | 763.2 | | | 22.7 | | | 727.9 | | | 24.4 | | | 654.8 | | | 23.5 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Total net sales | | $ | 2,982.7 | | | 100.0 | % | | $ | 2,789.9 | | | 100.0 | % | | $ | 2,727.4 | | | 100.0 | % | Total net sales | | $ | 3,366.2 | | | 100.0 | % | | $ | 2,982.7 | | | 100.0 | % | | $ | 2,789.9 | | | 100.0 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| |
| Year Ended December 31, 2005 Compared to Year Ended December 31, 2004 |
Net sales increased $383.5 million, or 12.9%, to $3,366.2 million for the year ended December 31, 2005 from $2,982.7 million for the same period in 2004. Excluding the favorable impact of foreign currency translation, net sales increased $354.6 million, or 11.9%, compared to the same period in 2004. Net sales were higher in all of the Company’s business segments for the year ended December 31, 2005, compared to the year ended December 31, 2004.
Net sales in the Residential Heating & Cooling business segment increased $266.0 million, or 18.7%, to $1,685.8 million for the year ended December 31, 2005 from $1,419.8 million for the year ended December 31, 2004. Excluding the favorable impact of foreign currency translation, net sales increased $256.9 million, or 18.1%, compared to the year ended December 31, 2004. All units within the segment achieved net sales increases, led by strong sales of HVAC equipment. LII’s Residential Heating & Cooling businesses also benefited from favorable weather in 2005 during the cooling season as well as price increases in response to higher commodity prices. According to the National Oceanic and Atmospheric Administration’s Climate Prediction Center, total U.S. cooling degree days from January 2005 through December 2005, on a population-weighted basis, were 19% above normal and 15% above the same period in 2004. Overall, LII’s Residential Heating & Cooling business segment outperformed the market. According to the Air-Conditioning and Refrigeration Institute, U.S. factory shipments of unitary air conditioners and heat pumps were up 16% from January 2005 through December 2005, compared to the same period in 2004.
Net sales in the Commercial Heating & Cooling business segment increased $70.9 million, or 12.2%, to $651.7 million for the year ended December 31, 2005, compared to the year ended December 31, 2004. After excluding the favorable impact of foreign currency translation, net sales increased $67.0 million, or 11.5%, compared to the year ended December 31, 2004. The increase in net sales was due primarily to strong domestic sales growth, particularly in sales to national accounts and to commercial mechanical contractors, and to price increases in response to higher commodity prices. After excluding the impact of foreign currency translation, net sales in the Company’s European operations for the year ended December 31, 2005 were slightly higher compared to the same period in 2004.
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Net sales in the Service Experts business segment increased $29.7 million, or 4.9%, to $641.4 million for the year ended December 31, 2005 from $611.7 million for the year ended December 31, 2004. Net sales increased $22.0 million, or 3.6%, after excluding the favorable impact of foreign currency translation. The increase in net sales was due primarily to favorable weather during the cooling season.
Refrigeration business segment net sales increased $22.5 million, or 5.1%, to $467.2 million for the year ended December 31, 2005 compared to $444.7 million for the year ended December 31, 2004. After excluding the impact of foreign currency translation, net sales increased $12.8 million, or 2.9%, for the year ended December 31, 2005 compared to the same period in 2004. North and South America had higher net sales due primarily to growth in original equipment manufacturer sales that service the supermarket, walk-in refrigeration and cold storage market segments, as well as price increases in response to higher commodity prices. After excluding the impact of foreign currency translation, net sales were lower in the Company’s Asia Pacific operations and flat in the Company’s European operations.
Gross profit was $1,108.0 million for the year ended December 31, 2005, compared to $997.5 million for the year ended December 31, 2004, an increase of $110.5 million. Gross profit margin declined to 32.9% for the year ended December 31, 2005 from 33.4% in the same period in 2004. The decline was due to the realization of $16.7 million of gains related to settled futures contracts included in (gains), losses and other expenses, net rather than cost of goods sold. See “Accounting for Futures Contracts” above. If the Company had included these realized gains of $16.7 million in cost of goods sold, gross profit would have been $1,124.7 million and gross profit margin would have been 33.4% for the year ended December 31, 2005.
Higher costs were incurred by LII’s manufacturing businesses as prices for commodities and related components increased by approximately $67 million for the year ended December 31, 2005, compared to the same period in 2004. LII was able to offset higher commodity prices through price increases. Last in, first out (“LIFO”) inventory liquidations did not have a material impact on gross profit margins for all periods presented. The Company’s gross profit margin may not be comparable to the gross profit margin of other entities because some entities include all of the costs related to their distribution network in cost of goods sold, whereas the Company excludes a portion of such costs from gross profit margin, including such costs in the Selling, General and Administrative Expense (“SG&A”) line item instead. For more information, see Note 2 — Summary of Significant Accounting Policies —Shipping and Handlingin the Notes to Consolidated Financial Statements.
| |
| Selling, General and Administrative Expense |
SG&A expenses were $902.4 million for the year ended December 31, 2005, an increase of $76.3 million, or 9.2%, from $826.1 million for the year ended December 31, 2004. The $76.3 million increase in SG&A expenses was due primarily to higher distribution, selling and marketing expenses of $56.4 million driven by higher sales volumes, unfavorable foreign currency translation (part of which is included in the higher distribution, selling and marketing expenses), higher expenses for short-term and long-term incentive compensation programs due to improved LII financial performance coupled with a higher LII common stock price and expenses associated with personnel changes. As a percentage of total net sales, SG&A expenses declined to 26.8% for the year ended December 31, 2005 from 27.7% for the year ended December 31, 2004. The Company has no significant concentration of credit risk among its diversified customer base.
23
| |
| (Gains), Losses and Other Expenses, Net |
(Gains), losses and other expenses, net were $(50.2) million for the year ended December 31, 2005 and zero for the year ended December 31, 2004. For the year ended December 31, 2005, (gains), losses and other expenses, net included the following (in millions):
| | | | | | | | | | | | | |
| | | Year Ended December 31, 2005 | |
| | | | |
| | | Pre-tax | | | Tax (Benefit) | | | After-tax | |
| | | (Gain) Loss | | | Provision | | | (Gain) Loss | |
| | | | | | | | | | |
| Realized gains on settled futures contracts | | $ | (16.7 | ) | | $ | 6.0 | | | $ | (10.7 | ) |
| Unrealized gains on open futures contracts | | | (23.3 | ) | | | 8.4 | | | | (14.9 | ) |
| Gain on sale of LII’s 45% interest in its heat transfer joint venture to Outokumpu | | | (9.3 | ) | | | 2.3 | | | | (7.0 | ) |
| Estimated on-going remediation costs in conjunction with the joint remediation agreement LII entered into with Outokumpu | | | 2.2 | | | | (0.8 | ) | | | 1.4 | |
| Other items, net | | | (3.1 | ) | | | 0.2 | | | | (2.9 | ) |
| | | | | | | | | | |
| (Gains), losses and other expenses, net | | $ | (50.2 | ) | | $ | 16.1 | | | $ | (34.1 | ) |
| | | | | | | | | | |
Due to competitive cost pressures, on April 4, 2005, Lennox Hearth Products Inc., a subsidiary of the Company, commenced plans to relocate its Whitfield pellet stove and Lennox cast iron stove product lines from Burlington, Washington to a third party production facility in Juarez, Mexico, discontinue its existing steel wood stove line manufactured in Burlington and close the Burlington facility. These actions were substantially complete as of December 31, 2005. In connection with the plant closure, the Company recorded a pre-tax restructuring charge of $2.4 million for the year ended December 31, 2005. The tax benefit of this charge was $0.8 million.
Goodwill impairment represents a pre-tax, non-cash, charge of $208.0 million for the year ended December 31, 2004 in the Company’s Service Experts business segment, where lower than expected operating results occurred. The tax benefit of this charge was $23.2 million. During the first quarter of 2004, the Company conducted fair-value-based tests, which are required at least annually by SFAS No. 142, and determined that the carrying value of Service Experts’ goodwill exceeded its fair value. These fair-value-based tests were applied to all Service Experts service centers before consideration of the divestitures previously announced as part of the Company’s Service Experts turnaround plan. An additional $14.8 million of pre-tax goodwill impairment is included in the $38.9 million pre-tax Loss from Operations of Discontinued Operations discussed below resulting in a total pre-tax goodwill impairment charge of $222.8 million for the year ended December 31, 2004. During the first quarter of 2005, LII performed its annual goodwill impairment test and determined that no further goodwill impairment was necessary.
Interest expense, net, decreased $11.8 million from $27.2 million for the year ended December 31, 2004 to $15.4 million for the year ended December 31, 2005. The lower interest expense was due primarily to lower average debt levels, the absence of $1.9 million of make-whole expenses for the year ended December 31, 2004 related to the Company’s $35 million pre-payment of certain long-term debt in June 2004 and interest income earned on higher average cash and cash equivalents. As of December 31, 2005, total debt of $120.5 million was $190.0 million lower than total debt as of December 31, 2004. As discussed previously, as of October 6, 2005, the holders of the Convertible Notes had converted all of the $143.75 million aggregate principal amount of Convertible Notes into an aggregate of approximately 7.9 million shares of common stock.
24
As of December 31, 2005, cash and cash equivalents of $213.5 million was $152.6 million higher than cash and cash equivalents as of December 31, 2004.
Other (income) expense was $3.0 million for the year ended December 31, 2005, compared to ($0.8) million for the same period in 2004. The increase in other expense was due primarily to foreign currency exchange losses, which relate principally to the Company’s operations in Canada, Australia and Europe.
| |
| Provision for Income Taxes |
The provision for income taxes on continuing operations was $83.0 million for the year ended December 31, 2005 compared to a provision for income taxes on continuing operations of $30.5 million for the year ended December 31, 2004. The effective tax rate on continuing operations was 35.3% and (48.4)% for the years ended December 31, 2005 and December 31, 2004, respectively. Excluding the impact of goodwill impairment, the provision for income taxes on continuing operations would have been $53.7 million for the year ended December 31, 2004 and the effective tax rate on continuing operations would have been 37.0% for the year ended December 31, 2004. These effective rates differ from the statutory federal rate of 35% principally due to state and local taxes, non-deductible expenses, foreign operating losses for which no tax benefits have been recognized and foreign taxes at rates other than 35%.
On June 30, 2005, Ohio enacted legislation changing its tax system. As a result of this legislation and in accordance with Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes”, a provision for income taxes of $1.6 million was recorded for the year ended December 31, 2005.
The American Jobs Creation Act (“AJCA”) was signed into law on October 22, 2004. The AJCA provided an opportunity to repatriate foreign earnings and claim an 85% dividend received deduction against the repatriated amount. The Company evaluated the potential effects of repatriation and determined not to repatriate earnings under this provision.
| |
| Cumulative Effect of Accounting Change, Net |
As discussed previously, effective July 1, 2005, the Company adopted the fair value recognition provisions of SFAS No. 123R using the modified-prospective-transition method. The cumulative effect of change in accounting principle related to the adoption of SFAS No. 123R was not material for the year ended December 31, 2005.
In March 2005, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 47,“Accounting for Conditional Asset Retirement Obligations — An Interpretation of FASB Statement No. 143” (“FIN No. 47”), which was effective for the Company as of December 31, 2005. This interpretation provides additional guidance as to when companies should record the fair value of a liability for a conditional asset retirement obligation when there is uncertainty about the timing or method of settlement of the obligation. The cumulative effect of the change in accounting related to the adoption of FIN No. 47 was not material for the year ended December 31, 2005.
The cumulative effect of change in accounting related to the adoption of SFAS No. 123R and FIN No. 47 was after-tax income of $0.1 million for the year ended December 31, 2005.
| |
| Loss from Discontinued Operations |
In the first fiscal quarter of 2004, the Company’s Board of Directors approved a turnaround plan designed to improve the performance of its Service Experts business segment. The plan realigned Service Experts’ dealer service centers to focus on service and replacement opportunities in the residential and light commercial markets. LII identified approximately 130 centers, whose primary business is residential and light commercial service and replacement, to comprise the ongoing Service Experts business segment. As of December 31, 2004, the Company had divested the remaining 48 centers.
25
Under SFAS No. 144, the operating results of the 48 centers that are no longer a part of the Service Experts business segment for all periods presented are reported as Discontinued Operations in LII’s Consolidated Statements of Operations. The following table details the Company’s pre-tax loss from discontinued operations for the years ended December 31, 2005 and 2004, as well as the cumulative pre-tax loss incurred through December 31, 2005 (in millions):
| | | | | | | | | | | | | | |
| | | | | | | Cumulative | |
| | | | | | | Incurred | |
| | | Year Ended | | | Year Ended | | | through | |
| | | December 31, | | | December 31, | | | December 31, | |
| | | 2005 | | | 2004 | | | 2005 | |
| | | | | | | | | | |
| Goodwill impairment | | $ | — | | | $ | 14.8 | | | $ | 14.8 | |
| Impairment of property, plant and equipment | | | — | | | | 3.1 | | | | 3.1 | |
| Operating loss | | | — | | | | 14.9 | | | | 14.9 | |
| Other divestiture costs | | | 2.0 | | | | 6.1 | | | | 8.1 | |
| | | | | | | | | | |
| | Subtotal | | | 2.0 | | | | 38.9 | | | | 40.9 | |
| Loss on disposal of centers | | | 0.1 | | | | 14.9 | | | | 15.0 | |
| | | | | | | | | | |
| | Total loss from discontinued operations before income tax | | $ | 2.1 | | | $ | 53.8 | | | $ | 55.9 | |
| | | | | | | | | | |
The pre-tax loss of $2.0 million from discontinued operations for the year ended December 31, 2005 was primarily related to salary, severance, legal and other related expenses. Any future additional expenses are not expected to be material. The income tax benefit on discontinued operations was $0.7 million and $12.9 million for the years ended December 31, 2005 and 2004, respectively. The income tax benefit on discontinued operations for the year ended December 31, 2004 of $12.9 million includes a $1.6 million tax benefit related to goodwill impairment. Through December 31, 2005, cumulative proceeds from the sale of the 48 centers totaled $25.8 million.
| |
| Year Ended December 31, 2004 Compared to Year Ended December 31, 2003 |
As a result of the Service Experts’ turnaround plan discussed above in the Overview, the operating results of the 48 dealer service centers that are no longer a part of the Service Experts business segment have been reported as discontinued operations in the Company’s Consolidated Statements of Operations. Prior years results of operations have been restated to conform to the current year presentation.
Net sales increased $192.8 million, or 6.9%, to $2,982.7 million for the year ended December 31, 2004 from $2,789.9 million for the comparablesame period in 2003. Excluding the favorable impact of foreign currency translation, net sales increased $130.7 million, or 4.7%, compared to the same period in 2003. Excluding the favorable impact of foreign currency translation, net sales were higher in all of the Company’s business segments, with the exception of Service Experts.
Net sales in the Residential Heating & Cooling business segment increased $61.1 million, or 4.5%, to $1,419.8 million for the year ended December 31, 2004 from $1,358.7 million for the year ended December 31, 2003. Excluding the impact of foreign currency translation, net sales increased 3.6%, or $48.4 million, compared to the year ended December 31, 2003. Net sales increases were achieved by all of the Company’s major home comfort businesses in the Residential Heating & Cooling business segment due in part to sustained strength in residential new construction and price increases in response to rising commodity prices, although cooler than normal summer weather negatively impacted net sales. According to the National Association of Home Builders, single-family housing starts of 1.61 million units in 2004 were 7.5% higher than in 2003. Net sales of premium Dave Lennox Signature collection home comfort products were up 25% for the year ended December 31, 2004 compared to the same period in 2003. Net sales in the Company’s Hearth Products business segment were up significantly over the same period as a result of increased sales to existing customers.
Net sales in the Commercial Heating & Cooling business segment increased $72.4 million, or 14.2%, to $580.8 million for the year ended December 31, 2004 compared to the year ended December 31, 2003. Excluding the impact of foreign currency translation, net sales increased $56.3 million, or 11.1%, compared to the year ended December 31, 2003. The increase in net sales was due primarily to strong domestic sales
26
growth, particularly in sales to national accounts, as well as an increase in sales to commercial mechanical
18
contractors. When adjusted for foreign currency translation, net sales in the Company’s European operations for the year ended December 31, 2004 were also higher compared to the same period in 2003.
Net sales in the Service Experts business segment were flat at $611.7 million for the year ended December 31, 2004 compared to $611.3 million for the year ended December 31, 2003. After excluding the favorable impact of foreign currency translation, net sales declined $7.3 million, or 1.2%. The flat net sales were due in part to cooler than normal summer weather.
Refrigeration business segment net sales increased $57.5 million, or 14.9%, to $444.7 million for the year ended December 31, 2004 compared to the year ended December 31, 2003. Excluding the impact of foreign currency translation, net sales increased $30.4 million, or 7.9%, for the year ended December 31, 2004 compared to the same period in 2003. Net sales were higher in all businesses within this segment after excluding the favorable impact of foreign currency translation and were particularly strong domestically. Domestic sales were up significantly for the year ended December 31, 2004 compared to the same period in 2003 due in large part to strong activity in large cold storage projects and improved market penetration in the supermarket sector. Net sales were higher in the Company’s Asia Pacific operations as a result of improved demand for refrigeration equipment, particularly in the supermarket sector. Net sales were also higher in the Company’s European operations.
Gross profit was $997.5 million for the year ended December 31, 2004 compared to $943.3 million for the year ended December 31, 2003, an increase of $54.2 million, or 5.7%. Gross profit margin declined to 33.4% from 33.8% for the year ended December 31, 2004 compared to the same period in 2003. The decline in gross profit margin was due primarily to declines in the Company’s Residential Heating & Cooling and Service Experts’ business segments as well as higher commodity prices overall. CommodityAlthough commodity prices, and related component costs, in LII’s manufacturing businesses increased by approximately $47 million for the year ended December 31, 2004 compared to the same period in 2003.2003, LII partially mitigated the impact of rising commodity prices in 2004 through a combination of improved production efficiency, cost reduction initiatives, hedging programs and price increases.
In the Company’s Residential Heating & Cooling business segment, gross profit margins declined 0.4% for the year ended December 31, 2004 compared to the same period in 2003 due primarily to rising commodity prices partially offset by higher volumes, a favorable mix of higher-margin premium products and improved factory performance. Gross profit margins improved 0.1% in the Company’s Commercial Heating & Cooling business segment over the same period due to higher volumes and strong factory performance partially offset by rising commodity prices. In the Company’s Service Experts business segment, gross profit margin declined 0.2% over the same period due in part to unfavorable weather skewing the revenue mix towards lower-margin maintenance business versus higher-margin replacement business. In the Company’s Refrigeration business segment, gross profit margin was flat over the same period.
LIFO (last in, first out) inventory liquidations did not have a material impact on gross profit margins.margins for all periods presented. The Company’s gross profit margin may not be comparable to the gross profit margin of other entities because some entities include all of the costs related to their distribution network in cost of goods sold, whereas the Company excludes a portion of such costs from gross profit margin, including such costs in the SG&A line item instead. For more information, see Note 2 — Summary of Significant Accounting Policies —Shipping and Handlingin the Notes to Consolidated Financial Statements.
| |
| Selling, General and Administrative Expense |
Selling, General and Administrative (“SG&A”)&A expenses were $826.1 million for the year ended December 31, 2004, an increase of $42.5 million, or 5.4%, from $783.6 million for the year ended December 31, 2003. Of the $42.5 million increase in SG&A expenses, approximately $16 million was due to unfavorable foreign currency translation, $11 million due to consulting fees in connection with Sarbanes-Oxley compliance, $7 million due to investigation costs related to the Service Experts operations and $1.6 million for a prior period adjustment relating to a Canadian currency
27
translation account in 2003. Higher freight and commissions due primarily to higher sales volumes, higher distribution and selling expenses and cost increases in overhead expenses accounted for the remaining portion of the increase in SG&A. As a percentage of total net sales, SG&A expenses improved to 27.7% for the year ended December 31, 2004 compared to 28.1% for the year ended December 31, 2003. The Company has no significant concentration of credit risk among its diversified customer base.
19
Goodwill impairment represents a pre-tax, non-cash charge of $208.0 million for the year ended December 31, 2004 in the Company’s Service Experts business segment, where lower than expected operating results occurred. The tax benefit of this charge was $23.2 million. During the first quarter of 2004, the Company conducted fair-value-based tests, which are required at least annually by SFAS No. 142, and determined that the carrying value of Service Experts’ goodwill exceeded its fair value. These fair-value-based tests were applied to all Service Experts service centers before consideration of the divestitures announced as part of the Company’s Service Experts turnaround plan. An additional $14.8 million of pre-tax goodwill impairment is included in the $38.9 million pre-tax loss from operations of discontinued operations discussed below resulting in a total pre-tax goodwill impairment charge of $222.8 million for the year ended December 31, 2004.
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| (Gain), Losses and Other Expenses, Net |
(Gains), losses and other expenses, net were a net pre-tax expense of $1.9 million for the year ended December 31, 2003 which included a pre-tax expense of $3.4 million for reserve requirements related to the Company’s heat transfer joint venture agreement the Company entered into with Outokumpu during the third quarter of 2002, pre-tax expenses totaling $2.6 million from the loss on the sale of a HVAC distributor in the Company’s Residential Heating & Cooling business segment and other expenses partially offset by a $2.4 million pre-tax gain on the sale of the Company’s Electrical Products Division and a $1.7 million pre-tax gain on the sale of a manufacturing facility in Europe in the Company’s Refrigeration business segment.
Interest expense, net for the year ended December 31, 2004 decreased $1.2 million from $28.4 million for the year ended December 31, 2003. The lower interest expense was due primarily to lower average debt levels partially offset by $1.9 million of expenses related to the Company’s $35 million pre-payment on itsof certain long-term debt in June 2004. The $35 million long-term debt pre-payment was scheduled to have beenbe repaid in the third quarter of 2005. As of December 31, 2004, total debt of $310.5 million was $51.8 million lower than total debt as of December 31, 2003.
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| Other Income(Income) Expense |
Other income(income) expense was $0.8($0.8) million for the year ended December 31, 2004 and $2.4($2.4) million in 2003. Other income(income) expense includes foreign currency exchange gains, which relate principally to the Company’s operations in Canada, Australia and Europe, and expenses related to minority interest holders.
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| Provision for Income Taxes |
The provision for income taxes on continuing operations was $30.5 million for the year ended December 31, 2004 compared to a provision for income taxes on continuing operations of $45.1 million for the year ended December 31, 2003. The effective tax rate on continuing operations was 48.4%(48.4%) and 34.2% for the year ended December 31, 2004 and December 31, 2003, respectively. Excluding the tax benefitimpact of $23.2 million from goodwill impairment, the provision for income taxes on continuing operations would have been $53.7 million for the year ended December 31, 2004. The2004 and the effective tax rate on continuing operations excluding the goodwill impairment charge, waswould have been 37.0% for the year ended December 31, 2004. These effective rates differ from the statutory federal rate of 35% principally due to state and local taxes, non-deductible expenses, foreign operating losses for which no tax benefits have been recognized and foreign taxes at rates other than 35%.
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| |
| Loss from Discontinued Operations |
In the first fiscal quarter of 2004, the Company’s Board of Directors approved a turnaround plan designed to improve the performance of its Service Experts business segment. The plan realignsrealigned Service Experts’ dealer service centers to focus on service and replacement opportunities in the residential and light commercial
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markets. LII identified approximately 130 dealer service centers, whose primary business is residential and light commercial service and replacement, whichto comprise the ongoing Service Experts business segment. As of December 31, 2004, the end of 2004, LII hasCompany had divested the remaining 48 centers, in addition to the previously announced closure of four centers. The 48 centers that are no longer a part of Service Experts have been classified as a discontinued business.
Under SFAS No. 144, the operating results of the 48 centers that are no longer a part of the Service Experts business segment for all periods presented are reported as discontinued operationsDiscontinued Operations in LII’s Consolidated Statements of Operations for all periods presented.Operations. The following table details the Company’s pre-tax loss from discontinued operations for the year ended December 31, 2004 (in millions):
| | | | | | | | | | | |
| | | | Year Ended | | | | Year Ended | |
| | | | December 31, | | | | December 31, | |
| | | | 2004 | | | | 2004 | |
| | | | | | | | | |
| Goodwill impairment | Goodwill impairment | | $ | 14.8 | | Goodwill impairment | | $ | 14.8 | |
| Impairment of property, plant and equipment | Impairment of property, plant and equipment | | | 3.1 | | Impairment of property, plant and equipment | | | 3.1 | |
| Operating loss | Operating loss | | | 14.9 | | Operating loss | | | 14.9 | |
| Other divestiture costs | Other divestiture costs | | | 6.1 | | Other divestiture costs | | | 6.1 | |
| | | | | | | | | |
| | Subtotal | | | 38.9 | | Subtotal | | | 38.9 | |
| Loss on disposal of centers | Loss on disposal of centers | | | 14.9 | | Loss on disposal of centers | | | 14.9 | |
| | | | | | | | | |
| | Total loss from discontinued operations | | $ | 53.8 | | Total loss from discontinued operations before income tax | | $ | 53.8 | |
| | | | | | | | | |
No specific reserves were created as a result of the turnaround plan. The Company anticipates additional expenses will be recorded during the first quarter of 2005; however, the total of such expenses is not expected to be material.
The income tax benefit on discontinued operations was $12.9 million for the year ended December 31, 2004, which includes a $1.6 million income tax benefit related to the goodwill impairment. CashThrough December 31, 2004, proceeds from the sale of these centers and related tax effects more than offset the cash expenses of divestiture.
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| Year Ended December 31, 2003 Compared to Year Ended December 31, 2002 |
As a result of the Service Experts’ turnaround plan discussed above in the Overview, the operating results of the 48 dealer service centers that are no longer a part of the Service Experts business segment have been reported as discontinued operations in the Company’s Consolidated Statements of Operations. Prior years results of operations have been restated to conform to the current year presentation.
Net sales increased $62.5 million, or 2.3%, to $2,789.9 million for the year ended December 31, 2003 from $2,727.4 million for the comparable period in 2002. Excluding the favorable impact of foreign currency translation, net sales declined 1.0% compared to the same period in 2002. Higher net sales in the Residential Heating & Cooling and Commercial Heating & Cooling segments and in the Refrigeration segment were partially offset by lower net sales in the Service Experts business segment, the absence of net sales from the Company’s former Heat Transfer business segment, 55% of which was sold to Outokumpu during the third quarter of 2002, and the wind-down of the Company’s engineered machine tool business. The Company reports the historical results of operations of its former Heat Transfer business segment in the “Corporate and other” business segment. Adjusting for the loss of $129.3 million of net sales from the Company’s former Heat Transfer business segment and excluding a $90.7 million favorable impact of foreign currency translation, net
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sales increased $101.1 million, or 3.9% for the year ended December 31, 2003 compared to the year ended December 31, 2002 as shown in the following table (dollars in millions):
| | | | | | | | | | | | | | | | | |
| | | Year Ended | | | | | |
| | | December 31, | | | | | |
| | | | | | | | |
| | | 2003 | | | 2002 | | | $ Change | | | % Change | |
| | | | | | | | | | | | | |
| Net sales, as reported | | $ | 2,789.9 | | | $ | 2,727.4 | | | $ | 62.5 | | | | 2.3 | % |
| Net sales from former Heat Transfer business segment | | | — | | | | (129.3 | ) | | | 129.3 | | | | | |
| Impact of foreign currency translation | | | (90.7 | ) | | | — | | | | (90.7 | ) | | | | |
| | | | | | | | | | | | | |
| Net sales, as adjusted | | $ | 2,699.2 | | | $ | 2,598.1 | | | $ | 101.1 | | | | 3.9 | % |
| | | | | | | | | | | | | |
Net sales in the Residential Heating & Cooling business segment increased $109.6 million, or 8.8%, to $1,358.7 million for the year ended December 31, 2003 from $1,249.1 million in 2002. Excluding the impact of foreign currency translation, net sales increased 7.2%, or $90.0 million, compared to the year ended December 31, 2002. Net sales increases were achieved by the Company’s Lennox and Ducane brands of home comfort equipment and Hearth Products business, all of which experienced sales increases ranging from 10% to 20% for the year ended December 31, 2003 compared to the same period in 2002.
Higher net sales of the Company’s Lennox brand of home comfort equipment were due primarily to customer acceptance of new products and strength in the residential new construction market driven primarily by lower interest rates. According to the National Association of Home Builders, single and multi-family housing starts of 1.85 million units in 2003 were 8.1% higher than in 2002. Higher net sales of the Company’s Ducane brand of home comfort equipment were due primarily to expanded distribution. Higher net sales in the Company’s Hearth Products business were due primarily to higher sales to new and existing customers and strength in the residential new construction market. Overall, the Company’s Residential Heating & Cooling business segment outperformed the market. For example, according to the Air-Conditioning and Refrigeration Institute, U.S. factory shipments of unitary air conditioners and heat pumps were up only 1% January through December 2003 compared to the same period in 2002.
Net sales in the Commercial Heating & Cooling business segment increased $66.0 million, or 14.9%, to $508.4 million for the year ended December 31, 2003 compared to the year ended December 31, 2002. Excluding the impact of foreign currency translation, net sales increased $39.7 million, or 9.0%, compared to the year ended December 31, 2002. The higher net sales were driven primarily by increased domestic sales to new and existing national accounts, as well as higher sales to commercial mechanical contractors. Net sales in the Company’s European operations for the year ended December 31, 2003 were up modestly compared to the same period in 2002, excluding the impact of foreign currency translation.
Net sales in the Service Experts business segment declined $2.5 million, or 0.4%, to $611.3 million from $613.8 million for the year ended December 31, 2003 compared to the year ended December 31, 2002. Net sales declined $14.6 million, or 2.4%, excluding the impact of foreign currency translation. The sales decline was due primarily to lower sales in Canada.
Refrigeration business segment net sales increased $23.4 million, or 6.4%, to $387.2 million for the year ended December 31, 2003 compared to the year ended December 31, 2002. However, excluding the impact of foreign currency translation, net sales decreased $11.7 million, or 3.2%, for the year ended December 31, 2003 compared to 2002. The sales decline, excluding the impact of foreign currency translation, was due primarily to continued depressed domestic and international market demand from retail customers.
Gross profit was $943.3 million for the year ended December 31, 2003 compared to $866.1 million for the year ended December 31, 2002, an increase of $77.2 million. Gross profit margin improved 2.0% to 33.8% for the year ended December 31, 2003 from 31.8% for the comparable period in 2002. Gross profit margin
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improved in the Company’s Residential Heating & Cooling, Commercial Heating & Cooling and Refrigeration business segments.
In the Company’s Residential Heating & Cooling business segment, gross profit margins improved 1.4% for the year ended December 31, 2003 compared to the same period in 2002 due primarily to higher volumes, a favorable mix of higher-margin premium products and improved Hearth Products performance. Gross profit margins improved 2.3% in the Company’s Commercial Heating & Cooling business segment over the same period due to higher volumes, increased factory productivity and the benefits of reducing excess international manufacturing capacity. In the Company’s Service Experts business segment, gross profit margin declined 0.4% over the same period due primarily to unfavorable inventory valuations as well as labor inefficiencies and margin erosion driven by price competition necessary to maintain net sales. In the Company’s Refrigeration business segment, gross profit margin improved 1.0% over the same period due primarily to purchasing savings in the Company’s domestic and Asia Pacific operations. The absence of lower-margin business from the Company’s former Heat Transfer business segment also contributed to the gross profit margin improvement for the year ended December 31, 2003 compared to the same period in 2002. LIFO (last in, first out) inventory liquidations did not have a material impact on gross profit margins.
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| Selling, General and Administrative Expense |
SG&A expenses were $783.6 million for the year ended December 31, 2003, an increase of $18.7 million, or 2.4%, from $764.9 million for the year ended December 31, 2002. The increase in SG&A expenses was driven by $24.2 million of unfavorable foreign currency translation and higher freight, distribution and marketing expenses due primarily to higher sales volumes. Partially offsetting these items were lower SG&A of $4.3 million (excluding unfavorable foreign currency translation) in the Company’s Service Experts business segment and the absence of SG&A from the former Heat Transfer business segment. As a percentage of total net sales, SG&A expenses were 28.1% for the year ended December 31, 2003, slightly higher compared to the year ended December 31, 2002. The Company has no significant concentration of credit risk among its diversified customer base.
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| (Gains) Losses and Other Expenses |
(Gains) losses and other expenses were a net pre-tax expense of $1.9 million for the year ended December 31, 2003 which included $3.4 million of pre-tax expenses related to the Heat Transfer joint venture agreement the Company entered into with Outokumpu during the third quarter of 2002, pre-tax expenses totaling $2.6 million from the loss on the sale of a HVAC distributor in the Company’s Residential Heating & Cooling business segment and other expenses partially offset by a $2.4 million pre-tax gain on the sale of the Company’s Electrical Products Division and a $1.7 million pre-tax gain on the sale of a manufacturing facility in Europe in the Company’s Refrigeration business segment. For the year ended December 31, 2002, (gains) losses and other expenses totaled a net pre-tax gain of $7.9 million which included an $11.5 million net pre-tax gain on the sale of a 55% interest in the Company’s former Heat Transfer business segment to Outokumpu partially offset by a $3.6 million pre-tax loss on the sale of the Company’s 50% ownership interest in its Fairco S.A. joint venture in Argentina to the joint venture partner.
Pre-tax restructuring charges for the year ended December 31, 2002 were $7.8 million. Of these charges, $1.3 million related to the manufacturing and distribution restructuring program which was initiated in the fourth quarter of 2001 and principally included personnel termination charges in the Company’s Residential Heating & Cooling segment, the relocation of production lines, net gains upon disposal of certain impaired assets and restructuring income associated with the subleasing of vacated corporate office lease space. The remaining $6.5 million of these charges related to the Company’s engineered machine tool business restructuring program, which was initiated in the third quarter of 2002, and included personnel termination charges and other exit costs in the Company’s former Heat Transfer business segment.
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Interest expense, net, for the year ended December 31, 2003 decreased $3.2 million, or 10.1%, from $31.6 million for the year ended December 31, 2002. The lower interest expense resulted from lower average debt levels partially offset by marginally higher average interest rates due to a higher proportion of fixed rate debt. The average interest rates on the Company’s fixed rate debt were higher than the average interest rates on the Company’s variable rate debt. As of December 31, 2003, total debt of $362.3 million was $17.6 million lower than total debt as of December 31, 2002.
Other income was $2.4 million for the year ended December 31, 2003 compared to $0.9 million in 2002. Other income includes foreign currency exchange gains, which relate principally to the Company’s operations in Canada, Australia and Europe, and expenses related to minority interest holders.
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| Provision for Income Taxes |
The provision for income taxes on continuing operations was $45.1 million for the year ended December 31, 2003 compared to $32.2 million for the year ended December 31, 2002. The effective tax rate on continuing operations was 34.2% and 45.6% for the years ended December 31, 2003 and December 31, 2002. The effective rate differs from the statutory federal rate of 35.0% principally due to state and local taxes, non-deductible expenses, foreign operating losses for which no tax benefits have been recognized and foreign taxes at rates other than 35.0%.
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| Loss (Income) from Discontinued Operations |
In the first fiscal quarter of 2004, the Company’s Board of Directors approved a turnaround plan designed to improve the performance of its Service Experts business segment. The plan realigns Service Experts’ dealer service centers to focus on service and replacement opportunities in the residential and light commercial markets. LII identified 130 dealer service centers, whose primary business is residential and light commercial service and replacement, which comprise the ongoing Service Experts business segment. As of the end of 2004, LII has divested the remaining 48 centers, in addition to the previously announced closure of four centers. The 48 centers that are no longer a part of Service Experts have been classified as a discontinued business.
Under SFAS No. 144, the operating results of the 48 centers that are no longer a part of the Service Experts business segment are reported as discontinued operations in LII’s Consolidated Statements of Operations for all periods presented. The pre-tax loss (income) from operations of discontinued operations was $0.1 million and ($7.9) million for the years ended December 31, 2003 and 2002, respectively. The income tax provision on the operations of discontinued operations was $0.2 million and $1.9 million for the years ended December 31, 2003 and 2002, respectively.totaled $23.3 million.
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| Cumulative Effect of Accounting Change |
The cumulative effect of accounting change represents an after-tax, non-cash, goodwill impairment charge of $247.9 million for the year ended December 31, 2002. This charge resulted from the adoption of SFAS No. 142 which became effective January 1, 2002 and requires that goodwill and other intangible assets with an indefinite useful life no longer be amortized as expenses of operations, but rather be tested for impairment upon adoption and, at least annually, by applying a fair-value-based test. During the first quarter of 2002, LII conducted such fair-value-based tests and recorded a pre-tax goodwill impairment charge of $283.7 million. The charge primarily relates to the Company’s Service Experts and Residential Heating & Cooling business segments. The tax benefit of this charge was $35.8 million. During the first quarter of 2003, LII performed its annual goodwill impairment test and determined that no further goodwill impairment charge was necessary.
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Liquidity, Capital Resources and Off-Balance Sheet Arrangements
Lennox’sLII’s working capital and capital expenditure requirements are generally met through internally generated funds,net cash provided by operations, bank lines of credit and a revolving period asset securitization arrangement. Working capital needs are more extensive in the first and second quarter due to the seasonal nature of the Company’s business cycle.
During 2004, LII generated $55.9 millionAs of cashDecember 31, 2005, the Company’sdebt-to-total-capital ratio was 13%, down from operations compared to $55.5 million in 2003 and $167.5 million in 2002. Cash from operations during 2003 was negatively impacted by approximately $99.0 million due to reduced utilization of the asset securitization arrangement40% as of December 31, 2004 primarily due to the redemption of the Convertible Notes and the repayment of debt.
During 2005, cash provided by operations was $228.7 million, compared to $57.4 million in 2004 and $56.7 million in 2003, respectively. If the effects of the Company’s asset securitization program were excluded, the comparison would have been $228.7 million cash provided by operations in 2005 compared to $57.4 million cash provided by operations in 2004 and $(42.3) million cash used in operations in 2003. Additionally,The increase in cash from operations was approximately $20.0 million less in 20032005 is a reflection of higher earnings and process improvements related to working capital in 2005 as compared to 2002 due2004.
Net cash used in investing activities was $20.8 million in 2005 compared to prior years’ initiatives$17.9 million and $22.4 million in 2004 and 2003, respectively. Net cash used in investing activities in 2005 includes $39.3 million of proceeds from the sale of the Company’s 45% interest in its heat transfer joint venture to reduce overall working capital.Outokumpu Copper Products OY of Finland. Net cash used in investing activities in 2004 includes $23.3$21.8 million of proceeds from the sale of discontinued service centers of the Company’s Service Experts segment.
Net cash provided by investing activities in 2002 includes $55 million from the Outokumpu JV sales, acquiring a partner’s remaining 14% interest in Heatcraft do Brasil S.A., and proceeds from the sale of the net assets of a distributor in the Residential Heating & Cooling segment. Cash used in financing activities was $56.9 million in 2002 reflects the Company’s issuance2005 compared to $55.1 million and $31.9 million in 2004 and 2003, respectively. The Company paid a total of $143.8$24.8 million in dividends on its
29
common stock in 2005 as compared to $22.8 million and $22.1 million in 2004 and 2003, respectively. Net repayments of 6.25% convertible subordinated notes due 2009 offset by the use of these net proceeds, the cash from the Outokumpu transactionlong-term debt, short-term borrowings and cash from operationsrevolving long-term borrowings totaled approximately $45.5 million in 2005 as compared to reduce its indebtedness under its revolving credit facility.$52.3 million and $19.2 million in 2004 and 2003, respectively.
As of December 31, 2004, $19.82005, $23.1 million of cash and cash equivalents were restricted primarily due to outstandingroutine check clearing float on customer payments received in lockbox collections and letters of credit relatedissued with respect to the operations of its captive insurance subsidiary, which expire on December 30, 2006. These letter of credit restrictions can be transferred to the Company’s captive insurance plan.revolving lines of credit, as needed.
Capital expenditures of $63.3 million, $40.3 million and $39.7 million in 2005, 2004 and 2003, respectively, wereresulted primarily forfrom purchases of production equipment in the manufacturing plants in the Residential Heating & Cooling and Commercial Heating & Cooling business segments. The Company projects its capital expenditures to increase significantlyin 2006 to approximately $70 million primarily due to factory expansion to accommodate continued domestic Commercial Heating & Cooling growth and IT investments for CRM software and the implementation of SAP in Europe.
As of December 31, 2005, the Company had approximately $27.1 million in unfunded post retirement benefit obligations that relate to the Company’s medical and life insurance benefits to eligible employees. The Company does not intend to pre-fund these obligations at this time. Benefits provided under these plans have been and will continue to be paid as they arise. Employer contributions were $2.4 million, $2.1 million and $2.6 million in 2005, 2004 and 2003, respectively. Based on current information, the Company does not expect a significant change in 2006 and future years. The Company does not expect the cash flow required to approximately $80 million, primarily driven by increased spendingpay the benefits under these plans to comply withimpact the new National Appliance Energy Conservation Act that increases the minimum efficiency for residential air conditioners by 30 percent, as well as investment in other new products, and IT systems.Company’s ability to operate.
In June 2004, LII made a pre-payment on its long-term debt of $35 million. The long-term debtmillion, which was scheduled to have been repaidmature in the third quarter of 2005. The pre-payment make-whole amount associated with the debt was $1.9 million and was expensed in 2004.
As of December 31, 2004,2005, the Company had outstanding long-term debt obligations totaling $304.5$119.3 million, which was down from $304.5 million and $358.7 million at December 31, 2003.2004 and 2003, respectively. The amount outstanding as of December 31, 20042005 consisted primarily of five issuesthree issuances of notes with an aggregate principal outstanding of $298.2$118.3 million, with interest rates ranging from 6.25%6.73% to 8.0% and with maturities ranging from 20052006 to 2010.
The Company has bank lines of credit aggregating $260.7$427.5 million, of which $11.0$1.2 million was borrowed and outstanding and $90.3$90.7 million was committed to standby letters of credit as ofat December 31, 2004. The2005. Of the remaining $159.4$335.6 million, the entire amount was available for future borrowings subject toafter consideration of covenant limitations. Included in the lines of credit are several regional facilities and a multi-currency facility in the amount of $225 million governed by agreements between the Company and a syndicate of banks. In September 2003,July 2005, the Company amended and restated its former domesticrevolving credit facility to, among other things, base covenants onincrease the financials of domesticborrowing capacity from $225 million to $400 million and foreign subsidiaries, extend the facility maturity date tofrom September 2006 and reduce capacity from $270 million to $205 million. In October 2003, the facility capacity was increased to $225 million.July 2010. The facility contains certain financial covenants and bears interest at the Company’s option, at a rate equal to, at the Company’s option, either (a) the greater of the bank’s prime rate or the federal fund’sfunds rate plus 0.5%, or (b) the London Interbank Offered Rate plus a margin equal to 1.0%0.475% to 2.5%1.20%, depending upon the ratio of total funded debt-to-earningsdebt-to-adjusted earnings before interest, taxes, depreciation and amortization (“Adjusted EBITDA”), as defined in the facility. The Company pays a facility fee, depending upon the ratio of total funded debt to Adjusted EBITDA, equal to 0.25%0.15% to 0.50%0.30% of the capacity. The facility includes restrictive covenants that limit the Company’s ability to incur additional indebtedness, encumber its assets, sell its assets or payand make certain payments, including amounts for share repurchases and dividends. There are no required payments prior to the expiration of the facility. The Company’s facility and promissory notes are secured by the stock of the Company’s major subsidiaries. The facility requires that LII annually and quarterly deliver financial statements, as well as compliance certificates, to the banks within a specified period of time.time periods.
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On May 8, 2002,September 7, 2005, the Company issued $143.8 millioncalled for redemption all of its outstanding 6.25% convertible subordinated notes (“Convertible Notes”), maturing June 1, 2009, and received proceeds totaling approximately $139 on October 7, 2005. The redemption price was 103.571% of the principal amount. As of September 7, 2005, there was $143.75 million after debt issuance costs. Interest is payable semi-annually on June 1 and December 1aggregate principal amount of each year. Each $1,000 Note is convertible
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Convertible Notes outstanding, which could be converted into 55.29the Company’s common stock at a rate of 55.2868 shares of Common Stock. Redemption can occurcommon stock per $1,000 principal amount of Convertible Notes at any time before the Company’s option beginning in Juneclose of business on the business day prior to the redemption date. As of October 6, 2005, ifthe holders of all of the Convertible Notes had converted the Convertible Notes into an aggregate of approximately 7.9 million shares of common stock.
On September 19, 2005, LII announced its Board of Directors had authorized a stock repurchase program, pursuant to which the Company may repurchase up to ten million shares of its common stock, and had terminated a prior repurchase program that was announced November 2, 1999. Purchases under the stock repurchase program are made on an open-market basis at prevailing market prices. The timing of any repurchases depends on market conditions, the market price of the Company’s Common Stock has exceeded $23.52 per share during specified periodsLII’s common stock and at the option of the Note holders if the market pricemanagement’s assessment of the Company’s Common Stock has exceeded $19.90liquidity needs and investment requirements and opportunities. No time limit was set for completion of the program and there is no guarantee as to the exact number of shares that will be repurchased. As of December 31, 2005, the Company had repurchased 447,400 shares of common stock at an average price of $28.65 per share during specified periods or if the market price of the Notes is less than 95% of the market price ofunder the stock multiplied by 55.29. The Notes are junior in right of payment to all our existing and future senior indebtedness, and are structurally subordinated to all liabilities of our subsidiaries, including trade payables, lease commitments and money borrowed. Under the Registration Rights Agreement, dated as of May 8, 2002 (the “Registration Rights Agreement”), between LII, UBS Warburg LLC and the other initial purchasers relatingrepurchase program.
In addition to the Notes,revolving and term loans described above, LII agreedutilizes the following financing arrangements in the course of funding its operations:
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| • | Trade accounts receivable are sold on a non-recourse basis to third parties. The sales are reported as a reduction of the asset “Accounts and Notes Receivable, Net” in the Consolidated Balance Sheets. As of December 31, 2005 and December 31, 2004, respectively, LII had not sold any of such accounts receivable. The receivables are sold at a discount from face value, and this discount aggregated $0.9 million, $2.3 million and $2.9 million in 2005, 2004 and 2003, respectively. The discount expense is shown as a component of “Selling, General and Administrative Expense” in the Consolidated Statements of Operations. |
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| • | LII also leases real estate and machinery and equipment pursuant to leases that, in accordance with Generally Accepted Accounting Principles (“GAAP”), are not capitalized on the balance sheet, including high-turnover equipment such as autos and service vehicles and short-lived equipment such as personal computers. These operating leases generated rent expense of approximately $52.9 million, $55.3 million and $55.9 million in 2005, 2004 and 2003, respectively. |
LII’s domestic revolving and term loans contain certain financial covenant restrictions. As of December 31, 2005, LII was in compliance with all covenant requirements. LII periodically reviews its capital structure, including its primary bank facility, to ensure that during the two-year periodit has adequate liquidity. LII believes that cash flow from the dateoperations, as well as available borrowings under its revolving credit facility and other sources of issuance of the Notes (May 8, 2002), LII would file with the SEC a registration statement on the Notes and cause the registration statementfunding, will be sufficient to be declared effective and usablefund its operations for the offer and sale of the Notes. The delay in filing of LII’s Annual Report on Form 10-K for 2003 caused a default on April 29, 2004 under the Registration Rights Agreements (the “Default Date”) since the registration statement ceased to be effective through May 8, 2004 (a “Registration Default”). Upon a Registration Default, LII became contractually obligated to pay an additional 0.25% per annum interest (“Liquidated Damages”) from the Default Date until the second anniversary of the issuance of the Notes. As of May 8, 2004, LII was no longer in default with no further Liquidated Damages required. LII paid approximately $32,000 in Liquidated Damages on June 1, 2004.foreseeable future.
Contractual Obligations
Summarized below are LII’s long-term payment obligations as of December 31, 2004 (amounts shown in2005 (in millions):
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| | | | Payments Due by Period | | | | Payments Due by Period | |
| | | | | | | | | |
| | | | | | 1 Year | | | 2-3 | | | 4-5 | | | After | | | | | | 1 Year | | | 2-3 | | | 4-5 | | | After | |
| | | | Total | | | or Less | | | Years | | | Years | | | 5 Years | | | | Total | | | or Less | | | Years | | | Years | | | 5 Years | |
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| Long-term debt and capital leases | Long-term debt and capital leases | | $ | 304.5 | | $ | 36.4 | | $ | 27.7 | | $ | 205.3 | | $ | 35.1 | | Long-term debt and capital leases | | $ | 119.3 | | $ | 11.3 | | $ | 72.6 | | $ | 35.3 | | $ | 0.1 | |
| Operating leases | Operating leases | | | 165.0 | | | 43.8 | | | 48.2 | | | 18.8 | | | 54.2 | | Operating leases | | | 183.8 | | | 44.4 | | | 57.1 | | | 29.0 | | | 53.3 | |
| Purchase obligations | Purchase obligations | | | 63.9 | | | 63.9 | | | — | | | — | | | — | | Purchase obligations | | | 64.7 | | | 63.0 | | | 1.7 | | | — | | | — | |
| Estimated interest payments on long-term debt and capital leases | | Estimated interest payments on long-term debt and capital leases | | | 27.3 | | | 9.3 | | | 13.1 | | | 4.6 | | | 0.3 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | Total contractual obligations | | $ | 533.4 | | $ | 144.1 | | $ | 75.9 | | $ | 224.1 | | $ | 89.3 | | Total contractual obligations | | $ | 395.1 | | $ | 128.0 | | $ | 144.5 | | $ | 68.9 | | $ | 53.7 | |
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Purchase obligations consist of copper and aluminum commitments. The above table does not include retirement, postretirement and warranty liabilities because it is not certain when these liabilities will become
31
due. See Notes 2 and 11 of the Notes to the Company’s Consolidated Financial Statements for additional information.
LII, in addition to the revolving and term loans described above, utilizes two other types of financing in the course of funding its operations:
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| Trade accounts receivable are sold on a non-recourse basis to third parties. The sales are reported as a reduction of the asset “Accounts and notes receivable, net” in the Consolidated Balance Sheets. As of December 31, 2004 and December 31, 2003, respectively, LII had not sold any, of such accounts receivable. The receivables are sold at a discount from face value, and this discount aggregated $2.3 million in 2004 and $2.9 million in 2003. The discount expense is shown as a component of selling, general and administrative expense in the Consolidated Statements of Operations. |
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| LII also leases real estate and machinery and equipment pursuant to leases, that properly are not capitalized on the balance sheet under Generally Accepted Accounting Principles (“GAAP”), including high-turnover equipment such as autos and service vehicles and short-lived equipment such as personal computers. These operating leases generated rent expense of approximately $55.3 million, $55.9 million and $66.8 million in the years 2004, 2003 and 2002, respectively. |
LII’s domestic revolving and term loans contain certain financial covenant restrictions. As of December 31, 2004, LII was in compliance with all covenant requirements and LII believes that cash flow from
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operations, as well as available borrowings under its revolving credit facility and other sources of funding will be sufficient to fund its operations for the foreseeable future. LII periodically reviews it’s capital structure, including it’s primary bank facility to ensure that adequate liquidity exists.
Market Risk
LII’s results of operations can be affected by changes in exchange rates. Net sales and expenses in foreign currencies other than the United States dollar are translated into United States dollars for financial reporting purposes based on the average exchange rate for the period. During 2005, 2004 2003 and 2002,2003, net sales from outside the United States represented 24.4%22.7%, 23.5%24.4% and 21.5%23.5%, respectively, of total net sales. Historically, foreign currency transaction gains (losses) have not had a material effect on LII’s overall operations. The impact of a 10% change in exchange rates on income from operations is estimated to be approximately $3.9$4.0 million.
The Company’s results of operations can be affected by changes in interest rates due to variable rates of interest on the revolving credit facilities. A 10% change in interest rates would not be material to the Company’s results of operations.
The Company enters into commodity futures contracts to stabilize prices expected to be paid for raw materials and parts containing high copper and aluminum content. These contracts are for quantities equal to, or less than, quantities expected to be consumed in future production. As of December 31, 2004,2005, LII washad committed for 28.6to purchase 45.9 million pounds of aluminum and 29.733.6 million pounds of copper under such arrangements through December 2005. The forward purchase contracts qualify as derivatives and2007. As of December 31, 2005, the net fair value of these futures contracts was an asset of $10.3 million$24.0 million. In 2005, the Company determined that these futures contracts did not qualify for hedge accounting under SFAS No. 133 as of December 31, 2004.the Company’s documentation did not meet the criteria specified by SFAS No. 133 in order for the hedging instruments to qualify for cash flow designation. Accordingly, the Company has designated these derivative contracts as a cash flow hedge and has recorded an unrealized gain of $6.5$23.3 million for the year ended December 31, 2005 in (Gains), Losses and Other Expenses, net of tax provision of $3.8 million, in the Accumulated Other Comprehensive Gain (Loss) componentaccompanying Consolidated Statements of stockholders’ equity.Operations for 2005 related to these open forward purchase contracts. The impact of a 10% change in commodity prices on the CompanyCompany’s results from operations is estimated to be approximately $28.8$31.0 million, absent any other contravening actions.
In the first quarter of 2006, the Company engaged an outside consultant to assist it in redesigning its policies, procedures and controls with respect to its commodity hedging activities and the Company will not initiate any additional hedging contracts until this process is completed.
Critical Accounting Policies
The preparation of financial statements requires the use of judgments and estimates. The critical accounting policies are described below to provide a better understanding of how the Company develops its judgments about future events and related estimations and how theysuch policies can impact the financial statements. A critical accounting policy is one that requires theits most difficult, subjective or complex estimates and assessments and is fundamental to the results of operations. The Company identified the most critical accounting policies to be:
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| | • | Estimation of warranty liabilities; |
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| | • | Valuation of goodwill and intangible assets; |
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| | • | Adequacy of allowance for doubtful accounts; |
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| | • | Pension and Postretirementpostretirement benefit projections; and |
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| • | Stock-based compensation; |
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| | • | Estimates of self-insured risks.risks; and |
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| • | Income taxes. |
This discussion and analysis should be read in conjunction with the consolidated financial statements and related notes beginning on page 32.in “Item 8. Financial Statements and Supplementary Data.”
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A liability for estimated warranty expense is established by a charge against operations at the time the products are sold.Company recognizes revenue. The subsequent costs incurred for warranty claims serve to reduce the accrued product warranty liability. The Company recorded warranty expense of $36.3 million, $28.2 million $24.1 million and $25.4$24.1 million for the years ended December 31, 2005, 2004 and 2003, and 2002, respectively.
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The Company’s estimate of future warranty costs is determined for each product line. The number of units that are expected to be repaired or replaced is determined by applying the estimated failure rate, which is generally based on historical experience, to the number of units that have been sold and are still under warranty. The estimated units to be repaired under warranty are multiplied by the average cost (undiscounted) to repair or replace such products to determine the Company’s estimated future warranty cost. The Company also provides for specifically identified warranty obligations. The Company’s estimated future warranty cost is subject to adjustment from time to time depending on changes in actual failure rate and cost experience.
Total liabilities for estimated warranty expense are $71.0 million and $65.4 million as of December 31, 2004 and 2003, respectively, and are included in the following captions on the accompanying Consolidated Balance Sheets (in millions):
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| | | December 31, | |
| | | | |
| | | 2004 | | | 2003 | |
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| Accrued expenses | | $ | 26.8 | | | $ | 26.2 | |
| Other liabilities | | | 44.2 | | | | 39.2 | |
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| | | $ | 71.0 | | | $ | 65.4 | |
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The changes in the carrying amount of Should actual claim rates differ from the Company’s total warranty liabilities forestimates, revisions to the years ended December 31, 2004 and 2003 are as follows (in millions):
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| Total warranty liability at December 31, 2002 | | $ | 61.6 | |
| Payments made in 2003 | | | (20.3 | ) |
| Changes resulting from issuance of new warranties | | | 24.1 | |
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| Total warranty liability at December 31, 2003 | | $ | 65.4 | |
| Payments made in 2004 | | | (22.6 | ) |
| Changes resulting from issuance of new warranties | | | 26.1 | |
| Changes in estimates associated with pre-existing warranties | | | 2.1 | |
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| Total warranty liability at December 31, 2004 | | $ | 71.0 | |
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During the second quarter of 2004, the Company determined that it would no longer produce or sell its CompleteHeatestimated product line. Concurrently, the Company adjusted its warranty on this product by an additional $2.6 million based on the fact that it is discontinuing this product with no like replacement. The change in warranty liability that results from changes in estimates of other warranties issued prior to 2004 is not material.would be required.
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| Goodwill and Other Intangible Assets |
Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead tested for impairment at least annually by reporting unit in accordance with the provisions of SFAS No. 142 as of January 1, 2002.142. SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with Statement of Financial Accounting Standards No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets.”
The Company estimates reporting unit fair values using standard business valuation techniques such as discounted cash flows and reference to comparable business transactions. The discounted cash flows fair value estimates are based on management’s projected future cash flows and the estimated weighted average cost of capital. The estimated weighted average cost of capital is based on the risk-free interest rate and other factors such as equity risk premiums and the ratio of total debt and equity capital.
In connection with SFAS No. 142’s transitional goodwill impairment evaluation, the statement requiredaddition, the Company periodically reviews intangible assets with estimable useful lives for impairment as events or changes in circumstances indicate that the carrying amount of such assets might not be recoverable. In order to perform an assessment of whether there was an indication that goodwill was impaired as of the date of adoption. To accomplish this,assess recoverability, the Company was requiredcompares the estimated expected future cash flows (undiscounted and without interest charges) identified with each long-lived asset or related asset grouping to identify its reporting unitsthe carrying amount of such assets. For purposes of such comparisons, portions of goodwill are attributed to related long-lived assets and determineidentifiable intangible assets based upon relative fair values of such assets at acquisition. If the expected future cash flows do not exceed the carrying value of each reporting unit by assigning the asset or assets and liabilities, includingbeing reviewed, an impairment loss is recognized based on the existing goodwill and intangible assets, to those reporting units asexcess of January 1, 2002. To the extent the carrying amount of a reporting unit exceededthe impaired assets over their fair value.
The Company must make assumptions regarding estimated future cash flows and other factors to determine the fair value of the reporting unit, the Company would be required to perform the second step of the transitional impairment test, as this is an indication that the reporting unit goodwill may be impaired. The second step was required for certain reporting units within the Residential Heating & Cooling, Service Experts and Heat Transfer reporting segments where the results of various
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business operations acquired during 1998 to 2000 were lower than expected. In the second step, the Company compared the implied fair value of the reporting units goodwill with the carrying amount of the reporting unit goodwill, both of which were measured as of the date of adoption. The implied fair value of goodwill was determined by allocating the fair value of the reporting unit to all of therespective assets (recognized and unrecognized) and liabilities of the reporting unit in a manner similar to a purchase price allocation, in accordance with Statement of Financial Accounting Standards No. 141, “Business Combinations.” The residual fair value after this allocation was the implied fair value of the reporting units’ goodwill and was less than the carrying amount of these reporting units’ goodwill by $283.7 million. Accordingly, the Company recorded a $283.7 million ($247.9 million, net of tax) impairment charge upon adoption.
The goodwill impairment evaluation described above requires management to make long-range forecasts, determine the weighted average cost of capital and estimate the fair value of assets (both recognized and unrecognized) for the various reporting units. These forecasts and related factors are subject to various risks and uncertainties described within this document. To the extent these forecasts do not materialize and are adjusted downward in later periods, additional impairments may be required.
As a result of the annual impairment tests required by SFAS No. 142, the Company recorded an impairment charge in the first quarter of 2004 associated with its Service Experts segment. This impairment charge reflects the segment’s performance below management’s expectations and management’s decision to divest of 48 centers that no longer match the realigned Service Experts business model (see Note 6). The Company estimatedassessing the fair value of its Service Experts segment usinggoodwill and other intangibles. If these estimates or the income method of valuation, which includes the use of estimated discounted cash flows. Based on the comparison, the carrying value of Service Experts exceeded its fair value. Accordingly,related assumptions change, the Company performed the second step of the test, comparing the implied fair value of Service Experts goodwill with the carrying amount of that goodwill. Based on this assessment, the Company recorded a non-cashmay be required to record impairment charge of $208.0 million ($184.8 million, net of tax), which is included as a component of operating incomecharges for these assets in the accompanying Consolidated Statements of Operations. The Company also recognized a $14.8 million ($13.2 million, net of tax) goodwill impairment charge arising from goodwill allocated to centers held for sale and a $3.1 million pre-tax impairment charge related to property, plant and equipment. These amounts are included as a part of loss from discontinued operations in the accompanying Consolidated Statements of Operations.future.
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| Allowance for Doubtful Accounts |
The allowance for doubtful accounts is generally established during the period in which receivables are recognized and is maintained at a level deemed appropriate by management based on historical and other factors that affect collectibility. Such factors include the historical trends of write-offs and recovery of previously written-off accounts, the financial strength of the customer and projected economic and market conditions. The evaluation of these factors involves complex, subjective judgments. Thus, changes in these factors or changes in economic circumstances may significantly impact the consolidated financial statements.
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| Pensions and Postretirement Benefits |
The Company has domestic and foreign pension plans covering essentially all employees. The Company also maintains an unfunded postretirement benefit plan, which provides certain medical and life insurance benefits to eligible employees. The pension plans are accounted for under provisions of SFAS No. 87, “Employers’ Accounting for Pensions.” The postretirement benefit plan is accounted for under the provisions of SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other than Pensions” (“FAS 106”). In December 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (“the Act”) was signed into law. The Act introduces a prescription drug benefit under Medicare (Medicare Part D) as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. In May 2004, Financial Accounting Standards Board Staff Position No. FAS 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003,” was issued and it permits a sponsor of a postretirement health care plan that provides a prescription drug benefit to make a one-time election to defer accounting for the effects of the Act. The Company has elected not to reflect the changes in the Act in its 2004 financials as the
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effects of the Act are not a significant event that calls for remeasurement under FAS 106. Therefore, the accumulated postretirement benefit obligation and net postretirement benefit costs in the financial statements and footnote do not reflect the effects of the Act on the Company’s plans.
The benefit plan assets and liabilities included in the Company’s financial statements and associated notes reflect management’s assessment as to the long-range performance of its benefit plans. These assumptions are listed below:
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| | | Pension Benefits | | | Other Benefits | |
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| | | 2004 | | | 2003 | | | 2004 | | | 2003 | |
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| Weighted-average assumptions as of December 31: | | | | | | | | | | | | | | | | |
| | Discount rate | | | 5.75 | % | | | 6.00 | % | | | 5.75 | % | | | 6.00 | % |
| | Expected return on plan assets | | | 8.75 | | | | 8.75 | | | | — | | | | — | |
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| | | Pension Benefits | | | Other Benefits | |
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| | | 2005 | | | 2004 | | | 2005 | | | 2004 | |
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| Weighted-average assumptions as of December 31: | | | | | | | | | | | | | | | | |
| | Discount rate | | | 5.75 | % | | | 5.75 | % | | | 5.75 | % | | | 5.75 | % |
| | Expected return on plan assets | | | 8.25 | | | | 8.75 | | | | — | | | | — | |
To develop the expected long-term rate of return on assets assumption, the Company considered the historical returns and the future expectations for returns for each asset class, as well as the target asset allocation of the pension portfolio and the effect of periodic rebalancing. These results were adjusted for the payment of reasonable expenses of the plan from plan assets. This resulted in the selection of the 8.75%8.25% long-term rate of return on assets assumption. Should actual results differ from the Company’s estimates, revisions to the benefit plan assets and liabilities would be required.
To select a discount rate for the purpose of valuing the plan obligations, the Company performed an analysis in which the duration of projected cash flows from defined benefit and retiree health care plans were matched with a yield curve based on the appropriate universe of high-quality corporate bonds that were available. The Company used the results of the yield curve analysis to select the discount rate that matched the duration and payment stream of the benefits in each plan. The rate was rounded to the nearest quarter of a percent. This resulted in the selection of the 5.75% discount rate assumption. Should actual results differ from the Company’s estimates, revisions to the benefit plan liabilities would be required.
With the implementation of SFAS No. 123R on July 1, 2005, stock-based compensation changes our financial statements as detailed in Notes 2 and 12 to the Consolidated Financial Statements. Determining the amount of expense for stock-based compensation, as well as the associated impact to the balance sheets and statements of cash flows, requires the Company to develop estimates of the fair value of stock-based compensation expense. The most significant factors of that expense that require estimates or projections include the expected volatility, expected lives and estimated forfeiture rates of stock-based awards.
For grants made prior to July 1, 2005, an analysis of historical volatility was used to develop the estimate of expected volatility. Effective July 1, 2005, the Company changed its method of determining expected volatility on all stock option and stock appreciation rights granted after that date to a combination of historical volatility and available market implied volatility rates. After giving consideration to recently available regulatory guidance, the Company believes that a combination of historical volatility and market-based measures of implied volatility are currently the best available indicators of expected volatility of the Company’s stock price.
The expected lives of stock options and stock appreciation rights are determined based on historical exercise experience, using a rolling7-year average and estimated forfeiture rates are derived from historical forfeiture patterns. The Company believes the historical experience method is the best estimate of future exercise patterns and forfeitures currently available.
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The Company self-insuresuses a combination of third party insurance and self-insurance plans (large deductible or captive) to provide protection against claims relating to worker’s compensation, general liability, product liability, property damage, aviation liability, directors and officers’ liability, auto liability, physical damage and other exposures. LII maintains third party coverage for Worker’s Compensation, Product Liability, General Liability, Auto Liability and Physical Damage. On January 1, 2002, arisks not retained within the Company’s large deductible or captive insurance company was formed for all the above risks subsequent to that date.plans.
The Company utilizes the services of a third party actuary to assist in the determination of its self-insurance and captive expense and liabilities. The expense and liabilities are determined based on historical company claims information, as well as industry factors and trends in the level of such claims and payments.
TheAs of December 31, 2005, the Company’s self-insurance and captive reserves, calculated on an undiscounted basis, as of December 31, 2004, represent the best estimate of the future payments to be made on losses reported and unreported for 20042005 and prior years. The majority of the Company’s self-insured risks (excluding Autoauto liability and Physical Liability)physical damage) have relatively long payout patterns. ThePursuant to the Company’s accounting policy, isLII does not to discount its self-insurance or captive reserves. The Company maintains safety and manufacturing programs that are designed to improve the safety and effectiveness of its business processes and, as a result, reduce the level and severity of its various self-insurance risks.
The Company’s reserves for self-insurance and captive risks total $54.1totaled $56.1 million and $51.8$54.1 million at December 31, 20042005 and 2003,2004, respectively. Actual payments for claims reserved at December 31, 20042005 may vary depending on various factors including the development and ultimate settlement of reported and unreported claims. To the extent actuarial assumptions change and claims experience rates differ from historical rates, the Company’s liability may change.
In determining income for financial statement purposes, the Company must make certain estimates and judgments in the calculation of tax provisions and the resultant tax liabilities and in the recoverability of deferred tax assets that arise from temporary differences between the tax and financial statement recognition of revenue and expense.
In the ordinary course of global business, there may be many transactions and calculations where the ultimate tax outcome is uncertain. The calculation of tax liabilities involves dealing with uncertainties in the application of complex tax laws. The Company recognizes potential liabilities for anticipated tax audit issues in the U.S. and other tax jurisdictions based on an estimate of the ultimate resolution of whether, and the extent to which, additional taxes will be due. Although the Company believes the estimates are reasonable, no assurance can be given that the final outcome of these matters will not be different than what is reflected in the historical income tax provisions and accruals.
As part of the Company’s financial process, the Company must assess the likelihood that its deferred tax assets can be recovered. If recovery is not likely, the provision for taxes must be increased by recording a reserve in the form of a valuation allowance for the deferred tax assets that are estimated not to be ultimately recoverable. In this process, certain relevant criteria are evaluated including the existence of deferred tax liabilities that can be used to absorb deferred tax assets, the taxable income in prior carryback years that can be used to absorb net operating losses and credit carrybacks and taxable income in future years. The Company’s judgment regarding future taxable income may change due to future market conditions, changes in U.S. or international tax laws and other factors. These changes, if any, may require material adjustments to these deferred tax assets and an accompanying reduction or increase in net income in the period when such determinations are made.
In addition to the risks to the effective tax rate described above, the effective tax rate reflected in forward-looking statements is based on current tax law. Any significant changes in the tax laws could affect these estimates.
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Recent Accounting Pronouncements
In November 2004, the FASBFinancial Accounting Standards Board (the “FASB”) issued SFASStatement of Financial Accounting Standards No. 151, “Inventory Cost — an amendment of ARB No. 43, Chapter 4.” 4” (“SFAS No. 151”). SFAS No. 151 clarifies the accounting for abnormal amounts of idle facility expenses, freight, handling costs, and spoilage. It also requires that allocation of fixed production overheads to inventory be based on the normal capacity of production facilities. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. The Company is evaluating the provisions of this standard to determine the effects, if any, on the Company’s consolidated financial statements.
In December 2004, the FASB issued SFAS 123 (revised 2004), “Share-Based Payment” (“SFAS 123R”), which revises SFAS 123, “Accounting for Stock-Based Compensation.” SFAS 123R also supersedes APB 25, “Accounting for Stock Issued to Employees,” and amends SFAS 95, “Statement of Cash Flows.” SFAS 123R requires the fair value of all share-based payments to employees, including the fair value of grants of employee stock options, be recognized in the income statement, generally over the option vesting period. SFAS 123R must be adopted no later than July 1, 2005. Early adoption is permitted.
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SFAS 123R permits adoption of its requirements using one of two transition methods:
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| 1. A modified prospective transition method in which compensation cost is recognized beginning with the effective date (a) for all share-based payments granted after the effective date and (b) for all awards granted to employees prior to the effective date that remain unvested on the effective date, (or) |
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| 2. A modified retrospective transition method which includes the requirements of the method described above, but also permits restatement of financial statements based on the amounts previously disclosed under SFAS 123’s pro forma disclosure requirements either for (a) all prior periods presented or (b) prior interim periods of the year of adoption. |
The Company is currently evaluating the timing and manner in which it will adopt SFAS 123R.
Subsequent Events
On February 25, 2005, the Board of Directors of LII appointed Richard L. Thompson to the new position of Vice Chairman of the Board. Mr. Thompson has been7, 2006, Allied Air Enterprises, a memberdivision of the Company’s BoardHeating & Cooling segment, announced that it has commenced plans to consolidate its manufacturing, distribution, research & development, and administrative operations in South Carolina, and close its current operations in Bellevue, Ohio. The consolidation will be a phased process expected to be completed by the end of Directors since 1993.the first quarter of fiscal 2007. The Company expects the consolidation to improve Allied Air Enterprises’ operating efficiency, eliminate redundant fixed costs, and provide customers with improved service. In conjunction with these actions, the Company currently expects to incur restructuring-related charges of approximately $20.0 million pre-tax.
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| Item 7A. | Quantitative and Qualitative Disclosures About Market Risk |
The information required by this item is included under the caption “Market Risk” in Item 7 above.
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| Item 8. | Financial Statements and Supplementary Data |
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management of Lennox International Inc. (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting and for the assessment of the effectiveness of internal control over financial reporting. As defined by the Securities and Exchange Commission, internal control over financial reporting is a process designed by, or under the supervision of, the Company’s principal executive and principal financial officers, and effected by the Company’s Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the consolidated financial statements in accordance with U.S. generally accepted accounting principles.
The Company’s internal control over financial reporting is supported byincludes written policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the Company’s transactions and dispositions of the Company’s assets; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of the financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorization of management and directors of the Company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements.
Because of itits inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In connection with the preparation of the Company’s annual consolidated financial statements, managementManagement has undertaken an assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2004,2005, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO Framework). Management’s assessment included an evaluation of the design of the Company’s internal control over financial reporting and testing of the operational effectiveness of those controls. As a result of management’s assessment, the following material weakness in internal control over financial reporting was identified as of December 31, 2005:
Based on this assessment,
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| • | The Company did not maintain effectively designed internal controls to ensure accounting for derivative financial instrument transactions in accordance with U.S. generally accepted accounting principles. Specifically, the Company did not have policies and procedures in place to ensure compliance with requirements to prepare contemporaneous documentation and assess hedge effectiveness at the inception of certain derivative financial instrument transactions. Furthermore, the Company did not have policies and procedures in place to review the propriety of accounting for certain commodity futures contract transactions subsequent to the inception of such contracts. These deficiencies in internal control over financial reporting resulted in material errors related to the recognition and classification of gains and losses on derivative contracts, and resulted in restatements of the Company’s previously-filed interim consolidated financial statements for the first three quarters of the year-ended December 31, 2005. |
As a result of the material weakness in internal control over financial reporting described in the preceding paragraph, management has concluded that as of December 31, 2004,2005, the Company’s internal control over financial reporting was not effective to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles.
KPMG LLP, the independent registered public accounting firm that audited the Company’s consolidated financial statements included in this report, has issued an attestationaudit report on management’s assessment of internal control over financial reporting, a copy of which appears on the next page of this Annual Report on Form 10-K.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Lennox International Inc.:
We have audited management’s assessment, included in the accompanying Management’s Report Onon Internal Control Over Financial Reporting (Item 8), that Lennox International Inc. maintained(the Company) did not maintain effective internal control over financial reporting as of December 31, 2004,2005, because of the effect of the material weakness identified in management’s assessment, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Lennox International Inc.’sThe Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following material weakness has been identified and included in management’s assessment as of December 31, 2005:
| | |
| • | The Company did not maintain effectively designed internal controls to ensure accounting for derivative financial instrument transactions in accordance with U.S. generally accepted accounting principles. Specifically, the Company did not have policies and procedures in place to ensure compliance with requirements to prepare contemporaneous documentation and assess hedge effectiveness at the inception of certain derivative financial instrument transactions. Furthermore, the Company did not have policies and procedures in place to review the propriety of accounting for certain commodity futures contract transactions subsequent to the inception of such contracts. These deficiencies in internal control over financial reporting resulted in material errors related to the recognition and classification of gains and losses on derivative contracts, and resulted in restatements of the Company’s previously-filed interim consolidated financial statements for the first three quarters of the year-ended December 31, 2005. |
38
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Lennox International Inc. and subsidiaries as of December 31, 2005 and 2004, and the related consolidated statements of operations, stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2005. In connection with our audits of the consolidated financial statements, we have also audited financial statement schedule II. The aforementioned material weakness was considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2005 consolidated financial statements and the financial statement schedule and this report does not affect our report dated March 16, 2006, which expressed an unqualified opinion on those consolidated financial statements and the financial statement schedule.
In our opinion, management’s assessment that Lennox International Inc. maintaineddid not maintain effective internal control over financial reporting as of December 31, 2004,2005, is fairly stated, in all material respects, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, Lennox International Inc.because of the effect of the material weakness described above on the achievement of the objectives of the control criteria, the Company has not maintained in all material respects, effective internal control over financial reporting as of December 31, 2004,2005, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
/s/ KPMG LLP
Dallas, Texas
March 16, 2006
39
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Lennox International Inc.:
We also have audited in accordance with the standards of the Public Company Accounting Oversight Board (United States), theaccompanying consolidated balance sheets of Lennox International Inc. and subsidiaries as of December 31, 20042005 and 2003,2004, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2004, and2005. In connection with our report dated March 15, 2005 expressed an unqualified opinion on thoseaudits of the consolidated financial statements.
KPMG LLP
Dallas, Texas
March 15, 2005
33
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of
Directors of Lennox International Inc.:
Westatements, we have also audited the accompanying consolidated balance sheets of Lennox International Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2004.financial statement schedule II. These consolidated financial statements and the financial statement schedule II are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Lennox International Inc. and subsidiaries as of December 31, 20042005 and 2003,2004, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004,2005, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule for the years ended December 31, 2005, 2004 2003 and 2002,2003, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
As discussed in Note 2 (under the heading “Goodwill and Other Intangible Assets”) to the consolidated financial statements, the Company changed its method of accounting for goodwill and other intangible assets in 2002 to conform to Statement of Financial Accounting Standard (SFAS) No. 142, Goodwill and Other Intangible Assets.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Lennox International Inc.’s internal control over financial reporting as of December 31, 2004,2005, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 15, 200516, 2006 expressed an unqualified opinion on management’s assessment of and the effective operationeffectiveness of internal control over financial reporting.reporting and an adverse opinion on the effectiveness of internal control over financial reporting because of the existence of a material weakness.
/s/ KPMG LLP
Dallas, Texas
March 15, 200516, 2006
3440
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of December 31, 20042005 and 20032004
(In millions, except share data)
| | | | | | | | | | | | | | | | | | | | | |
| | | | As of December 31, | | | | As of December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | |
ASSETS | | CURRENT ASSETS: | CURRENT ASSETS: | | | | | | | | CURRENT ASSETS: | | | | | | | |
| | Cash and cash equivalents | | $ | 60.9 | | $ | 76.1 | | Cash and cash equivalents | | $ | 213.5 | | $ | 60.9 | |
| | Accounts and notes receivable, net | | | 472.5 | | | 416.6 | | Accounts and notes receivable, net | | | 508.4 | | | 472.5 | |
| | Inventories | | | 247.2 | | | 214.1 | | Inventories | | | 242.4 | | | 247.2 | |
| | Deferred income taxes | | | 13.1 | | | 33.4 | | Deferred income taxes | | | 20.3 | | | 13.1 | |
| | Other assets | | | 45.9 | | | 37.0 | | Other assets | | | 62.6 | | | 45.9 | |
| | Assets held for sale | | | 5.1 | | | 88.8 | | Assets held for sale | | | — | | | 5.1 | |
| | | | | | | | | | | | | |
| | | Total current assets | | | 844.7 | | | 866.0 | | | Total current assets | | | 1,047.2 | | | 844.7 | |
| PROPERTY, PLANT AND EQUIPMENT, net | PROPERTY, PLANT AND EQUIPMENT, net | | | 234.0 | | | 229.6 | | PROPERTY, PLANT AND EQUIPMENT, net | | | 255.7 | | | 234.0 | |
| GOODWILL, net | | | 225.4 | | | 432.5 | | |
| GOODWILL | | GOODWILL | | | 223.9 | | | 225.4 | |
| DEFERRED INCOME TAXES | DEFERRED INCOME TAXES | | | 82.8 | | | 65.0 | | DEFERRED INCOME TAXES | | | 71.9 | | | 82.8 | |
| OTHER ASSETS | OTHER ASSETS | | | 131.7 | | | 127.0 | | OTHER ASSETS | | | 138.9 | | | 131.7 | |
| | | | | | | | | | | | | |
| | | TOTAL ASSETS | | $ | 1,518.6 | | $ | 1,720.1 | | | TOTAL ASSETS | | $ | 1,737.6 | | $ | 1,518.6 | |
| | | | | | | | | | | | | |
| LIABILITIES AND STOCKHOLDERS’ EQUITY | | | CURRENT LIABILITIES: | CURRENT LIABILITIES: | | | | | | | | CURRENT LIABILITIES: | | | | | | | |
| | Short-term debt | | $ | 6.0 | | $ | 3.6 | | Short-term debt | | $ | 1.2 | | $ | 6.0 | |
| | Current maturities of long-term debt | | | 36.4 | | | 21.4 | | Current maturities of long-term debt | | | 11.3 | | | 36.4 | |
| | Accounts payable | | | 237.0 | | | 247.3 | | Accounts payable | | | 296.8 | | | 237.0 | |
| | Accrued expenses | | | 286.3 | | | 279.1 | | Accrued expenses | | | 321.7 | | | 286.3 | |
| | Income taxes payable | | | 14.6 | | | 35.3 | | Income taxes payable | | | 24.8 | | | 14.6 | |
| | Liabilities held for sale | | | 3.7 | | | 28.6 | | Liabilities held for sale | | | 0.7 | | | 3.7 | |
| | | | | | | | | | | | | |
| | | Total current liabilities | | | 584.0 | | | 615.3 | | | Total current liabilities | | | 656.5 | | | 584.0 | |
| LONG-TERM DEBT | LONG-TERM DEBT | | | 268.1 | | | 337.3 | | LONG-TERM DEBT | | | 108.0 | | | 268.1 | |
| POSTRETIREMENT BENEFITS, OTHER THAN PENSIONS | POSTRETIREMENT BENEFITS, OTHER THAN PENSIONS | | | 14.2 | | | 13.8 | | POSTRETIREMENT BENEFITS, OTHER THAN PENSIONS | | | 15.1 | | | 14.2 | |
| PENSIONS | PENSIONS | | | 105.5 | | | 94.1 | | PENSIONS | | | 80.8 | | | 105.5 | |
| OTHER LIABILITIES | OTHER LIABILITIES | | | 73.9 | | | 81.9 | | OTHER LIABILITIES | | | 82.8 | | | 73.9 | |
| | | | | | | | | | | | | |
| | | Total liabilities | | | 1,045.7 | | | 1,142.4 | | | Total liabilities | | | 943.2 | | | 1,045.7 | |
| | | | | | | | | | | | | |
| COMMITMENTS AND CONTINGENCIES | COMMITMENTS AND CONTINGENCIES | | | | | | | | COMMITMENTS AND CONTINGENCIES | | | | | | | |
| STOCKHOLDERS’ EQUITY: | STOCKHOLDERS’ EQUITY: | | | | | | | | STOCKHOLDERS’ EQUITY: | | | | | | | |
| | Preferred stock, $.01 par value, 25,000,000 shares authorized, no shares issued or outstanding | | | — | | | — | | Preferred stock, $.01 par value, 25,000,000 shares authorized, no shares issued or outstanding | | | — | | | — | |
| | Common stock, $.01 par value, 200,000,000 shares authorized, 66,367,987 shares and 64,247,203 shares issued for 2004 and 2003, respectively | | | 0.7 | | | 0.6 | | Common stock, $.01 par value, 200,000,000 shares authorized, 74,671,494 shares and 66,367,987 shares issued for 2005 and 2004, respectively | | | 0.7 | | | 0.7 | |
| | Additional paid-in capital | | | 454.1 | | | 420.4 | | Additional paid-in capital | | | 649.3 | | | 454.1 | |
| | Retained earnings | | | 66.8 | | | 224.4 | | Retained earnings | | | 191.0 | | | 66.8 | |
| | Accumulated other comprehensive loss | | | 0.7 | | | (18.4 | ) | Accumulated other comprehensive income | | | 0.4 | | | 0.7 | |
| | Deferred compensation | | | (18.2 | ) | | | (18.2 | ) | Deferred compensation | | | — | | | (18.2 | ) |
| | Treasury stock, at cost, 3,044,286 shares and 3,043,916 shares for 2004 and 2003 respectively | | | (31.2 | ) | | | (31.1 | ) | Treasury stock, at cost, 3,635,947 shares and 3,044,286 shares for 2005 and 2004, respectively | | | (47.0 | ) | | | (31.2 | ) |
| | | | | | | | | | | | | |
| | | Total stockholders’ equity | | | 472.9 | | | 577.7 | | | Total stockholders’ equity | | | 794.4 | | | 472.9 | |
| | | | | | | | | | | | | |
| | | TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | | $ | 1,518.6 | | $ | 1,720.1 | | | TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | | $ | 1,737.6 | | $ | 1,518.6 | |
| | | | | | | | | | | | | |
The accompanying notes are an integral part of these consolidated financial statements.
3541
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2005, 2004 2003, and 20022003
(In millions, except per share data)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | For the Years Ended December 31, | | | | For the Years Ended December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2002 | | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | | | |
| NET SALES | NET SALES | | $ | 2,982.7 | | $ | 2,789.9 | | $ | 2,727.4 | | NET SALES | | $ | 3,366.2 | | $ | 2,982.7 | | $ | 2,789.9 | |
| COST OF GOODS SOLD | COST OF GOODS SOLD | | | 1,985.2 | | | 1,846.6 | | | 1,861.3 | | COST OF GOODS SOLD | | | 2,258.2 | | | 1,985.2 | | | 1,846.6 | |
| | | | | | | | | | | | | | | | | |
| | Gross Profit | | | 997.5 | | | 943.3 | | | 866.1 | | Gross Profit | | | 1,108.0 | | | 997.5 | | | 943.3 | |
| OPERATING EXPENSES: | OPERATING EXPENSES: | | | | | | | | | | | OPERATING EXPENSES: | | | | | | | | | | |
| | Selling, general and administrative expense | | | 826.1 | | | 783.6 | | | 764.9 | | Selling, general and administrative expense | | | 902.4 | | | 826.1 | | | 783.6 | |
| | Goodwill impairment | | | 208.0 | | | — | | | — | | (Gains), losses and other expenses, net | | | (50.2 | ) | | | — | | | 1.9 | |
| | (Gains) losses and other expenses | | | — | | | 1.9 | | | (7.9 | ) | Restructuring charge | | | 2.4 | | | — | | | — | |
| | Restructurings | | | — | | | — | | | 7.8 | | Goodwill impairment | | | — | | | 208.0 | | | — | |
| | | | | | | | | | | | | | | | | |
| | | Operational (loss) income from continuing operations | | | (36.6 | ) | | | 157.8 | | | 101.3 | | | Operational income (loss) from continuing operations | | | 253.4 | | | (36.6 | ) | | | 157.8 | |
| INTEREST EXPENSE, net | INTEREST EXPENSE, net | | | 27.2 | | | 28.4 | | | 31.6 | | INTEREST EXPENSE, net | | | 15.4 | | | 27.2 | | | 28.4 | |
| OTHER INCOME | | | (0.8 | ) | | | (2.4 | ) | | | (0.9 | ) | |
| OTHER EXPENSE (INCOME) | | OTHER EXPENSE (INCOME) | | | 3.0 | | | (0.8 | ) | | | (2.4 | ) |
| | | | | | | | | | | | | | | | | |
| | | (Loss) income from continuing operations before income taxes and cumulative effect of accounting change | | | (63.0 | ) | | | 131.8 | | | 70.6 | | | Income (loss) from continuing operations before income taxes and cumulative effect of accounting change | | | 235.0 | | | (63.0 | ) | | | 131.8 | |
| PROVISION FOR INCOME TAXES | PROVISION FOR INCOME TAXES | | | 30.5 | | | 45.1 | | | 32.2 | | PROVISION FOR INCOME TAXES | | | 83.0 | | | 30.5 | | | 45.1 | |
| | | | | | | | | | | | | | | | | |
| | | | Income (loss) from continuing operations before cumulative effect of accounting change | | | 152.0 | | | (93.5 | ) | | | 86.7 | |
| CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET | | CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET | | | (0.1 | ) | | | — | | | — | |
| | | (Loss) income from continuing operations before cumulative effect of accounting change | | | (93.5 | ) | | | 86.7 | | | 38.4 | | | | | | | | | |
| | | | | | | | | | | Income (loss) from continuing operations | | | 152.1 | | | (93.5 | ) | | | 86.7 | |
| DISCONTINUED OPERATIONS: | DISCONTINUED OPERATIONS: | | | | | | | | | | | DISCONTINUED OPERATIONS: | | | | | | | | | | |
| | Loss (income) from operations of discontinued operations | | | 38.9 | | | 0.1 | | | (7.9 | ) | Loss from operations of discontinued operations | | | 2.0 | | | 38.9 | | | 0.1 | |
| | Income tax (benefit) provision | | | (9.3 | ) | | | 0.2 | | | 1.9 | | Income tax (benefit) expense | | | (0.5 | ) | | | (9.3 | ) | | | 0.2 | |
| | Loss on disposal of discontinued operations | | | 14.9 | | | — | | | — | | Loss on disposal of discontinued operations | | | 0.1 | | | 14.9 | | | — | |
| | Income tax benefit | | | (3.6 | ) | | | — | | | — | | Income tax benefit | | | (0.2 | ) | | | (3.6 | ) | | | — | |
| | | | | | | | | | | | | | | | | |
| | | Loss (income) from discontinued operations | | | 40.9 | | | 0.3 | | | (6.0 | ) | | Loss from discontinued operations | | | 1.4 | | | 40.9 | | | 0.3 | |
| | | | | | | | | | | | | | | | | |
| CUMULATIVE EFFECT OF ACCOUNTING CHANGE | | | — | | | — | | | 247.9 | | |
| | | | | | | | | | | Net income (loss) | | $ | 150.7 | | $ | (134.4 | ) | | $ | 86.4 | |
| | | Net (loss) income | | $ | (134.4 | ) | | $ | 86.4 | | $ | (203.5 | ) | | | | | | | | |
| | | | | | | | | |
| (LOSS) INCOME PER SHARE FROM CONTINUING OPERATIONS BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE: | | | | | | | | | | | |
| INCOME (LOSS) PER SHARE FROM CONTINUING OPERATIONS BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE: | | INCOME (LOSS) PER SHARE FROM CONTINUING OPERATIONS BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE: | | | | | | | | | | |
| | Basic | | $ | (1.56 | ) | | $ | 1.49 | | $ | 0.67 | | Basic | | $ | 2.37 | | $ | (1.56 | ) | | $ | 1.49 | |
| | Diluted | | $ | (1.56 | ) | | $ | 1.36 | | $ | 0.66 | | Diluted | | $ | 2.13 | | $ | (1.56 | ) | | $ | 1.36 | |
| (LOSS) INCOME PER SHARE FROM DISCONTINUED OPERATIONS: | | | | | | | | | | | |
| CUMULATIVE EFFECT OF ACCOUNTING CHANGE: | | CUMULATIVE EFFECT OF ACCOUNTING CHANGE: | | | | | | | | | | |
| | Basic | | $ | (0.68 | ) | | $ | (0.01 | ) | | $ | 0.11 | | Basic | | $ | — | | $ | — | | $ | — | |
| | Diluted | | $ | (0.68 | ) | | $ | — | | $ | 0.09 | | Diluted | | $ | — | | $ | — | | $ | — | |
| CUMULATIVE EFFECT OF ACCOUNTING CHANGE PER SHARE: | | | | | | | | | | | |
| INCOME (LOSS) PER SHARE FROM CONTINUING OPERATIONS: | | INCOME (LOSS) PER SHARE FROM CONTINUING OPERATIONS: | | | | | | | | | | |
| | Basic | | $ | — | | $ | — | | $ | (4.33 | ) | Basic | | $ | 2.37 | | $ | (1.56 | ) | | $ | 1.49 | |
| | Diluted | | $ | — | | $ | — | | $ | (3.86 | ) | Diluted | | $ | 2.13 | | $ | (1.56 | ) | | $ | 1.36 | |
| NET (LOSS) INCOME PER SHARE: | | | | | | | | | | | |
| (LOSS) PER SHARE FROM DISCONTINUED OPERATIONS: | | (LOSS) PER SHARE FROM DISCONTINUED OPERATIONS: | | | | | | | | | | |
| | Basic | | $ | (2.24 | ) | | $ | 1.48 | | $ | (3.55 | ) | Basic | | $ | (0.02 | ) | | $ | (0.68 | ) | | $ | (0.01 | ) |
| | Diluted | | $ | (2.24 | ) | | $ | 1.36 | | $ | (3.11 | ) | Diluted | | $ | (0.02 | ) | | $ | (0.68 | ) | | $ | — | |
| NET INCOME (LOSS) PER SHARE: | | NET INCOME (LOSS) PER SHARE: | | | | | | | | | | |
| | | Basic | | $ | 2.35 | | $ | (2.24 | ) | | $ | 1.48 | |
| | | Diluted | | $ | 2.11 | | $ | (2.24 | ) | | $ | 1.36 | |
| AVERAGE SHARES OUTSTANDING: | | AVERAGE SHARES OUTSTANDING: | | | | | | | | | | |
| | | Basic | | | 64.2 | | | 60.0 | | | 58.4 | |
| | | Diluted | | | 73.7 | | | 60.0 | | | 68.3 | |
| CASH DIVIDENDS DECLARED PER SHARE | | CASH DIVIDENDS DECLARED PER SHARE | | $ | 0.41 | | $ | 0.385 | | $ | 0.38 | |
The accompanying notes are an integral part of these consolidated financial statements.
3642
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
For the Years Ended December 31, 2005, 2004 2003 and 20022003
(In millions, except per share data)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Common Stock | | | | | | | | | | | | | | | | |
| | | | | | Additional | | | | | | | | | Treasury | | | Total | | | | |
| | | Shares | | | | | Paid-In | | | Retained | | | Accumulated Other | | | Deferred | | | Stock at | | | Stockholders’ | | | Comprehensive | | |
| | | Issued | | | Amount | | | Capital | | | Earnings | | | Comp (Loss) Gain | | | Compensation | | | Cost | | | Equity | | | Income (Loss) | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| BALANCE AT DECEMBER 31, 2001 | | | 60.7 | | $ | 0.6 | | $ | 372.9 | | $ | 385.5 | | $ | (68.6 | ) | | $ | (6.0 | ) | | $ | (30.4 | ) | | $ | 654.0 | | | — | | |
| | Net loss | | | — | | | — | | | — | | | (203.5 | ) | | | — | | | — | | | — | | | (203.5 | ) | | $ | (203.5 | ) | |
| | Dividends, $0.38 per share | | | — | | | — | | | — | | | (21.8 | ) | | | — | | | — | | | — | | | (21.8 | ) | | | — | | |
| | Foreign currency translation adjustments | | | — | | | — | | | — | | | — | | | 17.0 | | | — | | | — | | | 17.0 | | | 17.0 | | |
| | Minimum pension liability adjustments, net of tax provision of $17.3 | | | — | | | — | | | — | | | — | | | (29.4 | ) | | | — | | | — | | | (29.4 | ) | | | (29.4 | ) | |
| | Deferred compensation | | | — | | | — | | | (1.7 | ) | | | — | | | — | | | (15.2 | ) | | | (0.3 | ) | | | (17.2 | ) | | | — | | |
| | Derivatives, net of tax provision of $1.3 | | | — | | | — | | | — | | | — | | | 2.3 | | | — | | | — | | | 2.3 | | | 2.3 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common stock issued | | | 2.4 | | | — | | | 29.3 | | | — | | | — | | | — | | | — | | | 29.3 | | | — | | | | Common Stock | | | | | | | | | | | | | | | |
| | Tax benefits of stock compensation | | | — | | | — | | | 2.9 | | | — | | | — | | | — | | | — | | | 2.9 | | | — | | | | Issued | | | Additional | | | | | Accumulated Other | | | | | Treasury | | | Total | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | Paid-In | | | Retained | | | Comprehensive | | | Deferred | | | Stock at | | | Stockholders’ | | | Comprehensive | |
| | Comprehensive loss | | | | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | $ | (213.6 | ) | | | Shares | | | Amount | | | Capital | | | Earnings | | | Income (Loss) | | | Compensation | | | Cost | | | Equity | | | Income (Loss) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| BALANCE AT DECEMBER 31, 2002 | BALANCE AT DECEMBER 31, 2002 | | | 63.1 | | $ | 0.6 | | $ | 403.4 | | $ | 160.2 | | $ | (78.7 | ) | | $ | (21.2 | ) | | $ | (30.7 | ) | | $ | 433.6 | | | | | BALANCE AT DECEMBER 31, 2002 | | | 63.1 | | $ | 0.6 | | $ | 403.4 | | $ | 160.2 | | $ | (78.7 | ) | | $ | (21.2 | ) | | $ | (30.7 | ) | | $ | 433.6 | | | — | |
| | | Net income | | | — | | | — | | | — | | | 86.4 | | | — | | | — | | | — | | | 86.4 | | $ | 86.4 | |
| | Net income | | | — | | | — | | | — | | | 86.4 | | | — | | | — | | | — | | | 86.4 | | $ | 86.4 | | Dividends, $0.38 per share | | | — | | | — | | | — | | | (22.2 | ) | | | — | | | — | | | — | | | (22.2 | ) | | | — | |
| | Dividends, $0.38 per share | | | — | | | — | | | — | | | (22.2 | ) | | | — | | | — | | | — | | | (22.2 | ) | | | — | | Foreign currency translation adjustments | | | — | | | — | | | — | | | — | | | 63.7 | | | — | | | — | | | 63.7 | | | 63.7 | |
| | Foreign currency translation adjustments | | | — | | | — | | | — | | | — | | | 63.7 | | | — | | | — | | | 63.7 | | | 63.7 | | Minimum pension liability adjustments, net of tax provision of $0.7 | | | — | | | — | | | — | | | — | | | (5.2 | ) | | | — | | | — | | | (5.2 | ) | | | (5.2 | ) |
| | Minimum pension liability adjustments, net of tax provision of $0.7 | | | — | | | — | | | — | | | — | | | (5.2 | ) | | | — | | | — | | | (5.2 | ) | | | (5.2 | ) | Stock-based compensation expense | | | — | | | — | | | 3.1 | | | — | | | — | | | 3.0 | | | — | | | 6.1 | | | — | |
| | Deferred compensation | | | — | | | — | | | 3.1 | | | — | | | — | | | 3.0 | | | (0.4 | ) | | | 5.7 | | | — | | Derivatives, net of tax provision of $0.9 | | | — | | | — | | | — | | | — | | | 1.8 | | | — | | | — | | | 1.8 | | | 1.8 | |
| | Derivatives, net of tax provision of $0.9 | | | — | | | — | | | — | | | — | | | 1.8 | | | — | | | — | | | 1.8 | | | 1.8 | | Common stock issued | | | 1.3 | | | — | | | 12.5 | | | — | | | — | | | — | | | — | | | 12.5 | | | — | |
| | Common stock issued | | | 1.3 | | | — | | | 12.5 | | | — | | | — | | | — | | | — | | | 12.5 | | | — | | Tax benefits of stock compensation | | | — | | | — | | | 1.4 | | | — | | | — | | | — | | | — | | | 1.4 | | | — | |
| | Tax benefits of stock compensation | | | — | | | — | | | 1.4 | | | — | | | — | | | — | | | — | | | 1.4 | | | — | | Treasury stock purchases | | | — | | | — | | | — | | | — | | | — | | | — | | | (0.4 | ) | | | (0.4 | ) | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Comprehensive income | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | $ | 146.7 | | Comprehensive income | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | $ | 146.7 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| BALANCE AT DECEMBER 31, 2003 | BALANCE AT DECEMBER 31, 2003 | | | 64.4 | | $ | 0.6 | | $ | 420.4 | | $ | 224.4 | | $ | (18.4 | ) | | $ | (18.2 | ) | | $ | (31.1 | ) | | $ | 577.7 | | | | | BALANCE AT DECEMBER 31, 2003 | | | 64.4 | | $ | 0.6 | | $ | 420.4 | | $ | 224.4 | | $ | (18.4 | ) | | $ | (18.2 | ) | | $ | (31.1 | ) | | $ | 577.7 | | | | |
| | Net loss | | | — | | | — | | | — | | | (134.4 | ) | | | — | | | — | | | — | | | (134.4 | ) | | $ | (134.4 | ) | Net loss | | | — | | | — | | | — | | | (134.4 | ) | | | — | | | — | | | — | | | (134.4 | ) | | $ | (134.4 | ) |
| | Dividends, $0.385 per share | | | — | | | — | | | — | | | (23.2 | ) | | | — | | | — | | | — | | | (23.2 | ) | | | — | | Dividends, $0.385 per share | | | — | | | — | | | — | | | (23.2 | ) | | | — | | | — | | | — | | | (23.2 | ) | | | — | |
| | Foreign currency translation adjustments | | | — | | | — | | | — | | | — | | | 23.0 | | | — | | | — | | | 23.0 | | | 23.0 | | Foreign currency translation adjustments | | | — | | | — | | | — | | | — | | | 23.0 | | | — | | | — | | | 23.0 | | | 23.0 | |
| | Minimum pension liability adjustments, net of tax provision of $4.4 | | | — | | | — | | | — | | | — | | | (9.0 | ) | | | — | | | — | | | (9.0 | ) | | | (9.0 | ) | Minimum pension liability adjustments, net of tax provision of $4.4 | | | — | | | — | | | — | | | — | | | (9.0 | ) | | | — | | | — | | | (9.0 | ) | | | (9.0 | ) |
| | Deferred compensation | | | — | | | — | | | 7.9 | | | — | | | — | | | — | | | — | | | 7.9 | | | — | | Deferred compensation | | | — | | | — | | | 7.9 | | | — | | | — | | | — | | | — | | | 7.9 | | | — | |
| | Derivatives, net of tax provision of $2.9 | | | — | | | — | | | — | | | — | | | 5.1 | | | — | | | — | | | 5.1 | | | 5.1 | | Derivatives, net of tax provision of $2.9 | | | — | | | — | | | — | | | — | | | 5.1 | | | — | | | — | | | 5.1 | | | 5.1 | |
| | Common stock issued | | | 2.0 | | | 0.1 | | | 20.3 | | | — | | | — | | | — | | | (0.1 | ) | | | 20.3 | | | — | | Common stock issued | | | 2.0 | | | 0.1 | | | 20.3 | | | — | | | — | | | — | | | — | | | 20.4 | | | — | |
| | Tax benefits of stock compensation | | | — | | | — | | | 5.5 | | | — | | | — | | | — | | | — | | | 5.5 | | | — | | Tax benefits of stock compensation | | | — | | | — | | | 5.5 | | | — | | | — | | | — | | | — | | | 5.5 | | | — | |
| | | | | | | | | | | | | | | | | | | | | | Treasury stock purchases | | | — | | | — | | | — | | | — | | | — | | | — | | | (0.1 | ) | | | (0.1 | ) | | | — | |
| | Comprehensive loss | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | $ | (115.3 | ) | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | Comprehensive loss | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | $ | (115.3 | ) |
| | | | | | | | | | | | | | | | | | | | | | |
| BALANCE AT DECEMBER 31, 2004 | BALANCE AT DECEMBER 31, 2004 | | | 66.4 | | $ | 0.7 | | $ | 454.1 | | $ | 66.8 | | $ | 0.7 | | $ | (18.2 | ) | | $ | (31.2 | ) | | $ | 472.9 | | | | | BALANCE AT DECEMBER 31, 2004 | | | 66.4 | | $ | 0.7 | | $ | 454.1 | | $ | 66.8 | | $ | 0.7 | | $ | (18.2 | ) | | $ | (31.2 | ) | | $ | 472.9 | | | | |
| | | | | | | | | | | | | | | | | | | | | | Net income | | | — | | | — | | | — | | | 150.7 | | | — | | �� | | — | | | — | | | 150.7 | | $ | 150.7 | |
| | | Dividends, $0.41 per share | | | — | | | — | | | — | | | (26.5 | ) | | | — | | | — | | | — | | | (26.5 | ) | | | — | |
| | | Foreign currency translation adjustments | | | — | | | — | | | — | | | — | | | (10.9 | ) | | | — | | | — | | | (10.9 | ) | | | (10.9 | ) |
| | | Minimum pension liability adjustments, net of tax benefit of $9.4 | | | — | | | — | | | — | | | — | | | 17.0 | | | — | | | — | | | 17.0 | | | 17.0 | |
| | | Adoption of Statement of Financial Accounting Standard No. 123R | | | (2.3 | ) | | | — | | | (2.6 | ) | | | — | | | — | | | 7.4 | | | — | | | 4.8 | | | — | |
| | | Stock based compensation expense | | | — | | | — | | | 18.0 | | | — | | | — | | | 10.8 | | | — | | | 28.8 | | | — | |
| | | Derivatives, net of tax provision of $3.8 | | | — | | | — | | | — | | | — | | | (6.4 | ) | | | — | | | — | | | (6.4 | ) | | | (6.4 | ) |
| | | Common stock issued | | | 2.7 | | | — | | | 25.8 | | | — | | | — | | | — | | | — | | | 25.8 | | | — | |
| | | Redemption of Convertible Notes | | | 7.9 | | | — | | | 144.3 | | | — | | | — | | | — | | | — | | | 144.3 | | | — | |
| | | Treasury stock purchases | | | — | | | — | | | — | | | — | | | — | | | — | | | (15.8 | ) | | | (15.8 | ) | | | — | |
| | | Tax benefits of stock compensation | | | — | | | — | | | 9.7 | | | — | | | — | | | — | | | — | | | 9.7 | | | — | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | Comprehensive income | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | $ | 150.4 | |
| | | | | | | | | | | | | | | | | | | | | | |
| BALANCE AT DECEMBER 31, 2005 | | BALANCE AT DECEMBER 31, 2005 | | $ | 74.7 | | $ | 0.7 | | $ | 649.3 | | $ | 191.0 | | $ | 0.4 | | $ | — | | $ | (47.0 | ) | | $ | 794.4 | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
The accompanying notes are an integral part of these consolidated financial statementsstatements.
3743
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2005, 2004 2003 and 20022003
(In millions)
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | For the Years Ended December 31, | |
| | | | For the Years Ended | | | | | |
| | | | December 31, | | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2002 | | | | | | Revised | | | Revised | |
| | | | | | | | | | | | | | | | (See Note 2) | | | (See Note 2) | |
| CASH FLOWS FROM OPERATING ACTIVITIES: | CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | | | | | | CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | | | | | |
| | | Net income (loss) | | $ | 150.7 | | $ | (134.4 | ) | | $ | 86.4 | |
| | | | Adjustments to reconcile net income (loss) to net cash provided by operating activities: | | | | | | | | | | |
| | Net (loss) income | | $ | (134.4 | ) | | $ | 86.4 | | $ | (203.5 | ) | | Equity in earnings of unconsolidated affiliates | | | (14.2 | ) | | | (9.1 | ) | | | (6.9 | ) |
| | | Adjustments to reconcile net (loss) income to net cash provided by operating activities: | | | | | | | | | | | | Minority interest | | | 0.3 | | | 1.0 | | | 1.7 | |
| | | Minority interest and equity in unconsolidated affiliates | | | (8.1 | ) | | | (5.2 | ) | | | (4.1 | ) | | Non-cash restructuring expenses | | | 0.9 | | | — | | | — | |
| | | Non-cash impairments and cumulative effect of accounting change | | | 225.9 | | | — | | | 247.9 | | | Non-cash impairment of long-lived assets and goodwill | | | — | | | 208.0 | | | — | |
| | | Depreciation and amortization | | | 42.6 | | | 46.1 | | | 53.9 | | | Unrealized gain on futures contracts | | | (23.3 | ) | | | — | | | — | |
| | | Non-cash restructuring charges | | | — | | | — | | | 1.5 | | | Stock based compensation expense | | | 28.8 | | | 11.9 | | | 6.1 | |
| | | Deferred income taxes | | | 3.2 | | | (0.2 | ) | | | (9.8 | ) | | Depreciation and amortization | | | 37.4 | | | 42.6 | | | 46.1 | |
| | | Loss (gain) from discontinued operations | | | 23.0 | | | 0.3 | | | (6.0 | ) | | Deferred income taxes | | | 11.9 | | | 3.2 | | | (0.2 | ) |
| | | Other (gains) losses and expenses | | | 13.7 | | | 13.2 | | | (3.5 | ) | | Other (gains), losses and expenses, net | | | (2.9 | ) | | | 13.7 | | | 13.2 | |
| | Changes in assets and liabilities, net of effects of acquisitions and divestitures — | | | | | | | | | | | Changes in assets and liabilities, net of effects of divestitures: | | | | | | | | | | |
| | | Accounts and notes receivable | | | (57.3 | ) | | | (145.2 | ) | | | (39.3 | ) | | Accounts and notes receivable | | | (53.6 | ) | | | (57.3 | ) | | | (145.2 | ) |
| | | Inventories | | | (28.3 | ) | | | (0.8 | ) | | | 52.6 | | | Inventories | | | 0.1 | | | (28.3 | ) | | | (0.8 | ) |
| | | Other current assets | | | (8.0 | ) | | | (2.2 | ) | | | 23.3 | | | Other current assets | | | (16.2 | ) | | | (8.0 | ) | | | (2.2 | ) |
| | | Accounts payable | | | (15.4 | ) | | | 1.5 | | | 12.0 | | | Accounts payable | | | 64.4 | | | (15.4 | ) | | | 1.5 | |
| | | Accrued expenses | | | 2.4 | | | 19.6 | | | 11.7 | | | Accrued expenses | | | 40.3 | | | 2.4 | | | 19.6 | |
| | | Income taxes payable and receivable | | | (6.4 | ) | | | 23.8 | | | 5.6 | | | Income taxes payable and receivable | | | 23.1 | | | (6.4 | ) | | | 23.8 | |
| | | Long-term warranty, deferred income and other liabilities | | | 9.3 | | | 20.1 | | | 8.5 | | | Long-term warranty, deferred income and other liabilities | | | (16.9 | ) | | | (2.6 | ) | | | 14.0 | |
| | | Net cash (used in) provided by operating activities from discontinued operations | | | (6.3 | ) | | | (1.9 | ) | | | 16.7 | | | Net cash (used in) provided by operating activities from discontinued operations | | | (2.1 | ) | | | 36.1 | | | (0.4 | ) |
| | | | | | | | | | | | | | | | | |
| | | Net cash provided by operating activities | | | 55.9 | | | 55.5 | | | 167.5 | | | Net cash provided by operating activities | | | 228.7 | | | 57.4 | | | 56.7 | |
| | | | | | | | | | | | | | | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES: | CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | | | | | | CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | | | | | |
| | Proceeds from the disposal of property, plant and equipment | | | 1.5 | | | 10.2 | | | 4.0 | | Proceeds from the disposal of property, plant and equipment | | | 0.7 | | | 1.5 | | | 10.2 | |
| | Purchases of property, plant and equipment | | | (40.3 | ) | | | (39.7 | ) | | | (22.4 | ) | Purchases of property, plant and equipment | | | (63.3 | ) | | | (40.3 | ) | | | (39.7 | ) |
| | Dividend from affiliates | | | 2.8 | | | — | | | — | | Dividends from affiliates | | | — | | | 2.8 | | | — | |
| | Proceeds from disposal of businesses and investments | | | 23.3 | | | 8.9 | | | 55.8 | | Additional investment in affiliates | | | — | | | (3.7 | ) | | | (0.6 | ) |
| | Additional investment in affiliates | | | (3.7 | ) | | | (0.6 | ) | | | (4.7 | ) | Proceeds from disposal of investments (continuing operations) | | | 39.3 | | | — | | | 8.9 | |
| | | | | | | | | | Net cash provided by (used in) investing activities from discontinued operations | | | 2.5 | | | 21.8 | | | (1.2 | ) |
| | | Net cash (used in) provided by investing activities | | | (16.4 | ) | | | (21.2 | ) | | | 32.7 | | | | | | | | | |
| | | | | | | | | | | Net cash used in investing activities | | | (20.8 | ) | | | (17.9 | ) | | | (22.4 | ) |
| | | | | | | | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES: | CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | | | | | | CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | | | | | |
| | Short-term borrowings (repayments) | | | 2.0 | | | (6.8 | ) | | | (16.3 | ) | Short-term (repayments) borrowings, net | | | (4.2 | ) | | | 2.0 | | | (6.8 | ) |
| | Proceeds of long-term debt | | | 0.2 | | | — | | | — | | Long-term debt (repayments) borrowings, net | | | (36.3 | ) | | | (56.3 | ) | | | (15.4 | ) |
| | Repayments of long-term debt | | | (56.5 | ) | | | (15.4 | ) | | | (57.0 | ) | Revolver long-term (repayments) borrowings, net | | | (5.0 | ) | | | 2.0 | | | 3.0 | |
| | Revolving long-term borrowings | | | 2.0 | | | 3.0 | | | (212.7 | ) | Sales of common stock | | | 25.8 | | | 20.4 | | | 12.5 | |
| | Proceeds from issuance of long-term debt | | | — | | | — | | | 143.8 | | Payments of deferred financing costs | | | (1.7 | ) | | | (0.3 | ) | | | (2.7 | ) |
| | Sales of common stock | | | 20.4 | | | 12.5 | | | 10.0 | | Repurchases of common stock | | | (15.8 | ) | | | (0.1 | ) | | | (0.4 | ) |
| | Repurchases of common stock | | | (0.1 | ) | | | (0.4 | ) | | | (0.3 | ) | Excess tax benefits related to share based payments | | | 5.1 | | | — | | | — | |
| | Payments of deferred finance costs | | | (0.3 | ) | | | (2.7 | ) | | | (5.9 | ) | Cash dividends paid | | | (24.8 | ) | | | (22.8 | ) | | | (22.1 | ) |
| | Cash dividends paid | | | (22.8 | ) | | | (22.1 | ) | | | (21.7 | ) | | | | | | | | |
| | | | | | | | | | | Net cash used in financing activities | | | (56.9 | ) | | | (55.1 | ) | | | (31.9 | ) |
| | | Net cash used in financing activities | | | (55.1 | ) | | | (31.9 | ) | | | (160.1 | ) | | | | | | | | |
| (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS | | | (15.6 | ) | | | 2.4 | | | 40.1 | | |
| INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | | INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | | | 151.0 | | | (15.6 | ) | | | 2.4 | |
| EFFECT OF EXCHANGE RATES ON CASH AND CASH EQUIVALENTS | EFFECT OF EXCHANGE RATES ON CASH AND CASH EQUIVALENTS | | | 0.4 | | | (0.7 | ) | | | (0.1 | ) | EFFECT OF EXCHANGE RATES ON CASH AND CASH EQUIVALENTS | | | 1.6 | | | 0.4 | | | (0.7 | ) |
| | | | | | | | | | | | | | | | | |
| CASH AND CASH EQUIVALENTS, beginning of year | CASH AND CASH EQUIVALENTS, beginning of year | | | 76.1 | | | 74.4 | | | 34.4 | | CASH AND CASH EQUIVALENTS, beginning of year | | | 60.9 | | | 76.1 | | | 74.4 | |
| | | | | | | | | | | | | | | | | |
| CASH AND CASH EQUIVALENTS, end of year | CASH AND CASH EQUIVALENTS, end of year | | $ | 60.9 | | $ | 76.1 | | $ | 74.4 | | CASH AND CASH EQUIVALENTS, end of year | | $ | 213.5 | | $ | 60.9 | | $ | 76.1 | |
| | | | | | | | | | | | | | | | | |
| Supplementary disclosures of cash flow information: | Supplementary disclosures of cash flow information: | | | | | | | | | | | Supplementary disclosures of cash flow information: | | | | | | | | | | |
| | Cash paid during the year for: | | | | | | | | | | | Cash paid during the year for: | | | | | | | | | | |
| | | Interest | | $ | 29.7 | | $ | 30.1 | | $ | 32.1 | | | Interest | | $ | 16.3 | | $ | 29.7 | | $ | 30.1 | |
| | | | | | | | | | | | | | | | | |
| | | Income taxes (net of refunds) | | $ | 17.4 | | $ | 9.1 | | $ | 17.3 | | | Income taxes (net of refunds) | | $ | 66.1 | | $ | 17.4 | | $ | 9.1 | |
| | | | | | | | | | | | | | | | | |
The accompanying notes are an integral part of these consolidated financial statements.
3844
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ended December 31, 2005, 2004 2003 and 20022003
Lennox International Inc., a Delaware corporation, and subsidiaries (the “Company” or “LII”), is a leading global designer, manufacturerprovider of climate control solutions. The Company designs, manufactures and marketer ofmarkets a broad range of products for the heating, ventilation, air conditioning and refrigeration (“HVACR”) markets. The Company participates in four reportable business segments of the HVACR industry. The first reportable segment is Residential Heating & Cooling, in which LII manufactures and markets a full line of heating, air conditioning and Hearth Productshearth products for the residential replacement and new construction markets in the United States and Canada. The second reportable segment is Commercial Heating & Cooling, in which LII manufactures and sells rooftop products and related equipment for commercial applications. Combined, the Residential Heating & Cooling and Commercial Heating & Cooling reportable business segments form LII’s heating and cooling business. The third reportable segment is Service Experts, which includes sales and installation of, and maintenance and repair services for, HVAC equipment by LII-owned service centers in the United States and Canada. The fourth reportable segment is Refrigeration, which consists of the manufacturemanufactures and sale ofsells unit coolers, condensing units and other commercial refrigeration products. Prior to August 2002, the Company operated a Heat Transfer segment that manufactured and sold evaporator and condenser coils, copper tubing and related manufacturing equipment to original equipment manufacturers and other specialty purchasers on a global basis. In August 2002, the Company formed joint ventures with Outokumpu Oyj (“Outokumpu”) of Finland by selling to Outokumpu a 55% interest in the Company’s heat transfer businesses for approximately $55 million in cash and notes. The Company accounts for its remaining 45% interest using the equity method of accounting and includes such amounts in the “Corporate and other “segment. See Note 3 for financial information regarding the Company’s reportable segments.
The Company sells its products and services to numerous types of customers, including distributors, installing dealers, homeowners, national accounts and original equipment manufacturers.
| |
| 2. | Summary of Significant Accounting Policies: |
| |
| Principles of Consolidation |
The consolidated financial statements include the accounts of Lennox International Inc. and its majority-owned subsidiaries. All intercompany transactions and balances have been eliminated.
| |
| Cash and Cash Equivalents |
The Company considers all highly liquid temporary investments with original maturity dates of three months or less to be cash equivalents. Cash and cash equivalents of $213.5 million and $60.9 million and $76.1 million atas of December 31, 20042005 and 2003,2004, respectively, consisted of cash, and overnight repurchase agreements and of investment grade securities and are stated at cost, which approximates fair value. The Company earned interest income of $4.2 million, $5.0 million $3.5 million and $2.0$3.5 million for the years ended December 31, 2005, 2004 2003 and 2002,2003, respectively, which is included in interest expense, net in the accompanying Consolidated Statements of Operations.
As of December 31, 2005 and 2004, and 2003, $19.8$23.1 million and $28.6$19.8 million, respectively, of cash and cash equivalents were restricted primarily due to outstandingroutine lockbox collections and letters of credit relatedissued with respect to the operations of the Company’s captive insurance plan.subsidiary, which expire on December 30, 2006. These letter of credit restrictions can be transferred to the Company’s revolving lines of credit as needed.
| |
| Accounts and Notes Receivable |
Accounts and notes receivable have beenare shown in the accompanying Consolidated Balance Sheets, net of an allowance for doubtful accounts of $18.5$16.7 million and $15.6$18.5 million, as of December 31, 20042005 and 2003,2004, respectively. The Company has no significant concentration of credit risk concentration amongwithin its diversified customer base.accounts and notes receivable.
3945
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Inventory costs include material, labor, depreciation and plant overhead. Inventories of $129.4 million and $121.2 million in 2005 and $93.3 million in 2004, and 2003, respectively, are valued at the lower of cost or market using thelast-in, first-out (LIFO) cost method. The remaining portion of the inventory is valued at the lower of cost or market with cost being determined either on thefirst-in, first-out (FIFO) basis or average cost. The Company elected to use the LIFO inventory valuation method for the Company’s domestic manufacturing companies in 1974 and continued to elect the LIFO method for new operations through the late 1980’s. The types of inventory include raw materials, purchased components, work-in-process, repair parts and finished goods. Starting in the late 1990’s, the Company began adopting the FIFO inventory valuation method for all new domestic manufacturing operations (primarily acquisitions). The Company’s operating entities with a previous LIFO election continue to use LIFO accounting. The Company also uses the FIFO inventory method for all of the Company’s foreign-based manufacturing facilities as well as the Company’s Service Experts segment, whose inventory is limited to service parts and finished goods. LIFO inventory liquidations did not have a material impact on gross margins during the years ended December 31, 2005, 2004 and 2003.
| |
| Property, Plant and Equipment |
Property, plant and equipment are stated at cost, net of accumulated depreciation. Expenditures for renewals and betterments are capitalized and expenditures for maintenance and repairs are charged to expense as incurred. Depreciation is computed using the straight-line method over the following estimated useful lives:
| | | | | |
| Buildings and improvements | | | 10 to 39 years | |
| Machinery and equipment | | | 3 to 10 years | |
The Company periodically reviews long-lived assets for impairment as events or changes in circumstances indicate that the carrying amount of such assets might not be recoverable. In order to assess recoverability, the Company compares the estimated expected future cash flows (undiscounted and without interest charges) identified with each long-lived asset or related asset grouping to the carrying amount of such assets. If the expected future cash flows do not exceed the carrying value of the asset or assets being reviewed, an impairment loss is recognized based on the excess of the carrying amount of the impaired assets over their fair value.
In March 2005, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 47,“Accounting for Conditional Asset Retirement Obligations — An Interpretation of FASB Statement No. 143” (“FIN No. 47”), which was effective for the Company as of December 31, 2005. This interpretation provides additional guidance as to when companies should record the fair value of a liability for a conditional asset retirement obligation when there is uncertainty about the timing or method of settlement of the obligation. The cumulative effect of the change in accounting related to the adoption of FIN No. 47 was not material for the year ended December 31, 2005.
| |
| Investments in Affiliates |
Investments in affiliates in which the Company does not exercise control and has a 20% or more voting interest are accounted for using the equity method of accounting. If the fair value of an investment in an affiliate is below its carrying value and the difference is deemed to be other than temporary, the difference frombetween the fair value and the carrying value is charged to earnings.
Investments in affiliated companies accounted for under the equity method consist of 45% common stock ownership interest in Outokumpu Heatcraft, a joint venture engaged in the manufacture and sale of heat transfer components, primarily coils; a 24.5% common stock ownership interest in Alliance Compressor LLC, a joint venture engaged in the manufacture and sale of compressors; and a 50% common stock ownership in Frigus-Bohn, a Mexican joint venture that produces unit coolers and condensing units. The Company also owns a 20% common stock ownership interest in Kulthorn
46
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Kirby Public Company Limited, a Thailand company engaged in the manufacture of compressors for refrigeration applications. The Company had been accounting for its investment in Kulthorn Kirby Public Company Limited as a marketable equity security investment. In October 2004, the Company purchased an additional 1.3% common stock interest for approximately $1.5 million. The Company has adjusted prior years information to reflect the change to equity accounting.
As of December 31, 2004, the Company held a 45% common stock ownership interest in Outokumpu Heatcraft, a joint venture engaged in the manufacture and sale of heat transfer components, primarily coils. The change increased priorCompany accounted for its investment in Outokumpu Heatcraft using the equity method. On June 7, 2005, the Company completed the sale of its 45% interest in its heat transfer joint venture to Outokumpu Copper Products OY of Finland (Outokumpu) for $39.3 million pursuant to which the Company recorded a pre-tax gain of $9.3 million, which is included in (Gains), Losses and Other Expenses, Net in the accompanying Consolidated Statements of Operations. In connection with the sale, the Company entered into an agreement with Outokumpu related to joint remediation of certain existing environmental matters. In conjunction with the new agreement, the Company updated its estimate of its portion of the on-going remediation costs and recorded expenses of $2.2 million for the year earnings of affiliates by $2.0 million and $1.5 million in 2003 and 2002, respectively, and also increased the Company’s stockholders’ equity by $5.4 million in 2003, $3.3 million in 2002 and $1.7 million in 2001.ended December 31, 2005.
The Company has recorded $14.2 million, $9.1 million $6.8 million and $4.5$6.8 million of equity in the earnings of these affiliates for the years ended December 31, 2005, 2004 2003 and 2002,2003, respectively, and has included these amounts in SG&ASelling, General and Administrative Expense in the accompanying Consolidated Statements of Operations. The carrying amount of investments in affiliates as of December 31, 2005 and 2004 and 2003 is $63.0$46.0 million and $52.6$63.0 million, respectively, and is included in long-term Other Assets in the accompanying Consolidated Balance Sheets.
| |
| Goodwill and Other Intangible Assets |
Goodwill represents the excess of cost over fair value of assets of businesses acquired. The Company adopted the provisions of Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” (“SFAS No. 142”) as of January 1, 2002. Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead tested for impairment at least annually in accordance with the provisions of Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” (“SFAS No. 142.142”). SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with Statement of Financial Accounting Standards No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets.”
40
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
In connection with SFAS No. 142’s transitional Goodwill is tested at least annually by reporting unit for impairment. The Company completes its annual goodwill impairment evaluation,tests in the Statement required the Company to perform an assessment of whether there was an indication that goodwill is impaired as of the date of adoption. To accomplish this, the Company was required to identify its reporting units and determine the carrying valuefirst quarter of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of January 1, 2002. To the extent the carrying amount of a reporting unit exceeded the fair value of the reporting unit, the Company would be required to perform the second step of the transitional impairment test, as this is an indication that the reporting unit goodwill may be impaired. The second step was required for certain reporting units within the Residential Heating & Cooling, Service Experts and Heat Transfer reporting segments where the results of various business operations acquired during 1998 to 2000 were lower than expected. In the second step, the Company compared the implied fair value of the reporting units’ goodwill with the carrying amount of the reporting units’ goodwill, both of which were measured as of the date of adoption. The implied fair value of goodwill was determined by allocating the fair value of the reporting unit to all of the assets (recognized and unrecognized) and liabilities of the reporting unit in a manner similar to a purchase price allocation, in accordance with Statement of Financial Accounting Standards No. 141, “Business Combinations.” The residual fair value after this allocation was the implied fair value of the reporting units’ goodwill and was less than the carrying amount of these reporting units’ goodwill by $283.7 million. Accordingly, the Company recorded a $283.7 million ($247.9 million, net of tax) impairment charge upon adoption.fiscal year.
The Company estimates reporting unit fair values using standard business valuation techniques such as discounted cash flows and reference to comparable business transactions. The discounted cash flows fair value estimates wereare based on management’s projected future cash flows and the estimated weighted average cost of capital. The estimated weighted average cost of capital wasis based on the risk-free interest rate and other factors such as equity risk premiums and the ratio of total debt and equity capital.
In addition, the Company periodically reviewed long-lived assets and identifiable intangibles for impairment as events or changes in circumstances indicated that the carrying amount of such assets might not be recoverable. In order to assess recoverability, the Company compared the estimated expected future cash flows (undiscounted and without interest charges) identified with each long-lived asset or related asset grouping to the carrying amount of such assets. For purposes of such comparisons, portions of goodwill were attributed to related long-lived assets and identifiable intangible assets based upon relative fair values of such assets at acquisition. If the expected future cash flows did not exceed the carrying value of the asset or assets being reviewed, an impairment loss was recognized basedBased on the excessresults of the carrying amount of the impaired assets over their fair value.
As a result of theits annual impairment tests required by SFAS No. 142, the Company determined that no impairment of its goodwill existed as of December 31, 2005 or 2003, respectively, and in 2004, the Company recorded an impairment charge in the first quarter of 2004 associated with its Service Experts segment. This impairment charge reflectsreflected the segment’s performance below management’s expectations and management’s decision to divest of 48 centers that no longer matchmatched the realigned Service Experts business model (see Note 6)6 — Divestitures). The Company estimated the fair value of its Service Experts segment using the income method of valuation, which includesincluded the use of estimated discounted cash flows. Based on the comparison, the carrying value of Service Experts exceeded its fair value. Accordingly, the Company performed the second step of the test, comparing the implied fair value of Service Experts goodwill with the carrying amount of that
47
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
goodwill. Based on this assessment, the Company recorded a non-cash impairment charge of $208.0 million ($184.8 million, net of tax), which is included as a component of operating incomeOperating Income in the accompanying Consolidated Statements of Operations. TheIn 2004, the Company also recognized a $14.8 million ($13.2 million, net of tax) goodwill impairment charge arising from goodwill allocated to centers held for sale and a $3.1 million pre-tax impairment charge related to property, plant and equipment. These amounts are included as a part of lossLoss from discontinued operationsDiscontinued Operations in the accompanying Consolidated Statements of Operations.
41
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES In addition, the Company periodically reviews long-lived assets with estimable useful lives for impairment as events or changes in circumstances indicate that the carrying amount of such assets might not be recoverable. In order to assess recoverability, the Company compares the estimated expected future cash flows (undiscounted and without interest charges) identified with each long-lived asset or related asset grouping to the carrying amount of such assets. For purposes of such comparisons, portions of goodwill are attributed to related long-lived assets and identifiable intangible assets based upon relative fair values of such assets at acquisition. If the expected future cash flows do not exceed the carrying value of the asset or assets being reviewed, an impairment loss is recognized based on the excess of the carrying amount of the impaired assets over their fair value.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued) In assessing the fair value of its goodwill and other intangibles, the Company must make assumptions regarding estimated future cash flows and other factors to determine the fair value of the respective assets . If these estimates or the related assumptions change, the Company may be required to record impairment charges for these assets in the future.
Shipping and handling costs relate to post-production activities and are included as part of Selling, General and Administrative Expense in the accompanying Consolidated Statements of Operations in the following amounts (in millions):
| | | | | |
| For the Years Ended December 31, |
| |
| 2004 | | 2003 | | 2002 |
| | | | | |
| $139.4 | | $127.3 | | $122.0 |
| | | | | |
| For the Years Ended December 31, |
| |
| 2005 | | 2004 | | 2003 |
| | | | | |
| $158.2 | | $139.4 | | $127.3 |
A liability for estimated warranty expense is established by a charge against operations at the time products are sold.the Company recognizes revenue. The subsequent costs incurred for warranty claims serve to reduce the accrued product warranty liability. The Company recorded warranty expense of $36.3 million, $28.2 million $24.1 million and $25.4$24.1 million for the years ended December 31, 2005, 2004 2003 and 2002,2003, respectively.
The Company’s estimate of future warranty costs is determined for each product line. The number of units that are expected to be repaired or replaced is determined by applying the estimated failure rate, which is generally based on historical experience, to the number of units that have been sold and are still under warranty. The estimated units to be repaired under warranty are multiplied by the average cost (undiscounted) to repair or replace such products to determine the Company’s estimated future warranty cost. The Company also provides for specifically identified warranty obligations. The Company’s estimated future warranty cost is subject to adjustment from time to time depending on changes in actual failure rate and cost experience.
48
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Total liabilities for estimated warranty expense are $71.0$80.9 million and $65.4$71.0 million as of December 31, 20042005 and 2003,2004, respectively, and are included in the following captions on the accompanying Consolidated Balance Sheets (in millions):
| | | | | | | | | | | |
| | | December 31, | | | December 31, | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | |
| Accrued expenses | | $ | 26.8 | | $ | 26.2 | | |
| Accrued Expenses | | | $ | 25.3 | | $ | 26.8 | |
| Other Liabilities | | | 44.2 | | | 39.2 | | | | 55.6 | | | 44.2 | |
| | | | | | | | | | | |
| | | $ | 71.0 | | $ | 65.4 | | | $ | 80.9 | | $ | 71.0 | |
| | | | | | | | | | | |
The changes in the carrying amount of the Company’s total warranty liabilities for the years ended December 31, 20042005 and 20032004 are as follows (in millions):
| | | | | | |
| Total warranty liability at December 31, 2002 | | $ | 61.6 | | |
| Payments made in 2003 | | | (20.3 | ) | |
| Changes resulting from issuance of new warranties | | | 24.1 | | |
| | | | | | | | |
| Total warranty liability at December 31, 2003 | | $ | 65.4 | | | $ | 65.4 | |
| Payments made in 2004 | | | (22.6 | ) | | | (22.6 | ) |
| Changes resulting from issuance of new warranties | | | 26.1 | | | | 26.1 | |
| Changes in estimated associated with pre-existing warranties | | | 2.1 | | |
| Changes in estimates associated with pre-existing liabilities | | | | 2.1 | |
| | | | | | | |
| Total warranty liability at December 31, 2004 | | $ | 71.0 | | | $ | 71.0 | |
| Payments made in 2005 | | | | (26.4 | ) |
| Changes resulting from issuance of new warranties | | | | 28.8 | |
| Changes in estimates associated with pre-existing warranties | | | | 7.5 | |
| | | | | | | |
| Total warranty liability at December 31, 2005 | | | $ | 80.9 | |
| | | | | |
During the second quarter of 2004, the Company determined that it would no longer produce or sell its CompleteHeat® product line. Concurrently, the Company adjusted its warranty on this product by an additional $2.6 million based on the fact that it iswas discontinuing this product with no like replacement. The change in warranty liability that results from changes in estimates of other warranties issued prior to 2004 is not material.
42
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued) The change in warranty liability that resulted from changes in estimates of warranties issued prior to 2005 was primarily due to revaluing warranty reserves based on higher material input costs and increased labor allowances on the Company’s product lines, including the CompleteHeat® product line.
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
The Company’s Residential Heating & Cooling, Commercial Heating & Cooling and Refrigeration segments recognize revenue when products are shipped to customers. The Company’s Service Experts segment recognizes sales, installation, maintenance and repair revenues at the time the services are completed. The Service Experts segment also provides HVAC system design and installation services under fixed-price contracts, which may extend up to one year. Revenue for these services is recognized onusing the percentage-of-completionpercentage-of-completion method, based on the percentage of incurred contract costs-to-datecosts-to-date in relation to total estimated
49
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
contract costs, after giving effect to the most recent estimates of total cost. The effect of changes to total estimated contract revenue or cost is recognized in the period such changes are determined. Provisions for estimated losses on individual contracts are made in the period in which the loss first becomes apparent. The adoption of Emerging Issues Task Force Issues No. 00-21, “Revenue Arrangements with Multiple Deliverables,” in June 2003 did not have a material impact on the Company’s financial statements.
The Company engages in cooperative advertising, customer rebate, cash discount and other miscellaneous programs that result in payments or credits being issued to its customers. The Company’s policy is to record the discounts and incentives as reduction of sales when the sales are recorded, with the exception of certain cooperative advertising expenditures that are charge to Selling, General and Administrative Expense. The amounts charged to Selling, General and Administrative Expense were approximately $11.7 million, $8.9 million and $6.1 million for the years ended December 31, 2005, 2004 and 2003, respectively. Under these cooperative advertising programs, the Company receives, or will receive, an identifiable benefit (goods or services) in exchange for the consideration given. The identified benefit is sufficiently separable from the customer’s purchase of the Company’s products such that the Company could have entered into an exchange transaction with a party other than the customer in order to receive the benefit. Additionally, the Company can reasonably estimate the fair value of the benefit that the Company receives, or will receive, and the amount of the consideration paid by the Company does not exceed the estimated fair value of the benefit received.
| |
| Stock-Based CompensationCost of Goods Sold |
The Company accounts for its stock-based compensation underprincipal components of cost of goods sold in the recognitionCompany’s manufacturing operations are component costs, raw materials, factory overhead, labor and measurement principlesestimated costs of Accounting Principles Board “APB” Opinion No. 25, “Accounting for Stock Issued to Employees,”warranty expense. In the Company’s Service Experts segment, the principal components of costs of goods sold are equipment, parts and supplies and labor. These principal components of costs include inbound freight charges, purchasing, receiving and inspection costs, internal transfer costs and warehousing costs through he manufacturing process.
| |
| Selling, General and Administrative Expenses |
Selling, general and administrative expenses include (a) all other payroll and benefit costs; (b) outbound freight, post-production warehousing and distribution costs; (c) advertising; (d) general selling and administrative costs, which include research and development and information technology costs; (e) other selling, general and administrative related interpretations (“APB 25”)costs such as insurance, travel, and has adopted the disclosure-only provisionsnon-production depreciation and rent; and (f) equity in earnings of Statement of Financial Accounting Standards No. 123 (“SFAS No. 123”), “Accounting for Stock-Based Compensation,” as amended. Under APB 25, no stock-based compensation cost is reflected in net income for grants of stock options to employees because the Company grants stock options with an exercise price equal to the market value of the stock on the date of grant.unconsolidated affiliates.
The following table illustrates the pro-forma effect on net income and earnings per share as if the Company had used the fair-value-based accounting method for stock compensation expense described by SFAS No. 123 (in millions, except per share data):
| | | | | | | | | | | | | |
| | | For the Year Ending December 31, | |
| | | | |
| | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | |
| Net (loss) income, as reported | | $ | (134.4 | ) | | $ | 86.4 | | | $ | (203.5 | ) |
| Add: Reported stock-based compensation expense, net of taxes | | | 7.5 | | | | 4.0 | | | | 1.3 | |
| Deduct: Fair-value-based compensation expense, net of taxes | | | (10.0 | ) | | | (9.1 | ) | | | (2.9 | ) |
| | | | | | | | | | |
| Net (loss) income, pro-forma | | $ | (136.9 | ) | | $ | 81.3 | | | $ | (205.1 | ) |
| | | | | | | | | | |
| Earnings per share: | | | | | | | | | | | | |
| Basic, as reported | | $ | (2.24 | ) | | $ | 1.48 | | | $ | (3.55 | ) |
| Basic, pro-forma | | $ | (2.28 | ) | | $ | 1.39 | | | $ | (3.58 | ) |
| Diluted, as reported | | $ | (2.24 | ) | | $ | 1.36 | | | $ | (3.11 | ) |
| Diluted, pro-forma | | $ | (2.28 | ) | | $ | 1.28 | | | $ | (3.14 | ) |
4350
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
| |
| (Gains), Losses and Other Expenses, Net |
(Gain), losses and other expenses, net were $(50.2) million, zero and $1.9 million for the years ended December 31, 2005, 2004 and 2003, respectively and included the following (in millions):
| | | | | | | | | | | | | |
| | | Years Ended December 31, | |
| | | | |
| | | 2005 | | | 2004 | | 2003 | |
| | | | | | | | | |
| Realized gains on settled futures contracts | | $ | (16.7 | ) | | $ | — | | | $ | — | |
| Unrealized gains on open futures contracts | | | (23.3 | ) | | | — | | | | — | |
| Gain on sale of LII’s 45% interest in its heat transfer joint venture to Outokumpu | | | (9.3 | ) | | | — | | | | — | |
| Estimated on-going remediation costs in conjunction with the joint remediation agreement LII entered into with Outokumpu | | | 2.2 | | | | — | | | | — | |
| Reserve requirements related to the Company’s former joint venture agreement with Outokumpu | | | — | | | | — | | | | 3.4 | |
| Loss on sale of HVAC distributor | | | — | | | | — | | | | 0.8 | |
| Gain on sale of Electrical Products Division | | | — | | | | — | | | | (2.4 | ) |
| Gain on sale of Europe manufacturing facility | | | — | | | | — | | | | (1.7 | ) |
| Other items, net | | | (3.1 | ) | | | — | | | | 1.8 | |
| | | | | | | | | | |
| (Gains), losses and other expenses, net | | $ | (50.2 | ) | | $ | — | | | $ | 1.9 | |
| | | | | | | | | | |
In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123R “Share-Based Payment” (SFAS No. 123R). SFAS No. 123R requires compensation cost to be measured for all outstanding unvested share-based awards at fair value for all interim and annual periods beginning after June 15, 2005. In March 2005, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin No. 107 “Share-Based Payment” (“SAB No. 107”), which provided further clarification on the implementation of SFAS No. 123R. On April 14, 2005, the SEC announced a deferral of the effective date of SFAS No. 123R for calendar year companies until the beginning of 2006; however, the Company elected to adopt the provisions of SFAS No. 123R early with an implementation date of July 1, 2005, as permitted by the standard. Prior to July 1, 2005, the Company accounted for stock-based awards under the intrinsic value method, which follows the recognition and measurement principles of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees and Related Interpretations” (“APB No. 25”), as permitted by FASB Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”).
Effective July 1, 2005, the Company adopted the fair value recognition provisions of SFAS No. 123R using the modified-prospective-transition method. Under that transition method, compensation cost recognized in the second half of 2005 included: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of July 1, 2005, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123 and (b) compensation cost for all share-based payments granted subsequent to July 1, 2005, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123R. In accordance with SFAS No. 123R, results for prior periods have not been restated. Compensation expense of $28.8 million, $11.9 million and $6.1 million was recognized for the year ended December 31, 2005, 2004 and 2003, respectively, and is included in Selling, General and Administrative Expense in the accompanying Consolidated Statement of Operations for the year ended December 31, 2005. The cumulative effect of the change in accounting related to the adoption of SFAS No. 123R was not material for the year ended December 31, 2005.
51
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Prior to the adoption of SFAS No. 123R, the Company presented all tax benefits of deductions resulting from the exercise of stock options as operating cash flows in the Consolidated Statements of Cash Flows. SFAS No. 123R requires the cash flows from the tax benefits of tax deductions in excess of the compensation cost recognized for those options (excess tax benefits) to be classified as financing cash flows. The $6.9 million excess tax benefits classified as a financing cash inflow in the accompanying Consolidated Statement of Cash Flows as of December 31, 2005 would have been classified as an operating cash inflow if the Company had not adopted SFAS No. 123R.
Had the Company used the fair value based accounting method for stock-based compensation expense described by SFAS No. 123 for the fiscal 2005 period, prior to July 1, 2005, and the 2004 and 2003 periods, the Company’s diluted net income (loss) per common and equivalent share for the years ended December 31, 2005, 2004 and 2003, respectively, would have been as set forth in the table below (in millions, except per share data). As of July 1, 2005, the Company adopted SFAS No. 123R thereby eliminating pro forma disclosure for periods following such adoption. For purposes of this pro forma disclosure, the value of the options is estimated using a Black-Scholes-Merton option valuation model and amortized to expense over the options’ vesting periods.
| | | | | | | | | | | | | |
| | | For the Years Ended | |
| | | December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
| Net income (loss), as reported | | $ | 150.7 | | | $ | (134.4 | ) | | $ | 86.4 | |
| Add: Reported stock based compensation expense, net of taxes | | | 18.4 | | | | 7.5 | | | | 4.0 | |
| Deduct: Fair value based compensation expense, net of taxes | | | (19.4 | ) | | | (10.0 | ) | | | (9.1 | ) |
| | | | | | | | | | |
| Net income (loss), pro-forma | | $ | 149.7 | | | $ | (136.9 | ) | | $ | 81.3 | |
| | | | | | | | | | |
| Earnings per share: | | | | | | | | | | | | |
| Basic, as reported | | $ | 2.35 | | | $ | (2.24 | ) | | $ | 1.48 | |
| Basic, pro forma | | $ | 2.33 | | | $ | (2.28 | ) | | $ | 1.39 | |
| Diluted, as reported | | $ | 2.11 | | | $ | (2.24 | ) | | $ | 1.36 | |
| Diluted, pro forma | | $ | 2.09 | | | $ | (2.28 | ) | | $ | 1.28 | |
Research and development costs are expensed as incurred. The Company expended approximately $40.3 million, $37.6 million $38.0 million and $38.2$38.0 million for the years ended December 31, 2005, 2004 2003 and 2002,2003, respectively, for research and product development activities. Research and development costs are included in Selling, General and Administrative Expense onin the accompanying Consolidated Statements of Operations.
The costs of advertising, promotion and marketing programs are charged to operations in the period incurred. Expense relating to advertising, promotions and marketing programs was $79.6 million, $68.4 million $72.4 million and $69.1$72.4 million for the years ended December 31, 2005, 2004 and 2003, respectively, and 2002, respectively.is included in Selling, General and Administrative Expense in the accompanying Consolidated Statements of Operations.
| |
| Translation of Foreign Currencies |
All assets and liabilities of foreign subsidiaries and joint ventures are translated into United States dollars using rates of exchange in effect at the balance sheet date. Revenues and expenses are translated at average exchange rates during the respective years. The unrealized translation gains and losses are included in accumulated other comprehensive income. Accumulated Other Comprehensive Income (Loss) in the accompanying Consolidated Balance Sheets.
52
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Transaction gains included in Other Income in the accompanying Consolidated Statements of Operations were $2.7 million, $1.8 million $4.2 million and $1.2$4.2 million for the years ended December 31, 2005, 2004 2003 and 2002,2003, respectively.
Derivative financial instruments are recognized as either assets or liabilities in the balance sheet and are carried at fair value. Changes in fair value of these instruments are recognized periodically in earnings or stockholders’ equity depending on the intended use of the instrument. Gains or losses arising from the changes in the fair value of derivatives designated as fair value hedges are recognized in earnings. Gains or losses arising from the changes in the fair value of derivatives designated as cash flow hedges are initially reported as a component of other comprehensive income and later classified into cost of goods sold in the period in which the hedged item also affects earnings. The Company hedges its exposure to the fluctuation on the prices paid for copper and aluminum metals by purchasing futures contracts on these metals. Gains or losses recognized on the closing of these contracts adjust the cost of the physical deliveries of these metals. Quantities covered by these commodity futures contracts are for less than actual quantities expected to be purchased. As of December 31, 2005 and 2004, the Company had metals futures contracts maturingfor which the fair value was $24.0 million and $10.3 million, respectively. The open futures contracts as of December 31, 2005 mature at various dates to December 31, 2007. In 2005, the Company determined that these futures contracts did not qualify for whichhedge accounting under Statement of Financial Accounting Standards No. 133 “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”) as the fair value was an asset of $10.3 million. These are hedges of forecasted transactions, and are consideredCompany’s documentation did not meet the criteria in order for the hedging instruments to qualify for cash flow hedges.designation. Accordingly, the Company has recorded an unrealized gain of $6.5$23.3 million net of tax provision of $3.8 million,for the year ended December 31, 2005 related to the open futures contracts, which is included in (Gains), Losses and Other Expenses, Net in the Accumulated Other Comprehensive Loss componentaccompany Consolidated Statements of stockholders’ equity. This deferred gain will be reclassified into the cost of inventory as the commodity futures contracts settle, all of which will happen within the next twelve months. Hedge ineffectiveness was immaterial for 2004 and 2003.Operations.
The preparation of 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.
44
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Reclassifications
Certain amounts have been reclassified from the prior year presentation to conform to the current year presentation.
| |
| Revisions to Consolidated Statements of Cash Flows for the Years Ended December 31, 2004 and 2003 |
In 2005, the Company has separately disclosed the operating and financing portions of the cash flows attributable to the Company’s discontinued operations, which in prior periods were reported on a combined basis.
| |
| 3. | Reportable Business Segments: |
The Company’s basis of organization and the differencesCompany operates in the nature of products or services (as more fully described in Note 1), were the factors used in determining the Company’s reportable segments. Financial information about the Company’sfour reportable business segments isof the HVACR markets: Residential Heating & Cooling, Commercial Heating & Cooling, Service Experts and Refrigeration. The Company’s management uses segment profit (loss) as follows (in millions):the primary measure of profitability to evaluate operating performance and to allocate capital resources. The Company defines segment profit (loss) as a segment’s net
| | | | | | | | | | | | | | | |
| | | For the Years Ended December 31, | |
| | | | |
| | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | |
Net Sales | | | | | | | | | | | | |
| | Residential | | $ | 1,419.8 | | | $ | 1,358.7 | | | $ | 1,249.1 | |
| | Commercial | | | 580.8 | | | | 508.4 | | | | 442.4 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 2,000.6 | | | | 1,867.1 | | | | 1,691.5 | |
| | Service Experts | | | 611.7 | | | | 611.3 | | | | 613.8 | |
| | Refrigeration | | | 444.7 | | | | 387.2 | | | | 363.8 | |
| | Corporate and other(a) | | | — | | | | — | | | | 129.3 | |
| | Eliminations | | | (74.3 | ) | | | (75.7 | ) | | | (71.0 | ) |
| | | | | | | | | | |
| | | $ | 2,982.7 | | | $ | 2,789.9 | | | $ | 2,727.4 | |
| | | | | | | | | | |
Segment Profit (Loss) | | | | | | | | | | | | |
| | Residential | | $ | 169.7 | | | $ | 152.1 | | | $ | 110.4 | |
| | Commercial | | | 51.2 | | | | 38.0 | | | | 20.8 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 220.9 | | | | 190.1 | | | | 131.2 | |
| | Service Experts | | | (2.2 | ) | | | 1.0 | | | | (0.2 | ) |
| | Refrigeration | | | 42.7 | | | | 36.2 | | | | 36.1 | |
| | Corporate and other(a) | | | (91.6 | ) | | | (69.0 | ) | | | (64.6 | ) |
| | Eliminations | | | 1.6 | | | | 1.4 | | | | (1.3 | ) |
| | | | | | | | | | |
| | | Segment Profit | | | 171.4 | | | | 159.7 | | | | 101.2 | |
| Reconciliation to (Loss) income before income taxes and cumulative effect of accounting change: | | | | | | | | | | | | |
| | Goodwill impairment | | | 208.0 | | | | — | | | | — | |
| | (Gains) losses and other expenses | | | — | | | | 1.9 | | | | (7.9 | ) |
| | Restructurings | | | — | | | | — | | | | 7.8 | |
| | Interest Expense, net | | | 27.2 | | | | 28.4 | | | | 31.6 | |
| | Other Income | | | (0.8 | ) | | | (2.4 | ) | | | (0.9 | ) |
| | | | | | | | | | |
| | | $ | (63.0 | ) | | $ | 131.8 | | | $ | 70.6 | |
| | | | | | | | | | |
45
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
| | | | | | | | | | | |
| | | As of December 31, | |
| | | | |
| | | 2004 | | | 2003 | |
| | | | | | | |
Total Assets | | | | | | | | |
| | Residential | | $ | 512.0 | | | $ | 461.4 | |
| | Commercial | | | 244.0 | | | | 212.4 | |
| | | | | | | |
| | | Heating & Cooling | | | 756.0 | | | | 673.8 | |
| | Service Experts | | | 187.8 | | | | 398.6 | |
| | Refrigeration | | | 323.9 | | | | 306.6 | |
| | Corporate and other(a) | | | 258.2 | | | | 267.1 | |
| | Eliminations | | | (12.4 | ) | | | (14.8 | ) |
| | | | | | | |
| | Segment assets | | | 1,513.5 | | | | 1,631.3 | |
| | Discontinued operations (Note 6) | | | 5.1 | | | | 88.8 | |
| | | | | | | |
| | | $ | 1,518.6 | | | $ | 1,720.1 | |
| | | | | | | |
| | | | | | | | | | | | | | | |
| | | For the Years Ended December 31, | |
| | | | |
| | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | |
Capital Expenditures | | | | | | | | | | | | |
| | Residential | | $ | 24.0 | | | $ | 19.8 | | | $ | 8.6 | |
| | Commercial | | | 5.5 | | | | 8.5 | | | | 3.0 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 29.5 | | | | 28.3 | | | | 11.6 | |
| | Service Experts | | | 1.3 | | | | 2.5 | | | | — | |
| | Refrigeration | | | 5.7 | | | | 6.6 | | | | 4.6 | |
| | Corporate and other(a) | | | 3.8 | | | | 2.3 | | | | 6.2 | |
| | | | | | | | | | |
| | | $ | 40.3 | | | $ | 39.7 | | | $ | 22.4 | |
| | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | For the Years Ended December 31, | |
| | | | |
| | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | |
Depreciation and Amortization | | | | | | | | | | | | |
| | Residential | | $ | 18.6 | | | $ | 16.8 | | | $ | 17.2 | |
| | Commercial | | | 4.9 | | | | 4.9 | | | | 5.0 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 23.5 | | | | 21.7 | | | | 22.2 | |
| | Service Experts | | | 3.4 | | | | 5.7 | | | | 6.6 | |
| | Refrigeration | | | 8.2 | | | | 8.4 | | | | 9.0 | |
| | Corporate and other(a) | | | 7.5 | | | | 10.3 | | | | 16.1 | |
| | | | | | | | | | |
| | | $ | 42.6 | | | $ | 46.1 | | | $ | 53.9 | |
| | | | | | | | | | |
| |
(a) | In the third quarter of 2002, the Company formed joint ventures with Outokumpu by selling to Outokumpu a 55% interest in the Company’s Heat Transfer business segment for approximately $55 million in cash and notes. The Company accounts for its remaining 45% interest using the equity method of accounting and includes such amounts in the “Corporate and other” segment. The historical net sales, results of operations and total assets of the “Corporate and other” segment have been restated to include the portions of the Heat Transfer business segment that was sold to Outokumpu. The results of operations of the Heat Transfer business segment now presented in the “Corporate and other” segment was $(2.2) million for the year ended December 31, 2003. The historical net sales and results of |
4653
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
earnings before other expense (income), interest expense, goodwill impairment, restructuring charge, (gains), losses and other expenses, net and income taxes.
| |
| operations of the Heat Transfer business segment now presented in the “Corporate and other” segment were $129.3 million and $(3.7) million for the year ended December 31, 2002. |
Net sales and segment profit (loss) by business segment, along with a reconciliation of segment profit (loss) to net earnings (loss) for years ended December 31, 2005, 2004 and 2003 are shown below (in millions):
| | | | | | | | | | | | | | | |
| | | For the Years Ended December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
Net Sales | | | | | | | | | | | | |
| | Residential | | $ | 1,685.8 | | | $ | 1,419.8 | | | $ | 1,358.7 | |
| | Commercial | | | 651.7 | | | | 580.8 | | | | 508.4 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 2,337.5 | | | | 2,000.6 | | | | 1,867.1 | |
| | Service Experts | | | 641.4 | | | | 611.7 | | | | 611.3 | |
| | Refrigeration | | | 467.2 | | | | 444.7 | | | | 387.2 | |
| | Eliminations | | | (79.9 | ) | | | (74.3 | ) | | | (75.7 | ) |
| | | | | | | | | | |
| | | $ | 3,366.2 | | | $ | 2,982.7 | | | $ | 2,789.9 | |
| | | | | | | | | | |
Segment Profit (Loss) | | | | | | | | | | | | |
| | Residential | | $ | 197.5 | | | $ | 169.7 | | | $ | 152.1 | |
| | Commercial | | | 53.7 | | | | 51.2 | | | | 38.0 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 251.2 | | | | 220.9 | | | | 190.1 | |
| | Service Experts | | | 17.0 | | | | (2.2 | ) | | | 1.0 | |
| | Refrigeration | | | 40.3 | | | | 42.7 | | | | 36.2 | |
| | Corporate and other | | | (103.1 | ) | | | (91.6 | ) | | | (69.0 | ) |
| | Eliminations | | | 0.2 | | | | 1.6 | | | | 1.4 | |
| | | | | | | | | | |
| | | Segment Profit | | | 205.6 | | | | 171.4 | | | | 159.7 | |
| | Reconciliation to income (loss) from continuing operations before income taxes: | | | | | | | | | | | | |
| | (Gains), losses and other expenses, net | | | (50.2 | ) | | | — | | | | 1.9 | |
| | Restructurings | | | 2.4 | | | | — | | | | — | |
| | Goodwill impairment | | | — | | | | 208.0 | | | | — | |
| | Interest expense, net | | | 15.4 | | | | 27.2 | | | | 28.4 | |
| | Other expense (income) | | | 3.0 | | | | (0.8 | ) | | | (2.4 | ) |
| | | | | | | | | | |
| | | $ | 235.0 | | | $ | (63.0 | ) | | $ | 131.8 | |
| | | | | | | | | | |
54
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Total assets by business segment as of December 31, 2005 and 2004 are shown below (in millions):
| | | | | | | | | | | |
| | | As of December 31, | |
| | | | |
| | | 2005 | | | 2004 | |
| | | | | | | |
Total Assets | | | | | | | | |
| | Residential | | $ | 589.1 | | | $ | 512.0 | |
| | Commercial | | | 234.3 | | | | 244.0 | |
| | | | | | | |
| | | Heating & Cooling | | | 823.4 | | | | 756.0 | |
| | Service Experts | | | 185.3 | | | | 187.8 | |
| | Refrigeration | | | 308.9 | | | | 323.9 | |
| | Corporate and other | | | 432.1 | | | | 258.2 | |
| | Eliminations | | | (12.1 | ) | | | (12.4 | ) |
| | | | | | | |
| | Segment assets | | | 1,737.6 | | | | 1,513.5 | |
| | Discontinued operations (Note 6) | | | — | | | | 5.1 | |
| | | | | | | |
| | | $ | 1,737.6 | | | $ | 1,518.6 | |
| | | | | | | |
Total capital expenditures by business segment for the years ended December 31, 2005, 2004 and 2003 are shown below (in millions):
| | | | | | | | | | | | | | | |
| | | For the Years Ended | |
| | | December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
Capital Expenditures | | | | | | | | | | | | |
| | Residential | | $ | 34.7 | | | $ | 24.0 | | | $ | 19.8 | |
| | Commercial | | | 8.6 | | | | 5.5 | | | | 8.5 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 43.3 | | | | 29.5 | | | | 28.3 | |
| | Service Experts | | | 2.0 | | | | 1.3 | | | | 2.5 | |
| | Refrigeration | | | 9.5 | | | | 5.7 | | | | 6.6 | |
| | Corporate and other | | | 8.5 | | | | 3.8 | | | | 2.3 | |
| | | | | | | | | | |
| | | $ | 63.3 | | | $ | 40.3 | | | $ | 39.7 | |
| | | | | | | | | | |
The depreciation and amortization expense by business segment for the years ended December 31, 2005, 2004 and 2003 are shown below (in millions):
| | | | | | | | | | | | | | | |
| | | For the Years Ended | |
| | | December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
Depreciation and Amortization | | | | | | | | | | | | |
| | Residential | | $ | 16.9 | | | $ | 18.6 | | | $ | 16.8 | |
| | Commercial | | | 4.5 | | | | 4.9 | | | | 4.9 | |
| | | | | | | | | | |
| | | Heating & Cooling | | | 21.4 | | | | 23.5 | | | | 21.7 | |
| | Service Experts | | | 2.9 | | | | 3.4 | | | | 5.7 | |
| | Refrigeration | | | 7.3 | | | | 8.2 | | | | 8.4 | |
| | Corporate and other | | | 5.8 | | | | 7.5 | | | | 10.3 | |
| | | | | | | | | | |
| | | $ | 37.4 | | | $ | 42.6 | | | $ | 46.1 | |
| | | | | | | | | | |
55
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The following table sets forth certain financial information relating to the Company’s operations by geographic area based on the domicile of the Company’s operations (in millions):
| | | | | | | | | | | | | | | |
| | | For the Years Ended December 31, | |
| | | | |
| | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | |
Net Sales to External Customers | | | | | | | | | | | | |
| | United States | | $ | 2,254.8 | | | $ | 2,135.1 | | | $ | 2,140.4 | |
| | Canada | | | 272.7 | | | | 260.2 | | | | 223.1 | |
| | International | | | 455.2 | | | | 394.6 | | | | 363.9 | |
| | | | | | | | | | |
| | | Total net sales to external customers | | $ | 2,982.7 | | | $ | 2,789.9 | | | $ | 2,727.4 | |
| | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | For the Years Ended December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
Net Sales to External Customers | | | | | | | | | | | | |
| | United States | | $ | 2,603.0 | | | $ | 2,254.8 | | | $ | 2,135.1 | |
| | Canada | | | 294.6 | | | | 272.7 | | | | 260.2 | |
| | International | | | 468.6 | | | | 455.2 | | | | 394.6 | |
| | | | | | | | | | |
| | | Total net sales to external customers | | $ | 3,366.2 | | | $ | 2,982.7 | | | $ | 2,789.9 | |
| | | | | | | | | | |
| | | | | | | | | | | |
| | | As of December 31, | |
| | | | |
| | | 2004 | | | 2003 | |
| | | | | | | |
Long-Lived Assets | | | | | | | | |
| | United States | | $ | 414.5 | | | $ | 613.2 | |
| | Canada | | | 109.4 | | | | 90.3 | |
| | International | | | 150.0 | | | | 150.6 | |
| | | | | | | |
| | | Total long-lived assets | | $ | 673.9 | | | $ | 854.1 | |
| | | | | | | |
| | | | | | | | | | | |
| | | As of December 31, | |
| | | | |
| | | 2005 | | | 2004 | |
| | | | | | | |
Long-Lived Assets | | | | | | | | |
| | United States | | $ | 448.1 | | | $ | 414.5 | |
| | Canada | | | 105.8 | | | | 109.4 | |
| | International | | | 136.5 | | | | 150.0 | |
| | | | | | | |
| | | Total long-lived assets | | $ | 690.4 | | | $ | 673.9 | |
| | | | | | | |
Components of inventories are as follows (in millions):
| | | | | | | | | | | | | | | | | |
| | | As of December 31, | | | As of December 31, | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | |
| Finished goods | | $ | 174.1 | | $ | 158.6 | | | $ | 174.0 | | $ | 174.1 | |
| Repair parts | | | 38.5 | | | 33.0 | | | | 35.8 | | | 38.5 | |
| Work in process | | | 9.2 | | | 7.6 | | | | 8.6 | | | 9.2 | |
| Raw materials | | | 71.4 | | | 62.5 | | | | 79.1 | | | 71.4 | |
| | | | | | | | | | | |
| | | | 293.2 | | | 261.7 | | | | 297.5 | | | 293.2 | |
| Excess of current cost over last-in, first-out cost | | | (46.0 | ) | | | (47.6 | ) | | | (55.1 | ) | | | (46.0 | ) |
| | | | | | | | | | | |
| | | $ | 247.2 | | $ | 214.1 | | | $ | 242.4 | | $ | 247.2 | |
| | | | | | | | | | | |
47
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
| |
| 5. | Property, Plant and Equipment: |
Components of property, plant and equipment are as follows (in millions):
| | | | | | | | | | | | | | | | | | | |
| | | | As of December 31, | | | | As of December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | |
| Land | Land | | $ | 31.2 | | $ | 29.7 | | Land | | $ | 30.3 | | $ | 31.2 | |
| Buildings and improvements | Buildings and improvements | | | 177.3 | | | 169.0 | | Buildings and improvements | | | 177.1 | | | 177.3 | |
| Machinery and equipment | Machinery and equipment | | | 479.3 | | | 467.1 | | Machinery and equipment | | | 512.9 | | | 479.3 | |
| | | | | | | | | | | | | |
| | Total | | | 687.8 | | | 665.8 | | Total | | | 720.3 | | | 687.8 | |
| Less — accumulated depreciation | Less — accumulated depreciation | | | (453.8 | ) | | | (436.2 | ) | Less — accumulated depreciation | | | (464.6 | ) | | | (453.8 | ) |
| | | | | | | | | | | | | |
| Property, plant and equipment, net | Property, plant and equipment, net | | $ | 234.0 | | $ | 229.6 | | Property, plant and equipment, net | | $ | 255.7 | | $ | 234.0 | |
| | | | | | | | | | | | | |
56
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
| |
| 6. | Divestitures and Acquisitions:Divestitures: |
| |
| Sale of Interest in Heat Transfer Joint Venture |
On June 7, 2005, the Company completed the sale of its 45% interest in its heat transfer joint venture to Outokumpu Copper Products OY of Finland (Outokumpu) for $39.3 million pursuant to which the Company recorded a pre-tax gain of $9.3 million, which is included in (Gains), Losses and Other Expenses, net in the accompanying Consolidated Statements of Operations. In connection with the sale, the Company entered into an agreement with Outokumpu related to joint remediation of certain existing environmental matters. In conjunction with the new agreement, the Company updated its estimate of its portion of the on-going remediation costs and recorded expenses of $2.2 million for the year ended December 31, 2005.
| |
| Service Experts Discontinued Operations |
DuringIn the first fiscal quarter of 2004, the Company’s Board of Directors approved a turnaround plan designed to realignimprove the performance of its Service Experts business segment. The plan realigned Service Experts’ dealer service centers to focus on service and replacement opportunities in the residential and light commercial markets. The Company identified approximately 130 dealercenters, whose primary business is residential and light commercial service and replacement. These centers that will comprise the ongoing Service Experts business segment and hassegment. As of December 31, 2004, the Company had divested the remaining 48 centers (47 existing centers plus a branchthat no longer match the realigned business model. The operating results of an ongoing center), in addition to a previous closure of four centers. Thethe 48 centers that are no longer a part of the Service Experts business segment have beenare classified as a discontinued operationDiscontinued Operation in the accompanying Consolidated Statements of Operations.Operations for the years ended December 31, 2005, 2004 and 2003. The related assets and liabilities for these centers are classified as “AssetsAssets Held For Sale”for Sale and “LiabilitiesLiabilities Held For Sale”for Sale in the accompanying Consolidated Balance Sheets. The long-lived assetsSheets as of these centers have been written down to estimated fair value less costs to sell. The Company has recorded non-cash pre-tax impairment losses in the loss from discontinued operations of $3.1 million related to property, plantDecember 31, 2005 and equipment and $14.8 million related to goodwill (see Note 18 for further discussion of goodwill), as a result of its decision to sell these service centers.2004.
A summary of net trade sales, and pre-tax operating results and pre-tax loss on disposal of assets for the years ended December 31, 20042005 and 2003,2004, and the major classes of assets and liabilities presented as held for sale at December 31, 2005 and 2004, are detailed below (in millions):
| | | | | | | | | | |
| | | Discontinued | | | | | | | | | |
| | | Operations for the | | | Discontinued Operations | |
| | | Year Ended | | | For the Year | |
| | | December 31, | | | Ended December 31, | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | |
| Net trade sales | | $ | 228.9 | | $ | 325.8 | | | $ | 0.2 | | $ | 228.9 | | $ | 325.8 | |
| Pre-tax (loss) income operating results | | | (38.9 | ) | | | (0.1 | ) | | | (2.0 | ) | | | (38.9 | ) | | | (0.1 | ) |
| Pre-tax loss on disposal of assets | | | (14.9 | ) | | | — | | | | (0.1 | ) | | | (14.9 | ) | | | — | |
| | | | | | | |
| | | | | | | December 31, | |
| | | December 31, | | | | |
| | | 2004 | | | 2005 | | | 2004 | |
| | | | | | | | | | |
| Current assets | | $ | 5.1 | | | $ | — | | $ | 5.1 | |
| | | | | |
| Current liabilities | | $ | 3.7 | | | $ | 0.7 | | $ | 3.7 | |
| | | | | | | | | |
4857
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The following table details the Company’s pre-tax loss from discontinued operations for the yearyears ended December 31, 2005 and 2004 (in millions):
| | | | | | | | | | | | | | |
| | | | | For the Year | | | Cumulative incurred | |
| | | | | | | | | | Ended | | | through | |
| | | | Year Ended | | | | December 31, | | | December 31 | |
| | | | December 31, | | | | | | | | |
| | | | 2004 | | | | 2005 | | | 2004 | | | 2005 | |
| | | | | | | | | | | | | | | |
| Goodwill impairment | Goodwill impairment | | $ | 14.8 | | Goodwill impairment | | $ | — | | $ | 14.8 | | $ | 14.8 | |
| Impairment of property, plant and equipment | Impairment of property, plant and equipment | | | 3.1 | | Impairment of property, plant and equipment | | | — | | | 3.1 | | | 3.1 | |
| Operating loss | Operating loss | | | 14.9 | | Operating loss | | | — | | | 14.9 | | | 14.9 | |
| Other divestiture costs | Other divestiture costs | | | 6.1 | | Other divestiture costs | | | 2.0 | | | 6.1 | | | 8.1 | |
| | | | | | | | | | | | | |
| | Subtotal | | | 38.9 | | Subtotal | | | 2.0 | | | 38.9 | | | 40.9 | |
| Loss on disposal of centers | Loss on disposal of centers | | | 14.9 | | Loss on disposal of centers | | | 0.1 | | | 14.9 | | | 15.0 | |
| | | | | | | | | | | | | |
| | | Total loss from discontinued operations | | $ | 53.8 | | Total loss from discontinued operations | | $ | 2.1 | | $ | 53.8 | | $ | 55.9 | |
| | | | | | | | | | | | | |
No specific reserves were created as a result of the turnaround plan. The Company anticipates additional expenses will be recorded during the first quarter of 2005; however, the total of such expenses is not expected to be material.
The income tax benefit on discontinued operations was $0.7 million and $12.9 million for the years ended December 31, 2005 and 2004, respectively. The income tax benefit on discontinued operations for the year ended December 31, 2004. The income tax benefit2004 of $12.9 million includes a $1.6 million income tax benefit related to the goodwill impairment. CashThrough December 31, 2005, proceeds from the sale of these centers and related tax effects are expected to more than offset the cash expenses of divestiture.totaled $25.8 million.
| |
| 7. | Outokumpu Joint VenturesRestructuring Charges: |
During August2001, the Company undertook separate initiatives to restructure its Service Experts operations and certain of its manufacturing and distribution operations. During 2002, the Company completedundertook an additional initiative to restructure its non-core Heat Transfer engineering business. The Company recorded no material charges for the formationyears ended December 31, 2005, 2004 and 2003, respectively, related to these restructuring initiatives. As of joint ventures with Outokumpu. Outokumpu purchased a 55% interestDecember 31, 2005 and 2004, the Company had restructuring reserves of $0.8 million and $1.3 million, respectively related to these restructuring initiatives, which are included in Accrued Expenses in the Company’s former Heat Transfer business segmentaccompanying Consolidated Balance Sheets. For the years ended December 31, 2005, 2004 and 2003, the Company made cash payments of $0.2 million, $0.4 million and $8.4 million, respectively related to these restructuring initiatives.
Due to competitive cost pressures, on April 4, 2005, Lennox Hearth Products Inc., a subsidiary of the Company, commenced plans to relocate its Whitfield pellet stove and Lennox cast iron product lines from Burlington, Washington to a third party production facility in Juarez, Mexico, discontinue its existing steel wood stove line manufactured in Burlington, and close the U.S. and Europe for $55 million in cash and notes,Burlington facility. These actions were substantially complete as of December 31, 2005. In connection with the plant closure, the Company retaining 45% ownership. A recordedpre-tax gain restructuring-related charges of approximately $23.1$2.4 million, was recognized in 2002 in conjunction with the sale and iswhich are included in the (Gains) losses and other expenses line itemRestructuring Charge in the accompanying Consolidated Statements of Operations. In conjunction with the sale,Operations for 2005. As of December 31, 2005, the Company incurred $11.6had $0.8 million of other charges and expenses. Included in this amountrestructuring reserves relating to the Burlington plant closure, which are asset impairments that reduced to zero the carrying value of non-core Heat Transfer assets not included in the sale and that were identified for abandonmentAccrued Expenses in the third quarter of 2002. Additionally, this amount includes transaction costs, a pension curtailment in connection with U.S. based Heat Transfer employees and indemnification of flood losses that occurred at a Heat Transfer manufacturing facility in Europe in August 2002. After deducting these expenses, the Company recognized a net pre-tax gain of $11.5 million ($6.4 million net of tax) in 2002. The Company is accounting for its remaining 45% ownership in the joint ventures using the equity method of accounting. The Company recorded expenses of $3.4 million in 2003 related to the Heat Transfer joint venture agreement in (Gains) losses and other expenses.
In August 2002, the Company sold its 50% ownership interest in an Argentine joint venture. The Company recognized a pre-tax loss on the sale of $3.6 million ($1.2 million net of tax). The proceeds from the sale were immaterial. The Company’s equity in earnings of Fairco S.A. was immaterial for all prior periods.
In June 2002, the Company’s Lennox Global Ltd. subsidiary purchased the remaining 14% equity interest in Heatcraft do Brasil S.A., a Brazilian company that manufactures primarily commercial refrigeration equipment, for approximately $2.4 million.accompanying December 31, 2005 Consolidated Balance Sheet.
4958
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
In June 2002, the Company sold the net assets of a heating, ventilation and air conditioning (“HVAC”) distributor, included in the Residential Heating & Cooling segment, for $4.2 million in cash and notes. The sale resulted in a pre-tax loss of approximately $0.2 million that is included in (Gains) losses and other expenses. The revenues and results of operations of the distributor were immaterial for all prior periods.
In March 2003, the Company sold the net assets of a HVAC distributor included in the Residential Heating & Cooling segment for $4.6 million in cash and notes. The sale resulted in a pre-tax loss of approximately $0.8 million that is included in (Gains) losses and other expenses. The revenues and results of operations of the distributor were immaterial for all prior periods.
| |
| Electrical Products Division |
In August 2003, the Company sold the assets of its Electrical Products Division business for $4.5 million in cash. The sale resulted in a pre-tax gain of approximately $2.4 million that is included in (Gains) losses and other expenses. The revenues and results of operations of the business were immaterial for all prior periods.
During 2001, the Company undertook separate restructuring initiatives of its Service Experts operations and certain of its manufacturing and distribution operations. During 2002, the Company undertook an additional restructuring initiative of its non-core Heat Transfer engineering business.
Retail Restructuring Program. In the second quarter of 2001, the Company recorded a pre-tax restructuring charge of $38.0 million ($25.6 million, net of tax), of which $3.4 million was included in cost of goods sold, for the selling, closing or merging of 38 company-owned dealer service centers. These centers were either under-performing financially, located in geographical areas requiring disproportionate management effort or focused on non-HVAC activities. The major actions of the plan consisted of employee terminations, closure, sale or merger of dealer service centers and completion of in-process commercial construction jobs, all of which have been completed.
The $38.0 million restructuring charge consisted of asset impairments and estimates of future cash expenditures. Charges based on estimated cash expenditures are as follows (in millions):
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | Balance | |
| | | Original | | | New | | | Cash | | | Other | | | December 31, | |
| | | Charge | | | Charges | | | Payments | | | Changes | | | 2002 | |
| | | | | | | | | | | | | | | | |
| Severance and benefits | | $ | 4.8 | | | $ | 0.2 | | | $ | (2.9 | ) | | $ | (2.1 | ) | | $ | — | |
| Other exit costs | | | 12.3 | | | | 0.8 | | | | (12.5 | ) | | | 3.1 | | | | 3.7 | |
| | | | | | | | | | | | | | | | |
| | Total | | $ | 17.1 | | | $ | 1.0 | | | $ | (15.4 | ) | | $ | 1.0 | | | $ | 3.7 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Balance | | | | | | | | | Balance | |
| | | December 31, | | | New | | Cash | | | Other | | December 31, | |
| | | 2002 | | | Charges | | Payments | | | Changes | | 2003 | |
| | | | | | | | | | | | | | |
| Other exit costs | | $ | 3.7 | | | $ | — | | | $ | (3.6 | ) | | $ | — | | | $ | 0.1 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Balance | | | | | | | | | Balance | |
| | | December 31, | | | New | | Cash | | Other | | December 31, | |
| | | 2003 | | | Charges | | Payments | | Changes | | 2004 | |
| | | | | | | | | | | | | |
| Other exit costs | | $ | 0.1 | | | $ | — | | | $ | — | | | $ | — | | | $ | 0.1 | |
| | | | | | | | | | | | | | | | |
50
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The original severance charge of $4.8 million included the termination of 605 employees. All employee termination actions have been completed. The original “Other exit costs” charged included $4.7 million to complete in-process commercial construction jobs at the exit date, $4.7 million for non-cancelable operating lease commitments on closed service center facilities and $2.9 million of other closure-related costs.
In the third and fourth quarter of 2001, the Company identified an additional 15 centers for closure. The $1.0 million of new charges in the above table, of which $0.4 million was recognized in 2001 and $0.6 million in 2002, reflects the Company’s estimate of costs related to closure of these centers.
The other changes of $(2.1) million in severance and benefits included in the above table were revisions to the original number of employees to be terminated as a result of the Company finding buyers for service centers that had previously been identified for closure. Approximately $(1.9) million was recognized in 2001 with the remaining $(0.2) million being recognized in 2002. The other changes in “Other exit costs” included in the above table relate to higher-than-expected costs to complete the in-process commercial jobs at closed centers. Approximately $3.3 million was recognized in 2001 with the remaining $(0.2) million being recognized in 2002.
Asset impairments included in the restructuring charge consisted of the following:
| |
| The restructuring charge recorded in 2001 included impairments of $6.6 million for long-lived assets, principally property, plant and equipment used in the operations of the closed service centers, $5.7 million in goodwill, $3.4 million for inventory write-downs (included as a component of cost of goods sold) and $5.2 million in accounts receivable. All asset impairment charges were related to assets included in the Service Experts reportable segment. |
|
| The impairment charges for the long-lived assets reduced the carrying amount of the assets to management’s estimate of fair value that was based primarily on the estimated proceeds, if any, to be generated from the sale or disposal of the assets. The property, plant and equipment carrying value after consideration of the impairment charge was immaterial. The goodwill impairment charge reduced to zero any goodwill that had been recorded in conjunction with acquisitions of specific service centers that were completely idled and for which expected future cash flows were not sufficient to cover the related property, plant and equipment. For the year ended December 31, 2002, the Company recognized as a component of the Restructurings line item in the accompanying Consolidated Statements of Operations $0.2 million in net gains that represent differences between the original estimate of fair value and actual proceeds received. |
|
| The inventory and accounts receivable impairment charges recorded in conjunction with the restructuring reduced the carrying value of service center inventories and accounts receivables to net realizable value. These revisions to net realizable value resulted directly from the Company’s decision to close the related service center operations. For the year ended December 31, 2002, the Company has recognized as a component of the Restructurings line item in the accompanying Consolidated Statements of Operations, $0.3 million in net gains that represent differences between the original estimate of net realizable value and actual proceeds received. |
Manufacturing and Distribution Restructuring Program. In the fourth quarter of 2001, the Company recorded pre-tax restructuring charges totaling $35.2 million ($31.0 million, net of tax) for severance and other exit costs that resulted from the Company’s decision to sell or abandon certain manufacturing and distribution operations. Inventory impairments of $4.4 million were included in cost of goods sold. The major actions included in the plan were the closing of a domestic distribution facility, the Company’s Mexico sales office, manufacturing plants in Canada, Australia and Europe and the disposal of other non-core Heat Transfer businesses, which have been completed. The revenue and net operating loss of separately identifiable operations were $36.3 million and $2.3 million, respectively, for the year ended December 31, 2001.
51
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
A summary of the asset impairments by action and the operating segment impacted are included in the following table (in millions):
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | Asset Impairments and Write-Downs | |
| | | | |
| | | | | Accounts | | | |
| Major Action and Operating Segment Impacted: | | PP & E | | | Goodwill | | | Receivable | | | Inventory | | | Total | |
| | | | | | | | | | | | | | | | |
| Residential segment: | | | | | | | | | | | | | | | | | | | | |
| | Canadian manufacturing facility | | $ | 1.0 | | | $ | — | | | $ | — | | | $ | — | | | $ | 1.0 | |
| | Domestic distribution facility | | | 0.5 | | | | — | | | | — | | | | 1.0 | | | | 1.5 | |
| | | | | | | | | | | | | | | | |
| | | Residential segment | | | 1.5 | | | | — | | | | — | | | | 1.0 | | | | 2.5 | |
| Commercial segment: | | | | | | | | | | | | | | | | | | | | |
| | Australian manufacturing facility | | | 0.3 | | | | 1.5 | | | | — | | | | 1.2 | | | | 3.0 | |
| | Closure of Mexico sales office | | | — | | | | — | | | | 1.0 | | | | — | | | | 1.0 | |
| | | | | | | | | | | | | | | | |
| | | Commercial segment | | | 0.3 | | | | 1.5 | | | | 1.0 | | | | 1.2 | | | | 4.0 | |
| Refrigeration segment: | | | | | | | | | | | | | | | | | | | | |
| | European manufacturing facility | | | — | | | | — | | | | — | | | | 1.4 | | | | 1.4 | |
| Heat Transfer segment — engineering business | | | 1.9 | | | | 9.4 | | | | 5.8 | | | | 0.8 | | | | 17.9 | |
| | | | | | | | | | | | | | | | |
| | | | Total | | $ | 3.7 | | | $ | 10.9 | | | $ | 6.8 | | | $ | 4.4 | | | $ | 25.8 | |
| | | | | | | | | | | | | | | | |
The property, plant and equipment impairment consisted primarily of manufacturing equipment written down to the cash expected to be received upon sale or abandonment, if any. The goodwill impairment charges reduced the goodwill associated with the closed operation to zero. The accounts receivable and inventory write-downs were recorded in conjunction with the restructuring since the decisions to close the operations directly impacted the net realizable value of the related assets. Included in restructurings in the accompanying Consolidated Statements of Operations for the year ended December 31, 2002 are $2.0 million of net gains upon disposal of these impaired assets that resulted from differences between original estimates of fair and net realizable value and amounts realized upon disposal.
A summary of the severance and other exit costs associated with the Manufacturing and Distribution Restructuring Program are included in the following table (in millions):
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | Balance | |
| | | Original | | | New | | | Cash | | | Other | | | December 31, | |
| | | Charge | | | Charges | | | Payments | | | Changes | | | 2002 | |
| | | | | | | | | | | | | | | | |
| Severance and benefits | | $ | 6.0 | | | $ | 3.4 | | | $ | (7.7 | ) | | $ | 0.3 | | | $ | 2.0 | |
| Other exit costs | | | 3.4 | | | | 1.1 | | | | (2.3 | ) | | | (0.9 | ) | | | 1.3 | |
| | | | | | | | | | | | | | | | |
| | Total | | $ | 9.4 | | | $ | 4.5 | | | $ | (10.0 | ) | | $ | (0.6 | ) | | $ | 3.3 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | Balance | | | | | | | | | Balance | |
| | | December 31, | | | New | | | Cash | | | Other | | | December 31, | |
| | | 2002 | | | Charges | | | Payments | | | Changes | | | 2003 | |
| | | | | | | | | | | | | | | | |
| Severance and benefits | | $ | 2.0 | | | $ | 0.3 | | | $ | (1.3 | ) | | $ | (0.3 | ) | | $ | 0.7 | |
| Other exit costs | | | 1.3 | | | | — | | | | (0.8 | ) | | | — | | | | 0.5 | |
| | | | | | | | | | | | | | | | |
| | Total | | $ | 3.3 | | | $ | 0.3 | | | $ | (2.1 | ) | | $ | (0.3 | ) | | $ | 1.2 | |
| | | | | | | | | | | | | | | | |
52
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
| | | | | | | | | | | | | | | | | | | | | | |
| | | Balance | | | | | | | | | Balance | |
| | | December 31, | | | New | | Cash | | | Other | | | December 31, | |
| | | 2003 | | | Charges | | Payments | | | Changes | | | 2004 | |
| | | | | | | | | | | | | | | |
| Severance and benefits | | $ | 0.7 | | | $ | — | | | $ | — | | | $ | 0.1 | | | $ | 0.8 | |
| Other exit costs | | | 0.5 | | | | — | | | | (0.3 | ) | | | — | | | | 0.2 | |
| | | | | | | | | | | | | | | | |
| | Total | | $ | 1.2 | | | $ | — | | | $ | (0.3 | ) | | $ | 0.1 | | | $ | 1.0 | |
| | | | | | | | | | | | | | | | |
The original severance and benefits charge of $6.0 million primarily related to the termination of 250 hourly and 46 salaried employees in Canada. The $3.4 million of new charges represents the 2002 termination of 64 European Refrigeration, 49 Heat Transfer and other Australian personnel. The “Other exit costs” consist of $2.5 million for contractual lease obligations associated with the vacated corporate office lease space and the closed Australian manufacturing facility. Included in Restructurings in the accompanying Consolidated Statements of Operations for the year ended December 31, 2002 are $0.7 million of restructuring incomes associated with the subleasing of the vacated corporate office lease space. The cash obligations associated with these exit costs continue through 2005.
Engineering Business Restructuring Program. In the third quarter of 2002, the Company recorded a pre-tax restructuring charge totaling $7.5 million ($5.2 million, net of tax) consisting of $1.0 million of inventory impairments included in cost of goods sold, severance and other exit costs that resulted from the Company’s decision to abandon the residual portion of the Heat Transfer business that does not fit with the Company’s strategic focus and was not included in the joint venture with Outokumpu. The revenue and net operating loss associated with the engineering business was $9.8 million and $6.9 million, respectively, for the year ended December 31, 2002. The Company completed the wind-down period of this business and recorded an additional operating loss of $1.8 million in 2003. Operating losses from this business are reported in the “Corporate and other” business segment.
A summary of the severance and other exit costs, recorded in the quarter ended September 30, 2002, associated with the Engineering Business Restructuring Program are included in the following table (in millions):
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | Balance | |
| | | Original | | | New | | Cash | | | Other | | | December 31, | |
| | | Charge | | | Charges | | Payments | | | Changes | | | 2002 | |
| | | | | | | | | | | | | | | |
| Severance and benefits | | $ | 3.7 | | | $ | — | | | $ | (3.1 | ) | | $ | 0.3 | | | $ | 0.9 | |
| Other exit costs | | | 2.8 | | | | — | | | | (0.9 | ) | | | 0.2 | | | | 2.1 | |
| | | | | | | | | | | | | | | | |
| | Total | | $ | 6.5 | | | $ | — | | | $ | (4.0 | ) | | $ | 0.5 | | | $ | 3.0 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | Balance | | | | | | | | | Balance | |
| | | December 31, | | | New | | Cash | | | Other | | December 31, | |
| | | 2002 | | | Charges | | Payments | | | Changes | | 2003 | |
| | | | | | | | | | | | | | |
| Severance and benefits | | $ | 0.9 | | | $ | — | | | $ | (0.9 | ) | | $ | — | | | $ | — | |
| Other exit costs | | | 2.1 | | | | — | | | | (1.8 | ) | | | — | | | | 0.3 | |
| | | | | | | | | | | | | | | | |
| | Total | | $ | 3.0 | | | $ | — | | | $ | (2.7 | ) | | $ | — | | | $ | 0.3 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Balance | | | | | | | | | Balance | |
| | | December 31, | | | New | | Cash | | | Other | | December 31, | |
| | | 2003 | | | Charges | | Payments | | | Changes | | 2004 | |
| | | | | | | | | | | | | | |
| Other exit costs | | $ | 0.3 | | | $ | — | | | $ | (0.1 | ) | | $ | — | | | $ | 0.2 | |
| | | | | | | | | | | | | | | | |
The severance and benefits charge primarily related to the termination of 147 personnel. All employee termination actions have been completed.
53
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The “Other exit costs” consist of contractual lease and contract takeover obligations. The cash obligations associated with these exit costs will continue through November 2005. Included in Restructurings in the accompanying Consolidated Statements of Operations for the year ended December 31, 2002 are $0.5 million of net gains upon disposal of these impaired assets that resulted from differences between original estimates of fair and net realizable value and amounts realized upon disposal.
| |
| 8. | Long-Term Debt and Lines of Credit: |
Long-term debt at December 31 consistsconsisted of the following (in millions):
| | | | | | | | | | | | | | |
| | | 2004 | | | 2003 | | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | |
| Floating rate revolving loans payable | | $ | 5.0 | | $ | 3.0 | | Floating rate revolving loans payable | | $ | — | | $ | 5.0 | |
| 6.25% convertible subordinate notes, payable in 2009 | | | 143.8 | | | 143.8 | | 6.25% convertible subordinate notes, payable in 2009 | | | — | | | 143.8 | |
| 6.73% promissory notes, payable $11.1 annually, 2004 through 2008 | | | 44.4 | | | 55.5 | | |
| 7.06% promissory note, payable $10.0 annually in 2004 and 2005 | | | — | | | 20.0 | | |
| 6.73% promissory notes, payable $11.1 annually through 2008 | | 6.73% promissory notes, payable $11.1 annually through 2008 | | | 33.3 | | | 44.4 | |
| 6.56% promissory notes, payable in 2005 | | | 25.0 | | | 25.0 | | 6.56% promissory notes, payable in 2005 | | | — | | | 25.0 | |
| 6.75% promissory notes, payable in 2008 | | | 50.0 | | | 50.0 | | 6.75% promissory notes, payable in 2008 | | | 50.0 | | | 50.0 | |
| 8.00% promissory note, payable in 2010 | | | 35.0 | | | 35.0 | | 8.00% promissory note, payable in 2010 | | | 35.0 | | | 35.0 | |
| 7.75% promissory note, payable in 2005 | | | — | | | 25.0 | | |
| Capitalized lease obligations and other | | | 1.3 | | | 1.4 | | Capitalized lease obligations and other | | | 1.0 | | | 1.3 | |
| | | | | | | | | | | | |
| | | | 304.5 | | | 358.7 | | | | | 119.3 | | | 304.5 | |
| Less current maturities | | | (36.4 | ) | | | (21.4 | ) | |
| | | | | | | Less current maturities | | | (11.3 | ) | | | (36.4 | ) |
| | | $ | 268.1 | | $ | 337.3 | | | | | | | |
| | | | | | | | | $ | 108.0 | | $ | 268.1 | |
| | | | | | | | |
At December 31, 2004,2005, the aggregate amounts of required principal payments on long-term debt are as follows (in millions):
| | | | | | | | | |
| 2005 | | $ | 36.4 | | |
| 2006 | | | 16.3 | | | $ | 11.3 | |
| 2007 | | | 11.4 | | | | 11.3 | |
| 2008 | | | 61.3 | | | | 61.3 | |
| 2009 | | | 144.0 | | | | 0.2 | |
| 2010 | | | | 35.1 | |
| Thereafter | | | 35.1 | | | | 0.1 | |
| | | | | | | |
| | | $ | 304.5 | | | $ | 119.3 | |
| | | | | | | |
In June 2004, LII made a pre-payment on its long-term debt of $35 million, which was scheduled to mature in the third quarter of 2005. Thepre-paymentmake-whole amount associated with the debt was $1.9 million and was expensed in 2004 and is included in Interest Expense, net in the accompanying Consolidated Statements of Operations.
The Company has bank lines of credit aggregating $260.7$427.5 million, of which $11.0$1.2 million was borrowed and outstanding and $90.3$90.7 million was committed to standby letters of credit at December 31, 2004. The2005. Of the remaining $159.4$335.6 million, the entire amount was available for future borrowings subject to financialafter consideration of covenant limitations. Included in the lines of credit are several regional facilities and a multi-currency facility in the amount of $225 million governed by agreements between the Company and a syndicate of banks. In September 2003,July 2005, the Company amended and restated its former domesticrevolving credit facility to, among other things, base covenants onincrease the financials of domesticborrowing capacity from $225 million to $400 million and foreign subsidiaries, extend the facility maturity date tofrom September 2006 to July 2010. As of December 31, 2005 and reduce capacity from $2702004, the Company has unamortized debt issuance costs of $2.5 million to $205 million. In October 2003,and $4.9 million, respectively, which are included in other assets in the facility capacity was increased to $225 million.accompanying Consolidated Balance Sheets. The facility contains certain financial covenants and bears interest at the Company’s option, at a rate equal to, at the Company’s option, either (a) the greater of the bank’s prime rate or the federal funds rate plus 0.5%, or (b) the London Interbank Offered Rate plus a margin equal to 1.0%0.475% to 2.5%1.20%, depending upon the ratio of total funded debt-to-earningsdebt-to-adjusted earnings before interest, taxes, depreciation and amortization (“Adjusted EBITDA”), as defined in the facility. The Company pays a facility fee, depending upon the
54
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
ratio of total funded debt to Adjusted EBITDA, equal to 0.25%0.15% to 0.50%0.30% of the capacity. The facility includes restrictive covenants that limit the Company’s ability to incur additional indebtedness, encumber its assets, sell its assets or payand make
59
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
certain payments, including amounts for share repurchases and dividends. There are no required payments prior to the expiration of the facility. The Company’s facility and promissory notes are secured by the stock of the Company’s major subsidiaries. The facility requires that LII annually and quarterly deliver financial statements, as well as compliance certificates, to the banks within a specified period of time.time periods.
On May 8, 2002,September 7, 2005, the Company issued $143.8 millioncalled for redemption all of its outstanding 6.25% convertible subordinated notes (“Convertible Notes”), maturing June 1, 2009, and received proceeds totaling approximately $139 on October 7, 2005. The redemption price was 103.571% of the principal amount. As of September 7, 2005, there was $143.75 million after debt issuance costs. Interest is payable semi-annually on June 1 and December 1aggregate principal amount of each year. Each $1,000 Note is convertibleConvertible Notes outstanding, which could be converted into 55.29the Company’s common stock at a rate of 55.2868 shares of common stock. Redemption can occurstock per $1,000 principal amount of Convertible Notes at any time before the Company’s option beginning in Juneclose of business on the business day prior to the redemption date. As of October 6, 2005, if the market priceholders of all of the Company’s Common StockConvertible Notes had converted the Convertible Notes into an aggregate of approximately 7.9 million shares of common stock.
LII’s domestic revolving and term loans contain certain financial covenant restrictions. As of December 31, 2005, LII was in compliance with all covenant requirements. LII periodically reviews its capital structure, including its primary bank facility, to ensure that it has exceeded $23.52 per share during specified periodsadequate liquidity. LII believes that cash flow from operations, as well as available borrowings under its revolving credit facility and at the optionother sources of the Note holders if the market price of the Company’s Common Stock has exceeded $19.90 per share during specified periods or if the market price of the Notes is less than 95% of the market price of the stock multiplied by 55.29. The Notes are junior in right of paymentfunding will be sufficient to all of our existing and future senior indebtedness, and are structurally subordinated to all liabilities of our subsidiaries, including trade payables, lease commitments and money borrowed. Under the Registration Rights Agreement, dated as of May 8, 2002 (the “Registration Rights Agreement”), between LII, UBS Warburg LLC and the other initial purchasers relating to the Notes, LII agreed that during the two-year period from the date of issuance of the Notes (May 8, 2002), LII would file with the SEC a registration statement on the Notes and cause the registration statement to be declared effective and usablefund its operations for the offer and sale of the Notes. The delay in filing of LII’s Annual Report on Form 10-K for 2003 caused a default on April 29, 2004 under the Registration Rights Agreements (the “Default Date”) since the registration statement ceased to be effective through May 8, 2004 (a “Registration Default”). Upon a Registration Default, LII became contractually obligated to pay an additional 0.25% per annum interest (“Liquidated Damages”) from the Default Date until the second anniversary of the issuance of the Notes. As of May 8, 2004, LII was no longer in default with no further Liquidated Damages required. LII paid approximately $32,000 in Liquidated Damages on June 1, 2004.
In June 2004, LII made a pre-payment on its long-term debt of $35 million. The long-term debt was scheduled to have been repaid in the third quarter of 2005. The pre-payment make-whole amount associated with the debt was $1.9 million and was expensed in 2004.foreseeable future.
Under a revolving period asset securitization arrangement, the Company transfers beneficial interests in a portion of its trade accounts receivable to a third party in exchange for cash. The Company’s continued involvement in the transferred assets is limited to servicing. These transfers are accounted for as sales rather than secured borrowing. The fair values assigned to the retained and transferred interests are based primarily on the receivables carrying value given the short term to maturity and low credit risk. As of December 31, 20042005 and 2003,2004, the Company had not sold any beneficial interests in accounts receivable. The discount incurred in the sale of such receivables of $0.9 million, $2.3 million and $2.9 million for the years ended December 31, 2005, 2004 and 2003, respectively, is included as part of Selling, General and Administrative Expense in the accompanying Consolidated Statements of Operations.
55
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The income tax provision from continuing operations consisted of the following (in millions):
| | | | | | | | | | | | | | | | | | | | | | | |
| | | | For the Years Ended | | | | For the Years Ended | |
| | | | December 31, | | | | December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2002 | | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | | | |
| Current: | Current: | | | | | | | | | | | Current: | | | | | | | | | | |
| | Federal | | $ | 12.9 | | $ | 32.8 | | $ | 11.6 | | Federal | | $ | 63.9 | | $ | 12.9 | | $ | 32.8 | |
| | State | | | 3.3 | | | (1.8 | ) | | | (1.8 | ) | State | | | 7.2 | | | 3.3 | | | (1.8 | ) |
| | Foreign | | | 10.2 | | | 0.2 | | | 6.6 | | Foreign | | | 14.3 | | | 10.2 | | | 0.2 | |
| | | | | | | | | | | | | | | | | |
| | | Total current | | | 26.4 | | | 31.2 | | | 16.4 | | | Total current | | | 85.4 | | | 26.4 | | | 31.2 | |
| | | | | | | | | | | | | | | | | |
| Deferred: | Deferred: | | | | | | | | | | | Deferred: | | | | | | | | | | |
| | Federal | | | 10.9 | | | 6.5 | | | 15.0 | | Federal | | | (3.1 | ) | | | 10.9 | | | 6.5 | |
| | State | | | (7.1 | ) | | | 5.3 | | | 5.1 | | State | | | 4.1 | | | (7.1 | ) | | | 5.3 | |
| | Foreign | | | 0.3 | | | 2.1 | | | (4.3 | ) | Foreign | | | (3.4 | ) | | | 0.3 | | | 2.1 | |
| | | | | | | | | | | | | | | | | |
| | | Total deferred | | | 4.1 | | | 13.9 | | | 15.8 | | | Total deferred | | | (2.4 | ) | | | 4.1 | | | 13.9 | |
| | | | | | | | | | | | | | | | | |
| | | Total income tax provision | | $ | 30.5 | | $ | 45.1 | | $ | 32.2 | | | Total income tax provision | | $ | 83.0 | | $ | 30.5 | | $ | 45.1 | |
| | | | | | | | | | | | | | | | | |
60
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Loss) incomeIncome (loss) from continuing operations before income taxes and cumulative effect of accounting change was comprised of $195.3 million domestic and $39.7 million foreign for the year ended December 31, 2005, $(92.4) million domestic and $29.4 million foreign for the year ended December 31, 2004 and $112.0 million domestic and $19.8 million foreign for the year ended December 31, 2003.
The difference between the income tax provision from continuing operations computed at the statutory federal income tax rate and the financial statement provision for taxes is summarized as follows (in millions):
| | | | | | | | | | | | | | | | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2002 | | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | | | |
| Provision (benefit) at the U.S. statutory rate of 35% | Provision (benefit) at the U.S. statutory rate of 35% | | $ | (22.1 | ) | | $ | 46.1 | | $ | 24.7 | | Provision (benefit) at the U.S. statutory rate of 35% | | $ | 82.3 | | $ | (22.1 | ) | | $ | 46.1 | |
| Increase (reduction) in tax expense resulting from: | Increase (reduction) in tax expense resulting from: | | | | | | | | | | | Increase (reduction) in tax expense resulting from: | | | | | | | | | | |
| | State income tax, net of federal income tax benefit | | | 1.5 | | | (0.5 | ) | | | 2.1 | | State income tax, net of federal income tax benefit | | | 7.3 | | | 1.5 | | | (0.5 | ) |
| | Foreign losses not providing a current benefit | | | 6.2 | | | 3.6 | | | 9.6 | | Foreign losses not providing a current benefit | | | — | | | 6.2 | | | 3.6 | |
| | Goodwill impairment | | | 51.4 | | | — | | | — | | Goodwill impairment | | | — | | | 51.4 | | | — | |
| | Other permanent items | | | 1.4 | | | (1.9 | ) | | | (3.4 | ) | Other permanent items | | | (3.1 | ) | | | 1.4 | | | (1.9 | ) |
| | Research tax credit | | | (5.6 | ) | | | (3.6 | ) | | | — | | Research tax credit | | | (0.7 | ) | | | (5.6 | ) | | | (3.6 | ) |
| | Foreign taxes at rates other than 35% and miscellaneous other | | | (2.3 | ) | | | 1.4 | | | (0.8 | ) | Foreign taxes at rates other than 35% and miscellaneous other | | | (2.8 | ) | | | (2.3 | ) | | | 1.4 | |
| | | | | | | | | | | | | | | | | |
| | | Total income tax provision | | $ | 30.5 | | $ | 45.1 | | $ | 32.2 | | | Total income tax provision | | $ | 83.0 | | $ | 30.5 | | $ | 45.1 | |
| | | | | | | | | | | | | | | | | |
Deferred income taxes reflect the tax consequences on future years of temporary differences between the tax basis of assets and liabilities and their financial reporting basis and are reflected as current or non-current depending on the timing of the expected realization. The deferred tax provision for the periods shown represents the effect of changes in the amounts of temporary differences during those periods.
5661
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Deferred tax assets (liabilities), as determined under the provisions of SFAS No. 109, “Accounting for Income Taxes,” were comprised of the following at December 31 (in millions):
| | | | | | | | | | | | | | | | |
| | | | 2004 | | | 2003 | | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | |
| Gross deferred tax assets: | Gross deferred tax assets: | | | | | | | | Gross deferred tax assets: | | | | | | | |
| | Warranties | | $ | 24.1 | | $ | 23.7 | | Warranties | | $ | 28.0 | | $ | 24.1 | |
| | NOLs (foreign and U.S. state) | | | 58.6 | | | 54.9 | | Net operating losses (foreign and U.S. state) | | | 59.5 | | | 58.6 | |
| | Postretirement and pension benefits | | | 24.2 | | | 18.0 | | Postretirement and pension benefits | | | 7.0 | | | 24.2 | |
| | Inventory reserves | | | 3.8 | | | 6.7 | | Inventory reserves | | | 5.0 | | | 3.8 | |
| | Receivable allowance | | | 4.2 | | | 4.3 | | Receivable allowance | | | 3.9 | | | 4.2 | |
| | Compensation liabilities | | | 17.2 | | | 26.9 | | Compensation liabilities | | | 26.3 | | | 17.2 | |
| | Deferred income | | | 9.9 | | | 11.3 | | Deferred income | | | 8.9 | | | 9.9 | |
| | Intangibles | | | 18.7 | | | 15.0 | | Intangibles | | | 14.1 | | | 18.7 | |
| | Other | | | 8.0 | | | 7.9 | | Other | | | 17.4 | | | 8.0 | |
| | | | | | | | | | | | | |
| | | Total deferred tax assets | | | 168.7 | | | 168.7 | | | Total deferred tax assets | | | 170.1 | | | 168.7 | |
| | | Valuation allowance | | | (43.0 | ) | | | (39.4 | ) | | Valuation allowance | | | (50.5 | ) | | | (43.0 | ) |
| | | | | | | | | | | | | |
| | | Total deferred tax assets, net of valuation allowance | | | 125.7 | | | 129.3 | | | Total deferred tax assets, net of valuation allowance | | | 119.6 | | | 125.7 | |
| | | | | | | | | | | | | |
| Gross deferred tax liabilities: | Gross deferred tax liabilities: | | | | | | | | Gross deferred tax liabilities: | | | | | | | |
| | Depreciation | | | (12.7 | ) | | | (14.7 | ) | Depreciation | | | (10.8 | ) | | | (12.7 | ) |
| | Insurance liabilities | | | (4.2 | ) | | | (2.8 | ) | Insurance liabilities | | | (8.0 | ) | | | (4.2 | ) |
| | Other | | | (12.9 | ) | | | (13.4 | ) | Other | | | (8.6 | ) | | | (12.9 | ) |
| | | | | | | | | | | | | |
| | | Total deferred tax liabilities | | | (29.8 | ) | | | (30.9 | ) | | Total deferred tax liabilities | | | (27.4 | ) | | | (29.8 | ) |
| | | | | | | | | | | | | |
| Net deferred tax assets | Net deferred tax assets | | $ | 95.9 | | $ | 98.4 | | Net deferred tax assets | | $ | 92.2 | | $ | 95.9 | |
| | | | | | | | | | | | | |
TheAs of December 31, 2005, the Company has $15.8 million and $43.7 million in state and foreign net operating loss carry forwards that expire at various datescarryforwards, respectively. The state and foreign net operating loss carryforwards begin expiring in the future.2006 and 2007, respectively. The deferred tax asset valuation allowance relates primarily to the operating loss carry forwards in various states in the U.S,U.S., European and Canadian tax jurisdictions. The increase in valuation allowance is primarily the result of foreign and state losses not benefited. In addition, the Company has approximately $6.1 million in pre-acquisition net state operating losses that have not been benefited. The utilization of these losses will result in a tax benefit of $0.2 million, which will be recorded against goodwill.
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. In order to fully realize the deferred tax asset, the Company will need to generate future federal and foreign taxable income of approximately $129.8$69.0 million during the periods in which those temporary differences become deductible and future state taxable income of approximately $220.9$151.7 million prior to the expiration of the net operating loss carry forwards. United StatesU.S. taxable income for the years ended December 31, 2005, 2004 and 2003 was $8.5$148.8 million, $2.4 million and $86.4 million, respectively. Management considers the reversal of existing taxable temporary differences, projected future taxable income, and tax planning strategies in making this assessment. Based upon the level of historical taxable income and projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize the benefits of these deductible differences, net of the existing valuation allowances at December 31, 2004.2005.
No provision has been made for income taxes which may become payable upon distribution of the Company’s foreign subsidiaries’ earnings. It is not practicable to estimate the amount of tax that might be payable, since management’s intent is to permanently reinvest these earnings or to repatriate earnings when it is tax effective to do so.
5762
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
management’s intent is to permanently reinvest these earnings or to repatriate earnings only when it is tax effective to do so.
The American Jobs Creation Act of 2004 (P.L. 108-357)(“AJCA”) was signed into law on October 22, 2004. The Act providesAJCA provided an opportunity to repatriate foreign earnings and claim an 85% dividend received deduction against the repatriated amount. The Company is evaluatingevaluated the potential effects of the repatriation provision and expectsdetermined not to make a decision on implementation later in 2005. As a result, the related range of income tax effects of such repatriation cannot be reasonably estimated at the time of issuance of our consolidated financial statements, and, as provided for in FASB Staff Position No. 109-2 “Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision within the American Jobs Creation Act of 2004,” no income tax expense related to our possible repatriation has been recorded as of December 31, 2004.repatriate earnings under this provision.
| |
| 10. | Current Accrued Expenses: |
Significant components of current accrued expenses are as follows (in millions):
| | | | | | | | | | | | | | | |
| | | | December 31, | | | | December 31, | |
| | | | | | | | | |
| | | | 2004 | | | 2003 | | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | |
| Accrued wages | Accrued wages | | $ | 85.5 | | $ | 82.5 | | Accrued wages | | $ | 114.6 | | $ | 85.5 | |
| Casualty insurance reserves | Casualty insurance reserves | | | 58.3 | | | 52.7 | | Casualty insurance reserves | | | 61.3 | | | 58.3 | |
| Deferred income on service contracts | Deferred income on service contracts | | | 29.3 | | | 26.3 | | Deferred income on service contracts | | | 32.8 | | | 29.3 | |
| Accrued warranties | Accrued warranties | | | 26.8 | | | 26.2 | | Accrued warranties | | | 25.3 | | | 26.8 | |
| Accrued promotions | Accrued promotions | | | 26.1 | | | 23.4 | | Accrued promotions | | | 31.5 | | | 26.1 | |
| Other | Other | | | 60.3 | | | 68.0 | | Other | | | 56.2 | | | 60.3 | |
| | | | | | | | | | | | | |
| | Total current accrued expenses | | $ | 286.3 | | $ | 279.1 | | Total current accrued expenses | | $ | 321.7 | | $ | 286.3 | |
| | | | | | | | | | | | | |
| |
| 11. | Employee Benefit Plans: |
The Company maintains noncontributory profit sharing plans for its eligible domestic salaried employees. These plans are discretionary, as the Company’s contributions are determined annually by the Board of Directors. Provisions for contributions to the plans amounted to $14.0 million, $10.4 million and $8.5 million in 2005, 2004 and $7.0 million in 2004, 2003, and 2002, respectively. The Company also sponsors several 401(k) plans with employer contribution-matching requirements. The Company contributed $1.6 million, $2.3 million in 2004 and $2.5 million in 2005, 2004 and 2003, and 2002respectively, to these 401(k) plans.
| |
| Employee Stock Purchase Plan |
The Company’s employee stock purchase plan, which was terminated as of December 31, 2003, had 2,575,000 shares of Common Stockcommon stock reserved. The shares were offered for sale to employees only, through payroll deductions, at prices equal to 85% of the lesser of the fair market value of the Company’s Common Stockcommon stock on the first day of the offering period or the last day of the offering period. Under the plan, participating employees purchased 508,380 and 516,580 shares in 2003 and 2002, respectively.2003.
| |
| Pension and Postretirement Benefit Plans |
The Company has domestic and foreign pension plans covering essentially all employees. The Company also maintains an unfunded postretirement benefit plan, which provides certain medical and life insurance benefits to eligible employees. The pension plans are accounted for under provisions of SFAS No. 87, “Employers’ Accounting for Pensions.” The postretirement benefit plan is accounted for under the provisions of SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other than Pensions” (“FAS 106”).
5863
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
of SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other than Pensions” (“FAS 106”). In December 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (“the Act”) was signed into law. The Act introduces a prescription drug benefit under Medicare (Medicare Part D) as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. In May 2004, Financial Accounting Standards Board Staff Position No. FAS 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003,” was issued and it permits a sponsor of a postretirement health care plan that provides a prescription drug benefit to make a one-time election to defer accounting for the effects of the Act. The Company has elected not to reflect the changes in the Act in its 2004 financials as the effects of the Act are not a significant event that calls for remeasurement under FAS 106. Therefore, the accumulated postretirement benefit obligation and net postretirement benefit costs in the financial statements and footnote do not reflect the effects of the Act on the Company’s plans.
The following table setstables set forth amounts recognized in the Company’s financial statements and the plans’ funded status (in(dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Pension Benefits | | | Other Benefits | | | | Pension Benefits | | | Other Benefits | |
| | | | | | | | | | | | | | | |
| | | | 2004 | | | 2003 | | | 2004 | | | 2003 | | | | 2005 | | | 2004 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Accumulated benefit obligation | Accumulated benefit obligation | | $ | 233.9 | | $ | 217.2 | | $ | N/A | | $ | N/A | | Accumulated benefit obligation | | $ | 262.5 | | $ | 234.6 | | $ | N/A | | $ | N/A | |
| Changes in projected benefit obligation: | Changes in projected benefit obligation: | | | | | | | | | | | | | | Changes in projected benefit obligation: | | | | | | | | | | | | | |
| | Benefit obligation at beginning of year | | | 223.4 | | | 194.2 | | | 24.3 | | | 23.4 | | Benefit obligation at beginning of year | | | 243.1 | | | 224.1 | | | 28.3 | | | 24.3 | |
| | Service cost | | | 6.6 | | | 5.4 | | | 1.0 | | | 0.9 | | Service cost | | | 7.0 | | | 6.6 | | | 1.2 | | | 1.0 | |
| | Interest cost | | | 13.2 | | | 12.9 | | | 1.4 | | | 1.6 | | Interest cost | | | 13.1 | | | 13.2 | | | 1.6 | | | 1.4 | |
| | Plan participants’ contributions | | | 0.1 | | | 0.1 | | | 2.1 | | | 1.8 | | Plan participants’ contributions | | | 0.1 | | | 0.1 | | | 2.2 | | | 2.1 | |
| | Amendments | | | — | | | 1.7 | | | — | | | (7.2 | ) | Amendments | | | 1.6 | | | — | | | — | | | — | |
| | Actuarial loss | | | 13.1 | | | 19.9 | | | 3.7 | | | 8.2 | | Actuarial loss (gain) | | | 17.9 | | | 13.2 | | | (1.6 | ) | | | 3.7 | |
| | Benefits paid | | | (14.1 | ) | | | (10.8 | ) | | | (4.2 | ) | | | (4.4 | ) | Benefits paid | | | (13.1 | ) | | | (14.1 | ) | | | (4.6 | ) | | | (4.2 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| | Benefit obligation at end of year | | | 242.3 | | | 223.4 | | | 28.3 | | | 24.3 | | Benefit obligation at end of year | | | 269.7 | | | 243.1 | | | 27.1 | | | 28.3 | |
| | | | | | | | | | | | | | | | | | | | | |
| Changes in plan assets: | Changes in plan assets: | | | | | | | | | | | | | | Changes in plan assets: | | | | | | | | | | | | | |
| | Fair value of plan assets at beginning of year | | | 161.4 | | | 135.6 | | | — | | | — | | Fair value of plan assets at beginning of year | | $ | 167.2 | | $ | 161.4 | | $ | — | | $ | — | |
| | Actual return on plan assets | | | 12.7 | | | 23.0 | | | — | | | — | | Actual return on plan assets | | | 14.0 | | | 12.7 | | | — | | | — | |
| | Employer contribution | | | 1.3 | | | 9.2 | | | 2.1 | | | 2.6 | | Employer contribution | | | 29.8 | | | 1.3 | | | 2.4 | | | 2.1 | |
| | Plan participants’ contributions | | | 0.1 | | | 0.1 | | | 2.1 | | | 1.8 | | Plan participants’ contributions | | | 0.1 | | | 0.1 | | | 2.2 | | | 2.1 | |
| | Foreign currency changes | | | 1.6 | | | 2.7 | | | — | | | — | | Foreign currency changes | | | (0.6 | ) | | | 1.6 | | | — | | | — | |
| | Benefits paid | | | (9.9 | ) | | | (9.2 | ) | | | (4.2 | ) | | | (4.4 | ) | | | | | | | | | | |
| | | | | | | | | | | | Benefits paid | | | (10.4 | ) | | | (9.9 | ) | | | (4.6 | ) | | | (4.2 | ) |
| | Fair value of plan assets at end of year | | | 167.2 | | | 161.4 | | | — | | | — | | | | | | | | | | | |
| | | | | | | | | | | | Fair value of plan assets at end of year | | | 200.1 | | | 167.2 | | | — | | | — | |
| | | | | | | | | | | | |
| Funded status | Funded status | | | (75.1 | ) | | | (62.0 | ) | | | (28.3 | ) | | | (24.3 | ) | Funded status | | | (69.6 | ) | | | (75.9 | ) | | | (27.1 | ) | | | (28.3 | ) |
| | Unrecognized actuarial loss | | | 87.4 | | | 77.5 | | | 18.1 | | | 16.8 | | Unrecognized actuarial loss | | | 102.1 | | | 87.5 | | | 15.5 | | | 18.1 | |
| | Unamortized prior service cost | | | 10.7 | | | 11.7 | | | (5.5 | ) | | | (7.7 | ) | Unamortized prior service cost | | | 11.2 | | | 10.7 | | | (4.9 | ) | | | (5.5 | ) |
| | Unrecognized net obligation | | | 0.1 | | | 0.1 | | | — | | | — | | Unrecognized net obligation | | | 0.3 | | | 0.2 | | | — | | | — | |
| | | | | | | | | | | | | | | | | | | | | |
| Net amount recognized | Net amount recognized | | $ | 23.1 | | $ | 27.3 | | $ | (15.7 | ) | | $ | (15.2 | ) | Net amount recognized | | $ | 44.0 | | $ | 22.5 | | $ | (16.5 | ) | | $ | (15.7 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Amounts recognized in the consolidated balance sheets consist of: | | Amounts recognized in the consolidated balance sheets consist of: | | | | | | | | | | | | | |
| | | Prepaid benefit cost | | $ | 63.1 | | $ | 40.0 | | $ | — | | $ | — | |
| | | Accrued benefit liability | | | (81.4 | ) | | | (106.7 | ) | | | (16.5 | ) | | | (15.7 | ) |
| | | Intangible assets | | | 10.1 | | | 11.4 | | | — | | | — | |
| | | Accumulated other comprehensive loss | | | 52.2 | | | 77.8 | | | — | | | — | |
| | | | | | | | | | | | |
| | | Net amount recognized | | $ | 44.0 | | $ | 22.5 | | $ | (16.5 | ) | | $ | (15.7 | ) |
| | | | | | | | | | | | |
5964
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
| | | | | | | | | | | | | | | | | | |
| | | Pension Benefits | | | Other Benefits | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | |
| Amounts recognized in the consolidated balance sheets consist of: | | | | | | | | | | | | | | | | |
| | Prepaid benefit cost | | $ | 39.7 | | | $ | 45.2 | | | $ | — | | | $ | — | |
| | Accrued benefit liability | | | (106.6 | ) | | | (95.1 | ) | | | (15.7 | ) | | | (15.2 | ) |
| | Intangible assets | | | 11.4 | | | | 11.6 | | | | — | | | | — | |
| | Accumulated other comprehensive loss | | | 78.6 | | | | 65.6 | | | | — | | | | — | |
| | | | | | | | | | | | | |
| | Net amount recognized | | $ | 23.1 | | | $ | 27.3 | | | $ | (15.7 | ) | | $ | (15.2 | ) |
| | | | | | | | | | | | | |
| | | | | | | | | | |
| | | December 31, | |
| | | | |
| | | 2005 | | | 2004 | |
| | | | | | | |
Pension plans with an accumulated benefit obligation in excess of plan assets: | | | | | | | | |
| | Projected benefit obligation | | $ | 158.2 | | | $ | 243.1 | |
| | Accumulated benefit obligation | | | 152.0 | | | | 234.6 | |
| | Fair value of plan assets | | | 88.5 | | | | 167.2 | |
| | | | | | | | | | |
| | | December 31, | |
| | | | |
| | | 2004 | | | 2003 | |
| | | | | | | |
Pension plans with an accumulated benefit obligation in excess of plan assets: | | | | | | | | |
| | Projected benefit obligation | | $ | 242.3 | | | $ | 208.7 | |
| | Accumulated benefit obligation | | | 233.9 | | | | 203.4 | |
| | Fair value of plan assets | | | 167.2 | | | | 147.4 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Pension Benefits | | | Other Benefits | |
| | | | | | | |
| | | 2005 | | | 2004 | | | 2003 | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | |
Components of net periodic benefit cost: | | | | | | | | | | | | | | | | | | | | | | | | |
| | Service cost | | $ | 7.0 | | | $ | 6.6 | | | $ | 5.4 | | | $ | 1.2 | | | $ | 1.0 | | | $ | 0.9 | |
| | Interest cost | | | 13.1 | | | | 13.2 | | | | 12.9 | | | | 1.6 | | | | 1.4 | | | | 1.6 | |
| | Expected return on plan assets | | | (13.7 | ) | | | (14.5 | ) | | | (14.7 | ) | | | — | | | | — | | | | — | |
| | Amortization of prior service cost | | | 1.0 | | | | 1.0 | | | | 0.9 | | | | (0.5 | ) | | | (0.6 | ) | | | (0.3 | ) |
| | Recognized actuarial loss | | | 3.5 | | | | 3.0 | | | | 1.1 | | | | 1.0 | | | | 0.8 | | | | 0.7 | |
| | Recognized transition obligation | | | — | | | | — | | | | 0.1 | | | | — | | | | — | | | | — | |
| | Settlement | | | 0.1 | | | | 0.7 | | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | | | |
| | Net periodic benefit cost | | $ | 11.0 | | | $ | 10.0 | | | $ | 5.7 | | | $ | 3.3 | | | $ | 2.6 | | | $ | 2.9 | |
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Pension Benefits | | | Other Benefits | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2002 | | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | | | | | | | | | | |
Components of net periodic benefit cost: | | | | | | | | | | | | | | | | | | | | | | | | |
| | Service cost | | $ | 6.6 | | | $ | 5.4 | | | $ | 5.0 | | | $ | 1.0 | | | $ | 0.9 | | | $ | 0.6 | |
| | Interest cost | | | 13.2 | | | | 12.9 | | | | 11.8 | | | | 1.4 | | | | 1.6 | | | | 1.4 | |
| | Expected return on plan assets | | | (14.5 | ) | | | (14.7 | ) | | | (15.3 | ) | | | — | | | | — | | | | — | |
| | Amortization of prior service cost | | | 1.0 | | | | 0.9 | | | | 0.7 | | | | (0.6 | ) | | | (0.3 | ) | | | (0.1 | ) |
| | Recognized actuarial loss | | | 3.0 | | | | 1.1 | | | | 0.3 | | | | 0.8 | | | | 0.7 | | | | 0.6 | |
| | Recognized transition obligation | | | — | | | | 0.1 | | | | 0.1 | | | | — | | | | — | | | | — | |
| | Settlement | | | 0.7 | | | | — | | | | — | | | | — | | | | — | | | | — | |
| | Curtailment | | | — | | | | — | | | | 1.2 | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | | | |
| | Net periodic benefit cost | | $ | 10.0 | | | $ | 5.7 | | | $ | 3.8 | | | $ | 2.6 | | | $ | 2.9 | | | $ | 2.5 | |
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| | | | | Other | |
| | | Pension Benefits | | | Benefits | |
| | | | | | | |
| | | 2005 | | | 2004 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | |
Weighted-average assumptions used to determine benefit obligations at December 31: | | | | | | | | | | | | | | | | |
| Discount rate | | | 5.75 | % | | | 5.75 | % | | | 5.75 | % | | | 5.75 | % |
| Rate of compensation increase | | | 4.28 | | | | 4.00 | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Pension | | | | | Pension Benefits | | | Other Benefits | |
| | | Benefits | | | Other Benefits | | | | | | | |
| | | | | | | | | 2005 | | | 2004 | | | 2003 | | | 2005 | | | 2004 | | | 2003 | |
| | | 2004 | | �� | 2003 | | | 2004 | | | 2003 | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | |
Weighted-average assumptions used to determine benefit obligations at December 31: | | | | | | | | | | | | | | |
Weighted-average assumptions used to determine net periodic benefit cost for the years ended December 31: | | | | | | | | | | | | | | | | | | | | |
| Discount rate | | | 5.75 | % | | | 6.00 | % | | | 5.75 | % | | | 6.00 | % | | | 5.75 | % | | | 6.00 | % | | | 6.75 | % | | | 5.75 | % | | | 6.00 | % | | | 6.75 | % |
| Expected long-term return on plan assets | | | | 8.25 | | | 8.75 | | | 8.75 | | | — | | | — | | | — | |
| Rate of compensation increase | | | 4.00 | | | 4.00 | | | — | | | — | | | | 4.00 | | | 4.00 | | | 4.00 | | | — | | | — | | | — | |
| | | | | | | | | | | | | | | | | |
| | | Pension | | | |
| | | Benefits | | | Other Benefits | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | |
Weighted-average assumptions used to determine net periodic benefit cost for years ended December 31: | | | | | | | | | | | | | | | | |
| Discount rate | | | 6.00 | % | | | 6.75 | % | | | 6.00 | % | | | 6.75 | % |
| Expected long-term return on plan assets | | | 8.75 | | | | 8.75 | | | | — | | | | — | |
| Rate of compensation increase | | | 4.00 | | | | 4.00 | | | | — | | | | — | |
60
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
To develop the expected long-term rate of return on assets assumption, the Company considered the historical returns and the future expectations for returns for each asset category, as well as the target asset allocation of the pension portfolio and the effect of periodic rebalancing. These results were adjusted for the payment of reasonable expenses of the plan from plan assets. This resulted in the selection of the 8.75%8.25% long-term rate of return on assets assumption.
To select a discount rate for the purpose of valuing the plan obligations, the Company performed an analysis in which the duration of projected cash flows from defined benefit and retiree health care plans were matched with a yield curve based on the appropriate universe of high-quality corporate bonds that were available. The Company used the results of the yield curve analysis to select the discount rate that matched
65
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
the duration and payment stream of the benefits in each plan. The rate was rounded to the nearest quarter of a percent. This resulted in the selection of the 5.75% discount rate assumption.
| | | | | | | | | |
| | | 2004 | | | 2003 | |
| | | | | | | |
Assumed health care cost trend rates at December 31: | | | | | | | | |
| Health care cost trend rate assumed for next year | | | 10.0 | % | | | 10.0 | % |
| Rate to which the cost rate is assumed to decline (the ultimate trend rate) | | | 5.0 | | | | 5.0 | |
| Year that the rate reaches the ultimate trend rate | | | 2010 | | | | 2009 | |
| | | | | | | | | | |
| | | 2005 | | | 2004 | |
| | | | | | | |
Assumed health care cost trend rates at December 31: | | | | | | | | |
| | Health care cost trend rate assumed for next year | | | 10.0 | % | | | 10.0 | % |
| | Rate to which the cost rate is assumed to decline (the ultimate trend rate) | | | 5.0 | | | | 5.0 | |
| | Year that the rate reaches the ultimate trend rate | | | 2011 | | | | 2010 | |
Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plan. A one percentage-point change in assumed health care cost trend rates would have the following effects (in millions):
| | | | | | | | | | | | | | | | | |
| | | 1-Percentage- | | | 1-Percentage- | | | 1-Percentage- | | | 1-Percentage- | |
| | | Point Increase | | | Point Decrease | | | Point Increase | | | Point Decrease | |
| | | | | | | | | | | | | |
| Effect on total of service and interest cost | | $ | 0.3 | | $ | (0.2 | ) | | $ | 0.3 | | $ | (0.3 | ) |
| Effect on the post-retirement benefit obligation | | | 3.3 | | | (2.8 | ) | | | 3.3 | | | (2.8 | ) |
The Company’sU.S.-based pension plan weighted-average asset allocations at December 31, 20042005 and 2003,2004, by asset category, are as follows:
| | | | | | | | | | | | | | | |
| | | | Plan Assets at | | | | Plan Assets at | |
| | | | December 31, | | | | December 31, | |
| | | | | | | | | |
| Asset Category | Asset Category | | 2004 | | | 2003 | | Asset Category | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | |
| Domestic equity | Domestic equity | | | 56.9 | % | | | 57.4 | % | Domestic equity | | | 47.6 | % | | | 56.9 | % |
| International equity | International equity | | | 10.8 | % | | | 11.4 | % | International equity | | | 8.9 | % | | | 10.8 | % |
| Investment Grade Bonds | Investment Grade Bonds | | | 28.5 | % | | | 28.0 | % | Investment Grade Bonds | | | 26.4 | % | | | 28.5 | % |
| Money Market/Cash/Annuities | | | 3.8 | % | | | 3.2 | % | |
| Money Market/ Cash/ Annuities | | Money Market/ Cash/ Annuities | | | 17.1 | % | | | 3.8 | % |
| | | | | | | | | | | | | |
| | Total | | | 100 | % | | | 100 | % | Total | | | 100 | % | | | 100 | % |
| | | | | | | | | | | | | |
| | | | | | | | | |
| | | Target | | | +/- | |
| | | | | | | |
Plan investments are invested within the following range targets: | | | | | | | | |
| Domestic equity | | | 55%55 | % | | | +/-3% | |
| International equity | | | 10%10 | % | | | +/-3% | |
| Investment grade bonds | | | 30%30 | % | | | +/-3% | |
| Money market/cash | | | 5%5 | % | | | +1%/-4% | |
The weighted-average asset allocations for the Company’sU.S.-based pension plan as of December 31, 2005 is not consistent with the Company’s target allocations. This is due primarily to the fact that in late December 2005, the Company funded contributions of $19.9 million to theU.S.-based pension plan and this amount was included in the money market and cash asset category as of December 31, 2005.
The plan’s investment advisors have discretion within the above ranges. Investments are rebalanced based upon guidelines developed by the Company with input from their consultants and investment advisers. Additional contributions are invested under the same guidelines and may be used to rebalance the portfolio. The investment allocation and individual investments are chosen with regard to the duration of the obligations under the plan. The Company estimates its 20052006 minimum required contribution will be $2.8$5.8 million to its pension plans. The Company will evaluate additional voluntary pension contributions throughout 2005.2006; however, no voluntary contributions for 2006 are planned at this time. The Company estimates its 20052006 contribution to its postretirement benefit plan to be approximately $1.6 million. Included in total plan assets
66
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
above are approximately $22$25.3 million of assets related to foreign plans with a weighted-average expected rate of return of 7.5%7%.
Expected future benefit payments are shown in the table below (in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | | 2006 | | | 2007 | | | 2008 | | | 2009 | | | 2010 | | | 2011-2015 | |
| | | | | | | | | | | | | | | | | | | |
| Pension benefits | | $ | 15.5 | | | $ | 17.6 | | | $ | 17.5 | | | $ | 15.7 | | | $ | 15.6 | | | $ | 90.7 | |
| Other benefits | | | 1.6 | | | | 1.6 | | | | 1.5 | | | | 1.6 | | | | 1.6 | | | | 10.2 | |
12. Stock-Based Compensation Plans:
Under the Company’s Amended and Restated 1998 Incentive Plan (the “1998 Incentive Plan”), the Company is authorized to issue awards for 24,254,706 shares of common stock. As of December 31, 2005, awards for 20,272,303 shares of common stock had been granted and 3,873,121 shares had been cancelled or repurchased under the 1998 Incentive Plan. Consequently, as of December 31, 2005, there were 7,855,524 shares available for future issuance.
The 1998 Incentive Plan provides for various long-term incentive and retentive awards, which include stock options, performance shares, restricted stock awards and stock appreciation rights. A description of these long-term incentive and retentive awards and related activity within each is provided below.
Under the 1998 Incentive Plan, the exercise price for stock options equals the stock’s fair value on the date of grant. Options granted prior to 1998 vested on the date of grant. Options granted in 1998 and after vest over three years. Options issued prior to December 2000 expire after ten years and options issued in December 2000 and after expire after seven years.
In addition to the options discussed above, there were 147,775 stock options outstanding as of December 31, 2005 that were issued in connection with the acquisition of Service Experts Inc. All such options are fully vested.
Prior to the adoption of SFAS No. 123R, and in accordance with APB No. 25, no stock-based compensation cost was reflected in net income for grants of stock options to employees because the Company grants stock options with an exercise price equal to the fair market value of the stock on the date of grant. For footnote disclosures under SFAS No. 123, the fair value of each option award was estimated on the date of grant using a Black-Scholes-Merton option valuation model that uses the assumptions noted below. Estimates of fair value are not intended to predict actual future events or the value ultimately realized by employees who receive equity awards. Subsequent events are not indicative of the reasonableness of the original estimates made by the Company. Under SFAS No. 123, the Company used historical data to estimate the expected volatility for the term of new options and the outstanding period of the option for separate groups of employees that had similar historical exercise behavior. The risk free interest rate was based on the U.S. Treasury yield curve in effect at the time of grant.
No stock options were granted from July 1, 2005, the date the Company adopted SFAS No. 123R, through December 31, 2005. For future stock options grants, the fair value of each stock option award will be estimated using the Black-Scholes-Merton valuation model and will follow the provisions of SFAS No. 123R and SAB No. 107. The Company will use historical data and other pertinent information to estimate the expected volatility for the term of new options and the outstanding period of the option for separate groups of employees that had similar historical exercise behavior. The risk free interest rate will be based on the U.S. Treasury yield curve in effect at the time of grant.
6167
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Expected future benefit payments are shownPrior to the adoption of SFAS No. 123R, the fair value of an option was amortized to expense in the table below (in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | | 2005 | | | 2006 | | | 2007 | | | 2008 | | | 2009 | | | 2010-2014 | |
| | | | | | | | | | | | | | | | | | | |
| Pension benefits | | $ | 10.6 | | | $ | 12.5 | | | $ | 14.5 | | | $ | 12.1 | | | $ | 18.0 | | | $ | 59.2 | |
| Other benefits | | | 1.6 | | | | 1.8 | | | | 1.9 | | | | 1.9 | | | | 2.1 | | | | 12.7 | |
12. Stock-Based Compensation Plans:
The Company has an Incentive Plan, which was amended in September 1998 (the “1998 Incentive Plan”) and it provides for various long-term incentive and retentive vehicles. These vehicles include stock options, performance shares, restricted stock awards and stock appreciation rights.
Underpro forma footnote disclosure using the 1998 Incentive Plan,graded method. Upon the Company is authorized to issue options for 18,254,706 sharesadoption of common stock. As of December 31, 2004, 19,096,942 shares of common stock have been granted and 3,403,006 shares have been cancelled or repurchased. Consequently, as of December 31, 2004, there are 2,560,770 shares available for grant. Under the 1998 Incentive Plan, the exercise price equals the stock’s fair value on the date of grant. The 1998 Incentive PlanSFAS No. 123R, options granted prior to 1998 vest on the date of grant. Beginning in 1998,adoption continue to be amortized to expense using the 1998 Incentive Plangraded method. For options vestgranted after the date of adoption, the fair value is amortized to expense ratably over three years. The 1998 Incentive Plan options issued prior to December 2000 expire after ten years. The options issued beginning in December 2000 expire after seven years.
The Company, in connection with the acquisition of Service Experts Inc., has 247,224 outstanding stock options, which are outstanding and fully vested.vesting period.
A summary of stock option activity for the years ended December 31, 2005, 2004 and 2003, respectively, follows (in millions, except per share data):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Years Ended December 31, | | | Years Ended December 31, | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2002 | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | |
| | | | | Weighted | | | | | Weighted | | | | | Weighted | | | | | Weighted | | | | | Weighted | | | | | Weighted | |
| | | | | Average | | | | | Average | | | | | Average | | | | | Average | | | | | Average | | | | | Average | |
| | | | | Exercise | | | | | Exercise | | | | | Exercise | | | | | Exercise | | | | | Exercise | | | | | Exercise | |
| | | | | Price per | | | | | Price per | | | | | Price per | | | | | Price per | | | | | Price per | | | | | Price per | |
| | | Shares | | | Share | | | Shares | | | Share | | | Shares | | | Share | | | Shares | | | Share | | | Shares | | | Share | | | Shares | | | Share | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Outstanding at beginning of year | | | 9.0 | | $ | 13.09 | | | 9.7 | | $ | 13.03 | | | 7.3 | | $ | 12.08 | | | | 7.5 | | $ | 14.00 | | | 9.0 | | $ | 13.09 | | | 9.7 | | $ | 13.03 | |
| Granted | | | 0.4 | | | 18.91 | | | 0.2 | | | 17.00 | | | 3.2 | | | 14.71 | | | | — | | | 21.57 | | | 0.4 | | | 18.91 | | | 0.2 | | | 17.00 | |
| Exercised | | | (1.7 | ) | | | 10.37 | | | (0.6 | ) | | | 10.70 | | | (0.6 | ) | | | 9.30 | | | | (2.0 | ) | | | 12.52 | | | (1.7 | ) | | | 10.37 | | | (0.6 | ) | | | 10.70 | |
| Forfeited | | | (0.2 | ) | | | 16.56 | | | (0.3 | ) | | | 19.07 | | | (0.2 | ) | | | 15.01 | | | | (0.1 | ) | | | 16.38 | | | (0.2 | ) | | | 16.56 | | | (0.3 | ) | | | 19.07 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Outstanding at end of year | | | 7.5 | | $ | 14.00 | | | 9.0 | | $ | 13.09 | | | 9.7 | | $ | 13.03 | | | | 5.4 | | $ | 14.81 | | | 7.5 | | $ | 14.00 | | | 9.0 | | $ | 13.09 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Exercisable at end of year | | | 6.5 | | $ | 13.70 | | | 7.2 | | $ | 12.74 | | | 6.3 | | $ | 12.99 | | | | 5.1 | | $ | 14.58 | | | 6.5 | | $ | 13.70 | | | 7.2 | | $ | 12.74 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Fair value of options granted | | | | | $ | 7.27 | | | | | $ | 6.33 | | | | | $ | 5.51 | | | | | | $ | 7.50 | | | | | $ | 7.27 | | | | | $ | 6.33 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
The following table summarizes information about stock options outstanding as of December 31, 2005 (in millions, except per share data and years):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Options Outstanding | | | Options Exercisable | |
| | | | | | | |
| | | | | Weighted- | | | | | | | Weighted- | | | |
| | | | | Average | | | Weighted- | | | | | | | Average | | | Weighted- | | | |
| | | | | Remaining | | | Average | | | | | | | Remaining | | | Average | | | |
| | | | | Contractual | | | Exercise | | | Aggregate | | | | | Contractual | | | Exercise | | | Aggregate | |
| Range of Exercise | | Number | | | Term | | | Price | | | Intrinsic | | | Number | | | Life | | | Price | | | Intrinsic | |
| Prices Per Share | | Outstanding | | | (in years) | | | Per Share | | | Value | | | Exercisable | | | (in years) | | | Per Share | | | Value | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| $7.28 - $49.63 | | | 5.4 | | | | 3.24 | | | $ | 14.81 | | | $ | 72.4 | | | | 5.1 | | | | 3.09 | | | $ | 14.58 | | | $ | 69.5 | |
The fair value of each option grant is estimated on the date of grant using the Black-Scholes-Merton option-pricing model with the following weighted-average assumptions:
| | | | | | | | | | | | | |
| | | December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
| Expected dividend yield | | | 2.13 | % | | | 2.13 | % | | | 2.24 | % |
| Risk-free interest rate | | | 4.33 | % | | | 4.23 | % | | | 3.75 | % |
| Expected volatility | | | 40.0 | % | | | 40.0 | % | | | 40.0 | % |
| Expected life (in years) | | | 7 | | | | 7 | | | | 7 | |
As of December 31, 2005, there was approximately $1.1 million of unrecognized compensation cost related to nonvested options. Such cost is expected to be recognized over a weighted-average period of 1.9 years. The Company’s estimated forfeiture rate for stock options was 5% as of December 31, 2005. Total compensation expense for stock options was $1.3 million for the year ended December 31, 2005.
6268
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The following table summarizes information about stocktotal intrinsic value of options outstanding at December 31, 2004exercised and the resulting tax deductions to realize tax benefits were as follows (in millions, except per share data and years)millions):
| | | | | | | | | | | | | | | | | | | | | | |
| | | Options Outstanding | | | Options Exercisable | |
| | | | | | | |
| | | | | Weighted- | | | Weighted- | | | | | Weighted- | |
| | | | | Average | | | Average | | | | | Average | |
| | | | | Remaining | | | Exercise | | | | | Exercise | |
| | | Number | | | Contractual | | | Price per | | | Number | | | Price per | |
| Range of Exercise Prices per Share | | Outstanding | | | Life (Years) | | | Share | | | Exercisable | | | Share | |
| | | | | | | | | | | | | | | | |
| $7.28 - $7.88 | | | 0.3 | | | | 2 | | | $ | 7.59 | | | | 0.3 | | | $ | 7.59 | |
| $8.19 | | | 1.1 | | | | 3 | | | | 8.19 | | | | 1.1 | | | | 8.19 | |
| $8.75 - $11.22 | | | 1.1 | | | | 5 | | | | 11.10 | | | | 1.1 | | | | 11.10 | |
| $13.25 - $13.31 | | | 0.4 | | | | 2 | | | | 13.31 | | | | 0.4 | | | | 13.31 | |
| $13.38 | | | 1.4 | | | | 5 | | | | 13.38 | | | | 0.9 | | | | 13.38 | |
| $13.90 - $15.59 | | | 0.5 | | | | 3 | | | | 14.02 | | | | 0.5 | | | | 14.02 | |
| $16.21 | | | 1.0 | | | | 4 | | | | 16.21 | | | | 1.0 | | | | 16.21 | |
| $16.37- $19.40 | | | 1.6 | | | | 5 | | | | 18.45 | | | | 1.1 | | | | 18.41 | |
| $24.91 - $49.63 | | | 0.1 | | | | 3 | | | | 37.22 | | | | 0.1 | | | | 37.22 | |
| | | | | | | | | | | | | | | | |
| | Total | | | 7.5 | | | | 4 | | | $ | 14.00 | | | | 6.5 | | | $ | 13.70 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | |
| | | For the Years Ended | |
| | | December 31, | |
| | | | |
| | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | |
| Intrinsic Value of Options Exercised | | $ | 23.6 | | | $ | 12.8 | | | $ | 3.5 | |
| Realized Tax Benefits from Tax Deductions | | $ | 8.8 | | | $ | 4.8 | | | $ | 1.3 | |
The fair valueCompany’s practice is to issue new shares of eachcommon stock to satisfy stock option grant is estimated onexercises. Excess tax benefits disclosed in the dateaccompanying Consolidated Statements of grant usingCash Flows have been reduced by the Black-Scholes option-pricing model with the following weighted-average assumptions:hypothetical deferred tax asset that would have existed under SFAS No. 123 for these awards.
| | | | | | | | | | | | | |
| | | December 31, | |
| | | | |
| | | 2004 | | | 2003 | | | 2002 | |
| | | | | | | | | | |
| Expected dividend yield | | | 2.13 | % | | | 2.24 | % | | | 3.0 | % |
| Risk-free interest rate | | | 4.23 | % | | | 3.75 | % | | | 4.29 | % |
| Expected volatility | | | 40.0 | % | | | 40.0 | % | | | 50.0 | % |
| Expected life (in years) | | | 7 | | | | 7 | | | | 7 | |
Under the 1998 Incentive Plan, performance shares are awarded (“The Fixed(the “Fixed Performance Awards”) to certain employees at the discretion of the Board of Directors as of the beginning of each fiscal year. Awards granted prior to 2003 were vestedvest after ten years of employment (the “Vesting Period”). Fixed Performance Awards are converted to an equal number of shares of the Company’s Common Stock.common stock. If pre-defined performance measures are met by the Company over a three-year period, the Vesting Period is accelerated from ten years to three years for 25% to 100% of the Fixed Performance Awards, depending on the Company’s performance. Compensation expense is measured based on the market price of the stock at date of grant and is recognized on a straight-line basis over the performance period. TheEligible participants may also earn additional shares of the Company’s Common Stock.common stock. The number of additional shares can range from 0% to 100% of the awards granted, depending on the Company’s performance over a three-year period.
Prior to the adoption of SFAS No. 123R, and in accordance with APB No. 25, compensation expense was measured based on the market price of the Company’s common stock on the date of grant and recognized over the performance period. Compensation expense on the additional shares iswas measured by applying the market price of the Company’s stock at the end of the period to the number of additional shares that arewere expected to be earned. Such expense iswas recognized over the performance period. As of December 31, 2004, 193,305 additional shares were expected to be earned in future periods. The weighted-average grant-date fair values for awards granted in 2002 were $15.32. No awards were granted in 2001.
Beginning in 2003, the Company changed the vesting of Fixed Performance Awards such that the awards vest if, at the end of the performance period, at least the minimum performance level has been attained. To the extent that the award payout level attained is less than 100%, the difference between 100% and the award distributed if any, shallwill be forfeited. Compensation expense iswas measured by applying the market price of the Company’s stock at the end of the period to the number of awards expected to be earned.
Upon the adoption of SFAS No. 123R, all of the performance share plans under the 1998 Incentive Plan were classified as equity based plans and the fair value of each award is the market price of the stock on the date of grant and is amortized to expense ratably over the vesting period. The stock-based compensation expense for any additional shares which may be earned is estimated on the grant date based on the market price of the stock at the date of grant. The number of shares expected to be earned will be adjusted, as necessary, to reflect the actual number of shares awarded.
The weighted-average fair value of performance share awards granted during the years ended December 31, 2005, 2004 and 2003 was $29.36, $19.34 and $16.76, respectively.
6369
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
In 2004, A summary of the Company awarded 508,380 shares at a weighted-average grant-date fair valuestatus of $19.34the Company’s nonvested performance share awards as of December 31, 2005 and changes during the year ended December 31, 2005 is presented below (in millions, except per share. In 2003, the Company awarded 258,166 shares at a weighted-average grant-date fair value of $16.76 per share.share data):
| | | | | | | | | |
| | | Year Ended | |
| | | December 31, 2005 | |
| | | | |
| | | | | Weighted- | |
| | | | | Average | |
| | | | | Grant Date | |
| | | Shares | | | Fair Value | |
| | | | | | | |
| Nonvested performance share awards: | | | | | | | | |
| Nonvested at December 31, 2004 | | | 2.0 | | | $ | 14.84 | |
| Granted | | | 0.3 | | | $ | 29.36 | |
| Vested | | | (0.3 | ) | | $ | 16.21 | |
| Forfeited | | | (0.2 | ) | | $ | 13.40 | |
| | | | | | | |
| Nonvested at December 31, 2005 | | | 1.8 | | | $ | 16.80 | |
| | | | | | | |
As of December 31, 2004, 215,390 additional shares were2005, there was approximately $22.3 million of total unrecognized compensation cost related to nonvested performance share awards. Such cost is expected to be earned in future periods.recognized over a weighted-average period of 2.4 years. The 66,367,987Company’s estimated forfeiture rate for performance shares of Common Stock issuedwas 12% as of December 31, 2005. Total compensation expense for performance share awards was $19.6 million, $8.0 million and $4.4 million for the years ended December 31, 2005, 2004 include 727,100 shares which represent Fixed Performance Awards that have not yet vested, and 534,112 shares which represent Fixed Performance Awards which have vested but have not been converted2003, respectively. The Company’s practice is to issue new shares of the Company’s Common Stock.common stock to satisfy performance share award vestings.
Under the 1998 Incentive Plan, Restricted Stock Awardsrestricted stock awards are usedissued to attract and retain key Company executives. The 66,367,987 shares of Common Stock issued as of December 31, 2004 include 1,019,652 unvested shares awarded to key executives. At the end of thea three-year retention period, the award will vest and be distributed to the participant provided that the participant has been an employee of the Company or one of its wholly owned subsidiaries continuously throughout the retention period. CompensationUnder APB No. 25, compensation expense iswas measured based on the market price of the Company’s common stock at the date of grant and iswas recognized on a straight-line basis over the performance period.
Upon the adoption of SFAS No. 123R, all restricted stock plans under the 1998 Incentive Plan were classified as equity based plans and the fair value of each award is the market price of the Company’s common stock on the date of grant and amortized to expense ratably over the vesting period.
The weighted-average grant-date fair values forvalue of restricted stock awards granted induring the years ended December 31, 2005, 2004 and 2003 werewas $28.76, $19.25 and $15.81, respectively.
70
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
A summary of the status of the Company’s nonvested restricted stock awards as of December 31, 2005 and changes during the year ended December 31, 2005 is presented below (in millions, except per share data):
| | | | | | | | | |
| | | Year Ended | |
| | | December 31, 2005 | |
| | | | |
| | | | | Weighted- | |
| | | | | Average | |
| | | | | Grant Date | |
| | | Shares | | | Fair Value | |
| | | | | | | |
| Nonvested restricted stock awards: | | | | | | | | |
| Nonvested at December 31, 2004 | | | 1.1 | | | $ | 17.69 | |
| Granted | | | 0.3 | | | $ | 28.76 | |
| Vested | | | (0.3 | ) | | $ | 16.26 | |
| Forfeited | | | (0.1 | ) | | $ | 16.65 | |
| | | | | | | |
| Nonvested at December 31, 2005 | | | 1.0 | | | $ | 21.25 | |
| | | | | | | |
As of December 31, 2005, there was approximately $13.1 million of total unrecognized compensation cost related to nonvested restricted stock awards. Such cost is expected to be recognized over a weighted-average period of 2.2 years. The Company’s estimated forfeiture rate for restricted stock awards was 12% as of December 31, 2005. Total compensation expense for restricted stock awards was $5.3 million, $1.8 million and $1.7 million for the years ended December 31, 2005, 2004 and 2003, respectively.
The total fair value of restricted stock awards vested and the resulting tax deductions to realize tax benefits were as follows (in millions):
| | | | | | | | | | | | | |
| | | For the Years Ended |
| | | December 30, |
| | | |
| | | 2005 | | | 2004 | | | 2003 |
| | | | | | | | | |
| Fair Value of Restricted Stock Awards Vested | | $ | 5.8 | | | $ | 5.7 | | | $ | — | |
| Realized Tax Benefits from Tax Deductions | | $ | 2.2 | | | $ | 2.1 | | | $ | — | |
The Company’s practice is to issue new shares of common stock to satisfy restricted stock award vestings. Excess tax benefits disclosed in the accompanying Consolidated Statements of Cash Flows have been reduced by the hypothetical deferred tax asset that would have existed under SFAS No. 123 for these awards.
| |
| Stock Appreciation Rights |
In 2003, the Company began the awarding of stock appreciation rights. Each awardeerecipient is given the “right” to receive a value equal to the future appreciation of the Company’s stock price. The value is paid in the Company’sCompany stock. The award vestsStock appreciation rights vest in one-third increments beginning with the first anniversary date after the grant date. Compensation
Prior to the adoption of SFAS No. 123R, compensation expense iswas measured by applying the increase in the market price of the Company’s stock at the end of the period to the number of awards. In 2004,
Upon the Company awarded 38,227 shares at a weighted-average grant-dateadoption of SFAS No. 123R, the compensation expense for awards granted prior to the adoption is the fair value on the date of $18.34 per share. In 2003,grant, recognized over the Company awarded 1,048,881 shares at a weighted-average grant-datevesting period. The fair value for these awards was estimated using the Black-Scholes-Merton valuation model and follows the provisions of $16.76 per share. AsSFAS No. 123R and SAB No. 107. The Company used historical data and other pertinent information to estimate the closing stock priceexpected volatility for the term of the award and the outstanding period of the award for separate groups of employees that had similar historical exercise behavior. The risk free interest rate was based on December 31, 2004 was greater than the grant-date fair values, $2.1 millionU.S. Treasury yield curve in effect at the time of expense was recognized in 2004. As the closing stock price on December 31, 2003 was less than the grant-date fair value, no expense was recognized in 2003.grant.
The following table summarizes information about stock appreciation rights outstanding at December 31, 2004 (in millions, except per share data):
| | | | | | | | | |
| | | Years Ended | |
| | | December 31, 2004 | |
| | | | |
| | | | | Weighted | |
| | | | | Average | |
| | | | | Exercise | |
| | | | | Price Per | |
| | | Shares | | | Share | |
| | | | | | | |
| Outstanding at beginning of year | | | 1.0 | | | $ | 16.76 | |
| Granted | | | — | | | | 18.34 | |
| Exercised | | | — | | | | 16.76 | |
| Forfeited | | | — | | | | 16.76 | |
| | | | | | | |
| Outstanding at end of year | | | 1.0 | | | $ | 16.82 | |
| | | | | | | |
| Exercisable at end of year | | | 0.3 | | | $ | 16.82 | |
| | | | | | | |
6471
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
The weighted-average fair value of stock appreciation rights granted during the years ended December 31, 2005, 2004 and 2003 was $8.65, $6.81 and $6.23, respectively.
Prior to the adoption of SFAS No. 123R, the fair value of a stock appreciation right was amortized to expense using the graded method. Upon the adoption of SFAS No. 123R, stock appreciation rights granted prior to the date of adoption continue to be amortized to expense using the graded method. For stock appreciation rights granted after the date of adoption, the fair value is amortized to expense ratably over the vesting period.
A summary of stock appreciation rights activity for the year ended December 31, 2005 follows (in millions, except per share data):
| | | | | | | | | |
| | | Year Ended | |
| | | December 31, 2005 | |
| | | | |
| | | | | Weighted- | |
| | | | | Average | |
| | | | | Exercise | |
| | | | | Price Per | |
| | | Shares | | | Share | |
| | | | | | | |
| Outstanding at beginning of year | | | 1.0 | | | $ | 16.82 | |
| Granted | | | 0.7 | | | $ | 29.36 | |
| Exercised | | | (0.1 | ) | | $ | 16.76 | |
| Forfeited | | | (0.1 | ) | | $ | 16.76 | |
| | | | | | | |
| Outstanding at end of year | | | 1.5 | | | $ | 22.22 | |
| | | | | | | |
| Exercisable at end of year | | | 0.5 | | | $ | 16.83 | |
| | | | | | | |
The following table summarizes information about stock appreciation rights outstanding as of December 31, 2005 (in millions, except per share data and years):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Stock Appreciation Rights Outstanding | | | Stock Appreciation Rights Exercisable | |
| | | | | | | |
| | | | | Weighted- | | | | | | | Weighted- | | | |
| | | | | Average | | | | | | | Average | | | |
| | | | | Remaining | | | Weighted- | | | | | | | Remaining | | | Weighted- | | | |
| | | | | Contractual | | | Average | | | Aggregate | | | | | Contractual | | | Average | | | Aggregate | |
| Range of Exercise | | Number | | | Term | | | Exercise Price | | | Intrinsic | | | Number | | | Life | | | Exercise Price | | | Intrinsic | |
| Prices Per Share | | Outstanding | | | (in years) | | | Per Share | | | Value | | | Exercisable | | | (in years) | | | Per Share | | | Value | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| $16.43 — $29.36 | | | 1.5 | | | | 5.81 | | | $ | 22.22 | | | $ | 8.8 | | | | 0.5 | | | | 4.95 | | | $ | 16.83 | | | $ | 6.2 | |
The fair value of each stock appreciation right granted after June 30, 2005 through December 31, 2005 is estimated on the date of grant using the Black-Scholes-Merton option pricing model with the following weighted-average assumptions:
| | | | |
| | December 31, | |
| | 2005 | |
| | | |
| Expected dividend yield | | | 1.50 | % |
| Risk-free interest rate | | | 4.39 | % |
| Expected volatility | | | 31.90 | % |
| Expected life (in years) | | | 4.53 | |
As of December 31, 2005, there was approximately $4.9 million of unrecognized compensation cost related to nonvested stock appreciation rights. Such cost is expected to be recognized over a weighted-average period of 2.1 years. The Company’s estimated forfeiture rate for stock appreciation rights was 9% as of December 31, 2005. Total compensation expense (income) for stock appreciation rights was $2.6 million,
72
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
$2.1 million and $0 for the years ended December 31, 2005, 2004 and 2003, respectively. The Company’s practice is to issue new shares of common stock to satisfy stock appreciation rights exercises.
| |
| 13. | Commitments and Contingencies: |
The Company has various leases relating principally to the use of operating facilities. Rent expense for 2005, 2004 2003 and 20022003 was approximately $52.9 million, $55.3 million and $55.9 million, respectively. Leases with step rent provisions and $66.8 million, respectively.escalation clauses are accounted for on astraight-line basis. Minimum lease payments that are dependent on an existing index or rate, such as the consumer price index or prime interest rate, are included based on the index or rate existing at the inception of the lease and are adjusted for subsequent changes in the index or rate as they occur.
The approximate minimum commitments under all non-cancelable leases at December 31, 2004,2005 are as follows (in millions):
| | | | | | | | | |
| 2005 | | $ | 43.8 | | |
| 2006 | | | 31.4 | | | $ | 44.4 | |
| 2007 | | | 16.8 | | | | 32.6 | |
| 2008 | | | 10.4 | | | | 24.5 | |
| 2009 | | | 8.4 | | | | 16.1 | |
| 2010 | | | | 12.9 | |
| Thereafter | | | 54.2 | | | | 53.3 | |
| | | | | | | |
| | | $ | 165.0 | | | $ | 183.8 | |
| | | | | | | |
The Company is involved in various claims and lawsuits incidental to its business. In addition, the Company and its subsidiary Heatcraft Inc. have been named in four lawsuits in connection with its former Heat Transferheat transfer operations. The lawsuits allege personal injury resulting from alleged emissions of trichloroethylene, dichloroethylene, and vinyl chloride and other unspecified emissions from the South Plant in Grenada, Mississippi, previously owned by Heatcraft Inc. The Mississippi Supreme Court has ordered that these four lawsuits be severed and transferred to Grenada County. This will require plaintiffs’ counsel to maintain a separate lawsuit for each of the approximately 112 original plaintiffs. Since the court order, there has been no action taken towards instigating the individual lawsuits. It is not possible to predict with certainty the outcome of these matters or an estimate of any potential loss; however, basedloss. Based on present knowledge, management believes that it is unlikely that any final resolution of these matters will result in a material liability for the Company. As of December 31,
In March 2004, no accrual has been made for these matters. Thethe Company anticipatesannounced that the future legal fees in defense of these matters could be significant.
The Company has issued guarantees to third parties in conjunction with the debt of oneAudit Committee of the Company’s affiliates. The liability recognized at December 31, 2004Board of Directors initiated an independent inquiry into certain accounting matters related to these guaranteesthe Company’s Canadian service centers in its Service Experts segment. Immediately prior to such announcement, the Company contacted the Fort Worth office of the SEC to inform them of the existence and details of such allegations and the related independent inquiry. Independent counsel for the Audit Committee communicated the results of the independent inquiry to the SEC. On January 31, 2005, the Company announced the SEC investigation was converted to a formal status and the Company continues to fully cooperate with the SEC by producing information and documentation in response to requests from the SEC. The Company is approximately $0.2 million. The maximum obligation under these guaranties is approximately $4.1 million. No assets are held as collateral.unable to predict the ultimate outcome of this matter.
73
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Basic earnings per share are computed by dividing net income by the weighted average number of common shares outstanding during the period. Diluted earnings per share are computed by dividing net income, adjusted for the interest expense and amortization of deferred financing costs associated with the Company’s convertible notes (see Note 8), by the sum of the weighted average number of shares and the number of equivalent shares assumed outstanding, if dilutive, under the Company’s stock based compensation plans and Notes. EITFconvertible notes. Emerging Issues Task Force Issue 04-8, “The Effect of Contingently Convertible Debt on Diluted Earnings per Share” requires that contingently convertible debt securities with a market price trigger be included in diluted earnings per share, if they are dilutive, regardless of whether the market price trigger has been met. The Company has adjusted prior years earnings per share calculations to reflect the impact of contingently convertible debt.
65
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
As of December 31, 2004,2005, the Company had 64,087,12374,671,494 shares outstanding of which 3,044,2863,635,947 were held as treasury shares. Diluted earnings per share are computed as follows (in millions, except per share data):
| | | | | | | | | | | | | | | | | | | | | |
| | | Years Ended December 31, | | | Years Ended December 31, | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2002 | | | 2005 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | |
| Net (loss) income | | $ | (134.4 | ) | | $ | 86.4 | | $ | (203.5 | ) | |
| Net income (loss) | | | $ | 150.7 | | $ | (134.4 | ) | | $ | 86.4 | |
| | | | | | | | | | | | | | | |
| Add: after-tax interest expense and amortization of deferred financing costs on the Notes | | | — | | | 6.3 | | | 4.1 | | |
| Add: after-tax interest expense and amortization of deferred financing costs on the Convertible Notes | | | | 4.6 | | | — | | | 6.3 | |
| | | | | | | | | | | | | | | |
| Net (loss) income as adjusted | | $ | (134.4 | ) | | $ | 92.7 | | $ | (199.4 | ) | |
| Net income (loss) as adjusted | | | $ | 155.3 | | $ | (134.4 | ) | | $ | 92.7 | |
| | | | | | | | | | | | | | | |
| Weighted average shares outstanding | | | 60.0 | | | 58.4 | | | 57.3 | | | | 64.2 | | | 60.0 | | | 58.4 | |
| Effect of dilutive securities attributable to convertible notes | | | | 6.0 | | | — | | | 7.9 | |
| Effect of diluted securities attributable to stock options and performance share awards | | | — | | | 9.9 | | | 6.8 | | | | 3.5 | | | — | | | 2.0 | |
| | | | | | | | | | | | | | | |
| Weighted average shares outstanding, as adjusted | | | 60.0 | | | 68.3 | | | 64.1 | | | | 73.7 | | | 60.0 | | | 68.3 | |
| | | | | | | | | | | | | | | |
| Diluted earnings (loss) per share | | $ | (2.24 | ) | | $ | 1.36 | | $ | (3.11 | ) | | $ | 2.11 | | $ | (2.24 | ) | | $ | 1.36 | |
| | | | | | | | | | | | | | | |
OptionsAdditionally, options to purchase 111,064 shares of common stock at prices ranging from $24.91 to $49.63 per share, options to purchase 1,399,386 shares of Common Stockcommon stock at prices ranging from $17.82 to $49.63 per share and options to purchase 2,699,089 shares of Common Stockcommon stock at prices ranging from $15.59 to $49.63 per share and 5,542,241 shares of Common Stock at prices ranging from $13.21 to $49.63 per share were outstanding for the years ended December 31, 2005, 2004 2003 and 2002,2003, respectively, but were not included in the diluted earnings per share calculation because the assumed exercise of such options would have been anti-dilutive. Similarly, for the year ended December 31, 2004, all potentially dilutive securities, including 7,947,458 shares attributable to convertible notes, were excluded because their effects were anti-dilutive for that period.
| |
| 15. | Quarterly Financial Information (unaudited): |
In connection with the completion of year-end procedures related to the accounting for futures contracts for copper and aluminum, the Company determined that these futures contracts, previously designated as cash flow hedges, did not qualify for hedge accounting under SFAS No. 133, as the Company’s documentation did not meet the criteria specified by SFAS No. 133 in order for the hedging instruments to qualify for cash flow designation.
| |
| Financial results (in millions, except per share data) |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Net Sales | | | Gross Profit | | | Net (Loss) Income | |
| | | | | | | | | | |
| | | 2004 | | | 2003 | | | 2004 | | | 2003 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | |
| First Quarter | | $ | 664.0 | | | $ | 586.0 | | | $ | 225.6 | | | $ | 193.9 | | | $ | (194.1 | ) | | $ | 2.9 | |
| Second Quarter | | | 805.4 | | | | 746.1 | | | | 275.3 | | | | 255.2 | | | | 34.4 | | | | 30.7 | |
| Third Quarter | | | 771.9 | | | | 757.5 | | | | 258.4 | | | | 254.7 | | | | 19.0 | | | | 32.8 | |
| Fourth Quarter | | | 741.4 | | | | 700.3 | | | | 238.2 | | | | 239.5 | | | | 6.3 | | | | 20.0 | |
| | | | | | | | | | | | | | | | | | | |
| | Fiscal year | | $ | 2,982.7 | | | $ | 2,789.9 | | | $ | 997.5 | | | $ | 943.3 | | | $ | (134.4 | ) | | $ | 86.4 | |
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Basic Earnings | | | Diluted Earnings | | | |
| | | per Common | | | per Common | | | Dividends per | |
| | | Share | | | Share | | | Common Share | |
| | | | | | | | | | |
| | | 2004 | | | 2003 | | | 2004 | | | 2003 | | | 2004 | | | 2003 | |
| | | | | | | | | | | | | | | | | | | |
| First Quarter | | $ | (3.26 | ) | | $ | 0.05 | | | $ | (3.26 | ) | | $ | 0.07 | | | $ | .095 | | | $ | .095 | |
| Second Quarter | | | 0.57 | | | | 0.53 | | | | 0.51 | | | | 0.48 | | | | .095 | | | | .095 | |
| Third Quarter | | | 0.32 | | | | 0.56 | | | | 0.29 | | | | 0.50 | | | | .095 | | | | .095 | |
| Fourth Quarter | | | 0.10 | | | | 0.34 | | | | 0.11 | | | | 0.31 | | | | .100 | | | | .095 | |
| | | | | | | | | | | | | | | | | | | |
| | Fiscal year | | $ | (2.24 | ) | | $ | 1.48 | | | $ | (2.24 | ) | | $ | 1.36 | | | $ | 0.385 | | | $ | 0.38 | |
| | | | | | | | | | | | | | | | | | | |
As a result, the Company recorded an unrealized gain of $23.3 million to (Gains), Losses and Other Expenses, net for the year ended December 31, 2005 in the accompanying Consolidated Statements of Operations. This resulted in an increase in net income of $6.1 million, or $0.08 per share, in the first quarter 2005, which included $6.4 million of net income impact related to open futures contracts as of December 31, 2004. Additionally, this resulted in a decrease in net income of $3.5 million, or $0.05 per share, in the second
6674
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
quarter 2005; and an increase in net income of $6.3 million, or $0.09 per share, in the third quarter, by releasing amounts previously recorded in the Accumulated Other Comprehensive Income (Loss) component of Stockholders’ Equity. The cumulative impact to previously reported earnings for the nine-month period ended September 30, 2005 is an increase of $8.9 million. A positive impact to net income of $6.0 million, or $0.08 per share, also resulted in the fourth quarter 2005.
During 2005, the Company realized pre-tax gains of $16.7 million related to futures contracts that settled during the year. Of these gains, $8.8 million was previously included in Cost of Goods Sold for the nine-month period ended September 30, 2005 and should have been included in (Gains), Losses and Other Expenses, net in the accompanying Consolidated Statements of Operations. The amounts that had been included in Cost of Goods Sold were $2.0 million, $2.8 million, and $4.0 million for the first, second, and third quarters of 2005, respectively, and had no impact on previously reported net income. For the fourth quarter of 2005, an $8.0 million gain was recorded in Gains, Losses and Other Expenses, net.
These adjustments do not affect the Company’s cash flows and, the impact on prior years’ results was not material. The quarterly information presented below for the first, second and third quarters of 2005 has been restated and reflects the impact of the adjustments discussed above.
The following provides the impact on previously reported amounts within the Company’s consolidated statements of operations for the first, second and third quarters of 2005 related to the Company’s accounting for forward purchase contracts for copper and aluminum. Amounts are in millions and items in parenthesis represent a decrease from the amounts previously reported.
| | | | | | | | | | | | | | |
| | | For the Three Months Ended | |
| | | | |
| | | March 31, | | | June 30, | | | September 30, | |
| | | 2005 | | | 2005 | | | 2005 | |
| | | | | | | | | | |
| | | Increase (Decrease) | |
| Cost of goods sold | | $ | 2.0 | | | $ | 2.8 | | | $ | 4.0 | |
| Gross profit | | | (2.0 | ) | | | (2.8 | ) | | | (4.0 | ) |
| | Realized gains on settled futures contracts previously included in cost of goods sold | | | 2.0 | | | | 2.8 | | | | 3.9 | |
| | Unrealized gains (losses) on open futures contracts previously included in accumulated other comprehensive income (loss) | | | 9.5 | | | | (5.5 | ) | | | 10.1 | |
| | | | | | | | | | |
| (Gains), losses and other expenses, net | | | 11.5 | | | | (2.7 | ) | | | 14.0 | |
| Operational income from continuing operations | | | 9.5 | | | | (5.5 | ) | | | 10.0 | |
| Income from continuing operations before income taxes and cumulative effect of accounting change | | | 9.5 | | | | (5.5 | ) | | | 10.0 | |
| Provision for income taxes previously included in accumulated other comprehensive income (loss) | | | 3.4 | | | | (2.0 | ) | | | 3.7 | |
| Income from continuing operations before cumulative effect of accounting change | | | 6.1 | | | | (3.5 | ) | | | 6.3 | |
| Income from continuing operations | | | 6.1 | | | | (3.5 | ) | | | 6.3 | |
| Net income and retained earnings | | | 6.1 | | | | (3.5 | ) | | | 6.3 | |
75
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
For the Three Months Ended March 31, 2005
(Unaudited, in millions, except per share data)
| | | | | | | | | | | | | |
| | | For the | |
| | | Three Months Ended | |
| | | March 31, 2005 | |
| | | | |
| | | Previously | | | |
| | | Reported | | | Restated | |
| NET SALES | | $ | 700.3 | | | $ | 700.3 | |
| COST OF GOODS SOLD | | | 478.5 | | | | 480.5 | |
| | | | | | | |
| | | | Gross Profit | | | 221.8 | | | | 219.8 | |
| OPERATING EXPENSES: | | | | | | | | |
| | Selling, general and administrative expense | | | 204.3 | | | | 204.3 | |
| | (Gains), losses and other expenses, net | | | — | | | | (11.5 | ) |
| | | | | | | |
| | | | Operational income from continuing operations | | | 17.5 | | | | 27.0 | |
| INTEREST EXPENSE, net | | | 5.5 | | | | 5.5 | |
| OTHER EXPENSE | | | 0.1 | | | | 0.1 | |
| | | | | | | |
| | | | Income from continuing operations before income taxes | | | 11.9 | | | | 21.4 | |
| PROVISION FOR INCOME TAXES | | | 4.4 | | | | 7.8 | |
| | | | | | | |
| | | | Income from continuing operations | | | 7.5 | | | | 13.6 | |
| | | | | | | |
| DISCONTINUED OPERATIONS: | | | | | | | | |
| | | Loss from operations of discontinued operations | | | 1.6 | | | | 1.6 | |
| | | Income tax benefit | | | (0.4 | ) | | | (0.4 | ) |
| | | Loss on disposal of discontinued operations | | | 0.1 | | | | 0.1 | |
| | | Income tax benefit | | | (0.2 | ) | | | (0.2 | ) |
| | | | | | | |
| | | | Loss from discontinued operations | | | 1.1 | | | | 1.1 | |
| | | | | | | |
| | | | | Net income | | $ | 6.4 | | | $ | 12.5 | |
| | | | | | | |
| INCOME PER SHARE FROM CONTINUING OPERATIONS: | | | | | | | | |
| | | Basic | | $ | 0.12 | | | $ | 0.22 | |
| | | Diluted | | $ | 0.12 | | | $ | 0.21 | |
| LOSS PER SHARE FROM DISCONTINUED OPERATIONS: | | | | | | | | |
| | | Basic | | $ | (0.02 | ) | | $ | (0.02 | ) |
| | | Diluted | | $ | (0.02 | ) | | $ | (0.02 | ) |
| NET INCOME PER SHARE: | | | | | | | | |
| | | Basic | | $ | 0.10 | | | $ | 0.20 | |
| | | Diluted | | $ | 0.10 | | | $ | 0.19 | |
| AVERAGE SHARES OUTSTANDING: | | | | | | | | |
| | | Basic | | | 61.5 | | | | 61.5 | |
| | | Diluted | | | 72.4 | | | | 72.4 | |
| CASH DIVIDENDS DECLARED PER SHARE | | $ | 0.10 | | | $ | 0.10 | |
76
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months and Six Months Ended June 30, 2005
(Unaudited, in millions, except per share data)
| | | | | | | | | | | | | | | | | | | | | |
| | | For the | | | For the | |
| | | Three Months Ended | | | Six Months Ended | |
| | | June 30, 2005 | | | June 30, 2005 | |
| | | | | | | |
| | | Previously | | | | | Previously | | | |
| | | Reported | | | Restated | | | Reported | | | Restated | |
| | | | | | | | | | | | | |
| NET SALES | | $ | 867.8 | | | $ | 867.8 | | | $ | 1,568.1 | | | $ | 1,568.1 | |
| COST OF GOODS SOLD | | | 573.8 | | | | 576.6 | | | | 1,052.3 | | | | 1,057.1 | |
| | | | | | | | | | | | | |
| | | | Gross Profit | | | 294.0 | | | | 291.2 | | | | 515.8 | | | | 511.0 | |
| OPERATING EXPENSES: | | | | | | | | | | | | | | | | |
| | Selling, general and administrative expense | | | 224.9 | | | | 224.9 | | | | 429.2 | | | | 429.2 | |
| | (Gains), losses and other expenses, net | | | (8.7 | ) | | | (6.0 | ) | | | (8.7 | ) | | | (17.5 | ) |
| | Restructuring charge | | | 2.2 | | | | 2.2 | | | | 2.2 | | | | 2.2 | |
| | | | | | | | | | | | | |
| | | | Operational income from continuing operations | | | 75.6 | | | | 70.1 | | | | 93.1 | | | | 97.1 | |
| INTEREST EXPENSE, net | | | 4.6 | | | | 4.6 | | | | 10.1 | | | | 10.1 | |
| OTHER INCOME | | | (0.6 | ) | | | (0.6 | ) | | | (0.5 | ) | | | (0.5 | ) |
| | | | | | | | | | | | | |
| | | | Income from continuing operations before income taxes | | | 71.6 | | | | 66.1 | | | | 83.5 | | | | 87.5 | |
| PROVISION FOR INCOME TAXES | | | 26.6 | | | | 24.6 | | | | 31.0 | | | | 32.4 | |
| | | | | | | | | | | | | |
| | | | Income from continuing operations | | | 45.0 | | | | 41.5 | | | | 52.5 | | | | 55.1 | |
| | | | | | | | | | | | | |
| DISCONTINUED OPERATIONS: | | | | | | | | | | | | | | | | |
| | | Loss from operations of discontinued operations | | | 0.2 | | | | 0.2 | | | | 1.8 | | | | 1.8 | |
| | | Income tax benefit | | | — | | | | — | | | | (0.4 | ) | | | (0.4 | ) |
| | | Loss on disposal of discontinued operations | | | — | | | | — | | | | 0.1 | | | | 0.1 | |
| | | Income tax benefit | | | — | | | | — | | | | (0.2 | ) | | | (0.2 | ) |
| | | | | | | | | | | | | |
| | | | Loss from discontinued operations | | | 0.2 | | | | 0.2 | | | | 1.3 | | | | 1.3 | |
| | | | | | | | | | | | | |
| | | | | Net income | | $ | 44.8 | | | $ | 41.3 | | | $ | 51.2 | | | $ | 53.8 | |
| | | | | | | | | | | | | |
| INCOME PER SHARE FROM CONTINUING OPERATIONS: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | 0.73 | | | $ | 0.67 | | | $ | 0.85 | | | $ | 0.89 | |
| | | Diluted | | $ | 0.64 | | | $ | 0.59 | | | $ | 0.77 | | | $ | 0.80 | |
| LOSS PER SHARE FROM DISCONTINUED OPERATIONS: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | (0.01 | ) | | $ | — | | | $ | (0.02 | ) | | $ | (0.02 | ) |
| | | Diluted | | $ | — | | | $ | — | | | $ | (0.02 | ) | | $ | (0.02 | ) |
| NET INCOME PER SHARE: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | 0.72 | | | $ | 0.67 | | | $ | 0.83 | | | $ | 0.87 | |
| | | Diluted | | $ | 0.64 | | | $ | 0.59 | | | $ | 0.75 | | | $ | 0.78 | |
| AVERAGE SHARES OUTSTANDING: | | | | | | | | | | | | | | | | |
| | | Basic | | | 62.0 | | | | 62.0 | | | | 61.7 | | | | 61.7 | |
| | | Diluted | | | 72.8 | | | | 72.8 | | | | 72.5 | | | | 72.5 | |
| CASH DIVIDENDS DECLARED PER SHARE | | $ | 0.10 | | | $ | 0.10 | | | $ | 0.20 | | | $ | 0.20 | |
77
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months and Nine Months Ended September 30, 2005
(Unaudited, in millions, except share and per share data)
| | | | | | | | | | | | | | | | | | | | | |
| | | For the | | | For the | |
| | | Three Months Ended | | | Nine Months Ended | |
| | | September 30, 2005 | | | September 30, 2005 | |
| | | | | | | |
| | | Previously | | | | | Previously | | | |
| | | Reported | | | Restated | | | Reported | | | Restated | |
| | | | | | | | | | | | | |
| NET SALES | | $ | 927.5 | | | $ | 927.5 | | | $ | 2,495.6 | | | $ | 2,495.6 | |
| COST OF GOODS SOLD | | | 612.1 | | | | 616.1 | | | | 1,664.4 | | | | 1,673.2 | |
| | | | | | | | | | | | | |
| | | | Gross Profit | | | 315.4 | | | | 311.4 | | | | 831.2 | | | | 822.4 | |
| OPERATING EXPENSES: | | | | | | | | | | | | | | | | |
| | Selling, general and administrative expense | | | 230.2 | | | | 230.2 | | | | 659.4 | | | | 659.4 | |
| | (Gains), losses and other expenses, net | | | 0.1 | | | | (13.9 | ) | | | (8.6 | ) | | | (31.4 | ) |
| | Restructuring charge | | | 0.2 | | | | 0.2 | | | | 2.4 | | | | 2.4 | |
| | | | | | | | | | | | | |
| | | | Operational income from continuing operations | | | 84.9 | | | | 94.9 | | | | 178.0 | | | | 192.0 | |
| INTEREST EXPENSE, net | | | 4.3 | | | | 4.3 | | | | 14.4 | | | | 14.4 | |
| OTHER EXPENSE | | | 3.5 | | | | 3.5 | | | | 3.0 | | | | 3.0 | |
| | | | | | | | | | | | | |
| | | | Income from continuing operations before income taxes and cumulative effect of accounting change | | | 77.1 | | | | 87.1 | | | | 160.6 | | | | 174.6 | |
| PROVISION FOR INCOME TAXES | | | 28.5 | | | | 32.2 | | | | 59.5 | | | | 64.6 | |
| | | | | | | | | | | | | |
| | | | Income from continuing operations before cumulative effect of accounting change | | | 48.6 | | | | 54.9 | | | | 101.1 | | | | 110.0 | |
| | | | | | | | | | | | | |
| CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET | | | (0.2 | ) | | | (0.2 | ) | | | (0.2 | ) | | | (0.2 | ) |
| | | | | | | | | | | | | |
| | | | Income from continuing operations | | | 48.8 | | | | 55.1 | | | | 101.3 | | | | 110.2 | |
| DISCONTINUED OPERATIONS: | | | | | | | | | | | | | | | | |
| | | Loss from operations of discontinued operations | | | 0.1 | | | | 0.1 | | | | 1.9 | | | | 1.9 | |
| | | Income tax benefit | | | (0.1 | ) | | | (0.1 | ) | | | (0.5 | ) | | | (0.5 | ) |
| | | Loss on disposal of discontinued operations | | | — | | | | — | | | | 0.1 | | | | 0.1 | |
| | | Income tax benefit | | | — | | | | — | | | | (0.2 | ) | | | (0.2 | ) |
| | | | | | | | | | | | | |
| | | | Loss from discontinued operations | | | — | | | | — | | | | 1.3 | | | | 1.3 | |
| | | | | | | | | | | | | |
| | | | | Net income | | $ | 48.8 | | | $ | 55.1 | | | $ | 100.0 | | | $ | 108.9 | |
| | | | | | | | | | | | | |
| INCOME PER SHARE FROM CONTINUING OPERATIONS BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | 0.77 | | | $ | 0.87 | | | $ | 1.63 | | | $ | 1.77 | |
| | | Diluted | | $ | 0.68 | | | $ | 0.76 | | | $ | 1.45 | | | $ | 1.57 | |
| CUMULATIVE EFFECT OF ACCOUNTING CHANGE PER SHARE: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | — | | | $ | 0.01 | | | $ | — | | | $ | — | |
| | | Diluted | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| INCOME PER SHARE FROM CONTINUING OPERATIONS: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | 0.77 | | | $ | 0.88 | | | $ | 1.63 | | | $ | 1.77 | |
| | | Diluted | | $ | 0.68 | | | $ | 0.76 | | | $ | 1.45 | | | $ | 1.57 | |
| LOSS PER SHARE FROM DISCONTINUED OPERATIONS: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | — | | | $ | — | | | $ | (0.02 | ) | | $ | (0.02 | ) |
| | | Diluted | | $ | — | | | $ | — | | | $ | (0.02 | ) | | $ | (0.02 | ) |
| NET INCOME PER SHARE: | | | | | | | | | | | | | | | | |
| | | Basic | | $ | 0.77 | | | $ | 0.88 | | | $ | 1.61 | | | $ | 1.75 | |
| | | Diluted | | $ | 0.68 | | | $ | 0.76 | | | $ | 1.43 | | | $ | 1.55 | |
| AVERAGE SHARES OUTSTANDING: | | | | | | | | | | | | | | | | |
| | | Basic | | | 62.9 | | | | 62.9 | | | | 62.1 | | | | 62.1 | |
| | | Diluted | | | 74.2 | | | | 74.2 | | | | 73.1 | | | | 73.1 | |
| CASH DIVIDENDS DECLARED PER SHARE: | | $ | 0.10 | | | $ | 0.10 | | | $ | 0.30 | | | $ | 0.30 | |
78
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
SEGMENT REVENUES AND OPERATING PROFIT
For the Three Months Ended March 31, 2005
(Unaudited, in millions)
| | | | | | | | | | | |
| | | For the | |
| | | Three Months Ended | |
| | | March 31, 2005 | |
| | | | |
| | | Previously | | | |
| | | Reported | | | Restated | |
| | | | | | | |
| Net Sales | | | | | | | | |
| | Residential | | $ | 342.7 | | | $ | 342.7 | |
| | Commercial | | | 126.2 | | | | 126.2 | |
| | | | | | | |
| | | Heating and Cooling | | | 468.9 | | | | 468.9 | |
| | Service Experts | | | 135.9 | | | | 135.9 | |
| | Refrigeration | | | 111.9 | | | | 111.9 | |
| | Eliminations | | | (16.4 | ) | | | (16.4 | ) |
| | | | | | | |
| | | $ | 700.3 | | | $ | 700.3 | |
| | | | | | | |
| Segment Profit (Loss)(A) | | | | | | | | |
| | Residential | | $ | 29.6 | | | $ | 28.4 | |
| | Commercial | | | 4.7 | | | | 4.4 | |
| | | | | | | |
| | | Heating and Cooling | | | 34.3 | | | | 32.8 | |
| | Service Experts | | | (6.3 | ) | | | (6.3 | ) |
| | Refrigeration | | | 8.9 | | | | 8.4 | |
| | Corporate and other | | | (19.3 | ) | | | (19.3 | ) |
| | Eliminations | | | (0.1 | ) | | | (0.1 | ) |
| | | | | | | |
| | | Segment Profit | | | 17.5 | | | | 15.5 | |
| Reconciliation to income from continuing operations before income taxes | | | | | | | | |
| | (Gains), losses and other expenses, net | | | — | | | | (11.5 | ) |
| | Interest expense, net | | | 5.5 | | | | 5.5 | |
| | Other expense | | | 0.1 | | | | 0.1 | |
| | | | | | | |
| | | $ | 11.9 | | | $ | 21.4 | |
| | | | | | | |
| |
| (A) | Segment profit is based upon income (loss) from continuing operations before income taxes included in the accompanying consolidated statements of operations excluding Goodwill Impairment. |
79
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
SEGMENT REVENUES AND OPERATING PROFIT
For the Three Months and Six Months Ended June 30, 2005
(Unaudited, in millions)
| | | | | | | | | | | | | | | | | | | |
| | | For the | | | For the | |
| | | Three Months Ended | | | Six Months Ended | |
| | | June 30, 2005 | | | June 30, 2005 | |
| | | | | | | |
| | | Previously | | | | | Previously | | | |
| | | Reported | | | Restated | | | Reported | | | Restated | |
| | | | | | | | | | | | | |
| Net Sales | | | | | | | | | | | | | | | | |
| | Residential | | $ | 434.7 | | | $ | 434.7 | | | $ | 777.4 | | | $ | 777.4 | |
| | Commercial | | | 171.2 | | | | 171.2 | | | | 297.4 | | | | 297.4 | |
| | | | | | | | | | | | | |
| | | Heating and Cooling | | | 605.9 | | | | 605.9 | | | | 1,074.8 | | | | 1,074.8 | |
| | Service Experts | | | 167.8 | | | | 167.8 | | | | 303.7 | | | | 303.7 | |
| | Refrigeration | | | 116.9 | | | | 116.9 | | | | 228.8 | | | | 228.8 | |
| | Eliminations | | | (22.8 | ) | | | (22.8 | ) | | | (39.2 | ) | | | (39.2 | ) |
| | | | | | | | | | | | | |
| | | $ | 867.8 | | | $ | 867.8 | | | $ | 1,568.1 | | | $ | 1,568.1 | |
| | | | | | | | | | | | | |
| Segment Profit (Loss)(A) | | | | | | | | | | | | | | | | |
| | Residential | | $ | 57.3 | | | $ | 55.7 | | | $ | 86.9 | | | $ | 84.1 | |
| | Commercial | | | 15.3 | | | | 14.7 | | | | 20.0 | | | | 19.1 | |
| | | | | | | | | | | | | |
| | | Heating and Cooling | | | 72.6 | | | | 70.4 | | | | 106.9 | | | | 103.2 | |
| | Service Experts | | | 9.2 | | | | 9.2 | | | | 2.9 | | | | 2.9 | |
| | Refrigeration | | | 10.1 | | | | 9.5 | | | | 19.0 | | | | 17.9 | |
| | Corporate and other | | | (22.9 | ) | | | (22.9 | ) | | | (42.2 | ) | | | (42.2 | ) |
| | Eliminations | | | 0.1 | | | | 0.1 | | | | — | | | | — | |
| | | | | | | | | | | | | |
| | | Segment Profit | | | 69.1 | | | | 66.3 | | | | 86.6 | | | | 81.8 | |
| | Reconciliation to income from continuing operations before income taxes: | | | | | | | | | | | | | | | | |
| | | (Gains), losses and other expenses, net | | | (8.7 | ) | | | (6.0 | ) | | | (8.7 | ) | | | (17.5 | ) |
| | | Restructuring charge | | | 2.2 | | | | 2.2 | | | | 2.2 | | | | 2.2 | |
| | | Interest expense, net | | | 4.6 | | | | 4.6 | | | | 10.1 | | | | 10.1 | |
| | | Other income | | | (0.6 | ) | | | (0.6 | ) | | | (0.5 | ) | | | (0.5 | ) |
| | | | | | | | | | | | | |
| | | $ | 71.6 | | | $ | 66.1 | | | $ | 83.5 | | | $ | 87.5 | |
| | | | | | | | | | | | | |
| |
| (A) | Segment profit (loss) is based upon income (loss) from continuing operations before income taxes included in the accompanying consolidated statements of operations excluding Goodwill Impairment. |
80
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
SEGMENT REVENUES AND OPERATING PROFIT
For the Three Months and Nine Months Ended September 30, 2005
(Unaudited, in millions)
| | | | | | | | | | | | | | | | | | | |
| | | For the | | | For the | |
| | | Three Months Ended | | | Nine Months Ended | |
| | | September 30, 2005 | | | September 30, 2005 | |
| | | | | | | |
| | | Previously | | | | | Previously | | | |
| | | Reported | | | Restated | | | Reported | | | Restated | |
| | | | | | | | | | | | | |
| Net Sales | | | | | | | | | | | | | | | | |
| | Residential | | $ | 464.9 | | | $ | 464.9 | | | $ | 1,242.3 | | | $ | 1,242.3 | |
| | Commercial | | | 191.9 | | | | 191.9 | | | | 489.3 | | | | 489.3 | |
| | | | | | | | | | | | | |
| | | Heating and Cooling | | | 656.8 | | | | 656.8 | | | | 1,731.6 | | | | 1,731.6 | |
| | Service Experts | | | 171.8 | | | | 171.8 | | | | 475.5 | | | | 475.5 | |
| | Refrigeration | | | 119.6 | | | | 119.6 | | | | 348.4 | | | | 348.4 | |
| | Eliminations | | | (20.7 | ) | | | (20.7 | ) | | | (59.9 | ) | | | (59.9 | ) |
| | | | | | | | | | | | | |
| | | $ | 927.5 | | | $ | 927.5 | | | $ | 2,495.6 | | | $ | 2,495.6 | |
| | | | | | | | | | | | | |
| Segment Profit (Loss)(A) | | | | | | | | | | | | | | | | |
| | Residential | | $ | 67.0 | | | $ | 65.0 | | | $ | 153.9 | | | $ | 149.1 | |
| | Commercial | | | 26.8 | | | | 25.9 | | | | 46.8 | | | | 45.0 | |
| | | | | | | | | | | | | |
| | | Heating and Cooling | | | 93.8 | | | | 90.9 | | | | 200.7 | | | | 194.1 | |
| | Service Experts | | | 7.9 | | | | 7.9 | | | | 10.8 | | | | 10.8 | |
| | Refrigeration | | | 12.0 | | | | 10.9 | | | | 31.0 | | | | 28.8 | |
| | Corporate and other | | | (28.5 | ) | | | (28.5 | ) | | | (70.7 | ) | | | (70.7 | ) |
| | Eliminations | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | |
| | | Segment Profit | | | 85.2 | | | | 81.2 | | | | 171.8 | | | | 163.0 | |
| | Reconciliation to income from continuing operations before income taxes and cumulative effect of accounting change: | | | | | | | | | | | | | | | | |
| | | (Gains), losses and other expenses, net | | | 0.1 | | | | (13.9 | ) | | | (8.6 | ) | | | (31.4 | ) |
| | | Restructuring charge | | | 0.2 | | | | 0.2 | | | | 2.4 | | | | 2.4 | |
| | | Interest expense, net | | | 4.3 | | | | 4.3 | | | | 14.4 | | | | 14.4 | |
| | | Other expense | | | 3.5 | | | | 3.5 | | | | 3.0 | | | | 3.0 | |
| | | | | | | | | | | | | |
| | | $ | 77.1 | | | $ | 87.1 | | | $ | 160.6 | | | $ | 174.6 | |
| | | | | | | | | | | | | |
| |
| (A) | Segment profit (loss) is based upon income (loss) from continuing operations before income taxes and cumulative effect of accounting change included in the accompanying consolidated statements of operations excluding Goodwill Impairment. |
81
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of March 31, 2005
(unaudited, in millions, except share and per share data)
| | | | | | | | | | | | |
| | | March 31, 2005 | |
| | | | |
| | | Previously | | | |
| | | Reported | | | Restated | |
| | | | | | | |
| ASSETS |
| CURRENT ASSETS: | | | | | | | | |
| | Cash and cash equivalents | | $ | 84.2 | | | $ | 84.2 | |
| | Accounts and notes receivable, net | | | 450.2 | | | | 449.8 | |
| | Inventories | | | 275.8 | | | | 275.8 | |
| | Deferred income taxes | | | 13.1 | | | | 16.8 | |
| | Other assets | | | 42.4 | | | | 42.4 | |
| | Assets held for sale | | | 1.2 | | | | 1.2 | |
| | | | | | | |
| | | Total current assets | | | 866.9 | | | | 870.2 | |
| PROPERTY, PLANT AND EQUIPMENT, net | | | 236.3 | | | | 236.3 | |
| GOODWILL, net | | | 222.5 | | | | 222.5 | |
| DEFERRED INCOME TAXES | | | 82.1 | | | | 82.1 | |
| OTHER ASSETS | | | 137.3 | | | | 137.3 | |
| | | | | | | |
| | | TOTAL ASSETS | | $ | 1,545.1 | | | $ | 1,548.4 | |
| | | | | | | |
| LIABILITIES AND STOCKHOLDERS’ EQUITY |
| CURRENT LIABILITIES: | | | | | | | | |
| | Short-term debt | | $ | 3.8 | | | $ | 3.8 | |
| | Current maturities of long-term debt | | | 36.3 | | | | 36.3 | |
| | Accounts payable | | | 281.6 | | | | 281.6 | |
| | Accrued expenses | | | 259.9 | | | | 259.9 | |
| | Income taxes payable | | | 16.7 | | | | 20.1 | |
| | Liabilities held for sale | | | 2.4 | | | | 2.4 | |
| | | | | | | |
| | | Total current liabilities | | | 600.7 | | | | 604.1 | |
| LONG-TERM DEBT | | | 269.1 | | | | 269.1 | |
| POSTRETIREMENT BENEFITS, OTHER THAN PENSIONS | | | 14.7 | | | | 14.7 | |
| PENSIONS | | | 105.1 | | | | 105.1 | |
| OTHER LIABILITIES | | | 78.6 | | | | 78.6 | |
| | | | | | | |
| | | Total liabilities | | | 1,068.2 | | | | 1,071.6 | |
| | | | | | | |
| COMMITMENTS AND CONTINGENCIES | | | | | | | | |
| STOCKHOLDERS’ EQUITY: | | | | | | | | |
| | Preferred stock, $.01 par value, 25,000,000 shares authorized, no shares issued or outstanding | | | — | | | | — | |
| | Common stock, $.01 par value, 200,000,000 shares authorized, 67,005,959 shares issued | | | 0.7 | | | | 0.7 | |
| | Additional paid-in capital | | | 465.1 | | | | 465.1 | |
| | Retained earnings | | | 66.9 | | | | 73.1 | |
| | Accumulated other comprehensive income (loss) | | | (7.4 | ) | | | (13.7 | ) |
| | Deferred compensation | | | (16.0 | ) | | | (16.0 | ) |
| | Treasury stock, at cost, 3,106,822 shares | | | (32.4 | ) | | | (32.4 | ) |
| | | | | | | |
| | | Total stockholders’ equity | | | 476.9 | | | | 476.8 | |
| | | | | | | |
| | | | TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | | $ | 1,545.1 | | | $ | 1,548.4 | |
| | | | | | | |
82
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of June 30, 2005
(unaudited, in millions, except share and per share data)
| | | | | | | | | | | | |
| | | June 30, 2005 | |
| | | | |
| | | Previously | | | |
| | | Reported | | | Restated | |
| | | | | | | |
| ASSETS |
| CURRENT ASSETS: | | | | | | | | |
| | Cash and cash equivalents | | $ | 93.6 | | | $ | 93.6 | |
| | Accounts and notes receivable, net | | | 541.9 | | | | 541.6 | |
| | Inventories | | | 257.5 | | | | 257.5 | |
| | Deferred income taxes | | | 16.0 | | | | 17.6 | |
| | Other assets | | | 41.7 | | | | 41.7 | |
| | Assets held for sale | | | 0.1 | | | | 0.1 | |
| | | | | | | |
| | | Total current assets | | | 950.8 | | | | 952.1 | |
| PROPERTY, PLANT AND EQUIPMENT, net | | | 238.1 | | | | 238.1 | |
| GOODWILL, net | | | 219.1 | | | | 219.1 | |
| DEFERRED INCOME TAXES | | | 80.4 | | | | 80.4 | |
| OTHER ASSETS | | | 111.8 | | | | 111.8 | |
| | | | | | | |
| | | TOTAL ASSETS | | $ | 1,600.2 | | | $ | 1,601.5 | |
| | | | | | | |
| |
| LIABILITIES AND STOCKHOLDERS’ EQUITY |
| |
| CURRENT LIABILITIES: | | | | | | | | |
| | Short-term debt | | $ | 1.0 | | | $ | 1.0 | |
| | Current maturities of long-term debt | | | 11.3 | | | | 11.3 | |
| | Accounts payable | | | 294.7 | | | | 294.7 | |
| | Accrued expenses | | | 282.7 | | | | 282.7 | |
| | Income taxes payable | | | 38.9 | | | | 40.4 | |
| | Liabilities held for sale | | | 0.9 | | | | 0.9 | |
| | | | | | | |
| | | Total current liabilities | | | 629.5 | | | | 631.0 | |
| LONG-TERM DEBT | | | 263.0 | | | | 263.0 | |
| POSTRETIREMENT BENEFITS, OTHER THAN PENSIONS | | | 15.1 | | | | 15.1 | |
| PENSIONS | | | 105.6 | | | | 105.6 | |
| OTHER LIABILITIES | | | 85.7 | | | | 85.7 | |
| | | | | | | |
| | | Total liabilities | | | 1,098.9 | | | | 1,100.4 | |
| | | | | | | |
| COMMITMENTS AND CONTINGENCIES | | | | | | | | |
| STOCKHOLDERS’ EQUITY: | | | | | | | | |
| | Preferred stock, $.01 par value, 25,000,000 shares authorized, no shares issued or outstanding | | | — | | | | — | |
| | Common stock, $.01 par value, 200,000,000 shares authorized, 66,948,311 shares issued | | | 0.7 | | | | 0.7 | |
| | Additional paid-in capital | | | 463.9 | | | | 463.9 | |
| | Retained earnings | | | 105.6 | | | | 108.1 | |
| | Accumulated other comprehensive income (loss) | | | (23.5 | ) | | | (26.2 | ) |
| | Deferred compensation | | | (13.0 | ) | | | (13.0 | ) |
| | Treasury stock, at cost; 3,183,631 shares, 3,107,074 shares and 3,106,822 shares at September 30, 2005, June 30, 2005 and March 31, 2005, respectively | | | (32.4 | ) | | | (32.4 | ) |
| | | | | | | |
| | | Total stockholders’ equity | | | 501.3 | | | | 501.1 | |
| | | | | | | |
| | | | TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | | $ | 1,600.2 | | | $ | 1,601.5 | |
| | | | | | | |
83
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of September 30, 2005
(unaudited, in millions, except share and per share data)
| | | | | | | | | | | | |
| | | September 30, 2005 | |
| | | | |
| | | Previously | | | |
| | | Reported | | | Restated | |
| | | | | | | |
| ASSETS |
| CURRENT ASSETS: | | | | | | | | |
| | Cash and cash equivalents | | $ | 176.2 | | | $ | 176.2 | |
| | Accounts and notes receivable, net | | | 567.4 | | | | 567.4 | |
| | Inventories | | | 254.0 | | | | 254.0 | |
| | Deferred income taxes | | | 14.0 | | | | 19.2 | |
| | Other assets | | | 50.5 | | | | 50.5 | |
| | Assets held for sale | | | 0.1 | | | | 0.1 | |
| | | | | | | |
| | | Total current assets | | | 1,062.2 | | | | 1,067.4 | |
| PROPERTY, PLANT AND EQUIPMENT, net | | | 244.6 | | | | 244.6 | |
| GOODWILL, net | | | 225.6 | | | | 225.6 | |
| DEFERRED INCOME TAXES | | | 85.3 | | | | 85.3 | |
| OTHER ASSETS | | | 121.4 | | | | 121.4 | |
| | | | | | | |
| | | TOTAL ASSETS | | $ | 1,739.1 | | | $ | 1,744.3 | |
| | | | | | | |
| |
| LIABILITIES AND STOCKHOLDERS’ EQUITY |
| |
| CURRENT LIABILITIES: | | | | | | | | |
| | Short-term debt | | $ | 2.5 | | | $ | 2.5 | |
| | Current maturities of long-term debt | | | 114.3 | | | | 114.3 | |
| | Accounts payable | | | 312.9 | | | | 312.9 | |
| | Accrued expenses | | | 311.6 | | | | 311.6 | |
| | Income taxes payable | | | 41.4 | | | | 46.4 | |
| | Liabilities held for sale | | | 1.1 | | | | 1.1 | |
| | | | | | | |
| | | Total current liabilities | | | 783.8 | | | | 788.8 | |
| LONG-TERM DEBT | | | 119.3 | | | | 119.3 | |
| POSTRETIREMENT BENEFITS, OTHER THAN PENSIONS | | | 15.5 | | | | 15.5 | |
| PENSIONS | | | 106.1 | | | | 106.1 | |
| OTHER LIABILITIES | | | 80.5 | | | | 80.5 | |
| | | | | | | |
| | | Total liabilities | | | 1,105.2 | | | | 1,110.2 | |
| | | | | | | |
| COMMITMENTS AND CONTINGENCIES | | | | | | | | |
| STOCKHOLDERS’ EQUITY: | | | | | | | | |
| | Preferred stock, $.01 par value, 25,000,000 shares authorized, no shares issued or outstanding | | | — | | | | — | |
| | Common stock, $.01 par value, 200,000,000 shares authorized, 68,313,156 shares, 66,948,311 shares and 67,005,959 shares issued at September 30, 2005, June 30, 2005 and March 31, 2005, respectively | | | 0.7 | | | | 0.7 | |
| | Additional paid-in capital | | | 519.2 | | | | 519.2 | |
| | Retained earnings | | | 148.1 | | | | 157.0 | |
| | Accumulated other comprehensive income (loss) | | | — | | | | (8.8 | ) |
| | Deferred compensation | | | — | | | | — | |
| | Treasury stock, at cost, 3,183,631 shares, 3,107,074 shares and 3,106,822 shares at September 30, 2005, June 30, 2005 and March 31, 2005, respectively | | | (34.1 | ) | | | (34.0 | ) |
| | | | | | | |
| | | Total stockholders’ equity | | | 633.9 | | | | 634.1 | |
| | | | | | | |
| | | | TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | | $ | 1,739.1 | | | $ | 1,744.3 | |
| | | | | | | |
84
| |
| Financial results(in millions, except per share data) |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Net Sales | | | Gross Profit | | | Net (Loss) Income | |
| | | | | | | | | | |
| | | 2005 | | | 2004 | | | 2005 | | | 2004 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | | | | | |
| First Quarter | | $ | 700.3 | | | $ | 664.0 | | | $ | 219.8 | (1) | | $ | 225.6 | | | $ | 12.5 | (1)(3) | | $ | (194.1 | )(2) |
| Second Quarter | | | 867.8 | | | | 805.4 | | | | 291.2 | (1) | | | 275.3 | | | | 41.3 | (1) | | | 34.4 | |
| Third Quarter | | | 927.5 | | | | 771.9 | | | | 311.4 | (1) | | | 258.4 | | | | 55.1 | (1) | | | 19.0 | |
| Fourth Quarter | | | 870.6 | | | | 741.4 | | | | 285.6 | | | | 238.2 | | | | 41.8 | | | | 6.3 | |
| | | | | | | | | | | | | | | | | | | |
| | Fiscal year | | $ | 3,366.2 | | | $ | 2,982.7 | | | $ | 1,108.0 | | | $ | 997.5 | | | $ | 150.7 | | | $ | (134.4 | ) |
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Basic | | | Diluted | | | Dividends | |
| | | Earnings per | | | Earnings per | | | per | |
| | | Common Share | | | Common Share | | | Common Share | |
| | | | | | | | | | |
| | | 2005 | | | 2004 | | | 2005 | | | 2004 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | | | | | |
| First Quarter | | $ | 0.20 | (1)(3) | | $ | (3.26 | ) | | $ | 0.19 | (1)(3) | | $ | (3.26 | ) | | $ | 0.10 | | | $ | .095 | |
| Second Quarter | | | 0.67 | (1) | | | 0.57 | | | | 0.59 | (1) | | | 0.51 | | | | 0.10 | | | | .095 | |
| Third Quarter | | | 0.88 | (1) | | | 0.32 | | | | 0.76 | (1) | | | 0.29 | | | | 0.10 | | | | .095 | |
| Fourth Quarter | | | 0.59 | | | | 0.10 | | | | 0.55 | | | | 0.11 | | | | 0.11 | | | | .100 | |
| | | | | | | | | | | | | | | | | | | |
| | Fiscal year | | $ | 2.35 | | | $ | (2.24 | ) | | $ | 2.11 | | | $ | (2.24 | ) | | $ | 0.41 | | | $ | 0.385 | |
| | | | | | | | | | | | | | | | | | | |
| |
| (1) | Quarterly financial information has been restated. |
|
| (2) | In 2004, the Company recorded anon-cash impairment charge of $208.0 million, which is included as a component of operating income in the accompanying Consolidated Statements of Operations. |
|
| (3) | In 2005, the Company recorded $6.4 million of net income related to open futures contracts as of December 31, 2004. |
| | | | | | | | | | | | | | | | | | | |
| | | Price Range Per Common Share | | | Price Range Per Common Share | |
| | | | | | | |
| | | 2004 | | | 2003 | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | |
| | | High | | | Low | | | High | | | Low | | | High | | | Low | | | High | | | Low | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| First Quarter | | $ | 19.22 | | $ | 14.75 | | $ | 15.00 | | $ | 11.90 | | | $ | 22.99 | | $ | 19.33 | | $ | 19.22 | | $ | 14.75 | |
| Second Quarter | | | 19.26 | | | 15.34 | | | 15.24 | | | 12.56 | | | | 22.41 | | | 18.65 | | | 19.26 | | | 15.34 | |
| Third Quarter | | | 18.31 | | | 14.74 | | | 16.54 | | | 12.47 | | | | 27.42 | | | 20.50 | | | 18.31 | | | 14.74 | |
| Fourth Quarter | | | 20.50 | | | 13.97 | | | 17.60 | | | 14.51 | | | | 30.60 | | | 24.81 | | | 20.50 | | | 13.97 | |
On November 1, 1999, the Company’sSeptember 19, 2005, LII announced its Board of Directors had authorized a stock repurchase program, pursuant to which the purchase ofCompany may repurchase up to 5,000,000ten million shares of its common stock, and had terminated a prior repurchase program that was announced November 2, 1999. Purchases under the issuedstock repurchase program are made on an open-market basis at prevailing market prices. The timing of any repurchases depends on market conditions, the market price of LII’s common stock and outstanding Common Stock.management’s assessment of the Company’s liquidity needs and investment requirements and opportunities. No time limit was set for completion of the program and there is no guarantee as to the exact number of shares that will be repurchased. As of December 31, 20042005, the Company had purchased 3,587,300repurchased 447,400 shares of such sharescommon stock at a total costan average price of $37.7 million. There were no outstanding commitments as of December 31, 2004 to$28.65 per share under the stock repurchase the remaining 1,412,700 shares. When treasury shares are reissued, any difference between the average acquisition cost of the shares and the proceeds from re-issuance is charged or credited to additional paid-in capital.program.
85
The accumulated balances, shown net of tax for each classification of comprehensive income as of December 31, 2005, 2004 and 2003, are as follows (in millions):
| | | | | | | | | | | | | | | |
| | | | Foreign | | | | | | | |
| | | | | | | | | | | | | | | | | | Currency | | | | | | | |
| | | For. Currency | | | Minimum | | | Cash Flow | | | | | Translation | | | Minimum | | | | | |
| | | Translation Adj. | | | Pension Liab. | | | Hedges | | | Total | | | Adjustment | | | Pension Liab. | | | Hedges | | | Total | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| December 31, 2002 | | $ | (40.8 | ) | | $ | (37.2 | ) | | $ | (0.7 | ) | | $ | (78.7 | ) | | $ | (40.8 | ) | | $ | (37.2 | ) | | $ | (0.7 | ) | | $ | (78.7 | ) |
| Net change during 2003 | | | 63.7 | | | (5.2 | ) | | | 1.8 | | | 60.3 | | | | 63.7 | | | (5.2 | ) | | | 1.8 | | | 60.3 | |
| | | | | | | | | | | | | | | | | | | |
| December 31, 2003 | | | 22.9 | | | (42.4 | ) | | | 1.1 | | | (18.4 | ) | | | 22.9 | | | (42.4 | ) | | | 1.1 | | | (18.4 | ) |
| Net change during 2004 | | | 23.0 | | | (9.0 | ) | | | 5.1 | | | 19.1 | | | | 23.0 | | | (9.0 | ) | | | 5.1 | | | 19.1 | |
| | | | | | | | | | | | | | | | | | | |
| December 31, 2004 | | $ | 45.9 | | $ | (51.4 | ) | | $ | 6.2 | | $ | 0.7 | | | $ | 45.9 | | $ | (51.4 | ) | | $ | 6.2 | | $ | 0.7 | |
| Net change during 2005 | | | | (10.9 | ) | | | 17.0 | | | (6.4 | ) | | | (0.3 | ) |
| | | | | | | | | | | | | | | | | | | |
| December 31, 2005 | | | $ | 35.0 | | $ | (34.4 | ) | | $ | (0.2 | ) | | $ | 0.4 | |
| | | | | | | | | | | |
The net change in cash flow hedges during 2004 consisted ofwas $5.9 million, net of tax of $(2.1) million, in reclassifications to earnings and $2.1 million, net of tax of $(0.8) million, in changes in the fair value of derivative contracts.
In 2005, the Company determined that these futures contracts did not qualify for hedge accounting under SFAS No. 133, as the Company’s documentation did not meet the criteria specified by SFAS No. 133 in order for the hedging instruments to qualify for cash flow designation. Accordingly, the Company recorded an unrealized gain of $23.3 million for the year ended December 31, 2005 related to open futures contracts, which is included (Gains), Losses and during 2003 was $4.3 million, net of tax of $(1.5) million, in reclassifications to earnings and $(1.6) million, net of tax of $0.6 million, in changesOther Expenses, Net in the fair valueaccompanying Consolidated Statements of derivative contracts.Operations for 2005. Additionally during 2005, the Company realized pre-tax gains of $16.7 million related to futures contracts that settled during the year, which is included in (Gains), Losses and Other Expenses, Net in the accompanying Consolidated Statements of Operations.
| |
| 18. | Goodwill and Other Intangible Assets:Goodwill: |
The Company evaluates the impairment of goodwill under the guidance of Statement of Financial Accounting StandardsSFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”), for each of its reporting units. As a result of the annual impairment tests required by SFAS No. 142 the Company recorded an impairment charge in the first quarter of 2004 associated with its Service Experts segment. This impairment charge reflects the segment’s performance below management’s expectations and management’s decision to divest of 48 centers that no longer matchmatched the realigned Service Experts business model (seemodel. See Note 6).6 — Divestitures. The impairment test requires a two-step process. The first step compares the fair value of the units with goodwill against their aggregate carrying values, including goodwill. The Company estimated the fair value of its Service Experts segment using the income method of valuation, which includes the use of estimated discounted cash flows. Based on the comparison, the carrying value of Service Experts exceeded its fair value. Accordingly, the Company performed the second step of the test, comparing the implied fair value of Service ExpertsExperts’ goodwill with the carrying amount of that goodwill. Based on this assessment, the Company recorded a non-cash impairment charge of $208.0 million ($184.8 million, net of tax), which is included as a
67
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
component of operating income in the accompanying Consolidated Statements of Operations.Operations for 2004. The Company also recognized a $14.8 million ($13.2 million, net of tax) goodwill impairment charge arising from goodwill allocated to centers held for sale. This amount is included as a part of loss from discontinued operations in the accompanying Consolidated Statements of Operations.Operations for 2004. During the first quarter of 2005, the Company performed its annual goodwill impairment test and determined that no further impairment charge was required.
86
The changes in the carrying amount of goodwill related to continuing operations for the years ended December 31, 20042005 and 2003, in total and2004, by segment, are as follows (in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Balance | | | | | | | Balance | | | | Balance | | | | | | | Balance | |
| | | | December 31, | | | Goodwill | | Foreign Currency | | | December 31, | | | | December 31, | | | Goodwill | | | Foreign Currency | | | December 31, | |
| Segment | Segment | | 2002 | | | Impairment | | Translation & Other | | | 2003 | | Segment | | 2003 | | | Impairment | | | Translation & Other | | | 2004 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| Residential | Residential | | $ | 27.1 | | $ | — | | $ | (1.0 | ) | | $ | 26.1 | | Residential | | $ | 26.1 | | $ | — | | $ | — | | $ | 26.1 | |
| Commercial | Commercial | | | 25.9 | | | — | | | 3.2 | | | 29.1 | | Commercial | | | 29.1 | | | — | | | 1.6 | | | 30.7 | |
| | | | | | | | | | | | | | | | | | | | | |
| | Heating and Cooling | | | 53.0 | | | — | | | 2.2 | | | 55.2 | | Heating and Cooling | | | 55.2 | | | — | | | 1.6 | | | 56.8 | |
| Service Experts | Service Experts | | | 292.6 | | | — | | | 14.1 | | | 306.7 | | Service Experts | | | 306.7 | | | (208.0 | ) | | | (3.0 | ) | | | 95.7 | |
| Refrigeration | Refrigeration | | | 60.3 | | | — | | | 10.3 | | | 70.6 | | Refrigeration | | | 70.6 | | | — | | | 2.3 | | | 72.9 | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Total for continuing operations | | $ | 405.9 | | $ | — | | $ | 26.6 | | $ | 432.5 | | Total for continuing operations | | $ | 432.5 | | $ | (208.0 | ) | | $ | 0.9 | | $ | 225.4 | |
| | | | | | | | | | | | | | | | | | | | | |
| Discontinued operations | Discontinued operations | | | 14.8 | | | — | | | — | | | 14.8 | | Discontinued operations | | | 14.8 | | | (14.8 | ) | | | — | | | — | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Total | | $ | 420.7 | | $ | — | | $ | 26.6 | | $ | 447.3 | | Total | | $ | 447.3 | | $ | (222.8 | ) | | $ | 0.9 | | $ | 225.4 | |
| | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Balance | | | | | | | Balance | | | | Balance | | | | | | | Balance | |
| | | | December 31, | | | Goodwill | | | Foreign Currency | | | December 31, | | | | December 31, | | | Goodwill | | Foreign Currency | | | December 31, | |
| Segment | Segment | | 2003 | | | Impairment | | | Translation & Other | | | 2004 | | Segment | | 2004 | | | Impairment | | Translation & Other | | | 2005 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| Residential | Residential | | $ | 26.1 | | $ | — | | $ | — | | $ | 26.1 | | Residential | | $ | 26.1 | | $ | — | | $ | — | | $ | 26.1 | |
| Commercial | Commercial | | | 29.1 | | | — | | | 1.6 | | | 30.7 | | Commercial | | | 30.7 | | | — | | | (2.5 | ) | | | 28.2 | |
| | | | | | | | | | | | | | | | | | | | | |
| | Heating and Cooling | | | 55.2 | | | — | | | 1.6 | | | 56.8 | | Heating and Cooling | | | 56.8 | | | — | | | (2.5 | ) | | | 54.3 | |
| Service Experts | Service Experts | | | 306.7 | | | (208.0 | ) | | | (3.0 | ) | | | 95.7 | | Service Experts | | | 95.7 | | | — | | | 2.5 | | | 98.2 | |
| Refrigeration | Refrigeration | | | 70.6 | | | — | | | 2.3 | | | 72.9 | | Refrigeration | | | 72.9 | | | — | | | (1.5 | ) | | | 71.4 | |
| | | | | | | | | | | | | | | | | | | | | |
| | | Total for continuing operations | | $ | 432.5 | | $ | (208.0 | ) | | $ | 0.9 | | $ | 225.4 | | Total | | $ | 225.4 | | $ | — | | $ | (1.5 | ) | | $ | 223.9 | |
| | | | | | | | | | | | | | | | | | | | �� | | |
| Discontinued operations | | | 14.8 | | | (14.8 | ) | | | — | | | — | | |
| | | | | | | | | | | |
| | | Total | | $ | 447.3 | | $ | (222.8 | ) | | $ | 0.9 | | $ | 225.4 | | |
| | | | | | | | | | | |
The change in the Service Experts segment in 2004 includes the release of $9.2 million of liabilities for contingencies that were established in connection with the acquisition of Service Experts acquisition. The change in the Residential Heating & Cooling segment in 2003 includes $(0.8) million allocated to the divestiture of the HVAC distributor discussed in Note 6.Experts. Remaining changes are due to foreign currency translation.
IdentifiableAs of December 31, 2005 and 2004, identifiable intangible assets, subject to amortization, as of December 31, 2004 are recorded in Other Assets in the accompanying Consolidated Balance Sheets and are comprised of the following (in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | 2004 | | | 2003 | | | | 2005 | | | 2004 | |
| | | | | | | | | | | | | | | |
| | | | Gross | | | Accumulated | | | Gross | | | Accumulated | | | | Gross | | | Amortization | | | Gross | | | Accumulated | |
| | | | Amount | | | Amortization | | | Amount | | | Amortization | | | | Amount | | | Accumulated | | | Amount | | | Amortization | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Deferred financing costs | Deferred financing costs | | $ | 8.9 | | $ | (4.0 | ) | | $ | 8.6 | | $ | (1.9 | ) | Deferred financing costs | | $ | 5.8 | | $ | (3.3 | ) | | $ | 8.9 | | $ | (4.0 | ) |
| Non-compete agreements and other | Non-compete agreements and other | | | 9.3 | | | (7.9 | ) | | | 9.3 | | | (6.3 | ) | Non-compete agreements and other | | | 9.1 | | | (7.7 | ) | | | 9.3 | | | (7.9 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| | Total | | $ | 18.2 | | $ | (11.9 | ) | | $ | 17.9 | | $ | (8.2 | ) | Total | | $ | 14.9 | | $ | (11.0 | ) | | $ | 18.2 | | $ | (11.9 | ) |
| | | | | | | | | | | | | | | | | | | | | |
68
LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Amortization of intangible assets for the years ended December 31, 2005, 2004 and December 31, 2003 was approximately $1.9 million, $3.6 million and $4.6 million, respectively. Amortization expense for 20052006 to 20092010 is estimated to be approximately $1.7 million in 2005, $1.6$1.2 million in 2006, $1.0$0.7 million in 2007, $0.9$0.6 million in 2008, and $0.4$0.5 million in 2009.2009 and $0.3 million in 2010. As of December 31, 2004,2005, the Company had $15.6$14.3 million of intangible assets, consisting of $11.4$10.1 million of pension intangible assets and $4.2 million of trademarks and others, which are not subject to amortization.
| |
| 19. | Related Party Transactions: |
John W. Norris, Jr., LII’s Chairman of the Board, Thomas W. Booth, Stephen R. Booth, David V. Brown and John W. Norris III, each a director of Lennox, as well as other LII stockholders who may be immediate family members of the foregoing persons are, individually or through trust arrangements, members
87
of AOC Land Investment, L.L.C. (“AOC Land”). AOC Land owns 70% of AOC Development II, L.L.C. (“AOC Development”), which owns essentially all of One Lake Park, L.L.C. (“One Lake Park”). LII is leasing part of an office building owned by One Lake Park for use as the LII corporate headquarters. The lease, initiated in 1999,1998, has a remaining term of 25approximately 17 years and the lease payments for 2005, 2004 2003 and 20022003 were approximately $3.2$2.9 million, $2.9$3.2 million and $2.9 million, respectively. LII also leased a portion of Lennox Center, a retail complex owned by AOC Development, for use as offices. The lease, initiated in 2000, terminated in March 2003 and the lease payments for 2003 and 2002 were $20,430 and $122,580, respectively. AOC Land Investment also owns 70% of AOC Development.$20,430. LII believes that the terms of its leases with One Lake Park and AOC Development were, when entered into, comparable to terms that could have been obtained from unaffiliated third parties and was approved by a majority of the disinterested members of the Board of Directors.parties.
LII does not enter into any transactions in which it Directors,directors, executive officers or principal Stockholdersstockholders and their affiliates have a material interest unless such transactions are approved by a majority of the disinterested members of its Board of Directors and are on terms that are no less favorable to it than those that it could obtain from unaffiliated third parties.
On July 27, 2000, the Board of Directors of the Company declared a dividend of one right (“Right”) for each outstanding share of its Common Stockcommon stock to stockholders of record at the close of business on August 7, 2000. Each Right entitles the registered holder to purchase from the Company a unit consisting of oneone-hundredth of a share (a “Fractional Share”) of Series A Junior Participating Preferred Stock, par value $.01 per share, at a purchase price of $75.00 per Fractional Share, subject to adjustment.
| |
| 21. | Fair Value of Financial Instruments: |
The carrying amounts of cash and cash equivalents, accounts and notes receivable, net, accounts payable and other current liabilities approximate fair value due to the short maturities of these instruments. The fair values of each of the Company’s long-term debt instruments are based on the quoted market prices for the same issues or on the amount of future cash flows associated with each instrument using current market rates for debt instruments of similar maturities and credit risk. The estimated fair value of non-convertible long-term debt (including current maturities) is $160.8was $122.6 million and $226.6$160.8 million at December 31, 2005 and 2004, and 2003, respectively. The fair value of the convertible note is $189.4 million and $173.6 million at December 31, 2004 and 2003, respectively. The estimated premium on the convertible note related to interest cost is $1.7 million and $1.8 million and the remainder due to the equity conversion feature (see Note 8). The fair values presented are estimates and are not necessarily indicative of amounts for which the Company could settle such instruments currently or indicative of the intent or ability of the Company to dispose of or liquidate them.
On February 7, 2006, Allied Air Enterprises, a division of the Company’s Heating & Cooling segment, announced that it has commenced plans to consolidate its manufacturing, distribution, research & development, and administrative operations in South Carolina, and close its current operations in Bellevue, Ohio. The consolidation will be a phased process expected to be completed by the end of the first quarter of fiscal 2007. The Company expects the consolidation to improve Allied Air Enterprises’ operating efficiency, eliminate redundant fixed costs, and provide customers with improved service.
6988
| |
| Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure |
None.
| |
| Item 9A. | Controls and Procedures |
Overview
As previously disclosed, in March 2004 the Audit Committee of the Company’s Board of Directors initiated an independent inquiry of certain accounting matters related to the Company’s Canadian service centers in its Service Experts operations after the Company received allegations of accounting and other improprieties at one of its Canadian service centers. The independent inquiry was completed in July 2004. The independent inquiry identified certain weaknesses in the internal controls with respect to the Canadian service centers. As a result of the independent inquiry and an internal review conducted by the Company in the third and fourth quarters of 2003, the Company’s management implemented and continues to implement actions that are designed to improve the effectiveness of internal controls with respect to its Canadian service centers.
| | |
| • | Reorganize the accounting function of the Canadian operations from a stand-alone entity to an integrated operation within the Service Experts structure. The Company has moved the majority of the accounting functions for its Canadian service centers into its two U.S. regional accounting centers, leaving bookkeeping and data entry as the only accounting functions performed at the Canadian center level. In addition, all accounting duties formerly performed by the Service Experts Canadian headquarters have been moved to the Company’s headquarters in Richardson, Texas. |
|
| • | Reorganize the reporting and management structure of the Canadian operations. The chief executive officer and chief financial officer positions in the Service Experts Canadian operations have been eliminated and all Canadian accounting personnel report directly to financial and accounting personnel within the Service Experts organization. |
|
| • | Implement the STARS accounting system in the Canadian centers. The Company has implemented the STARS accounting system in the Canadian centers. STARS (“System Training Action Resource Success”) is an operations and financial computer system that has been customized to meet the needs of the Company’s centers. |
|
| • | Adopt consistent accounting policies in all Canadian centers and establish a training program for accounting personnel in Canadian centers. The Company’s accounting policies and procedures manual has been adopted and implemented in the Canadian centers. In addition, concurrently with the implementation of STARS at a center, the bookkeeping and data entry personnel received training on the system and will continue to receive training as required to ensure their understanding of the system and accounting policies, procedures and controls. |
|
| • | Establish a process of increased oversight and monitoring of the Canadian centers. The efforts of the Company’s internal audit department include, and will continue to include the Canadian centers in their annual risk assessment and audit plan to ensure that control compliance is functioning and that recommended remedial actions be implemented. |
|
| • | Enhance the procedures for monitoring management’s remediation of internal audit findings. The Company has incorporated monitoring procedures to include business unit reporting to, and oversight by, senior management to ensure prompt and appropriate resolution of all findings. |
|
| • | Strengthen the policies and procedures for the handling of whistleblower claims. The Company has adopted an enhanced whistleblower policy and established procedures to ensure that all complaints are reported to the Company’s chief legal officer and director of internal audit and, depending on the nature of the claim, the Audit Committee. In addition, the Company is implementing compliance and ethics training to provide appropriate training to all levels of employees, including the Company’s executive staff. |
70
| | |
| • | Take corrective action with respect to certain Company personnel. The Company has terminated all appropriate Canadian personnel alleged to have engaged in improprieties. |
Disclosure Controls and Procedures
The Company carried out an evaluation, under the supervision and with the participation of the Company’s current management, including its Chief Executive Officer and Chief Financial Officer (the Company’s principal executive officer and principal financial officer, respectively), of the effectiveness of its disclosure controls and procedures as of the end of the period covered by this report. Basedreport and concluded that, as a result of the material weakness identified in Management’s Report on that evaluation, the Chief Executive Officer and ChiefInternal Control Over Financial Officer have concluded thatReporting (Item 8), the Company’s disclosure controls and procedures were effective as of December 31, 2004 to provide reasonable assurance that information required to be disclosed by2005 were not effective.
Management’s Annual Report on Internal Control Over Financial Reporting
See “Management’s Report on Internal Control Over Financial Reporting” included in Item 8 “Financial Statements and Supplementary Data.”
Attestation Report of the CompanyIndependent Registered Public Accounting Firm
See “Attestation Report of the Independent Registered Public Accounting Firm” included in the reports filed or submitted by the Company under the Securities Exchange Act of 1934 is recorded, processed, summarizedItem 8 “Financial Statements and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.Supplementary Data.”
Changes in Internal Control Over Financial Reporting
Except as identified above, duringDuring the quarter ended December 31, 2004,2005, there were no changes in the Company’s internal controlscontrol over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company’s internal controlscontrol over financial reporting.
Internal Control Over Financial ReportingRemediation Efforts
See “Management’s Report on Internal Control Over Financial Reporting” includedIn the first quarter of 2006, the Company engaged an outside consultant to assist it in Part II, Item 8 “Financial Statementsredesigning its policies, procedures, and Supplementary Data.”controls with respect to its commodity hedging activities in order to comply with the requirements of SFAS 133 and the Company does not plan to enter into any new contracts intended to hedge its exposure to fluctuations in copper and aluminum commodity prices until this process is completed.
Item 9B. Other Information
| |
| Item 9B. | Other Information |
None.
PART III
| |
| Item 10. | Directors and Executive Officers of the Registrant |
The section of the 2005Company’s 2006 Proxy Statement captioned “Election“Proposal: Election of Directors” under “Proposal 1” identifies members of the boardBoard of directorsDirectors of the Company and nominees for election to the Board of Directors at the Company’s 2006 Annual Meeting, and is incorporated in this Item 10 by reference.
Item 1 “Business — Executive Officers of the Company” of this Form 10-K identifies executive officers of the Company and is incorporated in this Item 10 by reference.
The section of the 2005Company’s 2006 Proxy Statement captioned “Corporate Governance — Board of Directors and Board Committees — Audit Committee” identifies members of the Audit Committee of the Board of Directors and anthe Company’s audit committee financial expert, and is incorporated in this Item 10 by reference.
89
The section of the 2005Company’s 2006 Proxy Statement captioned “Section 16(a) Beneficial Ownership Reporting Compliance” is incorporated in this Item 10 by reference.
The section of the 2005 Proxy Statement captioned “Corporate Governance — Other Corporate Governance Policies — Corporate Governance Guidelines — Certain Committee Charters” identifies how stockholders may obtain a copy of the Company’s Corporate Governance Guidelines without charge and is incorporated in this Item 10 by reference.
The section of the 20052006 Proxy Statement captioned “Corporate Governance — Other Corporate Governance Policies — Code of Conduct and Code of Ethical Conduct” identifies how stockholders may obtain a copy ofincludes information regarding the Corporation’sCompany’s Code of Conduct without chargeand Code of Ethical Conduct and is incorporated in this Item 10 by reference.
71
| |
| Item 11. | Executive Compensation |
The information in the sectionsections of the 2005Company’s 2006 Proxy Statement captioned “Directors Compensation,” “Executive Compensation” and “Certain Relationships and Related Party Transactions — Compensation Committee Interlocks and Insider Participation” is incorporated in this Item 11 by reference.
| |
| Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters |
The information in the sections of the 2005Company’s 2006 Proxy Statement captioned “Equity Compensation PlansPlan Information” and “Ownership of LII Common Stock” is incorporated in this Item 12 by reference.
| |
| Item 13. | Certain Relationships and Related Transactions |
The information in the section of the 2005Company’s 2006 Proxy Statement captioned “Certain Relationships and Related Party Transactions” is incorporated in this Item 13 by reference.
| |
| Item 14. | Principal Accounting Fees and Services |
The information in the section of the 2005Company’s 2006 Proxy Statement captioned “Independent Auditors”Registered Public Accountants” is incorporated in this Item 14 by reference.
PART IV
| |
| Item 15. | Exhibits, Financial Statement Schedules and Reports on Form 8-K |
(a) Financial Statements Financial Statement Schedules and Exhibits
The following financial statements are included in Part II, Item 8 of this Form 10-K:
| | |
| | (1) The following financial statements of Lennox International Inc. and subsidiaries are included in Part II, Item 8 of this Form 10-K:• |
| Management’s Report on Internal Control Over Financial Reporting Report of Independent Registered Public Accounting Firm
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2004 and 2003
| | | | • | Attestation Report of the Independent Registered Public Accounting Firm | | | • | Report of the Independent Registered Public Accounting Firm | | | • | Consolidated Balance Sheets as of December 31, 2005 and 2004 | | | • | Consolidated Statements of Operations for the Years Ended December 31, 2005, 2004 2003 and 20022003 | | | • | Consolidated Statements of Stockholders’ Equity for the Years Ended December 31, 2005, 2004 2003 and 20022003 | | | • | Consolidated Statements of Cash Flows for the Years Ended December 31, 2005, 2004 2003 and 20022003 | | | • | Notes to Consolidated Financial Statements for the Years Ended December 31, 2005, 2004 2003 and 20022003 |
Financial Statement Schedules The following financial statement schedules are included in this Form 10-K: | | | | | (2) The following financial statement schedule for Lennox International Inc. and subsidiaries is included herein:• | Report of the Independent Registered Public Accounting Firm (see Part II, Item 8 of this Form 10-K). |
90
| | | | | Report of Independent Public Accountants on Financial Statement Schedule (page 34 of this Form 10-K) | | • | Schedule II — Valuation and Qualifying Accounts and Reserves (page 75(see Schedule II immediately following the signature page of this Form 10-K). |
Financial statement schedules not included in this Form 10-K have been omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto. Exhibits | | | The exhibits listed in the accompanying Index to Exhibits on pages 76 through 78 of this Form 10-K are filed or incorporated by reference as part of this Form 10-K. |
A list of the exhibits required to be filed or furnished as part of this Form 10-K is set forth in the Index to Exhibits, which immediately precedes such exhibits, and is incorporated herein by reference. 7291
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. | | | | LENNOX INTERNATIONAL INC. |
| | | | | By: | /s/Robert E. Schjerven |
| | | | | | | Robert E. Schjerven | | | Chief Executive Officer |
March 15, 200516, 2006 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. | | | | | | | | | Signature | | Title | | Date | | | | | | | | | | /s/Robert E. Schjerven
Robert E. Schjerven | | Chief Executive Officer and Director (Principal Executive Officer) | | March 15, 2005 | | 16, 2006 | | | /s/Susan K. Carter
Susan K. Carter | | Executive Vice President and Chief Financial Officer and Treasurer (Principal
(Principal Financial Officer) | | March 15, 2005 | | 16, 2006 | | | /s/David L. Inman
David L. Inman | | Vice President, Controller and
Chief Accounting Officer (Principal
(Principal Accounting Officer) | | March 15, 200516, 2006 | | | /s/John W. Norris, Jr.
John W. Norris, Jr. | | Chairman of the Board of Directors | | March 15, 200516, 2006 | | | /s/Linda G. Alvarado
Linda G. Alvarado | | Director | | March 15, 200516, 2006 | | | /s/Steven R. Booth
Steven R. Booth | | Director | | March 15, 200516, 2006 | | | /s/Thomas W. Booth
Thomas W. Booth | | Director | | March 15, 200516, 2006 | | | /s/David V. Brown
David V. Brown | | Director | | March 15, 200516, 2006 | | | /s/James J. Byrne
James J. Byrne | | Director | | March 15, 200516, 2006 | | /s/Janet K. Cooper
Janet K. Cooper | | Director | | March 16, 2006 |
7392
| | | | | | | | | Signature | | Title | | Date | | | | | | | | | /s/Janet K. Cooper
Janet K. Cooper | | Director | | March 15, 2005 | | /s/C.L. (Jerry) Henry
C.L. (Jerry) Henry | | Director | | March 15, 200516, 2006 | | | /s/John E. Major
John E. Major | | Director | | March 15, 200516, 2006 | | | /s/John W. Norris III
John W. Norris III | | Director | | March 15, 2005 | | /s/Walden W. O’Dell
Walden W. O’Dell | | Director | | March 15, 200516, 2006 | | | /s/Paul W. Schmidt
Paul W. Schmidt | | Director | | March 15, 200516, 2006 | | | /s/Terry D. Stinson
Terry D. Stinson | | Director | | March 15, 200516, 2006 | | | /s/Richard L. Thompson
Richard L. Thompson | | Director | | March 15, 200516, 2006 |
7493
LENNOX INTERNATIONAL INC. SCHEDULE II — VALUATION AND QUALIFYING ACCOUNTS AND RESERVES For the Years Ended December 31, 2005, 2004 2003 and 20022003 (In Millions) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Additions | | | | | | | | | Additions | | | | | | | | | | Balance at | | | charged to | | | | | Balance | | | Balance at | | | charged to | | | | | Balance | | | | | | beginning | | | cost and | | | | | at end | | | beginning | | | cost and | | | | | at end | | | | | | of Year | | | expenses | | | Deductions(1) | | | of Year | | | of Year | | | expenses | | | Deductions (1) | | | of Year | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | (In Millions) | | | | 2002: | | | | | | | | | | | | | | | | | Allowance for doubtful accounts | | $ | 24.8 | | $ | 6.7 | | $ | (10.7 | ) | | $ | 20.8 | | | | 2003: | 2003: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Allowance for doubtful accounts | | $ | 20.8 | | | 10.8 | | $ | (16.0 | ) | | $ | 15.6 | | | | Allowance for doubtful accounts | | | $ | 20.8 | | $ | 10.8 | | $ | (16.0 | ) | | $ | 15.6 | | | 2004: | 2004: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Allowance for doubtful accounts | | $ | 15.6 | | $ | 10.3 | | $ | (7.4 | ) | | $ | 18.5 | | | | Allowance for doubtful accounts | | | $ | 15.6 | | $ | 10.3 | | $ | (7.4 | ) | | $ | 18.5 | | | 2005: | | | | | | | | | | | | | | | | Allowance for doubtful accounts | | | $ | 18.5 | | $ | 6.7 | | $ | (8.5 | ) | | $ | 16.7 | |
| | | (1) | Uncollectible accounts charged off, net of recoveries. Also includes $0.9 million transferred as part of the formation of Outokumpu Heatcraft joint ventures in 2002. |
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INDEX TO EXHIBITS | | | | | | | Exhibit | | | | | Number | | | | Exhibit Name | | | | | | | 3.1 | | | — | | Restated Certificate of Incorporation of Lennox International Inc. (‘LII”) (filed as Exhibit 3.1 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed on April 6, 1999 and incorporated herein by reference). | | 3.2 | | | — | | Amended and Restated Bylaws of LII (filed as Exhibit 3.2 to LII’s Form 8-K dated February 28, 2004 and incorporated herein by reference). | | 4.1 | | | — | | Specimen Stock Certificate for the Common Stock, par value $.01 per share, of LII (filed as Exhibit 4.1 to LII’s Amendment to Registration Statement on Form S-11A (Registration No. 333-75725) filed on June 16, 1999 and incorporated herein by reference). | | 4.2 | | | — | | Rights Agreement, dated as of July 27, 2000, between LII and ChaseMellon Shareholder Services, L.L.C., as Rights Agent, which includes as Exhibit A the form of Certificate of Designations of Series A Junior Participating Preferred Stock setting forth the terms of the Preferred Stock, as Exhibit B the form of Rights Certificate and as Exhibit C the Summary of Rights to Purchase Preferred Stock (filed as Exhibit 4.1 to LII’s Current Report on Form 8-K dated July 27, 2000 and incorporated herein by reference). | | 4.3 | | | — | | Indenture, dated as of May 8, 2002, between LII and The Bank of New York, as Trustee, relating to LII’s 6.25% Convertible Subordinated Notes due June 1, 2009 (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2002 and incorporated herein by reference). | | 4.4 | | | — | | Registration Rights Agreement, dated as of May 8, 2002, between LII and UBS Warburg LLC and the other initial purchasers relating to LII’s 6.25% Convertible Subordinated Notes due June 1, 2009 (filed as Exhibit 10.3 to LII’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2002 and incorporated herein by reference). LII is a party to several debt instruments under which the total amount of securities authorized under any such instrument does not exceed 10% of the total assets of LII and its subsidiaries on a consolidated basis. Pursuant to paragraph 4(iii)(A) of Item 601(b) of Regulation S-K, LII agrees to furnish a copy of such instruments to the Securities and Exchange Commission upon request. | | 10.1 | | | — | | Amended and Restated Revolving Credit Facility Agreement dated as of September 11, 2003 among LII, the lenders listed thereto, JPMorgan Chase Bank, Bank of Nova Scotia, The Bank of Tokyo-Mitsubishi, Ltd. and Wells Fargo Bank Texas, N.A., including an Amended and Restated Intercreditor Agreement as Exhibit F thereto and an Amended and Restated Pledge Agreement as Attachment D thereto (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2003 and incorporated herein by reference). | | 10.2 | | | — | | First Amendment to Amended and Restated Revolving Credit Facility Agreement dated as of August 27, 2004 among LII, the lenders party thereto, and JPMorgan Chase Bank, as administrative agent (filed as Exhibit 10.2 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 and incorporated herein by reference). | | 10.3 | | | — | | Second Amended and Restated Receivables Purchase Agreement, dated as of June 16, 2003, among LPAC Corp., Lennox Industries Inc., Blue Ridge Asset Funding Corporation, Liberty Street Funding Corp., the Liberty Street Investors named therein, The Bank of Nova Scotia and Wachovia Bank, N.A. (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2003 and incorporated herein by reference). | | 10.4 | | | — | | Fourth Amendment to Second Amended and Restated Receivables Purchase Agreement dated as of June 11, 2004, by and among Lennox Industries Inc., LPAC Corp., Liberty Street Funding Corp., the investors named in the Purchase Agreement, The Bank of Nova Scotia, YC SUSI Trust, Bank of America, N.A. and The Yorktown Investors (filed as Exhibit 10.3 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 and incorporated herein by reference). | | 10.5 | | | — | | Fifth Amendment to Second Amended and Restated Receivables Purchase Agreement dated as of December 20, 2004, by and among Lennox Industries Inc., LPAC Corp., Liberty Street Funding Corp., the investors named in the Purchase Agreement, The Bank of Nova Scotia, YC SUSI Trust, Bank of America, N.A. and The Yorktown Investors (filed as Exhibit 10.1 to LII’s Form 8-K dated December 20, 2004 and incorporated herein by reference). |
| | | | | | | Exhibit | | | | Number | | Exhibit Name | | | | | | | 3 | .1 | | Restated Certificate of Incorporation of Lennox International Inc. (‘LII”) (filed as Exhibit 3.1 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed on April 6, 1999 and incorporated herein by reference). | | | 3 | .2 | | Amended and Restated Bylaws of LII (filed as Exhibit 3.2 to LII’s Current Report on Form 8-K filed on February 28, 2005 and incorporated herein by reference). | | | 4 | .1 | | Specimen Stock Certificate for the Common Stock, par value $.01 per share, of LII (filed as Exhibit 4.1 to LII’s Amendment to Registration Statement on Form S-1/A (Registration No. 333-75725) filed on June 16, 1999 and incorporated herein by reference). | | | 4 | .2 | | Rights Agreement, dated as of July 27, 2000, between LII and ChaseMellon Shareholder Services, L.L.C., as Rights Agent, which includes as Exhibit A the form of Certificate of Designations of Series A Junior Participating Preferred Stock setting forth the terms of the Preferred Stock, as Exhibit B the form of Rights Certificate and as Exhibit C the Summary of Rights to Purchase Preferred Stock (filed as Exhibit 4.1 to LII’s Current Report on Form 8-K filed on July 28, 2000 and incorporated herein by reference). | | | | | | LII is a party to several debt instruments under which the total amount of securities authorized under any such instrument does not exceed 10% of the total assets of LII and its subsidiaries on a consolidated basis. Pursuant to paragraph 4(iii)(A) of Item 601(b) of Regulation S-K, LII agrees to furnish a copy of such instruments to the Securities and Exchange Commission upon request. | | | 10 | .1 | | Second Amended and Restated Receivables Purchase Agreement, dated as of June 16, 2003, by and among LPAC Corp., Lennox Industries Inc., Blue Ridge Asset Funding Corporation, Liberty Street Funding Corp., the Liberty Street Investors named therein, The Bank of Nova Scotia and Wachovia Bank, N.A. (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003 and incorporated herein by reference). | | | 10 | .2 | | Fourth Amendment to Second Amended and Restated Receivables Purchase Agreement, dated as of June 11, 2004, by and among Lennox Industries Inc., LPAC Corp., Liberty Street Funding Corp., the investors named in the Second Amended and Restated Receivables Purchase Agreement, as amended (the “Purchase Agreement”), The Bank of Nova Scotia, YC SUSI Trust, Bank of America, N.A. and The Yorktown Investors (as defined in Purchase Agreement) (filed as Exhibit 10.3 to LII’s Annual Report on Form 10-K for the year ended December 31, 2003 and incorporated herein by reference). | | | 10 | .3 | | Fifth Amendment to Second Amended and Restated Receivables Purchase Agreement, dated as of December 20, 2004, by and among Lennox Industries Inc., LPAC Corp., Liberty Street Funding Corp., the investors named in the Purchase Agreement, The Bank of Nova Scotia, YC SUSI Trust, Bank of America, N.A. and The Yorktown Investors (as defined in the Purchase Agreement) (filed as Exhibit 10.1 to LII’s Form 8-K filed December 21, 2004 and incorporated herein by reference). | | | 10 | .4 | | Sixth Amendment to Second Amended and Restated Receivables Purchase Agreement, dated December 14, 2005, by and among Lennox Industries Inc., LPAC Corp., Liberty Street Funding Corp., the investors named in the Purchase Agreement, The Bank of Nova Scotia, YC SUSI Trust, Bank of America, National Association and the Yorktown Investors (as defined in the Purchase Agreement) (filed as Exhibit 10.1 to LII’s Form 8-K filed December 20, 2005 and incorporated herein by reference). | | | 10 | .5 | | Assignment and Assumption Agreement, dated as of May 5, 2004, by and among EagleFunding Capital Corporation and YC SUSI Trust, Fleet National Bank and Bank of America, N.A., Fleet Securities, Inc. and Bank of America, N.A., The Bank of Nova Scotia and LPAC Corp. (filed as Exhibit 10.10 to LII’s Annual Report on Form 10-K for the year ended December 31, 2003 and incorporated herein by reference). | | | 10 | .6 | | Purchase and Sale Agreement, dated as of June 19, 2000, by and among Lennox Industries Inc., Heatcraft Inc. and LPAC Corp. (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2000 and incorporated herein by reference). |
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| | | | | | | Exhibit | | | | | | Number | | | | | Exhibit Name | | | | | | | | 10.6 | | | — | | Purchase and Sale Agreement, dated as of June 19, 2000, among Lennox Industries Inc., Heatcraft Inc. and LPAC Corp. (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2000 and incorporated herein by reference). | | 10.7 | | | — | | First Amendment to Purchase and Sale Agreement, dated as of June 7, 2002, among Lennox Industries Inc., Heatcraft Inc., Armstrong Air Conditioning Inc. and LPAC Corp. (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2002 and incorporated herein by reference). | | 10.8 | | | — | | Second Amendment to Purchase and Sale Agreement, dated as of June 16, 2003, by and among LPAC Corp., Lennox Industries Inc., Armstrong Air Conditioning Inc., Advanced Distributor Products LLC and Heatcraft Refrigeration Products LLC (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2003 and incorporated herein by reference). | | 10.9 | | | — | | Omnibus Amendment Number One to the Amended and Restated Receivables Purchase Agreement and the Purchase and Sale Agreement, dated as of January 31, 2003, among Lennox Industries Inc., Heatcraft Inc., Armstrong Air Conditioning Inc., Advanced Distributor Products LLC, Heatcraft Refrigeration Products LLC, LPAC Corp., Blue Ridge Asset Funding Corporation and Wachovia Bank, N.A. (filed as Exhibit 10.12 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2002 and incorporated herein by reference). | | 10.10 | | | — | | First Omnibus Amendment to Transaction Documents, dated as of December 31, 2003 among LII, Lennox Industries Inc., Advanced Distributor Products LLC, Heatcraft Refrigeration Products LLC, LPAC Corp., Blue Ridge Asset Funding Corporation, Wachovia Bank, National Association, Liberty Street Funding Corp., The Bank of Nova Scotia, EagleFunding Capital Corporation, Fleet National Bank, Fleet Securities Inc., and The Liberty Street Investors (filed as Exhibit 10.9 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 and incorporated herein by reference). | | 10.11 | | | — | | Assignment and Assumption Agreement dated as of May 5, 2004, by and among EagleFunding Capital Corporation and YC SUSI Trust, Fleet National Bank and Back of America, N.A., Fleet Securities, Inc. and Bank of America, N.A., The Bank of Nova Scotia and LPAC Corp. (filed as Exhibit 10.10 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 and incorporated herein by reference). | | 10.12 | | | — | | Receivables Purchase Agreement dated as of June 27, 2003 among LPAC Corp. II, Lennox Industries Inc., Jupiter Securitization Corporation, The Financial Institutions from time to time parties thereto, and Bank One, NA. (filed as Exhibit 10.3 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2003 and incorporated herein by reference). | | 10.13 | | | — | | Amendment No. 1 to Receivables Purchase Agreement dated as of September 11, 2003 among LPAC Corp. II, Lennox Industries Inc., Jupiter Securitization Corporation, The Financial Institutions from time to time parties thereto, and Bank One, NA. (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2003 and incorporated herein by reference). | | 10.14 | | | — | | Amendment No. 2 to Receivables Sale Agreement dated as of June 25, 2004 among LPAC Corp. II, Lennox Industries Inc., Jupiter Securitization Corporation, The Financial Institutions from time to time parties thereto, and Bank One, NA. (filed as Exhibit 10.13 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 and incorporated herein by reference). | | 10.15 | | | — | | Amendment No. 1 to Receivables Sale Agreement dated as of September 11, 2003 among Armstrong Air Conditioning Inc., Lennox Hearth Products Inc., and LPAC Corp. II (filed as Exhibit 10.3 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2003 and incorporated herein by reference). | | 10.16 | | | — | | Joint Venture and Members Agreement dated July 18, 2002, between LII, Outokumpu Copper Products Oy, Outokumpu Copper Holdings, Inc. and Heatcraft Heat Transfer LLC (filed as Exhibit 10.7 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2002 and incorporated herein by reference). |
| | | | | | | Exhibit | | | | Number | | Exhibit Name | | | | | | | 10 | .7 | | First Amendment to Purchase and Sale Agreement, dated as of June 7, 2002, among Lennox Industries Inc., Heatcraft Inc., Armstrong Air Conditioning Inc. and LPAC Corp. (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2002 and incorporated herein by reference). | | | 10 | .8 | | Second Amendment to Purchase and Sale Agreement, dated as of June 16, 2003, by and among LPAC Corp., Lennox Industries Inc., Armstrong Air Conditioning Inc., Advanced Distributor Products LLC and Heatcraft Refrigeration Products LLC (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003 and incorporated herein by reference). | | | 10 | .9 | | Omnibus Amendment Number One to the Amended and Restated Receivables Purchase Agreement and the Purchase and Sale Agreement, dated as of January 31, 2003, by and among Lennox Industries Inc., Heatcraft Inc., Armstrong Air Conditioning Inc., Advanced Distributor Products LLC, Heatcraft Refrigeration Products LLC, LPAC Corp., Blue Ridge Asset Funding Corporation and Wachovia Bank, N.A. (filed as Exhibit 10.12 to LII’s Annual Report on Form 10-K for the year ended December 31, 2002 and incorporated herein by reference). | | | 10 | .10 | | First Omnibus Amendment to Transaction Documents, dated as of December 31, 2003, among LII, Lennox Industries Inc., Advanced Distributor Products LLC, Heatcraft Refrigeration Products LLC, LPAC Corp., Blue Ridge Asset Funding Corporation, Wachovia Bank, N.A., Liberty Street Funding Corp., The Bank of Nova Scotia, EagleFunding Capital Corporation, Fleet National Bank, Fleet Securities Inc., and The Liberty Street Investors (as defined therein) (filed as Exhibit 10.9 to LII’s Annual Report on Form 10-K for the year ended December 31, 2003 and incorporated herein by reference). | | | 10 | .11* | | Amended and Restated 1998 Incentive Plan of Lennox International Inc. (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2005 and incorporated herein by reference). | | | 10 | .12* | | Form of Performance Share Program Award Agreement under the 1998 Incentive Plan of LII (filed as Exhibit 10.3 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 10 | .13* | | Form of Employee Restricted Stock Grant Agreement under the 1998 Incentive Plan of LII (filed as Exhibit 10.4 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 10 | .14* | | Form of Employee Stock Appreciation Rights Agreement under the 1998 Incentive Plan of LII (filed as Exhibit 10.5 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 10 | .15* | | Form of Non-Employee Director Restricted Stock Grant Agreement under the 1998 Incentive Plan of LII (filed as Exhibit 10.6 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 10 | .16* | | Form of Non-Employee Director Stock Appreciation Rights Agreement under the 1998 Incentive Plan of LII (filed as Exhibit 10.7 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 10 | .17* | | Lennox International Inc. Profit Sharing Restoration Plan (filed as Exhibit 10.9 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed on April 6, 1999 and incorporated herein by reference). | | | 10 | .18* | | Lennox International Inc. Supplemental Executive Retirement Plan (filed as Exhibit 10.10 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed on April 6, 1999 and incorporated herein by reference). | | | 10 | .19* | | Lennox International Inc. Non-employee Directors’ Compensation and Deferral Plan (filed as Exhibit 10.22 to LII’s Annual Report on Form 10-K for the year ended December 31, 2002 and incorporated herein by reference). | | | 10 | .20* | | Amendment to the Lennox International Inc. Non-employee Directors’ Compensation and Deferral Plan, dated May 17, 2002 (filed as Exhibit 10.23 to LII’s Annual Report on Form 10-K for the year ended December 31, 2002 and incorporated herein by reference). |
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| | | | | | | Exhibit | | | | | | Number | | | | | Exhibit Name | | | | | | | | 10.17 | | | — | | Shareholders Agreement dated July 18, 2002, between LGL Holland B.V., Outokumpu Copper Products Oy and Outokumpu Heatcraft B.V. (filed as Exhibit 10.8 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2002 and incorporated herein by reference). | | 10.18 | | | — | | Shared Services Agreement dated August 30, 2002, between LII, Outokumpu Heatcraft USA LLC and Outokumpu Heatcraft B.V. (filed as Exhibit 10.9 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2002 and incorporated herein by reference). | | 10.19 | | | — | | Joint Technology Development Agreement, dated August 30, 2002, between LII, Outokumpu Oyj, Outokumpu Heatcraft USA LLC, Outokumpu Heatcraft B.V. and Advanced Heat Transfer LLC (filed as Exhibit 10.10 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2002 and incorporated herein by reference). | | 10.20* | | | — | | 1998 Incentive Plan of Lennox International Inc. (filed as Exhibit 10.8 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed April 16, 1999 and incorporated herein by reference). | | 10.21* | | | — | | Amendment, dated as of December 15, 2000, to 1998 Incentive Plan of Lennox International Inc. (filed as Exhibit 10.18 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2000 and incorporated herein by reference). | | 10.22* | | | — | | Amendment dated May 17, 2002, to 1998 Incentive Plan of Lennox International Inc. (filed as Exhibit 10.19 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2002 and incorporated herein by reference). | | 10.23* | | | — | | Lennox International Inc. Profit Sharing Restoration Plan (filed as Exhibit 10.9 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed April 16, 1999 and incorporated herein by reference). | | 10.24* | | | — | | Lennox International Inc. Supplemental Executive Retirement Plan (filed as Exhibit 10.10 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed April 16, 1999 and incorporated herein by reference). | | 10.25* | | | — | | Lennox International Inc. Non-employee Directors’ Compensation and Deferral Plan (filed as Exhibit 10.22 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2002 and incorporated herein by reference). | | 10.26* | | | — | | Amendment dated May 17, 2002, to Lennox International Inc. Non-employee Directors’ Compensation and Deferral Plan (filed as Exhibit 10.23 to LII’s Annual Report on Form 10-K for the fiscal year ended December 31, 2002 and incorporated herein by reference). | | 10.27* | | | — | | Form of Indemnification Agreement entered into between LII and certain executive officers and directors (filed as Exhibit 10.15 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed April 16, 1999 and incorporated herein by reference). | | 10.28* | | | — | | Form of revised Employment Agreement entered into between LII and certain executive officers (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2000 and incorporated herein by reference). | | 10.29* | | | — | | Form of Amended and Restated Change of Control Employment Agreement entered into between LII and certain executive officers (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2000 and incorporated herein by reference). | | 12.1 | | | — | | Computation of Ratio of Earnings to Fixed Charges (filed herewith). | | 21.1 | | | — | | Subsidiaries of LII (filed herewith). | | 23.1 | | | — | | Consent of KPMG LLP (filed herewith). | | 31.1 | | | — | | Certification of the principal executive officer (filed herewith). | | 31.2 | | | — | | Certification of the principal financial officer (filed herewith). | | 32.1 | | | — | | Certification of the principal executive officer and the principal financial officer of the Company pursuant to 18 U.S.C. Section 1350 (filed herewith). |
| | | | | | | Exhibit | | | | Number | | Exhibit Name | | | | | | | 10 | .21* | | Form of Indemnification Agreement entered into between LII and certain executive officers and directors of LII (filed as Exhibit 10.15 to LII’s Registration Statement on Form S-1 (Registration No. 333-75725) filed on April 6, 1999 and incorporated herein by reference). | | | 10 | .22* | | Form of Employment Agreement entered into between LII and certain executive officers of LII (filed as Exhibit 10.1 to LII’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2000 and incorporated herein by reference). | | | 10 | .23* | | Form of Amended and Restated Change of Control Employment Agreement entered into between LII and certain executive officers of LII (filed as Exhibit 10.2 to LII’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2000 and incorporated herein by reference). | | | 10 | .24* | | Form of Change of Control Employment Agreement entered into between LII and each of Susan K. Carter and William F. Stoll, Jr. (filed as Exhibit 10.1 to LII’s Current Report on Form 8-K filed on August 31, 2005 and incorporated herein by reference). | | | 10 | .25 | | Second Amended and Restated Credit Agreement, dated July 8, 2005, among LII, Bank of America, N.A., as administrative agent, JPMorgan Chase Bank, N.A., as syndication agent, Banc of America Securities LLC and J.P. Morgan Securities, Inc., as Joint Lead Arrangers, and the other Lenders party thereto (filed as Exhibit 10.1 to LII’s Current Report on Form 8-K filed on July 12, 2005 and incorporated herein by reference). | | | 10 | .26 | | Second Amended and Restated Pledge Agreement, dated July 8, 2005, between LII and Bank of America, N.A., as collateral agent for itself and other creditors of LII under the Second Amended and Restated Credit Agreement (filed as Exhibit 10.2 to LII’s Current Report on Form 8-K filed on July 12, 2005 and incorporated herein by reference). | | | 10 | .27* | | Summary of Fiscal 2006 Target Short-Term Incentive Percentages for the Named Executive Officers of LII (filed as Exhibit 10.1 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 10 | .28* | | Summary of Fiscal 2006 Annual Compensation for the Non-Employee Members of the Board of Directors of LII (filed as Exhibit 10.2 to LII’s Current Report on Form 8-K filed on December 13, 2005 and incorporated herein by reference). | | | 21 | .1 | | Subsidiaries of LII (filed herewith). | | | 23 | .1 | | Consent of KPMG LLP (filed herewith). | | | 31 | .1 | | Certification of the principal executive officer (filed herewith). | | | 31 | .2 | | Certification of the principal financial officer (filed herewith). | | | 32 | .1 | | Certification of the principal executive officer and the principal financial officer of the Company pursuant to 18 U.S.C. Section 1350 (filed herewith). |
| | | * | Management contracts andcontract or compensatory plans and arrangements required to be filed as exhibits to this Form 10-K pursuant to Item 14(c).plan or arrangement. |
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