1 FORM 10 - Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended DECEMBER 31, 1997 . ---------------------------------- OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ___________ to ____________ Commission File Number 1-2299 ------- APPLIED INDUSTRIAL TECHNOLOGIES, INC. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Ohio 34-0117420 - -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) One Applied Plaza, Cleveland, Ohio 44115 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (216) 426-4000 -------------- - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Shares of common stock outstanding on January 31, 1998 22,047,962 --------------------------------------- (No par value)
2 APPLIED INDUSTRIAL TECHNOLOGIES, INC. ------------------------------------- INDEX - -------------------------------------------------------------------- <TABLE> <CAPTION> Page No. Part I: FINANCIAL INFORMATION <S> <C> <C> Item 1: Financial Statements Statements of Consolidated Income - 2 Three Months and Six Months Ended December 31, 1997 and 1996 Consolidated Balance Sheets - 3 December 31, 1997 and June 30, 1997 Statements of Consolidated Cash Flows 4 Six Months Ended December 31, 1997 and 1996 Statements of Consolidated Shareholders' Equity - 5 Six Months Ended December 31, 1997 and Year Ended June 30, 1997 Notes to Consolidated Financial Statements 6 - 10 Item 2: Management's Discussion and Analysis of 11 - 15 Financial Condition and Results of Operations Part II: OTHER INFORMATION 16 Item 1: Legal Proceedings 16 Item 4: Submission of Matters to a Vote of Security Holders 16 Item 5: Other Information 16 Item 6: Exhibits and Reports on Form 8-K 16 Signatures 18 </TABLE>
3 PART I: FINANCIAL INFORMATION ITEM I: Financial Statements APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ STATEMENTS OF CONSOLIDATED INCOME (Unaudited) (Thousands, except per share amounts) - -------------------------------------------------------------------------------- <TABLE> <CAPTION> Three Months Ended Six Months Ended December 31 December 31 1997 1996 1997 1996 --------------------------- --------------------------- <S> <C> <C> <C> <C> Net Sales $ 368,623 $ 274,992 $ 713,349 $ 557,241 --------- --------- --------- --------- Cost and Expenses Cost of sales 273,573 200,025 529,999 408,800 Selling, distribution and administrative 80,786 63,265 159,278 126,014 --------- --------- --------- --------- 354,359 263,290 689,277 534,814 --------- --------- --------- --------- Operating Income 14,264 11,702 24,072 22,427 --------- --------- --------- --------- Interest Interest expense 2,365 1,595 4,829 3,156 Interest income (200) (253) (478) (571) --------- --------- --------- --------- 2,165 1,342 4,351 2,585 --------- --------- --------- --------- Income Before Income Taxes 12,099 10,360 19,721 19,842 --------- --------- --------- --------- Income Taxes Federal 3,767 3,704 6,497 6,959 State and local 618 653 1,013 1,475 --------- --------- --------- --------- 4,385 4,357 7,510 8,434 --------- --------- --------- --------- Net Income $ 7,714 $ 6,003 $ 12,211 $ 11,408 ========= ========= ========= ========= Net Income per share - Basic $ 0.36 $ 0.32 $ 0.58 $ 0.62 ========= ========= ========= ========= Net Income per share - Diluted $ 0.35 $ 0.32 $ 0.57 $ 0.61 ========= ========= ========= ========= Cash dividends per common share $ 0.12 $ 0.11 $ 0.23 $ 0.20 ========= ========= ========= ========= </TABLE> See notes to consolidated financial statements. 2
4 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ CONSOLIDATED BALANCE SHEETS (Amounts in thousands) - -------------------------------------------------------------------------------- <TABLE> <CAPTION> December 31 June 30 1997 1997 ------------ --------- (Unaudited) Assets <S> <C> <C> Current assets Cash and temporary investments $ 14,284 $ 22,405 Accounts receivable, less allowance of $3,714 and $2,400 174,686 153,080 Inventories (at LIFO) 189,469 103,069 Other current assets 15,269 6,905 --------- --------- Total current assets 393,708 285,459 --------- --------- Property - at cost Land 13,346 12,281 Buildings 73,545 66,157 Equipment 78,909 81,132 --------- --------- 165,800 159,570 Less accumulated depreciation 62,854 68,809 --------- --------- Property - net 102,946 90,761 --------- --------- Goodwill 52,170 5,604 Other assets 17,867 12,290 --------- --------- TOTAL ASSETS $ 566,691 $ 394,114 ========= ========= Liabilities and Shareholders' Equity Current liabilities Notes payable $ 78,712 $ 25,415 Current portion of long-term debt 19,429 11,429 Accounts payable 77,804 49,469 Compensation and related benefits 20,725 19,025 Other accrued liabilities 22,579 15,398 --------- --------- Total current liabilities 219,249 120,736 Long-term debt 45,714 51,428 Other liabilities 27,321 14,366 --------- --------- TOTAL LIABILITIES 292,284 186,530 --------- --------- Shareholders' Equity Preferred Stock - no par value; 2,500 shares authorized; none issued or outstanding Common stock - no par value; 50,000 shares authorized; 24,095 and 20,931 shares issued 10,000 10,000 Additional paid-in capital 79,548 10,311 Income retained for use in the business 223,871 216,642 Less 2,183 and 2,310 treasury shares - at cost (26,532) (22,983) Less shares held in trust for deferred compensation plans (6,552) (5,436) Less unearned restricted common stock compensation (5,928) (950) --------- --------- TOTAL SHAREHOLDERS' EQUITY 274,407 207,584 --------- --------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 566,691 $ 394,114 ========= ========= </TABLE> See notes to consolidated financial statements. 3
5 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ STATEMENTS OF CONSOLIDATED CASH FLOWS (Unaudited) (Amounts in thousands) <TABLE> <CAPTION> Six Months Ended December 31 ------------------------------------------ 1997 1996 - --------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> Cash Flows from Operating Activities Net income $ 12,211 $ 11,408 Adjustments to reconcile net income to cash provided by (used in) operating activities: Depreciation 7,692 6,829 Provision for losses on accounts receivable 989 1,048 Gain on sale of property (250) (143) Amortization of restricted common stock compensation and goodwill 2,310 383 Treasury shares contributed to employee benefit plans 2,597 1,914 Changes in current assets and liabilities, net of effects from acquisition and disposal of businesses: Accounts receivable 18,791 14,995 Inventories (35,475) (11,176) Other current assets 5,025 (1,929) Accounts payable and accrued expenses (13,169) (16,021) Other - net 576 868 - --------------------------------------------------------------------------------------------------------------------------- Net Cash provided by Operating Activities 1,297 8,176 - --------------------------------------------------------------------------------------------------------------------------- Cash Flows from Investing Activities Property purchases (11,008) (6,636) Proceeds from property sales 2,373 1,657 Net cash paid for acquisition of businesses (33,809) Proceeds from sale of Aircraft Division 9,090 Deposits and other (1,928) 3,745 - --------------------------------------------------------------------------------------------------------------------------- Net Cash (used in) provided by Investing Activities (44,372) 7,856 - --------------------------------------------------------------------------------------------------------------------------- Cash Flows from Financing Activities Net borrowings (repayments) under Line-of-credit agreements 53,297 (4,950) Long-term debt repayments (6,361) (5,714) Exercise of stock options 791 264 Dividends paid (4,982) (3,724) Purchase of treasury shares (7,791) (4,269) - --------------------------------------------------------------------------------------------------------------------------- Net Cash provided by (used in) Financing Activities 34,954 (18,393) - --------------------------------------------------------------------------------------------------------------------------- Decrease in cash and temporary investments (8,121) (2,361) Cash and temporary investments at beginning of period 22,405 9,243 - --------------------------------------------------------------------------------------------------------------------------- Cash and Temporary Investments at End of Period $ 14,284 $ 6,882 =========================================================================================================================== Supplemental Cash Flow Information Cash paid during the period for: Income taxes $ 6,098 $ 9,425 Interest $ 4,607 $ 3,418 Significant noncash investing activity: Issuance of common stock for the acquisition of Invetech Company $ 63,374 </TABLE> See notes to consolidated financial statements. 4
6 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ STATEMENTS OF CONSOLIDATED SHAREHOLDERS' EQUITY For the Six Months Ended December 31, 1997 (Unaudited) and Year Ended June 30, 1997 (Thousands, except per share amounts ) <TABLE> <CAPTION> Shares of Income Shares Held in Common Additional Retained Treasury Trust for Stock Common Paid-in for Use in Shares Deferred Outstanding Stock Capital the Business - at Cost Compensation Plans - --------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Balance at July 1, 1996 18,566 $ 10,000 $ 7,528 $ 197,232 $ (21,260) $ (3,008) Net income 27,092 Cash dividends - $.41 per share (7,682) Purchase of common stock for treasury (249) (4,568) Treasury shares issued for: Retirement Savings Plan contributions 164 1,809 1,568 Exercise of stock options 78 342 747 Deferred compensation plans 53 532 463 (995) Restricted common stock awards 9 68 67 Amortization of restricted common stock compensation 32 Increase in fair value of shares held in trust (1,433) - --------------------------------------------------------------------------------------------------------------------------- Balance at June 30, 1997 18,621 10,000 10,311 216,642 (22,983) (5,436) Net income 12,211 Cash dividends - $.23 per share (4,982) Purchase of common stock for treasury (276) (7,791) Issuance of common stock for the acquisition of Invetech Company 3,165 63,374 Treasury shares issued for: Retirement Savings Plan contributions 88 1,613 984 Exercise of stock options 70 5 786 Deferred compensation plans 22 364 212 (576) Restricted common stock awards 222 3,881 2,260 Amortization of restricted common stock compensation Increase in fair value of shares held in trust (540) - --------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1997 21,912 $ 10,000 $ 79,548 $223,871 $ (26,532) $ (6,552) =========================================================================================================================== <CAPTION> Unearned Restricted Total Common Stock Shareholders' Compensation Equity - ------------------------------------------------------------------------ <S> <C> <C> Balance at July 1, 1996 $ (1,200) $ 189,292 Net income 27,092 Cash dividends - $.41 per share (7,682) Purchase of common stock for treasury (4,568) Treasury shares issued for: Retirement Savings Plan contributions 3,377 Exercise of stock options 1,089 Deferred compensation plans Restricted common stock awards (135) Amortization of restricted common stock compensation 385 417 Increase in fair value of shares held in trust (1,433) - -------------------------------------------------------------------- Balance at June 30, 1997 (950) 207,584 Net income 12,211 Cash dividends - $.23 per share (4,982) Purchase of common stock for treasury (7,791) Issuance of common stock for the acquisition of Invetech Company 63,374 Treasury shares issued for: Retirement Savings Plan contributions 2,597 Exercise of stock options 791 Deferred compensation plans Restricted common stock awards (6,141) Amortization of restricted common stock compensation 1,163 1,163 Increase in fair value of shares held in trust (540) - -------------------------------------------------------------------- Balance at December 31, 1997 $ (5,928) $ 274,407 ==================================================================== </TABLE> See notes to consolidated financial statements. 5
7 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands) (Unaudited) - -------------------------------------------------------------------------------- 1. BASIS OF PRESENTATION In the opinion of the Company, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the financial position as of December 31, 1997 and June 30, 1997, and the results of operations for the three months and six months ended December 31, 1997 and 1996, and cash flows for the six months ended December 31, 1997 and 1996. The results of operations for the three and six-month periods ended December 31, 1997 are not necessarily indicative of the results to be expected for the fiscal year. Cost of sales for interim financial statements are computed using estimated gross profit percentages which are adjusted throughout the year based upon available information. Adjustments to actual cost are made based on the annual physical inventory and the effect of year-end inventory quantities on LIFO costs. 2. NET INCOME PER SHARE Effective December 31, 1997, the Company adopted Statement of Financial Accounting Standards No. 128, Earnings per Share. All prior amounts have been restated to conform to the basic and diluted presentation. The impact to previously reported earnings per share amounts is not significant. All share and per share data have also been restated to reflect a three for two stock split effective September 15, 1997. 6
8 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except per share amounts) (Unaudited) - -------------------------------------------------------------------------------- The following is a computation of the basic and diluted earnings per share: <TABLE> <CAPTION> Three Months Ended Six Months Ended December 31 December 31 1997 1996 1997 1996 --------------------------------------------------- <S> <C> <C> <C> <C> Net Income - ---------- Net income as reported in statements of consolidated income $7,714 $6,003 $12,211 $11,408 =================================================== Average Shares Outstanding - -------------------------- Weighted average common shares outstanding for basic computation 21,604 18,496 21,130 18,494 Dilutive effect of: Stock options 357 209 353 211 Performance Accelerated Restricted Stock (PARS) 55 47 51 47 --------------------------------------------------- Adjusted average common shares outstanding for diluted computation 22,016 18,752 21,534 18,752 =================================================== Net Income Per Share - -------------------- Net income per common share - basic $0.36 $0.32 $0.58 $0.62 =================================================== Net income per common share - diluted $0.35 $0.32 $0.57 $0.61 =================================================== </TABLE> 7
9 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except per share amounts) (Unaudited) - -------------------------------------------------------------------------------- 3. BUSINESS COMBINATIONS Effective August 1, 1997, the Company completed the acquisition of Invetech Company (Invetech), a distributor of bearings, mechanical and electrical drive system products, industrial rubber products and specialty maintenance and repair products. The aggregate purchase price including the issuance of 2,110 shares of Company common stock, was $93,900. The cash portion of the purchase price of $23,400 was financed through available short-term lines of credit. The Company accounted for the acquisition as a purchase and has included Invetech's results of operations from the effective date of the acquisition. The Company incurred a pre-tax nonrecurring charge of $4,000 in the quarter ending December 31, 1997 for consolidation expenses and costs associated with disposal of duplicative property and other assets. The purchase price was allocated based on estimated fair values at the date of acquisition. Goodwill representing the excess of the purchase price over assets acquired of $35,840 is being amortized on a straight-line basis over 30 years. The following table summarizes the unaudited consolidated pro forma results of operations, as if the acquisition had occurred at the beginning of the following periods: <TABLE> <CAPTION> Six Months Ended December 31 1997 1996 ---- ---- (Unaudited) <S> <C> <C> Net sales $738,488 $711,743 Income before income taxes 18,806 22,028 Net income 11,662 13,185 Net income per share-basic .54 .61 Net income per share-diluted .53 .60 </TABLE> The unaudited pro forma amounts include the pre-tax nonrecurring charge of $4,000 for the six months ended December 31, 1997. This pro forma information is not necessarily indicative of the results that actually would have been obtained if the operations had been combined during the periods presented and is not intended to be a projection of future results. 8
10 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands) (Unaudited) - -------------------------------------------------------------------------------- On August 29, 1997 the Company acquired certain assets of Midwest Rubber and Supply Company, a rubber fabrication and repair shop for $2,383 in cash. The Company accounted for the acquisition as a purchase and has included their results of operations in the accompanying consolidated financial statements from the acquisition date. Results of operations are not material for all periods presented. Goodwill recognized in connection with the acquisition is being amortized over 15 years. During the quarter ended December 31, 1997 the Company acquired the stock of Air and Hydraulics Engineering, Inc. and Power Hydraulics, Inc., distributors of hydraulic, pneumatic and electro-hydraulic components, systems and related fluid power engineering services, for a total of $8,486. The acquisitions of these businesses were accounted for as purchases and their results of operations are included in the accompanying consolidated financial statements from their respective acquisition dates. Results of operations for these acquisitions are not material for all periods presented. Goodwill recognized in connection with these combinations is being amortized over 15 years. 4. LONG-TERM DEBT In connection with the Invetech acquisition, the Company assumed an $8,000 bank term loan, at an interest rate of 5.97%, payable in December 1998. 9
11 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands) (Unaudited) - -------------------------------------------------------------------------------- 5. SUBSEQUENT EVENTS In January 1998 the Company borrowed $50,000 of long-term debt under a shelf facility agreement with The Prudential Insurance Company of America. Proceeds from these 6.6% Senior Unsecured Term Notes were used to repay short-term debt. Interest is payable quarterly. The principal amount is to be paid in December 2007. In January 1998 the Company acquired the stock of Associated Bearings Company, a distributor of bearings, power transmission products and industrial supplies, for 123 shares of stock and $1,409 in cash. The Company will account for the acquisition as a purchase. On January 15, 1998 the Company's Board of Directors adopted a Shareholder Rights Plan and declared a dividend distribution of one preferred share purchase Right for each outstanding share of Company common stock held of record as of February 2, 1998. The rights become exercisable only if a person or group acquires beneficial ownership of 20% or more of the Company's common stock or commences a tender or exchange offer for 20% or more of the Company's common stock, unless the tender or exchange offer is for all outstanding shares of the Company upon terms determined by the Company's continuing directors to be in the best interests of the Company and its shareholders. When exercisable, the Rights would entitle the holders (other than the acquirer) to buy shares of the Company's common stock having a market value equal to two times the Right's exercise price or, in certain circumstances, to buy shares of the acquiring company having a market value equal to two times the Right's exercise price. 10
12 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS For Quarter and Six Months Ended December 31, 1997 - -------------------------------------------------------------------------------- The following is Management's discussion and analysis of certain significant factors which have affected the Company's: (1) financial condition at December 31, 1997 and June 30, 1997, and (2) results of operations during the periods included in the accompanying statements of Consolidated Income and Consolidated Cash Flows. FINANCIAL CONDITION Liquidity and Working Capital - ----------------------------- Cash provided by operating activities was $1.3 million in the six months ended December 31, 1997. This compares to $8.2 million provided by operating activities in the same period a year ago. Cash flow from operations depends primarily upon generating operating income and controlling the investment in inventories and receivables, and managing the timing of payments to suppliers. The Company has continuing programs to monitor and control these investments. During the six- month period ended December 31, 1997 inventories (excluding inventories purchased in the Invetech transaction and other acquisitions) increased approximately $35.5 million due to timing of purchases relating to the calendar year end. Accounts receivable, exclusive of receivables acquired in the Invetech transaction and other acquisitions, decreased by $18.8 million due to improved collections and traditionally lower sales during the first six-month period of our fiscal year as compared to the last six months of the year. Investments in property totaled $11.0 million and $6.6 million in the six months ended December 31, 1997 and 1996 respectively. These capital expenditures were primarily made for building and upgrading branch and distribution center facilities, and acquiring data processing equipment and vehicles. In January 1998 the Company entered into an agreement to build a new distribution center in the city of Corona, California, in the greater Los Angeles area. Construction on this 160,000 square foot facility is expected to begin shortly and be completed by December 1998. This build-to-suit facility will be leased by the Company under a 10 year lease which is expected to be accounted for as an operating lease. The Company is planning to move out of its current Corona Distribution Center and into the new facility upon expiration of its current lease at the end of November 1998. Working capital at December 31, 1997 was $174.5 million compared to $164.7 million at June 30, 1997. This increase is primarily due to the acquisition of Invetech and other companies. 11
13 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Capital Resources - ----------------- Capital resources are obtained from income retained in the business, indebtedness under the Company's lines of credit and long-term debt agreements, and operating lease arrangements. Average combined short-term and long-term borrowing was $107.9 million for the six months ended December 31, 1997 and $89.4 million during the year ended June 30, 1997. The average effective interest rate on the short-term borrowings for the six months ended December 31, 1997 decreased to 6.0% from an average rate of 6.4% for the six months ended December 31, 1996 due to lower interest rates on short-term debt. The Company has $155 million of short-term lines of credit with commercial banks that provide for payment of interest at various interest rate options, none of which are in excess of the banks' prime rate. The Company had $78.7 million of borrowings outstanding under short-term bank lines of credit on December 31, 1997. Unused lines of credit totaling $76.3 million are available for future short-term financing needs. In January 1998 the Company borrowed $50 million at a 6.6% interest rate with a ten-year term under a previously unused $50 million shelf facility agreement in place with The Prudential Insurance Company of America. The Board of Directors has authorized an ongoing program to purchase shares of the Company's common stock to fund employee benefit programs and stock option and award programs. These purchases are made in open market and negotiated transactions, from time to time, depending upon market conditions. The Company acquired 276,000 shares of its common stock for $7.8 million during the six months ended December 31, 1997. Management expects that capital resources provided from operations, available lines of credit and long-term debt and operating leases will be sufficient to finance normal working capital needs, business acquisitions, enhancement of facilities and equipment and the purchase of additional Company common stock. Management also believes that additional long-term debt and line of credit financing could be obtained if desired. Year 2000 Issue - --------------- The Company has constituted a Year 2000 executive task force. This task force will meet monthly and report directly to the Audit Committee of the Board of Directors. The executive task force is made up of representatives from all key management areas of the Company and will review not only activities relative to its own internal operating systems, but also Year 2000 issues as they relate to suppliers and customers. A program office has been set up to monitor the detailed written plans submitted by the management areas relative to actions, time schedules, resources and costs. Additionally, the Company is in the process of retaining an outside Year 2000 consultant to provide the executive task force and the Audit Committee with an independent assessment of the Company's Year 2000 efforts. The Company expects that the initial draft of the detailed plan will be prepared by the end of its third quarter ending March 31, 1998. Thereafter, the Company will be in a position to make a reasonable estimate of the costs and uncertainties associated with Year 2000 issues. The Company expects that the actions outlined above will significantly reduce the likelihood that Year 2000 issues would have a material adverse effect on the Company's business, financial condition or results of operations. 12
14 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- RESULTS OF OPERATIONS - --------------------- A summary of the period-to-period changes in principal items included in the statements of consolidated income follows: <TABLE> <CAPTION> Increase (Decrease) (Dollars in Thousands Except per Share Amounts) Three Months Ended Six Months Ended December 31 December 31 1997 and 1996 1997 and 1996 Amount Change Amount Change ------ ------ ------ ------ <S> <C> <C> <C> <C> Net sales $93,631 34.0% $156,108 28.0% Cost of sales 73,548 36.8% 121,199 29.6% Selling,distribution and administrative expenses 17,521 27.7% 33,264 26.4% Operating income 2,562 21.9% 1,645 7.3% Interest expense - net 823 61.3% 1,766 68.3% Income before income taxes 1,739 16.8% (121) (.6%) Income taxes 28 .6% (924) (11.0%) Net income 1,711 28.5% 803 7.0% Net income per share - diluted .03 9.4% (.04) (6.6%) </TABLE> 13
15 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Three Months Ended December 31, 1997 and 1996 - --------------------------------------------- The increase in net sales, cost of sales and selling, distribution and administrative expenses from the prior year relate primarily to the operations of Invetech. Gross profit as a percentage of sales decreased to 25.8% from 27.3%. These decreases primarily relate to higher freight costs, lower purchase allowances and changes in the product mix due to the Invetech acquisition. Selling, distribution and administrative expenses as a percent of sales, decreased to 21.9% from 23.0% The decrease was primarily from lower compensation costs and data processing expense and additional gains on the sale of assets offset by increases in employee benefits and additional outsourcing expenses as a percent of sales. Interest expense-net for the quarter increased by 61.3% primarily as a result of an increase in average borrowings related to the Invetech acquisition. Income taxes as a percentage of income before taxes were 36.2% in the quarter ended December 31, 1997 and 42.0% in the quarter ended December 31, 1996. The decrease is primarily attributed to tax savings from lower effective state and local income tax rates and adjustment of the tax liability accounts from a change in estimates. As a result of the above factors, net income increased by 28.5% compared to the same quarter of last year. Net income per share - diluted increased by 9.4% due to the impact of increased net income and increases in the number of shares outstanding primarily from the acquisition of Invetech in August 1997. Six Months Ended December 31, 1997 and 1996 - ------------------------------------------- The Company acquired Invetech effective August 1, 1997. Invetech's operations were consolidated with those of the Company as of the acquisition date. The increase in net sales, cost of sales and selling, distribution and administrative expenses from the prior year relate primarily to the operations of Invetech. During the period ended December 31, 1997, the Company incurred a pre-tax nonrecurring charge of $4,000 included in selling, distribution and administrative expenses for consolidation expenses and costs associated with disposal of duplicative property and other assets related to the Invetech acquisition. Gross profit as a percent of sales was 25.7% compared to 26.6%. These decreases primarily relate to higher freight costs, lower purchase allowances and changes in the product mix due to the Invetech acquisition. 14
16 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ----------------------------------- Selling, distribution and administrative expenses, as a percent of sales, decreased to 22.3% compared to 22.6%. The decrease was primarily due to lower compensation costs, data processing expenses and capitalized warehousing costs offset by the restructuring charge. Interest expense-net for the period increased by 68.3% primarily as a result of an increase in average borrowings related to the Invetech acquisition. Income taxes as a percentage of income before taxes were 38.1% in the six months ended December 31, 1997 and 42.5% in the six months ended December 31, 1996. The decrease is primarily attributed to tax savings from lower effective state and local income tax rates and adjustments to the tax liability accounts from a change in estimate. As a result of the above factors, net income increased by 7.0% compared to the same period last year. Net income per share - diluted decreased by 6.6% due to the impact of the 7.0% increase in net income and primarily from the issuance of 3.2 million shares for the acquisition of Invetech in August 1997. CAUTIONARY STATEMENT UNDER PRIVATE SECURITIES LITIGATION REFORM ACT - ------------------------------------------------------------------- Management's discussion and analysis contains statements that are forward-looking, as that term is defined by the Private Securities Litigation Reform Act of 1995 or by the Securities and Exchange Commission in its rules, regulations and releases. The Company intends that such forward-looking statements be subject to the safe harbors created thereby. All forward-looking statements are based on current expectations regarding important risk factors. Accordingly, actual results may differ materially from those expressed in the forward-looking statements, and the making of such statements should not be regarded as a representation by the Company or any other person that the results expressed therein will be achieved. Important risk factors include, but are not limited to, the following: changes in the economy or in specific customer industry sectors; changes in customer procurement policies and practices; changes in product manufacturer sales policies and practices; the availability of product; changes in operating expenses; the effect of price increases; the variability and timing of business opportunities including acquisitions, customer agreements, supplier authorizations and other business strategies; the Company's ability to realize the anticipated benefits of acquisitions; the Company's ability to complete, in a timely manner and within cost estimates, its Year 2000 project; changes in accounting policies and practices; the effect of organizational changes within the Company; adverse results in significant litigation matters; adverse state and federal regulation and legislation; and the occurrence of extraordinary events (including prolonged labor disputes, natural events and acts of God, fires, floods and accidents). 15
17 PART II. OTHER INFORMATION ITEM 1. Legal Proceedings. ----------------- (a) The Company incorporates by reference herein the description of the case captioned KING BEARING, INC. V. CARYL EDMUND ORANGES, ET AL., Superior Court of the State of California, County of Orange, Case No. 53-42-31 found in Item 3 "Pending Legal Proceedings" contained in the Company's Form 10-K for the fiscal year ended June 30, 1997. The Company believes that this case will have no material adverse effect on its business or financial condition. (b) Applied Industrial Technologies, Inc. and/or one of its subsidiaries is a defendant in several product-related lawsuits. Based on circumstances presently known, the Company believes that these cases are not material to its business or financial condition. ITEM 4. Submission of Matters to a Vote of Security Holders. ---------------------------------------------------- At the Annual Meeting of Shareholders of the Company held on October 21, 1997, the Shareholders (i) elected John C. Dannemiller, J. Michael Moore, John C. Robinson and Dr. Jerry Sue Thornton as Directors of Class I for a term expiring in 2000, (ii) adopted an amendment to the Company's Amended and Restated Articles of Incorporation increasing the number of authorized shares of Common Stock, without par value, to 50,000,000, (iii) adopted an amendment to the Company's 1990 Long-Term Performance Plan, and (iv) ratified the appointment of Deloitte & Touche LLP as independent auditors of the Company for the fiscal year ending June 30, 1998. Substantially the same information was previously reported in Part II, Item 5 "Other Information" of the Company's Form 10-Q for the quarter ended September 30, 1997. ITEM 5. Other Information. ------------------ On February 2, 1998, John C. Robinson, Vice Chairman of the Company, died of cancer at the age of 55 after over 30 years of service to the Company. ITEM 6. Exhibits and Reports on Form 8-K. --------------------------------- (a) Exhibits. --------- Exhibit No. Description ----------- ----------- 4(a) Amended and Restated Articles of Incorporation of Applied Industrial Technologies, Inc., as amended on November 5, 1997. 16
18 4(b) Code of Regulations of Applied Industrial Technologies, Inc. adopted September 6, 1988 (filed as Exhibit 3(b) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801, and incorporated here by reference). 4(c) Certificate of Merger of Bearings, Inc. (Ohio) and Bearings, Inc. (Delaware) filed with the Ohio Secretary of State on October 18, 1988, including an Agreement and Plan of Reorganization dated September 6, 1988 (filed as Exhibit 4(a) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801, and incorporated here by reference). 4(d) $80,000,000 Maximum Aggregate Principal Amount Note Purchase and Private Shelf Facility dated October 31, 1992 between the Company and The Prudential Insurance Company of America (filed as Exhibit 4(b) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801, and incorporated here by reference). 4(e) Amendment to $80,000,000 Maximum Aggregate Principal Amount Note Purchase and Private Shelf Facility dated October 31, 1992 between the Company and The Prudential Insurance Company of America (filed as Exhibit 4(g) to the Company's Form 10-Q for the quarter ended March 31, 1996, SEC File No. 1-2299, and incorporated here by reference). 10(a) 1997 Long-Term Performance Plan. 10(b) Description of Life Insurance and Accidental Death and Dismemberment Insurance programs for executive officers. 10(c) Description of Long-Term Disability Insurance program for executive officers. 10(d) Schedule pursuant to Instruction 2 of Item 601(a) of Regulation S-K identifying the directors and executive officers executing Director and Officer Indemnification Agreements. 17
19 10(e) Schedule pursuant to Instruction 2 of Item 601(a) of Regulation S-K identifying the executive officers who have signed an Executive Severance Agreement and setting forth the material details in which the agreements differ from the form of agreement filed as Exhibit 4(b) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801. 11 Computation of Net Income Per Share. 27 Financial Data Schedule. (b) The Company did not file, nor was it required to file, a Report on Form 8-K with the Securities and Exchange Commission during the quarter ended December 31, 1997. SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. APPLIED INDUSTRIAL TECHNOLOGIES, INC. (Company) Date: February 16, 1998 By: /s/ John R. Whitten --------------------------------------- John R. Whitten Vice President-Chief Financial Officer & Treasurer Date: February 16, 1998 By: /s/ Mark O. Eisele --------------------------------------- Mark O. Eisele Vice President & Controller 18
20 APPLIED INDUSTRIAL TECHNOLOGIES, INC. EXHIBIT INDEX TO FORM 10-Q FOR THE QUARTER ENDED DECEMBER 31, 1997 <TABLE> <CAPTION> EXHIBIT NO. DESCRIPTION PAGE <S> <C> <C> 4(a) Amended and Restated Articles of Incorporation of Applied Industrial Technologies, Inc., as amended on November 5, 1997. Attached 4(b) Code of Regulations of Applied Industrial Technologies, Inc., adopted September 6, 1988 (filed as Exhibit 3(b) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801, and incorporated here by reference). 4(c) Certificate of Merger of Bearings, Inc. (Ohio) and Bearings, Inc. (Delaware) filed with the Ohio Secretary of State on October 18, 1988, including an Agreement and Plan of Reorganization dated September 6, 1988 (filed as Exhibit 4(a) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801, and incorporated here by reference). 4(d) $80,000,000 Maximum Aggregate Principal Amount Note Purchase and Private Shelf Facility dated October 31, 1992 between the Company and The Prudential Insurance Company of America (filed as Exhibit 4(b) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801, and incorporated here by reference). </TABLE> 19
21 <TABLE> <S> <C> <C> 4(e) Amendment to $80,000,000 Maximum Aggregate Principal Amount Note Purchase and Private Shelf Facility dated October 31, 1992 between the Company and The Prudential Insurance Company of America (filed as Exhibit 4(g) to the Company's Form 10-Q for the quarter ended March 31, 1996, SEC File No. 1-2299, and incorporated here by reference). 10(a) 1997 Long-Term Performance Plan. Attached 10(b) Description of Life Insurance and Accidental Death and Dismemberment Insurance programs for executive officers. Attached 10(c) Description of Long-Term Disability Insurance program for executive officers. Attached 10(d) Schedule pursuant to Instruction 2 of Item 601(a) of Regulation S-K identifying the directors and executive officers executing director and officer indemnification agreements. Attached 10(e) Schedule pursuant to Instruction 2 of Item 601(a) of Regulation S-K identifying the executive officers who have signed an Executive Severance Agreement and setting forth the material details in which the agreements differ from the form of agreement filed as Exhibit 4(b) to the Company's Registration Statement on Form S-4 filed May 23, 1997, Registration No. 333-27801. Attached 11 Computation of Net Income Per Share. Attached 27 Financial Data Schedule. Attached </TABLE>