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, 1998 . ------------------------------------------- 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, 1999 21,652,085 ---------------------------------------- (No par value)
2 APPLIED INDUSTRIAL TECHNOLOGIES, INC. ------------------------------------- INDEX <TABLE> <CAPTION> - ------------------------------------------------------------------ Page No. Part I: FINANCIAL INFORMATION <S> <C> Item 1: Financial Statements Statements of Consolidated Income - 2 Three Months and Six Months Ended December 31, 1998 and 1997 Consolidated Balance Sheets - 3 December 31, 1998 and June 30, 1998 Statements of Consolidated Cash Flows - 4 Six Months Ended December 31, 1998 and 1997 Statements of Consolidated Shareholders' Equity - 5 Six Months Ended December 31, 1998 and Year Ended June 30, 1998 Notes to Consolidated Financial Statements 6 - 8 Item 2: Management's Discussion and Analysis of 9 - 14 Financial Condition and Results of Operations Part II: OTHER INFORMATION Item 1: Legal Proceedings 15 Item 4: Submission of Matters to a Vote of Security Holders 15 Item 5: Other Information 15 Item 6: Exhibits and Reports on Form 8-K 15 Signatures 17 </TABLE>
3 PART I: FINANCIAL INFORMATION ITEM I: Financial Statements <TABLE> <CAPTION> APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ STATEMENTS OF CONSOLIDATED INCOME (Unaudited) (Thousands, except per share amounts) - ------------------------------------------------------------------------------------------------------------------------------------ Three Months Ended Six Months Ended December 31 December 31 1998 1997 1998 1997 ------------------------------ ------------------------------- <S> <C> <C> <C> <C> Net Sales $ 371,395 $ 368,623 $ 750,569 $ 713,349 --------- --------- --------- --------- Cost and Expenses Cost of sales 279,160 273,573 563,837 529,999 Selling, distribution and administrative 81,808 80,786 171,533 159,278 --------- --------- --------- --------- 360,968 354,359 735,370 689,277 --------- --------- --------- --------- Operating Income 10,427 14,264 15,199 24,072 --------- --------- --------- --------- Interest Interest expense 3,080 2,365 5,738 4,829 Interest income (145) (200) (331) (478) --------- --------- --------- --------- 2,935 2,165 5,407 4,351 --------- --------- --------- --------- Income Before Income Taxes 7,492 12,099 9,792 19,721 --------- --------- --------- --------- Income Taxes Federal 2,770 3,767 3,624 6,497 State and local 334 618 422 1,013 --------- --------- --------- --------- 3,104 4,385 4,046 7,510 --------- --------- --------- --------- Net Income $ 4,388 $ 7,714 $ 5,746 $ 12,211 ========= ========= ========= ========= Net Income per share - Basic $ 0.20 $ 0.36 $ 0.27 $ 0.58 ========= ========= ========= ========= Net Income per share - Diluted $ 0.20 $ 0.35 $ 0.26 $ 0.57 ========= ========= ========= ========= Cash dividends per common share $ 0.12 $ 0.12 $ 0.24 $ 0.23 ========= ========= ========= ========= </TABLE> See notes to consolidated financial statements. 2
4 <TABLE> <CAPTION> APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ CONSOLIDATED BALANCE SHEETS (Amounts in thousands) - ------------------------------------------------------------------------------------------------------------------------------- December 31 June 30 1998 1998 ------------------ ------------------ (Unaudited) <S> <C> <C> Assets Current assets Cash and temporary investments $ 13,808 $ 9,344 Accounts receivable, less allowance of $3,772 and $3,500 186,199 206,313 Inventories (at LIFO) 187,581 192,042 Other current assets 8,946 7,214 ------------------ ------------------ Total current assets 396,534 414,913 ------------------ ------------------ Property - at cost Land 12,387 12,363 Buildings 68,108 69,103 Equipment 98,177 94,705 ------------------ ------------------ 178,672 176,171 Less accumulated depreciation 68,414 63,102 ------------------ ------------------ Property - net 110,258 113,069 ------------------ ------------------ Goodwill 59,436 53,243 Other assets 19,151 24,866 ------------------ ------------------ TOTAL ASSETS $ 585,379 $ 606,091 ================== ================== Liabilities and Shareholders' Equity Current liabilities Notes payable $ 42,973 Current portion of long-term debt 19,429 Accounts payable $ 77,262 79,091 Compensation and related benefits 20,101 22,702 Other accrued liabilities 34,933 28,952 ------------------ ------------------ Total current liabilities 132,296 193,147 Long-term debt 137,715 90,000 Other liabilities 23,824 23,442 ------------------ ------------------ TOTAL LIABILITIES 293,835 306,589 ------------------ ------------------ 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 shares issued 10,000 10,000 Additional paid-in capital 82,836 82,865 Income retained for use in the business 236,301 235,957 Less 2,477 and 1,993 treasury shares - at cost (33,053) (24,391) Less unearned restricted common stock compensation (4,540) (4,929) ------------------ ------------------ TOTAL SHAREHOLDERS' EQUITY 291,544 299,502 ------------------ ------------------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 585,379 $ 606,091 ================== ================== </TABLE> See notes to consolidated financial statements. 3
5 <TABLE> <CAPTION> APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ STATEMENTS OF CONSOLIDATED CASH FLOWS (Unaudited) (Amounts in thousands) Six Months Ended December 31 -------------------------------------- 1998 1997 - -------------------------------------------------------------------------------------------------------------------------- Cash Flows from Operating Activities <S> <C> <C> Net income $ 5,746 $ 12,211 Adjustments to reconcile net income to cash provided by operating activities: Depreciation 8,421 7,692 Amortization of goodwill and restricted common stock compensation 2,432 2,310 Provision for losses on accounts receivable 1,008 989 Gain on sale of property (126) (250) Treasury shares contributed to employee benefit plans 2,065 2,597 Changes in current assets and liabilities, net of effects from acquisition of businesses: Accounts receivable 19,587 18,791 Inventories 5,118 (35,475) Other current assets (1,654) 5,025 Accounts payable and accrued expenses 989 (13,169) Other - net 193 576 - ------------------------------------------------------------------------------------------------------------------- Net Cash provided by Operating Activities 43,779 1,297 - ------------------------------------------------------------------------------------------------------------------- Cash Flows from Investing Activities Property purchases (7,603) (11,008) Proceeds from property sales 2,405 2,373 Net cash paid for acquisition of businesses (10,460) (33,809) Deposits and other 7,363 (1,928) - ------------------------------------------------------------------------------------------------------------------- Net Cash used in Investing Activities (8,295) (44,372) - ------------------------------------------------------------------------------------------------------------------- Cash Flows from Financing Activities Net borrowings (repayments) under line-of-credit agreements (42,973) 53,297 Long-term debt borrowings 42,000 Long-term debt repayments (13,714) (6,361) Exercise of stock options 490 791 Dividends paid (5,258) (4,982) Purchase of treasury shares (11,565) (7,791) - ------------------------------------------------------------------------------------------------------------------- Net Cash provided by (used in) Financing Activities (31,020) 34,954 - ------------------------------------------------------------------------------------------------------------------- Increase (decrease ) in cash and temporary investments 4,464 (8,121) Cash and temporary investments at beginning of period 9,344 22,405 - ------------------------------------------------------------------------------------------------------------------- Cash and Temporary Investments at End of Period $ 13,808 $ 14,284 =================================================================================================================== Supplemental Cash Flow Information Cash paid during the period for: Income taxes $ 1,134 $ 6,098 Interest $ 5,333 $ 4,607 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 <TABLE> <CAPTION> APPLIED INDUSTIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ----------------------------------------------------- STATEMENTS OF CONSOLIDATED SHAREHOLDERS' EQUITY For the Six Months Ended December 31, 1998 (Unaudited) and Year Ended June 30, 1998 (Thousands, except per share amounts ) Income Unearned Total Shares of Additional Retained Treasury Restricted Share- Common Stock Common Paid-in for Use in Shares Common Stock holders' Outstanding Stock Capital the Business - at Cost Compensation Equity - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> <C> <C> <C> <C> Balance at July 1, 1997 18,621 $ 10,000 $ 10,311 $ 216,496 $ (22,983) $ (950) $ 212,874 Net income 30,125 30,125 Cash dividends - $.47 per share (10,277) (10,277) Purchase of common stock for treasury (291) (8,148) (8,148) Issuance of common stock for the acquisition of Invetech Company 3,165 63,374 63,374 Treasury shares issued for: Retirement Savings Plan contributions 152 2,430 1,777 4,207 Exercise of stock options 103 610 1,179 1,789 Deferred compensation plans 28 450 288 738 Restricted common stock awards 201 3,560 2,005 (5,565) Acquisition of Associated Bearings 123 1,770 1,491 3,261 Amortization of restricted common stock compensation 360 1,586 1,946 Other (387) (387) - ----------------------------------------------------------------------------------------------------------------------------------- Balance at June 30, 1998 22,102 10,000 82,865 235,957 (24,391) (4,929) 299,502 Net income 5,746 5,746 Cash dividends - $.24 per share (5,258) (5,258) Purchase of common stock for treasury (707) (11,565) (11,565) Treasury shares issued for: Retirement Savings Plan contributions 130 382 1,683 2,065 Exercise of stock options 63 (349) 839 490 Deferred compensation plans 11 51 142 193 Restricted common stock awards 19 (113) 239 (126) Amortization of restricted common stock compensation 515 515 Other (144) (144) - ----------------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1998 21,618 $ 10,000 $ 82,836 $ 236,301 $ (33,053) $ (4,540) $ 291,544 =================================================================================================================================== </TABLE> See notes to consolidated financial statements. 5
7 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except per share amounts) (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, 1998 and June 30, 1998, and the results of operations for the three months ended and six months ended December 31, 1998 and 1997, and cash flows for the six months ended December 31, 1998 and 1997. The results of operations for the three and six month periods ended December 31, 1998 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 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 1998 1997 1998 1997 --------------------------------------------------- <S> <C> <C> <C> <C> NET INCOME Net income as reported in statements of consolidated income $4,388 $7,714 $5,746 $12,211 =================================================== AVERAGE SHARES OUTSTANDING Weighted average common shares outstanding for basic computation 21,436 21,604 21,634 21,130 Dilutive effect of: Stock options 93 357 112 353 Performance Accelerated Restricted Stock (PARS) 8 55 9 51 --------------------------------------------------- Adjusted average common shares outstanding for diluted computation 21,537 22,016 21,755 21,534 =================================================== NET INCOME PER SHARE Net income per common share - basic $0.20 $0.36 $0.27 $0.58 =================================================== Net income per common share - diluted $0.20 $0.35 $0.26 $0.57 =================================================== </TABLE> 6
8 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except per share amounts) (Unaudited) - -------------------------------------------------------------------------------- 3. DEBT During the quarter ended December 31, 1998, the Company replaced its existing short-term lines of credit with a committed revolving credit agreement with a five year term with a group of lending institutions. This agreement provides for unsecured borrowings of up to $150,000 at various interest rate options, none of which is in excess of the banks' prime rate at interest determination dates. Borrowings under this agreement totaled $42,000 at December 31, 1998. Fees on this facility range from .12% to .40% per year on the average amount of the total revolving credit commitments during the year. This facility enables the Company to refinance short-term debt on a long-term basis. Accordingly, the current portion of long-term borrowings intended to be refinanced are classified as long-term debt. Unused lines under this facility totaling $108,000 are available to fund future acquisitions or other capital and operating requirements. 4. BUSINESS COMBINATIONS During the six months ended December 31, 1998 the Company acquired three distributors for a total purchase price of $12,300. Two of the companies are distributors of bearings, mechanical and electrical drive systems and industrial products. The third company is a distributor of fluid power products. The acquisitions 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 are being amortized over periods of 15 to 20 years. 5. TREASURY SHARES At December 31, 1998, 476 shares of the Company's common stock held as treasury shares are restricted as collateral under escrow arrangements relating to certain change in control and director and officer indemnification agreements. 6. NEW ACCOUNTING PRONOUNCEMENTS In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures About Segments of an Enterprise and Related Information". This statement establishes standards for the reporting of financial information about reportable segments in annual and interim financial statements. SFAS No. 131 also requires disclosure of revenues from each group of products and services, geographic areas and major customers. This statement is effective for the June 7
9 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except per share amounts) (Unaudited) - -------------------------------------------------------------------------------- 30, 1999 financial statements. The Company has not completed its evaluation of the impact SFAS No. 131 will have on its financial statement disclosures. Effective July 1, 1998, the Company adopted Statement of Position (SOP) 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". Adoption of this SOP did not have a material impact on the consolidated financial statements. During the quarter ended September 30, 1998, the Company adopted the Emerging Issues Task Force (EITF) Issue No. 97-14, "Accounting for Deferred Compensation Arrangements Where Amounts Earned are Held in a Rabbi Trust and Invested". All prior periods have been restated to conform to the new presentation. 8
10 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- The following is Management's Discussion and Analysis of certain significant factors which have affected the Company's: (1) financial condition at December 31, 1998 and June 30, 1998, and (2) results of operations and cash flows 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 $43.8 million in the six months ended December 31, 1998. This compares to $1.3 million provided by operating activities in the same period a year ago. Cash flow from operations depends primarily upon generating operating income, 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, 1998, inventories decreased approximately $5.1 million due to Company efforts to reduce inventory levels. Accounts receivable decreased $19.6 million due to a slowing of sales in comparison to the previous two quarters. Cash used in investing activities was $7.9 million in the six months ended December 31, 1998 as compared to $44.4 million for the period ended December 31, 1997. The primary reason for the decrease was the net cash paid for the Invetech and other acquisitions in the prior year. Also contributing to the decrease were lower property and equipment purchases of approximately $3.5 million. The Company is building a new 160,000 square foot distribution center in the city of Fontana, California, in the greater Los Angeles area. Construction is expected to be completed by the end of the third quarter of fiscal 1999. 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 in March 1999 upon completion of the new facility. Working capital at December 31, 1998 was $264.2 million compared to $221.8 million at June 30, 1998. This increase is primarily due to refinancing of short-term debt and reclassification of other current obligations as long-term debt as these borrowings are intended to be refinanced under the new revolving credit facility. CAPITAL RESOURCES Capital resources are obtained from income retained in the business, indebtedness under the Company's debt agreements, and operating lease arrangements. Average combined short-term and long-term borrowing was $150.4 and $107.9 million for the six months ended December 31, 1998 and 1997, respectively. The weighted average interest rate on borrowings under revolving 9
11 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- credit facilities for the six months ended December 31, 1998 decreased to 5.9% from an average rate of 6.0% for the six months ended December 31, 1997. In November 1998, the Company entered into a committed revolving credit agreement with a five year term with a group of lending institutions. This agreement provides for unsecured borrowings of up to $150 million. This facility was used to pay down the current short term line of credit borrowings. The Company had $42.0 million of borrowings outstanding under this facility at December 31, 1998. Unused lines under this facility totaling $108.0 million are available to fund future acquisitions or other capital and operating requirements. In January 1999, the Company entered into an agreement with a commercial bank for a $15 million short-term uncommitted line of credit. The Board of Directors has authorized an ongoing program to purchase shares of the Company's common stock to fund employee benefit programs, stock option and award programs, and future acquisitions. These purchases are made in open market and negotiated transactions, from time to time, depending upon market conditions. The Company acquired 707,000 shares of its common stock for $11.6 million during the six months ended December 31, 1998. The Company has remaining authorization to acquire up to 776,000 shares of Company stock. 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 READINESS DISCLOSURE The Company's progress in completing its Year 2000 activities is overseen by an executive task force made up of representatives from all key management areas. The task force in turn reports to the audit committee of the Board of Directors. Additionally, the Company has retained an outside Year 2000 consultant to provide an independent assessment of the Company's Year 2000 compliance efforts. The Company's plan for assessment, remediation, replacement and testing of those of its internal computer systems affected by the Year 2000 issue is proceeding on schedule. For business reasons, the Company's financial information systems are being replaced with a new Year 2000-compliant system. Certain modules of the new financial information system are already in use and the Company expects that the complete system will be operating by early calendar year 1999. The Company's OMNEX(R) inventory and sales information system and customer billing system have been remediated and tested, and are now Year 2000-compliant. In addition, the Company has completed its assessment and remediation, and is currently conducting testing, of its other critical systems, including its corporate information system. The Company expects to have completed testing of these systems in early calendar year 1999. 10
12 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- The Year 2000 issue also affects certain of the Company's non-critical computer systems and equipment containing embedded technology. The Company has largely completed its assessment of these non-critical systems, and remediation and testing are scheduled to be completed by various dates before the end of calendar year 1999. If the requisite changes to the Company's critical systems are not made or completed in a timely manner, then the Year 2000 issue could have a material adverse effect on the Company's business, financial condition, results of operations, or cash flow. For example, the Company could be rendered unable to process ordinary business transactions electronically. The Company's order fulfillment process could be interrupted, leaving the Company unable to fulfill commitments to customers. To reduce the risk of business interruption, the Company is preparing contingency plans to operate its field locations without computers. These plans are scheduled to be completed by various dates before the end of calendar year 1999. Nearly all of the products sold by the Company do not contain date logic. The Company is attempting, through contacts with its product suppliers, to identify any products sold by the Company that are susceptible to the Year 2000 issue. The Company has sought written assurances from key product and service suppliers as to their Year 2000 compliance plans. Follow-up interviews are being conducted with those suppliers with whom the Company has the most significant relationships. The Company will consider appropriate measures, including substitution of suppliers, in the event that a supplier provides an inadequate response. If the Company's suppliers or customers fail to achieve Year 2000 compliance in a timely manner, then the Year 2000 issue could have a material adverse effect on the Company. For example, suppliers' failures to deliver products to the Company due to the Year 2000 issue could render the Company unable to fulfill commitments to customers unless those products or adequate substitutes can be secured elsewhere. Customers affected by the Year 2000 issue could reduce their volume of purchases from the Company or slow their payments for products already delivered. Despite its efforts, the Company will not be able to analyze fully the scope or nature of the risk represented by the failure of third parties, including suppliers and customers, to attain Year 2000 compliance. The Company expects, however, that the actions described in this section will significantly reduce the likelihood that the Year 2000 issue would have a material adverse effect on the Company's business, financial condition, results of operations, or cash flows. Based on currently available information, the total cost of the Company's Year 2000 activities is not expected to be material to its financial condition or results of operations. The Company further anticipates that its current resources and sources of liquidity will be adequate to address the capital needs arising from its specific Year 2000 issues. 11
13 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 1998 and 1997 1998 and 1997 Amount Change Amount Change ------ ------ ------ ------ <S> <C> <C> <C> <C> Net sales $2,772 0.8% $37,220 5.2% Cost of sales 5,587 2.0% 33,838 6.4% Selling,distribution and administrative expenses 1,022 1.3% 12,255 7.7% Operating income (3,837) (26.9%) (8,873) (36.9)% Interest expense - net 770 35.6% 1,056 24.3% Income before income taxes (4,607) (38.1)% (9,929) (50.3)% Income taxes (1,281) (29.2)% (3,464) (46.1)% Net income (3,326) (43.1)% (6,465) (52.9)% Net income per share - diluted (.15) (42.9)% (.31) (54.4)% </TABLE> 12
14 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, 1998 and 1997 - --------------------------------------------- The increase in net sales from the prior year related primarily to companies acquired since December 1997. Gross profit as a percentage of sales decreased to 24.8% from 25.8%. This decrease primarily is due to lower discounts and allowances from suppliers. Selling, distribution and administrative expenses as a percent of sales, increased slightly to 22.0% from 21.9%. This was primarily due to increased goodwill amortization associated with the companies acquired since December 1997. Interest expense-net for the quarter increased by 35.6% as compared to the prior year primarily as a result of an increase in average borrowings relating to acquisitions. Income tax expense as a percentage of income before taxes was 41.4% in the quarter ended December 31, 1998 and 36.2% in the quarter ended December 31, 1997. The increase is primarily due to an adjustment of tax liability accounts from a resolution of certain tax contingencies in December 1997 and the effect of higher nondeductible goodwill. As a result of the above factors, net income decreased by 43.1% compared to the same quarter of last year. Six Months Ended December 31, 1998 and 1997 - ------------------------------------------- The increase in net sales from the prior year related primarily to the acquisition of Invetech effective August 1, 1997 and other companies during fiscal 1998. Gross profit as a percentage of sales decreased to 24.9% from 25.7%. This decrease primarily is due to lower discounts and allowances from suppliers. Selling, distribution and administrative expenses as a percent of sales, increased to 22.9% from 22.3%. This was primarily due to the acquisition of Invetech and other companies during fiscal 1998. Also contributing to the increase were higher goodwill amortization, outside consulting and temporary employment expenses. Additional increases during the period related to a pretax restructuring and other special charges of $5.4 million for costs of branch consolidation, downsizing and workforce reductions. This charge decreased net income by $3.2 million, or $.14 per share. The prior year results included a $4.0 million pretax restructuring charge that decreased net income by $2.4 million or $.11 per share associated with the acquisition of Invetech. Interest expense-net for the quarter increased by 24.3% as compared to the prior year primarily as a result of an increase in average borrowings. Income tax expense as a percentage of income before taxes was 41.3% in the six months ended December 31, 1998 and 38.1% in the six months ended December 31, 1997. The increase is 13
15 APPLIED INDUSTRIAL TECHNOLOGIES, INC. AND SUBSIDIARIES ------------------------------------------------------ ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- primarily due to an adjustment of tax liability accounts from a resolution of certain tax contingencies 1997 and the effect of higher nondeductible goodwill. As a result of the above factors, net income decreased by 52.9% compared to the same quarter of last year. 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 and other business opportunities; 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). 14
16 PART II. OTHER INFORMATION ITEM 1. Legal Proceedings. ----------------- (a) The Company incorporates by reference herein the description of the case captioned WALTER R. REED, ET AL. V. METROPOLITAN LIFE INS. CO., ET AL., 20th Judicial District Court for the Parish of West Feliciana, Louisiana, Case No. 13,836, found in Item 3 "Pending Legal Proceedings" contained in the Company's Form 10-K for the fiscal year ended June 30, 1998. In December 1998, the Company was dismissed without prejudice from this case. (b) Applied Industrial Technologies, Inc. and/or one of its subsidiaries is a defendant in several other product and employment-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 20, 1998, the Shareholders (i) elected William G. Bares, Dr. Roger D. Blackwell, Russel B. Every, and John J. Kahl as Directors of Class II for a term expiring in 2001, and (ii) ratified the appointment of Deloitte & Touche LLP as the Company's independent auditors for the fiscal year ending June 30, 1999. 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, 1998. ITEM 5. Other Information. ----------------- David L. Pugh was elected the Company's President and Chief Operating Officer as of January 1, 1999. ITEM 6. Exhibits and Reports on Form 8-K. -------------------------------- (a) Exhibits. --------- Exhibit No. Description ----------- ----------- 3(a) Amended and Restated Articles of Incorporation of Applied Industrial Technologies, Inc. (filed as Exhibit 3(a) to the Company's Form 10-Q for the quarter ended September 30, 1998, SEC File No. 1-2299, and incorporated here by reference). 15
17 3(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(a) 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(b) $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(c) 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). 4(d) $50,000,000 Private Shelf Agreement dated as of November 27, 1996, as amended on January 30, 1998, between the Company and The Prudential Insurance Company of America (filed as Exhibit 4(f) to the Company's Form 10-Q for the quarter ended March 31, 1998, SEC File No. 1-2299, and incorporated here by reference). 4(e) $150,000,000 Credit Agreement dated as of November 5, 1998 among the Company, KeyBank National Association as Agent, and various financial institutions (filed as Exhibit 4(e) to the Company's Form 10-Q for the quarter ended 16
18 September 30, 1998, SEC File No. 1-2299, and incorporated here by reference). 4(f) Rights Agreement, dated as of February 2, 1998, between the Company and Harris Trust and Savings Bank, as Rights Agent, which includes as Exhibit B thereto the Form of Rights Certificate (filed as Exhibit No. 1 to the Company's Registration Statement on Form 8-A filed July 20, 1998, SEC File No. 1-2299, and incorporated here by reference). 10(a) First Amendment to the Supplemental Executive Retirement Benefits Plan effective as of August 5, 1998. 10(b) Employment Agreement dated December 21, 1998 between David L. Pugh and the Company. 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, 1998. 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 12, 1999 By: /s/ John C. Dannemiller ----------------------------- John C. Dannemiller Chairman & Chief Executive Officer Date: February 12, 1999 By: /s/ John R. Whitten ------------------------- John R. Whitten Vice President-Chief Financial Officer & Treasurer 17
19 APPLIED INDUSTRIAL TECHNOLOGIES, INC. EXHIBIT INDEX TO FORM 10-Q FOR THE QUARTER ENDED DECEMBER 31, 1998 EXHIBIT NO. DESCRIPTION PAGE 3(a) Amended and Restated Articles of Incorporation of Applied Industrial Technologies, Inc. (filed as Exhibit 3(a) to the Company's Form 10-Q for the quarter ended September 30, 1998, SEC File No. 1-2299, and incorporated here by reference). 3(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(a) 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(b) $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(c) 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,
20 SEC File No. 1-2299, and incorporated here by reference). 4(d) $50,000,000 Private Shelf Agreement dated as of November 27, 1996, as amended on January 30, 1998, between the Company and The Prudential Insurance Company of America (filed as Exhibit 4(f) to the Company's Form 10-Q for the quarter ended March 31, 1998, SEC File No. 1-2299, and incorporated here by reference). 4(e) $150,000,000 Credit Agreement dated as of November 5, 1998 among the Company, KeyBank National Association as Agent, and various financial institutions (filed as Exhibit 4(e) to the Company's Form 10-Q for the quarter ended September 30, 1998, SEC File No. 1-2299, and incorporated here by reference). 4(f) Rights Agreement, dated as of February 2, 1998, between the Company and Harris Trust and Savings Bank, as Rights Agent, which includes as Exhibit B thereto the Form of Rights Certificate (filed as Exhibit No. 1 to the Company's Registration Statement on Form 8-A filed July 20, 1998, SEC File No. 1-2299, and incorporated here by reference). 10(a) First Amendment to the Supplemental Executive Attached Retirement Benefits Plan effective as of August 5, 1998. 10(b) Employment Agreement dated December 21, 1998 Attached between David L. Pugh and the Company. 27 Financial Data Schedule. Attached