HNI Corporation - 10-Q quarterly report FY

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PART I.     FINANCIAL INFORMATION

Item 1.     Financial Statements (Unaudited)

See accompanying Notes to Condensed Consolidated Financial Statements.

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See accompanying Notes to Condensed Consolidated Financial Statements.

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See accompanying Notes to Condensed Consolidated Financial Statements.

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See accompanying Notes to Condensed Consolidated Financial Statements.

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HON INDUSTRIES Inc. and SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
June 28, 2003

Note A.  Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the six-month period ended June 28, 2003 are not necessarily indicative of the results that may be expected for the year ending January 3, 2004. For further information, refer to the consolidated financial statements and footnotes included in the Company's annual report on Form 10-K for the year ended December 28, 2002.

Note B.  Summary of Significant Accounting Policies

Stock-Based Compensation - The Company accounts for its stock option plan using Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," which results in no charge to earnings when options are issued at fair market value. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based Compensation," as amended by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure," to stock-based employee compensation.

Increase in expense during the current quarter is due to accelerated vesting of 74,000 options upon the retirement of a plan participant.
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Reclassifications - Certain prior year amounts have been reclassified to conform to the current year presentation.

Note D.  Comprehensive Income

The Company's comprehensive income in 2003 consisted of unrealized holding gains or losses on equity securities available-for-sale under SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities," of $0.2 million, additional minimum pension liability of ($1.9) million, and foreign currency adjustments of $0.2 million.

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Certain exercisable and non-exercisable stock options were not included in the computation of diluted EPS at June 28, 2003 and June 29, 2002, because the option prices were greater than the average market prices for the applicable periods. The number of stock options outstanding, which met this criterion for the three and six months ended June 28, 2003, was 20,000 with a per share exercise price of $32.22 and 30,000 with a range of per share exercise prices of $28.25 - $32.22, respectively.  The number of stock options outstanding, which met this criterion for the three and six months ended June 29, 2002, was 30,000 with a per share exercise price of $28.25 -$32.22. There was no difference between EPS on a basic and diluted basis for the periods presented.

Note F. Restructuring Reserve and Plant Shutdowns

As a result of the Company's business simplification and cost reduction strategies the Company began the shutdown of one office furniture facility in second quarter 2003 and is in union negotiations regarding the closure of a second office furniture facility. The Company will close operations in Milan, Tennessee and Hazleton, Pennsylvania and consolidate production into other U.S. manufacturing locations. In connections with the shutdowns, the Company recorded $4.4 million of charges during the quarter. These charges included $1.6 million of accelerated depreciation of machinery and equipment which was recorded in cost of sales, $2.5 million of severance for approximately 430 members and $0.3 million of other costs which were recorded as restructuring costs. The Company expects that the shutdowns and consolidation will be completed prior to the end of the year. Total costs related to the shutdown are estimated to total $16.0 to $18.0 million, comprised of approximately 23% for severance benefits and stay bon uses, 6% for contract termination costs, 31% for facility exit and other associated costs, and 40% for accelerated depreciation charges. The remaining costs of between $12 and $14 million will be recognized as the shutdowns and consolidation processes are executed during the second half of 2003.

The Company reduced a previously recorded restructuring reserve for the shutdown of its Jackson, Tennessee facility by approximately $0.6 million. The reduction was due to the fact that the Company was able to exit a lease with the lessor at more favorable terms than previously estimated.

The following is a summary of changes in restructuring accruals during the second quarter of 2003.

Note G. Asset Impairment

The Company recorded an asset impairment on a facility held-for-sale of $1.1 million during the quarter ended March 29, 2003. The Company entered into a purchase agreement on this facility in March of 2003. The sale was finalized in May of 2003 at the adjusted carrying value.

Note H. Goodwill and Other Intangible Assets

The table below summarizes amortizable definite-lived intangible assets as of June 28, 2003 and December 28, 2002, which are reflected in Other Assets in the Company's condensed consolidated balance sheets:

Aggregate amortization expense for the three and six months ended June 28, 2003 was $673,000 and $1,346,000, respectively.

The Company also owns a trademark with a net carrying amount of $8.1 million. The trademark is deemed to have an indefinite useful life because it is expected to generate cash flows indefinitely.

The following table shows the carrying amount of goodwill by reporting segment:

The decrease in goodwill is due to an adjustment relating to a prior acquisition.

Note I. Product Warranties

The Company issues certain warranty policies on its furniture and hearth products that provide for repair or replacement of any covered product or component that fails during normal use because of a defect in design, or workmanship.

A warranty reserve is determined by recording a specific reserve for known warranty issues and an additional reserve for unknown claims that are expected to be incurred based on historical claims experience. Actual claims incurred could differ from the original estimates, requiring adjustments to the reserve. Activity associated with warranty obligations was as follows during the period:

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Note J. Guarantees, Commitments & Contingencies

During the second quarter ended June 28, 2003, the Company entered into a one-year financial agreement for the benefit of one of its distribution chain partners. The maximum financial exposure assumed by the Company as a result of this arrangement totals $3 million and is secured by collateral. In accordance with the provisions of FIN45, the Company has recorded the fair value of this guarantee, which is estimated to be less than $0.3 million.

The Company utilizes letters of credit in the amount of $21 million to back certain financing instruments, insurance policies and payment obligations. The letters of credit reflect fair value as a condition of their underlying purpose and are subject to fees competitively determined.

The Company is contingently liable for future minimum payments totaling $12.1 million under a transportation service contract. The Company is also contingently liable for $175,000 of financing arrangements with certain customers, which are deemed to be immaterial.

The Company has contingent liabilities, which have arisen in the course of its business, including pending litigation, preferential payment claims in customer bankruptcies, environmental remediation, taxes and other claims. The Company currently has one preferential payment claim outstanding totaling approximately $7.6 million. The Company intends to vigorously contest this claim and has recorded its best estimate within the range of the likely exposure. It is management's opinion, after consultation with legal counsel, that additional liabilities, if any, resulting from these matters are not expected to have a material adverse effect on the Company's financial condition, although such matters could have a material effect on its quarterly or annual operating results and cash flows when resolved in a future period.

Note K. Related Party Transaction

During the first quarter ended March 29, 2003, the Company purchased a hearth products office and production facility located in Lake City, Minnesota, for $3.6 million from R & D Properties of Savage L.L.P. ("R & D Properties"). A significant portion of R & D Properties was owned by trusts for the benefit of members of the family of Daniel Shimek. Mr. Shimek was an officer of the Company. The property was previously leased from R & D Properties and disclosed in the Company's previous filings. The purchase price of the property was determined by soliciting appraisals from independent commercial real estate appraisers.

Note L. New Accounting Standards

The Company adopted Statement of Financial Accounting Standards (SFAS) No. 143, "Accounting for Asset Retirement Obligations," on December 29, 2002, the beginning of its 2003 fiscal year. The adoption did not have an impact on the Company's financial statements.
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The Company adopted the interim disclosure requirements of SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure," for the first quarter of 2003.

The Company adopted the accounting requirements of Financial Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others," for guarantees issued or modified after December 31, 2002. The adoption did not have a material impact on the Company's financial statements.

The Financial Accounting Standards Board finalized SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity," effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 is not expected to have an impact on the Company's financial statements.

Note M. Business Segment Information

Management views the Company as being in two business segments: office furniture and hearth products with the former being the principal business segment.

The office furniture segment manufactures and markets a broad line of metal and wood commercial and home office furniture which includes file cabinets, desks, credenzas, chairs, storage cabinets, tables, bookcases, freestanding office partitions and panel systems, and other related products. The hearth product segment manufactures and markets a broad line of manufactured electric, gas-, pellet- and wood-burning fireplaces and stoves, fireplace inserts, and chimney systems principally for the home.

For purposes of segment reporting, intercompany sales transfers between segments are not material and operating profit is income before income taxes exclusive of certain unallocated corporate expenses. These unallocated corporate expenses include the net cost of the Company's corporate operations, interest income, and interest expense. Management views interest income and expense as corporate financing costs and not as a business segment cost. In addition, management applies one effective tax rate to its consolidated income before income taxes so income taxes are not reported or viewed internally on a segment basis.

No geographic information for revenues from external customers or for long-lived assets is disclosed as the Company's primary market and capital investments are concentrated in the United States.

Reportable segment data reconciled to the consolidated financial statements for the three-month and six-month periods ended June 28, 2003, and June 29, 2002, is as follows:
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Item 2. Management's Discussion and Analysis of Financial Condition and Results of
             Operations

A summary of the period-to-period changes in the principal items included in the Condensed Consolidated Statements of Income is shown below:

Consolidated net sales for the second quarter ending June 28, 2003, were $406.8 million, a 1.9 percent increase from $399.3 million in the second quarter of 2002 due mainly to the Company's hearth products segment. Compared to the first quarter of 2003, net sales for the second quarter increased 3.8 percent. The increase from the first quarter is a reflection of our normal seasonality and the stabilization in the commercial and transactional office furniture business. Net income was $20.2 million compared to $20.1 million for the same period a year ago. Net income per share was $0.35 per diluted share compared to $0.34 per diluted share in second quarter 2002. Included in second quarter 2003 is $4.4 million of pre-tax charges or $0.05 per diluted share related to the shutdown of two office furniture facilities.

For the first six months of 2003, consolidated net sales were basically flat at $798.8 million compared to $798.4 million in 2002. Net income was $36.1 million or $0.62 per diluted share compared to $36.0 million or $0.61 per diluted share in 2002. Included in the year-to-date results were net pre-tax restructuring charges and accelerated depreciation of $3.8 million or $0.04 per diluted share in 2003 and net pre-tax restructuring charges of $3.0 million or $0.03 per diluted share in 2002.

For the second quarter of 2003, office furniture comprised 75 percent of consolidated net sales and hearth products comprised 25 percent. Net sales for office furniture were up 0.3 percent compared to the same quarter last year. Hearth products sales increased 6.9 percent compared second quarter 2002 due to strong shipments in both the builder and dealer channels and growth in product line extensions. Office furniture contributed 72 percent of second quarter 2003 consolidated operating profit before unallocated corporate expenses and hearth products contributed 28 percent.
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The consolidated gross profit margin for the second quarter of 2003 increased to 36.0 percent compared to 35.7 percent for the same period in 2002. Included in gross margin for the second quarter of 2003 is $1.6 million of accelerated depreciation of machinery and equipment related to the facility shutdown reducing margins by 0.4 percentage points. This increase in margin was due to benefits from restructuring initiatives implemented over the past few years plus the Company's rapid continuous improvement program.

Selling and administrative expenses for the quarter as a percent of net sales decreased to 27.8 percent from 27.9 percent in second quarter 2002. Selling and administrative dollars increased 1.5 percent or $1.7 million due in part to investments in brand building and selling initiatives.

The Company continues to implement its business simplification and cost reduction strategies. As a result, the Company began the shutdown of one office furniture facility during second quarter 2003 and is in union negotiations regarding the closure of a second office furniture facility. The plants located in Milan, Tennessee, and Hazleton, Pennsylvania will close and production will be consolidated into the Company's other U.S. manufacturing locations. In connection with the shutdowns, the Company recorded $4.4 million of pre-tax charges or $0.05 per diluted share during the second quarter of 2003. These charges included $1.6 million of accelerated depreciation on machinery and equipment which was recorded in cost of sales, and $2.5 million of severance and $0.3 million of other costs which were recorded as restructuring costs. The Company expects that the shutdowns and consolidation will be completed prior to the end of the year. Total costs related to the shutdown are estimated to total $16.0 to $18.0 mill ion, comprised of approximately 23% for severance benefits and stay bonuses, 6% for contract termination costs, 31% for facility exit and other associated costs, and 40% for accelerated depreciation charges. The remaining costs of between $12 and $14 million will be recognized as the shutdowns and consolidation processes are executed during the second half of 2003. This operation realignment is expected to reduce costs $13.0 to $14.0 million on an annualized basis and result in improved service to customers with faster and better-coordinated delivery and lead-time performance.

Approximately $0.6 million of a 2002 pre-tax restructuring charge due to the shutdown of an office furniture facility in Jackson, Tennessee was taken back into income during the second quarter of 2003. The reduction was due to the fact that the Company was able to exit a lease with a lessor at more favorable terms than previously estimated.

The Company's current effective tax rate is 35 percent compared to 36 percent in second quarter 2002 due to tax benefits associated with various federal and state tax credits. The Company currently expects the effective tax rate to remain at this level in 2003; however, the resolution of certain federal and state tax credits could further affect the rate.

Liquidity and Capital Resources

As of June 28, 2003, cash and short-term investments decreased to $136.6 million compared to a $155.5 million balance at year-end 2002. Cash flow from operations for the first six months was $54.5 million compared to $45.1 million last year. The increase was due to working capital improvements. Annualized inventory turns increased to 21.4 compared to 17.8 in the same quarter last year. Accounts receivable days sales outstanding decreased to 35.5 from 38.9 in second quarter 2002. Cash flow and working capital management continue to be a major focus of management to ensure the Company is poised for growth.
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Net capital expenditures for the first six months of 2003 were $23.7 million compared to $9.3 million in 2002 and included funding for the purchase of a previously leased hearth products plant, information system improvements and tooling and equipment for new products. These investments were funded by cash from operations. The Company's long-term debt decreased from year-end due to the retirement of $5.6 million of Industrial Development Revenue bonds. The company paid off debentures including appreciation related to a previous acquisition, which represented additional purchase consideration.

The Board of Directors declared a regular quarterly cash dividend of $0.13 per share on its common stock on May 5, 2003, to shareholders of record at the close of business on May 15, 2003. It was paid on May 30, 2003, and represented the 193^rd consecutive quarterly dividend paid by the Company.

For the six months ended June 28, 2003, the Company repurchased 762,300 shares of its common stock at a cost of approximately $21.5 million. As of June 28, 2003, $41.3 million of the Board's current repurchase authorization remained unspent.

On August 4, 2003, the Board of Directors declared a $0.13 per common share cash dividend to shareholders of record on August 14, 2003 to be paid on August 29, 2003.

Critical Accounting Policies

The Company's critical accounting policies are outlined in its Form 10-K for fiscal year ended December 28, 2002. The following policies are also relevant to 2003.

The Company accounts for its stock option plan using Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," which results in no charge to earnings when options are issued at fair market value. The Company adopted the interim disclosure requirements of SFAS No. 148, "Accounting for Stock Based Compensation - Transition and Disclosure," for the quarter ended March 29, 2003.

The Company adopted the accounting requirements of Financial Interpretation No. 45 (FIN 45), "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others," for guarantees issued or modified after December 31, 2002. The adoption did not have a material impact on the Company's financial statements.

Commitments and Contingencies

During the second quarter ended June 28, 2003, the Company entered into a one-year financial agreement for the benefit of one of its distribution chain partners. The maximum financial exposure assumed by the Company as a result of this arrangement totals $3.0 million and is secured by collateral. In accordance with the provisions of FIN 45, the Company has recorded the fair value of this guarantee, which is estimated to be less than $0.3 million.

The Company utilizes letters of credit in the amount of $21 million to back certain financing instruments, insurance policies and payment obligations. The letters of credit reflect fair value as a condition of their underlying purpose and are subject to fees competitively determined.

The Company is contingently liable for future minimum payments totaling $12.1 million under a transportation service contract. The Company is also contingently liable for $175,000 of financing arrangements with certain customers, which are deemed to be immaterial.
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The Company has contingent liabilities, which have arisen in the course of its business, including pending litigation, preferential payment claims in customer bankruptcies, environmental remediation, taxes and other claims. The Company currently has one preferential payment claim outstanding totaling approximately $7.6 million. The Company intends to vigorously contest this claim and has recorded its best estimate within the range of the likely exposure. It is management's opinion, after consultation with legal counsel, that additional liabilities, if any, resulting from these matters are not expected to have a material adverse effect on the Company's financial condition, although such matters could have a material effect on its quarterly or annual operating results and cash flows when resolved in a future period.

Related Party Transactions

During the current period the Company purchased a hearth products office and production facility located in Lake City, Minnesota, for $3.6 million from R & D Properties of Savage L.L.P. (R & D Properties). A significant portion of R & D Properties was owned by trusts for the benefit of members of the family of Daniel Shimek. Mr. Shimek was an officer of the Company. The property was previously leased from R & D Properties and disclosed in the Company's previous filings. The purchase price of the property was determined by soliciting appraisals from independent commercial real estate appraisers.

Looking Ahead

The Company has begun to experience some stability in incoming order rates for its commercial and transactional office furniture business. However, management is still cautious about the near-term outlook as the economy attempts to stabilize. Management believes that the remainder of 2003 should be positive for the hearth segment due to the expected continued solid demand for new residential construction coupled with low and stable interest rates.

Management believes that the Company will continue to outperform the industries in which it competes. The Company continues to implement its plan to increase long-term shareholder value by streamlining processes and operations, reducing its cost structure, understanding and responding to end-users, and building brand power.

Forward-Looking Statements

Statements in this report that are not strictly historical, including statements as to plans, objectives, and future financial performance, are "forward-looking" statements that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks, which may cause the Company's actual results in the future to differ materially from expected results. These risks include, among others: the Company's ability to realize financial benefits from its cost containment and business simplification initiatives, to realize financial benefits from investments in new products, and to mitigate the effects of uncertain steel prices and supplies; lower than expected demand for the Company's products due to uncertain political and economic conditions; competitive pricing pressure from foreign and domestic competitors; and other factors described in the Company's annual and quarterly reports filed with the Securities and Exchange Comm ission on Forms 10-K and 10-Q.

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Item 4. Controls and Procedures

Under the supervision and with the participation of management, the chief executive officer and chief financial officer of the Company have evaluated the effectiveness of the design and operation of the Company's disclosure controls and procedures as of June 28, 2003, and, based on their evaluation, the chief executive officer and chief financial officer have concluded that these controls and procedures are effective. There were no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation. Disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms.

Disclosure controls and procedures are also designed to ensure that information is accumulated and communicated to management, including the chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

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PART II.     OTHER INFORMATION

Item 6.     Exhibits and Reports on Form 8-K

Exhibits. See Exhibit Index.

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EXHIBIT 3.1

[Articles of Incorporation, as Amended]

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EXHIBIT 3.2

[By-laws, as Amended]

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EXHIBIT 31.1

EXHIBIT 31.2

EXHIBIT 32.1