UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
OR
For the transition period from to
Commission file number 1-225
KIMBERLY-CLARK CORPORATION
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
Registrant’s telephone number, including area code: (972) 281-1200
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Name of each exchange on which registered
Common Stock—$1.25 Par Value
New York Stock Exchange
Chicago Stock Exchange
Pacific Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x. No ¨.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes x. No ¨.
The aggregate market value of the registrant’s common stock held by non-affiliates on June 30, 2004 (based on the closing stock price on the New York Stock Exchange) on such date was approximately $32.7 billion.
As of February 16, 2005, there were 481,269,591 shares of the Corporation’s common stock outstanding.
Documents Incorporated By Reference
Certain information contained in the definitive Proxy Statement for the Corporation’s Annual Meeting of Stockholders to be held on April 28, 2005 is incorporated by reference into Part III hereof.
TABLE OF CONTENTS
Part I
Item 1.
Business
Item 2.
Properties
Item 3.
Legal Proceedings
Item 4.
Submission of Matters to a Vote of Security Holders
Item 4A.
Executive Officers
Part II
Item 5.
Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6.
Selected Financial Data
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Financial Statements and Supplementary Data
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures
Item 9B.
Other Information
Part III
Item 10.
Directors and Executive Officers of the Registrant
Item 11.
Executive Compensation
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13.
Certain Relationships and Related Transactions
Item 14.
Principal Accountant Fees and Services
Part IV
Item 15.
Exhibits and Financial Statement Schedules
Signatures
PART I
Kimberly-Clark Corporation was incorporated in Delaware in 1928. As used in Items 1, 2, 3, 6, 7, 7A, 8 and 9A of this Form 10-K, the term “Corporation” refers to Kimberly-Clark Corporation and its consolidated subsidiaries. In the remainder of this Form 10-K, the terms “Kimberly-Clark” or “Corporation” refer only to Kimberly-Clark Corporation. For financial information by business segment and geographic area, and information about principal products and markets of the Corporation, reference is made to Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and to Item 8, Note 16 to the Consolidated Financial Statements.
Recent Developments
The Corporation is a global health and hygiene company focused on building its personal care, consumer tissue and business-to-business operations. Since 2000, the Corporation has completed 14 acquisitions, each of which was accounted for as a purchase, in its core businesses and three strategic divestitures, including the following transactions:
In January 2004, the Corporation announced changes to reorganize its personal care and consumer tissue businesses into two separate North Atlantic personal care and consumer tissue groups and to put its operations in developing and emerging markets into one group. The wet wipes business became part of the personal care segment instead of the consumer tissue segment. In addition, the Corporation’s North American pulp operations
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(Continued)
were included in its business-to-business segment. The Corporation continues to have three global businesses led by individuals who have the accountability and the authority to make global decisions. The goal of this new structure is to help increase the Corporation’s speed in translating consumer and customer insights into innovative products, to streamline decision making and to help deliver cost reductions on a sustainable basis.
Primarily as a result of significant productivity gains, the Corporation had available diaper manufacturing capacity in North America and Europe. Therefore, the Corporation executed a plan to cease diaper manufacturing and scale-back distribution operations at its facility in New Milford, Conn., which now is focused solely on the production of tissue products. Some diaper production capacity was also redeployed from the Barton-upon-Humber facility in the U.K. Diaper machines from these locations will now support growth in other markets, thereby reducing the capital spending required for this business. These steps are consistent with the Corporation’s strategies to drive growth in developing and emerging markets and improve its cost structure in North America and Europe. Costs to implement this plan total approximately $40 million before tax, including about $37 million recorded in 2004. The balance of the plan costs will be recorded in 2005 as they are incurred.
Description of the Corporation
The Corporation is principally engaged in the manufacturing and marketing of a wide range of health and hygiene products around the world. Most of these products are made from natural or synthetic fibers using advanced technologies in fibers, nonwovens and absorbency.
The Corporation is organized into operating segments based on product groupings. These operating segments have been aggregated into three reportable global business segments: Personal Care; Consumer Tissue; and Business-to-Business. Each reportable segment is headed by an executive officer who reports to the Chief Executive Officer and is responsible for the development and execution of global strategies to drive growth and profitability of the Corporation’s worldwide personal care, consumer tissue and business-to-business operations. These strategies include global plans for branding and product positioning, technology, research and development programs, cost reductions including supply chain management, and capacity and capital investments for each of these businesses. The principal sources of revenue in each of our global business segments are described below. Revenue, profit and total assets of each reportable segment are described in the financial statements contained in Item 8 of this Form 10-K.
The Personal Care segment manufactures and markets disposable diapers, training and youth pants and swimpants; baby wipes; feminine and incontinence care products; and related products. Products in this segment are primarily for household use and are sold under a variety of brand names, including Huggies, Pull-Ups, Little Swimmers, GoodNites, Kotex, Lightdays, Depend, Poise and other brand names.
The Consumer Tissue segment manufactures and markets facial and bathroom tissue, paper towels, napkins and related products for household use. Products in this segment are sold under the Kleenex, Scott, Cottonelle, Viva, Andrex, Scottex, Hakle, Page and other brand names.
The Business-to-Business segment manufactures and markets disposable, single-use, health and hygiene products to the away-from-home marketplace. These products include facial and bathroom tissue, paper towels, napkins, wipers, surgical gowns, drapes, infection control products, sterilization wrap, disposable face masks and exam gloves, respiratory products, other disposable medical products and other products. Products in this segment are sold under the Kimberly-Clark, Kleenex, Scott, Kimwipes, WypAll, Surpass, Safeskin, Tecnol, Ballard and other brand names.
Products for household use are sold directly, and through wholesalers, to supermarkets, mass merchandisers, drugstores, warehouse clubs, variety and department stores and other retail outlets. Products for away-from-home use are sold through distributors and directly to manufacturing, lodging, office building, food service, health care establishments and high volume public facilities. In addition, certain products are sold to converters.
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Approximately 13 percent of net sales were to Wal-Mart Stores, Inc. in 2004, 2003 and 2002, primarily in the Personal Care and Consumer Tissue businesses.
Patents and Trademarks
The Corporation owns various patents and trademarks registered domestically and in many foreign countries. The Corporation considers the patents and trademarks which it owns and the trademarks under which it sells certain of its products to be material to its business. Consequently, the Corporation seeks patent and trademark protection by all available means, including registration.
Raw Materials
Superabsorbent materials are important components in disposable diapers, training and youth pants and incontinence care products. Polypropylene and other synthetics and chemicals are the primary raw materials for manufacturing nonwoven fabrics, which are used in disposable diapers, training and youth pants, wet wipes, feminine pads, incontinence and health care products, and away-from-home wipers.
Cellulose fiber, in the form of kraft pulp or fiber recycled from recovered pulp, is the primary raw material for the Corporation’s tissue products and is an important component in disposable diapers, training pants, feminine pads and incontinence care products.
Most recovered paper, synthetics, pulp and recycled fiber are purchased from third parties. The Corporation considers the supply of such raw materials to be adequate to meet the needs of its businesses. See “Factors That May Affect Future Results—Raw Materials.”
Competition
For a discussion of the competitive environment in which the Corporation conducts its business, see “Factors That May Affect Future Results—Competitive Environment.”
Research and Development
Research and development expenditures are directed toward new or improved personal care, tissue and health care products and nonwoven materials. Consolidated research and development expense was $279.7 million in 2004, $279.1 million in 2003 and $287.4 million in 2002.
Environmental Matters
Total worldwide capital expenditures for voluntary environmental controls or controls necessary to comply with legal requirements relating to the protection of the environment at the Corporation’s facilities are expected to be approximately $20 million in 2005 and $12 million in 2006. Of these amounts, approximately $4 million in 2005 and $1 million in 2006 are expected to be spent at facilities in the U.S. For facilities outside of the U.S., capital expenditures for environmental controls are expected to be approximately $16 million in 2005 and $11 million in 2006.
Total worldwide operating expenses for environmental compliance are expected to be approximately $152 million in both 2005 and 2006. Operating expenses for environmental compliance with respect to U.S. facilities are expected to be approximately $77 million in both 2005 and 2006. Operating expenses for environmental compliance with respect to facilities outside the U.S. are expected to be approximately $75 million in both 2005 and 2006. Operating expenses include pollution control equipment operation and maintenance costs, governmental payments, and research and engineering costs.
Total environmental capital expenditures and operating expenses are not expected to have a material effect on the Corporation’s total capital and operating expenditures, consolidated earnings or competitive position. However, current environmental spending estimates could be modified as a result of changes in the Corporation’s plans, changes in legal requirements or other factors.
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Employees
In its worldwide consolidated operations, the Corporation had more than 60,000 employees as of December 31, 2004.
Factors That May Affect Future Results
Certain matters discussed in this Form 10-K, or documents a portion of which are incorporated herein by reference, concerning, among other things, the business outlook, including new product introductions, cost savings, anticipated financial and operating results, strategies, contingencies and contemplated transactions of the Corporation, constitute forward-looking statements and are based upon management’s expectations and beliefs concerning future events impacting the Corporation. There can be no assurance that these events will occur or that the Corporation’s results will be as estimated.
The assumptions used as a basis for the forward-looking statements include many estimates that, among other things, depend on the achievement of future cost savings and projected volume increases. In addition, many factors outside the control of the Corporation, including the prices and availability of the Corporation’s raw materials, potential competitive pressures on selling prices or advertising and promotion expenses for the Corporation’s products, energy costs, and fluctuations in foreign currency exchange rates, as well as general economic conditions in the markets in which the Corporation does business, also could impact the realization of such estimates.
The following factors, as well as factors described elsewhere in this Form 10-K, or in other SEC filings, among others, could cause the Corporation’s future results to differ materially from those expressed in any forward-looking statements made by, or on behalf of, the Corporation.
These factors are described in accordance with the provisions of the Private Securities Litigation Reform Act of 1995, which encourages companies to disclose such factors.
Competitive Environment. The Corporation experiences intense competition for sales of its principal products in its major markets, both domestically and internationally. The Corporation’s products compete with widely advertised, well-known, branded products, as well as private label products, which are typically sold at lower prices. The Corporation has several major competitors in most of its markets, some of which are larger and more diversified than the Corporation. The principal methods and elements of competition include brand recognition and loyalty, product innovation, quality and performance, price, and marketing and distribution capabilities. Inherent risks in the Corporation’s competitive strategy include uncertainties concerning trade and consumer acceptance, the effects of recent consolidations of retailers and distribution channels, and competitive reaction. Aggressive competitive reaction may lead to increased advertising and promotional spending by the Corporation in order to maintain market share. Increased competition with respect to pricing would reduce revenue and could have an adverse impact on the Corporation’s financial results. In addition, the Corporation relies on the development and introduction of new or improved products as a means of achieving and/or maintaining category leadership. In order to maintain its competitive position, the Corporation must develop technology to support its products.
Cost Savings Strategy. The Corporation’s anticipated cost savings are expected to result from reducing material costs and manufacturing waste and realizing productivity gains and distribution efficiencies in each of its business segments. The Corporation’s strategic investments in its information systems should also allow further cost savings through streamlining of its back office operations. There can be no assurance that such cost savings will be achieved.
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Raw Materials. Cellulose fiber, in the form of kraft pulp or recycled fiber from recovered pulp, is used extensively in the Corporation’s tissue products and is subject to significant price fluctuations due to the cyclical nature of the pulp markets. Recycled fiber accounts for approximately 28 percent of the Corporation’s overall fiber requirements.
On a worldwide basis prior to the Spin-off, the Corporation supplied approximately 40 percent of its virgin fiber needs from internal pulp manufacturing operations. The Spin-off has reduced the internal pulp supply to approximately 10 percent. This reduction in pulp integration could increase the Corporation’s commodity price risk. Specifically, increases in pulp prices could adversely affect the Corporation’s earnings if selling prices for its finished products are not adjusted or if such adjustments significantly trail the increases in pulp prices. Derivative instruments have not been used to manage these risks.
A number of the Corporation’s products, such as diapers, training and youth pants, and incontinence care products contain certain materials which are principally derived from petroleum. These materials are subject to price fluctuations based on changes in petroleum prices, availability and other factors. The Corporation purchases these materials from a number of suppliers. Significant increases in prices for these materials could adversely affect the Corporation’s earnings if selling prices for its finished products are not adjusted or if adjustments significantly trail the increases in prices for these materials.
Although the Corporation believes that the supplies of raw materials needed to manufacture its products are adequate, global economic conditions, supplier capacity constraints and other factors could materially affect the availability of or prices for those raw materials.
Energy Costs. The Corporation’s manufacturing operations utilize electricity, natural gas and petroleum-based fuels. To ensure that it uses all forms of energy cost effectively, the Corporation maintains ongoing energy efficiency improvement programs at all of its manufacturing sites. The Corporation’s contracts with energy suppliers vary as to price, payment terms, quantities and duration. Kimberly-Clark’s energy costs are also affected by various market factors including the availability of supplies of particular forms of energy, energy prices and local and national regulatory decisions. There can be no assurance that the Corporation will be fully protected against substantial changes in the price or availability of energy sources. Derivative instruments are used to hedge a portion of natural gas price risk when management deems it prudent to do so.
Volume Forecasting. The Corporation’s anticipated financial results reflect forecasts of future volume increases in the sales of its products. Challenges in such forecasting include anticipating consumer preferences, estimating sales of new products, estimating changes in population characteristics (such as birth rates and changes in per capita income), anticipating changes in technology and competitive responses and estimating the acceptance of the Corporation’s products in new markets. As a result, there can be no assurance that the Corporation’s volume increases will occur as estimated.
Foreign Market Risks. Because the Corporation and its equity companies have manufacturing facilities in 40 countries and their products are sold in more than 150 countries, the Corporation’s results may be substantially affected by foreign market risks. The Corporation is subject to the impact of economic and political instability in developing countries. The extremely competitive situation in European personal care and tissue markets, and the challenging economic environments in Argentina, Brazil, Colombia, Mexico, Venezuela and developing countries in Eastern Europe, Asia and elsewhere in Latin America, may slow the Corporation’s sales growth and earnings potential. In addition, the Corporation is subject to the movement of various currencies against each other and versus the U.S. dollar. Exposures, arising from transactions and commitments denominated in non-local currencies, are systematically hedged through foreign currency forward, option and swap contracts. See Item 7A, “Management’s Discussion and Analysis – Risk Sensitivity.” Translation exposure for the Corporation with respect to foreign operations is not hedged. There can be no assurance that the Corporation will be fully protected against substantial foreign currency fluctuations.
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Contingencies. The costs and other effects of pending litigation and administrative actions against the Corporation cannot be determined with certainty. Although management believes that no such proceedings will have a material adverse effect on the Corporation, there can be no assurance that the outcome of such proceedings will be as expected. See Item 3, “Legal Proceedings.”
One of the Corporation’s North American tissue mills has an agreement to provide its local utility company a specified amount of electric power for each of the next 12 years. In the event that the mill was shut down, the Corporation would be required to continue to operate the power generation facility on behalf of its owner, the local utility company. The net present value of the cost to fulfill this agreement as of December 31, 2004 is estimated to be approximately $120 million. Management considers the probability of closure of this mill to be remote.
Available Information
The Corporation makes available financial information, news releases and other information on the Corporation’s Web site at www.kimberly-clark.com. There is a direct link from the Web site to the Corporation’s Securities and Exchange Commission filings via the EDGAR database, where the Corporation’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available free of charge as soon as reasonably practicable after the Corporation files such reports and amendments with, or furnishes them to, the Securities and Exchange Commission. Stockholders may also contact Stockholder Services, P.O. Box 612606, Dallas, Texas 75261-2606 or call 972-281-1521 to obtain a hard copy of these reports without charge.
Management believes that the Corporation’s production facilities are suitable for their purpose and adequate to support its businesses. The extent of utilization of individual facilities varies, but they generally operate at or near capacity, except in certain instances such as when new products or technology are being introduced or when mills are being shut down. Various facilities contain pollution control, solid waste disposal and other equipment which have been financed through the issuance of industrial revenue or similar bonds and are held by the Corporation under lease or installment purchase agreements.
The principal facilities of the Corporation (including the Corporation’s equity companies) and the products or groups of products made at such facilities are as follows:
World Headquarters Location
Dallas, Texas
Operating Segments and Geographic Headquarters
Roswell, Georgia
Neenah, Wisconsin
Milsons Point, Australia
Seoul, Korea
Reigate, United Kingdom
Administrative Centers
Knoxville, Tennessee
Brighton, United Kingdom
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Worldwide Production and Service Facilities
United States
Alabama
Mobile—tissue products
Arizona
Tucson—health care products
Arkansas
Conway—feminine care and incontinence care products and nonwovens
Maumelle—wet wipes and nonwovens
California
Fullerton—tissue products
Connecticut
New Milford—tissue products
Georgia
LaGrange—nonwovens
Idaho
Pocatello—health care products
Kentucky
Owensboro—tissue products
Mississippi
Corinth—nonwovens, wipers and towels
North Carolina
Hendersonville—nonwovens
Lexington—nonwovens
Oklahoma
Jenks—tissue products
Pennsylvania
Chester—tissue products
South Carolina
Beech Island—diapers, wet wipes and tissue products
Tennessee
Loudon—tissue products
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Texas
Del Rio—health care products
Fort Worth—health care products
Paris—diapers and training, youth and swim pants
San Antonio—personal cleansing products and systems
Utah
Draper—health care products
Ogden—diapers
Washington
Everett—tissue products, wipers and pulp
Wisconsin
Marinette—tissue products
Neenah—diapers, training pants, feminine care and incontinence care products and nonwovens
Outside the United States
Argentina
Bernal—tissue products
Pilar—feminine care and incontinence care products
San Luis—diapers
Australia
Albury—nonwovens
Ingleburn—diapers
Lonsdale—diapers and feminine care and incontinence care products
Millicent—pulp and tissue products
Tantanoola—pulp
Warwick Farm—tissue products
Bahrain
Belgium
Duffel—tissue products
Bolivia
La Paz—tissue products
Santa Cruz—tissue products
Brazil
Bahia—tissue products
Correia Pinto—tissue products
Cruzeiro—tissue products
Mogi das Cruzes—tissue products
Porto Alegre—feminine care products
Suzano—diapers, wet wipes and incontinence care products
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Canada
Huntsville, Ontario—tissue products and wipers
St. Hyacinthe, Quebec—feminine care and incontinence care products
China
Beijing—feminine care products and diapers
Guangzhou—tissue products
Nanjing—feminine care products
Shanghai—tissue products
Colombia
Barbosa—wipers, business and correspondence papers and notebooks
Puerto Tejada—tissue products
Tocancipa—diapers and feminine care products
Costa Rica
Belen—tissue products
Cartago—diapers and feminine care and incontinence care products
Czech Republic
Jaromer—diapers and incontinence care products
Litovel—feminine care products
Dominican Republic
Santo Domingo—tissue products
Ecuador
Babahoyo—tissue products
Mapasingue—tissue products, diapers and feminine care products
El Salvador
Sitio del Niño—tissue products
France
Rouen—tissue products
Villey-Saint-Etienne—tissue products
Germany
Forchheim—feminine care and incontinence care products
Koblenz—tissue products
Mainz—tissue products
Reisholz—tissue products
Honduras
Villanueva—health care products
India
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Indonesia
Jakarta—tissue products
Israel
Afula—diapers and feminine care and incontinence care products
Hadera—tissue products
Nahariya—tissue products
Italy
Alanno—tissue products
Romagnano—tissue products
Villanovetta—tissue products
Korea
Anyang—feminine care products, diapers and tissue products
Kimcheon—tissue products and nonwovens
Taejon—feminine care products, diapers and nonwovens
Malaysia
Kluang—tissue products, feminine care products and diapers
Mexico
Acuña—health care products
Empalme—health care products
Magdalena—health care products
Nogales—health care products
Peru
Puente Piedra—tissue products
Villa—diapers and feminine care and incontinence care products
Philippines
San Pedro, Laguna—feminine care products, diapers and tissue products
Poland
Klucze—tissue products
Saudi Arabia
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Singapore
Tuas—diapers
Slovak Republic
Piestany—health care products
South Africa
Cape Town—tissue, feminine care and incontinence care products
Springs—tissue products and diapers
Spain
Aranguren—tissue products
Arceniega—tissue products and personal cleansing products and systems
Calatayud—diapers
Salamanca—tissue products
Telde, Canary Islands—tissue products
Switzerland
Balsthal—tissue products and specialty papers
Niederbipp—tissue products
Reichenburg—tissue products
Taiwan
Chung Li—tissue products, feminine care products and diapers
Hsin-Ying—tissue products
Ta-Yuan—tissue products
Thailand
Hat Yai—disposable gloves
Pathumthani—feminine care products, diapers and tissue products
Samut Prakarn—tissue products
Turkey
Istanbul—diapers
United Kingdom
Barrow—tissue products
Barton-upon-Humber—diapers and nonwovens
Flint—tissue products and nonwovens
Northfleet—tissue products
Venezuela
Maracay—tissue products and diapers
Vietnam
Binh Duong—feminine care products
Hanoi—feminine care products
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As of December 31, 2004, the Corporation, along with many other nonaffiliated companies, was a party to lawsuits with allegations of personal injury resulting from asbestos exposure on the defendants’ premises and allegations that the defendants manufactured, sold, distributed or installed products which cause asbestos-related lung disease. These general allegations are often made against the Corporation without any apparent evidence or identification of a specific product or premises of the Corporation. The Corporation has denied the allegations and raised numerous defenses in all of these asbestos cases. All asbestos claims have been tendered to the Corporation’s insurance carriers for defense and indemnity. The financial statements reflect appropriate accruals for the Corporation’s portion of the costs estimated to be incurred in connection with resolving these claims.
The Corporation is subject to federal, state and local environmental protection laws and regulations with respect to its business operations and is operating in compliance with, or taking action aimed at ensuring compliance with, such laws and regulations. The Corporation has been named a potentially responsible party under the provisions of the federal Comprehensive Environmental Response, Compensation and Liability Act, or analogous state statutes, at a number of waste disposal sites.
In management’s opinion, none of these legal proceedings nor the Corporation’s compliance obligations with environmental protection laws and regulations, individually or in the aggregate, is expected to have a material adverse effect on the Corporation’s business, financial condition, results of operations or liquidity.
No matters were submitted to a vote of security holders during the fourth quarter of 2004.
The names and ages of the executive officers of the Corporation as of February 22, 2005, together with certain biographical information, are as follows:
Robert E. Abernathy, 50, was elected Group President – Developing and Emerging Markets effective January 19, 2004. He is responsible for the Corporation’s businesses in Asia, Latin America, Eastern Europe, the Middle East and Africa. Mr. Abernathy joined the Corporation in 1982. His past responsibilities in the Corporation have included operations and major project management in North America. He was appointed Vice President – North American Diaper Operations in 1992; Managing Director of Kimberly-Clark Australia Pty. Limited in 1994; and Group President of the Corporation’s Business-to-Business segment in 1998.
Mark A. Buthman, 44, was elected Senior Vice President and Chief Financial Officer in 2003. Mr. Buthman joined the Corporation in 1982. He has held various positions of increasing responsibility in the operations, finance and strategic planning areas of the Corporation. Mr. Buthman was appointed Vice President of Finance in 2002 and Vice President of Strategic Planning and Analysis in 1997.
Thomas J. Falk, 46, was elected Chairman of the Board and Chief Executive Officer in 2003 and President and Chief Executive Officer in 2002. Prior to that, he served as President and Chief Operating Officer since 1999. Mr. Falk previously had been elected Group President—Global Tissue, Pulp and Paper in 1998, where he was responsible for the Corporation’s global tissue businesses. Earlier in his career, Mr. Falk had responsibility for the Corporation’s North American Infant Care, Child Care and Wet Wipes businesses. Mr. Falk joined the Corporation in 1983 and has held other senior management positions in the Corporation. He has been a director
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of the Corporation since 1999. He also serves on the board of directors of Centex Corporation, Grocery Manufacturers of America, Inc. and the University of Wisconsin Foundation, and serves as a trustee of the Boys & Girls Clubs of America.
Steven R. Kalmanson, 52, was elected Group President—North Atlantic Personal Care effective January 19, 2004. He is responsible for the Corporation’s global personal care segment, and its North American Sales, Marketing Services and Supply Chain and Logistics organizations. Mr. Kalmanson joined the Corporation in 1977. His past responsibilities have included various marketing and business management positions within the consumer products businesses. He was appointed President, Adult Care in 1990; President, Child Care in 1991; President, Family Care in 1995; and Group President of the Corporation’s Consumer Tissue segment in 1996.
W. Dudley Lehman, 53, was elected Group President—Business-to-Business effective January 19, 2004. He is responsible for the Corporation’s global Business-to-Business segment, which includes the K-C Professional Tissue and Wiper business, the Health Care business, Nonwovens manufacturing and the Research and Sales functions. Mr. Lehman joined the Corporation in 1976 and held various marketing positions in the infant care and feminine care businesses before becoming Director of Training Pants in 1988. He was appointed President of the Child Care Sector in 1990; President of the Infant Care Sector in 1991; and Group President of the Infant Care and Child Care Sectors in 1995. Mr. Lehman is a director of Snap-on Incorporated.
Ronald D. Mc Cray, 47, was elected Senior Vice President—Law and Government Affairs and Chief Compliance Officer effective November 16, 2004. His responsibilities include the Corporation’s legal affairs, internal audit and government relations activities. Mr. Mc Cray joined the Corporation in 1987 as Senior Attorney. He was appointed Vice President and Chief Counsel in 1996. He was elected Vice President and Secretary in 1999, Vice President, Associate General Counsel and Secretary in 2001 and Senior Vice President—Law and Government Affairs in 2003. He is a director of Knight-Ridder, Inc.
Robert P. van der Merwe, 52, was elected Group President—North Atlantic Family Care effective January 19, 2004. He is responsible for the Corporation’s global consumer tissue segment, and its European Marketing Services, Integrated Supply Chain and Customer Management organizations. Mr. van der Merwe joined the Corporation in 1980 as Brand/Marketing Manager in South Africa. In 1985, he became Director of World Support Group—Personal Care. From 1987 to 1993, Mr. van der Merwe left the Corporation to become Managing Director of Xerox’s Southern African operations. He returned to the Corporation in 1994 as Director of Global Projects and became Director of the World Support Group—Personal Care in 1995. He became President of the Adult Care Sector later that year and was appointed President—Feminine Care Sector in 1997. He was appointed President—Kimberly-Clark Europe in 1998 and was elected Group President—Kimberly-Clark Europe, Middle East & Africa in 1998.
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PART II
The dividend and market price data included in Item 8, Note 18 to the Consolidated Financial Statements is incorporated in this Item 5 by reference.
Quarterly dividends have been paid continually since 1935. Dividends are paid on or about the second business day of January, April, July and October. The Automatic Dividend Reinvestment service of EquiServe Trust Company, N.A. is available to Kimberly-Clark stockholders of record. The service makes it possible for Kimberly-Clark stockholders of record to have their dividends automatically reinvested in common stock and to make additional cash investments up to $3,000 per quarter.
Kimberly-Clark common stock is listed on the New York, Chicago and Pacific stock exchanges. The ticker symbol is KMB.
As of February 16, 2005, the Corporation had 35,773 holders of record of its common stock.
For information relating to securities authorized for issuance under equity compensation plans, see Part III, Item 12 of this Form 10-K.
The Corporation regularly repurchases shares of Kimberly-Clark common stock pursuant to publicly announced share repurchase programs. All share repurchases by the Corporation were made through brokers on the New York Stock Exchange. During 2004, the Corporation purchased $1.6 billion worth of its common stock. The following table contains information for shares repurchased during the fourth quarter of 2004. None of the shares in this table were repurchased directly from any officer or director of the Corporation.
Period (2004)
October 1 to 31
November 1 to 30
December 1 to 31
Total
In addition, during November and December, 25,085 shares at a cost of $1,585,849 and 15,353 shares at a cost of $994,515, respectively, were purchased from current or former employees in connection with the exercise of employee stock options and other awards. No such shares were purchased in October.
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Net Sales
Gross Profit
Operating Profit
Share of Net Income of Equity Companies
Income from:
Continuing operations
Discontinued operations, net of income taxes
Cumulative effect of accounting change, net of income taxes
Net income
Per share basis:
Basic
Discontinued operations
Diluted
Cash Dividends Per Share
Declared
Paid
Total Assets
Long-Term Debt
Stockholders’ Equity
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Introduction
This management’s discussion and analysis of financial condition and results of operations is intended to provide investors with an understanding of the Corporation’s past performance, its financial condition and its prospects. The following will be discussed and analyzed:
Overview of Business
The Corporation is a global health and hygiene company with manufacturing facilities in 37 countries and its products are sold in more than 150 countries. The Corporation’s products are sold under such well-known brands as Kleenex, Scott, Huggies, Pull-Ups, Kotex and Depend. The Corporation has three reportable global business segments: Personal Care, Consumer Tissue and Business-to-Business. These global business segments are described in greater detail in Item 1 of this Form 10-K and in Note 16 to the Consolidated Financial Statements.
In managing this global business, the Corporation’s management believes that developing new and improved products, responding effectively to competitive challenges, obtaining and maintaining leading market shares, controlling costs, and managing currency and commodity risks are important to the long-term success of the Corporation. The discussion and analysis of results of operations and other related information will refer to these factors.
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On November 30, 2004, the Corporation distributed to its stockholders all of the shares of common stock of Neenah Paper, Inc. (“Neenah Paper”), a wholly-owned subsidiary formed in April 2004 to facilitate the spin-off of the U.S. fine and technical papers businesses and the Canadian pulp mills (the “Spin-off”). In accordance with Statement of Financial Accounting Standards (“SFAS”) 144, Accounting for the Impairment or Disposal of Long-Lived Assets, prior period Consolidated Income Statements and Cash Flow Statements and related disclosures present the results of Neenah Paper’s fine paper and technical paper businesses, which were previously included in the Business-to-Business segment, as discontinued operations. Prior to the Spin-off, the Corporation internally consumed approximately 90 percent of the pulp produced by the Canadian pulp business. In connection with the Spin-off, the Corporation entered into a long-term pulp supply agreement to purchase a substantial portion of the pulp produced by Neenah Paper. Because we will continue to incur pulp costs in our operations, the results of Neenah Paper’s Canadian pulp business have not been reported as discontinued operations in accordance with the provisions of SFAS 144. The following discussion and analysis is based on a comparison of the Corporation’s continuing operations.
Overview of 2004 Results
During 2004, the Corporation continued to face intense competition in most of its markets. In particular, the diaper and pants categories in North America and Europe continued to be affected by the competitive pricing pressures that began in late 2002. The tissue businesses were also adversely affected by higher fiber costs, and all of the businesses faced higher materials input costs. Despite these challenges, improved results were achieved in 2004:
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Market Shares
U.S. market shares are tracked on a sales dollar basis with information provided by A.C. Nielsen for distribution through the food, drug and mass merchandising channels, excluding Wal-Mart, warehouse clubs, dollar stores and certain other outlets. These customers do not report market share information publicly. The A.C. Nielsen data provides coverage ranging from approximately 40 percent to 60 percent of the retail value of products sold, depending upon the product category.
Shown below are the Corporation’s U.S. market shares for key categories for full years 2002 through 2004:
Category
Diapers
Training, Youth and Swim Pants
Feminine Care
Adult Incontinence Care
Baby Wipes
Facial Tissue
Bathroom Tissue
Paper Towels
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Results of Operations and Related Information
This section contains a discussion and analysis of net sales, operating profit and other information relevant to an understanding of 2004 results of operations. This discussion and analysis compares 2004 results to 2003, and 2003 results to 2002. Each of those discussions focuses first on consolidated results, and then the results of each reportable business segment.
Analysis of Consolidated Net Sales
By Business Segment
Personal Care
Consumer Tissue
Business-to-Business
Intersegment sales
Consolidated
By Geographic Area
Intergeographic sales
Total North America
Europe
Asia, Latin America and other
Commentary:
2004 versus 2003
TotalChange
NetPrice
Currency
Other
Consolidated net sales increased 7.5 percent from 2003. Sales volumes advanced approximately 5 percent with contributions from each of the business segments. About 1 percentage point of the increase in sales volumes
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was due to the consolidation, in August 2003, of Klabin Kimberly S.A. (“Klabin”), a former equity affiliate and Brazil’s largest tissue manufacturer. Currency effects added more than 3 percent to the increase primarily due to strengthening of the euro, British pound, and Australian and Canadian dollars. Slightly lower net selling prices were offset by a more favorable product mix.
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2003 versus 2002
Consolidated net sales increased 6.0 percent over 2002. In addition to favorable currency effects of about 4 percent, higher sales volumes of more than 2 percent more than offset slightly lower net selling prices. The favorable currency effects, primarily in Europe and Australia, were tempered by unfavorable currency effects in Latin America. Slightly less than one-half of the increased sales volumes were due to the consolidation of Klabin and the February 2003 acquisition of the Klucze tissue business in Poland.
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Analysis of Consolidated Operating Profit
Other income (expense), net
Unallocated—net
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Consolidated operating profit increased 7.5 percent as the higher sales volumes, about $160 million of benefit from cost savings programs and total favorable currency effects of over $70 million more than offset the lower net selling prices, higher fiber costs and increased energy and distribution expenses. Operating profit as a percentage of net sales was 16.6 percent, the same as last year.
Operating profit for consumer tissue products improved 10.3 percent driven by cost savings of almost $60 million, favorable currency effects of about $25 million and lower marketing expenses tempered by approximately $45 million of higher fiber costs, higher other raw material and energy costs and increased distribution expense. In North America, operating profit grew nearly 6 percent because of the higher sales volumes and net selling prices, cost savings, and lower marketing expenses, partially offset by higher fiber costs and increased costs for energy and distribution. Operating profit in Europe
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Consolidated operating profit decreased 1.5 percent. Higher promotional spending, increased fiber, distribution and energy costs, increased pension expense of approximately $134 million and a higher level of expenses in other income (expense), net more than offset the benefits of cost reduction programs of about $190 million, favorable currency effects and increased sales volumes. Each of the three business segments incurred more than $40 million of the higher pension costs. Operating profit as a percentage of net sales decreased from 17.9 percent in 2002 to 16.6 percent in 2003.
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In 2002, the Corporation recorded charges of approximately $43 million related to business improvement and other programs. Charges related to the plans to streamline manufacturing and administrative operations in Latin America and Europe totaled $14.3 million and $19.1 million, respectively, and consisted principally of employee severance of $16.8 million and asset write-off and disposal costs of $8.4 million. The Corporation also recorded charges of approximately $3 million for employee severance to complete actions that had been initiated in 2001 and approximately $4 million for a one-time national security tax levied on all corporations in Colombia.
The above 2002 charges were recorded in the business segments as follows: personal care $14.8 million; consumer tissue $21.8 million; business-to-business $6.6 million. On a geographic basis, these charges were included as follows: North America $5.8 million; Europe $19.1 million; Asia, Latin America and other $18.3 million. These charges were included in the consolidated income statement as follows: cost of products sold—$19.1 million, consisting principally of employee severance and asset write-off costs; marketing, research and general expenses—$24.1 million, consisting principally of severance, training and other integration costs in Europe.
Additional Income Statement Commentary
Synthetic Fuel Partnerships
In April 2003, the Corporation acquired a 49.5 percent minority interest in a synthetic fuel partnership. In October 2004, the Corporation acquired a 49 percent minority interest in an additional synthetic fuel partnership. These partnerships are variable interest entities that are subject to the requirements of FIN 46 (Revised December 2003), Consolidation of Variable Interest Entities, an Interpretation of ARB 51, (“FIN 46R”). Although these partnerships are variable interest entities (“VIEs”), the Corporation is not the primary beneficiary, and the entities have not been consolidated. Synthetic fuel produced by the partnerships is eligible for synthetic fuel tax credits through 2007.
The production of synthetic fuel results in pretax losses. In 2004 and 2003, these pretax losses totaled $158.4 million and $105.5 million, respectively, and are reported as nonoperating expense on the Corporation’s
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income statement. The synthetic fuel tax credits, as well as tax deductions for the nonoperating losses, reduce the Corporation’s income tax expense. In 2004 and 2003, the Corporation’s participation in the synthetic fuel partnership resulted in $144.4 million and $94.1 million of tax credits, respectively, and the nonoperating losses generated an additional $55.4 million and $37.2 million, respectively, of tax benefits, which combined to reduce the Corporation’s income tax provision by $199.8 million and $131.3 million, respectively. The effect of these benefits increased net income by $41.4 million, $.08 per share in 2004 and $25.8 million, $.05 per share in 2003. The effects of these tax credits are shown separately in the Corporation’s reconciliation of the U.S. statutory rate to its effective income tax rate in Note 14 to the Consolidated Financial Statements.
Because the partnerships have received favorable private letter rulings from the IRS and because the partnerships’ test procedures conform to IRS guidance, the Corporation’s loss exposure under the synthetic fuel partnerships is minimal.
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Liquidity and Capital Resources
Cash provided by operations
Capital spending
Acquisitions of businesses, net of cash acquired
Ratio of total debt and preferred securities to capital (a)
Pretax interest coverage—times
Cash Flow Commentary:
Contractual Obligations:
The following table presents the Corporation’s total contractual obligations for which cash flows are fixed or determinable.
Contractual obligations
Long-term debt
Interest payments on long-term debt
Operating leases
Unconditional purchase obligations
Open purchase orders
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Obligations Commentary:
The above table does not include future payments that the Corporation will make for other postretirement benefit obligations. Those amounts are estimated using actuarial assumptions, including expected future service, to project the future obligations. Based upon those projections, the Corporation anticipates making payments for these obligations within a range from approximately $80 million in 2005 to more than $90 million by 2014.
The table also does not include anticipated payments related to the synthetic fuel partnerships. Such payments will only be made if the partnerships produce synthetic fuel in future years. The Corporation estimates that it will make payments to these partnerships of approximately $160 million in 2005, 2006 and 2007, and will receive income tax benefits and credits in excess of these amounts.
Deferred taxes, minority interest and payments related to pension plans are also not included in the table.
A consolidated financing subsidiary has issued preferred securities that are in substance perpetual and are callable by the subsidiary in November 2008 and each 20-year anniversary thereafter. Management currently anticipates that these securities will not be called in November 2008, the next call date, and therefore they are not included in the above table (see Financing Commentary below and Note 5 to the Consolidated Financial Statements for additional detail regarding these securities).
Investing Commentary:
Financing Commentary:
There were no changes in the Corporation’s credit ratings in 2004. In July 2003, Standard & Poor’s (“S&P”) revised the Corporation’s credit rating for long-term debt from AA to AA-. Moody’s Investor Service maintained its short- and long-term ratings but changed the Corporation’s outlook to negative from stable, indicating that a ratings downgrade could be possible. These changes were primarily based on the Corporation’s business performance in the heightened competitive environment and because S&P changed the way in which it evaluates liabilities for pensions and other postretirement benefits.
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Management believes that the Corporation’s ability to generate cash from operations and its capacity to issue short-term and long-term debt are adequate to fund working capital, capital spending, payment of dividends, repurchases of common stock and other needs in the foreseeable future.
Variable Interest Entities
The Corporation has variable interests in the following financing and real estate entities and in the synthetic fuel partnerships described above.
Financing Entities
The Corporation holds a significant variable interest in two financing entities that were used to monetize long-term notes received from the sale of certain nonstrategic timberlands and related assets, which were sold in 1999 and 1989 to nonaffiliated buyers. These transactions qualified for the installment method of accounting for income tax purposes and met the criteria for immediate profit recognition for financial reporting purposes contained in SFAS 66, Accounting for Sales of Real Estate. These sales involved notes receivable with an aggregate face value of $617 million and a fair value of approximately $593 million at the date of sale. The notes receivable are backed by irrevocable standby letters of credit issued by money center banks, which aggregated $617 million at December 31, 2004.
Because the Corporation desired to monetize the $617 million of notes receivable and continue the deferral of current income taxes on the gains, in 1999 the Corporation transferred the notes received from the 1999 sale to a noncontrolled financing entity, and in 2000 it transferred the notes received from the 1989 sale to another noncontrolled financing entity. The Corporation has minority voting interests in each of the financing entities
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(collectively, the “Financing Entities”). The transfers of the notes and certain other assets to the Financing Entities were made at fair value, were accounted for as asset sales and resulted in no gain or loss. In conjunction with the transfer of the notes and other assets, the Financing Entities became obligated for $617 million in third-party debt financing. A nonaffiliated financial institution has made substantive capital investments in each of the Financing Entities, has majority voting control over them and has substantive risks and rewards of ownership of the assets in the Financing Entities. The Corporation also contributed intercompany notes receivable aggregating $662 million and intercompany preferred stock of $50 million to the Financing Entities, which serve as secondary collateral for the third-party lending arrangements. In the unlikely event of default by both of the money center banks that provided the irrevocable standby letters of credit, the Corporation could experience a maximum loss of $617 million under these arrangements.
The Corporation has not consolidated the Financing Entities because it is not the primary beneficiary of either entity. Rather, it will continue to account for its ownership interests in these entities using the equity method of accounting. The Corporation retains equity interests in the Financing Entities for which the legal right of offset exists against the intercompany notes. As a result, the intercompany notes payable have been offset against the Corporation’s equity interests in the Financing Entities for financial reporting purposes.
See Note 5 to the Consolidated Financial Statements for a description of the Corporation’s Luxembourg-based financing subsidiary, which is consolidated because the Corporation is the primary beneficiary of the entity.
Real Estate Entities
Effective March 31, 2004, the Corporation adopted FIN 46R for its real estate entities described below. In 1994, the Corporation began participating in the U.S. affordable and historic renovation real estate markets. Investments in these markets are encouraged by laws enacted by the United States Congress and related federal income tax rules and regulations. Accordingly, these investments generate income tax credits and tax losses that are used to reduce the Corporation’s income tax liabilities. The Corporation has invested in these markets through (i) partnership arrangements in which it is a limited partner, (ii) limited liability companies (“LLCs”) in which it is a nonmanaging member and (iii) investments in various funds in which the Corporation is one of many noncontrolling investors. These entities borrow money from third parties generally on a nonrecourse basis and invest in and own various real estate projects.
Adoption of FIN 46R required the Corporation to consolidate ten apartment projects and two hotels because it was the primary beneficiary of each of these real estate ventures. The carrying amount of the assets that serve as collateral for $98.4 million of obligations of these ventures was $147.5 million at December 31, 2004, and these assets are classified as property, plant and equipment on the consolidated balance sheet. The Corporation also has guaranteed $14.6 million of the obligations of these ventures.
The Corporation accounts for its interests in real estate entities that are not consolidated under FIN 46R by the equity method of accounting or by the effective yield method, as appropriate, and has accounted for the related income tax credits and other tax benefits as a reduction in its income tax provision. As of December 31, 2004, the Corporation had a net equity of $21.2 million in its nonconsolidated real estate entities. The Corporation has earned income tax credits totaling approximately $71.8 million, $59.3 million and $49.9 million for December 31, 2004, 2003 and 2002, respectively. As of December 31, 2004, total permanent financing debt for the nonconsolidated entities was $221.9 million. A total of $7.6 million of the permanent financing debt is guaranteed by the Corporation and the remainder of this debt is not supported or guaranteed by the Corporation. Except for the guaranteed portion, permanent financing debt is secured solely by the properties and is nonrecourse to the Corporation. From time to time, temporary interim financing is guaranteed by the
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Corporation. In general, the Corporation’s interim financing guarantees are eliminated at the time permanent financing is obtained. At December 31, 2004, $27.9 million of temporary interim financing associated with these nonconsolidated real estate entities was guaranteed by the Corporation.
If the Corporation’s investments in its nonconsolidated real estate entities were to be disposed of at their carrying amounts, a portion of the tax credits may be recaptured and may result in a charge to earnings. As of December 31, 2004, this recapture risk is estimated to be $31.1 million. The Corporation has no current intention of disposing of these investments during the recapture period, nor does it anticipate the need to do so in the foreseeable future in order to satisfy any anticipated liquidity need. Accordingly, the recapture risk is considered to be remote.
At December 31, 2004, the Corporation’s maximum loss exposure for its nonconsolidated real estate entities is estimated to be $87.8 million and was comprised of its net equity in these entities of $21.2 million, its permanent financing guarantees of $7.6 million, its interim financing guarantees of $27.9 million and the income tax credit recapture risk of $31.1 million.
Critical Accounting Policies and Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting period. Actual results could differ from these estimates, and changes in these estimates are recorded when known. The critical accounting policies used by management in the preparation of the Corporation’s consolidated financial statements are those that are important both to the presentation of the Corporation’s financial condition and results of operations and require significant judgments by management with regard to estimates used. The critical judgments by management relate to consumer and trade promotion and rebate accruals, pension benefits, retained insurable risks, excess and obsolete inventory, allowance for doubtful accounts, useful lives for depreciation and amortization, future cash flows associated with impairment testing for goodwill and long-lived assets and for determining the primary beneficiary of variable interest entities, deferred tax assets and potential income tax assessments, and contingencies. The Corporation’s critical accounting policies have been reviewed with the Audit Committee of the Board of Directors.
Promotion and Rebate Accruals
Among those factors affecting the accruals for promotions are estimates of the number of consumer coupons that will be redeemed and the type and number of activities within promotional programs between the Corporation and its trade customers. Rebate accruals are based on estimates of the quantity of products distributors have sold to specific customers. Generally, the estimates for consumer coupon costs are based on historical patterns of coupon redemption, influenced by judgments about current market conditions such as competitive activity in specific product categories. Estimates of trade promotion liabilities for promotional program costs incurred, but unpaid, are generally based on estimates of the quantity of customer sales, timing of promotional activities and forecasted costs for activities within the promotional programs. Settlement of these liabilities sometimes occurs in periods subsequent to the date of the promotion activity. Trade promotion programs include introductory marketing funds such as slotting fees, cooperative marketing programs, temporary price reductions, favorable end of aisle or in-store product displays and other activities conducted by the customers to promote the Corporation’s products. Promotion accruals as of December 31, 2004 and 2003 were $263.3 million and $222.0 million, respectively. Rebate accruals as of December 31, 2004 and 2003 were $163.0 million and $136.4 million, respectively.
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Pension Benefits
The Corporation and its subsidiaries in North America and the United Kingdom have defined benefit pension plans (the “Principal Plans”) and/or defined contribution retirement plans covering substantially all regular employees. Certain other subsidiaries have defined benefit pension plans or, in certain countries, termination pay plans covering substantially all regular employees. The funding policy for the qualified defined benefit plans in North America and the defined benefit plans in the United Kingdom is to contribute assets to fully fund the accumulated benefit obligation (“ABO”). Subject to regulatory and tax deductibility limits, any funding shortfall will be eliminated over a reasonable number of years. Nonqualified U.S. plans providing pension benefits in excess of limitations imposed by the U.S. income tax code are not funded. Funding for the remaining defined benefit plans outside the U.S. is based on legal requirements, tax considerations, investment opportunities, and customary business practices in such countries.
Consolidated pension expense for defined benefit pension plans was $154.8 million in 2004 compared with $165.9 million for 2003. Pension expense is calculated based upon a number of actuarial assumptions applied to each of the defined benefit plans. The weighted-average expected long-term rate of return on pension fund assets used to calculate pension expense was 8.32 percent in 2004 compared with 8.42 percent in 2003 and will be 8.29 percent in 2005. The expected long-term rate of return on pension fund assets was determined based on several factors, including input from our pension investment consultants and projected long-term returns of broad equity and bond indices. We also considered our U.S. plan’s historical 10-year and 15-year compounded annual returns of 10.92 percent and 9.66 percent, respectively, which have been in excess of these broad equity and bond benchmark indices. We anticipate that on average the investment managers for each of the plans comprising the Principal Plans will generate annual long-term rates of return of at least 8.5 percent. Our expected long-term rate of return on the assets in the Principal Plans is based on an asset allocation assumption of about 70 percent with equity managers, with expected long-term rates of return of approximately 10 percent, and 30 percent with fixed income managers, with an expected long-term rate of return of about 6 percent. We regularly review our actual asset allocation and periodically rebalance our investments to our targeted allocation when considered appropriate. Also, when deemed appropriate, we execute hedging strategies using index options and futures to limit the downside exposure of certain investments by trading off upside potential above an acceptable level. We executed such hedging strategies in 2003 and 2002. No hedging instruments are currently in place. We will continue to evaluate our long-term rate of return assumptions at least annually and will adjust them as necessary.
We determine pension expense on the fair value of assets rather than a calculated value that averages gains and losses (“Calculated Value”) over a period of years. Investment gains or losses represent the difference between the expected return calculated using the fair value of assets and the actual return based on the fair value of assets. We recognize the variance between actual and expected gains and losses on pension assets in pension expense more rapidly than we would if we used a Calculated Value for plan assets. As of December 31, 2004, the Principal Plans had cumulative unrecognized investment losses and other actuarial losses of approximately $1.7 billion. These unrecognized net losses may increase our future pension expense if not offset by (i) actual investment returns that exceed the assumed investment returns, or (ii) other factors, including reduced pension liabilities arising from higher discount rates used to calculate our pension obligations, or (iii) other actuarial gains, including whether such accumulated actuarial losses at each measurement date exceed the “corridor” determined under SFAS 87, Employers’ Accounting for Pensions.
The discount (or settlement) rate we used to determine the present value of our future U.S. pension obligations at December 31, 2004 was based on a yield curve constructed from a portfolio of high quality corporate debt securities with maturities ranging from 1 year to 30 years. Each year’s expected future benefit payments were discounted to their present value at the appropriate yield curve rate thereby generating the overall discount rate for our U.S. pension obligations. For our non-U.S. Principal Plans, we established discount rates
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using the long-term local government bond rates increased by the interest rate spread between the U.S. discount rate and long-term U.S. government bond rates. The weighted-average discount rate for the Principal Plans decreased to 5.77 percent at December 31, 2004 from 5.97 percent at December 31, 2003.
We estimate that our consolidated pension expense will approximate $160 million in 2005. This estimate reflects the effect of the actuarial losses and is based on an expected weighted-average long-term rate of return on assets in the Principal Plans of 8.50 percent, a weighted-average discount rate for the Principal Plans of 5.77 percent and various other assumptions. Pension expense beyond 2005 will depend on future investment performance, the Corporation’s contributions to the pension trusts, changes in discount rates and various other factors related to the covered employees in the plans.
If the expected long-term rate of return on assets for our Principal Plans was lowered by 0.25 percent, our annual pension expense would increase by approximately $9 million. If the discount rate assumptions for these same plans were reduced by 0.25 percent, our annual pension expense would increase by approximately $13 million and our December 31, 2004 minimum pension liability would increase by about $147 million.
The fair value of the assets in our defined benefit plans was $4.0 billion at December 31, 2004 and December 31, 2003. Lower discount rates have caused the projected benefit obligations (the “PBO”) of the defined benefit plans to exceed the fair value of plan assets by approximately $1.2 billion at December 31, 2004 and December 31, 2003. Primarily due to the lower discount rates, the ABO of our defined benefit plans exceeded plan assets by about $.9 billion at the end of 2004. At the end of 2003, the ABO exceeded the fair value of plan assets by about $.8 billion. On a consolidated basis, the Corporation contributed about $200 million to pension trusts in 2004 compared with $181.9 million in 2003. In addition, the Corporation made direct benefit payments of $21.4 million in 2004 compared to $29.7 million in 2003. While the Corporation is not required to make a contribution in 2005 to the U.S. plan, the benefit of a contribution will be evaluated. About $38 million will be contributed to plans outside the U.S. in 2005.
The discount rate used for each country’s pension obligation is identical to the discount rate used for that country’s other postretirement obligation. The discount rates displayed for the two types of obligations for the Corporation’s consolidated operations may appear different due to the weighting used in the calculation of the two weighted-average discount rates.
Retained Insurable Risks
We retain selected insurable risks, primarily related to property damage, workers’ compensation, and product, automobile and premises liability based upon historical loss patterns and management’s judgment of cost effective risk retention. Accrued liabilities for incurred but not reported events, principally related to workers compensation and automobile liability, are based upon loss development factors provided to us by our external insurance brokers.
Excess and Obsolete Inventory
We require all excess, obsolete, damaged or off-quality inventories including raw materials, in-process, finished goods, and spare parts to be adequately reserved for or to be disposed of. Our process requires an ongoing tracking of the aging of inventories to be reviewed in conjunction with current marketing plans to ensure that any excess or obsolete inventories are identified on a timely basis. This process requires judgments be made about the salability of existing stock in relation to sales projections. The evaluation of the adequacy of provision for obsolete and excess inventories is performed on at least a quarterly basis. No provisions for future obsolescence, damage or off-quality inventories are made.
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Allowance for Doubtful Accounts
We provide an allowance for doubtful accounts that represents our best estimate of the accounts receivable that will not be collected. We base our estimate on, among other things, historical collection experience, a review of the current aging status of customer receivables, and a review of specific information for those customers that are deemed to be higher risk. When we become aware of a customer whose continued operating success is questionable, we closely monitor collection of their receivable balance and may require the customer to prepay for current shipments. If a customer enters a bankruptcy action, we monitor the progress of that action to determine when and if an additional provision for non-collectibility is warranted. We evaluate the adequacy of the allowance for doubtful accounts on at least a quarterly basis. The allowance for doubtful accounts at December 31, 2004 and 2003 was $42.5 million and $47.9 million, respectively, and our write-off of uncollectible accounts was $13.6 million and $15.5 million in 2004 and 2003, respectively.
Property and Depreciation
Estimating the useful lives of property, plant and equipment requires the exercise of management judgment, and actual lives may differ from these estimates. Changes to these initial useful life estimates are made when appropriate. Property, plant and equipment are tested for impairment in accordance with SFAS 144,Accounting for the Impairment or Disposal of Long-Lived Assets, whenever events or changes in circumstances indicate that the carrying amounts of such long-lived assets may not be recoverable from future net pretax cash flows. Impairment testing requires significant management judgment including estimating the future success of product lines, future sales volumes, growth rates for selling prices and costs, alternative uses for the assets and estimated proceeds from disposal of the assets. Impairment testing is conducted at the lowest level where cash flows can be measured and are independent of cash flows of other assets. An asset impairment would be indicated if the sum of the expected future net pretax cash flows from the use of the asset (undiscounted and without interest charges) is less than the carrying amount of the asset. An impairment loss would be measured based on the difference between the fair value of the asset and its carrying amount. We determine fair value based on an expected present value technique in which multiple cash flow scenarios that reflect a range of possible outcomes and a risk free rate of interest are used to estimate fair value.
The estimates and assumptions used in the impairment analysis are consistent with the business plans and estimates we use to manage our business operations and to make acquisition and divestiture decisions. The use of different assumptions would increase or decrease the estimated fair value of the asset and would increase or decrease the impairment charge. Actual outcomes may differ from the estimates. For example, if our products fail to achieve volume and pricing estimates or if market conditions change or other significant estimates are not realized, then our revenue and cost forecasts may not be achieved, and we may be required to recognize additional impairment charges.
Goodwill and Other Intangible Assets
We test the carrying amount of goodwill annually as of the beginning of the fourth quarter and whenever events or circumstances indicate that impairment may have occurred. Impairment testing is performed in accordance with SFAS 142, Goodwill and Other Intangible Assets. Impairment testing is conducted at the operating segment level of our businesses and is based on a discounted cash flow approach to determine the fair value of each operating segment. The determination of fair value requires significant management judgment including estimating future sales volumes, growth rates of selling prices and costs, changes in working capital, investments in property and equipment and the selection of an appropriate discount rate. We also test the sensitivities of these fair value estimates to changes in our growth assumptions of sales volumes, selling prices and costs. If the carrying amount of an operating segment that contains goodwill exceeds fair value, a possible
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impairment would be indicated. If a possible impairment is indicated, we would estimate the implied fair value of goodwill by comparing the carrying amount of the net assets of the unit excluding goodwill to the total fair value of the unit. If the carrying amount of goodwill exceeds its implied fair value, an impairment charge would be recorded. We also use judgment in assessing whether we need to test more frequently for impairment than annually. Factors such as unexpected adverse economic conditions, competition, product changes and other external events may require more frequent assessments. We have completed our annual goodwill impairment testing and have determined that none of our $2.7 billion of goodwill is impaired.
We have no intangible assets with indefinite useful lives. We have other intangible assets with a gross carrying amount of approximately $276 million and a net carrying amount of about $185 million. These intangibles are being amortized over their estimated useful lives and are tested for impairment whenever events or circumstances indicate that impairment may have occurred. If the carrying amount of an intangible asset exceeds its fair value based on estimated future undiscounted cash flows, an impairment loss would be indicated. The amount of the impairment loss to be recorded would be based on the excess of the carrying amount of the intangible asset over its discounted future cash flows. We use judgment in assessing whether the carrying amount of our intangible assets is not expected to be recoverable over their estimated remaining useful lives. The factors considered are similar to those outlined in the goodwill impairment discussion above.
Primary Beneficiary Determination of Variable Interest Entities
The determination of the primary beneficiary of variable interest entities under FIN 46R requires estimating the probable future cash flows of each VIE using a computer simulation model, determining the variability of such cash flows and their present values. Estimating the probable future cash flows of each VIE requires the exercise of significant management judgment. The resulting present values are then allocated to the various participants in each VIE in accordance with their beneficial interests. The participant that is allocated the majority of the present value of the variability is the primary beneficiary and is required to consolidate the VIE under FIN 46R.
Deferred Income Taxes and Potential Assessments
As of December 31, 2004, the Corporation has recorded deferred tax assets related to income tax loss carryforwards and income tax credit carryforwards totaling $519.5 million and has established valuation allowances against these deferred tax assets of $252.4 million, thereby resulting in a net deferred tax asset of $267.1 million. As of December 31, 2003, the net deferred tax asset was $220.1 million. These income tax losses and credits are in non-U.S. taxing jurisdictions and in certain states within the U.S. In determining the valuation allowances to establish against these deferred tax assets, the Corporation considers many factors, including the specific taxing jurisdiction, the carryforward period, income tax strategies and forecasted earnings for the entities in each jurisdiction. A valuation allowance is recognized if, based on the weight of available evidence, the Corporation concludes that it is more likely than not that some portion or all of the deferred tax asset will not be realized.
As of December 31, 2004, United States income taxes and foreign withholding taxes have not been provided on approximately $4.0 billion of unremitted earnings of subsidiaries operating outside the U.S. in accordance with Accounting Principles Board (“APB”) Opinion 23, Accounting for Income Taxes, Special Areas. These earnings are considered by management to be invested indefinitely. However, they would be subject to income tax if they were remitted as dividends, were lent to the Corporation or a U.S. affiliate, or if the Corporation were to sell its stock in the subsidiaries. It is not practicable to determine the amount of unrecognized deferred U.S. income tax liability on these unremitted earnings. We periodically determine whether our non-U.S. subsidiaries will invest their undistributed earnings indefinitely and reassess this determination as appropriate. The
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Corporation currently is evaluating the effect of the American Jobs Creation Act on the unremitted earnings of its non-U.S. subsidiaries and expects to complete that evaluation by June 30, 2005. At this time, it is not possible to reasonably estimate the amount of unremitted earnings that may be repatriated and the income tax effects of such repatriation.
The Corporation records liabilities in current income taxes for potential assessments. The accruals relate to uncertain tax positions in a variety of taxing jurisdictions and are based on what management believes will be the ultimate resolution of these positions. These liabilities may be affected by changing interpretations of laws, rulings by tax authorities, or the expiration of the statute of limitations. The Corporation’s U.S. federal income tax returns have been audited through 2001. IRS assessments of additional taxes have been paid through 1998. Refund actions are pending in Federal District Court or the IRS Appeals Office for the years 1987 through 1998. Management currently believes that the ultimate resolution of these matters, individually or in the aggregate, will not have a material effect on the Corporation’s business, financial condition, results of operations or liquidity.
Contingencies and Legal Matters
Litigation
The following is a brief description of certain legal and administrative proceedings to which the Corporation or its subsidiaries is a party or to which the Corporation’s or its subsidiaries’ properties are subject. In management’s opinion, none of the legal and administrative proceedings described below, individually or in the aggregate, is expected to have a material adverse effect on the Corporation’s business, financial condition, results of operations or liquidity.
Contingency
The Corporation has been named a potentially responsible party under the provisions of the federal Comprehensive Environmental Response, Compensation and Liability Act, or analogous state statutes, at a number of waste disposal sites, none of which, individually or in the aggregate, in management’s opinion, is likely to have a material adverse effect on the Corporation’s business, financial condition, results of operations or liquidity.
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New Accounting Standards
In November 2004, the FASB issued SFAS 151, Inventory Costs - an amendment of ARB No. 43, Chapter 4. SFAS 151 clarifies the accounting for abnormal amounts of idle facility expenses, freight, handling costs, and spoilage. It also requires that allocation of fixed production overheads to inventory be based on the normal capacity of production facilities. SFAS 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. Adoption of SFAS 151 will not have a material effect on the Corporation’s financial position, results of operations or cash flows.
In December 2004, the FASB issued SFAS 123 (revised 2004), Share-Based Payment (“SFAS 123R”), which revises SFAS 123, Accounting for Stock-Based Compensation. SFAS 123R also supersedes APB 25, Accounting for Stock Issued to Employees, and amends SFAS 95, Statement of Cash Flows. In general, the accounting required by SFAS 123R is similar to that of SFAS 123. However, SFAS 123 gave companies a choice to either recognize the fair value of stock options in their income statements or to disclose the pro forma income statement effect of the fair value of stock options in the notes to the financial statements. SFAS 123R eliminates that choice and requires the fair value of all share-based payments to employees, including the fair value of grants of employee stock options, be recognized in the income statement, generally over the option vesting period. SFAS 123R must be adopted no later than July 1, 2005. Early adoption is permitted.
SFAS 123R permits adoption of its requirements using one of two transition methods:
1. A modified prospective transition (“MPT”) method in which compensation cost is recognized beginning with the effective date (a) for all share-based payments granted after the effective date and (b) for all awards granted to employees prior to the effective date that remain unvested on the effective date.
2. A modified retrospective transition (“MRT”) method which includes the requirements of the MPT method described above, but also permits restatement of financial statements based on the amounts previously disclosed under SFAS 123’s pro forma disclosure requirements either for (a) all prior periods presented or (b) prior interim periods of the year of adoption.
The Corporation is currently evaluating the timing and manner in which it will adopt SFAS 123R.
As permitted by SFAS 123, the Corporation currently accounts for share-based payments to employees using APB 25’s intrinsic value method and, as such, has recognized no compensation cost for employee stock options. Accordingly, adoption of SFAS 123R’s fair value method will have a slight effect on results of operations, although it will have no impact on overall financial position. The impact of adoption of SFAS 123R cannot be predicted at this time because it will depend on levels of share-based payments granted in the future. However, had SFAS 123R been adopted in prior periods, the effect would have approximated the SFAS 123 pro forma net income and earnings per share disclosures shown in Note 1 to the Consolidated Financial Statements.
SFAS 123R also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as currently required, thereby reducing net operating cash flows and increasing net financing cash flows in periods after adoption. While those amounts cannot be estimated for future periods (because they depend on, among other things, when employees will exercise the stock options and the market price of the Corporation’s stock at the time of exercise), the amount of operating cash flows generated in prior periods for such excess tax deductions was $30.9 million, $7.4 million and $9.9 million in 2004, 2003 and 2002, respectively.
Business Outlook
For 2005, the Corporation is targeting sales growth of 3 to 5 percent, consistent with its long-term objective. Based on plans to drive innovation, the gain is expected to come largely from improvement in sales volumes,
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with price, mix and currency assumed to be about flat. The Corporation is targeting to deliver $150 million in cost savings, which should help improve operating profit margin by up to 20 basis points despite inflationary cost increases. The Corporation expects to deliver earnings of $3.70 to $3.85 per share for the year, representing mid to high single-digit growth compared with net income from continuing operations of $3.55 in 2004.
Cash flow is expected to continue to be strong which will enable the Corporation to again return a significant amount of cash to shareholders in 2005. Common share repurchases are currently targeted to be at least $1 billion during the year and dividends on common stock have been increased by 12.5 percent effective with the April payment. Capital spending is estimated to be $800 million in 2005, which should be toward the low end of the Corporation’s long-term target of 5 to 6 percent of net sales.
For the first quarter of 2005, earnings are expected to be in a range of 92 to 94 cents per share compared with earnings per share from continuing operations of 88 cents in 2004. This would represent growth of approximately 5 to 7 percent, similar to the expected level of improvement for the full year. The Corporation is planning to step up its marketing spending in the quarter compared with the prior year to support a very active schedule of product launches, including Huggies toiletries, new Pull-Ups training pants with Wetness Indicators and Scott Extra Soft bathroom tissue. The Corporation also expects to face continued cost increases in the first quarter, particularly for fiber as well as resin and other oil-based materials.
Information Concerning Forward-Looking Statements
Certain matters discussed in this report concerning, among other things, the business outlook, including new product introductions, cost savings, anticipated financial and operating results, strategies, contingencies and contemplated transactions of the Corporation, constitute forward-looking statements and are based upon management’s expectations and beliefs concerning future events impacting the Corporation. There can be no assurance that these events will occur or that the Corporation’s results will be as estimated.
The assumptions used as a basis for the forward-looking statements include many estimates that, among other things, depend on the achievement of future cost savings and projected volume increases. In addition, many factors outside the control of the Corporation, including the prices and availability of the Corporation’s raw materials, potential competitive pressures on selling prices or advertising and promotion expenses for the Corporation’s products, and fluctuations in foreign currency exchange rates, as well as general economic conditions in the markets in which the Corporation does business, also could impact the realization of such estimates.
For a description of these and other factors that could cause the Corporation’s future results to differ materially from those expressed in any such forward-looking statements, see Item I of this Annual Report on Form 10-K entitled “Factors That May Affect Future Results.”
As a multinational enterprise, the Corporation is exposed to risks such as changes in foreign currency exchange rates, interest rates and commodity prices. A variety of practices are employed to manage these risks, including operating and financing activities and, where deemed appropriate, the use of derivative instruments. Derivative instruments are used only for risk management purposes and not for speculation or trading. All foreign currency derivative instruments are either exchange traded or are entered into with major financial institutions. The Corporation’s credit exposure under these arrangements is limited to these agreements with a positive fair value at the reporting date. Credit risk with respect to the counterparties is considered minimal in view of the financial strength of the counterparties.
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Presented below is a description of our most significant risks (foreign currency risk, interest rate risk and commodity price risk) together with a sensitivity analysis, performed annually, of each of these risks based on selected changes in market rates and prices. These analyses reflect our view of changes which are reasonably possible to occur over a one-year period.
Foreign Currency Risk
Foreign currency risk is managed by the systematic use of foreign currency forward, option and swap contracts. The use of these instruments allows management of transactional exposure to exchange rate fluctuations because the gains or losses incurred on the derivative instruments will offset, in whole or in part, losses or gains on the underlying foreign currency exposure. Prior to 2004, foreign currency risk was managed by the selective, rather than the systematic, use of foreign currency forward, option and swap contracts. Management does not foresee or expect any significant change in its foreign currency risk exposures or in the strategies it employs to manage them in the near future.
Foreign currency contracts and transactional exposures are sensitive to changes in foreign currency exchange rates. We perform an annual test to quantify the effects that possible changes in foreign currency exchange rates would have on our annual operating profit based on the foreign currency contracts and transactional exposures of the Corporation and its foreign affiliates at the current year-end. The balance sheet effect is calculated by multiplying each affiliate’s net monetary asset or liability position by a 10 percent change in the foreign currency exchange rate versus the U.S. dollar. The results of this sensitivity test are presented in the following paragraph.
As of December 31, 2004, a 10 percent unfavorable change in the exchange rate of the U.S. dollar against the prevailing market rates of foreign currencies involving balance sheet transactional exposures would have resulted in a net pretax loss of approximately $43 million. These hypothetical losses on transactional exposures are based on the difference between the December 31, 2004 rates and the assumed rates. In the view of management, the above hypothetical losses resulting from these assumed changes in foreign currency exchange rates are not material to the Corporation’s consolidated financial position, results of operations or cash flows.
The translation of the balance sheets of our non-U.S. operations from local currencies into U.S. dollars is also sensitive to changes in foreign currency exchange rates. Consequently, we perform an annual test to determine if changes in currency exchange rates would have a significant effect on the translation of the balance sheets of our non-U.S. operations into U.S. dollars. These translation gains or losses are recorded as unrealized translation adjustments (“UTA”) within stockholders’ equity. The hypothetical increase in UTA is calculated by multiplying the net assets of these non-U.S. operations by a 10 percent change in the currency exchange rates. The results of this sensitivity test are presented in the following paragraph.
As of December 31, 2004, a 10 percent unfavorable change in the exchange rate of the U.S. dollar against the prevailing market rates of our foreign currency translation exposures would have reduced stockholders’ equity by approximately $638 million. These hypothetical adjustments in UTA are based on the difference between the December 31, 2004 exchange rates and the assumed rates. In the view of management, the above UTA adjustments resulting from these assumed changes in foreign currency exchange rates are not material to the Corporation’s consolidated financial position.
Interest Rate Risk
Interest rate risk is managed through the maintenance of a portfolio of variable- and fixed-rate debt composed of short- and long-term instruments. The objective is to maintain a cost-effective mix that management
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deems appropriate. At December 31, 2004, the debt portfolio was composed of approximately 35 percent variable-rate debt and 65 percent fixed-rate debt. The strategy employed to manage exposure to interest rate fluctuations consists primarily of a target mix of fixed and floating rate debt. The Corporation’s target for variable rate debt is 40 percent to 50 percent and is designed to balance the Corporation’s cost of financing with its interest rate risk.
We perform two separate tests to determine whether changes in interest rates would have a significant effect on our financial position or future results of operations. Both tests are based on our consolidated debt levels at the time of the test. The first test estimates the effect of interest rate changes on our fixed-rate debt. Interest rate changes would result in gains or losses in the market value of fixed-rate debt due to differences between the current market interest rates and the rates governing these instruments. With respect to fixed-rate debt outstanding at December 31, 2004, a 10 percent decrease in interest rates would have increased the fair value of fixed-rate debt by about $110 million. The second test estimates the potential effect on future pretax income that would result from increased interest rates applied to our current level of variable-rate debt. With respect to commercial paper and other variable-rate debt, a 10 percent increase in interest rates would not have had a material effect on the future results of operations or cash flows.
Commodity Price Risk
The Corporation is subject to commodity price risk, the most significant of which relates to the price of pulp. Selling prices of tissue products are influenced, in part, by the market price for pulp, which is determined by industry supply and demand. On a worldwide basis prior to the Spin-off, the Corporation supplied approximately 40 percent of its virgin fiber needs from internal pulp manufacturing operations. The Spin-off has reduced the internal pulp supply to approximately 10 percent. As previously discussed under Factors That May Affect Future Results, increases in pulp prices could adversely affect earnings if selling prices are not adjusted or if such adjustments significantly trail the increases in pulp prices. Derivative instruments have not been used to manage these risks.
In addition, the Corporation is subject to price risk for utilities, primarily natural gas, which are used in its manufacturing operations. Derivative instruments are used to hedge a portion of this risk when it is deemed prudent to do so by management.
Management does not believe that these risks are material to the Corporation’s business or its consolidated financial position, results of operations or cash flows.
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KIMBERLY-CLARK CORPORATION AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENT
(Millions of dollars, except
per share amounts)
Cost of products sold
Marketing, research and general expenses
Other (income) expense, net
Nonoperating expense
Interest income
Interest expense
Income Before Income Taxes, Equity Interests, Discontinued Operations and Cumulative Effect of Accounting Change
Provision for income taxes
Share of net income of equity companies
Minority owners’ share of subsidiaries’ net income
Income From Continuing Operations
Income From Discontinued Operations, Net of Income Taxes
Income Before Cumulative Effect of Accounting Change
Net Income
Per Share Basis
Cumulative effect of accounting change
See Notes to Consolidated Financial Statements.
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CONSOLIDATED BALANCE SHEET
ASSETS
Current Assets
Cash and cash equivalents
Accounts receivable, net
Inventories
Deferred income taxes
Other current assets
Total Current Assets
Property, Plant and Equipment, net
Investments in Equity Companies
Goodwill
Other Assets
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities
Debt payable within one year
Trade accounts payable
Other payables
Accrued expenses
Accrued income taxes
Dividends payable
Total Current Liabilities
Noncurrent Employee Benefit and Other Obligations
Deferred Income Taxes
Minority Owners’ Interests in Subsidiaries
Preferred Securities of Subsidiary
Preferred stock—no par value—authorized 20.0 million shares, none issued
Common stock—$1.25 par value—authorized 1.2 billion shares; issued 568.6 million shares at December 31, 2004 and 2003
Additional paid-in capital
Common stock held in treasury, at cost—85.7 million and 67.0 million shares at December 31, 2004 and 2003
Accumulated other comprehensive income (loss)
Retained earnings
Unearned compensation on restricted stock
Total Stockholders’ Equity
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CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
AdditionalPaid-in
Capital
Treasury Stock
Unearned
Compensation
on Restricted
Stock
Retained
Earnings
Accumulated
Compre-
hensive
Income(Loss)
Income
Balance at December 31, 2001
Other comprehensive income:
Unrealized translation
Minimum pension liability
Total comprehensive income
Options exercised and other awards
Option and restricted share income tax benefits
Shares repurchased
Net issuance of restricted stock, less amortization
Dividends declared
Balance at December 31, 2002
Balance at December 31, 2003
Spin-off of Neenah Paper, Inc.
Balance at December 31, 2004
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CONSOLIDATED CASH FLOW STATEMENT
Continuing Operations:
Operating Activities
Income from continuing operations
Depreciation and amortization
Deferred income tax (benefit) provision
Net losses on asset dispositions
Equity companies’ earnings in excess of dividends paid
Decrease (increase) in operating working capital
Postretirement benefits
Cash Provided by Operations
Investing Activities
Investments in marketable securities
Proceeds from sales of investments
Net increase in time deposits
Proceeds from dispositions of property
Cash Used for Investing
Financing Activities
Cash dividends paid
Net decrease in short-term debt
Proceeds from issuance of long-term debt
Repayments of long-term debt
Proceeds from preferred securities of subsidiary
Proceeds from exercise of stock options
Acquisitions of common stock for the treasury
Cash Used for Financing
Effect of Exchange Rate Changes on Cash and Cash Equivalents
Cash Provided by (Used for) Continuing Operations
Discontinued Operations:
Cash provided by discontinued operations
Cash payment from Neenah Paper, Inc.
Cash Provided by Discontinued Operations
Increase (Decrease) in Cash and Cash Equivalents
Cash and Cash Equivalents, beginning of year
Cash and Cash Equivalents, end of year
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Accounting Policies
Basis of Presentation
The consolidated financial statements include the accounts of Kimberly-Clark Corporation and all subsidiaries in which it has a controlling financial interest (the “Corporation”). All significant intercompany transactions and accounts are eliminated in consolidation. Certain reclassifications have been made to conform prior year data to the current year presentation.
On November 30, 2004, the Corporation completed the spin-off of Neenah Paper, Inc. (“Neenah Paper”), a wholly-owned subsidiary that owned the Corporation’s Canadian pulp business and its U.S. fine paper and technical paper businesses (the “Spin-off”). The Spin-off was accomplished by a distribution of all of the shares of Neenah Paper’s common stock to the Corporation’s stockholders, and no gain or loss was recorded by the Corporation. Holders of common stock received a divided of one share of Neenah Paper for every 33 shares of stock held. Based on a private letter ruling received from the Internal Revenue Service, receipt of the Neenah Paper shares in the distribution was tax-free for U.S. federal income tax purposes. As a result of the Spin-off the Corporation’s prior period Consolidated Income Statements and Cash Flow Statements and related disclosures present the fine paper and technical paper businesses as discontinued operations, which is discussed in Note 2. The December 31, 2003 Consolidated Balance Sheet and prior period Consolidated Statements of Stockholders Equity and Comprehensive Income and related disclosures are presented on their historic basis, and unless otherwise noted, the information contained in the notes to the consolidated financial statements relates to the Corporation’s continuing operations.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting periods. Actual results could differ from these estimates, and changes in these estimates are recorded when known. Estimates are used in accounting for, among other things, consumer and trade promotion and rebate accruals, pension benefits, retained insurable risks, excess and obsolete inventory, allowance for doubtful accounts, useful lives for depreciation and amortization, future cash flows associated with impairment testing for goodwill and long-lived assets, determining the primary beneficiary of variable interest entities, deferred tax assets and potential income tax assessments, and contingencies.
Cash Equivalents
Cash equivalents are short-term investments with an original maturity date of three months or less.
Inventories and Distribution Costs
Most U.S. inventories are valued at the lower of cost, using the Last-In, First-Out (LIFO) method for financial reporting purposes, or market. The balance of the U.S. inventories and inventories of consolidated operations outside the U.S. are valued at the lower of cost, using either the First-In, First-Out (FIFO) or weighted-average cost methods, or market. Distribution costs are classified as cost of products sold.
Available-for-Sale Securities
Available-for-sale securities, consisting of debt securities issued by non-U.S. governments and unaffiliated corporations, are carried at market value. Securities with maturity dates of one year or less are included in other
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
current assets and were $6.6 million and $8.7 million at December 31, 2004 and 2003, respectively. Securities with maturity dates greater than one year are included in other assets and were $13.0 million and $10.5 million at December 31, 2004 and 2003, respectively. The securities are held by the Corporation’s consolidated foreign financing subsidiary described in Note 5. Unrealized holding gains or losses on these securities are recorded in other comprehensive income until realized. No significant gains or losses were recognized in income for any of the three years ended December 31, 2004.
For financial reporting purposes, property, plant and equipment are stated at cost and are depreciated principally on the straight-line method. Buildings are depreciated over their estimated useful lives, primarily 40 years. Machinery and equipment are depreciated over their estimated useful lives, primarily ranging from 16 to 20 years. For income tax purposes, accelerated methods of depreciation are used. Purchases of computer software are capitalized. External costs and certain internal costs (including payroll and payroll-related costs of employees) directly associated with developing significant computer software applications for internal use are capitalized. Training and data conversion costs are expensed as incurred. Computer software costs are amortized on the straight-line method over the estimated useful life of the software, which generally does not exceed five years.
Estimated useful lives are periodically reviewed and, when warranted, changes are made to them. Long-lived assets, including computer software, are reviewed for impairment whenever events or changes in circumstances indicate that their cost may not be recoverable. An impairment loss would be recognized when estimated undiscounted future cash flows from the use and eventual disposition of an asset group, which are identifiable and largely independent of other assets groups, are less than the carrying amount of the asset group. Measurement of an impairment loss would be based on the excess of the carrying amount of the asset over its fair value. Fair value is generally measured using discounted cash flows. When property is sold or retired, the cost of the property and the related accumulated depreciation are removed from the balance sheet and any gain or loss on the transaction is included in income.
The cost of major maintenance performed on manufacturing facilities, composed of labor, materials and other incremental costs, is charged to operations as incurred. Start-up costs for new or expanded facilities are expensed as incurred.
Goodwill represents costs in excess of fair values assigned to the underlying net assets of acquired businesses. Goodwill is not subject to systematic amortization, but rather is tested for impairment annually and whenever events and circumstances indicate that an impairment may have occurred. Impairment testing compares the carrying amount of the goodwill with its fair value. Fair value is estimated based on discounted cash flows. When the carrying amount of goodwill exceeds its fair value, an impairment charge would be recorded. The Corporation has completed the required annual testing of goodwill for impairment and has determined that none of its goodwill is impaired.
The Corporation has no intangible assets with indefinite useful lives. Intangible assets with finite lives are amortized over their estimated useful lives and are reviewed for impairment whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. An impairment loss would be recognized when estimated undiscounted future cash flows from the use of the asset are less than its carrying amount. Measurement of an impairment loss would be based on discounted future cash flows compared to the carrying amount of the asset.
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Investments in companies over which the Corporation exercises significant influence and that, in general, are at least 20 percent owned are stated at cost plus equity in undistributed net income. These investments are evaluated for impairment in accordance with the requirements of Accounting Principles Board (“APB”) Opinion 18, The Equity Method of Accounting for Investments in Common Stock. An impairment loss would be recorded whenever a decline in value of an equity investment below its carrying amount is determined to be other than temporary. In judging “other than temporary,” the Corporation would consider the length of time and extent to which the fair value of the investment has been less than the carrying amount of the equity company, the near-term and longer-term operating and financial prospects of the equity company, and its longer-term intent of retaining the investment in the equity company.
Revenue Recognition
Sales revenue for the Corporation and its reportable business segments is recognized at the time of product shipment or delivery, depending on when title passes, to unaffiliated customers, and when all of the following have occurred: a firm sales agreement is in place, pricing is fixed or determinable, and collection is reasonably assured. Sales are reported net of estimated returns, consumer and trade promotions, rebates and freight allowed.
Sales Incentives and Trade Promotion Allowances
The cost of promotion activities provided to customers is classified as a reduction in sales revenue. In addition, the estimated redemption value of consumer coupons is recorded at the time the coupons are issued and classified as a reduction in sales revenue. On January 1, 2002, the Corporation adopted Emerging Issues Task Force (“EITF”) 01-9, Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor’s Products. The adoption of EITF 01-9 did not change reported earnings for 2001 but did require the recording of a cumulative effect of a change in accounting principle in 2002, equal to an after-tax charge of approximately $.02 per share, which resulted from a change in the period for recognizing the costs of coupons.
Advertising Expense
Advertising costs are expensed in the year the related advertisement is first presented by the media. For interim reporting purposes, advertising expenses are charged to operations as a percentage of sales based on estimated sales and related advertising expense for the full year.
Research Expense
Research and development costs are charged to expense as incurred.
Environmental Expenditures
Environmental expenditures related to current operations that qualify as property, plant and equipment or which substantially increase the economic value or extend the useful life of an asset are capitalized, and all other such expenditures are expensed as incurred. Environmental expenditures that relate to an existing condition caused by past operations are expensed as incurred. Liabilities are recorded when environmental assessments and/or remedial efforts are probable and the costs can be reasonably estimated. Generally, the timing of these accruals coincides with completion of a feasibility study or a commitment to a formal plan of action. At environmental sites in which more than one potentially responsible party has been identified, a liability is recorded for the estimated allocable share of costs related to the Corporation’s involvement with the site as well
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as an estimated allocable share of costs related to the involvement of insolvent or unidentified parties. At environmental sites in which the Corporation is the only responsible party, a liability for the total estimated costs of remediation is recorded. Liabilities for future expenditures for environmental remediation obligations are not discounted and do not reflect any anticipated recoveries from insurers.
Foreign Currency Translation
The income statements of foreign operations, other than those in hyperinflationary economies, are translated into U.S. dollars at rates of exchange in effect each month. The balance sheets of these operations are translated at period-end exchange rates, and the differences from historical exchange rates are reflected in stockholders’ equity as unrealized translation adjustments.
The income statements and balance sheets of operations in hyperinflationary economies are translated into U.S. dollars using both current and historical rates of exchange. The effect of exchange rates on monetary assets and liabilities is reflected in income. Operations in Turkey and Russia (prior to 2003) are deemed to be hyperinflationary.
Derivative Instruments and Hedging
All derivative instruments are recorded as assets or liabilities on the balance sheet at fair value. Changes in the fair value of derivatives are either recorded in income or other comprehensive income, as appropriate. The gain or loss on derivatives designated as fair value hedges and the offsetting loss or gain on the hedged item attributable to the hedged risk are included in current income in the period that changes in fair value occur. The gain or loss on derivatives designated as cash flow hedges is included in other comprehensive income in the period that changes in fair value occur and is reclassified to income in the same period that the hedged item affects income. The gain or loss on derivatives that have not been designated as hedging instruments is included in current income in the period that changes in fair value occur.
Stock-Based Employee Compensation
The Corporation’s stock-based employee compensation plan is described in Note 12. The Corporation continues to account for stock-based compensation using the intrinsic-value method permitted by APB Opinion 25, Accounting for Stock Issued to Employees. No employee compensation for stock options has been charged to earnings because the exercise prices of all stock options granted under this plan have been equal to the market value of the Corporation’s common stock at the date of grant. The following presents information about net income and earnings per share (“EPS”) as if the Corporation had applied the fair value expense recognition requirements of Statement of Financial Accounting Standards (“SFAS”) 123, Accounting for Stock-Based Compensation, to all employee stock options granted under the plan.
Net income, as reported
Less: Stock-based employee compensation determined under the fair value requirements of SFAS 123, net of income tax benefits
Pro forma net income
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Earnings per share
Basic—as reported
Basic—pro forma
Diluted—as reported
Diluted—pro forma
Pursuant to the requirements of SFAS 123, the weighted-average fair value of the individual employee stock options granted during 2004, 2003 and 2002 have been estimated as $15.49, $9.09 and $16.57, respectively, on the date of grant. The fair values were determined using a Black-Scholes option-pricing model using the following assumptions:
Dividend yield
Volatility
Risk-free interest rate
Expected life—years
As permitted by SFAS 123, the Corporation currently accounts for share-based payments to employees using APB 25’s intrinsic value method and, as such, has recognized no compensation cost for employee stock options. Accordingly, adoption of SFAS 123R’s fair value method will have a slight effect on results of operations, although it will have no impact on overall financial position. The impact of adoption of SFAS 123R cannot be predicted at this time because it will depend on levels of share-based payments granted in the future.
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However, had SFAS 123R been adopted in prior periods, the effect would have approximated the SFAS 123 pro forma net income and earnings per share disclosures as shown above.
Accounting Standards Changes
On January 1, 2003, the Corporation adopted SFAS 143, Accounting for Asset Retirement Obligations. SFAS 143 addresses the accounting and reporting for the retirement of long-lived assets and related retirement costs. Adoption of SFAS 143 did not have a material effect on the Corporation’s financial statements.
On January 1, 2003, the Corporation adopted SFAS 146, Accounting for Costs Associated with Exit or Disposal Activities. SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullified EITF 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring). Adoption of SFAS 146 had no effect on the Corporation’s financial statements.
On January 1, 2003, the Corporation adopted Financial Accounting Standards Board (“FASB”) Interpretation (“FIN”) 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN 45 requires disclosure of guarantees. It also requires liability recognition for the fair value of guarantees made after December 31, 2002. Adoption of FIN 45 did not have a material effect on the Corporation’s financial statements.
In May 2003, FASB issued SFAS 150, Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity. SFAS 150 requires that certain instruments classified as part of stockholders’ equity or between stockholders’ equity and liabilities be classified as liabilities. The Corporation has no instruments that would be affected by SFAS 150.
In December 2003, the FASB issued FIN 46 (Revised December 2003), Consolidation of Variable Interest Entities, an Interpretation of ARB 51, (“FIN 46R”). FIN 46R requires consolidation of entities in which the Corporation is the primary beneficiary, despite not having voting control. Likewise, it does not permit consolidation of entities in which the Corporation has voting control but is not the primary beneficiary. The Corporation has adopted FIN 46R for all of its applicable variable interest entities – its financing entities in 2003, and its real estate entities and synthetic fuel partnerships in 2004. The adoption of FIN 46R did not have a material effect on the Corporation’s financial statements.
In December 2003, the FASB issued SFAS 132 (revised 2003),Employers’ Disclosures about Pensions and Other Postretirement Benefits, (“SFAS 132R”). SFAS 132R revises the disclosures for pension plans and other postretirement benefit plans. The Corporation has adopted these disclosure requirements.
Effective April 1, 2004, the Corporation adopted FASB Staff Position 106-2 (“FSP 106-2”), Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003. See Note 11.
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In connection with the Spin-off discussed in Note 1, the Corporation received a $213.4 million cash payment from Neenah Paper. The Consolidated Income Statements, Cash Flow Statements and related disclosures present the results of Neenah Paper’s fine paper and technical paper businesses, which were previously included in the Business-to-Business segment, as discontinued operations for all periods presented. Prior to the Spin-off, the Corporation internally consumed approximately 90 percent of the pulp produced by the Canadian pulp business. In connection with the Spin-off, the Corporation entered into a long-term pulp supply agreement with Neenah Paper (as discussed in Note 9), whereby the Corporation will continue to consume a substantial portion of the pulp produced by Neenah Paper. Because the Corporation will continue to incur pulp costs in its continuing operations, the results of Neenah Paper’s Canadian pulp business are not included in discontinued operations.
Summarized financial information for discontinued operations is presented below:
Net sales
Income before income taxes
Income from discontinued operations
A summary of the assets, liabilities and accumulated other comprehensive income of Neenah Paper that were spun off is presented below:
Assets
Current assets
Property, plant and equipment, net
Timberlands
Other assets
Liabilities and Accumulated Other Comprehensive Income
Current liabilities
Noncurrent employee benefits and other obligations
Deferred income taxes and other liabilities
Accumulated other comprehensive income
Total Distribution Charged to Retained Earnings
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Acquisitions
During the first quarter of 2003, the Corporation purchased the Klucze tissue business in Poland. This acquisition was consistent with the Corporation’s strategy of growing its global consumer tissue business and provides it with a strong platform to expand its business. The allocation of the purchase price to the fair value of assets and liabilities acquired was completed in 2003 and resulted in recognition of goodwill and other intangible assets of approximately $20 million.
During the third quarter of 2003, the Corporation acquired an additional 49 percent interest in Kimberly-Clark Peru S.A. and the remaining 50 percent interest in its tissue joint venture in Brazil (Klabin Kimberly S.A.). The cost of these acquisitions totaled approximately $200 million. These acquisitions were a result of the partners in each of the ventures exercising their options to sell their ownership interest to the Corporation. The allocation of the purchase price to the fair value of assets and liabilities acquired was completed in 2004 and resulted in recognition of goodwill and other intangible assets of approximately $140 million.
Prior to 2001, the Corporation and its joint venture partner, Amcor Limited (“Amcor”), held a 50/50 ownership interest in Kimberly-Clark Australia Pty. Ltd (“KCA”). In July 2001, the Corporation purchased an additional 5 percent ownership interest in KCA for A$77.5 million (approximately $39 million), and exchanged options with Amcor for the purchase by the Corporation of the remaining 45 percent ownership interest. In June 2002, the option was exercised, and the Corporation purchased the remaining 45 percent interest from Amcor for A$697.5 million (approximately $390 million). The acquisition of KCA reflects the Corporation’s strategy to expand its three business segments within Australia. As a result of these transactions, KCA became a consolidated subsidiary effective July 1, 2001 and a wholly-owned subsidiary on June 30, 2002. The Corporation recognized total goodwill on this series of transactions of approximately $350 million, reflecting the Corporation’s expectation of continued growth and profitability of KCA.
The costs of other acquisitions relating primarily to increased ownership and expansion outside North America in 2003 and 2002 were $3.0 million and $16.2 million, respectively. The Corporation recognized goodwill on these other acquisitions of $1.2 million in 2003 and $8.9 million in 2002.
The changes in the carrying amount of goodwill by business segment are as follows:
Business-
to-Business
Balance at January 1, 2003
Currency and other
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Other Intangible Assets
Intangible assets subject to amortization are included in Other Assets and consist of the following at December 31:
Gross
Carrying
Amount
Amortization
Trademarks
Patents
Amortization expense for intangible assets was approximately $14 million in 2004, $13 million in 2003 and $12 million in 2002. Amortization expense is estimated to be approximately $14 million in 2005, $13 million in 2006 and 2007, $11 million in 2008 and $9 million in 2009.
Long-term debt is composed of the following:
Weighted-
Average
Interest
Rate
Notes and debentures
Industrial development revenue bonds
Bank loans and other financings in various currencies
Total long-term debt
Less current portion
Long-term portion
Fair value of total long-term debt, based on quoted market prices for the same or similar debt issues, was approximately $3.0 billion and $3.1 billion at December 31, 2004 and 2003, respectively. Scheduled maturities of long-term debt for the next five years are $585.4 million in 2005, $64.8 million in 2006, $336.7 million in 2007, $19.7 million in 2008 and $5.1 million in 2009.
At December 31, 2004, the Corporation had $1.2 billion of revolving credit facilities. These facilities, unused at December 31, 2004, permit borrowing at competitive interest rates and are available for general corporate purposes, including backup for commercial paper borrowings. The Corporation pays commitment fees on the unused portion but may cancel the facilities without penalty at any time prior to their expiration. Of these facilities, $600 million expires in September 2005 and the balance expires in November 2009.
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Debt payable within one year is as follows:
Commercial paper
Current portion of long-term debt
Other short-term debt
At December 31, 2004 and 2003, the weighted-average interest rate for commercial paper was 2.3 percent and 1.0 percent, respectively.
In February 2001, the Corporation formed a Luxembourg-based financing subsidiary. The subsidiary issued 1 million shares of voting-preferred securities (the “Securities”) with an aggregate par value of $520 million to a nonaffiliated entity for cash proceeds of $516.5 million. The Securities are entitled to a 98 percent vote and pay no dividend but accrue a fixed annual rate of return of 4.56 percent. Prior to September 2003, the Securities accrued a variable rate of return. The Securities are in substance perpetual and are callable by the subsidiary at par value plus any accrued but unpaid return on the Securities in November 2008 and each 20-year anniversary thereafter. The subsidiary also issued voting-preferred and common securities to the Corporation for total cash proceeds of $500 million. These securities are entitled to a combined two percent vote and the common securities are entitled to all of the residual equity after satisfaction of the preferred interests. Approximately 97 percent of the subsidiary’s funds have been loaned to the Corporation. These long-term loans bear fixed annual interest rates. The remaining funds are invested in other financial assets. Prior to September 2003, the loans accrued interest at a variable rate. The Corporation is the primary beneficiary of the subsidiary and, accordingly, consolidates the subsidiary in the accompanying financial statements. The preferred and common securities of the subsidiary held by the Corporation and the intercompany loans have been eliminated in the consolidated financial statements. The return on the Securities is included in minority owners’ share of subsidiaries’ net income in the Corporation’s consolidated income statement. The Securities are shown as Preferred Securities of Subsidiary on the consolidated balance sheet.
In June 2004, the nonaffiliated entity invested an additional $125 million, thereby increasing the aggregate par value of the Securities that it held. In conjunction with this transaction, the fixed annual rate of return on the Securities was increased from 4.47 to 4.56 percent. The subsidiary loaned these funds to the Corporation, which used them to reduce its outstanding commercial paper.
Note 6. Stockholders’ Equity
On June 21, 1988, the board of directors of the Corporation adopted a shareholder rights plan by declaring a distribution of one preferred share purchase right for each outstanding share of the Corporation’s common stock. On November 19, 2004, the board terminated the shareholder rights plan by accelerating the expiration date of the rights from June 8, 2005 to November 19, 2004.
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Other Comprehensive Income (Loss)
The changes in the components of other comprehensive income (loss) are as follows:
Deferred losses on cash flow hedges
Unrealized holding losses on securities
Other comprehensive income (loss)
Accumulated balances of other comprehensive income (loss), net of applicable income taxes are as follows:
At December 31, 2004, unremitted net income of equity companies included in consolidated retained earnings was about $812 million.
Note 7. Risk Management
As a multinational enterprise, the Corporation is exposed to risks such as changes in foreign currency exchange rates, interest rates and commodity prices. A variety of practices are employed to manage these risks, including operating and financing activities and, where deemed appropriate, the use of derivative instruments. Derivative instruments, including some that are not designated as either fair value or cash flow hedges, are used only for risk management purposes and not for speculation or trading. All foreign currency derivative instruments are either exchange traded or are entered into with major financial institutions. The Corporation’s credit exposure under these arrangements is limited to those agreements with a positive fair value at the reporting date. Credit risk with respect to the counterparties is considered minimal in view of the financial strength of the counterparties.
Foreign Currency Exchange Risk
Foreign currency exchange risk is managed by the systematic use of foreign currency forward, option and swap contracts. The use of these instruments allows management of transactional exposure to exchange rate fluctuations because the gains or losses incurred on the derivative instruments will offset, in whole or in part,
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losses or gains on the underlying foreign currency exposure. Prior to 2004, foreign currency risk was managed by the selective, rather than the systematic, use of foreign currency forward, option and swap contracts. Management does not foresee or expect any significant change in such exposures in the near future or in the strategies it employs to manage them.
Foreign Currency Translation Risk
Translation adjustments result from translating foreign entities’ financial statements to U.S. dollars from their functional currencies. Translation exposure, which results from possible changes in translation rates between functional currencies and the U.S. dollar, is not hedged. The risk to any particular entity’s net assets is minimized to the extent that the entity is financed with local currency borrowing. In addition, many of the Corporation’s non-U.S. operations buy the majority of their inputs and sell the majority of their outputs in their local currency, thereby minimizing the effect of currency rate changes on their local operating profit margins.
Interest rate risk is managed through the maintenance of a portfolio of variable- and fixed-rate debt composed of short- and long-term instruments. The objective is to maintain a cost-effective mix that management deems appropriate. Management does not foresee or expect any significant changes in its exposure to interest rate fluctuations in the near future or in the strategies it employs to manage them.
The Corporation is subject to commodity price risk, the most significant of which relates to the price of pulp. Selling prices of tissue products are influenced, in part, by the market price for pulp, which is determined by industry supply and demand. On a worldwide basis prior to the Spin-off, the Corporation supplied approximately 40 percent of its virgin fiber needs from internal pulp manufacturing operations. The Spin-off has reduced the internal pulp supply to approximately 10 percent, and this reduction in pulp integration could increase the Corporation’s commodity price risk. Specifically, increases in pulp prices could adversely affect earnings if selling prices are not adjusted or if such adjustments significantly trail the increases in pulp prices. Derivative instruments have not been used to manage these risks.
Effect of Derivative Instruments on Results of Operations and Other Comprehensive Income
Fair Value Hedges
The Corporation’s fair value hedges were effective in 2004, 2003 and 2002 and consequently resulted in no income effect. In addition, during these years, all of the Corporation’s designated derivatives for firm commitments continued to qualify for fair value hedge accounting.
Cash Flow Hedges
The Corporation’s cash flow hedges were effective in 2004, 2003 and 2002 and consequently resulted in no net income effect. During the same period in which the hedged forecasted transactions affected earnings, the Corporation reclassified $9.0 million, $9.9 million and $5.4 million, respectively, of after-tax losses from
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accumulated other comprehensive income to earnings. At December 31, 2004, the Corporation expects to reclassify $13.8 million of after-tax losses from accumulated other comprehensive income primarily to cost of sales during the next twelve months, consistent with the timing of the underlying hedged transactions. The maximum maturity of cash flow derivatives in place at December 31, 2004 is December 31, 2005.
In 2001, the Corporation entered into forward contracts to purchase Australian dollars related to the acquisition of the remaining 45 percent ownership interest in KCA for A$697.5 million (approximately $390 million). These contracts were settled in conjunction with the completion of this acquisition in June 2002. These forward contracts did not qualify for hedge accounting under SFAS 133 and were marked to market each period with the resulting gains or losses included in other (income) expense, net. During 2002, net gains on these contracts were approximately $17 million.
Note 8. Variable Interest Entities
The Corporation has variable interests in the following financing and real estate entities and synthetic fuel partnerships described in Note 13.
Because the Corporation desired to monetize the $617 million of notes receivable and continue the deferral of current income taxes on the gains, in 1999 the Corporation transferred the notes received from the 1999 sale to a noncontrolled financing entity, and in 2000 it transferred the notes received from the 1989 sale to another noncontrolled financing entity. The Corporation has minority voting interests in each of the financing entities (collectively, the “Financing Entities”). The transfers of the notes and certain other assets to the Financing Entities were made at fair value, were accounted for as asset sales and resulted in no gain or loss. In conjunction with the transfer of the notes and other assets, the Financing Entities became obligated for $617 million in third-party debt financing. A nonaffiliated financial institution has made substantive capital investments in each of the Financing Entities, has majority voting control over them and has substantive risks and rewards of ownership of the assets in the Financing Entities. The Corporation also contributed intercompany notes receivable aggregating $662 million and intercompany preferred stock of $50 million to the Financing Entities, which serve as secondary collateral for the third-party lending arrangements. In the unlikely event of default by both of the money center banks that provided the irrevocable standby letters of credit, the Corporation could experience a maximum loss of $617 million under these arrangements.
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See Note 5 for a description of the Corporation’s Luxembourg-based financing subsidiary, which is consolidated because the Corporation is the primary beneficiary of the entity.
The Corporation accounts for its interests in real estate entities that are not consolidated under FIN 46R by the equity method of accounting or by the effective yield method, as appropriate, and has accounted for the related income tax credits and other tax benefits as a reduction in its income tax provision. As of December 31, 2004, the Corporation had a net equity of $21.2 million in its nonconsolidated real estate entities. The Corporation has earned income tax credits totaling approximately $71.8 million, $59.3 million and $49.9 million in 2004, 2003 and 2002, respectively. As of December 31, 2004, total permanent financing debt for the nonconsolidated entities was $221.9 million. A total of $7.6 million of the permanent financing debt is guaranteed by the Corporation and the remainder of this debt is not supported or guaranteed by the Corporation. Except for the guaranteed portion, permanent financing debt is secured solely by the properties and is nonrecourse to the Corporation. From time to time, temporary interim financing is guaranteed by the Corporation. In general, the Corporation’s interim financing guarantees are eliminated at the time permanent financing is obtained. At December 31, 2004, $27.9 million of temporary interim financing associated with these nonconsolidated real estate entities was guaranteed by the Corporation.
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Note 9. Leases and Commitments
Leases
The future minimum obligations under operating leases having a noncancelable term in excess of one year as of December 31, 2004, are as follows:
Year Ending December 31:
2005
2006
2007
2008
2009
Thereafter
Future minimum obligations
Operating lease obligations have been reduced by approximately $4 million for rental income from noncancelable sublease agreements.
Consolidated rental expense under operating leases was $195.9 million, $186.7 million and $166.3 million in 2004, 2003 and 2002, respectively.
Purchase Commitments
In conjunction with the Spin-off, the Corporation entered into a long-term pulp supply agreement with Neenah Paper. Under the agreement, the Corporation has agreed to purchase annually declining specified minimum tonnages of pulp. Minimum commitments under the agreement are estimated to be approximately $301 million in 2005, $244 million in 2006, $235 million in 2007 and $174 million in 2008. These commitments represent approximately 20, 16, 15 and 11 percent, respectively, of the Corporation’s total requirements for virgin pulp in 2004. The Corporation purchased approximately $21 million under that agreement in 2004.
Under the agreement, the prices for pulp will be based on published industry index prices, subject to certain minimum and maximum prices, less agreed-upon discounts. The commitments are structured as supply-or-pay and take-or-pay arrangements. Accordingly, if the Corporation does not purchase the specified minimums, it must pay for the shortfall based on the difference between the contract price and any lower price Neenah Paper obtains for the pulp, plus ten percent of the difference. If Neenah Paper does not supply the specified minimums, it must pay for the shortfall based on the difference between the contract price and any higher price that the Corporation pays to purchase the pulp, plus ten percent of that difference. Either party can elect a two-year phase-down period for the agreement, to begin no earlier than January 1, 2009 under which the minimum commitments would be approximately $135 million in the first year and $90 million in the second year. Either party may terminate the pulp supply agreement for certain events specified in the agreement.
The Corporation has entered into other long-term contracts for the purchase of raw materials, principally pulp, and utilities, principally electricity. The minimum purchase commitments extend beyond 2009. Commitments under these contracts are approximately $187 million in 2005, $120 million in 2006, $77 million in 2007, $68 million in 2008 and $65 million in 2009. Total commitments beyond the year 2009 are $328 million.
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Although the Corporation is primarily liable for payments on the above-mentioned leases and purchase commitments, management believes the Corporation’s exposure to losses, if any, under these arrangements is not material.
Note 10. Contingencies and Legal Matters
Note 11. Postretirement and Other Benefits
Pension Plans
Substantially all regular employees in North America and the United Kingdom are covered by defined benefit pension plans (the “Principal Plans”) and/or defined contribution retirement plans. Certain other subsidiaries have defined benefit pension plans or, in certain countries, termination pay plans covering substantially all regular employees. The funding policy for the qualified defined benefit plans in North America and the defined benefit plans in the United Kingdom is to contribute assets to fully fund the accumulated benefit obligation (“ABO”). Subject to regulatory and tax deductibility limits, any funding shortfall will be eliminated
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over a reasonable number of years. Nonqualified U.S. plans providing pension benefits in excess of limitations imposed by the U.S. income tax code are not funded. Funding for the remaining defined benefit plans outside the U.S. is based on legal requirements, tax considerations, investment opportunities, and customary business practices in such countries.
In accordance with SFAS 87, Employers’ Accounting for Pensions,the Corporation recorded a minimum pension liability for underfunded plans representing the excess of the unfunded ABO over previously recorded net pension liabilities. The minimum pension liability is included in noncurrent employee benefit and other obligations on the balance sheet. An offsetting charge is included as an intangible asset to the extent of unrecognized prior service cost, and the balance is included in accumulated other comprehensive income. The principal cause of the increase in additional minimum pension liability in 2004 was a decrease in the discount rates used to estimate the ABO.
Information about the minimum pension liability follows:
Less intangible asset
Accumulated other comprehensive loss
Other Postretirement Benefit Plans
Substantially all North American retirees and employees are covered by health care and life insurance benefit plans. Certain benefits are based on years of service and/or age at retirement. The plans are principally noncontributory for employees who were eligible to retire before 1993 and contributory for most employees who retire after 1992, except that the Corporation provides no subsidized benefits to most employees hired after 2003.
On December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the “Act”) became law. Among other things, the Act provides a prescription drug benefit under Medicare (Medicare Part D) and a federal subsidy to sponsors of retiree health care benefit plans that provide a prescription drug benefit that is at least actuarially equivalent to Medicare Part D. Effective April 1, 2004, the Corporation adopted FSP 106-2, which reduced the Corporation’s accumulated postretirement benefit obligation by approximately $72 million and resulted in an unrecognized actuarial gain of a similar amount. Adoption resulted in a reduction in postretirement benefits cost of $5.8 million in 2004.
Prior to 2004, certain U.S. plans limited the Corporation’s cost of future annual per capita retiree medical benefits to no more than 200 percent of the 1992 annual per capita cost. These plans reached this limitation (the “Cap”) and were amended during 2003. Among other things, the amendments index the Cap by 3 percent annually beginning in 2005 for certain employees retiring on or before April 1, 2004 and limit the Corporation’s future cost for retiree health care benefits to a defined fixed per capita cost for certain employees retiring after April 1, 2004. The consolidated weighted-average health care cost trend rate is expected to be 8.45 percent in 2005, 7.67 percent in 2006 and to decrease to 5.67 percent in 2011 and thereafter.
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Summarized financial information about postretirement plans, excluding defined contribution retirement plans, is presented below.
Benefit obligation at beginning of year
Service cost
Interest cost
Actuarial loss
Benefit payments from plans
Direct benefit payments
Spin-off of Neenah Paper
Benefit obligation at end of year
Fair value of plan assets at beginning of year
Actual gain on plan assets
Employer contributions
Benefit payments
Fair value of plan assets at end of year
Benefit obligation in excess of plan assets
Unrecognized net actuarial loss and transition amount
Unrecognized prior service cost
Net amount recognized
Prepaid benefit cost
Accrued benefit cost
Intangible asset
The Corporation uses December 31 as the measurement date for all of its postretirement plans.
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Information for the Principal Plans and All Other Pension Plans
All Other
Projected benefit obligation (“PBO”)
ABO
Fair value of plan assets
Information for Pension Plans With an ABO in Excess of Plan Assets
PBO
Components of Net Periodic Benefit Cost
Expected return on plan assets(a)
Amortization of prior service cost (benefit) and transition amount
Recognized net actuarial loss (gain)
Net periodic benefit cost
Weighted-Average Assumptions used to determine Benefit Obligations at December 31
Discount rate
Rate of compensation increase
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Weighted-Average Assumptions used to determine Net Cost for years ended December 31
Expected long-term return on plan assets
Expected Long-Term Rate of Return and Investment Strategies for the Principal Plans
The expected long-term rate of return on pension fund assets was determined based on several factors, including input from pension investment consultants and projected long-term returns of broad equity and bond indices. The Corporation also considered the U.S. plan’s historical 10-year and 15-year compounded annual returns of 10.92 percent and 9.66 percent, respectively, which have been in excess of these broad equity and bond benchmark indices. The Corporation anticipates that on average the investment managers for each of the plans comprising the Principal Plans will generate annual long-term rates of return of at least 8.5 percent. The Corporation’s expected long-term rate of return on the assets in the Principal Plans is based on an asset allocation assumption of about 70 percent with equity managers, with expected long-term rates of return of approximately 10 percent, and 30 percent with fixed income managers, with an expected long-term rate of return of about 6 percent. The Corporation regularly reviews its actual asset allocation and periodically rebalances its investments to the targeted allocation when considered appropriate. Also, when deemed appropriate, the Corporation executes hedging strategies using index options and futures to limit the downside exposure of certain investments by trading off upside potential above an acceptable level. The Corporation executed such hedging strategies in 2003 and 2002. No hedging instruments are currently in place. The Corporation will continue to evaluate its long-term rate of return assumptions at least annually and will adjust them as necessary.
Plan Assets
The Corporation’s pension plan asset allocations for its Principal Plans are as follows:
Asset Category
Target
Allocation
Percentage ofPlan Assets
at December 31
Equity securities
Debt securities
The plan assets did not include a significant amount of the Corporation’s common stock.
Cash Flows
While the Corporation is not required to make a contribution in 2005 to the U.S. plan, the benefit of a contribution will be evaluated. About $38 million will be contributed to plans outside the U.S. in 2005.
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Estimated Future Benefit Payments
The following benefit payments, which reflect expected future service, as appropriate, are anticipated to be paid:
Years 2010 – 2014
Health Care Cost Trends
Assumed health care cost trend rates affect the amounts reported for postretirement health care benefit plans. A one-percentage-point change in assumed health care trend rates would have the following effects on 2004 data:
Effect on total of service and interest cost components
Effect on postretirement benefit obligation
Defined Contribution Retirement Plans
Contributions to defined contribution retirement plans are primarily based on the age and compensation of covered employees. The Corporation’s contributions, all of which were charged to expense, were $47.6 million, $44.9 million and $41.7 million in 2004, 2003 and 2002, respectively.
Investment Plans
Voluntary contribution investment plans are provided to substantially all North American and most European employees. Under the plans, the Corporation matches a portion of employee contributions. Costs charged to expense under the plans were $30.8 million, $32.3 million and $29.2 million in 2004, 2003 and 2002, respectively.
Note 12. Stock Compensation Plans
The Corporation’s Equity Participation Plans and its Outside Directors’ Compensation Plan (the “Plans”) provide for awards of stock options and restricted stock to employees and outside directors, and (prior to 1999) participation shares to employees of the Corporation. As of December 31, 2004, the number of shares of common stock available for stock option and restricted share awards under the Plans aggregated 34.4 million shares.
Stock Options
Stock options granted to outside directors, executives and other key employees are granted at not less than the market value at the date of grant, expire 10 years after the date of grant and generally become exercisable over three years.
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In connection with the Spin-off, the number and exercise prices of outstanding options were proportionately adjusted to maintain the aggregate intrinsic value of the options before and after the Spin-off. As a result of the adjustment, the number of outstanding options increased by .5 million shares and the average exercise price decreased by approximately $.83. In addition, certain stock options previously granted to Neenah Paper employees were converted to Neenah Paper options with terms and amounts that maintained the aggregate intrinsic value of the options. None of the information for 2003, 2002, the options outstanding at the beginning of 2004 nor grants for 2004 reflect adjustments made in connection with the Spin-off.
Data concerning stock option activity follows (options in thousands):
Number
of
Options
Exercise
Price
Outstanding—Beginning of year
Granted
Exercised
Canceled, forfeited or converted (a)
Neenah Paper spin-off adjustment
Outstanding—End of year(b)
Exercisable—End of year
Exercise Price Range
Of
AverageRemainingContractual
Life (Years)
$15.56 – $ 41.27
42.42 – 46.53
47.51 – 50.64
52.00 – 57.41
58.25 – 60.99
61.90 – 69.75
84.84 – 185.40
Restricted Stock Awards
The Plans provide for restricted stock awards (shares or share equivalents) not to exceed 18.0 million shares. All restricted stock awards vest and become unrestricted shares in three to 10 years from the date of grant. Although participants are entitled to cash dividends and may vote such awarded shares, the sale or transfer of such shares is limited during the restricted period.
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Data concerning restricted stock awards follows:
Number of shares awarded
Weighted-average price per share
The value of restricted stock awards is based on the market value of the Corporation’s common stock at date of grant and recorded at the date of the award as unearned compensation on restricted stock in a separate component of stockholders’ equity. Unearned compensation is amortized to compensation expense over the periods of restriction. During 2004, 2003 and 2002, $19.4 million, $18.2 million and $16.8 million, respectively, was charged to compensation expense under the Plans. The tax effect of differences between compensation expense for financial statement and income tax purposes is recorded as additional paid-in capital.
Participation Shares
Prior to 1999, key employees were awarded participation shares that were payable in cash at the end of the vesting period. The amount of cash paid to participants was based on the increase in the book value of the Corporation’s common stock during the award period. Participants did not receive dividends on the participation shares, but their accounts were credited with dividend shares payable in cash at the maturity of the award. Neither participation nor dividend shares were shares of common stock. Amounts expensed related to participation shares were $11.1 million and $13.1 million in 2003 and 2002, respectively. Final payments for matured shares were made in February 2004.
Note 13. Synthetic Fuel Partnerships
In April 2003, the Corporation acquired a 49.5 percent minority interest in a synthetic fuel partnership. In October 2004, the Corporation acquired a 49 percent minority interest in an additional synthetic fuel partnership. These partnerships are variable interest entities that are subject to the requirements of FIN 46R. Although these partnerships are variable interest entities, the Corporation is not the primary beneficiary, and the entities have not been consolidated. Synthetic fuel produced by the partnerships is eligible for synthetic fuel tax credits through 2007.
The production of synthetic fuel results in pretax losses. In 2004 and 2003, these pretax losses totaled $158.4 million and $105.5 million, respectively, and are reported as nonoperating expense on the Corporation’s income statement. The synthetic fuel tax credits, as well as tax deductions for the nonoperating losses, reduce the Corporation’s income tax expense. In 2004 and 2003, the Corporation’s participation in the synthetic fuel partnership resulted in $144.4 million and $94.1 million of tax credits, respectively, and the nonoperating losses generated an additional $55.4 million and $37.2 million, respectively, of tax benefits, which combined to reduce the Corporation’s income tax provision by $199.8 million and $131.3 million, respectively. The effect of these benefits increased net income by $41.4 million, $.08 per share in 2004 and $25.8 million, $.05 per share in 2003. The effects of these tax credits are shown separately in the Corporation’s reconciliation of the U.S. statutory rate to its effective income tax rate in Note 14.
Because the partnerships have received favorable private letter rulings from the IRS and because the partnerships’ test procedures conform to IRS guidance, the Corporation’s loss exposure under the synthetic fuel partnerships is minimal. Application of FIN 46R to these entities did not have any effect on the Corporation’s consolidated financial statements.
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Note 14. Income Taxes
An analysis of the provision for income taxes for income from continuing operations follows:
Current income taxes:
State
Other countries
Deferred income taxes:
Total provision for income taxes
Income from continuing operations before income taxes is earned in the following tax jurisdictions:
Total income before income taxes
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Deferred income tax assets (liabilities) are composed of the following:
Net current deferred income tax asset attributable to:
Pension, postretirement and other employee benefits
Other accrued expenses
Prepaid royalties
Valuation allowances
Net current deferred income tax asset
Net noncurrent deferred income tax asset attributable to:
Accumulated depreciation
Income tax loss carryforwards
State tax credits
Pension and other postretirement benefits
Net noncurrent deferred income tax asset included in other assets
Net noncurrent deferred income tax liability attributable to:
Installment sales
Foreign tax credits and loss carryforwards
Net noncurrent deferred income tax liability
Valuation allowances increased $4.5 million and $7.3 million in 2004 and 2003, respectively. Valuation allowances at the end of 2004 primarily relate to the portion of income tax loss carryforwards of $1,083.6 million, that potentially are not usable primarily in jurisdictions outside the United States. If not utilized against taxable income, $440.4 million of the loss carryforwards will expire from 2005 through 2024. The remaining $643.2 million has no expiration date.
Realization of income tax loss carryforwards is dependent on generating sufficient taxable income prior to expiration of these carryforwards. Although realization is not assured, management believes it is more likely than not that all of the deferred tax assets, net of applicable valuation allowances, will be realized. The amount of the deferred tax assets considered realizable could be reduced or increased if estimates of future taxable income change during the carryforward period.
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Presented below is a reconciliation of the income tax provision computed at the U.S. federal statutory tax rate to the provision for income taxes.
Income from continuing operations before income taxes
Tax at U.S. statutory rate applied to income from continuing operations
State income taxes, net of federal tax benefit
Synthetic fuel credits
Net operating losses realized
Other—net(a)
At December 31, 2004, U.S. income taxes have not been provided on approximately $4.0 billion of unremitted earnings of subsidiaries operating outside the U.S. These earnings, which are considered to be invested indefinitely, would become subject to income tax if they were remitted as dividends, were lent to the Corporation or a U.S. affiliate, or if the Corporation were to sell its stock in the subsidiaries.
The American Jobs Creation Act (the “Act”) provides, among other things, a special one-time deduction for certain earnings from outside the U.S. that are repatriated (as defined in the Act) on or before December 31, 2005. The Act also extends the foreign tax credit carryover period from 5 to 10 years, and the Corporation has reflected this in its income tax provision. The Corporation currently is evaluating the effect of the Act on the unremitted earnings of its non-U.S. subsidiaries and expects to complete that evaluation by June 30, 2005.
Determination of the amount of unrecognized deferred U.S. income tax liability on these unremitted earnings is not practicable. Because the Corporation has not yet completed its evaluation of the effect of the Act on unremitted earnings, at this time it is not possible to reasonably estimate the amount of unremitted earnings that may be repatriated and the income tax effects of such repatriation.
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Note 15. Earnings Per Share
A reconciliation of the average number of common shares outstanding used in the basic and diluted EPS computations follows:
Average Common Shares
Outstanding
Dilutive effect of stock options
Dilutive effect of restricted stock awards
Options outstanding that were not included in the computation of diluted EPS because their exercise price was greater than the average market price of the common shares are summarized below:
Description
Average number of share equivalents (millions)
Weighted-average exercise price
Expiration date of options
Options outstanding at year-end
The number of common shares outstanding as of December 31, 2004, 2003 and 2002 was 482.9 million, 501.6 million and 510.8 million, respectively.
Note 16. Business Segment and Geographic Data Information
The Corporation is organized into operating segments based on product groupings. These operating segments have been aggregated into three reportable global business segments: Personal Care; Consumer Tissue; and Business-to-Business. Each reportable segment is headed by an executive officer who reports to the Chief Executive Officer and is responsible for the development and execution of global strategies to drive growth and profitability of the Corporation’s worldwide personal care, consumer tissue and business-to-business operations. These strategies include global plans for branding and product positioning, technology, research and development programs, cost reductions including supply chain management, and capacity and capital investments for each of these businesses. The principal sources of revenue in each global business segment are described below. The accounting policies of our reportable segments are the same as those described in Note 1.
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Information concerning consolidated operations by business segment and geographic area, as well as data for equity companies, is presented in the following tables:
Consolidated Operations by Business Segment
Personal
Care
Consumer
Tissue
to-
Intersegment
Sales
All
2004
2003
2002
Operating Profit(a)
Depreciation and Amortization
Assets(b)
Capital Spending
Sales of Principal Products
Consumer tissue products
Away-from-home professional products
All other
72
Consolidated Operations by Geographic Area
United
States
Inter-
geographic
Items(a)
North
America
Asia,
Latin
& Other
Items
Operating Profit (b)
Net Property (c)
Equity Companies’ Data by Geographic Area
Net
Profit
Operating
Corporation’s
Share of
For the year ended:
December 31, 2004
Latin America
Asia and Middle East
December 31, 2003
Latin America(a)
December 31, 2002
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Current
Non-
Liabilities
Stock-
holders’
Equity
Equity companies are principally engaged in operations in the Personal Care and Consumer Tissue businesses.
At December 31, 2004, the Corporation’s equity companies and ownership interest were as follows: Kimberly-Clark Lever, Ltd. (India) (50%), Kimberly-Clark de Mexico, S.A. de C.V. and subsidiaries (47.9%), Olayan Kimberly-Clark Arabia (49%), Olayan Kimberly-Clark (Bahrain) WLL (49%) and Tecnosur S.A. (Colombia) (34.3%).
Kimberly-Clark de Mexico, S.A. de C.V. is partially owned by the public and its stock is publicly traded in Mexico. At December 31, 2004, the Corporation’s investment in this equity company was $381.5 million, and the estimated fair value of the investment was $1.9 billion based on the market price of publicly traded shares.
Note 17. Supplemental Data (Millions of dollars)
Supplemental Income Statement Data
Summary of Advertising and Research Expenses
Advertising expense
Research expense
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Supplemental Balance Sheet Data
Summary of Accounts Receivable, net
Accounts Receivable:
From customers
Less allowance for doubtful accounts and sales discounts
Accounts receivable are carried at amounts that approximate fair value.
Summary of Inventories
Inventories by Major Class:
At the lower of cost determined on the FIFO or weighted-average cost methods or market:
Raw materials
Work in process
Finished goods
Supplies and other
Excess of FIFO or weighted-average cost over LIFO cost
FIFO or weighted-average value of total inventories determined on the LIFO method were $768.5 million and $663.8 million at December 31, 2004 and December 31, 2003, respectively.
Summary of Property, Plant and Equipment, net
Property, Plant and Equipment:
Land
Buildings
Machinery and equipment
Construction in Progress
Less accumulated depreciation
Summary of Accrued Expenses
Accrued advertising and promotion
Accrued salaries and wages
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Supplemental Cash Flow Statement Data(a)
Summary of Cash Flow Effects of Decrease (Increase) in
Operating Working Capital (b)
Accounts receivable
Prepaid expenses
Other Cash Flow Data
Interest paid
Income taxes paid
Interest Expense
Gross interest cost
Capitalized interest on major construction projects
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Note 18. Unaudited Quarterly Data
Gross profit
Operating profit
Income (loss) from:
Cash dividends declared per share
Market price per share:(b)
High
Low
Close
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
Kimberly-Clark Corporation:
We have audited the accompanying consolidated balance sheets of Kimberly-Clark Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the Index at Item 15. These financial statements and financial statement schedule are the responsibility of the Corporation’s management. Our responsibility is to express an opinion on the financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Kimberly-Clark Corporation and subsidiaries at December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
As discussed in Note 1 to the consolidated financial statements, effective January 1, 2002, the Corporation changed its method of accounting for customer coupons.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Corporation’s internal control over financial reporting as of December 31, 2004, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 22, 2005 expressed an unqualified opinion on management’s assessment of the effectiveness of the Corporation’s internal control over financial reporting and an unqualified opinion on the effectiveness of the Corporation’s internal control over financial reporting.
/s/ DELOITTE & TOUCHE LLP
Deloitte & Touche LLP
February 22, 2005
78
None.
Disclosure Controls and Procedures
As of December 31, 2004, an evaluation was performed under the supervision and with the participation of the Corporation’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures. Based on that evaluation, the Corporation’s management, including the Chief Executive Officer and Chief Financial Officer, concluded that the Corporation’s disclosure controls and procedures were effective as of December 31, 2004.
Internal Control Over Financial Reporting
Management’s Report on the Financial Statements
Kimberly-Clark Corporation’s management is responsible for all aspects of the business, including the preparation of the consolidated financial statements in this annual report. The consolidated financial statements have been prepared using generally accepted accounting principles considered appropriate in the circumstances to present fairly the Corporation’s consolidated financial position, results of operations and cash flows on a consistent basis. Management also has prepared the other information in this annual report and is responsible for its accuracy and consistency with the consolidated financial statements.
As can be expected in a complex and dynamic business environment, some financial statement amounts are based on estimates and judgments. Even though estimates and judgments are used, measures have been taken to provide reasonable assurance of the integrity and reliability of the financial information contained in this annual report. These measures include an effective control-oriented environment in which the internal audit function plays an important role and an Audit Committee of the board of directors that oversees the financial reporting process.
The consolidated financial statements have been audited by the independent registered public accounting firm, Deloitte & Touche LLP. During their audits, Deloitte & Touche LLP was given unrestricted access to all financial records and related data, including minutes of all meetings of stockholders and the board of directors and all committees of the board. Management believes that all representations made to the independent registered public accountants during their audits were valid and appropriate.
Audit Committee Oversight and the Corporation’s Code of Conduct
The Audit Committee of the Board of Directors, which is composed solely of independent directors, assists the Board in fulfilling its responsibility for oversight of the quality and integrity of the accounting, auditing and financial reporting practices of the Corporation; the audits of its consolidated financial statements; and internal control over financial reporting. The Audit Committee reviews with the auditors any relationships that may affect their objectivity and independence. The Audit Committee also reviews with management, the internal auditors and the independent registered public accounting firm the quality and adequacy of the Corporation’s internal control over financial reporting, including compliance matters related to the Corporation’s code of conduct, and the results of the internal and external audits. The Audit Committee has reviewed and recommended that the audited consolidated financial statements included in this report be included in Form 10-K for filing with the SEC.
79
The Corporation’s code of conduct, among other things, contains policies for conducting business affairs in a lawful and ethical manner everywhere it does business, for avoiding potential conflicts of interest and for preserving confidentiality of information and business ideas. Internal controls have been implemented to provide reasonable assurance that the code of conduct is followed.
Management’s Report on Internal Control Over Financial Reporting
Management is responsible for establishing and maintaining an adequate system of internal control over financial reporting, including safeguarding of assets against unauthorized acquisition, use or disposition. This system is designed to provide reasonable assurance to management and the board of directors regarding preparation of reliable published financial statements and safeguarding of the Corporation’s assets. This system is supported with written policies and procedures, contains self-monitoring mechanisms and is audited by the internal audit function. Appropriate actions are taken by management to correct deficiencies as they are identified. All internal control systems have inherent limitations, including the possibility of circumvention and overriding of controls, and, therefore, can provide only reasonable assurance as to the reliability of financial statement preparation and such asset safeguarding.
The Corporation has assessed the effectiveness of its internal control over financial reporting as of December 31, 2004. In making this assessment, it used the criteria described in “Internal Control—Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this assessment, management believes that, as of December 31, 2004, the Corporation’s internal control over financial reporting is effective.
Deloitte & Touche LLP has issued its report on management’s assessment and on the effectiveness of the Corporation’s internal control over financial reporting. That report appears below.
80
Report of Independent Registered Public Accounting Firm
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Kimberly-Clark Corporation and Subsidiaries maintained effective internal control over financial reporting as of December 31, 2004 based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Corporation’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management’s assessment that the Corporation maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Also in our opinion, the Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
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We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements and financial statement schedule of the Corporation as of and for the year ended December 31, 2004 and our report dated February 22, 2005 expressed an unqualified opinion on those financial statements and financial statement schedule and included an explanatory paragraph regarding a change in the Corporation’s method of accounting for customer coupons.
Changes in Internal Control Over Financial Reporting
There have been no changes in the Corporation’s internal control over financial reporting identified in connection with the evaluation described above in “Management’s Report on Internal Control Over Financial Reporting” that occurred during the Corporation’s fourth fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting.
82
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The section of the 2005 Proxy Statement captioned “Certain Information Regarding Directors and Nominees” under “Proposal 1. Election of Directors” identifies members of the board of directors of the Corporation and nominees, and is incorporated in this Item 10 by reference.
Item 4A of this Form 10-K identifies executive officers of the Corporation and is incorporated in this Item 10 by reference.
The section of the 2005 Proxy Statement captioned “Corporate Governance—Board of Directors and Board Committees—Audit Committee” under “Proposal 1. Election of Directors” identifies members of the Audit Committee of the Board of Directors and an audit committee financial expert, and is incorporated in this Item 10 by reference.
The section of the 2005 Proxy Statement captioned “Section 16(a) Beneficial Ownership Reporting Compliance” is incorporated in this Item 10 by reference.
The section of the 2005 Proxy Statement captioned “Corporate Governance—Other Corporate Governance Policies—Corporate Governance Policies” identifies how stockholders may obtain a copy of the Corporation’s Corporate Governance Policies without charge and is incorporated in this Item 10 by reference.
The section of the 2005 Proxy Statement captioned “Corporate Governance—Other Corporate Governance Policies—Code of Conduct” identifies how stockholders may obtain a copy of the Corporation’s Code of Conduct without charge and is incorporated in this Item 10 by reference.
The section of the 2005 Proxy Statement captioned “Corporate Governance—Board of Directors and Board Committees” identifies how stockholders may obtain a copy of charters of the Audit, Management Development and Compensation, and Nominating and Corporate Governance Committees of the Board of Directors without charge and is incorporated in this Item 10 by reference.
The information in the section of the 2005 Proxy Statement captioned “Executive Compensation” is incorporated in this Item 11 by reference.
The information in the section of the 2005 Proxy Statement captioned “Security Ownership of Management” is incorporated in this Item 12 by reference.
83
The following table gives information about the Corporation’s common stock that may be issued upon the exercise of options, warrants and rights under all of the Corporation’s equity compensation plans as of December 31, 2004.
Plan category
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
(in millions)
(a)
Weighted-average
exercise price of
outstanding
options, warrants
and rights
(b)
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
(c)
Equity compensation plans approved by stockholders (1)
Equity compensation plans not approved by stockholders (4)
1999 Restricted Stock Plan. In 1999, the Corporation’s Board of Directors approved the 1999 Restricted Stock Plan under which certain key employees could be granted, in the aggregate, up to 2,500,000 shares of the Corporation’s common stock or awards of restricted stock units. These restricted stock awards vest and become unrestricted shares in three to ten years from the date of grant. Although plan participants are entitled to cash dividends and may vote such awarded shares, the sale or transfer of such shares is limited during the restricted period. The market value of the Corporation’s stock at the date of grant determines the value of the restricted stock award. Although no additional awards can be granted under this plan, unvested restricted share units are credited with dividends that are converted to additional restricted share units.
Outside Directors’ Compensation Plan. In 2001, the Corporation’s Board of Directors approved the Outside Directors’ Compensation Plan. A maximum of 1,000,000 shares of the Corporation’s common stock is available for grant under this plan. The Corporation’s Board of Directors may grant awards in the form of stock, stock appreciation rights, restricted shares, restricted share units, or any combination of cash, options, stock, stock appreciation rights, restricted shares or restricted share units under this plan.
The information in the section of the 2005 Proxy Statement captioned “Certain Transactions and Business Relationships” is incorporated in this Item 13 by reference.
The information in the sections of the 2005 Proxy Statement captioned “Principal Accounting Firm Fees” and “Audit Committee Approval of Audit and Non-Audit Services” under “Proposal 2. Approval of Auditors” is incorporated in this Item 14 by reference.
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PART IV
The financial statements are set forth under Item 8 of this report on Form 10-K.
The following information is filed as part of this Form 10-K and should be read in conjunction with the financial statements contained in Item 8:
Schedule for Kimberly-Clark Corporation and Subsidiaries:
Schedule II Valuation and Qualifying Accounts
All other schedules have been omitted because they were not applicable or because the required information has been included in the financial statements or notes thereto.
85
86
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
/s/ MARK A. BUTHMAN
Mark A. Buthman
Senior Vice President and
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
/s/ THOMAS J. FALK
Thomas J. Falk
/s/ RANDY J. VEST
Randy J. Vest
Directors
Dennis R. Beresford
Claudio X. Gonzalez
John F. Bergstrom
Mae C. Jemison
Pastora San Juan Cafferty
Linda Johnson Rice
Robert W. Decherd
Marc J. Shapiro
G. Craig Sullivan
/s/ RONALD D. MCCRAY
Ronald D. Mc Cray
Attorney-in-Fact
87
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(Millions of dollars)
Write-Offs
andReclassifications
Allowances deducted from assetsto which they apply
Allowance for doubtful accounts
Allowances for sales discounts
88
Deferred Taxes
Valuation Allowance
89
Exhibit Index