Pentair - 10-Q quarterly report FY

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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x        QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended March 29, 2003

OR

¨        TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

Commission file number 1-11625

Pentair, Inc.

(Exact name of Registrant as specified in its charter)

Registrant’s telephone number, including area code: (651) 636-7920

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 whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes  x    No  ¨

On March 29, 2003, 49,351,359 shares of the Registrant’s common stock were outstanding.

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Pentair, Inc. and Subsidiaries

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PART I    FINANCIAL INFORMATION

ITEM 1.    FINANCIAL STATEMENTS

Pentair, Inc. and Subsidiaries

Condensed Consolidated Statements of Income (Unaudited)

See accompanying notes to condensed consolidated financial statements.

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Pentair, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets (Unaudited)

See accompanying notes to condensed consolidated financial statements.

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Pentair, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows (Unaudited)

See accompanying notes to condensed consolidated financial statements.

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Pentair, Inc. and subsidiaries

Notes to condensed consolidated financial statements (unaudited)

We prepared the unaudited condensed consolidated financial statements following the requirements of the Securities and Exchange Commission (SEC) for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by accounting principles generally accepted in the United States can be condensed or omitted. We made certain reclassifications to the 2002 condensed consolidated financial statements to conform to the 2003 presentation.

We are responsible for the unaudited financial statements included in this document. The financial statements include all normal recurring adjustments that are considered necessary for the fair presentation of our financial position and operating results. As these are condensed financial statements, one should also read our consolidated financial statements and notes thereto which are included in our 2002 Annual Report on Form 10-K.

Revenues, expenses, cash flows, assets and liabilities can and do vary during each quarter of the year. Therefore, the results and trends in these interim financial statements may not be the same as those for the full year.

In April 2002, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 145,Rescission of FASB Statements No. 4, 44 and 62, Amendment of FASB Statement No. 13 and Technical Corrections. This new standard requires gains and losses on the extinguishment of debt to be classified as income or loss from continuing operations rather than as extraordinary items as previously required under SFAS No. 4. Extraordinary treatment will be required for certain extinguishments as provided in Accounting Principles Board (APB) Opinion No. 30. SFAS No. 145 also amends SFAS No. 13 to require certain modifications to capital leases to be treated as a sale-leaseback and modifies the accounting for sub-leases when the original lessee remains a secondary obligor (or guarantor). SFAS No. 145 is effective for financial statements issued after May 15, 2002. The adoption of these provisions did not have an effect on our consolidated financial position or results of operations.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. This new standard nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring). SFAS No. 146 requires that a liability for a cost associated with an exit activity that does not involve an entity newly acquired in a business combination or with a disposal activity covered by SFAS No. 144, be recognized when the liability is incurred, rather than the date of an entity’s commitment to an exit plan. SFAS No. 146 is effective for exit or disposal activities that are initiated after December 31, 2002. The adoption of SFAS No. 146 on January 1, 2003 did not have a material effect on our consolidated financial position or results of operations.

In November 2002, the FASB issued Interpretation No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. Interpretation No. 45 elaborates on the existing disclosure requirements for most guarantees, including loan guarantees. It also clarifies that at the time an entity issues a guarantee, the issuing entity must recognize an initial liability for the fair value of the obligations it assumes under that guarantee. However, the provisions related to recognizing a liability at inception of the guarantee for the fair value of the guarantor’s obligations does not apply to product warranties, guarantees accounted for as derivatives, or other guarantees of an entity’s own future performance. We adopted the disclosure requirements of this interpretation as of December 31, 2002. The initial recognition and initial measurement provisions apply on a prospective basis to guarantees issued or modified after December 31, 2002. The adoption of this new standard did not have an effect on our consolidated financial position or results of operations.

In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities (VIE), an Interpretation of ARB No. 51, which requires all VIEs to be consolidated by the primary beneficiary. The primary beneficiary is the entity that holds the majority of the beneficial interests in the VIE. In addition, the interpretation expands disclosure requirements for both VIEs that are consolidated as well as VIEs from which the entity is the holder of a significant amount of the beneficial interests, but not the majority. The disclosure requirements of this interpretation are effective for all financial statements issued after January 31, 2003. The consolidation requirements of this interpretation are effective for all periods beginning after June 15, 2003. Because we have no variable interest entities, we do not expect that the adoption of this new standard will have an effect on our consolidated financial position or results of operations.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure—an Amendment of FASB Statement No. 123. SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The transition guidance of SFAS No. 148 is effective for our financial statements issued in 2003. As allowed by SFAS No. 123, we will continue to account for stock-based compensation in accordance with APB Opinion No. 25, Accounting for Stock Issued to Employees, which results in no charge to earnings when options are issued at fair market value. The adoption of this new standard did not have a material impact on our consolidated financial position or results of operations.

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Pentair, Inc. and subsidiaries

Notes to condensed consolidated financial statements (unaudited)—(continued)

The following table illustrates the effect on net income and earnings per share as if the fair value based method had been applied to all outstanding and unvested stock compensation awards in each period:

Basic and diluted earnings per share were calculated using the following:

Inventories were comprised of:

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Pentair, Inc. and subsidiaries

Notes to condensed consolidated financial statements (unaudited)—(continued)

Comprehensive income and its components, net of tax, are as follows:

Changes in the carrying amount of goodwill for the three months ended March 29, 2003 by segment is as follows:

Segment information is presented consistent with the basis described in the 2002 Annual Report on Form 10-K. Segment results for the first quarters of 2003 and 2002 are shown below:

Other operating income (loss) is primarily composed of unallocated corporate expenses, our captive insurance subsidiary, intermediate finance companies, divested operations, and intercompany eliminations.

We completed two acquisitions during the three months ended March 29, 2003. In addition, we acquired two businesses during the year ended December 31, 2002. All of the acquisitions during this time period have been additions to our Tools and Water segments, have been accounted for as purchases, and have resulted in the recognition of goodwill in our financial statements. Goodwill arises because the purchase prices for these targets reflect a number of factors, including the future earnings and cash flow potential of these target companies; the multiple to earnings, cash flow and other factors at which companies similar to the target have been purchased by other acquirers; the competitive nature of the process by which we acquired the target; and the complementary strategic fit and resulting synergies these targets bring to existing operations.

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Pentair, Inc. and subsidiaries

Notes to condensed consolidated financial statements (unaudited)—(continued)

We make an initial allocation of the purchase price at the date of acquisition based upon our understanding of the fair market value of the acquired assets and liabilities. We obtain this information during due diligence and through various other sources. As we obtain additional information about these assets and liabilities and learn more about the newly acquired business, we are able to refine the estimates of fair market value and more accurately allocate the purchase price during the first 12 months of ownership.

The following briefly describes our acquisition activity for the three months ended March 29, 2003. For a description of our acquisition activity for the year-ended December 31, 2002, refer to our notes to consolidated financial statements included in our 2002 Annual Report on Form 10-K.

During the three-month period ended March 29, 2003, we completed two acquisitions for total consideration of approximately $16.5 million in cash including transaction costs. HydroTemp Manufacturing Co., Inc. designs and manufactures heat pumps for swimming pool applications and Letro Products, Inc. designs and manufactures swimming accessories including pool cleaners. We acquired these companies to complement our existing pool and spa equipment business unit of our Water segment. The aggregated annual revenue of the acquired businesses is approximately $17 million. We are continuing to evaluate the initial purchase accounting allocations for acquisitions completed during the quarter ended March 29, 2003 and will adjust the allocations as additional information relative to the fair market values of the assets and liabilities of the businesses become known.

In the first quarter of 2003, we made purchase price adjustments relative to our fourth quarter 2002 acquisition of Plymouth Products in which we received $1.9 million. The adjustment primarily related to final determination of closing date net assets.

In January 2003, we completed a final adjustment to the selling price related to the disposition of Lincoln Industrial in which we paid $2.4 million. This had no effect on earnings for the first quarter of 2003 as the amount was offset by previously established reserves.

The changes in the carrying amount of service and product warranties for the quarter ended March 29, 2003 are as follows:

In April 2003, we invested an additional $5.6 million in certain joint venture operations of an Asian supplier for bench top power tools. This additional investment increased our ownership percentage to 49 percent from 40 percent. We hold options to increase our ownership interest in these joint ventures to 100 percent. Our portion of the earnings of these joint ventures is included in cost of goods sold; however, it is not material.

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ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF

OPERATIONS

FORWARD-LOOKING STATEMENTS

This report contains statements that we believe to be “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements give our current expectations or forecasts of future events. Forward-looking statements generally can be identified by the use of forward-looking terminology such as “may,” “will,” “expected,” “intend,” “estimate,” “anticipate,” “believe,” “project,” or “continue,” or the negative thereof or similar words. From time to time, we also may provide oral or written forward-looking statements in other materials we release to the public. Any or all of our forward-looking statements in this report and in any public statements we make could be materially different from actual results. They can be affected by assumptions we might make or by known or unknown risks or uncertainties. Consequently, we cannot guarantee any forward-looking statements. Investors are cautioned not to place undue reliance on any forward-looking statements. Investors should also understand that it is not possible to predict or identify all such factors and should not consider the following list to be a complete statement of all potential risks and uncertainties.

The following factors may impact the achievement of forward-looking statements:

The foregoing factors are not exhaustive, and new factors may emerge or changes to the foregoing factors may occur that would impact our business. We assume no obligation, and disclaim any duty, to update the forward-looking statements in this report.

BUSINESS OVERVIEW

We are a diversified industrial manufacturer operating in three segments: Tools, Water, and Enclosures. Our Tools segment manufactures and markets a wide range of power tools under several brand names — Porter-Cable^™, Delta^®, Delta Shopmaster^™, Delta Industrial^™, Biesemeyer^®, FLEX^™, Ex-Cell^™, Air America^®, Charge Air Pro^®, 2 x 4^™, Oldham^®, Contractor SuperDuty^™, Viper^®, Hickory Woodworking^®, The Woodworker’s Choice^®, and United States Saw^® — generating approximately 40 percent of total revenues. Our Water segment manufactures and markets essential products for the transport, storage, and treatment of water and wastewater and generates approximately 35 percent of total revenues. Brand names within the Water segment include Myers^®, Fairbanks Morse^®, Hydromatic^®, Aurora^®, Water Ace^®, Shur-Dri^®, Fleck^®, SIATA^™, CodeLine^™, Structural^™, WellMate^™, Verti-line^™, Layne & Bowler^™, American Plumber^™, Armor^™, National Pool Tile^™, Rainbow Lifegard^™, Paragon Aquatics^™, Kreepy Krauly^™, and Pentair Pool Products^™. Our Enclosures segment accounts for approximately 25 percent of total revenues, and designs, manufactures, and markets standard, modified and custom enclosures that protect sensitive controls and components for markets that include industrial machinery, data communications, networking, telecommunications, test and measurement, automotive, medical, security, defense, and general electronics. The segment goes to market under four primary brands: Hoffman^®, Schroff^®, Pentair Electronic Packaging^™, and Taunus^™.

Our diversification has enabled us to provide shareholders with relatively consistent operating results despite difficult markets that may occur in one or another segment at times. We anticipate ongoing demand for power tools, the increasing need for clean water throughout the world, and the critical importance of protecting sensitive electronics will give Pentair strong prospects for long-term performance.

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RESULTS OF OPERATIONS

Net sales

The components of the net sales change in 2003 from 2002 were as follows:

Net sales in the first quarter of 2003 totaled $637.5 million compared with $603.1 million for the same period in 2002. The $34.4 million or 5.7 percent increase in net sales for the first quarter of 2003 was primarily due to increased volume as a result of our fourth quarter 2002 acquisitions and higher organic sales growth in our pool and spa equipment business. The weaker U.S. dollar also improved the dollar value of foreign sales by approximately 2.3 percent. Continued weakness in our Enclosures segment base markets was somewhat offset by new volume generated from continued expansion in the security and defense and medical markets.

Sales by segment and the change from the prior year period were as follows:

Tools

The 0.1 percent decline in Tools segment sales in the first quarter of 2003 was primarily driven by:

Water

The 16.6 percent increase in Water segment sales in the first quarter of 2003 was primarily driven by:

Enclosures

The 0.2 percent decline in Enclosures segment sales in the first quarter of 2003 was primarily driven by:

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Gross profit

The 1.7 percentage point increase in gross profit as a percent of sales in the first quarter of 2003 from 2002 was primarily the result of:

These increases were partially offset by:

Selling, general and administrative (SG&A)

The 0.9 percentage point increase in SG&A expense as a percent of sales in the first quarter of 2003 from 2002 was primarily due to:

Research and development (R&D)

The 0.2 percentage point increase in R&D expense as a percent of sales in the first quarter of 2003 from 2002 was primarily due to additional investments related to new product development initiatives in our Tools and Water segments.

Operating income

Tools

The 0.4 percentage point increase in Tools segment operating income as a percent of sales in the first quarter of 2003 from 2002 was primarily the result of:

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These increases were partially offset by:

Water

The 2.1 percentage point decline in Water segment operating income as a percent of sales in the first quarter of 2003 from 2002 was primarily the result of:

These decreases were partially offset by:

Enclosures

The 3.8 percentage point increase in Enclosures segment operating income as a percent of sales in the first quarter of 2003 from 2002 was primarily the result of:

Net interest expense

Net interest expense decreased to $10.0 million in the first quarter of 2003 from $13.7 million in the first quarter of 2002. The $3.7 million decrease primarily related to lower interest rates on our variable rate debt and because in March 2002, we wrote-off $1.8 million of deferred financing costs related to excess capacity on certain credit facilities that were no longer used.

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Provision for income taxes

Our effective tax rate in the first quarter of 2003 was 34 percent compared with 33 percent in the first quarter of 2002. The one percentage point increase is primarily due to the anticipated mix of our 2003 U.S. and foreign earnings and that many of our tax savings programs have relatively fixed benefits so as profitability improves, our effective tax rate trends higher.

LIQUIDITY AND CAPITAL RESOURCES

Cash requirements for working capital, capital expenditures, equity investments, acquisitions, debt repayments, and dividend payments are generally funded from cash generated from operations, availability under existing committed revolving credit facilities, and in certain instances, equity and public debt transactions.

The following table presents selected working capital measurements calculated from our monthly operating results based on a 13-month moving average and indicates our emphasis on working capital management:

Operating activities

Cash used for operating activities was $2.4 million in the first quarter of 2003, or $24.2 million lower compared with the first quarter of 2002. The decrease is primarily attributable to variances in tax payments and increased working capital needs. In the first quarter of 2002, we received a tax refund of approximately $10 million compared to $5 million in tax payments in the first quarter of 2003.

Investing activities

Capital expenditures in the first quarter of 2003 was $7.7 million compared with $7.0 million in the prior year period. We anticipate capital expenditures in 2003 to be approximately $45 million primarily in the areas of new product development and general maintenance capital.

During the three-month period ended March 29, 2003, we completed two acquisitions for total consideration of approximately $16.5 million in cash including transaction costs. HydroTemp Manufacturing Co., Inc. designs and manufactures heat pumps for swimming applications and Letro Products, Inc. designs and manufactures swimming accessories including pool cleaners. We acquired these companies to complement our existing pool and spa equipment business unit of our Water segment. The aggregated annual revenue of the acquired businesses is approximately $17 million.

In the first quarter of 2003, we made purchase price adjustments relative to our fourth quarter 2002 acquisition of Plymouth Products in which we received $1.9 million. The adjustment primarily related to final determination of closing date net assets.

In January 2003, we completed a final adjustment to the selling price related to the disposition of Lincoln Industrial in which we paid $2.4 million. This had no effect on earnings for the first quarter of 2003 as the amount was offset by previously established reserves.

Financing activities

At March 29, 2003, our capital structure consisted of $777.8 million in total indebtedness and $1,126.0 million in shareholders’ equity. The ratio of debt-to-total capital at March 29, 2003 was 40.9 percent, compared with 39.9 percent at December 31, 2002 and 40.4 percent at March 30, 2002. The 1.0 percentage point increase from the end of 2002 reflects additional borrowings used to finance the first quarter 2003 acquisitions, plus seasonal increases in working capital principally in the pool and spa equipment business. Our targeted debt-to-total capital ratio is approximately 40 percent. We will exceed this target from time to time as needed for operational purposes and/or acquisitions.

As of March 29, 2003, we had $652.0 million in committed revolving credit facilities (the Facilities) with various banks, of which approximately $303 million was unused. Credit available under existing facilities, as limited by our most restrictive financial covenant, was approximately $192 million at March 29, 2003 and is based on a ratio of total debt to EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization). In addition, our debt agreements contain certain financial covenants that restrict the amount we pay for dividends and require us to maintain certain financial ratios and a minimum net worth. We were in compliance with all covenants at March 29, 2003.

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In addition to the Facilities, we have $65 million of uncommitted credit facilities of which $25 million was outstanding as of March 29, 2003.

Our current credit ratings are as follows:

We will continue to have cash requirements to support working capital needs and capital expenditures, to pay interest and service debt and to pay dividends to shareholders. In order to meet these cash requirements, we intend to use available cash and internally generated funds and to borrow under our committed and uncommitted credit facilities. We believe that cash provided from these sources will be adequate to meet our cash requirements for the foreseeable future.

There have been no material changes with respect to the contractual obligations as described in our Annual Report on Form 10-K for the year ended December 31, 2002.

Dividends paid in the first quarter of 2003 were $9.4 million or $0.19 per common share compared with $8.9 million or $0.18 per common share in the prior year period. In February 2003, our Board of Directors approved an increase in our quarterly cash dividend payment from $0.19 per common share to $0.21 per common share, payable beginning May 9, 2003.

Pension

Total net periodic pension benefits cost is expected to be approximately $15 million for 2003 compared with approximately $13 million in 2002. Our 2003 pension contributions are expected to be in the range of $20 million to $25 million compared to approximately $19 million in 2002.

Subsequent Event

In April 2003, we invested an additional $5.6 million in certain joint venture operations of an Asian supplier for bench top power tools. This additional investment increased our ownership percentage to 49 percent from 40 percent. We hold options to increase our ownership interest in these joint ventures to 100 percent. Our portion of the earnings of these joint ventures is included incostof goods sold; however, it is not material.

Off-Balance Sheet Arrangements

At March 29, 2003, we had no off-balance sheet arrangements.

NEW ACCOUNTING STANDARDS

See Note 2 (New Accounting Standards) of ITEM 1.

CRITICAL ACCOUNTING POLICIES

In our Annual Report on Form 10-K for the year ended December 31, 2002, we identified the critical accounting policies which affect our more significant estimates and assumptions used in preparing our consolidated financial statements. We have not changed these policies from those previously disclosed in our annual report.

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ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes in our market risk during the quarter ended March 29, 2003. For additional information, refer to Item 7A on page 30 of our 2002 Annual Report on Form 10-K.

ITEM 4.    CONTROLS AND PROCEDURES

We maintain a system of disclosure controls and procedures designed to provide reasonable assurance as to the reliability of our published financial statements and other disclosures included in this report. Within the 90-day period prior to the date of this report, we evaluated, under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-14 of the Securities Exchange Act of 1934. Based upon that evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the date of such evaluation in timely alerting them to material information relating to Pentair, Inc. (including its consolidated subsidiaries) required to be included in reports we file with the Securities and Exchange Commission.

There have been no significant changes in our internal controls or in other factors which could significantly affect internal controls subsequent to the date that we carried out our evaluation.

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PART II OTHER INFORMATION

Environmental, Product Liability Claims, and Horizon Litigation

There have been no further material developments regarding the above from that contained in our 2002 Annual Report on Form 10-K.

Other

We are occasionally a party to litigation arising in the normal course of business. We regularly analyze current information and, as necessary, provide accruals for probable liabilities based on the expected eventual disposition of these matters. We believe the effect on our consolidated results of operations and financial position, if any, for the disposition of all currently pending matters will not be material.

On January 31, 2003, Pentair furnished a Current Report on Form 8-K dated January 30, 2003 announcing earnings for the quarter and year ended December 31, 2002 and attaching a press release related thereto.

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SIGNATURE

Pursuant to the requirements 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, on May 12, 2003.

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Certifications

I, Randall J. Hogan, certify that:

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Certifications

I, David D. Harrison, certify that:

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Exhibit Index to Form 10-Q for the Period Ended March 29, 2003

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