SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended March 31, 1999 ------------------------------ Commission file number 1-12383 ------------------------ Rockwell International Corporation - - - - - - - - - - - - - ------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 25-1797617 - - - - - - - - - - - - - ------------------------------------------------------------------------------- (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 600 Anton Boulevard, Suite 700, P.O. Box 5090, Costa Mesa, CA 92628-5090 - - - - - - - - - - - - - ------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (714) 424-4565 - - - - - - - - - - - - - ------------------------------------------------------------------------------- (Office of the Corporate Secretary) 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 ------- ------- 190,397,774 shares of registrant's Common Stock, $1.00 par value, were outstanding on April 30, 1999.
ROCKWELL INTERNATIONAL CORPORATION INDEX Page No. ---- PART I. FINANCIAL INFORMATION: Item 1. Consolidated Financial Statements: Condensed Consolidated Balance Sheet-- March 31, 1999 and September 30, 1998.......... 2 Consolidated Statement of Operations-- Three Months and Six Months Ended March 31, 1999 and 1998........................ 3 Consolidated Statement of Cash Flows-- Six Months Ended March 31, 1999 and 1998....... 4 Notes to Consolidated Financial Statements..... 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................. 10 Item 3. Quantitative and Qualitative Disclosures About Market Risk.............................. 15 PART II. OTHER INFORMATION: Item 1. Legal Proceedings.............................. 16 Item 2. Changes in Securities and Use of Proceeds...... 16 Item 4. Submission of Matters to a Vote of Security Holders........................................ 16 Item 5. Other Information.............................. 17 Item 6. Exhibits and Report on Form 8-K................ 18
PART I. FINANCIAL INFORMATION Item 1. Consolidated Financial Statements ROCKWELL INTERNATIONAL CORPORATION CONDENSED CONSOLIDATED BALANCE SHEET (In millions) (Unaudited) March 31 September 30 1999 1998 -------- ------------ ASSETS ------ Current assets: Cash........................................... $ 104 $ 103 Receivables (less allowance for doubtful accounts: March 31, 1999, $52; September 30, 1998, $51)..................... 1,153 1,223 Inventories, net............................... 1,406 1,313 Deferred income taxes.......................... 314 258 Other current assets........................... 211 213 Net assets of Semiconductor Systems...... - 986 ------- ------- Total current assets................... 3,188 4,096 Property, net..................................... 1,563 1,535 Intangible assets, net............................ 1,418 1,330 Other assets...................................... 208 209 ------- ------- TOTAL.................... $ 6,377 $ 7,170 LIABILITIES AND SHAREOWNERS' EQUITY ----------------------------------- Current liabilities: Short-term debt................................ $ 192 $ 156 Accounts payable............................... 741 733 Compensation and benefits...................... 440 547 Income taxes payable........................... 108 19 Other current liabilities...................... 551 528 ------- ------- Total current liabilities.............. 2,032 1,983 Long-term debt.................................... 911 908 Retirement benefits............................... 676 691 Other liabilities................................. 345 343 ------- ------- Total liabilities............. 3,964 3,925 ------- ------- Shareowners' equity: Common Stock (shares issued: 216.4)............ 216 216 Additional paid-in capital..................... 932 923 Retained earnings.............................. 2,866 3,697 Accumulated other comprehensive loss........... (151) (135) Common Stock in treasury, at cost (shares held: March 31, 1999, 26.1; September 30, 1998, 25.8).................... (1,450) (1,456) ------- ------- Total shareowners' equity..... 2,413 3,245 ------- ------- TOTAL.................... $ 6,377 $ 7,170 ======= ======= See Notes to Consolidated Financial Statements. 2
ROCKWELL INTERNATIONAL CORPORATION CONSOLIDATED STATEMENT OF OPERATIONS (In millions, except per share amounts) (Unaudited) Three Months Ended Six Months Ended March 31 March 31 ------------------ ---------------- 1999 1998 1999 1998 ---- ---- ---- ---- Revenues: Sales................................... $ 1,701 $ 1,674 $ 3,309 $ 3,276 Other income, net....................... 25 20 71 40 ------- ------- ------- ------- Total revenues........................ 1,726 1,694 3,380 3,316 ------- ------- ------- ------- Costs and expenses: Cost of sales........................... 1,183 1,170 2,318 2,286 Selling, general, and administrative.... 298 320 589 622 Purchased research and development...... - - - 103 Interest................................ 24 13 43 17 ------- ------- ------- ------- Total costs and expenses.............. 1,505 1,503 2,950 3,028 ------- ------- ------- ------- Income from continuing operations before income taxes.......... 221 191 430 288 Income tax provision...................... (78) (69) (153) (106) ------- ------- ------- ------- INCOME FROM CONTINUING OPERATIONS BEFORE ACCOUNTING CHANGE................ 143 122 277 182 (Loss) income from discontinued operations - (13) (20) 16 Cumulative effect of accounting change.... - - - (17) ------- ------- ------- ------- NET INCOME................................ $ 143 $ 109 $ 257 $ 181 ======= ======= ======= ======= Basic earnings per share: Continuing operations before accounting change..................... $ 0.75 $ 0.61 $ 1.46 $ 0.90 Discontinued operations................. - (0.07) (0.11) 0.08 Cumulative effect of accounting change.. - - - (0.09) ------- ------- ------- ------- Net income.............................. $ 0.75 $ 0.54 $ 1.35 $ 0.89 ======= ======= ======= ======= Diluted earnings per share: Continuing operations before accounting change..................... $ 0.74 $ 0.60 $ 1.44 $ 0.89 Discontinued operations................. - (0.06) (0.11) 0.08 Cumulative effect of accounting change.. - - - (0.09) Net income.............................. $ 0.74 $ 0.54 $ 1.33 $ 0.88 ======= ======= ======= ======= Cash dividends per share (see note 1)..... $ 0.51 $ 0.255 $ 0.765 $ 0.51 ======= ======= ======= ======= Weighted average outstanding shares: Basic.................................. 190.0 200.2 189.9 202.6 ======= ======= ======= ======= Diluted (includes effect of stock options)............................. 193.2 203.6 192.8 205.9 ======= ======= ======= ======= See Notes to Consolidated Financial Statements. 3
ROCKWELL INTERNATIONAL CORPORATION CONSOLIDATED STATEMENT OF CASH FLOWS (In millions) (Unaudited) Six Months Ended March 31 -------------------- 1999 1998 -------- -------- CONTINUING OPERATIONS: Operating Activities: Income from continuing operations before accounting change............................................. $ 277 $ 182 Adjustments to income from continuing operations before accounting change to arrive at cash provided by operating activities: Depreciation...................................... 119 107 Amortization of intangible assets................. 32 46 Deferred income taxes............................. (39) (40) Gain on sales of businesses, net.................. (29) (8) Pension expense, net of contributions............. 12 15 Purchased research and development................ - 103 Changes in assets and liabilities, excluding effects of acquisitions, divestitures, and foreign currency adjustments: Receivables................................... 78 (22) Inventories................................... (86) (73) Accounts payable.............................. (4) (18) Income taxes payable.......................... 116 (46) Compensation and benefits..................... (110) (39) Other assets and liabilities.................. (32) 42 ------- ------- Cash Provided by Operating Activities...... 334 249 ------- ------- Investing Activities: Property additions.................................... (144) (127) Acquisitions of businesses, net of cash acquired...... (156) (158) Proceeds from disposition of property and businesses.. 98 16 ------- ------- Cash Used for Investing Activities......... (202) (269) ------- ------- Financing Activities: Net increase in debt.................................. 35 773 Purchases of treasury stock........................... (58) (595) Cash dividends........................................ (97) (103) Reissuances of common stock........................... 36 58 ------- ------- Cash (Used for) Provided by Financing Activities.............................. (84) 133 ------- ------- CASH PROVIDED BY CONTINUING OPERATIONS................ 48 113 ------- ------- Cash Used for Discontinued Operations................. (47) (124) ------- ------- INCREASE (DECREASE) IN CASH........................... 1 (11) CASH AT BEGINNING OF PERIOD........................... 103 269 ------- ------- CASH AT END OF PERIOD................................. $ 104 $ 258 ======= ======= See Notes to Consolidated Financial Statements. 4
ROCKWELL INTERNATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. In the opinion of management of Rockwell International Corporation (the Company or Rockwell), the unaudited consolidated financial statements contain all adjustments, consisting solely of adjustments of a normal recurring nature, necessary to present fairly the financial position, results of operations, and cash flows for the periods presented. These statements should be read in conjunction with the Company's Annual Report on Form 10-K for the fiscal year ended September 30, 1998. The results of operations for the three- and six-month periods ended March 31, 1999 are not necessarily indicative of the results for the full year. Certain prior year amounts have been reclassified to conform with the current presentation. It is the Company's practice at the end of each interim reporting period to make an estimate of the effective tax rate expected to be applicable for the full fiscal year. The rate so determined is used in providing for income taxes on a year-to-date basis. Effective October 1, 1998, Rockwell adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income"(SFAS 130). SFAS 130 establishes standards for the reporting and presentation of comprehensive income (loss) and its components in financial statements. The adoption of this statement had no impact on the Company's net income or shareowners' equity. SFAS 130 requires certain equity adjustments to be reported as components of comprehensive income. Amounts set forth as accumulated other comprehensive loss in the accompanying balance sheet are primarily comprised of deferred foreign currency translation adjustments. Prior year financial statements have been reclassified to conform with the requirements of SFAS 130. The reconciliation of net income to comprehensive income is as follows (in millions): Three Months Ended Six Months Ended March 31 March 31 -------- -------- 1999 1998 1999 1998 ------ ------ ------ ------ Net income........................... $ 143 $ 109 $ 257 $ 181 Other comprehensive (loss) income: Net foreign currency translation adjustment....................... (17) 9 (16) (15) ------ ------ ------ ------ Comprehensive income................. $ 126 $ 118 $ 241 $ 166 ====== ====== ====== ====== In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS 133), which is effective for fiscal year 2000, but earlier adoption is permitted. SFAS 133 will require the Company to record all derivatives on the balance sheet at fair value. For derivatives that are hedges, changes in the fair value of derivatives will be offset by the changes in the fair value of the hedged assets, liabilities or firm commitments. The Company believes the impact of adopting this standard will not be material to its results of operations or equity. Effective October 1, 1997, Rockwell changed its method of accounting for certain general and administrative costs related to government contracts to expense these costs as incurred. Under the previous accounting method, these costs were included in inventory. The amount of general and administrative costs included in inventory as of October 1, 1997 was $27 million ($17 million after-tax, or $0.09 per share) and is presented as the cumulative effect of an accounting change. 5
ROCKWELL INTERNATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) During the 1999 second quarter, the Company declared a dividend of $0.255 per share payable March 8, 1999 to shareowners of record on February 16, 1999 and also declared its third quarter dividend of $0.255 per share payable June 7, 1999 to shareowners of record on May 17, 1999. 2. Discontinued operations relate to the Company's former Semiconductor Systems business (Semiconductor Systems). On December 31, 1998, the Company completed the spin-off of Semiconductor Systems into an independent, separately traded, publicly-held company by distributing all of the outstanding shares of Conexant Systems, Inc. (Conexant) to the Company's shareowners on the basis of one share of Conexant Common Stock for every two shares of Company Common Stock owned. The net assets of Conexant as of December 31, 1998 of approximately $910 million were recorded as a decrease to shareowners' equity. Prior to the spin-off, Conexant distributed to Rockwell its wafer fabrication facilities in Colorado Springs, Colorado with a net book value of $21 million and a related deferred tax asset of $48 million. Also, prior to the spin-off, Rockwell paid $64 million into an escrow account to be used to satisfy Conexant's obligation with respect to a litigation matter (see Note 11). The following table summarizes the results of Semiconductor Systems (in millions): Three Months Ended Six Months Ended March 31 March 31 -------- -------- 1999 1998 1999 1998 ------ ------ ------ ------ Revenues............................ $ - $ 267 $ 289 $ 644 (Loss) income before income taxes... - (28) (29) 13 Net (loss) income................... - (13) (20) 16 Rockwell accrued for Conexant's estimated first quarter 1999 operating loss and costs related to the spin-off in 1998. The additional loss, which was recorded in the first quarter of 1999, relates principally to Rockwell's decision to record a further writedown of the wafer fabrication facilities in Colorado Springs and for related costs of disposal. 3. In the third quarter of 1998, the Company recorded special charges of $597 million ($508 million after tax, or $2.57 per share) in connection with asset impairments and the implementation of a comprehensive restructuring program. These charges, including the effects of adjustments through March 31, 1999, included $106 million for severance and other employee separation costs associated with a worldwide workforce reduction of approximately 3,100 employees and $87 million related to facility closures and consolidations and exiting non-strategic businesses and product lines. These actions are expected to be substantially complete by the end of 1999. Total cash expenditures in connection with these actions are expected to approximate $185 million. The Company spent approximately $59 million through March 31, 1999, of which $38 million related to severance and other employee separation costs, and expects to spend an additional $84 million through the end of March 2000. As a result of actions taken through March 31, 1999, the workforce was reduced by approximately 1,775 employees. Revenues of businesses and product lines which are being exited were $22 million and $57 million for the quarters ended March 31, 1999 and 1998, respectively, and $39 million and $116 million for the six months ended March 31, 1999 and 1998, respectively. The net operating loss related to these businesses and product lines is not material. 6
ROCKWELL INTERNATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 4. In March 1999, the Company acquired the remaining 50 percent interest in Flight Dynamics, the market leader in Head-Up Guidance Systems for aircraft operations, for $35 million. In January 1999, the Company acquired EJA Engineering Ltd., a market-leading manufacturer of safety products, for $76 million. In November 1998, the Company acquired Anorad Corporation, a manufacturer of linear motor equipment, for $45 million. These acquisitions were accounted for as purchases. Assets acquired and liabilities assumed have been recorded at estimated fair values determined by the Company's management based on information currently available. In December 1997, the Company acquired the in-flight entertainment business of Hughes-Avicom International, Inc. (Passenger Systems). The acquisition has been accounted for as a purchase as of December 31, 1997, and the Company has recorded a charge of $103 million ($63 million after-tax) for purchased research and development. The remaining assets acquired and liabilities assumed have been recorded at estimated fair values determined by the Company's management. The results of purchased businesses have been included in the consolidated statement of operations since their respective dates of acquisition. 5. Inventories, net of reserves, are summarized as follows (in millions): March 31 September 30 1999 1998 -------- -------- Finished goods................................ $ 411 $ 385 Work in process............................... 483 459 Raw materials, parts, and supplies............ 502 456 ------- ------- Total....................................... 1,396 1,300 Adjustment to the carrying value of certain inventories to a LIFO basis......... 10 13 ------- ------- Inventories................................. $ 1,406 $ 1,313 ======= ======= 6. Intangible assets, net of accumulated amortization, are summarized as follows (in millions): March 31 September 30 1999 1998 -------- -------- Goodwill...................................... $ 939 $ 846 Trademarks, patents, product technology, and other intangibles....................... 479 484 ------- ------- Intangible assets........................... $ 1,418 $ 1,330 ======= ======= 7
ROCKWELL INTERNATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 7. Short-term debt consisted of the following (in millions): March 31 September 30 1999 1998 -------- -------- Commercial paper.............................. $ 150 $ 90 Short-term foreign bank borrowings............ 39 64 Current portion of long-term debt............. 3 2 ------- ------- Short-term debt............................. $ 192 $ 156 ======= ======= At March 31, 1999, the Company had $1.0 billion of unsecured credit facilities with various banks to support commercial paper borrowings. There were no significant commitment fees or compensating balance requirements under these facilities. Short-term credit facilities available to foreign subsidiaries amounted to $285 million at both March 31, 1999 and September 30, 1998 and consist of arrangements for which there were no significant commitment fees. 8. Other current liabilities are summarized as follows (in millions): March 31 September 30 1999 1998 ------- ------- Contract reserves and advance payments........ $ 196 $ 207 Product warranty costs........................ 128 117 Taxes other than income taxes................. 59 44 Dividend payable.............................. 49 - Interest...................................... 16 16 Other......................................... 103 144 ------- ------- Other current liabilities................... $ 551 $ 528 ======= ======= 9. Long-term debt consisted of the following (in millions): March 31 September 30 1999 1998 -------- -------- 6.8% notes, payable in 2003................... $ 150 $ 150 6.15% notes, payable in 2008.................. 350 350 6.70% debentures, payable in 2028............. 250 250 5.20% debentures, payable in 2098............. 200 200 Other obligations............................. 21 18 Less unamortized discount..................... (57) (58) ------- ------- Total....................................... 914 910 Less current portion.......................... (3) (2) ------- ------- Long-term debt.............................. $ 911 $ 908 ======= ======= 10. Retirement benefit liabilities consisted of the following (in millions): March 31 September 30 1999 1998 -------- -------- Retirement medical costs................... $ 617 $ 639 Pension costs.............................. 123 116 ------- ------- Total.................................... 740 755 Amount classified as current liability..... (64) (64) ------- ------- Retirement benefits...................... $ 676 $ 691 ======= ======= 8
ROCKWELL INTERNATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 11. Various lawsuits, claims and proceedings have been or may be instituted or asserted against the Company relating to the conduct of its business, including those pertaining to product liability, intellectual property, safety and health, environmental and employment matters. Rockwell has indemnified The Boeing Company for certain government contract and environmental matters related to operations of its former aerospace and defense business for periods prior to its divestiture. Although the outcome of litigation cannot be predicted with certainty and some lawsuits, claims, or proceedings may be disposed of unfavorably to the Company, management believes the disposition of matters which are pending or asserted will not have a material adverse effect on the Company's consolidated financial statements. In connection with the Semiconductor Systems spin-off, Conexant assumed all contingent liabilities related to its business, including environmental and intellectual property matters. In September 1995, Celeritas Technologies, Ltd. filed suit against the Company for patent infringement, misappropriation of trade secrets and breach of contract relating to cellular telephone data transmission technology utilized in certain modem products produced by Semiconductor Systems. In July 1997, the court entered a judgment awarding damages of $57 million, plus interest. On July 20, 1998, the U.S. Court of Appeals for the Federal Circuit affirmed the trial court's judgment based on breach of contract. The judgment has been satisfied through $64 million paid into escrow prior to the spin-off. 9
ROCKWELL INTERNATIONAL CORPORATION Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations RESULTS OF OPERATIONS - - - - - - - - - - - - - --------------------- Sales and results of operations of the Company's continuing operations by business segment for the second quarter and first six months of 1999 and 1998 are presented below (in millions). Three Months Ended Six Months Ended March 31 March 31 ------------------ ---------------- 1999 1998 1999 1998 -------- -------- ------- ------- Sales Automation........................... $ 1,079 $ 1,130 $ 2,124 $ 2,269 Avionics & Communications............ 622 544 1,185 1,007 ------- ------- ------- ------- Total sales............................ $ 1,701 $ 1,674 3,309 $ 3,276 ======= ======= ======= ======= Operating earnings Automation........................... $ 163 $ 147 $ 306 $ 291 Avionics & Communications............ 123 78 246 153 Purchased research and development... - - - (103) ------- ------- ------- ------- Operating earnings................... 286 225 552 341 General corporate - net................ (41) (21) (79) (36) Interest expense....................... (24) (13) (43) (17) Provision for income taxes............. (78) (69) (153) (106) ------- ------- ------- ------- INCOME FROM CONTINUING OPERATIONS BEFORE ACCOUNTING CHANGE............. 143 122 277 182 (Loss) income from discontinued operations........................... - (13) (20) 16 Cumulative effect of accounting change. - - - (17) ------- ------- ------- ------- NET INCOME............................. $ 143 $ 109 257 181 ======= ======= ======= ======= Purchased research and development relates to the acquisition of an Avionics & Communications business in 1998. Effective October 1, 1997, Rockwell changed its method of accounting for certain general and administrative costs included in inventory related to government contracts. This change relates to the Avionics & Communications business segment. 1999 Second Quarter Compared to 1998 Second Quarter - - - - - - - - - - - - - --------------------------------------------------- Sales in the 1999 second quarter of $1.7 billion were slightly higher than the same period a year ago. Automation's sales were down $51 million primarily due to flat North American market activity in most industry sectors, particularly forest products, metals and oil and gas; the elimination of sales of Kato Engineering, which was sold in the third quarter of 1998; lower sales in the motors business; and weak business conditions in Brazil. Higher Avionics & Communications' sales in 1999 were driven by strong increases posted at the passenger systems, air transport and business and regional systems businesses. Also contributing to the improvement was strong sales growth at our Electronic Commerce business, driven by increased demand for Spectrum( automatic call distribution systems. Income from continuing operations for the 1999 second quarter was $143 million, or 74 cents per share, compared to income from continuing operations of $122 million, or 60 cents per share, for the second quarter of 1998. The 17 percent increase was achieved due to Automation more than offsetting lower sales with improved operating margins and strong performance at Avionics & Communications. 10
ROCKWELL INTERNATIONAL CORPORATION Automation's earnings of $163 million were 11 percent higher than last year. Ongoing performance improvements, cost reduction initiatives and profitably priced customer orders at the Company's motors business contributed to the higher operating earnings. Automation's return on sales increased to 15.1 percent from 13.0 percent a year ago. Avionics & Communications' operating earnings were $123 million, a 58 percent increase over last year's second quarter. In addition to increased earnings resulting from higher sales, 1999 operating earnings also include a $16 million gain resulting from the favorable resolution of an intellectual property matter. Excluding this gain, Avionics & Communications' return on sales increased to 17.2 percent from 14.3 percent a year ago. Corporate expenses of $41 million were higher than the second quarter a year ago principally due to $22 million of pre-tax charges for costs incurred in connection with the relocation of the Company's corporate office. Additional costs are expected to be incurred later in fiscal 1999 as the corporate functions relocate. Six Months Ended March 31, 1999 Compared to Six Months Ended March 31, 1998 - - - - - - - - - - - - - --------------------------------------------------------------------------- Overall, sales were slightly higher than in the same period a year ago. Automation's sales were down $145 million primarily due to flat North American market activity in most industry sectors, particularly forest products, metals and oil and gas; the elimination of sales of Kato Engineering; lower sales in the motors business; and weak business conditions in Brazil. Avionics & Communications' sales increased $178 million primarily due to the inclusion of passenger systems sales for six months in 1999 (acquired in December 1997) and strong increases posted by the passenger systems, air transport and business and regional systems businesses as a result of winning new contracts, higher customer service revenue and increased production of business and regional aircraft. Also contributing to the improvement was strong sales growth at our Electronic Commerce business driven by increased demand for Spectrum( automatic call distribution systems. Income from continuing operations was up 13 percent to $277 million, or $1.44 per share, from 1998 income from continuing operations of $245 million, or $1.19 per share (before an acquisition-related charge). The increase was due to Automation's ability to offset the impact of lower sales with improved operating efficiencies and continued strong performance at Avionics & Communications. Automation's operating earnings increased five percent over the same period a year ago principally due to lower operating costs resulting from the restructuring program announced in June 1998, other cost reduction initiatives, profitably priced customer orders and improved operating performance at the motors business. Avionics & Communications' operating earnings increased 61 percent over the same period a year ago (excluding an acquisition-related charge) primarily due to increased sales for both Rockwell Collins and Electronic Commerce, the $32 million gain from the sale of the railroad electronics business and the $16 million gain resulting from the favorable resolution of an intellectual property matter. Corporate expenses of $79 million were higher than 1998's $36 million principally due to costs related to the relocation of the corporate office. Based on the Company's strong second quarter performance, management has high confidence that the Company will achieve its $2.90 to $3.00 earnings per share goal in 1999 and, in fact, now expects to be near the high end of that range. Rockwell expects to achieve this level of performance with continued strong growth at Rockwell Collins, cost reduction initiatives and improved operating efficiencies at our automation business. 11
ROCKWELL INTERNATIONAL CORPORATION Discontinued Operations: The spin-off of the Company's former Semiconductor Systems business, Conexant Systems, Inc., was completed on December 31, 1998. The 1999 loss from discontinued operations includes a $20 million pre-tax charge due to Rockwell's decision to record a further writedown of Conexant's former wafer fabrication facilities in Colorado Springs, Colorado. Rockwell retained these facilities as part of the spin-off. The 1999 net loss also includes a charge for costs related to the planned disposal of these facilities. FINANCIAL CONDITION - - - - - - - - - - - - - ------------------- The major uses of cash for the first six months of 1999 were for acquisitions of businesses of $156 million, property additions of $144 million, cash dividends paid to shareowners of $97 million, the $64 million payment in connection with an intellectual property litigation matter and the common stock repurchase program. The Company spent approximately $58 million in the first six months of 1999 in connection with its stock repurchase program. At March 31, 1999, the Company had approximately $106 million remaining on its current $500 million stock repurchase program. The Company has made the decision to resume stock repurchases, although at a lesser rate than in fiscal 1998. A major source of cash for the first six months of 1999 was from the sale of the Company's railroad electronics business to Westinghouse Air Brake Company for approximately $80 million in cash. Future significant uses of cash, which are expected to be funded by cash generated by operating activities and commercial paper borrowings, are expected to include property additions, cash payments made in connection with the Company's restructuring program, dividends to shareowners and acquisitions. The dividend to be paid to shareowners in the third quarter of 1999 was declared by the Company's Board of Directors on March 26, 1999 and accordingly, the dividend declared per share for the quarter and six months includes the third quarter dividend. Information with respect to the effect on the Company and its manufacturing operations of compliance with environmental protection requirements and resolution of environmental claims is contained on pages 37 and 38 in Note 17 of the Notes to Consolidated Financial Statements in Item 8, Consolidated Financial Statements and Supplementary Data of the Company's Annual Report on Form 10-K for the fiscal year ended September 30, 1998. Management believes that at March 31, 1999, there has been no material change to this information. 12
ROCKWELL INTERNATIONAL CORPORATION YEAR 2000 READINESS DISCLOSURE - - - - - - - - - - - - - ------------------------------ The Year 2000 issue is the result of computer programs being written using two digits rather than four digits to define the applicable year. Computer equipment, software and other devices with embedded technology that are time-sensitive may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in system failures or miscalculations causing disruptions of operations, including, among other things, a temporary inability to manufacture products, acquire or ship inventory, process transactions, send invoices, or engage in other normal business activities. The inability of business processes to function correctly in 2000 could have serious adverse effects on companies and entities throughout the world. The Company has developed plans to address issues related to the impact of the Year 2000 in five major areas: products, business systems (computer systems that handle business processes), infrastructure (servers, desktop computers, networks, telecommunication systems and software), manufacturing systems (computer systems used in the manufacturing process) and suppliers. Each of the five areas is undergoing the following process to ensure readiness for the Year 2000. First, in the inventory phase, all resources are inventoried to identify those that have any type of software or hardware Year 2000 issues. Second, in the assessment phase, all inventoried items are assessed to confirm that a Year 2000-related issue is present and the extent of remediation required. Third, in the strategy phase, a remediation strategy is created to ensure substantial completion of upgrades for critical systems by the middle of calendar 1999. Fourth, in the conversion/upgrade phase, upgrades are performed on all items identified in the inventory and assessment phases. Finally, in the testing phase, all upgraded items are tested to verify Year 2000 readiness. The Company has completed the inventory assessment and strategy phases for all five areas. At March 31, 1999, the Company was approximately 85 percent complete in the conversion/upgrade phase for each of the five areas and was substantially complete with the final testing for situations where the Company has completed the conversion/upgrade phase. The Company, utilizing both internal and external resources to address the Year 2000 issue, expects to be substantially complete with this project by the middle of calendar 1999. The current estimate of total project costs is approximately $42 million, which includes the cost of purchasing certain hardware and software. Purchased hardware and software will be capitalized in accordance with normal policy. Approximately two-thirds of the total cost relates to the use of internal resources (primarily salary costs), and about 90 percent of the total project cost had been spent through March 31, 1999, with substantially all of the remainder to be spent during 1999. The Company has enlisted the services of industry consultants and outside contractors to assist with its Year 2000 identification, assessment, remediation and testing efforts. The costs of the Company's Year 2000 identification, assessment, remediation and testing efforts and the dates on which the Company believes it will complete such efforts are based upon management's estimates, which were derived using numerous assumptions regarding future events, including the continued availability of certain resources, third-party remediation plans, and other factors. Notwithstanding this comprehensive program to make a smooth transition, there can be no assurance that these estimates will prove to be accurate and actual results could differ materially from those currently anticipated. Specific factors that could cause such material differences include, but are not limited to, the availability and cost of personnel trained in Year 2000 issues and the ability to identify, assess, remediate and test all relevant computer codes and embedded technology. Moreover, the Company could be adversely impacted by the Year 2000 issues faced by major distributors, customers, vendors, governments and financial service organizations with which the Company interacts. 13
ROCKWELL INTERNATIONAL CORPORATION The Company believes its greatest uncertainties are in the manufacturing and supplier areas, due to the number of equipment and materials suppliers involved and their various stages of readiness for Year 2000. In particular, the Company is dependent on equipment manufacturers to supply the upgrades required to remediate Year 2000 issues in the manufacturing systems area and suppliers to upgrade their systems to ensure an uninterrupted supply of materials. A Year 2000 failure by a significant equipment or materials supplier could result in the temporary slowdown of production by the Company, the duration of which the Company cannot reasonably estimate. As a result, the Company's contingency planning centers heavily on the supplier and manufacturing systems areas. For the top five to 10 percent of its critical materials and manufacturing suppliers, the Company will conduct on-site reviews and intends to monitor specific Year 2000 milestones to ensure compliance. The Company is in the process of identifying specific Year 2000 compliance target dates for all critical materials suppliers. In the event a supplier does not meet established compliance milestones the Company will implement contingency plans that include alternate sourcing and stockpiling of materials. Part of the Company's initial assessment phase included a detailed Year 2000 questionnaire sent to all critical materials and manufacturing suppliers. This questionnaire included questions on products, services, internal operating systems and the supplier's own supply chain. As of March 31, 1999, the Company has received responses from approximately 80 percent of those questioned. The Company is following up the questionnaires, where necessary, to ensure Year 2000 compliance. The varying definitions of "compliance with Year 2000" and the array of products and services sold by the Company, both today and in the past, may lead to claims whose impact on the Company is not currently estimable. The Company has product and general liability insurance policies which provide coverage in the event of certain product failures. The Company has not, however, purchased Year 2000 specific insurance because, in management's view, the cost is prohibitive and likely of little value. In many cases, the Company contractually limits or disclaims consequential damages in the Company's sales contracts. No assurance can be given that the aggregate cost of defending and resolving such claims will not materially adversely affect the Company's results of operations. Although some of the Company's agreements with manufacturers and others from whom it purchases products contain provisions requiring such parties to indemnify the Company under certain circumstances, there can be no assurance that such indemnification arrangements will cover all of the Company's liabilities and costs related to claims by third parties related to the Year 2000 issue. Business operations are also dependent on the Year 2000 readiness of infrastructure suppliers in areas such as utilities, communications, transportation and other services. In this environment, there will likely be instances of failure that could cause disruptions in business processes. The likelihood and effects of failures in infrastructure systems and in the supply chain cannot be estimated. However, with respect to operations under its direct control, management does not expect, in view of its Year 2000 readiness efforts and the diversity of its suppliers and customers, that occurrences of Year 2000 failures will have a material adverse effect on the financial position or results of operations of the Company. 14
ROCKWELL INTERNATIONAL CORPORATION Item 3. Quantitative And Qualitative Disclosures About Market Risk The Company's financial instruments include cash, equity securities, short- and long-term debt, and foreign currency forward exchange contracts. At March 31, 1999, the carrying values of the Company's financial instruments approximated their fair values based on current market prices and rates. It is the policy of the Company not to enter into derivative financial instruments for speculative purposes. The Company does enter into foreign currency forward exchange contracts in the ordinary course of business to protect itself from adverse currency rate fluctuations on both firm and anticipated foreign currency transactions. These contracts are generally for terms of less than one year. Gains or losses relating to hedging firm commitments are deferred and included in the measurement of the foreign currency transaction subject to the hedge and gains or losses relating to anticipated transactions are recognized currently. The Company's foreign currency forward exchange contracts are executed with creditworthy banks and are denominated in currencies of major industrial countries. The notional amount of all the Company's outstanding foreign currency forward exchange contracts by country is as follows (in millions): March 31 September 30 1999 1998 -------- -------- United Kingdom (Pound Sterling)................... $ 222 $ 151 Canada (Dollar)................................... 81 110 Switzerland (Franc)............................... 86 78 Germany (Deutsche Mark)........................... 63 80 Australia (Dollar)................................ 50 39 Italy (Lira)...................................... 24 32 Japan (Yen)....................................... 21 42 France (Franc).................................... 8 13 Other countries................................... 24 33 ----- ----- $ 579 $ 578 The Company does not anticipate any material adverse effect on its results of operations or financial position relating to these foreign currency forward exchange contracts. Based on the Company's overall currency exchange rate exposure at March 31, 1999 a 10 percent change in currency rates would not have had a material effect on the financial position, results of operations, or cash flows of the Company. 15
ROCKWELL INTERNATIONAL CORPORATION PART II. OTHER INFORMATION Item 1. Legal Proceedings On November 13, 1990, the Company was served with a summons and complaint in a civil action brought against the Company in the United States District Court for the District of Colorado by James Stone, claiming to act in the name of the United States, alleging violations of the U.S. False Claims Act in connection with the Company's operation of the Department of Energy's Rocky Flats Plant, Golden, Colorado (and seeking treble damages and forfeitures) as well as a personal cause of action for alleged wrongful termination of employement. On August 8, 1991, the court dismissed the personal cause of action. On December 6, 1995, the DOE notified the Company that it would no longer reimburse costs incurred by the Company in defense of the action. On November 19, 1996, the court granted the Department of Justice leave to intervene in the case on the government's behalf. On April 1, 1999 a jury awarded the plaintiffs approximately $1.4 million in damages which, if the award is upheld by the court, will be trebled and may serve as a basis for up to $30,000 in forfeitures and entitle Mr. Stone to an award of attorney's fees. Judgment has not yet been entered on the jury's award but in no event will an outcome adverse to the Company have a material effect on the Company's financial statements. Item 2. Changes in Securities and Use of Proceeds (c) On January 4, 1999, the Company issued 225, 244 and 268 shares of restricted stock, respectively, to the following directors of the Company: George L. Argyros, Donald R. Beall and John D. Nichols. These shares were issued pursuant to deferral elections made in accordance with the Directors Stock Plan in partial or full payment for retainer fees otherwise payable in cash. On February 3, 1999 the Company issued 400 shares pursuant to the Directors Stock Plan to each of the non-employee directors of the Company whose term continued after the annual meeting of shareowners held on that date (George L. Argyos, Donald R. Beall, William H. Gray, III, J. Clayburn LaForce, Jr., William T. McCormick, Jr., John D. Nichols, Bruce M. Rockwell, Robert B. Shapiro, William S. Sneath and Joseph F. Toot, Jr.) The issuance of all such shares was exempt from the registration requirements of the Securities Act of 1933 pursuant to Section 4(2) thereof. Item 4. Submission of Matters to a Vote of Security Holders (a) The regular annual meeting of shareowners of the company was held on February 3, 1999. (c) At the annual meeting, the shareowners: 16
ROCKWELL INTERNATIONAL CORPORATION PART II. OTHER INFORMATION (Continued) (i) voted to elect five directors of the company. Each nominee for director was elected by a vote of the shareowners as follows: Affirmative Votes Term Votes Withheld Expiration ----------- ---------- ---------- Donald R. Beall 161,385,731 2,042,535 2002 Bruce M. Rockwell 161,629,977 1,798,289 2002 Robert B. Shapiro 160,750,250 2,678,016 2002 Joseph F. Toot, Jr. 161,631,395 1,796,871 2002 William S. Sneath 161,307,138 2,121,128 2000 (ii) voted upon a proposal to approve the selection by the Board of Directors of the firm of Deloitte & Touche LLP as auditors of the company. The proposal was approved by a vote of the shareowners as follows: Affirmative votes 162,203,142 Negative votes 364,519 Abstentions 860,605 Item 5. Other Information Government Contracts -------------------- For information on the Company's United States government contracting business, certain risks of that business and claims related thereto, see the information set forth under the caption Government Contracts in Item 1, Business, on page 3 of the Company's Annual Report on Form 10-K for the year ended September 30, 1998. Cautionary Statement -------------------- This Quarterly Report contains statements (including certain projections and business trends) that are "forward-looking statements" as defined in the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those projected as a result of certain risks and uncertainties, including but not limited to economic and political changes in international markets where the Company competes, such as currency exchange rates, inflation rates, recession, foreign ownership restrictions and other external factors over which the Company has no control; domestic and foreign government spending, budgetary and trade policies; demand for and market acceptance of new and existing products; successful development of advanced technologies; competitive product and pricing pressures; timely completion of Year 2000 software modifications by the Company, its key suppliers and customers, and governments; implementation of restructuring actions in accordance with management's plans; and the uncertainties of litigation, as well as other risks and uncertainties, including but not limited to those detailed from time to time in the Company's Securities and Exchange Commission filings. These forward-looking statements are made only as of the date hereof, and the Company undertakes no obligation to update or revise the forward-looking statements, whether as a result of new information, future events or otherwise. 17
ROCKWELL INTERNATIONAL CORPORATION PART II. OTHER INFORMATION (Continued) Item 6. Exhibits and Report on Form 8-K (a) Exhibits: Exhibit 10.1 - Form of Change of Control Agreements dated as of January 15, 1999 between the Company and each of D. H. Davis, Jr., W. M. Barnes, W. J. Calise, Jr., C. M. Jones, K. D. Nosbusch, J. R. Stone, J. D. Swann and E. S. Washington. Exhibit 10.2 - Form of Change of Control Agreements dated as of January 15, 1999 between the Company and certain other officers of the Company. Exhibit 10.3 - Agreement and General Release dated as of March 2, 1999, with E. S. Washington. Exhibit 12 - Computation of Ratio of Earnings to Fixed Charges for the Six Months Ended March 31, 1999 Exhibit 27 - Financial Data Schedule (b) Report on Form 8-K: The Company filed a current report on Form 8-K dated January 12, 1999 in respect of the completion on December 31, 1998 of the spin-off of its Semiconductor Systems business to holders of shares of Common Stock, par value $1 per share, of the Company by means of distribution to such holders of all outstanding shares of Common Stock, par value $1 per share (including the preferred share purchase rights associated with such Common Stock) of Conexant (Items 2 and 7(c)). Conexant began operations as an independent, separately traded, publicly-held company on January 1, 1999. 18
SIGNATURES 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. ROCKWELL INTERNATIONAL CORPORATION ---------------------------------- (Registrant) Date: May 13, 1999 By W. E. Sanders -------------------- ----------------------------- W. E. Sanders Vice President and Controller (Principal Accounting Officer) Date: May 13, 1999 By W. J. Calise, Jr. -------------------- ----------------------------- W. J. Calise, Jr. Senior Vice President, General Counsel and Secretary 19