UNITED STATESSECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
Registrant's telephone number, including area code: (262) 656-5200
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 [ ]
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date:
2
See Notes to Consolidated Financial Statements.
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
Highlights of Snap-on’s results of operations for the second quarters of 2005 and 2004 are as follows:
Total revenue in the second quarter of 2005 decreased $3.5 million, or 0.6%, over prior-year levels. The year-over-year decrease is largely due to lower financial services revenue of $4.6 million, partially offset by $1.1 million in higher net sales. The year-over-year decline in financial services revenue reflects lower credit originations and the impact of higher year-over-year interest rates on Snap-on’s domestic financing business. Of the $1.1 million increase in net sales, $11.9 million of favorable currency translation was offset by $10.8 million of lower sales. The $10.8 million year-over-year decline in net sales primarily reflects the impact of lower sales in the U.S. dealer operation along with lower sales in the company’s OEM facilitation and worldwide equipment businesses, partially offset by higher international dealer sales and increased sales of worldwide industrial tools.
Gross profit (defined as net sales less cost of goods sold) was $268.6 million, or 45.3% of net sales, in the second quarter of 2005, as compared to $255.9 million, or 43.3% in the second quarter of 2004. Gross profit in the second quarter of 2005 increased $12.7 million or 200 basis points (100 basis points equals 1.0 percent) as a percentage of net sales. The year-over-year increase primarily reflects benefits from lower costs, including efficiency and productivity initiatives of $3.8 million, $2.9 million of lower restructuring costs, and $4.4 million of favorable currency translation. Benefits from higher selling prices and the improved sales mix of higher-margin diagnostics products were largely offset by the impact of lower sales, higher production costs in certain U.S. manufacturing plants, and $7.8 million of higher steel costs. Restructuring costs included in “Cost of goods sold,” on the accompanying Consolidated Statements of Income, totaled $0.8 million in the second quarter of 2005, as compared to $3.7 million in the comparable prior-year period.
22
Operating expenses in the second quarter of 2005 increased by $1.6 million, or 50 basis points as a percentage of total revenue, from the second quarter of 2004. The year-over-year increase reflects $4.9 million of higher restructuring costs, $3.8 million of unfavorable currency translation and $3.6 million of higher pension, postretirement and insurance expenses. These increases in operating expenses were largely offset by benefits from efficiency and cost reduction initiatives of $6.5 million and the absence, in 2005, of a $3.6 million charge associated with the settlement of two U.S. General Service Administration (“GSA”) contract audits last year. Restructuring costs included in “Operating expenses,” on the accompanying Consolidated Statements of Income, totaled $6.0 million in the second quarter of 2005, as compared to $1.1 million in the comparable prior-year period.
Interest expense of $5.6 million in the second quarter of 2005 was slightly lower than prior year primarily due to benefits from lower average debt levels, partially offset by the impact of higher year-over-year interest rates.
Other income (expense) – net was an expense of $0.8 million in the second quarter of 2005, as compared to an expense of $0.9 million in the second quarter of 2004. This line item includes the impact of all non-operating items such as interest income, hedging and currency exchange rate transactions gains and losses, minority interest and other miscellaneous non-operating items. Minority interest expense was $1.2 million in the second quarter of 2005, as compared to $1.1 million in the second quarter of 2004.
Snap-on’s effective tax rate was 35% in both the second quarters of 2005 and 2004. Snap-on continues to evaluate whether it will repatriate foreign earnings under the repatriations provisions of the American Jobs Creation Act of 2004. The company expects to complete its analysis and conclude on the extent of any repatriations, as well as the tax implications associated with any repatriations, by October 1, 2005, the end of the company’s 2005 fiscal third quarter.
Highlights of Snap-on’s results of operations for the first six months of 2005 and 2004 are as follows:
23
Total revenue in the first six months of 2005 decreased $7.0 million, or 0.6%, from prior-year levels. The year-over-year decrease was primarily due to lower financial services revenue of $11.7 million, partially offset by $4.7 million in higher net sales. The year-over-year decline in financial services revenue reflects lower credit originations and the impact of higher year-over-year interest rates in Snap-on’s domestic financing business. Of the $4.7 million increase in net sales, $24.2 million of favorable currency translation was offset by $19.5 million of lower sales. The $19.5 million decline in net sales principally reflects the impact of lower sales in the U.S. dealer operation along with lower sales in the OEM facilitation and worldwide equipment businesses, partially offset by higher international dealer sales and increased sales of worldwide industrial tools.
Gross profit was $525.5 million, or 44.1% of net sales, in the first six months of 2005, as compared to $505.2 million, or 42.6% of net sales, in the first six months of 2004. Gross profit in the first six months of 2005 increased $20.3 million or 150 basis points as a percentage of net sales. The year-over-year improvement reflects the impact of lower costs, including benefits from efficiency and productivity initiatives, $10.3 million of lower year-over-year restructuring costs, and $8.4 million of favorable currency translation, as well as benefits from higher selling prices and an improved second quarter sales mix. These improvements were partially offset by the impact of the lower sales, higher production costs in certain U.S. manufacturing plants, and $14.6 million of higher steel costs. Restructuring costs included in “Cost of goods sold,” on the accompanying Consolidated Statements of Income, totaled $2.0 million in the first six months of 2005, as compared to $12.3 million in the comparable prior-year period.
Operating expenses in the first six months of 2005 decreased by $5.2 million, or 20 basis points as a percentage of total revenue, from the first six months of 2004. Benefits from efficiency and cost reduction initiatives and $4.7 million in lower year-over-year bad debt expense and dealer termination costs, as well as the absence, in 2005, of the $3.6 million GSA settlement charge incurred last year, were partially offset by higher year-over-year restructuring costs of $10.2 million, unfavorable currency translation of $7.8 million, $3.0 million of costs to terminate a supplier relationship, and $2.6 million in higher pension, postretirement and insurance expenses. Restructuring costs included in “Operating expenses,” on the accompanying Consolidated Statements of Income, totaled $12.6 million in the first six months of 2005, as compared to $2.4 million in the comparable prior-year period.
Interest expense of $11.5 million in the first six months of 2005 was slightly higher than prior year as the impact of higher year-over-year interest rates more than offset the benefits from lower average debt levels.
Other income (expense) – net was an expense of $1.7 million in the first six months of 2005, as compared to expense of $2.8 million in the first six months of 2004. This line item includes the impact of all non-operating items such as interest income, hedging and currency exchange rate transactions gains and losses, minority interest and other miscellaneous non-operating items. Minority interest expense was $2.2 million in the first six months of 2005, as compared to $2.3 million in the first six months of 2004. The year-over-year change in other income (expense) includes $0.9 million in lower foreign exchange losses.
Snap-on’s effective tax rate was 35% for both the first six months of 2005 and 2004.
24
Snap-on’s business segments are based on the organization structure used by management for making operating and investment decisions and for assessing performance. Snap-on’s reportable business segments include: (i) the Snap-on Dealer Group; (ii) the Commercial and Industrial Group; (iii) the Diagnostics and Information Group; and (iv) Financial Services. The Snap-on Dealer Group consists of Snap-on’s business operations serving the worldwide franchised dealer van channel. The Commercial and Industrial Group consists of the business operations providing tools and equipment products and equipment repair services to a broad range of industrial and commercial customers worldwide through direct, distributor and other non-franchised distribution channels. The Diagnostics and Information Group consists of the business operations providing diagnostics equipment, vehicle-service information, business management systems, and other solutions for vehicle service to customers in the worldwide vehicle service and repair marketplace. Financial Services consists of the business operations of SOC and Snap-on’s wholly owned finance subsidiaries in those international markets where Snap-on has dealer operations.
Snap-on evaluates the performance of its operating segments based on segment revenues and operating earnings, exclusive of financing activities and income taxes. Segment revenues are defined as total revenues, including both external customer revenue and intersegment revenue. Segment operating earnings are defined as segment revenues less cost of goods sold and operating expenses, including restructuring costs. Snap-on accounts for intersegment sales and transfers based primarily on standard costs with reasonable mark-ups established between the segments. Identifiable assets by segment are those assets used in the respective reportable segment’s operations. Intersegment amounts are eliminated to arrive at consolidated financial results.
Due to changes in Snap-on’s management organization structure, Snap-on realigned its business segments during the first quarter of fiscal 2005. The primary changes include the transfer of Snap-on’s Technical Representative support organization from the Snap-on Dealer Group to the Diagnostics and Information Group and the segregation of Snap-on’s general corporate expenses from the operating earnings of the business segments. Prior to fiscal 2005, shared services and general corporate expenses and corporate assets were allocated to the business segments based on segment revenues. Beginning in fiscal 2005, the business segments are charged only for those shared services utilized by the business segment based on an estimate of the value of services provided; general corporate expenses and corporate assets are not allocated to the business segments. Corporate assets consist principally of those assets that are centrally managed including cash and cash equivalents, short-term investments, debt, pension assets and income taxes, as well as corporate real estate and related assets. Prior-year financial data by segment has been restated to reflect these reportable business segment realignments.
25
Total segment revenue in the second quarter of 2005 decreased $0.5 million, or 0.2%, versus prior-year levels. The year-over-year revenue decrease reflects $3.4 million of lower sales, primarily due to a lower average number of U.S. dealer vans in operation for the quarter, partially offset by higher sales in international markets, and $2.9 million of favorable currency translation. Sales to U.S. dealers have been impacted in past periods by plant consolidations and other manufacturing challenges that resulted in low order fill rates and higher levels of backorders. Progress, however, is being made in improving order fill rates and in reducing the level of outstanding backorders, although at a higher level of cost. Actions to enhance manufacturing operations, including installation of new production equipment and machine tooling, improved manufacturing processes, increased equipment maintenance and the acquisition in the first quarter of 2005 of a production facility formerly managed by a supplier are beginning to provide greater production benefits and a higher level of “complete and on-time” product deliveries. As a result of these efforts, along with the continued strength in franchise applications, Snap-on believes that further improvements will contribute to higher sales and lower costs.
Segment gross profit for the second quarter of 2005 decreased $2.2 million, or 70 basis points as a percentage of total segment revenue, from the same period last year. The year-over-year decrease primarily reflects the impact of the lower sales volume, higher production costs in certain U.S. manufacturing plants, and $3.9 million of higher steel costs, partially offset by benefits from higher selling prices, lower year-over-year restructuring costs of $1.2 million, and $1.4 million of favorable currency translation. Operating expenses for the Snap-on Dealer Group increased $4.4 million year over year, up 180 basis points as a percentage of total segment revenue, including $1.8 million in higher restructuring costs related to second-quarter 2005 severance actions, $1.0 million of unfavorable currency translation, and $1.4 million of dealer termination costs. As a result of these factors, segment operating earnings in the second quarter of 2005 decreased $6.6 million, or 250 basis points as a percentage of total segment revenue, from the second quarter of 2004.
26
Total segment revenue in the first six months of 2005 decreased $7.6 million, or 1.5%, over prior-year levels. The year-over-year decrease reflects $13.3 million of lower sales, primarily due to a lower average number of U.S. dealer vans in operation for the first six months of 2005, partially offset by higher sales in international markets, and $5.7 million of favorable currency translation. The number of U.S. vans in operation at the end of the second quarter of 2005 was down 6.6% from the comparable prior-year level.
Segment gross profit for the first six months of 2005 increased $1.6 million, or 90 basis points as a percentage of total segment revenue, from the same period last year. The year-over-year increase reflects benefits from higher selling prices and $8.3 million in lower year-over-year restructuring costs, partially offset by the impact of the lower sales volume, higher production costs from continued U.S. manufacturing inefficiencies, and $7.2 million of higher steel costs. Operating expenses for the Snap-on Dealer Group increased $5.0 million year-over-year or 150 basis points as a percentage of total segment revenue. The $5.0 million increase in operating expenses primarily includes $3.5 million in higher restructuring costs related to 2005 severance actions, $3.0 million of costs incurred in the first quarter of 2005 to terminate a supplier relationship, and $2.0 million of unfavorable currency translation. These increases were partially offset by lower bad debt expense and dealer termination costs of $3.2 million. As a result of these factors, segment operating earnings in the first six months of 2005 decreased $3.4 million, or 60 basis points as a percentage of total segment revenue, from the first six months of 2004.
27
Total segment revenue in the second quarter of 2005 increased $11.9 million, or 4.2%, over prior-year levels. The year-over-year increase reflects $8.2 million of favorable currency translation and $3.7 million of higher sales. Increased sales of hand tools for industrial applications and higher sales resulting from the successful introduction of new power tools partially offset a decline in vehicle service equipment sales.
Segment gross profit for the second quarter of 2005 increased $7.3 million, or 110 basis points, versus prior-year levels. Benefits from lower costs, including benefits from efficiency and productivity initiatives, lower year-over-year restructuring costs of $1.7 million, favorable currency translation of $2.7 million, and higher pricing, were partially offset by $3.9 million of higher steel costs. Operating expenses for the Commercial and Industrial Group decreased $6.4 million or 350 basis points as a percentage of total segment revenue. The decrease in operating expenses primarily reflects benefits from efficiency and cost reduction initiatives of $5.0 million and the absence of the $3.6 million GSA settlement charge incurred last year. These decreases were partially offset by $2.4 million of unfavorable currency translation, $0.9 million of higher year-over-year restructuring costs, primarily related to the integration and streamlining of Bahco and Eurotools operations in Europe, and by continued investment spending to support the strategy of establishing a sales presence in Asia and other emerging markets. As a result, segment operating earnings in the second quarter of 2005 increased $13.7 million, or 460 basis points as a percentage of total segment revenue, from the second quarter of 2004.
28
Total segment revenue for the first six months of 2005 increased $22.9 million, or 4.0%, over prior-year levels. The year-over-year increase includes favorable currency translation of $16.9 million and $6.0 million from higher sales of tools for industrial and commercial applications, including growth in emerging markets. Sales of power and torque tools were also up year over year. Worldwide equipment sales in the first half of 2005 also declined from prior-year levels, partially reflecting the impact of the divestiture of a small vehicle lift business in Europe in the second quarter of 2004 and the absence, in 2005, of certain dealership program equipment sales made in 2004.
Segment gross profit for the first six months of 2005 increased $10.0 million, or 40 basis points as a percentage of total segment revenue. Benefits from lower costs, including benefits from efficiency and productivity initiatives and $1.9 million of lower year-over-year restructuring costs, as well as $5.2 million of favorable currency translation and benefits from higher pricing, were partially offset by $7.4 million of higher steel costs. Operating expenses for the Commercial and Industrial Group decreased $11.4 million or 320 basis points as a percentage of total segment revenue. The decrease in operating expenses reflects benefits from efficiency and cost reduction initiatives of $11.1 million, $3.2 million of lower bad debt expense, and the absence of the $3.6 million GSA settlement charge incurred last year. These decreases in year-over-year operating expenses were partially offset by $4.9 million of unfavorable currency translation, $1.0 million of higher restructuring costs and $1.2 million of increased freight costs. As a result, segment operating earnings in the first six months of 2005 increased $21.4 million as compared to the first six months of 2004.
Total segment revenue in the second quarter of 2005 increased $2.5 million, or 2.2%, from prior-year levels due to $1.5 million of higher sales, largely reflecting higher software and handheld Snap-on® brand diagnostics sales made through the global dealer business, partially offset by lower sales in the OEM facilitation business. Favorable currency translation also contributed $1.0 million to the year-over-year revenue increase.
Segment gross profit for the second quarter of 2005 increased $7.6 million, or 570 basis points as a percentage of total segment revenue, primarily due to increased sales of higher-margin products and benefits from continuous improvement actions. Operating expenses for the Diagnostics and Information Group increased $0.7 million, but decreased by 10 basis points as a percentage of total revenue, as year-over-year benefits from continuous improvement actions were more than offset by $1.8 million of higher year-over-year restructuring costs related to second-quarter 2005 severance actions. As a result, segment operating earnings in the second quarter of 2005 were $13.7 million, or 11.7% of total segment revenue, in the second quarter of 2005, as compared to $6.8 million, or 5.9% of total revenue, in the comparable prior-year period.
29
Total segment revenue for the first six months of 2005 decreased $1.3 million, or 0.6%, over prior-year levels largely due to sales in the first quarter of 2004 for state emission program updates that were not repeated in 2005, partially offset by increased sales of software and handheld diagnostics through the U.S. dealer business and $2.0 million of favorable currency translation.
Segment gross profit for the first six months of 2005 increased $8.7 million, or 400 basis points as a percentage of total segment revenue from the same period last year, primarily due to an improved sales mix of higher-margin products year over year. Operating expenses for the Diagnostics and Information Group increased $1.7 million or 100 basis points as a percentage of total segment revenue. Benefits from continuous improvement actions were more than offset by $2.8 million of higher year-over-year restructuring costs related to 2005 severance actions and $0.9 million of unfavorable currency translation. As a result, segment operating earnings in the first six months of 2005 increased $7.0 million, or 300 basis points as a percentage of total segment revenue, from the first six months of 2004.
Segment revenues were $16.2 million in the second quarter of 2005, down $4.6 million from prior-year levels, primarily due to a 18.6% year-over-year decline in credit originations in Snap-on’s domestic financing business. Segment operating earnings in the second quarter of 2005 were $5.0 million, down from $9.6 million in the second quarter of 2005, primarily reflecting the impact of higher interest rates and the decline in credit originations.
30
Segment revenues were $30.3 million in the first six months of 2005, down $11.7 million from prior-year levels, primarily due to a 19.0% decline in credit originations in Snap-on’s domestic financing business. Segment operating earnings in the second quarter of 2005 were $9.3 million, down from $20.5 million in the first six months of 2004, primarily reflecting the impact of higher interest rates and the decline in credit originations.
Snap-on’s general corporate expenses totaled $12.7 million in the second quarter of 2005, up from $9.8 million in the second quarter of 2004. Year-over-year savings from cost reduction actions were more than offset by higher pension and postretirement actuarial adjustments of $3.9 million, and $1.2 million of higher mark-to-market adjustments on stock-based incentive plans. Snap-on’s general corporate expenses totaled $21.1 million for the first six months of 2005 and 2004. Savings realized from cost reduction initiatives were offset by 2005 restructuring costs of $2.0 million.
Exit and Disposal Activities: For a discussion of Snap-on’s exit and disposal activities, refer to Note 6 of the Consolidated Financial Statements.
Snap-on’s growth has historically been funded by a combination of cash provided by operating activities and debt financing. Snap-on believes that its cash from operations, coupled with its sources of borrowings, are sufficient to fund its anticipated requirements for working capital, scheduled debt repayments, capital expenditures and restructuring activities, acquisitions, common stock repurchases and dividend payments. Due to Snap-on’s credit rating over the years, external funds have been available at a reasonable cost. As of the date of the filing of this Form 10-Q, Snap-on’s long-term debt and commercial paper was rated A2 and P-1 by Moody’s Investors Service and A and A-1 by Standard & Poor’s. Snap-on believes that the strength of its balance sheet affords the company the financial flexibility to respond to both internal growth opportunities and those available through acquisitions.
The following discussion focuses on information included in the accompanying Consolidated Balance Sheets.
31
Snap-on has been focused on improving asset utilization by making more effective use of its investment in certain working capital items. As of July 2, 2005, working capital (defined as current assets less current liabilities) of $534.6 million was up $16.2 million from $518.4 million as of January 1, 2005 (fiscal 2004 year end). The company assesses management’s operating performance and effectiveness relative to those components of working capital, particularly accounts receivable and inventories, which are more directly impacted by operational decisions. The following represents the company’s working capital position as of July 2, 2005, and January 1, 2005.
Accounts receivable at the end of the second quarter of 2005 was $514.7 million, down $27.3 million from year-end 2004 levels, largely reflecting an improvement in days sales outstanding from 81 days at year-end 2004 to 77 days at July 2, 2005, and a $21.2 million decrease from currency translation.
Inventories totaled $366.6 million at the end of the 2005-second quarter, up $24.7 million from year-end 2004 levels, including a decrease of $16.8 million from currency translation. The increase in inventory levels primarily reflects the impact of higher material costs, a high level of consigned inventories principally as a result of an increase in the number of trial franchises in the U.S. dealer business, and an increase in finished goods products in an effort to further improve customer service levels. Inventories accounted for using the first-in, first-out (FIFO) method as of July 2, 2005, and January 1, 2005, approximated 61% and 65% of total inventories. All other inventories are accounted for using the last-in, first-out (LIFO) cost method. The company’s LIFO reserve increased from $76.3 million at January 1, 2005, to $78.4 million at July 2, 2005. Inventory turns (defined as the current quarter’s cost of goods sold annualized, divided by the average of the last four quarter-end’s inventory balances) at July 2, 2005, were 3.6 turns, as compared to 3.9 turns at year-end 2004.
Accounts payable at the end of the second quarter of 2005 was $173.9 million, down $21.0 million from year-end 2004 levels, primarily due to the timing of payments and a $7.7 million decrease from currency translation.
32
Total notes payable and long-term debt of $311.7 million as of July 2, 2005, and $331.0 million at year-end 2004 both include $100.0 million of current maturities of long-term debt for the company’s unsecured 6.625% notes that mature in their entirety on October 1, 2005. Notes payable to banks under bank lines of credit and amounts payable to the CIT Group Inc. (“CIT”) pursuant to a working capital agreement with Snap-on Credit LLC (“SOC”) totaled $8.5 million and $2.5 million at July 2, 2005, and January 1, 2005. See Note 5 for further discussion of CIT and SOC. Snap-on also has $200 million of unsecured 6.25% long-term notes that mature in their entirety on August 15, 2011.
During the quarter ended July 2, 2005, Snap-on repaid $25 million of borrowings that were previously outstanding under its commercial paper program and, as a result, no commercial paper was outstanding at July 2, 2005. At January 1, 2005, Snap-on had commercial paper outstanding of $25 million. On July 27, 2004, Snap-on entered into a five-year, $400 million multi-currency revolving credit facility that will terminate on July 27, 2009. The $400 million revolving credit facility’s financial covenant requires that Snap-on maintain a ratio of total debt to the sum of total debt plus shareholders’ equity of not greater than 0.60 to 1.00. As of the date of this document, Snap-on believes it is in compliance with all covenants of this revolving credit facility.
At July 2, 2005, Snap-on also had $20 million of unused committed bank lines of credit, of which $10 million expires on July 31, 2005, and $10 million expires on August 31, 2005. On July 19, 2005, Snap-on renewed, through July 31, 2006, the bank line of credit scheduled to expire on July 31, 2005. Snap-on intends to renew the remaining $10 bank line of credit during the third quarter of 2005. At July 2, 2005, Snap-on had approximately $420 million of unused available debt capacity under the terms of its revolving credit facilities and committed bank line of credit.
The following discussion focuses on information included in the accompanying Consolidated Statements of Cash Flows.
Cash flow provided from operating activities was $51.1 million in the first six months of 2005. Cash flow from net earnings of $44.5 million, coupled with depreciation and amortization of $27.4 million, was partially offset by combined net changes in operating assets and liabilities of $24.0 million, including a $41.6 million use of cash as a result of higher inventory levels. A decline in depreciation and amortization of $6.7 million year over year largely reflects the effect of accelerated depreciation related to the closing of the two U.S. hand-tool facilities in the first quarter of 2004.
Capital expenditures totaled $19.0 million in the first six months of 2005, as compared with $17.3 million in the comparable prior-year period. Capital expenditures in 2005 included new product-related, quality, efficiency and cost reduction capital investments, as well as ongoing replacements of manufacturing and distribution facilities and equipment. Snap-on anticipates fiscal 2005 capital expenditures will be in a range of $42 million to $47 million, as compared to $38.7 million in fiscal 2004. Full-year depreciation and amortization is anticipated to be approximately $55 million in fiscal 2005, as compared to $61.0 million in fiscal 2004.
Snap-on has undertaken stock repurchases from time to time to offset dilution created by shares issued for employee and dealer stock purchase plans, stock options, and other corporate purposes, as well as to repurchase shares when market conditions are favorable. During the first six months of 2005, Snap-on repurchased 375,000 shares of common stock for $12.7 million under its previously announced share repurchase programs. As of the end of the first six months of 2005, Snap-on has remaining availability to repurchase up to an additional $129.3 million in common stock pursuant to the Board of Directors’ authorizations. The purchase of Snap-on common stock is at the company’s discretion, subject to prevailing financial and market conditions.
33
Snap-on has paid consecutive quarterly cash dividends, without interruption or reduction, since 1939. In the first six months of 2005, Snap-on’s Board of Directors declared dividends of $0.75 per share. Cash dividends paid totaled $28.9 million in the first six months of 2005, as compared to $29.0 million in the first six months of 2004.
Government Contract Matters:
On July 23, 2004, Snap-on reached an agreement with the U.S. Department of Justice to resolve the government audit, previously discussed in the company’s Annual Report on Form 10-K, relating to two contracts with the GSA. Snap-on agreed to settle the claims over the interpretation and application of the price reduction and billing provisions of these two contracts for sales from March 1996 through the July 23, 2004, settlement date for $10 million. Snap-on incurred a pretax charge of $3.6 million, or $0.04 per diluted share in the second quarter of 2004 for costs not previously accrued. Snap-on remitted the $10 million cash settlement to the U.S. Department of Justice on August 5, 2004.
On February 8, 2005, the GSA requested information from Snap-on to evaluate possible administrative action against the company. On May 24, 2005, Snap-on and the GSA discussed Snap-on’s pricing and contract compliance practices. The GSA and Snap-on agreed that Snap-on retain an independent third party to review Snap-on’s compliance with the requirements of its Federal Supply Schedule contract. Pending the outcome of this review in the first quarter of 2006, there are no known further actions at this time. The company continues to have ongoing discussions and correspondence with the GSA regarding this matter.
Snap-on’s disclosures of its critical accounting policies, which are contained in its 2004 Annual Report on Form 10-K for the year ended January 1, 2005, have not materially changed since that report was filed.
Snap-on will continue to emphasize improving its customer service, reducing complexity and cost, strengthening its dealer van franchise system, achieving quicker inventory turns, implementing continuous improvement actions and the development of innovative new products. Further progress toward these objectives is anticipated to lead to improved levels of service and product deliveries to dealers and customers, an expectation of higher sales and further improvements in operating margins.
34
As reported previously at the end of the first quarter of 2005, Snap-on estimates that full-year 2005 restructuring costs will total $20 million to $25 million, of which $14.6 million was incurred in the first six months. Benefits from prior rationalization actions, as well as ongoing continuous improvement initiatives, including the further integration of business operations, are anticipated to exceed the costs associated with those actions and provide future operating leverage from sales activities.
Safe Harbor: Statements in this document that are not historical facts, including statements (i) that include the words “expects,” “plans,” “targets,” “estimates,” “believes,” “anticipates,” or similar words that reference Snap-on or its management; (ii) specifically identified as forward-looking; or (iii) describing Snap-on’s or management’s future outlook, plans, estimates, objectives or goals, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Snap-on cautions the reader that any forward-looking statements are based upon assumptions and estimates that were developed by management in good faith and are subject to risks, uncertainties or other factors that could cause (and in some cases have caused) actual results to differ materially from those described in any such statement. Accordingly, forward-looking statements should not be relied upon as a prediction of actual results or regarded as a representation by the company or its management that the projected results will be achieved. For those forward-looking statements, Snap-on cautions the reader that numerous important factors, such as those listed below, could affect the company’s actual results and could cause its actual consolidated results to differ materially from those expressed in any forward-looking statement made by, or on behalf of, Snap-on.
These risks and uncertainties include, without limitation, uncertainties related to estimates, assumptions and projections generally, the timing and progress with which Snap-on can attain savings from cost reduction actions and implement and complete planned reductions in workforce, its ability to manage inventory levels and meet customer demand, implement and complete planned reductions in workforce, and enhance machine maintenance, plant productivity and manufacturing line set-up and change-over practices, any or all of which could result in production inefficiencies, higher cost and lost revenues. These risks also include uncertainties related to Snap-on’s capability to implement future strategies with respect to its existing businesses, refine its brand and franchise strategies, retain and attract dealers, capture new business, introduce successful new products, as well as its ability to withstand disruption arising from planned facility closures, or other labor interruptions, and external negative factors including terrorist disruptions on business, potential changes in trade, monetary and fiscal policies, regulatory reporting requirements, laws and regulations, or other activities of governments or their agencies, including military actions and the aftermath that may occur; the absence of significant changes in the current competitive environment, inflation and other monetary fluctuations, interest rates, legal proceedings, energy and raw material supply and pricing (including gasoline), the amount, rate and growth of Snap-on’s general and administrative expenses (e.g. health care and/or pension costs) or the material worsening of economic situations around the world, particularly in North America and/or Europe, and its ability to increase prices due to higher raw material costs. Snap-on disclaims any responsibility to update any forward-looking statement.
35
In addition, investors should be aware that generally accepted accounting principles prescribe when a company should reserve for particular risks, including litigation exposures. Accordingly, results for a given reporting period could be significantly affected if and when a reserve is established for a major contingency. Reported results, therefore, may appear to be volatile in certain accounting periods.
36
Market risk is the potential economic loss that may result from adverse changes in the fair value of financial instruments. Snap-on is exposed to market risk from changes in both foreign currency exchange rates and interest rates. Snap-on monitors its exposure to these risks and attempts to manage the underlying economic exposures through the use of financial instruments such as forward exchange contracts and interest rate swap agreements. Snap-on does not use derivative instruments for speculative or trading purposes. Snap-on’s broad-based business activities help to reduce the impact that volatility in any particular area or related areas may have on its operating earnings as a whole. Snap-on’s management takes an active role in the risk management process and has developed policies and procedures that require specific administrative and business functions to assist in the identification, assessment and control of various risks.
FOREIGN CURRENCY RISK MANAGEMENT: Snap-on has significant international operations and is subject to certain risks inherent with foreign operations that include currency fluctuations and restrictions on movement of funds. Foreign exchange risk exists to the extent that Snap-on has payment obligations or receipts denominated in currencies other than the functional currency. To manage these exposures, Snap-on identifies naturally offsetting positions and then purchases hedging instruments in an attempt to protect the residual net exposures. Snap-on’s financial position and results of operations have not been materially affected by such events to date. For additional information, see Note 8 to the Consolidated Financial Statements.
INTEREST RATE RISK MANAGEMENT: Snap-on’s interest rate risk management policies are designed to reduce the potential volatility of earnings that could arise from changes in interest rates. Through the use of interest rate swaps, Snap-on aims to stabilize funding costs by managing the exposure created by the differing maturities and interest rate structures of Snap-on’s assets and liabilities. For additional information, see Note 8 to the Consolidated Financial Statements.
Snap-on utilizes a Value-at-Risk (“VAR”) model to determine the potential one-day loss in the fair value of its interest rate and foreign exchange-sensitive financial instruments from adverse changes in market factors. The VAR model estimates were made assuming normal market conditions and a 95% confidence level. Snap-on’s computations are based on the inter-relationships among movements in various currencies and interest rates (variance/co-variance technique). These inter-relationships were determined by observing interest rate and foreign currency market changes over the preceding quarter.
The estimated maximum potential one-day loss in fair value, calculated using the VAR model, at July 2, 2005, was$0.6 million on interest rate-sensitive financial instruments and $0.3 million on foreign currency-sensitive financial instruments. The VAR model is a risk management tool and does not purport to represent actual losses in fair value that will be incurred by Snap-on, nor does it consider the potential effect of favorable changes in market factors.
CREDIT RISK: Credit risk is the possibility of loss from a customer’s failure to make payments according to contract terms. Prior to granting credit, each customer is evaluated, taking into consideration the borrower’s financial condition, collateral, debt-servicing capacity, past payment experience, credit bureau information, and other financial and qualitative factors that may affect the borrower’s ability to repay. Specific credit reviews and standard industry credit scoring models are used in performing this evaluation. Loans that have been granted are typically monitored through an asset-quality-review process that closely monitors past due accounts and initiates collection actions when appropriate. In addition to its direct credit risk exposure, Snap-on also has credit risk exposure for certain SOC loan originations with recourse provisions against Snap-on (primarily for dealer van loans). At July 2, 2005, $16.2 million of loans originated by SOC have a recourse provision to Snap-on if the loans become more than 90 days past due. For additional information on SOC, see Note 5.
37
ECONOMIC RISK: Economic risk is the possibility of loss resulting from economic instability in certain areas of the world. Snap-on continually monitors its exposure in these markets.
As a result of the above market, credit and economic risks, net income and revenues in any particular period may not be representative of full-year results and may vary significantly from year to year and from quarter to quarter. Inflation has not had a significant impact on the company.
38
Snap-on maintains a system of disclosure controls and procedures that is designed to provide reasonable assurance that material information relating to the Company and its consolidated subsidiaries is timely communicated to the officers who certify Snap-on’s financial reports and to other members of senior management and the Board of Directors, as appropriate.
Under the supervision and with the participation of management, including Snap-on’s Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of this system of disclosure controls and procedures as of July 2, 2005. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) are effective to ensure that the information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified by the SEC.
Changes in Internal Control over Financial Reporting
There were no changes in internal control over financial reporting that occurred during the quarter ended July 2, 2005, that have materially affected, or are reasonably likely to materially affect, Snap-on’s internal control over disclosure controls and procedures.
Our management, including the Chief Executive Officer and Chief Financial Officer, does not expect that our internal control over financial reporting will prevent all error or fraud. Because of inherent limitations, a system of internal control over financial reporting can provide only reasonable assurance and may not prevent or detect misstatements. Further, because of changes in conditions, effectiveness of internal control over financial reporting may vary over time.
39
Please refer to Note 14 of the Consolidated Financial Statements for more information regarding legal proceedings.
The following chart discloses information regarding the shares of Snap-on’s common stock repurchased by the company during the second quarter of fiscal 2005, all of which were purchased pursuant to Board of Directors’ authorizations. Snap-on has undertaken stock repurchases from time to time to offset dilution created by shares issued for employee and dealer stock purchase plans, stock options, and other corporate purposes, as well as to repurchase shares when the company believes market conditions are favorable. The repurchase of Snap-on common stock is at the company’s discretion, subject to prevailing financial and market conditions.
40
41
Snap-on held its Annual Meeting of Shareholders on April 22, 2005. The shareholders (i) elected three members of Snap-on’s Board of Directors, whose terms were up for reelection, to serve until the Annual Meeting in the year 2008 and (ii) ratified the Audit Committee’s selection of Deloitte & Touche LLP as the company’s independent auditor for 2005. There were 62,011,804 outstanding shares eligible to vote. The persons elected to the Corporation’s Board of Directors, the number of votes cast for and the number of votes withheld with respect to each of these persons are set forth below:
The terms of office for the following directors continue until the Annual Meeting in the year set forth below:
The proposal to ratify the Audit Committee’s selection of Deloitte & Touche LLP as the company’s independent auditor for 2005 received the following votes:
There were no broker non-votes for this item.
42
During the second quarter of 2005, Snap-on recorded costs associated with exit and disposal activities of $6.8 million. Of the $6.8 million of costs incurred for exit and disposal activities during the second quarter of 2005, $5.3 million qualified for accrual treatment. Costs associated with exit and disposal activities incurred in the first and second quarters of 2005 primarily related to headcount reductions at multiple North American facilities; consolidation of several U.S. Dealer Branch locations; headcount reductions at German and U.K. Diagnostics facilities; the closure of a German hand-tool plant that was consolidated into the company’s Spanish operations; the elimination of one plant in Spain through further consolidation; and management realignment actions at various other Snap-on facilities.
Accrual usage of $2.6 million during the second quarter of 2005 primarily reflects severance and related payments for the separation of employees. Since year-end 2004, Snap-on has reduced headcount by approximately 485 employees as part of its 2005 restructuring actions.
Snap-on also expects that it will incur approximately $5 million to $10 million of additional exit and disposal charges during the remainder of fiscal 2005.
43
44
Pursuant to the requirements of the Securities Exchange Act of 1934, Snap-on Incorporated has duly caused this report to be signed on its behalf by the undersigned duly authorized person.
45
46