HNI
Annual Report 2002

Plain-text annual report

H O N I N D U ST R I E S 2 0 0 2 A N N UA L R E P O RT Strengths into Strategy HO N I N D U ST R I E S I n c . c1 Contents 2 Financial Highlights 3 Letter to Shareholders 6 Strengths into Strategy 22 At a Glance 24 Management’s Discussion and Analysis 30 Consolidated Financial Statements and Notes 46 Eleven-Year Summary 48 Reports of Independent Accountants 50 Management’s Responsibility for Financial Statements 51 A Message from the Board of Directors 52 Board of Directors and Officers IBC Investor Information and Our Vision Attributes into action. We at HON INDUSTRIES see in the office furniture market’s unprecedented down- turn something surprising: Opportunity. Because in 2002 we delivered solid finan- cial performance and launched more new products than at any time in our history. We have more points of access to our markets than virtually anybody. Our supply chain expertise is second to none. And we have built one of the most talented leadership teams in the business, who, combined with our dedicated members, make people a significant differentiator. Now, we are intensifying our focus on converting our tremendous attrib- utes into action; on continuing to turn our strengths into a solid strategy for profitable, long-term growth. Financial Highlights Amounts in thousands, except for per share data 2002 2001 Change Income Statement Data Net sales Gross profit Selling and administrative expenses Restructuring related charges Operating income Net income Net income as a % of: Net sales Average shareholders’ equity Per common share: Net income Book value Cash dividends Balance Sheet Data Current assets Total assets Current liabilities Current ratio Long-term debt and capital lease obligations Debt/capitalization ratio Shareholders’ equity Average shareholders’ equity Working capital Other Data Capital expenditures Cash flow from operations Weighted-average shares outstanding during year Price/earnings ratio at year-end Number of shareholders at year-end Members (employees) at year-end * Includes acquisitions completed during year. $÷1,692,622 599,879 454,189 3,000 142,690 91,360 $÷1,792,438 611,298 464,206 24,000 123,092 74,407 5.4% 14.7% 4.2% 12.8% $÷÷÷÷÷«1.55 11.08 .50 $÷÷«405,054 1,020,552 298,680 1.36 $÷««÷÷«9,837 1.5% $÷÷«646,893 619,787 106,374 $÷÷÷«25,885 202,391 58,789,851 18 6,777 8,828 $÷÷÷÷÷«1.26 10.10 .48 $÷÷«319,657 961,891 230,443 1.39 $÷÷÷«80,830 12.0% $÷÷«592,680 583,011 89,214 $÷÷÷«36,851 227,800 59,087,963 22 6,694 9,029* % (5.6) % (1.9) % (2.2) (87.5) % 15.9 % 22.8 % 23.0 % 9.7 % 4.2 % 26.7 % 6.1 % 29.6 % (87.8) % 9.1 % 6.3 % 19.2 % (29.8) (11.2) (0.5) % % % 1.2 % % (2.2) 7 0 7 1 , 1 0 8 1 , 6 4 0 , 2 2 9 7 1 , 2 9 6 , 1 6 0 1 7 8 6 0 1 4 7 1 9 2 . 5 2 1 . 8 1 8 . 9 1 8 . 2 1 7 . 4 1 2 7 . 1 4 4 . 1 7 7 . 1 6 2 . 1 5 5 . 1 8 9 9 1 9 9 9 1 0 0 0 2 1 0 0 2 2 0 0 2 8 9 9 1 9 9 9 1 0 0 0 2 1 0 0 2 2 0 0 2 8 9 9 1 9 9 9 1 0 0 0 2 1 0 0 2 2 0 0 2 8 9 9 1 9 9 9 1 0 0 0 2 1 0 0 2 2 0 0 2 Net Sales Millions of dollars Net Income Millions of dollars Return on Average Shareholders’ Equity Percent Earnings Per Share Dollars 2 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Dear Shareholders: It might surprise you to hear that in spite of a negative environment in the office furniture market, we have a very positive story to tell. We emerged from a second consecutive year of double-digit industry decline with a solid balance sheet, strong margins, excellent cash flow and low debt. We launched more new products than ever, set records in service and quality, and gained significant share in a number of our markets. You’d be right to ask us a simple question: Where from here? HO N I N D U ST R I E S I n c . 3 Thanks to solid performance by our office furniture and hearth businesses, we excelled by virtually every financial measure in 2002 and gained market share, despite a decline in overall sales. Earnings per share: well above last year. Working capital: number one in the industry. Cash flow: a five-year compounded annual growth rate of 7.4 percent. Gross profits: record perform- ance in the worst market environment anyone can remember. And our stock price remained stable throughout the year, outperforming the S&P 500. It’s time to intensify our efforts to grow. We have proven that we can insulate our shareholders from extremely difficult economic conditions. Now we must prove that we can deliver growth. To accomplish this, we have established five strategic priorities for 2003–2005: Priority one: Understand and respond to end-users. In every one of our businesses, we are working to better understand the people who ultimately buy and use our products. We are investing to find out more than just their level of satisfaction with our products; we want to learn about what they value and want; how and where they buy; and how they feel about the purchase, delivery and installation experience. JAC K D. M I C H A E L S We also must find appropriate ways to increase our influence in the C H A I R M A N A N D C H I E F E X E C U T I V E O F F I C E R channels through which our businesses reach their markets. This will bring us closer to end-users and put us in a better position to respond to their needs. Priority two: Build brand power. It is critical to establish strong brands in our markets. As you read this letter, we are implementing aggressive, comprehensive strategies to accomplish it. Each HON INDUSTRIES business has a unique position it seeks to capture; the common objective among all is to create that strong and lasting bond with buyers that every successful brand enjoys. Priority three: Implement profitable and aggressive growth strategies. Our financial performance puts us in an excellent position to pursue growth. We have a number of powerful avenues within our core businesses to achieve it profitably, whether through new market niches or through logical extensions of our expertise and product portfolio. And we are always evaluat- ing opportunities to build our business through acquisition. Priority four: Respond to global competition. We are operating in an increasingly global competitive environment. Low-cost imports are having more impact on our business every day. Globalization adds urgency to the need to build our brands and evolve from a manufacturer to a solutions provider. It also represents opportunities to enhance our competitiveness through sourcing arrangements and alliances overseas. 4 ST R E N G T H S I N TO ST R AT E G Y Priority five: Enhance our culture and values. To me, the HON INDUSTRIES culture is about fairness, respect and learning. Management’s job is to engage all members in the improvement process – to listen, learn from them, and give them opportunities to grow and enhance their skills. When we get mem- bers to share their ideas to make their jobs more productive and act on those ideas, we achieve something powerful: 8,828 people actively working to make this company better. Evidence of their success can be found in our recognition recently by FORTUNE magazine as the most-admired company in our industry and our inclusion in Forbes’ Platinum 400 list. Part of our culture of learning is the role our board members play in our success. With all the attention being paid to governance issues today, it would be easy to overlook the tremendous value our Board of Directors brings to our company beyond corporate oversight. There is a great deal to be learned from the wealth of experience each HON INDUSTRIES director pos- sesses. Their counsel is as valuable to us as their integrity and commitment are to representing your interests. In 2002, we were very pleased to welcome Ronald V. Waters, III, Senior Vice President and Chief Financial Officer of Wm. Wrigley Jr. Company, to our board. Ron’s knowledge of finance and accounting, global sourcing, supply chain and logistics management will be of particular value to the company. On February 13, 2003, we announced the appointment of Stanley A. Askren as the new President of HON INDUSTRIES and a member of its Board of Directors. This appointment resulted from the normal, ongoing succession planning process utilized by the Board of Directors. It is an indication of the strength of our team that Stan was selected from a field made up entirely of internal candidates; it’s an equal indication of the team’s strength that this was doubtless the most difficult decision the board has ever had to make. Although we see continued economic challenge and global uncertainty immediately ahead, I believe the office furniture and hearth and home indus- tries both have bright and vibrant long-term futures. I’m very proud of what we achieved in 2002, and I’m looking forward to working with Stan to take this company to the next level of performance and growth. I know he feels as strongly as I do that for HON INDUSTRIES, its members and shareholders, the best is yet to come. JAC K D. M I C H A E L S C H A I R M A N A N D C H I E F E X E C U T I V E O F F I C E R HO N I N D U ST R I E S I n c . 5 S T R E N G T H S We have the products. Solid financial performance has enabled us to maintain a high level of investment in new product develop- ment and marketing. We spent wisely, as evidenced by an extraordinary group of exciting new products we launched in 2002. We developed each in a disciplined process that carefully defines end-user needs and helps ensure immediate and ongoing contri- bution to our bottom line. But great products are only part of the value equation, just one element of solutions designed to enhance the work and home environments. 6 ST R E N G T H S I N TO ST R AT E G Y The 19th Part Allsteel’s award-winning #19 chair is a beautiful union of form and function. Its design is the sum of 18 custom-designed, integral parts. The equally integral 19th part? The person sitting in it. HO N I N D U ST R I E S I n c . 7 Moving from just a manufacturer to a provider of solutions. Without question, we have the products. At The challenge now is to develop solutions that The HON Company, at Gunlocke, at Allsteel, at support the larger purpose in which our products Hearth & Home Technologies – at every company play a part. In some channels, it’s offering a in the HON INDUSTRIES family – our focus combination of products to enable single sourcing over the past few years on developing beautiful, for maximum workplace performance and value. functional, innovative products is winning awards In others, it’s providing related services, including and serving notice to the competition. space design, asset and lifecycle management, among others. And at Hearth & Home Technologies, it’s expanding our focus beyond fireplaces to offer products for a healthy home. 8 ST R E N G T H S I N TO ST R AT E G Y HO N I N D U ST R I E S I n c . 9 S T R E N G T H S We have the presence. It’s one thing to have an exciting new portfolio of highly desirable products; it’s quite another to get them efficiently to market. At HON INDUSTRIES, this is where a second strength comes into play: We are without peer in our number of sales channels and in our supply chain efficiency and performance. We have established an exceedingly strong market position through the multitude of ways we reach customers, and the superior quality and dependability of our service. 10 ST R E N G T H S I N TO ST R AT E G Y Selling to Them, Then Getting It to Them We’ve made it a priority to establish a strong presence in each of our markets’ many different buying processes. It’s an equal priority to get our product to end-users and channel partners where and when they want it, every single time. HO N I N D U ST R I E S I n c . 11 12 ST R E N G T H S I N TO ST R AT E G Y Mastering the total buying experience, from selection and purchase to delivery and installation. In our office furniture and hearth businesses, chan- From a small business owner needing a few nels and buying processes vary as widely as the pieces of office furniture to a multinational corpora- players involved in each. Small retailers. “Big box” tion making a large and complex contract purchase, mass merchandisers. Wholesalers. Dealers. Archi- from a homeowner looking for a gas fireplace to a tects and designers. Home builders. Individual home- contractor who builds 15,000 homes a year, the owners. Business people. Small businesses. Large companies of HON INDUSTRIES are there for them. government agencies. Multinational corporations. But once the sale is made, the critical fulfill- HON INDUSTRIES has done more than just ment part of the purchase process begins. HON recognize the different segments; it has worked INDUSTRIES has mastered the physical distribu- very effectively to position itself in the multiple tion of its broad and deep range of products channels that serve them. It takes an extraordinary through an operational infrastructure that includes amount of skill, discipline and versatility to manage manufacturing, logistics and customer service. different relationship dynamics while maintaining Across our entire business, we take demand from and continually improving upon the ability to meet an end-user or channel partner, turn it around more each channel’s distinct requirements. efficiently and deliver it faster and more dependably than any of our competition. We measure it in complete-and-on-time performance that exceeds 90 percent, industry-best lead times and, most important, delighted customers. With strategically placed leading complete-and-on- techniques and a company- distribution centers across time performance. But it’s wide commitment to the United States, national presence is an important only a part of a larger competency that includes factor in our industry- innovative manufacturing service excellence. HO N I N D U ST R I E S I n c . 13 S T R E N G T H S We have the people. “Our people are our greatest asset.” Certainly, it’s become a cliché. But in the cliché dwells a fundamental truth: The difference between success and failure always comes down to the human factor, from the leaders who develop strategy to the people who execute it. At HON INDUSTRIES, we have quietly assembled one of the best leadership teams in the industry, and our workforce is so vested in the company’s success that we call them members, not employees. 14 ST R E N G T H S I N TO ST R AT E G Y The Meaning of Member Since the company was founded, HON INDUSTRIES employees have been known as members. Because everyone with at least a year’s service shares in the company profits and owns company stock, “member” reflects more than a unique designation. It reflects – and drives – a unique level of commitment to the company’s success throughout the entire workforce. HO N I N D U ST R I E S I n c . 15 HON INDUSTRIES senior management represents a unique combination of focused leadership and teamwork. Dave Burdakin joined HON INDUSTRIES in 1993 after serving in operations, sales management, marketing and general management positions at ITW, Bendix and American Can Corporation. Dave worked in management across a number of HON INDUSTRIES product areas, including seating, metal case goods and wood, before assuming his current position. DAV I D C . B U R DA K I N E V P, H O N I N D U ST R I E S P R E S I D E NT, T H E H O N C O M PA N Y Stan Askren was appointed by the Board of Directors as President in February 2003. He has served as President of Allsteel since 1999 after serving in general manage- ment, marketing and human resources roles across the businesses, including the role of President of Heatilator. He also held positions with Emerson Electric and Thomson S.A. before joining HON INDUSTRIES in 1992. DAV I D C . B U R DA K I N E V P, H O N I N D U ST R I E S P R E S I D E NT, T H E H O N C O M PA N Y “My focus is on establishing a brand for The HON Company that truly reflects who we are: providers of the highest quality products and solutions to meet the needs of busi- ness, from the back room to the executive suite.” STA N L E Y A . AS K R E N P R E S I D E NT, H O N I N D U ST R I E S P R E S I D E NT, A L L ST E E L “ At HON INDUSTRIES, we have a tremendous opportu- nity to apply our extraordinary organizational capabilities and great products to drive market share growth. The biggest challenge is in getting the word out.” 16 ST R E N G T H S I N TO ST R AT E G Y Phil Martineau has led the Wood Products Group since joining HON INDUSTRIES in 2000 and assumed responsi- bility for the corporation’s international business in 2001. His background includes expe- rience as a senior executive in engineering, marketing and sales, international operations and finance, as well as general management at ITW, Emerson Electric and Cummins. Dan Shimek co-founded Heat-N-Glo in 1976; he came to HON INDUSTRIES in 1996 with the merger of Heat-N-Glo and Heatilator. He held a variety of manage- ment positions in a 15-year career at 3M prior to leaving in 1986 to devote his time to the Heat-N-Glo business. P H I L L I P M . M A RT I N E AU E V P, H O N I N D U ST R I E S P R E S I D E NT, WO O D P R O D U C T S G R O U P P R E S I D E NT, H O N I NT E R N AT I O N A L DA N I E L C . S H I M E K DA N I E L C . S H I M E K E V P, H O N I N D U ST R I E S E V P, H O N I N D U ST R I E S P R E S I D E NT, H E A RT H & P R E S I D E NT, H E A RT H A N D H O M E T E C H N O LO G I E S H O M E T E C H N O LO G I E S Jerry Dittmer joined HON INDUSTRIES in 1991. He oversees the corporation’s accounting, information tech- nology, business analysis, mergers and acquisitions and investor relations functions, among others. He held IT, operations and financial man- agement positions in our office furniture business before becoming CFO. He came to HON INDUSTRIES from Coopers & Lybrand. P H I L L I P M . M A RT I N E AU E V P, H O N I N D U ST R I E S P R E S I D E NT, WO O D P R O D U C T S G R O U P P R E S I D E NT, H O N I NT E R N AT I O N A L “This is a great group of exec- utives. HON INDUSTRIES’ split-and-focus model enables us to concentrate on our respective businesses and develop closeness to our customers. Yet we work together as a highly cohesive team to support our mutual success.” “HON INDUSTRIES’ greatest strength comes from a Rapid Continuous Improvement process that’s ingrained in virtually every part of the company. This supports Hearth & Home Technologies’ current business and its pursuit of growth opportunities in and around the home.” J E R A L D K . D I TT M E R V P A N D C F O, H O N I N D U ST R I E S “I spend a great deal of my time involved in the develop- ment and implementation of aggressive and profitable growth strategies for the corporation. With our people, our culture and our core skills, there’s a lot of opportunity.” HO N I N D U ST R I E S I n c . 17 S T R AT E G Y We have the vision. Vision, like talk, is often cheap. Many com- panies claim to have vision, but surprisingly few actually deliver on it. The only rele- vance of vision to investors is the extent to which it supports performance. We have delivered solid financial performance; the next deliverable is steady, measurable growth. Our growth initiatives are focused in four areas: building our brands, expand- ing our existing markets, thinking globally, and creating new markets. And for the record, our vision is defined on the inside back cover of this report. 18 ST R E N G T H S I N TO ST R AT E G Y Building Our Brands Brands are about people. Brand recognition and loyalty among buyers, channel partners and end-users are critical factors in the success of every HON INDUSTRIES business. Brand power helps us reach specific target markets more efficiently, effectively and profitably – bolstering it will remain a top priority over the next three years. The HON Company, Allsteel, Gunlocke, Hearth & Home Technologies and others in the HON INDUSTRIES family are in the midst of aggressive, comprehensive strategies to build their brands. HO N I N D U ST R I E S I n c . 19 Thinking Globally The steadily increasing competitive presence of low-cost imports in our domestic markets means more pressure on HON INDUSTRIES companies to enhance differentiating aesthetics, quality and value while continuing to evaluate strategies to improve cost basis. At the same time, globalization can represent growth potential as domestic cus- tomers expand their businesses overseas and require support. As the market evolves, we will formu- late our strategies accordingly, looking not only at challenges but opportunities as well. Extending Existing Markets One of the objectives of our intensi- fied focus on end-users is to identify ways we can leverage our core busi- ness processes and products to drive growth with existing customers. We are seeking to translate excel- lence into expanded relationships, operational performance into a higher percentage of the customer dollar. We also are actively pursuing specific niches where our product and service mix can bring real value: niches like hospitality, government, education and a number of others. 20 ST R E N G T H S I N TO ST R AT E G Y Developing New Markets At HON INDUSTRIES, we will con- tinue to evaluate ways to expand our business through acquisitions, alliances and new product line devel- opment consistent with our expertise and culture. An excellent example can be seen in Hearth Technologies’ name change to Hearth & Home Technologies, reflecting a strategy to extend its product focus to the entire home – making it more comfortable, healthier and more beautiful – with heat recovery ventilator technology, central vacuum systems and outdoor lifestyle products. HO N I N D U ST R I E S I n c . 21 HON INDUSTRIES at a Glance Office Furniture The office furniture segment consists of five operating companies marketing under various brand names. Each company is uniquely positioned to focus on distinct market segments and distribution channels. Hearth & Home Technologies The hearth and home segment is organized under a single operating company, Hearth & Home Technologies Inc., which oversees four brands. In late 2002, the company, which is the world’s largest fireplace manufacturer, changed its name from Hearth Technologies Inc. to better reflect an expanded commitment to healthy home and lifestyle offerings. 22 ST R E N G T H S I N TO ST R AT E G Y ® ® ™ ® The HON Company is one of America’s leading providers of workplace solutions, including panel systems, seating, desks, storage files and tables. The company focuses on the transactional and commercial segments of the industry and generally targets small to medium-sized businesses. Allsteel Inc. is one of the industry’s best-recognized brands. It is a leader in the design, manufacture and marketing of modern, purposeful solutions that include panel systems, desks, storage products and seating. Allsteel targets the contract market, which is project-driven and design-oriented. The Gunlocke Company handcrafts high-quality, natural wood office furniture that includes executive case goods, a wide range of seating, lounge furniture ® and conference tables. Its focus is primarily on the contract market. Maxon Furniture Inc. targets small to medium-sized businesses with a broad range of office furniture systems, tables, storage products and seating. It focuses on the commercial and contract markets. In 2002, the BPI® and Panel Concepts® brands were consolidated to create Maxon. Holga Inc. focuses on specialized filing and storage products targeted at the commercial, contract and institutional markets. Its products range from traditional lateral and vertical files to space-efficient high-density shelving, storage and mobile systems uniquely designed to provide application solutions. HON International Inc. is responsible for sales and business development outside of the United States and Canada. It markets select products of the office furniture brands and operates business development offices in global locations. Heatilator is America’s premier fireplace brand, consistently identified as ® the most recognized and preferred brand among home builders. Heatilator has extended beyond its strong hearth offerings to include functional home products engineered to enhance a healthy home environment. ® ™ Heat-N-Glo invented the direct-vent fireplace and continues to be a leader in innovative technology and unique design. The brand strives to create “aspira- tional” fireplace and lifestyle products for all areas of the home, including the family room, kitchen, bedroom and outdoor spaces. Quadra-Fire, which was formerly referred to as Aladdin Hearth Products, is the innovative leader in wood fuel technology and hearth heating products. The brand offers the most complete line of high-efficiency gas-, wood- and pellet-burning hearth products in the industry. Fireside Hearth & Home is a new distribution and retail brand. Covering 10 states, Fireside Hearth & Home provides consumers and builders a systematic sales and installation process with dependable, cost-effective service. This brand was formerly referred to as Hearth Services. Selected New HON® Products: Perpetual™ Seating, which received the “Best Of Show The HON Company Neocon ‘02” award, uses a unique frame design that automatically responds to the user for 200 Oak Street 563.264.7100 enhanced comfort and continual support. The Park Avenue Collection™ offers veneer desks, Muscatine, Iowa 52761 hon.com storage and seating products with sophisticated, traditional styling. Selected New Allsteel® Products: #19™ Seating, winner of several design awards, incorporates Allsteel Inc. the most advanced ergonomic information and technology to date. Landscape™ Surfaces for the 2210 Second Avenue 563.262.4800 Terrace® panel system provides unique expression and customization by allowing designers and Muscatine, Iowa 52761 allsteeloffice.com end-users to vary color, texture and contrast. Selected New Gunlocke® Products: Inspired by the celebrated Adirondack chair, the Seneca™ Chair brings the outside in, landscaping an office with natural beauty and a rich, earthy disposition. Tapas™ Occasional Tables have a checkerboard pattern with opposing grains that The Gunlocke Company One Gunlocke Drive Wayland, New York 14572 800.828.6300 gunlocke.com catch and play with light, underscoring the elegance of any environment. Selected New Maxon™ Products: The Whidbey Executive Chair combines top-grain leather and brushed aluminum with 21st century ergonomics and outstanding quality and style. Maxon Furniture Inc. 21606 86th Place South 800.876.4274 Versé® QuickConnect Connectors simplify the process of specifying and installing Versé Kent, Washington 98031 maxonfurniture.com partitions, making it one of the industry’s most user-friendly products. Selected New Holga® Products: WireFlex™ Chrome Wire Shelving is a flexible utility storage Holga Inc. product that can be configured and accessorized to satisfy endless applications, from box 7901 Woodley Avenue 800.544.4623 storage to home office use. The Holga Deluxe Vertical File offers premium features and smooth, Van Nuys, California 91406 holga.com clean styling to gain acceptance as a designer-caliber product. Selected New HON International Inc. Initiatives: Opened new business development HON International Inc. offices in Singapore, Mexico City and Tokyo with a focus on international opportunities and 200 Oak Street 563.262.7900 supporting customers worldwide. Muscatine, Iowa 52761 honinternational.com Selected New Heatilator® Products: The HRV Integrated Fireplace, a Vesta Award winner, combines the heat recovery function of a fireplace with a home ventilation system to maintain Heatilator 1915 West Saunders Street 800.843.2848 heating efficiency and indoor air quality. The Caliber-nXt Gas Fireplace utilizes innovative flame Mt. Pleasant, Iowa 52641 heatilator.com technology and provides design flexibility with three optional front styles and finishes. Selected New Heat-N-Glo® Products: The GEM-36 and GEM-42 (gas energy masters) are Heat-N-Glo revolutionary hearth products, offering an authentic arched front and a heat management system to fit any lifestyle. Heat-N-Glo Outdoor Living Builder Sets have expanded the family’s 20802 Kensington Boulevard Lakeville, Minnesota 55044 888.427.3973 heatnglo.com living space to the outdoors with fireplaces, grills and firepits. Selected New Quadra-Fire™ Products: The Vesta Award-winning Castile Insert is Quadra- Fire’s first cast-iron pellet insert. It is fully automatic, thermostatically controlled and available Quadra-Fire 1445 North Highway 800.234.2508 in five beautiful finishes. The Topaz, Quadra-Fire’s largest cast-iron direct-vent gas stove and a Colville, Washington 99114 quadrafire.com 2002 Vesta Award finalist, produces up to 40,000 BTUs of clean, efficient heat. Selected New Fireside Hearth & HomeSM Initiatives: In early 2003, Hearth & Home Technologies launched a new Fireside Hearth & Home “destination” retail store concept, which features extensive product offerings displayed in full-room settings. The intent is to help visitors better understand the products and experience how they can be utilized in their own home. Fireside Hearth & Home 20802 Kensington Boulevard Lakeville, Minnesota 55044 800.669.4328 firesideusa.com HO N I N D U ST R I E S I n c . 23 Management’s Discussion and Analysis The following discussion of the Company’s historical results of GROSS PROFIT operations and of its liquidity and capital resources should be read Gross profit dollars decreased 2% to $599.9 million in 2002 from in conjunction with the Consolidated Financial Statements of the $611.3 million in the prior year. The gross margin percentage increased Company and related notes. Results of Operations The following table sets forth the percentage of consolidated net sales represented by certain items reflected in the Company’s state- ments of income for the periods indicated. Fiscal Net sales Cost of products sold Gross profit Selling and administrative expenses Restructuring related charges Operating income Interest expense (net) Income before income taxes Income taxes Net income 2002 100.0% 64.6 35.4 26.8 0.2 8.4 0.1 8.3 2.9 5.4% 2001 100.0% 65.9 34.1 25.9 1.3 6.9 0.4 6.5 2.3 4.2% 2000 100.0% 67.5 32.5 23.8 – 8.7 0.6 8.1 2.9 5.2% The Company has two reportable core operating segments: office furniture and hearth products. The Operating Segment Information note included in the Notes to Consolidated Financial Statements provides more detailed financial data with respect to these two segments. Fiscal Year Ended December 28, 2002, Compared to Fiscal Year Ended December 29, 2001 NET SALES to 35.4% for 2002 from 34.1% in 2001 despite a negative impact from increased steel prices, due to steel tariffs, of approximately $5 million during the second half of the year. The improvement in gross margin was a direct result of the continued net benefits of rapid continuous improvement, business simplification, new product introductions, and restructuring initiatives. During 2002, the Company recognized a loss on asset disposals into cost of products sold in the amount of approx- imately $5 million in relation to its continued rapid continuous improvement initiatives. SELLING AND ADMINISTRATIVE EXPENSES Selling and administrative expenses decreased by 2% to $454.2 mil- lion in 2002 from $464.2 million in 2001. Selling and administrative expenses, as a percent of net sales, increased to 26.8% in 2002 from 25.9% in the prior year. This increase was due to lower overall sales volume, increased investment in brand equity building and new prod- uct development, and increased incentive compensation of which a portion was for a debenture earn-out related to a prior acquisition. Included in 2001 was $9 million of goodwill and certain other intangi- ble amortization that is not included in 2002 due to a change in accounting standards effective December 30, 2001. Selling and administrative expenses include freight expense for ship- ments to customers, product development costs, and amortization expense of intangible assets. The Selling and Administrative Expenses note included in the Notes to Consolidated Financial Statements pro- vides further information regarding the comparative expense levels for these major expense items. Net sales, on a consolidated basis, decreased by 5.6% to $1.69 billion in RESTRUCTURING RELATED CHARGES 2002 from $1.79 billion in 2001. Office furniture net sales decreased During 2002, the Company recorded a pretax charge of approxi- 6.4% in 2002 to $1.28 billion from $1.37 billion in 2001. The decline in mately $5.4 million due to the shutdown of an office furniture facility sales occurred in all sectors. The Business and Institutional Furniture in Jackson, Tennessee. A total of 125 members were terminated and Manufacturer’s Association (BIFMA) reported a decrease in office fur- received severance due to this shutdown. During the second quarter niture shipments of 19% in 2002 compared to 2001. The Company’s of 2002, a restructuring credit of approximately $2.4 million was taken share of the market based on reported office furniture shipments back into income relating to a restructuring charge of $24.0 million increased to 14.4% versus 12.4% in 2001. Net sales of hearth prod- that was recorded in second quarter 2001 for a restructuring plan that ucts decreased 2.9% to $.41 billion in 2002 from $.43 billion in 2001. included consolidating physical facilities, discontinuing low-volume The decrease was mainly due to the effect of pruning out less product lines, and reducing the workforce. This credit was mainly due profitable product lines. to the fact that the Company was able to exit a lease with a lessor at more favorable terms than originally estimated and the Company’s ability to minimize the number of members terminated as compared to the original plan. The Restructuring Related Charges note included in the Notes to Consolidated Financial Statements provides further information. 24 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Management’s Discussion and Analysis OPERATING INCOME GROSS PROFIT Operating income increased 16% to $142.7 million in 2002 from Gross profit dollars decreased 8% to $611.3 million in 2001 $123.1 million in 2001. This increase is due to a $24 million restructur- from $665.9 million in the prior year. The gross margin percentage ing charge in 2001 compared to a $3 million restructuring charge in increased to 34.1% for 2001 from 32.5% in 2000. The improvement 2002 and goodwill and indefinite-lived intangibles amortization of in gross margin percentage is due to new product introductions, $9 million that is not included in 2002 due to a change in accounting and rapid continuous improvement, cost containment, and business standards. Operating profit in the office furniture segment increased simplification initiatives. in 2002 as a percent of net sales to 10.2% compared to 8.2% in 2001. The increase is due to cost reduction, new product introductions, and restructuring initiatives. Operating profit in the hearth products seg- ment as a percent of sales increased to 10.8% compared to 9.2% in 2001 due to discontinuance of goodwill and indefinite-lived intangible amortization of approximately $7 million. NET INCOME SELLING AND ADMINISTRATIVE EXPENSES Selling and administrative expenses decreased by 5% to $464.2 million in 2001 from $487.8 million in the prior year. Selling and administrative expenses, as a percent of net sales, increased to 25.9% in 2001 from 23.8% in 2000. This increase was due to lower overall sales volume, development of new products, and continued investment in sales and marketing expenses associated with the Company’s business simpli- Net income increased by 23% to $91.4 million in 2002 from $74.4 mil- fication, end-user focus, and branding strategies. lion in the prior year. Included in 2001 was $5.8 million of goodwill and other intangible amortization expense that was not included in 2002 due to a change in accounting standards effective December 30, 2001. Also included in 2001 was an after-tax restructuring charge of $15.4 million. Net income in 2002 was favorably impacted by a decrease in interest expense and a decrease in the effective tax rate in the fourth quarter to 35% from 36% in 2001 due to tax benefits Selling and administrative expenses include freight expense for shipments to customers, product development costs, and amortiza- tion expenses of intangible assets. The Selling and Administrative Expenses note included in the Notes to Consolidated Financial Statements provides further information regarding the comparative expense levels for these major expense items. associated with various federal and state tax credits. The Company RESTRUCTURING RELATED CHARGE currently expects the effective tax rate to remain at this level in 2003; During the second quarter of 2001, the Company recorded a pretax however, the resolution of certain federal and state tax credits could charge of $24.0 million, $15.4 million after tax or $0.26 per common further affect the rate. Net income per common share increased by 23% to $1.55 in 2002 from $1.26 in 2001. Fiscal Year Ended December 29, 2001, Compared to Fiscal Year Ended December 30, 2000 NET SALES Net sales, on a consolidated basis, decreased by 12% to $1.8 billion in 2001 from $2.0 billion in 2000. Office furniture net sales decreased 17% in 2001 to $1.37 billion from $1.65 billion in 2000. The decline in sales occurred in the retail, commercial, and contract sectors. The office furniture industry reported a decrease in shipments of 17% in 2001 compared to 2000. Net sales of hearth products increased 8% to $.43 billion in 2001 from $.40 billion in 2000. share, for a restructuring plan that involved consolidating physical facilities, discontinuing low-volume product lines, and reduction of workforce. Included in this charge was the closedown of three of its office furniture facilities located in Williamsport, Pennsylvania; Tupelo, Mississippi; and Santa Ana, California. The charge included $16.2 mil- lion of asset impairments for manufacturing equipment that will be disposed of and $7.8 million of restructuring expenses. Included in the $7.8 million is $3.1 million for severance arising from the elim- ination of approximately 600 plant member positions, $0.8 million for other member-related costs, and $3.9 million for certain other expenses associated with the closing of facilities. The Restructuring Related Charges note included in the Notes to Consolidated Financial Statements provides further information. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 25 Management’s Discussion and Analysis OPERATING INCOME The Company places special emphasis on the management and Operating income decreased almost 31% to $123.1 million in 2001 reduction of its working capital with a particular focus on trade from $178.0 million in 2000. This decrease is due to lower overall receivables and inventory levels. The success achieved in managing sales volume, increased selling and administrative expenses, and a receivables is in large part a result of doing business with quality $24 million restructuring charge. Operating profit in the office furni- customers and maintaining close communications with them. Trade ture segment decreased in 2001 as a percent of net sales to 8.2%, receivables decreased from year-end 2000 levels due to decreased compared to 10.4% in 2000. The decrease is due to lower overall sales volume. The increase at year-end 2002 is due to increased sales sales volume and a $22.5 million restructuring charge. Operating volume in the fourth quarter compared to fourth quarter 2001. Trade profit in the hearth products segment increased in 2001 as a per- receivable days outstanding have averaged approximately 37 days cent of net sales to 9.2% compared to 7.6% in the prior year. This over the past three years. Inventory levels also decreased from year- improvement is due to increased sales volume, simplification of the end 2000 due to decreased sales volume. However, the Company is business structure, and cost containment offset by a $1.5 million able to continue to improve inventory levels and turns as a result of a restructuring charge. NET INCOME Net income decreased by 30% to $74.4 million in 2001 from $106.2 million in the prior year. The decrease is due to lower overall more efficient supply chain. Inventory turns were 23, 18, and 17 for 2002, 2001, and 2000, respectively. The increase in accounts payable and accrued expenses is due to increased accruals for warranty, marketing programs, and incentive based compensation. sales volume, increased selling and administrative expenses, and INVESTMENTS an after-tax restructuring charge of $15.4 million offset by reduced The Company acquired investments in 2002 that consist of interest expense. Net income per common share decreased by 29% to $1.26 in 2001 from $1.77 for 2000. The Company’s net income per share perfor- mance for 2001 benefited from the Company’s common stock repurchase program. Liquidity and Capital Resources During 2002, cash flow from operations was $202.4 million, which provided the funds necessary to meet working capital needs, invest investment grade equity and debt securities. Management classifies investments in marketable securities at the time of purchase and reevaluates such classification at each balance sheet date. Equity securities are classified as available-for-sale and are stated at current market value with unrealized gains and losses included as a separate component of equity, net of any related tax effect. Debt securities are classified as held-to-maturity and are stated at amortized cost. A table of holdings as of year-end 2002 is included in the Cash, Cash Equivalents, and Investments note included in the Notes to Consolidated Financial Statements. in capital improvements, repay long-term debt, repurchase common CAPITAL EXPENDITURE INVESTMENTS stock, and pay increased dividends. Capital expenditures were $25.9 million in 2002, $36.9 million in CASH MANAGEMENT Cash, cash equivalents, and short-term investments totaled $155.5 mil- lion at the end of 2002 compared to $78.8 million at the end of 2001 and $3.2 million at the end of 2000. These funds, coupled with cash from future operations and additional long-term debt, if needed, are 2001, and $59.8 million in 2000. Expenditures during 2002, 2001, and 2000 have been consistently focused on machinery and equipment that is needed to support new products, process improvements, cost- savings initiatives, and creating more efficient production and warehousing capacity. expected to be adequate to finance operations, planned improvement, ACQUISITIONS and internal growth. The Company is not aware of any known trends During 2001, the Company completed the acquisition of three small or demands, commitments, events, or uncertainties that are reason- hearth products distributors for a total purchase price of approximately ably likely to result in its liquidity increasing or decreasing in any $7.6 million. The acquisitions were accounted for using the purchase material way. method, and the results of the three distributors have been included in the Company’s financial statements since the date of acquisition. 26 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Management’s Discussion and Analysis On February 29, 2000, the Company completed the acquisition Other long-term obligations include $14,537,000 of future minimum of two leading hearth products distributors, American Fireplace payments under a transportation agreement, $266,000 of financial Company (AFC) and the Allied Group (Allied), establishing the guarantees with customers, $9,757,000 earn-out on convertible Company as the leading manufacturer and distributor in the hearth debentures included in current liabilities, and $7,796,000 of payments products industry, for a purchase price of approximately $135 million. included in long-term liabilities, due to members who are participants LONG-TERM DEBT in the Company’s salary deferral program. Long-term debt, including capital lease obligations, was 2% of total RELATED PARTY TRANSACTIONS capitalization at December 28, 2002, 12% at December 29, 2001, and The Company has convertible debentures, with earn-out features, in 18% at December 30, 2000. The reduction in long-term debt during the amount of $40.4 million that are payable to former owners of 2002 was due to debentures from an acquisition now being classified businesses that were acquired by the Company. These individuals as current liabilities based on current due date and the retirement of remain as members of the Company following the acquisitions. The Industrial Revenue Bonds and Urban Development Action Grants. The obligation associated with the earn-out provision is approximately Company does not expect future capital resources to be a constraint $9.8 million at December 28, 2002. on planned growth. Additional borrowing capacity of $136 million, less amounts used for designated letters of credit, is available through a revolving bank credit agreement in the event cash generated from operations should be inadequate to meet future needs. Certain of the Company’s credit agreements include covenants that limit the The Company has operating leases for office and production facilities with annual rentals totaling $450,000 with the former owners of a business acquired in 1996. One of these individuals continues as an officer of a subsidiary of the Company following the acquisition. assumption of additional debt and lease obligations. The Company CASH DIVIDENDS has been and currently is in compliance with the covenants related Cash dividends were $0.50 per common share for 2002, $0.48 to the debt agreements. CONTRACTUAL OBLIGATIONS The following table discloses the Company’s obligations and commit- ments to make future payments under contracts: (In thousands) Long-term debt Capital lease obligations Operating leases Other long-term obligations Total Payments Due by Period Less than 1 year 1–3 years Total $÷49,117 40,564 5,946 4 –5 years 161 After 5 years 2,446 2,041 269 535 1,237 – 63,495 14,128 21,346 12,287 15,734 32,356 15,802 11,496 848 4,210 $147,009 70,763 39,323 14,533 22,390 for 2001, and $0.44 for 2000. Further, the Board of Directors announced a 4.0% increase in the quarterly dividend from $0.125 to $0.13 per common share effective with the February 28, 2003, dividend payment for shareholders of record at the close of business February 21, 2003. The previous quarterly dividend increase was from $0.12 to $0.125, effective with the March 1, 2002, dividend pay- ment for shareholders of record at the close of business February 22, 2002. A cash dividend has been paid every quarter since April 15, 1955, and quarterly dividends are expected to continue. The average dividend payout percentage for the most recent three-year period has been 31% of prior year earnings. COMMON SHARE REPURCHASES During 2002, the Company repurchased 614,580 shares of its common stock at a cost of approximately $15.7 million, or an average price of $25.60. The Board of Directors authorized an additional $100.0 million on February 14, 2001, for repurchases of the Company’s common stock. As of December 28, 2002, approximately $62.8 million remained unspent. During 2001, the Company repurchased 1,472,937 shares at a cost of approximately $35.1 million, or an average price of $23.80. During 2000, the Company repurchased 837,552 shares at a cost of approximately $18.0 million, or an average price of $21.46. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 27 Management’s Discussion and Analysis LITIGATION AND UNCERTAINTIES Inventory valuation – The Company values its inventory at the lower The Company has contingent liabilities that have arisen in the of cost or market primarily by the last-in, first-out (LIFO) method. course of its business, including pending litigation, preferential Additionally, the Company evaluates its inventory reserves in terms payment claims in customer bankruptcies, environmental remedi- of excess and obsolete exposures. This evaluation includes such ation, taxes, and other claims. The Company currently has one factors as anticipated usage, inventory turnover, inventory levels, preferential payment claim outstanding totaling approximately and ultimate product sales value. As such, these factors may change $7.6 million. The Company intends to vigorously contest this claim; over time causing the reserve level to adjust accordingly. however, the ultimate outcome or likelihood of this specific claim cannot be determined at this time. It is our opinion, after consultation with legal counsel, that additional liabilities, if any, resulting from these matters are not expected to have a material adverse effect on our financial condition, although such matters could have a material effect on our quarterly or annual operating results and cash flows when resolved in a future period. CRITICAL ACCOUNTING POLICIES The Company’s critical accounting policies include: Revenue recognition – The Company normally recognizes revenue upon the shipment of goods. In certain circumstances revenue is Long-lived assets – Long-lived assets are reviewed for impairment as events or changes in circumstances occur indicating that the amount of the asset reflected in the Company’s balance sheet may not be recoverable. An estimate of undiscounted cash flows produced by the asset, or the appropriate group of assets, is compared to the carrying value to determine whether impairment exists. The estimates of future cash flows involve considerable management judgment and are based upon assumptions about expected future operating performance. The actual cash flows could differ from management’s estimates due to changes in business conditions, operating perfor- mance, and economic conditions. not recognized until the goods are received by the customer or Goodwill and other intangibles – The Company adopted Statement upon installation and customer acceptance based on the terms of of Financial Accounting Standards (SFAS) No. 142, “Goodwill and the sale agreement. Revenue includes freight charged to customers; Other Intangible Assets,” on December 30, 2001, the beginning of its related costs are included in selling and administrative expense. 2002 fiscal year. The Company has determined that the fair value of its Rebates, discounts, and other marketing program expenses that reporting units exceeds the carrying values and therefore, no impair- are directly related to the sale are recorded as a deduction to net ment of goodwill was recorded. The impairment tests performed sales. Marketing program accruals require the use of management require that the Company determine the fair market value of its trade- estimates and the consideration of contractual arrangements that marks and the fair market value of its reporting units for comparison are subject to interpretation. Customer sales that reach certain award to the carrying value of such net assets to assess whether an impair- levels can affect the amount of such estimates, and actual results ment exists. The methodologies used to estimate fair market value could differ from these estimates. Allowance for doubtful accounts – The allowance for receivables is developed based on several factors including overall customer credit quality, historical write-off experience, and specific account analyses involve the use of estimates and assumptions, including projected cash flows, royalty rates, and discount rates. Also pursuant to the standard, the Company has ceased recording goodwill and indefinite-lived intangibles amortization in 2002. that project the ultimate collectibility of the account. As such, these Self-insurance reserves – The Company is partially self-insured factors may change over time causing the reserve level to adjust for general liability, workers’ compensation, and certain employee accordingly. Additionally, in certain circumstances the Company may health benefits. The general and workers’ compensation liabilities be subject to preferential payment claims that arise in customer are managed through a wholly owned insurance captive; the related bankruptcies, for which the ultimate outcome cannot be estimated liabilities are included in the accompanying financial statements. and for which an estimated loss cannot be recorded until it is deter- The Company’s policy is to accrue amounts equal to the actuarially mined to be probable and reasonably estimable. determined liabilities. The actuarial valuations are based on historical information along with certain assumptions about future events. Changes in assumptions for such matters as legal actions, medical costs, and changes in actual experience could cause these estimates to change in the near term. 28 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Management’s Discussion and Analysis Looking Ahead Global Insight (formerly DRI-WEFA), the Business and Institutional Furniture Manufacturer’s Association (BIFMA) forecasting consultant, is projecting the office furniture industry to be up over 5% in 2003 compared to 2002, with a 2% decline in the first quarter in its fore- cast dated January 15, 2003. The Company expects to continue to outperform the industry; however, management anticipates that the unstable political and economic conditions will continue to challenge growth and profitability during the first half of 2003. The two primary channels for hearth products are the new home construction channel and the remodel/retail channel. Indications are that the housing market will remain at the current healthy level while the retail side, which is dependent on consumer confidence, is being hampered by political instability. The Company feels that the first half of the year will be challenging for this segment as well. The Company is optimistic about the growth opportunities from new products and brand extensions into new markets. These markets include outdoor living products such as outdoor cooking systems and healthy home products such as a heat recovery system and a central vacuum system. The Company continues to see pressure on gross margins due to increased steel prices as a result of steel tariffs that were enacted in 2002. The Company continues to work to mitigate the potential nega- tive impact through various initiatives, including alternative materials and suppliers. The Company continues to focus on long-term shareholder value by making investments for the future. These investments include new products, building brand equity, investigating new markets, and expanding distribution. RECENT ACCOUNTING PRONOUNCEMENTS During 2002, the Financial Accounting Standards Board finalized SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” for exit and disposal activities that are initiated after December 31, 2002. This Statement requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. The Financial Accounting Standards Board also issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure,” during 2002. This Statement amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation and amends the disclosure requirements to require prominent disclosure in both annual and interim financial statements about the method of account- ing for stock-based employee compensation and the effect of the method used on reported results. The Company adopted the disclo- sure requirements of this Statement as of December 28, 2002. The Financial Accounting Standards Board also issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others”. FIN 45 clarifies the requirements of SFAS No. 5, “Accounting for Contingencies,” relating to the guarantor’s accounting for and disclo- sure of the issuance of certain types of guarantees. The provisions for initial recognition and measurement are effective on a prospective basis for guarantees that are issued or modified after December 31, 2002. The disclosure provisions are effective for financial statements with years ending after December 15, 2002. The Company has included these disclosures in the Warranty and the Commitments and Contingencies notes. During 2001, the Financial Accounting Standards Board finalized SFAS No. 143, “Accounting for Asset Retirement Obligations,” and SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”. The Company adopted Statement No. 144 on December 30, 2001, the beginning of its 2002 fiscal year. The Company intends to adopt Statement No. 143 on December 29, 2002, the beginning of its 2003 fiscal year. The adoption of SFAS No. 143 is not expected to have a material impact on the Company’s financial statements. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 29 Consolidated Statements of Income (Amounts in thousands, except for per share data) For the Years 2002 2001 2000 Net sales Cost of products sold Gross profit Selling and administrative expenses Restructuring related charges Operating income Interest income Interest expense Income before income taxes Income taxes Net income Net income per common share – basic and diluted The accompanying notes are an integral part of the consolidated financial statements. $1,692,622 1,092,743 $1,792,438 1,181,140 $2,046,286 1,380,404 599,879 454,189 3,000 142,690 2,578 4,714 140,554 49,194 611,298 464,206 24,000 123,092 1,717 8,548 116,261 41,854 665,882 487,848 – 178,034 1,945 14,015 165,964 59,747 $÷÷«91,360 $÷÷«74,407 $÷«106,217 $÷÷÷÷«1.55 $÷÷÷÷«1.26 $÷÷÷÷«1.77 30 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Consolidated Balance Sheets (Amounts in thousands of dollars and shares) As of Year-End 2002 2001 2000 Assets Current Assets Cash and cash equivalents Short-term investments Receivables Inventories Deferred income taxes Prepaid expenses and other current assets Total current assets Property, plant, and equipment Goodwill Other assets Total assets Liabilities and Shareholders’ Equity Current Liabilities Accounts payable and accrued expenses Income taxes Note payable and current maturities of long-term debt Current maturities of other long-term obligations Total current liabilities Long-term debt Capital lease obligations Other long-term liabilities Deferred income taxes Commitments and contingencies Shareholders’ Equity Preferred stock – $1 par value Authorized: 1,000 Issued: None Common stock – $1 par value Authorized: 200,000 Issued and outstanding: 2002 – 58,374; 2001– 58,673; 2000 – 59,797 Additional paid-in capital Retained earnings Accumulated other comprehensive income Total shareholders’ equity Total liabilities and shareholders’ equity The accompanying notes are an integral part of the consolidated financial statements. $÷«139,165 $÷78,838 $÷÷÷«3,181 16,378 181,096 46,823 10,101 11,491 405,054 353,270 192,395 69,833 – 161,390 50,140 14,940 14,349 319,657 404,971 214,337 22,926 – 211,243 84,360 19,516 11,841 330,141 454,312 216,371 21,646 $1,020,552 $961,891 $1,022,470 $÷«252,145 $216,184 $÷«240,540 3,740 41,298 1,497 298,680 8,553 1,284 28,028 37,114 6,112 6,715 1,432 230,443 79,570 1,260 18,306 39,632 12,067 10,408 1,853 264,868 126,093 2,192 18,749 37,226 – – – 58,374 58,673 59,797 – – 549 587,731 239 646,893 – – 891 532,555 561 592,680 – – 17,339 495,796 410 573,342 $1,020,552 $961,891 $1,022,470 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 31 Consolidated Statements of Shareholders’ Equity (Amounts in thousands) Balance, January 1, 2000 Comprehensive income: Net income Other comprehensive income Comprehensive income Cash dividends Common shares – treasury: Shares purchased Shares issued under Members Stock Purchase Plan and stock awards Balance, December 30, 2000 Comprehensive income: Net income Other comprehensive income Comprehensive income Cash dividends Common shares – treasury: Shares purchased Shares issued under Members Stock Purchase Plan and stock awards Balance, December 29, 2001 Comprehensive income: Net income Other comprehensive income (loss) Comprehensive income Cash dividends Common shares – treasury: Shares purchased Shares issued under Members Stock Purchase Plan and stock awards Balance, December 28, 2002 Common Stock $60,172 Additional Paid-in Capital $«24,981 (838) 463 59,797 (17,135) 9,493 17,339 Retained Earnings $416,034 106,217 (26,455) Accumulated Other Comprehensive Income Total Shareholders’ Equity $÷«84 $501,271 326 106,217 326 106,543 (26,455) (17,973) 9,956 495,796 410 573,342 74,407 (28,373) 151 (1,473) (24,311) (9,275) 74,407 151 74,558 (28,373) (35,059) 8,212 349 58,673 7,863 891 (614) 315 (8,324) 7,982 532,555 561 592,680 (322) 91,360 (29,386) (6,798) 91,360 (322) 91,038 (29,386) (15,736) 8,297 $58,374 $÷÷÷549 $587,731 $«239 $646,893 The accompanying notes are an integral part of the consolidated financial statements. 32 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Consolidated Statements of Cash Flows (Amounts in thousands) For the Years 2002 2001 2000 Net Cash Flows From (To) Operating Activities Net income Noncash items included in net income: Depreciation and amortization Other postretirement and postemployment benefits Deferred income taxes Loss on sales, retirements and impairments of property, plant and equipment Stock issued to retirement plan Other – net Changes in working capital, excluding acquisition and disposition: Receivables Inventories Prepaid expenses and other current assets Accounts payable and accrued expenses Income taxes Increase (decrease) in other liabilities Net cash flows from (to) operating activities Net Cash Flows From (To) Investing Activities Capital expenditures Capitalized software Acquisition spending, net of cash acquired Short-term investments – net Long-term investments Other – net Net cash flows from (to) investing activities Net Cash Flows From (To) Financing Activities Purchase of HON INDUSTRIES common stock Proceeds from long-term debt Payments of note and long-term debt Proceeds from sale of HON INDUSTRIES common stock to members Dividends paid Net cash flows from (to) financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Cash and cash equivalents at end of year Supplemental Disclosures of Cash Flow Information Cash paid during the year for: Interest Income taxes The accompanying notes are an integral part of the consolidated financial statements. $÷91,360 $÷«74,407 $«106,217 68,755 2,246 2,321 8,976 5,750 2,613 (19,414) 2,348 2,431 37,857 (2,370) (482) 202,391 (25,885) (65) – (16,377) (22,493) 924 (63,896) (15,736) 825 (35,967) 2,096 (29,386) (78,168) 60,327 78,838 139,165 81,385 1,757 6,962 16,200 – 109 47,897 35,048 (1,661) (26,149) (5,957) (2,198) 227,800 (36,851) (1,757) (8,748) – – 343 79,046 1,572 (7,213) – – 90 3,961 6,410 (1,616) 5,483 11,808 (838) 204,920 (59,840) (2,192) (134,696) – – (3) (47,013) (196,731) (35,059) 36,218 (87,365) 9,449 (28,373) (105,130) 75,657 3,181 78,838 (17,973) 155,181 (147,458) 9,529 (26,455) (27,176) (18,987) 22,168 3,181 $÷÷5,062 $÷48,598 $÷÷«8,646 $÷«40,916 $÷«13,395 $÷«54,634 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 33 Notes to Consolidated Financial Statements Nature of Operations HON INDUSTRIES Inc., with its subsidiaries (the Company), is a provider of office furniture and hearth products. Both industries and U.S. treasury notes. Long-term investments include U.S. govern- ment securities, municipal bonds, certificates of deposit, and asset- and mortgage-backed securities. are reportable segments; however, the Company’s office furniture At December 28, 2002, cash, cash equivalents, and investments business is its principal line of business. Refer to the Operating consisted of the following (cost approximates market value): Segment Information note for further information. Office furniture products are sold through a national system of dealers, wholesalers, (In thousands) mass merchandisers, warehouse clubs, retail superstores, end-user Held-to-Maturity Securities Cash and Cash Equivalents Short-term Investments Long-term Investments customers, and to federal and state governments. Dealer, wholesaler, Municipal bonds $÷82,300 $÷1,900 and retail superstores are the major channels based on sales. Hearth U.S. government securities products include electric, wood-, pellet-, and gas-burning factory-built fireplaces, fireplace inserts, stoves, and gas logs. These products are sold through a national system of dealers, wholesalers, large regional contractors, and Company-owned retail outlets. The Company’s prod- ucts are marketed predominantly in the United States and Canada. The Company exports select products to a limited number of markets outside North America, principally Latin America and the Caribbean, through its export subsidiary; however, based on sales, these activ- ities are not significant. Summary of Significant Accounting Policies PRINCIPLES OF CONSOLIDATION AND FISCAL YEAR-END Certificates of deposit Available -for-Sale Securities U.S. treasury notes Money market preferred stock Asset and mortgage-backed securities – – – – – – – 3,478 11,000 – – $÷5,396 11,995 400 – – 7,098 – Cash and money market accounts 56,865 Total $139,165 $16,378 $24,889 The 2001 and 2000 cash and cash equivalents generally consisted of cash and commercial paper. RECEIVABLES Accounts receivables are presented net of an allowance for doubtful accounts of $9,570,000, $16,576,000, and $11,237,000 for 2002, The consolidated financial statements include the accounts and 2001, and 2000, respectively. transactions of the Company and its subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation. INVENTORIES Inventories are valued at the lower of cost or market, determined The Company’s fiscal year ends on the Saturday nearest December 31. principally by the last-in, first-out (LIFO) method. Fiscal year 2002 ended on December 28, 2002; 2001 ended on December 29, 2001; and 2000 ended on December 30, 2000. CASH, CASH EQUIVALENTS AND INVESTMENTS PROPERTY, PLANT, AND EQUIPMENT Property, plant, and equipment are carried at cost. Depreciation has been computed using the straight-line method over estimated useful Cash and cash equivalents generally consist of cash, money market lives: land improvements, 10 –20 years; buildings, 10–40 years; and accounts, and debt securities. These securities have original maturity machinery and equipment, 3 –12 years. dates not exceeding three months from date of purchase. The Company has short-term investments with maturities of less than one year and also has investments with maturities greater than one year that are included in Other Assets on the consolidated balance sheet. Management classifies investments in marketable securities at the time of purchase and reevaluates such classification at each balance sheet date. Equity securities are classified as available-for- sale and are stated at current market value with unrealized gains and losses included as a separate component of equity, net of any related tax effect. Debt securities are classified as held-to-maturity and are stated at amortized cost. The specific identification method is used to determine realized gains and losses on the trade date. Short-term investments include municipal bonds, money market preferred stock, LONG-LIVED ASSETS Long-lived assets are reviewed for impairment as events or changes in circumstances occur indicating that the amount of the asset reflected in the Company’s balance sheet may not be recoverable. An estimate of undiscounted cash flows produced by the asset, or the appropriate group of assets, is compared to the carrying value to determine whether impairment exists. The estimates of future cash flows involve considerable management judgment and are based upon assumptions about expected future operating performance. The actual cash flows could differ from management’s estimates due to changes in business conditions, operating performance, and economic conditions. Asset impairment charges connected with the Company’s restructuring activities are discussed in the Restructuring Related Charges note. 34 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Notes to Consolidated Financial Statements These assets included real estate, manufacturing equipment, and REVENUE RECOGNITION certain other fixed assets. The Company’s continuous focus on improv- Revenue is normally recognized upon shipment of goods to ing the manufacturing process tends to increase the likelihood of customers. In certain circumstances revenue is not recognized assets being replaced; therefore, the Company is constantly evaluating until the goods are received by the customer or upon installation and the expected lives of its equipment. The Company recorded losses on customer acceptance based on the terms of the sale agreement. the disposal of assets in the amount of approximately $5 million during Revenue includes freight charged to customers; related costs are in 2002 as a result of its continuous rapid improvement initiatives. selling and administrative expense. Rebates, discounts, and other GOODWILL AND OTHER INTANGIBLE ASSETS The Company adopted Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets,” on December 30, 2001, the beginning of its 2002 fiscal year. marketing program expenses that are directly related to the sale are recorded as a deduction to net sales. Marketing program accruals require the use of management estimates and the consideration of contractual arrangements that are subject to interpretation. Customer sales that reach certain award levels can affect the amount of such The Company has determined that the fair value of its reporting estimates, and actual results could differ from these estimates. units exceeds the carrying values and therefore, no impairment of goodwill was recorded. The impairment tests performed require that the Company determine the fair market value of its trademarks and the fair market value of its reporting units for comparison to the carry- ing value of such net assets to assess whether an impairment exists. The methodologies used to estimate fair market value involve the use of estimates and assumptions, including projected cash flows, royalty rates, and discount rates. Also pursuant to the standard, the Company PRODUCT DEVELOPMENT COSTS Product development costs relating to the development of new products and processes, including significant improvements and refinements to existing products, are expensed as incurred. These costs include salaries, contractor fees, building costs, utilities, and administrative fees. The amounts charged against income were $25,849,000 in 2002, $21,415,000 in 2001, and $18,911,000 in 2000. has ceased recording goodwill and indefinite-lived intangibles amor- STOCK- BASED COMPENSATION tization in 2002. PRODUCT WARRANTIES The Company issues certain warranty policies on its furniture and hearth products that provide for repair or replacement of any covered product or component that fails during normal use because of a defect in design, materials, or workmanship. A warranty reserve is determined by recording a specific reserve for known warranty issues and an additional reserve for unknown claims that are expected to be incurred based on historical claims experience. Actual claims incurred could differ from the original esti- mates, requiring adjustments to the reserve. Activity associated with warranty obligations was as follows in 2002: (In thousands) Balance at the beginning of the period Accruals for warranties issued during the period Accrual related to pre-existing warranties Settlements made during the period Balance at the end of the period $«5,632 6,542 2,686 (6,455) $«8,405 The Company accounts for its stock option plan using Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” which results in no charge to earnings when options are issued at fair market value. The Company has adopted the disclo- sure requirements of SFAS No. 123, “Accounting for Stock-Based Compensation,” as amended by SFAS No.148, “Accounting for Stock-Based Compensation – Transition and Disclosure.” INCOME TAXES The Company accounts for income taxes under SFAS No. 109, “Accounting for Income Taxes.” This Statement uses an asset and liability approach that requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in the Company’s financial statements or tax returns. Deferred income taxes are provided to reflect the differences between the tax bases of assets and liabilities and their reported amounts in the financial statements. EARNINGS PER SHARE Basic earnings per share are based on the weighted-average number of common shares outstanding during the year. Shares potentially issuable under options have been considered outstanding for purposes of the diluted earnings per share calculation. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 35 Notes to Consolidated Financial Statements USE OF ESTIMATES The Financial Accounting Standards Board also issued Interpretation The preparation of financial statements in conformity with accounting No. 45, “Guarantor’s Accounting and Disclosure Requirements for principles generally accepted in the United States requires manage- Guarantees, Including Indirect Guarantees of Indebtedness to Others.” ment to make estimates and assumptions that affect the amounts FIN 45 clarifies the requirements of SFAS No. 5, “Accounting for reported in the financial statements and accompanying notes. The Contingencies,” relating to the guarantor’s accounting for and disclo- more significant areas requiring the use of management estimates sure of the issuance of certain types of guarantees. The provisions relate to allowance for doubtful accounts, inventory reserves, market- for initial recognition and measurement are effective on a prospective ing program accruals, warranty accruals, accruals for self-insured basis for guarantees that are issued or modified after December 31, medical claims, workers’ compensation, general liability and auto 2002. The disclosure provisions are effective for financial statements insurance claims, and useful lives for depreciation and amortization. with years ending after December 15, 2002. The Company has Actual results could differ from those estimates. included these disclosures in the Warranty and the Commitments SELF- INSURANCE and Contingencies notes. The Company is partially self-insured for general liability, workers’ During 2001, the Financial Accounting Standards Board finalized SFAS compensation, and certain employee health benefits. The general No. 143, “Accounting for Asset Retirement Obligations,” and SFAS and workers’ compensation liabilities are managed through a wholly No. 144, “Accounting for the Impairment or Disposal of Long-Lived owned insurance captive; the related liabilities are included in the Assets.” The Company adopted Statement No. 144 on December 30, accompanying consolidated financial statements. The Company’s pol- 2001, the beginning of its 2002 fiscal year. The Company intends to icy is to accrue amounts equal to the actuarially determined liabilities. adopt Statement No. 143 on December 29, 2002, the beginning of The actuarial valuations are based on historical information along with its 2003 fiscal year. The adoption of SFAS No. 143 is not expected to certain assumptions about future events. Changes in assumptions for have a material impact on the Company’s financial statements. such matters as legal actions, medical costs, and changes in actual experience could cause these estimates to change in the near term. In 2000, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 00 -10, “Accounting for Shipping and Handling Fees and RECENT ACCOUNTING PRONOUNCEMENTS Costs,” that all amounts billed to a customer in a sale transaction During 2002, the Financial Accounting Standards Board finalized related to shipping and handling, if any, represent revenues earned for SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal the goods provided and should be classified as revenue. The Company Activities,” for exit and disposal activities that are initiated after implemented the above EITF consensus effective with the fourth December 31, 2002. This Statement requires that a liability for a quarter of 2000 and has restated prior periods to reflect the change. cost associated with an exit or disposal activity be recognized when The adoption of this consensus did not have a material impact on the the liability is incurred. The Financial Accounting Standards Board also issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure,” during 2002. This Statement amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based Company’s financial statements. In 1998, the Financial Accounting Standards Board issued SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” which was amended in June 2000 by SFAS No. 138. The Company adopted this Statement in January 2001 as required by the Statement. The adoption of this Statement did not have any impact on the Company’s financial statements. method of accounting for stock-based employee compensation and RECLASSIFICATIONS amends the disclosure requirements to require prominent disclosure Certain amounts in 2000 have been reclassified to conform to the in both annual and interim financial statements about the method of 2001 presentation. accounting for stock-based employee compensation and the effect of the method used on reported results. The Company adopted the dis- closure requirements of this Statement as of December 28, 2002. 36 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Notes to Consolidated Financial Statements Restructuring Related Charges During 2002, the Company recorded a pretax charge of approxi- mately $5.4 million due to the shutdown of an office furniture facility in Jackson, Tennessee. A total of 125 members were terminated and received severance due to this shutdown. acquired AFC and Allied for approximately $135 million in cash and debt including acquisition costs. The acquisition has been accounted for using the purchase method, and the results of AFC and Allied have been included in the Company’s financial statements since the date of acquisition. Management finalized its integration plan related to the acquisition during the first quarter of 2001. The excess of the During the second quarter of 2001, the Company recorded a pretax consideration paid over the fair value of the business of $21 million charge of $24.0 million or $0.26 per diluted share for a restructuring was recorded as goodwill and was being amortized on a straight-line plan that involved consolidating physical facilities, discontinuing basis over 20 years through December 29, 2001. low-volume product lines, and reductions of workforce. Included in the charge was the closedown of three of its office furniture facilities located in Williamsport, Pennsylvania; Tupelo, Mississippi; and Santa Ana, California. During the second quarter of 2002, a restructuring credit of approximately $2.4 million was taken back into income relating to this charge. This was mainly due to the fact that the Company was able to exit a lease with a lessor at more favorable terms than originally estimated and the Company’s ability to minimize the number of members terminated as compared to the original plan. The following table details the change in restructuring reserve for the last two years: Assuming the acquisition of American Fireplace Company and Allied Group had occurred on January 2, 2000, the beginning of the Company’s 2000 fiscal year, instead of the actual dates reported above, the Company’s pro forma consolidated net sales would have been approximately $2.1 billion for 2000. Pro forma consolidated net income and net income per share for 2000 would not have been materially different than the reported amounts. Inventories (In thousands) Finished products 2002 2001 2000 $«30,747 $33,280 $«48,990 26,266 (10,190) 26,469 (9,609) 46,497 (11,127) $«46,823 $50,140 $«84,360 (In thousands) Other Member Related Costs Facility Termination and Other Costs Asset Impairment Write- downs Severance Costs Materials and work in process LIFO reserve Total Restructuring reserve at December 31, 2000 $÷÷÷÷– 3,090 Restructuring charge Cash payments Charge against assets (2,322) – Restructuring reserve at December 29, 2001 $÷÷768 737 Restructuring charge Restructuring credit Cash payments Charge against assets Restructuring reserve (852) (653) – $÷÷÷÷– $÷÷÷÷– $÷÷÷÷÷– $÷÷÷÷÷– 850 (433) – 3,860 (2,328) 16,200 – 24,000 (5,083) Property, Plant, and Equipment – (16,200) (16,200) (In thousands) 2002 2001 2000 $÷÷417 $«1,532 $÷÷÷÷÷– $÷«2,717 – (366) (51) – 3,328 (1,147) (1,526) 1,300 – – – (1,300) 5,365 (2,365) (2,230) (1,300) Land and land improvements $÷21,566 $÷21,678 $÷18,808 Buildings Machinery and equipment Construction and equipment installation in progress Less: allowances for depreciation 208,124 494,354 10,227 734,271 381,001 212,352 494,458 14,247 742,735 337,764 202,189 514,293 27,547 762,837 308,525 $353,270 $404,971 $454,312 at December 28, 2002 $÷÷÷÷– $÷÷÷÷– $«2,187 $÷÷÷÷÷– $÷«2,187 Business Combinations During 2001, the Company completed the acquisition of three small hearth products distributors for a total purchase price of approximately $7.6 million. The acquisitions were accounted for using the purchase method, and the results of the three distributors have been included in the Company’s financial statements since the date of acquisition. Goodwill and Other Intangible Assets The Company adopted Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets,” on December 30, 2001, the beginning of its 2002 fiscal year. Pursuant to this standard, the Company has completed an assessment of the categorization of its existing intangible assets and goodwill. In addition, On February 29, 2000, the Company completed the acquisition of the Company completed an analysis of the fair value of its reporting its Hearth Services division, which consists of two leading hearth units using both a discounted cash flow analysis and market multiple products distributors, American Fireplace Company (AFC) and the approach and has determined that the fair value of its reporting units Allied Group (Allied), establishing the Company as the leading manu- exceeds the carrying values and therefore, no impairment of good- facturer and distributor in the hearth products industry. The Company will was recorded. Also pursuant to the standard, the Company has ceased recording of goodwill and indefinite-lived intangibles amorti- zation in 2002. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 37 Notes to Consolidated Financial Statements The Company also owns a trademark having a net value of $8.1 mil- The goodwill increase in 2002 relates to additional purchase consider- lion as of December 28, 2002 and December 29, 2001. The trademark ation associated with debentures issued in connection with a prior had a net carrying amount of $8.3 million as of December 30, 2000. acquisition. The fair value of the trademark exceeds the carrying value of the trademark and thus, no impairment was recorded. The trademark is deemed to have an indefinite useful life because it is expected to generate cash flows indefinitely. The Company ceased amortizing the trademark in 2002. The table below summarizes amortizable definite-lived intangible assets, which are reflected in Other Assets in the Company’s consol- idated balance sheets: (In thousands) Patents License agreements and other Less: accumulated amortization Net intangible assets The following schedule reports the adjusted net income for the goodwill and indefinite-lived trademark amortization effect: (In thousands) Reported net income 2002 2001 2000 $91,360 $74,407 $106,217 Add back: Goodwill amortization, net of tax Add back: Trademark amortization, net of tax Adjusted net income Basic and diluted earnings per share: – – 5,611 4,742 149 149 $91,360 $80,167 $111,108 Reported net income $÷÷1.55 $÷÷1.26 $÷÷÷1.77 2002 $16,450 26,076 13,980 Goodwill and trademark amortization, net of tax $28,546 Adjusted net income – .10 .08 $÷÷1.55 $÷÷1.36 $÷÷÷1.85 Amortization expense for definite-lived intangibles for 2002, 2001, and 2000 was $2,690,100, $2,200,200, and $2,124,700, respectively. Amortization expense is estimated to be approximately $2.7 million per year for each of the next five years. Accounts Payable and Accrued Expenses (In thousands) 2002 2001 2000 Trade accounts payable Compensation The goodwill at December 29, 2001, included other intangible Profit sharing and retirement expense assets that are required to be accounted for as assets apart from goodwill under SFAS No. 142. The following table summarizes the reclassification: Vacation pay Marketing expenses Casualty self-insurance expense Other accrued expenses Net Book Value 12/29/01 SFAS 142 Reclassification Net Book Value as Modified for SFAS 142 12/29/01 $214,337 $(27,643) $186,694 Long-Term Debt (In thousands) Goodwill License agreements and other (included in Other Assets) Trademarks (included in Other Assets) Patents Total 3,049 – 8,574 19,564 8,079 – 22,613 8,079 8,574 $225,960 $÷÷÷÷÷– $225,960 $÷66,204 $÷53,660 $÷67,540 20,686 26,788 14,095 59,224 10,973 54,175 13,663 26,020 13,881 54,861 17,189 36,910 15,781 25,041 14,560 65,931 12,216 39,471 $252,145 $216,184 $240,540 (In thousands) 2002 2001 2000 Industrial development revenue bonds, various issues, payable through 2018 with interest at 1.49 –5.40% per annum Note payable to bank, revolving credit agreement with interest at a variable rate* Convertible debentures payable to individuals, due in 2003 with interest at 5.5% per annum Total Other notes and amounts Total debt Less: Current portion Long-term debt $÷7,938 $23,995 $÷24,633 – – 46,000 40,443 736 49,117 40,564 58,074 3,285 85,354 5,784 58,074 5,673 134,380 8,287 $÷8,553 $79,570 $126,093 * Borrowings under the Company’s $200,000,000 revolving bank credit agreement were repaid in full in 2001; however, the credit line remained available until June 2002. In May 2002, the Company entered into a new $136,000,000, four-year revolving bank credit agreement. The changes in the carrying amount of goodwill since December 29, 2001 are as follows by reporting segment: (In thousands) Balance as of December 29, 2001 Office Furniture Hearth Products (after SFAS 142 reclassification) $43,611 $143,083 $186,694 Goodwill increase during period Net goodwill disposed of during period – 5,710 (9) 5,710 (9) Balance as of December 28, 2002 $43,611 $148,784 $192,395 38 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Notes to Consolidated Financial Statements Aggregate maturities of long-term debt are as follows: A reconciliation of the statutory federal income tax rate to the (In thousands) 2003 2004 2005 2006 2007 Thereafter Company’s effective income tax rate is as follows: $40,564 242 5,704 102 59 2,446 Federal statutory tax rate State taxes, net of federal tax effect Credit for increasing research activities Extraterritorial income exclusion Other – net Effective tax rate 2002 35.0 % 1.6 (1.6) (1.0) 1.0 35.0 % 2001 35.0 % 1.6 – – (0.6) 36.0 % 2000 35.0 % 1.5 – – (0.5) 36.0 % The convertible debentures are payable to the former owners of businesses that were acquired by the Company. These individuals continue as members of the Company following the acquisitions. The convertible debentures are convertible into cash. The debentures contain certain conversion features that are recorded as earned. Certain of the above borrowing arrangements include covenants which limit the assumption of additional debt and lease obligations. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax liabilities and assets are as follows: (In thousands) 2002 2001 2000 The Company has been and currently is in compliance with the Net long-term deferred tax liabilities: covenants related to these debt agreements. The fair value of the Tax over book depreciation $(34,398) $(38,759) $(37,509) Company’s outstanding long-term debt obligations at year-end 2002 approximates the recorded aggregate amount. Selling and Administrative Expenses (In thousands) 2002 2001 2000 Freight expense for shipments to customers Amortization of intangible and other assets Product development costs Other selling and administrative expenses Income Taxes $÷98,876 $103,489 $137,197 4,317 25,849 12,646 21,415 10,679 18,911 325,147 326,656 321,061 $454,189 $464,206 $487,848 Significant components of the provision for income taxes are as OPEB obligations Compensation Goodwill Other – net Total net long-term deferred tax liabilities Net current deferred tax assets: Workers’ compensation, general, and product liability accruals Vacation accrual Integration accruals Inventory differences Plant closing accruals Deferred income Other – net Total net current deferred tax assets 3,581 3,821 (14,173) 4,055 3,197 2,519 (5,550) (1,039) 3,157 2,079 (4,183) (770) (37,114) (39,632) (37,226) 1,517 4,617 – 5,101 821 (3,820) 1,865 10,101 1,119 4,002 (3,766) 1,969 3,302 – 8,314 14,940 4,183 4,632 (3,205) 2,404 – – 11,502 19,516 Net deferred tax (liabilities) assets $(27,013) $(24,692) $(17,710) follows: (In thousands) Current: Federal State Deferred Shareholders’ Equity and Earnings Per Share 2002 2001 2000 2002 2001 2000 Common stock, $1 par value: $38,966 $32,393 $62,172 Authorized 3,473 42,439 6,755 2,442 34,835 7,019 3,931 66,103 (6,356) $49,194 $41,854 $59,747 Issued and outstanding Preferred stock, $1 par value: Authorized Issued and outstanding 200,000,000 200,000,000 200,000,000 58,373,607 58,672,933 59,796,891 1,000,000 1,000,000 1,000,000 – – – HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 39 Notes to Consolidated Financial Statements The Company purchased 614,580; 1,472,937; and 837,552 shares of During 2002, shareholders approved the 2002 Members’ Stock its common stock during 2002, 2001, and 2000, respectively. The par Purchase Plan. Under the new plan, 800,000 shares of common value method of accounting is used for common stock repurchases. stock were registered for issuance to participating members. Beginning The excess of the cost of shares acquired over their par value is on June 30, 2002, rights to purchase stock are granted on a quarterly allocated to additional paid-in capital with the excess charged to basis to all members who have one year of employment eligibility and retained earnings. In 2002, the denominator for the basic earnings per share calculation was 58,789,851. There were 250,769 potentially dilutive shares from stock options plans, making the denominator for diluted earnings per share 59,040,620. Certain exercisable and non-exercisable stock options were not included in the computation of diluted EPS for fiscal year 2002 because the option prices were greater than the average market prices for the periods. The number of stock options outstand- work a minimum of 20 hours a week. The price of the stock purchased under the plan is 85% of the closing price on the applicable purchase date. No member may purchase stock under the plan in an amount which exceeds the lesser of 20% of his/her gross earnings or a maxi- mum fair value of $25,000 in any calendar year. During 2002, 47,419 shares of common stock were issued under the plan at an average price of $22.58. An additional 752,581 shares were available for issuance under the plan at December 28, 2002. ing that met this criterion for 2002 was 30,000 with a range of per The Company has a shareholders rights plan which will expire share exercise prices of $28.25 –$32.22. August 20, 2008. The plan becomes operative if certain events occur Components of other comprehensive income (loss) consist of the following: (In thousands) involving the acquisition of 20% or more of the Company’s common stock by any person or group in a transaction not approved by the Company’s Board of Directors. Upon the occurrence of such an event, 2002 2001 2000 each right entitles its holder to purchase an amount of common stock Foreign currency translation adjustments – net of tax Change in unrealized gains on marketable securities – net of tax Other comprehensive income (loss) $÷÷«– (322) $(322) $109 42 $151 $118 208 $326 of the Company with a market value of $400 for $200, unless the Board authorizes the rights be redeemed. The rights may be redeemed for $0.01 per right at any time before the rights become exercisable. In certain instances, the right to purchase applies to the capital stock In May 1997, the Company registered 400,000 shares of its common of the acquirer instead of the common stock of the Company. The Company has reserved preferred shares necessary for issuance stock under its 1997 Equity Plan for Non-Employee Directors. This should the rights be exercised. plan permits the Company to issue to its non-employee directors options to purchase shares of Company common stock, restricted stock of the Company, and awards of Company stock. The plan also permits non-employee directors to elect to receive all or a portion of their annual retainers and other compensation in the form of shares of Company common stock. During 2002, 2001, and 2000, 6,358, 7,446, and 6,948 shares of Company common stock were issued under the plan, respectively. Cash dividends declared and paid per share for each year are: (In dollars) Common shares 2002 $.50 2001 $.48 2000 $.44 Shares of common stock were issued in 2002, 2001, and 2000 pursuant to a members’ stock purchase plan as follows: Shares issued Average price per share 2002 43,388 $23.63 2001 85,385 $20.51 2000 90,059 $21.10 The Company has entered into change in control employment agreements with corporate officers and certain other key employees. According to the agreements, a change in control occurs when a third person or entity becomes the beneficial owner of 20% or more of the Company’s common stock or when more than one-third of the Company’s Board of Directors is composed of persons not recom- mended by at least three-fourths of the incumbent Board of Directors. Upon a change in control, a key employee is deemed to have a two- year employment with the Company, and all his or her benefits are vested under Company plans. If, at any time within two years of the change in control, his or her position, salary, bonus, place of work, or Company-provided benefits are modified, or employment is termi- nated by the Company for any reason other than cause or by the key employee for good reason, as such terms are defined in the agree- ment, then the key employee is entitled to receive a severance payment equal to two times annual salary and the average of the prior two years’ bonuses. 40 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Notes to Consolidated Financial Statements Stock-Based Compensation The status of the Company’s stock option plans is summarized below: Under the Company’s 1995 Stock-Based Compensation Plan, as amended and restated effective November 10, 2000, the Company Outstanding at January 1, 2000 may award options to purchase shares of the Company’s common stock and grant other stock awards to executives, managers, and key personnel. The Plan is administered by the Human Resources and Granted Exercised Forfeited Compensation Committee of the Board of Directors. Restricted stock Outstanding at December 30, 2000 awarded under the Plan is expensed ratably over the vesting period of the awards. Stock options awarded to employees under the Plan must be at exercise prices equal to or exceeding the fair market value of the Company’s common stock on the date of grant. Stock options are generally subject to four-year cliff vesting and must be exercised within 10 years from the date of grant. The Company accounts for this plan under the recognition and measure- ment principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under the plan had an exercise price equal to the market value of the Granted Exercised Forfeited Outstanding at December 29, 2001 Granted Exercised Forfeited Outstanding at December 28, 2002 Options exercisable at: December 28, 2002 December 29, 2001 December 30, 2000 Number of Shares 407,750 532,500 (22,000) – 918,250 266,500 (17,500) (37,000) 1,130,250 290,000 – (17,000) 1,403,250 156,250 105,000 – Weighted-Average Exercise Price $24.30 20.13 23.80 – $21.90 23.39 18.31 21.57 $22.32 25.77 – 21.69 $23.03 $25.02 24.86 – underlying common stock on the date of grant. The following table illus- The following table summarizes information about fixed stock options trates the effect on net income and earnings per share if the Company outstanding at December 28, 2002: had applied the fair value recognition provisions of FASB Statement No. 123, “Accounting for Stock-Based Compensation,” as amended by FASB Statement No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure,” to stock-based employee compensation. (In thousands) Net income, as reported 2002 $91.4 2001 $74.4 2000 $106.2 Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects Pro forma net income Earnings per share: Basic – as reported Basic – pro forma Diluted – as reported Diluted – pro forma (2.2) $89.2 $1.55 $1.52 $1.55 $1.51 (1.4) $73.0 $1.26 $1.24 $1.26 $1.24 (1.1) $105.1 $÷1.77 $÷1.75 $÷1.77 $÷1.75 Options Outstanding Weighted- Average Remaining Contractual Life 4.0 years 5.1 years 5.9 years 7.1 years 8.0 years 9.1 years Number Outstanding 105,000 20,000 238,750 493,000 259,500 287,000 Weighted- Average Exercise Price $24.86 $32.22 $23.47 $20.28 $23.40 $25.77 Options Exercisable Number Exercisable at December 28, 2002 105,000 20,000 11,250 15,000 5,000 – Range of Exercise Prices $24.50–$28.25 $32.22 $23.31–$23.47 $18.31– $26.69 $23.32–$25.27 $25.75–$25.77 Retirement Benefits The Company has defined contribution profit-sharing plans covering substantially all employees who are not participants in certain defined benefit plans. The Company’s annual contribution to the defined The weighted-average fair value of options granted during 2002, contribution plans is based on employee eligible earnings and results 2001, and 2000 estimated on the date of grant using the Black-Scholes of operations and amounted to $23,524,000, $24,826,000, and option-pricing model was $11.74, $9.70, and $9.25, respectively. The $24,400,000 in 2002, 2001, and 2000, respectively. fair value of 2002, 2001, and 2000 options granted is estimated on the date of grant using the following assumptions: dividend yield of 1.65% to 2.06%, expected volatility of 34.32% to 38.37%, risk-free interest rate of 5.13% to 6.56%, and an expected life of 10 to 12 years depending on grant date. The Company sponsors defined benefit plans which include a limited number of salaried and hourly employees at certain subsidiaries. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 41 Notes to Consolidated Financial Statements The Company’s funding policy is generally to contribute annually Leases the minimum actuarially computed amount. Net pension costs relat- ing to these plans were $0 for 2002, 2001, and 2000. The actuarial present value of obligations, less related plan assets at fair value, is not significant. The Company leases certain warehouse, plant facilities, and equip- ment. Commitments for minimum rentals under noncancelable leases at the end of 2001 are as follows: The Company also participates in a multiemployer plan, which provides (In thousands) defined benefits to certain of the Company’s union employees. Pension expense for this plan amounted to $309,000, $310,000, and $308,500 in 2002, 2001, and 2000, respectively. Postretirement Health Care In accordance with the guidelines of SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” the following table sets forth the funded status of the plan, reconciled to the accrued postretirement benefits cost recognized in the 2003 2004 2005 2006 2007 Thereafter Total minimum lease payments Less: amount representing interest Present value of net minimum lease Capitalized Leases $÷«269 274 261 221 1,016 – 2,041 606 Operating Leases $14,128 11,801 9,545 7,428 4,859 15,734 $63,495 Company’s balance sheet at: Property, plant, and equipment at year-end include the following (In thousands) 2002 2001 2000 Reconciliation of benefit obligation: Obligation at beginning of year $17,351 $12,229 $20,237 Service cost Interest cost Benefit payments Actuarial (gains) losses Current year prior service cost Obligation at end of year Funded status: 398 1,091 (1,356) 133 – 278 941 (952) 3,042 1,813 182 882 (981) (5,888) (2,203) $17,617 $17,351 $12,229 Funded status at end of year $17,617 $17,351 $12,229 (5,942) (1,352) (539) (6,523) (1,582) (364) (7,103) (1,813) 5,457 Unrecognized transition obligation Unrecognized prior- service cost Unrecognized gain (loss) Net amount recognized Net periodic postretirement benefit cost includes: Service cost Interest cost Amortization of transition obligation over 20 years Amortization of prior service cost Amortization of (gains) and losses Net periodic postretirement benefit cost $÷÷«398 1,091 581 230 (10) $÷÷«278 $÷÷«182 941 581 230 (474) 882 581 – (539) $÷2,290 $÷1,556 $÷1,106 payments, including current maturities of $151 $1,435 amounts for capitalized leases: (In thousands) Buildings Machinery and equipment Less: allowances for depreciation 2002 $3,299 196 3,495 2,514 2001 2000 $÷3,299 $÷3,299 15,805 19,104 17,052 15,805 19,104 14,655 $÷«981 $÷2,052 $÷4,449 Rent expense for the years 2002, 2001, and 2000 amounted to approximately $13,683,000, $13,387,000, and $15,428,000, respec- tively. The Company has operating leases for office and production facilities with annual rentals totaling $450,000 with the former own- ers of a business acquired in 1996. One of the individuals continues under both capitalized and operating leases (generally based on mileage of transportation equipment) amounted to $787,000, $869,000, and $941,000 for the years 2002, 2001, and 2000, respectively. Commitments and Contingencies The Company utilizes letters of credit in the amount of $27 million to back certain financing instruments, insurance policies, and payment obligations. The letters of credit reflect fair value as a condition of their underlying purpose and are subject to fees competitively determined. $÷9,784 $÷8,882 $÷8,770 as an officer of a subsidiary of the Company. Contingent rent expense The discount rates at fiscal year-end 2002, 2001, and 2000 were 6.5%, 6.5%, and 8.0%, respectively. The Company payment for these The Company entered into a three-year transportation service contract benefits has reached the maximum amounts per the plan; therefore, with a contract carrier in May 2002. The Company is contingently liable healthcare trend rates have no impact on Company cost. for future minimum payments totaling $14,537,000 under this contract. The Company is also contingently liable for $266,000 of financing arrangements with certain customers. 42 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Notes to Consolidated Financial Statements The Company has contingent liabilities which have arisen in the course In addition, management applies an effective income tax rate to its of its business, including pending litigation, preferential payment claims consolidated income before income taxes so income taxes are not in customer bankruptcies, environmental remediation, taxes, and other reported or viewed internally on a segment basis. Identifiable assets claims. The Company currently has one preferential payment claim out- by segment are those assets applicable to the respective industry standing totaling approximately $7.6 million. The Company intends to segments. Corporate assets consist principally of cash and cash vigorously contest this claim; however, the ultimate outcome or likeli- equivalents, short-term investments, and corporate office real estate hood of this specific claim cannot be determined at this time. It is our and related equipment. opinion, after consultation with legal counsel, that additional liabilities, if any, resulting from these matters are not expected to have a material adverse effect on our financial condition, although such matters could have a material effect on our quarterly or annual operating results No geographic information for revenues from external customers or for long-lived assets is disclosed since the Company’s primary market and capital investments are concentrated in the United States. and cash flows when resolved in a future period. Reportable segment data reconciled to the consolidated financial Significant Customer One office furniture customer accounted for approximately 14% of consolidated net sales in each year. Operating Segment Information In accordance with SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” management views the Company as being in two operating segments: office furniture and hearth products, with the former being the principal segment. The office furniture segment manufactures and markets a broad line of metal and wood commercial and home office furniture which includes statements for the years ended 2002, 2001, and 2000 is as follows: (In thousands) Net sales: Office furniture Hearth products Operating profit: Office furniture (a) Hearth products (a) Total operating profit Unallocated corporate expenses 2002 2001 2000 $1,279,059 $1,366,312 $1,649,937 413,563 426,126 396,349 $1,692,622 $1,792,438 $2,046,286 $÷«130,014 $÷«112,405 $÷«171,647 44,852 174,866 (34,312) 39,282 151,687 (35,426) 30,232 201,879 (35,915) Income before income taxes $÷«140,554 $÷«116,261 $÷«165,964 Identifiable assets: Office furniture Hearth products storage products, desks, credenzas, chairs, tables, bookcases, free- General corporate (b) standing office partitions and panel systems, and other related products. The hearth products segment manufactures and markets a broad line of manufactured gas-, pellet-, and wood-burning fireplaces and stoves, fireplace inserts, gas logs, and chimney systems principally for the home. Depreciation and amortization expense: Office furniture Hearth products General corporate (b) The Company’s hearth products segment is somewhat seasonal with the third (July–September) and fourth (October–December) Capital expenditures: fiscal quarters historically having higher sales than the prior quarters. In fiscal 2002, 53% of consolidated net sales of hearth products were generated in the third and fourth quarters. Office furniture Hearth products General corporate $÷«494,559 $÷«526,712 $÷«638,075 305,326 220,667 320,199 114,980 327,528 56,867 $1,020,552 $÷«961,891 $1,022,470 $÷÷«48,546 $÷÷«58,658 $÷÷«58,926 13,993 6,216 20,389 2,338 18,109 2,011 $÷÷«68,755 $÷÷«81,385 $÷÷«79,046 $÷÷«17,183 $÷÷«29,785 $÷÷«39,361 6,132 2,570 7,149 (83) 17,643 2,836 $÷÷«25,885 $÷÷«36,851 $÷÷«59,840 For purposes of segment reporting, intercompany sales transfers between segments are not material, and operating profit is income before income taxes exclusive of certain unallocated corporate expenses. These unallocated corporate expenses include the net costs of the Company’s corporate operations, interest income, and interest expense. Management views interest income and expense as corporate financing costs and not as an operating segment cost. (a) Included in operating profit for the office furniture segment are pretax charges of $3.0 million and $22.5 million for closing of facilities and impairment charges in 2002 and 2001, respectively. Included in operating profit for the hearth products segment is a pretax charge of $1.5 million for closing of facilities and impairment charges in 2001. (b) In 2002 the Company’s information technologies departments became a shared service at the corporate level. The costs continue to be charged out to the segments; however, the assets and related depreciation are now classified as general corporate. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 43 Notes to Consolidated Financial Statements Summary of Unaudited Quarterly Results of Operations The following table presents certain unaudited quarterly financial information for each of the past 12 quarters. In the opinion of the Company’s management, this information has been prepared on the same basis as the consolidated financial statements appearing elsewhere in this report and includes all adjustments (consisting only of normal recurring accruals) necessary to present fairly the financial results set forth herein. Results of operations for any previous quarter are not necessarily indicative of results for any future period. First Quarter $399,139 259,398 139,741 110,425 3,900 25,416 (580) 24,836 8,941 15,895 $÷÷÷÷.27 58,777 100.0% 35.0 27.7 1.0 6.4 2.2 4.0 $461,997 311,711 150,286 119,050 – 31,236 (2,700) 28,536 10,273 $÷18,263 $÷÷÷÷.31 59,448 100.0% 32.5 25.8 – 6.8 2.2 4.0 Second Quarter $399,299 256,696 142,603 111,320 (900) 32,183 (710) 31,473 11,330 20,143 $÷÷÷÷.34 58,918 100.0% 35.7 27.9 (.2) 8.1 2.8 5.0 $444,196 292,789 151,407 118,983 24,000 8,424 (1,832) 6,592 2,373 $÷÷4,219 $÷÷÷÷.07 59,205 100.0% 34.1 26.8 5.4 1.9 0.5 0.9 Third Quarter $446,274 285,996 160,278 117,274 – 43,004 (577) 42,427 15,274 27,153 $÷÷÷÷.46 59,140 100.0% 35.9 26.3 – 9.6 3.4 6.1 $459,352 298,427 160,925 114,759 – 46,166 (1,375) 44,791 16,125 $÷28,666 $÷÷÷÷.48 59,048 100.0% 35.0 25.0 – 10.1 3.5 6.2 Fourth Quarter $447,910 290,653 157,257 115,170 – 42,087 (269) 41,818 13,649 28,169 $÷÷÷÷.48 58,546 100.0% 35.1 25.7 – 9.4 3.0 6.3 $426,893 278,213 148,680 111,414 – 37,266 (924) 36,342 13,083 $÷23,259 $÷÷÷÷.40 58,651 100.0% 34.8 26.1 – 8.7 3.1 5.4 (In thousands, except per share data) Year-End 2002 Net sales Cost of products sold Gross profit Selling and administrative expenses Restructuring related charges (income) Operating income Interest income (expense) – net Income before income taxes Income taxes Net income Net income per common share Weighted-average common shares outstanding As a Percentage of Net Sales Net sales Gross profit Selling and administrative expenses Restructuring related charges Operating income Income taxes Net income Year-End 2001 Net sales Cost of products sold Gross profit Selling and administrative expenses Restructuring related charges Operating income Interest income (expense) – net Income before income taxes Income taxes Net income Net income per common share Weighted-average common shares outstanding As a Percentage of Net Sales Net sales Gross profit Selling and administrative expenses Restructuring related charges Operating income Income taxes Net income 44 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Notes to Consolidated Financial Statements SUMMARY OF UNAUDITED QUARTERLY RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share data) Year-End 2000 (a) Net sales Cost of products sold Gross profit Selling and administrative expenses Operating income Interest income (expense) – net Income before income taxes Income taxes Net income Net income per common share Weighted-average common shares outstanding As a Percentage of Net Sales Net sales Gross profit Selling and administrative expenses Operating income Income taxes Net income First Quarter $481,523 329,416 152,107 111,214 40,893 (2,550) 38,343 13,803 $÷24,540 $÷÷÷÷.41 60,186 100.0% 31.6 23.1 8.5 2.9 5.1 Second Quarter $509,649 343,842 165,807 125,513 40,294 (3,688) 36,606 13,188 $÷23,418 $÷÷÷÷.39 60,145 100.0% 32.5 24.6 7.9 2.6 4.6 Third Quarter $535,322 354,367 180,955 124,197 56,758 (3,303) 53,455 19,234 $÷34,221 $÷÷÷÷.57 60,162 100.0% 33.8 23.2 10.6 3.6 6.4 Fourth Quarter $519,792 352,779 167,013 126,924 40,089 (2,529) 37,560 13,522 $÷24,038 $÷÷÷÷.40 60,069 100.0% 32.1 24.4 7.7 2.6 4.6 (a) First quarter 2000 includes partial quarterly results of operation of American Fireplace Company and the Allied Group acquisitions acquired February 29, 2000. Common Stock Market Prices and Dividends (Unaudited) Common Stock Market Price and Price/Earnings Ratio (Unaudited) QUARTERLY 20 02 – 20 01 FISCAL YEARS 20 02 – 1992 2002 by Quarter 1st 2nd 3rd 4th Total dividends paid 2001 by Quarter 1st 2nd 3rd 4th Total dividends paid High $29.12 30.85 28.67 29.20 High $26.50 26.45 26.15 28.85 Low $24.55 25.45 23.80 22.88 Low $22.00 22.44 19.96 20.00 Dividends per Share $.125 .125 .125 .125 $.500 Dividends per Share $.12 .12 .12 .12 $.48 Year 2002 2001 2000 1999 1998 1997 1996 1995 1994 1993 1992 Market Price* Low 22.88 19.96 15.56 18.75 20.00 15.88 9.25 11.50 12.00 10.75 8.25 High 30.85 28.85 27.88 29.88 37.19 32.13 21.38 15.63 17.00 14.63 11.75 Eleven-Year Average * Adjusted for the effect of stock splits Earnings per Share * Price/Earnings Ratio High Low 1.55 1.26 1.77 1.44 1.72 1.45 1.13 .67 .87 .70 .59 20 23 16 21 22 22 19 23 20 21 20 21 15 16 9 13 12 11 8 17 14 15 14 13 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 45 Selected Financial Data – Eleven-Year Summary Per Common Share Data (Basic and Dilutive) Income before cumulative effect of accounting changes Cumulative effect of accounting changes Net income Cash dividends Book value Net working capital Operating Results (Thousands of Dollars) Net sales Cost of products sold Gross profit Interest expense Income before income taxes Income before income taxes as a % of net sales Federal and state income taxes Effective tax rate 2002 (a) 2001 2000 1999 $«««««««««1.55 $«««««««««1.26 $«««««««««1.77 $«««««««««1.44 – 1.55 .50 11.08 1.82 $1,692,622 1,092,743 599,879 4,714 140,554 8.30% – 1.26 .48 10.10 1.52 $1,792,438 1,181,140 611,298 8,548 116,261 6.49% – 1.77 .44 9.59 1.09 $2,046,286 1,380,404 665,882 14,015 165,964 8.11% – 1.44 .38 8.33 1.52 $1,800,931 1,236,612 564,319 9,712 137,575 7.64% $«««««49,194 $«««««41,854 $«««««59,747 $«««««50,215 35.0% 36.0% 36.0% 36.5% Income before cumulative effect of accounting changes $«««««91,360 $«««««74,407 $«««106,217 $«««««87,360 Net income Net income as a % of net sales 91,360 5.40% 74,407 4.15% 106,217 5.19% 87,360 4.85% Cash dividends and share purchase rights redeemed $«««««29,386 $«««««28,373 $«««««26,455 $«««««23,112 Addition to (reduction of) retained earnings Net income applicable to common stock % return on average shareholders’ equity Depreciation and amortization Distribution of Net Income % paid to shareholders % reinvested in business Financial Position (Thousands of Dollars) Current assets Current liabilities Working capital Net property, plant, and equipment Total assets % return on beginning assets employed Long-term debt and capital lease obligations Shareholders’ equity Retained earnings Current ratio Current Share Data Number of shares outstanding at year-end Weighted-average shares outstanding during year – basic Number of shareholders of record at year-end Other Operational Data Capital expenditures (thousands of dollars) Members (employees) at year-end 55,176 91,360 14.74% 36,759 74,407 12.76% 79,762 106,217 19.77% 64,248 87,360 18.14% $«««««68,755 $«««««81,385 $«««««79,046 $«««««65,453 32.16% 67.84% 38.13% 61.87% 24.91% 75.09% 26.46% 73.54% $«««405,054 $«««319,657 $«««330,141 $«««316,556 298,680 106,374 353,270 1,020,552 14.83% $«««««««9,837 646,893 587,731 1.36 58,373,607 58,789,851 6,777 230,443 89,214 404,971 961,891 12.04% $«««««80,830 592,680 532,555 1.39 58,672,933 59,087,963 6,694 264,868 65,273 454,312 1,022,470 19.63% $«««128,285 573,342 495,796 1.25 59,796,891 60,140,302 6,563 $«««««25,885 $«««««36,851 $«««««59,840 8,828 9,029 (b) 11,543 (b) 225,123 91,433 455,591 906,723 16.94% $«««124,173 501,271 416,034 1.41 60,171,753 60,854,579 6,737 $«««««71,474 10,095 (a) Per SFAS No. 142, “Goodwill and Other Intangible Assets,” the Company has ceased recording of goodwill and indefinite-lived intangible amortization. (b) Includes acquisitions completed during year. 46 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 1998 1997 1996 1995 1994 1993 1992 $÷÷«÷÷1.72 $«««««««««1.45 $««««««1.13 $««««««««.67 $««««««««.87 $««««««««.69 $««««««««.59 – 1.72 .32 7.54 1.19 $1,706,628 1,172,997 533,632 10,658 170,109 9.97% – 1.45 .28 6.19 1.53 – 1.13 .25 4.25 .89 $1,362,713 $998,135 933,157 429,556 8,179 139,128 10.21% $«««««63,796 $«««««52,173 37.50% 37.50% $«««106,313 $«««««86,955 106,313 6.23% 86,955 6.38% $«««««19,730 $«««««16,736 86,583 106,313 25.20% 37,838 86,955 27.43% 679,496 318,639 4,173 105,267 10.55% $««37,173 35.31% $««68,094 68,094 6.82% $««14,970 33,860 68,094 29.06% – .67 .24 3.56 1.07 $893,119 624,700 268,419 3,569 65,517 7.34% $««24,419 37.27% $««41,098 41,098 4.60% $««14,536 18,863 41,098 20.00% – .87 .22 3.17 1.27 $845,998 573,392 272,606 3,248 86,338 10.21% $««31,945 37.00% $««54,393 54,156 6.43% $««13,601 13,563 54,156 28.95% .01 .70 .20 2.83 1.23 $780,326 537,828 242,498 3,120 70,854 9.08% $««26,216 37.00% $««44,638 45,127 5.78% $««12,587 17,338 45,127 26.35% – .59 .19 2.52 1.23 $706,550 479,179 227,371 3,441 61,893 8.76% $««23,210 37.50% $««38,683 38,683 5.47% $««12,114 26,569 38,683 24.75% $«««««52,999 $«««««35,610 $««25,252 $««21,416 $««19,042 $««16,631 $««15,478 18.56% 81.44% 19.25% 80.75% 21.98% 78.02% 35.37% 64.63% 25.11% 74.89% 27.89% 72.11% 31.32% 68.68% $«««290,329 $«««295,150 $205,527 $194,183 $188,810 $188,419 $171,309 217,438 72,891 444,177 864,469 23.74% 200,759 94,391 341,030 754,673 28.27% $«««135,563 $«««134,511 462,022 351,786 1.34 61,289,618 61,649,531 5,877 381,662 265,203 1.47 61,659,316 59,779,508 5,399 152,553 52,974 234,616 513,514 25.93% $««77,605 252,397 227,365 1.35 128,915 65,268 210,033 409,518 17.91% $««42,581 216,235 193,505 1.51 111,093 77,717 177,844 372,568 24.72% $««45,877 194,640 174,642 1.70 110,759 77,660 157,770 352,405 22.14% $««45,916 179,553 161,079 1.70 91,780 79,529 145,849 322,746 22.18% $««50,961 163,009 143,741 1.87 59,426,530 60,228,590 5,319 60,788,674 60,991,284 5,479 61,349,206 62,435,450 5,556 63,351,692 64,181,088 4,653 64,737,912 65,517,990 4,534 $«««149,717 $«««««85,491 9,824 (b) 9,390 (b) $««44,684 6,502 (b) $««53,879 5,933 $««35,005 6,131 $««27,541 6,257 $««26,626 5,926 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 47 Report of Independent Accountants To the Board of Directors and Shareholders, HON INDUSTRIES Inc.: In our opinion, the accompanying consolidated balance sheet as of December 28, 2002, and the related consolidated statements of income, shareholders’ equity and cash flows for the year then ended present fairly, in all material respects, the financial position of HON INDUSTRIES Inc. and its subsidiaries as of December 28, 2002, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management; our responsibility is to express an opinion on these financial statements based on our audit. We con- ducted our audit of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence sup- porting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. The financial statements of the Company as of December 29, 2001, and December 30, 2000, and for each of the periods ended December 29, 2001, and December 30, 2000, prior to the adjustments discussed in the Goodwill and Other Intangible Assets note, were audited by other inde- pendent accountants who have ceased operations. Those independent accountants expressed an unqualified opinion on those financial statements in their report dated February 1, 2002. As disclosed in the Goodwill and Other Intangible Assets note, the Company changed the manner in which it accounts for goodwill and other intangible assets upon adoption of the accounting guidance of Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, on December 30, 2001. As discussed above, the financial statements of HON INDUSTRIES Inc., as of December 29, 2001, and December 30, 2000, and for each of the periods ended December 29, 2001, and December 30, 2000, were audited by other inde- pendent accountants who have ceased operations. As described in the Goodwill and Other Intangible Assets note, these financial statements have been revised to include the transitional disclosures required by Statement of Financial Accounting Standards (Statement) No. 142, Goodwill and Other Intangible Assets, which was adopted by the Company as of December 30, 2001. We audited the transitional disclosures described in the Goodwill and Other Intangible Assets note. In our opinion, the transitional disclosures for 2001 and 2000 in the Goodwill and Other Intangible Assets note are appropriate. However, we were not engaged to audit, review, or apply any procedures to the 2001 and 2000 financial statements of the Company other than with respect to such disclosures and, accordingly, we do not express an opinion or any other form of assurance on the 2001 and 2000 financial statements taken as a whole. PricewaterhouseCoopers LLP Chicago, Illinois January 31, 2003 48 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Report of Prior Independent Accountants Predecessor Auditor (Arthur Andersen LLP) Opinion The following report is a copy of a report previously issued by Arthur Andersen LLP and has not been reissued by Arthur Andersen LLP. In 2002, the corporation adopted the provisions of Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (SFAS No. 142). As discussed in the Goodwill and Other Intangible Assets note, the company has presented the transitional disclosures for 2001 and 2000 required by SFAS No. 142. The Arthur Andersen LLP report does not extend to these changes to the 2001 and 2000 consolidated financial statements. The adjustments to the 2001 and 2000 consolidated financial statements were reported on by PricewaterhouseCoopers LLP as stated in their report appearing herein. Report of Independent Accountants To the Board of Directors and Shareholders of HON INDUSTRIES Inc.: We have audited the accompanying consolidated balance sheets of HON INDUSTRIES Inc. and subsidiaries as of December 29, 2001, December 30, 2000, and January 1, 2000*, and the related consolidated statements of income, shareholders’ equity, and cash flows for each of the fiscal years then ended. These financial statements are the respon- sibility of the Company’s management. Our responsibility is to express an opinion on these financial statement based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those stan- dards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of HON INDUSTRIES Inc. and subsidiaries as of December 29, 2001, December 30, 2000, and January 1, 2000*, and the results of its operations and its cash flows for each of the three fiscal years then ended in conformity with accounting principles generally accepted in the United States. Arthur Andersen LLP Chicago, Illinois February 1, 2002 * The January 1, 2000, consolidated financial statements are not required to be presented in the 2002 Annual Report. HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 49 Management’s Responsibility for Financial Statements Management is responsible for the preparation and integrity of the consolidated financial statements and other financial information presented in this report. That responsibility is accomplished using internal controls designed to provide rea- sonable assurance as to the integrity and accuracy of the Company’s financial records and to adequately safeguard, verify and maintain accountability of assets. Such controls are based on established written policies and procedures, are implemented by trained personnel with an appropriate segregation of duties and are monitored through a comprehen- sive internal audit program. These policies and procedures prescribe that the Company and all its members are to maintain the highest ethical and business standards. PricewaterhouseCoopers LLP, independent accountants, is retained to audit HON INDUSTRIES’ financial statements. Their accompanying report is based on audits conducted in accordance with auditing standards generally accepted in the United States. The Board of Directors exercises its responsibility for these financial statements through its Audit Committee, which consists entirely of independent board members. The Audit Committee meets periodically with the independent accountants and with the Company’s internal auditors, both privately and with management present, to review accounting, auditing, internal controls and financial reporting matters. JAC K D. M I C H A E L S J E R A L D K . D I TT M E R C H A I R M A N A N D C H I E F E X E C U T I V E O F F I C E R V I C E P R E S I D E NT A N D C H I E F F I N A N C I A L O F F I C E R 50 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S A Message from the Board of Directors Dear Shareholders: Recent events have reminded us all of the importance of sound corporate governance policies. We, the members of the HON INDUSTRIES Board of Directors, have taken this responsibility very seriously for many years. Setting the cultural climate is central to good governance. We sought to accomplish this years ago by adopting the HON INDUSTRIES Vision Statement (shown on the inside back cover of this annual report). Our Vision Statement repre- sents much more than a traditional “mission,” and it goes much deeper than company policy. This important document represents the very foundation of our corporate culture, expressing values that guide the attitude and actions of every member, every day. From its beginnings, HON INDUSTRIES has sought to implement its Vision Statement through sound policies and practices, and by maintaining a strong board composed predominantly of outside directors. We are fully committed to executing our responsibilities, and we will continue to maintain the company’s long-standing tradition of an independent, well-informed, active and engaged Board of Directors. Our board meetings and procedures have been developed and refined to encourage open and informed communication. The board’s three committees – Audit; Human Resources and Compensation; Public Policy and Corporate Governance – have consisted entirely of non-management directors for many years. It is an honor to serve as directors of HON INDUSTRIES. We are very proud to represent you, the shareholder, as we oversee the management of this great company. Please be assured that we intend to remain on the forefront of evolving corporate governance policy and standards. Sincerely, The HON INDUSTRIES Board of Directors STA N L E Y A . AS K R E N * G A RY M . C H R I ST E N S E N * R O B E RT W. C OX C H E RY L A . F R A N C I S M . FA R O O Q K AT H WA R I R O B E RT L . K AT Z D E N N I S J. M A RT I N JAC K D. M I C H A E L S A B B I E J. S M I T H R I C H A R D H . STA N L E Y B R I A N E . ST E R N R O N A L D V. WAT E R S, I I I * * Nominee for election to Board of Directors at May, 2003 Annual Meeting of Shareholders. LO R N E R . WA X L A X HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S 51 Board of Directors Stanley A. Askren* President, HON INDUSTRIES Inc. President, Allsteel Inc. Gary M. Christensen* Retired President and Chief Executive Officer, Pella Corporation Robert W. Cox Chairman Emeritus, Baker & McKenzie Cheryl A. Francis Advisor/Consultant Former Executive Vice President and Chief Financial Officer, RR Donnelley & Sons M. Farooq Kathwari Chairman, President and Chief Executive Officer, Ethan Allen Interiors Inc. Robert L. Katz President, Robert L. Katz and Associates Dennis J. Martin Chairman, President and Chief Executive Officer, General Binding Corporation Jack D. Michaels Chairman and Chief Executive Officer, HON INDUSTRIES Inc. Abbie J. Smith Chaired Professor, The University of Chicago Graduate School of Business Richard H. Stanley Vice Chairman, HON INDUSTRIES Inc. Chairman, SC Companies, Inc. Chairman, Stanley Consultants, Inc. Brian E. Stern President, Xerox Supplies Business Group, Xerox Corporation Ronald V. Waters, III* Senior Vice President and Chief Financial Officer, Wm. Wrigley Jr. Company Lorne R. Waxlax Retired Executive Vice President, The Gillette Company Committees of the Board AUDIT Cheryl A. Francis, Chairperson Dennis J. Martin Abbie J. Smith Ronald V. Waters, III HUMAN RESOURCES AND COMPENSATION Gary M. Christensen, Chairperson Robert W. Cox Robert L. Katz Lorne R. Waxlax PUBLIC POLICY AND CORPORATE GOVERNANCE Richard H. Stanley, Chairperson M. Farooq Kathwari Brian E. Stern * Nominee for election to Board of Directors at May, 2003 Annual Meeting of Shareholders. Officers HON INDUSTRIES Inc. and Subsidiaries Jack D. Michaels Chairman and Chief Executive Officer Stanley A. Askren President President, Allsteel Inc. Melinda C. Ellsworth Vice President, Treasurer and Investor Relations Thomas D. Head Vice President General Manager, Holga Inc. Tamara S. Feldman Vice President, Financial Reporting James I. Johnson Vice President, General Counsel and Secretary Peter R. Atherton Vice President and Chief Technology Officer Jeffrey D. Fick Vice President, Member and David C. Burdakin Executive Vice President President, The HON Company Community Relations Malcolm C. Fields Vice President and Chief Information Officer Jerald K. Dittmer Vice President and Chief Financial Officer Thomas E. Hammer Vice President, Continuous Improvement Robert D. Hayes Vice President, Business Analysis and General Auditor Phillip M. Martineau Executive Vice President President, Wood Products Group President, HON International Inc. Jean M. Reynolds President, Maxon Furniture Inc. Daniel C. Shimek Executive Vice President President, Hearth & Home Technologies Inc. 52 HO N I N D U ST R I E S I n c . a n d S U B S I D I A R I E S Investor Information Our Vision Schedule of Quarterly Results The Company operates on a fiscal year end- Corporate Headquarters HON INDUSTRIES Inc. ing on the Saturday nearest December 31. 414 East Third Street Quarterly results are typically announced P.O. Box 1109 within 25 days after the end of each quarter, Muscatine, IA 52761-0071 and audited results are typically announced Telephone: 563.264.7400 within 40 days after year-end. Fiscal 2003 Quarter-End Dates 1st Quarter: Saturday, March 29 2nd Quarter: Saturday, June 28 3rd Quarter: Saturday, October 4 4th Quarter: Saturday, January 3 Fax: 563.264.7217 Website: www.honi.com Independent Public Accountants PricewaterhouseCoopers LLP One North Wacker Drive Chicago, IL 60606 Annual Meeting The Company’s annual shareholders’ meeting will be held at 10:30 a.m. on May 5, 2003, at the Holiday Inn, Highways 61 & 38 North, Muscatine, Common Stock HON INDUSTRIES common stock trades on the New York Stock Exchange under the We, the members of HON INDUSTRIES, are dedicated to creating long-term value for all of our stakeholders, to exceeding our customers’ expecta- tions, and to making our company a great place to work. We will always treat each other, as well as customers, suppliers, shareholders, and our com- munities, with fairness and respect. Our success depends upon business simpli- fication, rapid continuous improvement, and innovation in everything we do, individual and collective integrity, and the relentless pursuit of the following long-standing beliefs: WE WILL BE PROFITABLE. We pursue mutually profitable relationships with customers and suppliers. Only when our company achieves an adequate profit can the other elements of this Vision be realized. WE WILL CREATE LONG-TERM VALUE FOR SHAREHOLDERS. We create long-term value for shareholders by earning financial returns significantly greater than our cost of capital and pursuing prof- symbol: HNI. Stock price quotations can itable growth opportunities. We will safeguard our Iowa. Shareholders and other interested be found in major daily newspapers and shareholders’ equity by maintaining a strong balance investors are encouraged to attend The Wall Street Journal. the meeting. Investor Relations Send inquiries to: Investor Relations HON INDUSTRIES Inc. 414 East Third Street Muscatine, IA 52761 Telephone: 563.264.7400 Fax: 563.264.7655 Transfer Agent Shareholders may report a change of address or make inquiries by writing or calling: Computershare Investor Services, LLC 2 North LaSalle Street Chicago, IL 60602 Telephone: 312.588.4991 E-mail: investorrelations@honi.com Forward-Looking Statements Statements in this report that are not strictly his- against the Company that it received preferential torical, including statements as to plans, objectives, payments; changes in demand and order patterns and future financial performance, are “forward- from the Company’s customers, particularly its top looking” statements that are made pursuant to the 10 customers, which represented approximately safe harbor provisions of the Private Securities 37% of net sales in 2002; issues associated with Litigation Reform Act of 1995. Forward-looking acquisitions and integration of acquisitions; the ability sheet to allow flexibility in responding to a continuously changing market and business environment. WE WILL PURSUE PROFITABLE GROWTH. We pursue profitable growth on a global basis in order to provide continued job opportunities for members and financial success for all stakeholders. WE WILL BE A SUPPLIER OF QUALITY PRODUCTS AND SERVICES. We provide reliable products and services of high quality and brand value to our end-users. Our products and services exceed our customers’ expectations and enable our distributors and our company to make a fair profit. WE WILL BE A GREAT PLACE TO WORK. We pursue a participative environment and support a culture that encourages and recognizes excellence, active involvement, ongoing learning, and contribu- tions of each member; that seeks out and values diversity; and that attracts and retains the most capable people who work safely, are motivated, and are devoted to making our company and our statements involve known and unknown risks, of the Company to realize cost savings and produc- members successful. which may cause the Company’s actual results in tivity improvements from its cost containment and the future to differ materially from expected results. business simplification initiatives; the ability of the These risks include, among others: competition Company to realize financial benefits from invest- within the office furniture and fireplace industries, ments in new products; the ability of the Company’s including competition from imported products and distributors and dealers to successfully market competitive pricing; increases in the cost of raw and sell the Company’s products; the availability materials, including steel, which is the Company’s and cost of capital to finance planned growth; and largest raw material category; increases in the cost other risks, uncertainties, and factors described of health care benefits provided by the Company; from time to time in the Company’s filings with reduced demand for the Company’s storage prod- the Securities and Exchange Commission. ucts caused by changes in office technology, We caution the reader that the above list of including the change from paper record storage to factors may not be exhaustive. The Company does electronic record storage; the effects of economic not assume any obligation to update any forward- conditions, including the current recessionary envi- looking statement, whether as a result of new ronment, on demand for office furniture, customer information, future events, or otherwise. insolvencies and related bad debts and claims WE WILL BE A RESPONSIBLE CORPORATE CITIZEN. We conduct our business in a way that sustains the well-being of society, our environment, and the economy in which we live and work. We follow ethical and legal business practices. Our company supports our volunteer efforts and provides charitable contributions so that we can actively participate in the civic, cultural, educational, environ- mental, and governmental affairs of our society. TO OUR STAKEHOLDERS: When our company is appreciated by its members, favored by its customers, supported by its suppliers, respected by the public, and admired by its shareholders, this Vision is fulfilled. h h p p a a r r g g o o h h t t i i L L n n o o s s r r e e d d n n A A : : g g n n i i t t n n i i r r P P f f p p e e n n h h c c S S s s e e m m a a J J : : y y h h p p a a r r g g o o t t o o h h P P m m o o c c . . n n d d n n a a c c b b w w w w w w . . / / u u e e N N & & s s e e t t a a o o C C r r e e l l l l o o B B i i : : n n g g s s e e D D HON INDUSTRIES Inc. 414 East Third Street P.O. Box 1109 Muscatine, IA 52761-0071 www.honi.com c4 ST R E N G T H S I N TO ST R AT E G Y 

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