Contents
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Five Year Selected Financial Data
Letter to Shareholders
Stock and Financial Data
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Changes in Stockholders’ Equity
Consolidated Statements of Cash Flow
Notes to Consolidated Financial Statements
Management’s Report on Internal Control Over Financial Reporting
Report of Independent Registered Public Accounting Firm on
Internal Control Over Financial Reporting
Management’s Discussion and Analysis
Board of Directors and Corporate Management
Profile of Lawson Products, Inc.
Corporate Information
Lawson Family of Businesses
Five Year Selected Financial Data
Lawson Products, Inc. and Subsidiaries
®
Percent
(Dollars in thousands, except per share data) 2004 Change 2003 2002 2001 2000
Net Sales1 $419,652 +7.9 $389,091 $387,456 $379,407 $348,967
Income Before Income Taxes2 33,438 +34.3 24,892 23,189 17,142 47,566
Net Income3 21,425 +32.3 16,196 12,447 8,787 28,136
Per Share of Common Stock:
Basic Net Income $2.28 +33.3 $1.71 $1.30 $0.91 $2.85
Diluted Net Income 2.27 +33.5 1.70 1.30 0.91 2.85
Total Assets 260,550 +5.5 246,943 225,831 234,206 222,721
Noncurrent Liabilities 37,271 +1.5 36,714 31,765 40,520 28,946
Stockholders’ Equity 180,332 +4.0 173,351 162,343 159,898 159,912
Return on Average Equity (percent) 12.0 +25.0 9.6 7.7 5.4 18.6
Return on Assets (percent) 8.2 +25.4 6.6 5.5 3.8 12.6
Stockholders’ Equity Per Share4 19.16 +4.9 18.26 16.96 16.51 16.22
Cash Dividends Paid 0.72 +12.5 0.64 0.64 0.64 0.60
Basic Weighted Average Shares Outstanding 9,410 –0.9 9,492 9,570 9,685 9,860
Diluted Weighted Average Shares Outstanding 9,430 –0.9 9,511 9,596 9,708 9,874
1 Net sales for 2004, 2003, 2002 and 2001 were also positively impacted by the acquisition of the North American Industrial Products and Kent Automotive Divisions
of Premier Farnell PLC in March 2001.
2 During 2003 the Company recorded a $2,789 pretax loss related to the sale of Lawson Products Limited, the Company’s former UK subsidiary. In 2001, income
before taxes included charges of $11,881 related to the write-off of capitalized software and implementation costs related to an enterprise information system
project which the Company decided to discontinue as well as a promotional program related to the acquisition of Premier operations. During 2000, the Company
recorded a gain of $3,502 as a result of the sale of the Company’s interest in a real estate investment.
3 In 2003, income tax expense included a $2,157 reduction to reflect the partial utilization of a capital loss generated by the sale of the Company’s former UK
subsidiary. In 2003 and 2002, the Company recorded $1,477 and $421 respectively, after tax, of charges for compensation arrangements related to management
personnel reductions. The Company adopted SFAS No. 142 as of January 1, 2002. Therefore, the Company discontinued amortization of goodwill for 2002 and
thereafter. Net income for 2001 was reduced by $731 related to goodwill amortization. In 2001, the Company recorded charges for the write-off of capitalized
software and implementation costs related to an enterprise information system project which the Company decided to discontinue as well as a promotional
program related to the acquisition of Premier operations. Together, these charges reduced net income by $7,159. During 2000, the Company recorded a gain
of $2,136 as a result of the sale of the Company’s interest in a real estate investment.
4 These per share amounts were computed using basic weighted average shares outstanding for all periods presented.
1
Dear Fellow Shareholders,
The year 2004 marked improved performance of
the Lawson Family of Businesses. Our Company’s
performance may be accurately described as being
focused, innovative, value-driven and exceeding the
expectations of customers.
During 2004, the people of the Family of
Businesses added a great deal of value to our
Company. Sales growth coupled with operational
improvements increased net income per diluted
share 34% to $2.27. Lawson enjoyed record sales
of approximately $420 million. Sales increased
sequentially during the year achieving an increase
of about 11% in the fourth quarter compared to
that of the prior year. The Company supported its
growth with a modest increase in operating costs
of just over 3%, creating substantial leverage for
2004. Stockholders equity increased to $180.3
million and the book value per share of our
common stock increased to $19.16.
Return on shareholder equity increased to 12%, an
increase of 25% over that of the prior year. Lawson
retired nearly 250,000 shares of common stock,
paid dividends at record levels, and invested in
facilities and equipment. At year end, our Company
had $29 million of cash and cash equivalents, no
short term (other than a $1.6 million non-recourse
mortgage on an investment property) or long-term
debt, and a current ratio of 3.7 to 1.
Dividends paid to shareholders during 2004
increased 12.5% to $.72 per share. The people of
the Family of Businesses did a “better and better
job” of increasing the strength of our Company
and its value for our shareholders.
The foundation of the Lawson Family of Businesses
is its customers. Everything we do as a Company,
every decision we make, must be undertaken from
the viewpoint of our customers. Every endeavor
must be driven by the needs and desires of our
customers and set us apart from our competition.
During 2004, we spent a great deal of time with the
customers of each of our specialized businesses:
customers of varied sizes, from varied industries,
and located across the breadth of North America.
We verified that our customers continue to want
top quality products and top quality services. We
learned that they prefer multiple “touch points”
to our companies. Our customers prefer fewer
suppliers and a reduced number of invoices.
And, above all, our customers require the expert
advice of our sales representatives to counsel them
as to the newest products, the latest applications,
the most efficient inventory systems and the most
cost effective solutions to meet the needs of
their businesses.
We confirmed that many of the “experiments”
we have been conducting have led us in proper
directions. We are enjoying increased usage of
inside sales, of combined invoicing systems, of
e-ordering, electronic catalogs, electronic
inventory services, on-site services and of
special product acquisition systems. Our sales
representatives have increased the availability
of these services to our customers and our
customers are enjoying the benefits.
By providing additional tools and mechanisms
centered around the talents, capabilities, and
knowledge of our sales representatives, the level of
customer service increases significantly. Combining
what we’ve learned through experimentation and
from our customers, the Family of Businesses has
become more “customer driven” than ever before.
This is inuring to the benefit of our customers,
our sales representatives, our Company, and to
its shareholders.
Enhancements to our operating systems,
including purchasing and inventory processes,
invoicing and collection procedures, customer
service mechanisms, and the ability to measure
results achieved by our people are crucial to
2
Lawson Products, Inc. and Subsidiaries
®
our growing businesses. For those reasons,
our investment in information systems, both
in people as well as equipment has increased.
The results are anticipated to include improvements
in customer service, increased product
development, more rapid dissemination of
information to our sales forces, and increased
sales and profitability.
Your Company has increased its efficiency and
profitability while controlling costs. This is reflected
in a more than 35% increase in operating income
for 2004 against an 8% increase in sales. The
continuing enhancement of our operations and
distribution networks are intended to permit
improved levels of operating leverage to continue,
and perhaps increase, with the growth of our
businesses.
Our customers expect top performance from
our businesses and we expect top performance
from our people. A variety of education and
compensation programs for our people provide
the methods by which customer and sales force
growth, process improvements and management
expectations are established, measured and
rewarded. We are benefiting from reduced
turnover of people both in the field and internally,
improved productivity, better penetration of
customers and entry into new markets.
During 2004, our Company also expanded its
corporate marketing group. Our marketing
people have led us to substantial increases in
our government business, increased capability in
e-ordering, and the expansion of on-site services.
We have learned how to meet the needs of large,
complex accounts in the manufacturing, processing,
defense and construction industries. Our activity
with such accounts has increased markedly. We are
competing for that business at high and intense
levels. And, we are winning.
The on-site attention of our sales representatives
lead Lawson’s multiple selling, inventory
maintenance, and servicing capabilities. There is
no need for our customers to spend valuable time
buried in catalogs, telephone books, or even less
productive, to send key personnel to a store.
The Lawson customer enjoys reduced “downtime”
and increased “uptime”. Our customers’
requirements for the maintenance of their
facilities and equipment and for component parts
for production are already in place; where they
need it; when they need it. With the Family of
Businesses, “It’s Already There.”
That’s the Lawson Family of Businesses:
Our customers’ Single Source of Supply, Keeping
Businesses Running, at the Lowest Overall Cost.
Our Company accomplished a great deal in 2004.
We have a superior foundation of highly skilled
people, systems and facilities. We have a hunger to
make all of it better and to achieve more. We are
building upon a history of integrity, quality and
confidence in ourselves and in the valuable work
we do while serving customers in a continually
changing environment.
Sincerely,
Robert J. Washlow
Chairman of the Board and CEO
Lawson Products, Inc.
April, 2005
3
Stock and Financial Data
MARKET PRICES FOR COMMON STOCK
The Company’s Common Stock is traded in the over-the-counter market under the NASDAQ symbol of “LAWS.” The approximate
number of stockholders of record at December 31, 2004 was 746. The following table sets forth the High and Low closing sale
prices as reported on the NASDAQ National Market System during the last two years.
2004 2003
High Low High Low
First Quarter $34.49 $28.61 $30.81 $23.04
Second Quarter 38.15 32.67 28.48 24.40
Third Quarter 41.63 35.85 29.87 25.76
Fourth Quarter 51.25 41.46 34.74 27.47
CASH DIVIDENDS DECLARED PER SHARE
2004 2003
First Quarter $.18 $.16
Second Quarter .18 .16
Third Quarter .18 .16
Fourth Quarter .18 .18
$.72 $.66
CLASSES OF SIMILAR PRODUCTS
The Company’s products may be grouped into the following classes of similar products, each of which accounted for the indicated
percentages of consolidated revenues:
Percent of Consolidated Revenues
2004 2003 2002
Fasteners, fittings and related parts 44% 43% 43%
Industrial supplies 47 48 48
Automotive and equipment maintenance parts 9 9 9
100% 100% 100%
4
Lawson Products, Inc. and Subsidiaries
®
Report of Independent
Registered Public Accounting Firm
To the Stockholders and Board of Directors
Lawson Products, Inc.
We have audited the accompanying consolidated
balance sheets of Lawson Products, Inc. and
subsidiaries as of December 31, 2004 and 2003,
and the related consolidated statements of income,
changes in stockholders’ equity, and cash flows
for each of the three years in the period ended
December 31, 2004. These financial statements are
the responsibility of the Company’s management.
Our responsibility is to express an opinion on the
financial statements based on our audits.
We conducted our audits in accordance with
auditing standards generally accepted in the
United States. Those standards require that we
plan and perform the audit to obtain reasonable
assurance about whether the financial statements
are free of material misstatement. An audit
includes examining, on a test basis, evidence
supporting the amounts and disclosures in the
financial statements. An audit also includes
assessing the accounting principles used and
significant estimates made by management, as
well as evaluating the overall financial statement
presentation. We believe that our audits provide
a reasonable basis for our opinion.
consolidated financial position of Lawson Products,
Inc. and subsidiaries at December 31, 2004
and 2003, and the consolidated results of their
operations and their cash flows for each of the
three years in the period ended December 31,
2004, in conformity with U.S. generally accepted
accounting principles.
As discussed in Note B to the financial statements,
in 2003 the Company changed its method of
accounting for its investment in a real estate
partnership.
We also have audited, in accordance with the
standards of the Public Company Accounting
Oversight Board (United States), the effectiveness
of Lawson Products, Inc. and subsidiaries internal
control over financial reporting as of December
31, 2004, based on criteria established in Internal
Control – Integrated Framework issued by the
Commitee of Sponsoring Organizations of the
Treadway Commission and our report dated March
10, 2005 expressed an unqualified opinion thereon.
In our opinion, the financial statements referred to
above present fairly, in all material respects, the
Chicago, Illinois
March 10, 2005
5
Consolidated Balance Sheets
December 31,
(Dollars in thousands) 2004 2003
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 28,872 $ 23,555
Accounts receivable, less allowance for doubtful accounts
(2004 – $1,986; 2003 – $2,121) 52,129 47,972
Inventories 65,687 59,817
Miscellaneous receivables 2,081 4,773
Prepaid expenses 7,479 6,666
Deferred income taxes 1,729 1,975
Total Current Assets 157,977 144,758
Property, plant and equipment, at cost, less allowances for depreciation
and amortization (2004 – $58,837; 2003 – $58,692) 42,452 44,905
Other assets:
Cash value of life insurance 15,089 13,201
Deferred income taxes 14,779 13,201
Goodwill, less accumulated amortization 28,649 28,649
Other intangible assets, less accumulated amortization
(2004 – $1,335; 2003 – $1,219) 1,365 1,481
Other 239 748
60,121 57,280
$260,550 $246,943
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable $ 8,746 $ 8,240
Accrued expenses and other 32,628 27,176
Current portion of long term debt 1,573 1,462
Total Current Liabilities 42,947 36,878
Noncurrent liabilities and deferred credits:
Accrued liability under security bonus plans 21,528 20,823
Long term debt — 1,573
Deferred compensation and other liabilities 15,743 14,318
37,271 36,714
Stockholders’ equity:
Preferred Stock, $1 par value: Authorized – 500,000 shares;
Issued and outstanding – None — —
Common Stock, $1 par value: Authorized – 35,000,000 shares;
Issued – 2004 – 9,280,935 shares; 2003 – 9,493,511 shares 9,281 9,494
Capital in excess of par value 3,467 2,667
Retained earnings 167,187 161,831
179,935 173,992
Accumulated other comprehensive income (loss) 397 (641)
Stockholders’ equity 180,332 173,351
$260,550 $246,943
See notes to consolidated financial statements
6
Lawson Products, Inc. and Subsidiaries
®
Consolidated Statements of Income
Year ended December 31,
(Dollars in thousands, except per share data) 2004 2003 2002
Net sales $419,652 $389,091 $387,456
Cost of goods sold 155,971 141,124 137,129
Gross profit 263,681 247,967 250,327
Selling, general and administrative expenses 231,762 221,189 226,571
Other charges — 2,459 360
Provision for doubtful accounts 1,108 1,578 1,585
Operating Income 30,811 22,741 21,811
Interest and dividend income 122 194 53
Interest expense (184) (131) (154)
Other income – net 2,689 2,088 1,479
2,627 2,151 1,378
Income Before Income Taxes 33,438 24,892 23,189
Income Tax Expense 12,013 8,696 10,742
Net Income $ 21,425 $ 16,196 $ 12,447
Net Income Per Share of Common Stock:
Basic $2.28 $1.71 $1.30
Diluted $2.27 $1.70 $1.30
See notes to consolidated financial statements
7
Consolidated Statements of
Changes in Stockholders’ Equity
Accumulated
Common Capital Other
Stock, in excess of Retained Comprehensive Comprehensive
(Dollars in thousands) $1 par value par value Earnings Income (Loss) Income
Balance at January 1, 2002 $9,629 $ 913 $151,554 $(2,198) $ —
Net income 12,447 12,447
Other comprehensive income, net of tax:
Adjustment for foreign currency translation 165 165
Comprehensive income for the year $12,612
Cash dividends declared (6,115)
Stock issued under employee stock plans 61 1,510
Purchase and retirement of common stock (196) (36) (5,391)
Balance at December 31, 2002 9,494 2,387 152,495 (2,033)
Net income 16,196 $16,196
Other comprehensive income, net of tax:
Adjustment for foreign currency translation 1,392 1,392
Comprehensive income for the year $17,588
Cash dividends declared (6,265)
Stock issued under employee stock plans 20 285
Purchase and retirement of common stock (20) (5) (595)
Balance at December 31, 2003 9,494 2,667 161,831 (641)
Net income 21,425 $21,425
Other comprehensive income, net of tax:
Adjustment for foreign currency translation 1,038 1,038
Comprehensive income for the year $22,463
Cash dividends declared (6,751)
Stock issued under employee stock plans 36 884
Purchase and retirement of common stock (249) (84) (9,318)
Balance at December 31, 2004 $9,281 $3,467 $167,187 $ 397
See notes to consolidated financial statements
8
Lawson Products, Inc. and Subsidiaries
®
Consolidated Statements of Cash Flow
Year ended December 31,
(Dollars in thousands) 2004 2003 2002
Operating activities
Net income $ 21,425 $ 16,196 $ 12,447
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 5,299 5,359 5,506
Amortization 1,393 1,744 1,321
Provision for allowance for doubtful accounts 1,108 1,578 1,585
Deferred income taxes (1,775) (476) (2,177)
Deferred compensation and security bonus plans 5,060 5,466 2,704
Payments under deferred compensation
and security bonus plans (2,832) (2,099) (1,635)
Income from investments in real estate — (360) (600)
Changes in operating assets and liabilities:
Accounts receivable (5,265) (5,888) 1,165
Inventories (5,870) 4,902 1,692
Prepaid expenses and other assets (89) (2,678) 5,557
Accounts payable and accrued expenses 5,998 3,176 1,958
Other 1,383 991 129
Net Cash Provided by Operating Activities 25,835 27,911 29,652
Investing activities
Additions to property, plant and equipment (3,784) (5,734) (6,655)
Other 250 286 756
Net Cash Used in Investing Activities (3,534) (5,448) (5,899)
Financing Activities
Proceeds from revolving line of credit — 4,000 36,500
Payments on revolving line of credit — (4,000) (50,500)
Payments on mortgage payable (1,462) (805) —
Purchases of common stock (9,651) (620) (5,623)
Proceeds from exercise of stock options 920 305 1,571
Dividends paid (6,791) (6,075) (6,138)
Net Cash Used in Financing Activities (16,984) (7,195) (24,190)
Increase (Decrease) in Cash and Cash Equivalents 5,317 15,268 (437)
Cash and Cash Equivalents at Beginning of Year 23,555 8,287 8,724
Cash and Cash Equivalents at End of Year $ 28,872 $ 23,555 $ 8,287
See notes to consolidated financial statements
9
Notes to Consolidated Financial Statements
(Dollars in thousands)
NOTE A – DESCRIPTION OF BUSINESS
Lawson Products is an international seller and
distributor of systems, services and products to the
industrial, commercial and institutional maintenance,
repair and replacement (“MRO”) marketplace. The
Company also manufactures, sells and distributes
production and specialized component parts to the
original equipment marketplace (“OEM”).
NOTE B – SUMMARY OF MAJOR ACCOUNTING POLICIES
Principles of Consolidation: The accompanying
consolidated financial statements include the accounts
and transactions of the Company and its wholly owned
and majority owned subsidiaries. All intercompany
accounts and transactions have been eliminated in
consolidation.
Revenue Recognition: Sales and associated cost of goods
sold are recognized when products are shipped and title
passes to customers.
Shipping and Handling Fees and Costs: Costs related
to shipping and handling fees are included on the
Income Statement in the caption selling, general and
administrative expenses. Amounts billed to customers
for shipping fees are included in net sales and totaled
$11,565, $11,159 and $11,898 in 2004, 2003 and
2002, respectively.
Use of Estimates: The preparation of financial statements
in conformity with accounting principles generally
accepted in the United States requires management to
make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying
notes. Actual results could differ from these estimates.
Investment in Real Estate Partnership: The Company’s
investment in real estate, representing a limited
partnership interest, was carried on the basis of the
equity method until June 30, 2003. The Company adopted
FIN 46 as of July 1, 2003, which has resulted in the
consolidation of the Company’s investment in a limited
partnership, which owns an office building in Chicago,
Illinois. An officer and member of the Board of Directors
of the Company is the 1.5% general partner. (See Note I)
The operations of the partnership consist of rental of the
building under a long-term lease and the servicing of the
non-recourse mortgage. The activities are insignificant for
separate disclosure.
Marketable Securities: Marketable equity and debt
securities are classified as available-for-sale and are
carried at fair value, with the unrealized gains and losses,
net of tax, recorded in stockholders’ equity. Realized
gains and losses, declines in value judged to be other-
than-temporary, and interest and dividends are included
in investment income. The cost of securities sold is based
on the specific identification method.
Inventories: Inventories which consist of principally
finished goods are stated at the lower of cost (first-in,
first-out method) or market. (See Note E)
Property, Plant and Equipment: Provisions for
depreciation and amortization are computed by the
straight-line method for buildings using useful lives of 20
to 30 years and by the double declining balance method
for machinery and equipment, furniture and fixtures,
vehicles and capitalized software using useful lives of
3 to 10 years.
Investment Tax Credits: Investment tax credits on asset
leased to others are deferred and amortized over the
useful life of the related asset.
Cash Equivalents: The Company considers all highly
liquid investments with a maturity of three months or less
when purchased to be cash equivalents.
Stock Options: Stock options are accounted for under
Accounting Principles Board Opinion No. 25 (APB 25),
“Accounting For Stock Issued to Employees.” Under APB
25, the Company uses the intrinsic value method where
no compensation expense is recognized because the
exercise price of the stock options granted equals the
market price of the underlying stock at the date of grant.
The following table shows the effect on net income
and earnings per share if the Company had applied the
fair value recognition provision of Financial Accounting
Standards Board (FASB) Statement No. 123, “Accounting
for Stock-Based Compensation.”
2004 2003 2002
Net income – as reported $21,425 $16,196 $12,447
Deduct: Total stock based
employee compensation
expense determined under
fair value method, net of tax (6) (27) (38)
Net income – pro forma 21,419 16,169 12,409
Basic earnings per share – as reported 2.28 1.71 1.30
Diluted earnings per share – as reported 2.27 1.70 1.30
Basic earnings per share – pro forma 2.28 1.70 1.30
Diluted earnings per share – pro forma 2.27 1.70 1.29
10
Lawson Products, Inc. and Subsidiaries
®
For purposes of pro forma disclosures, the estimated fair
value of options granted is amortized as an expense over
the option’s vesting period. The pro forma effect on net
income is not representative of the pro forma effect on
net income in future years because grants made in 1996
and later years have an increasing vesting period.
Goodwill and Other Intangibles: Goodwill represents
the cost of business acquisitions in excess of the fair
value of identifiable net tangible assets acquired.
(See Note G)
Foreign Currency Translation: The financial statements
of foreign entities have been translated in accordance
with Statement of Financial Accounting Standards
No. 52 and, accordingly, unrealized foreign currency
translation adjustments are reflected as a component
of stockholders’ equity. Realized foreign currency
transaction gains and losses were not significant for
the years ended December 31, 2004, 2003 and 2002.
Income Per Share: Basic EPS is computed by dividing
net income by the weighted average number of
common shares outstanding during the period. Diluted
EPS reflects the potential dilution from the exercise or
conversion of securities into common stock, such as
stock options.
Reclassifications: Certain amounts have been
reclassified in the 2003 and 2002 financial statements
to conform with the 2004 presentation.
NOTE C – BUSINESS COMBINATION/DISPOSITION
Sale of Lawson Products Limited, UK Subsidiary:
In the fourth quarter of 2003, the Company sold its UK
subsidiary, Lawson Products Limited, engaged primarily
in the business of MRO sales, to a third party for
approximately $647. The purchase price is in the form
of a note payable to the Company over two years. Prior
to the sale, the Company transferred certain assets and
liabilities related to the OEM portion of this business to
a newly formed subsidiary, Assembly Component Systems
Limited. The sale of Lawson Products Limited resulted in
a pre-tax loss of approximately $2,789, largely related to
inventory write-offs and termination costs associated with
the sale. This loss is classified in selling, general and
administrative expenses in the statement of income. This
business was part of the Company’s International OEM
distribution segment.
The sale also generated approximately $22,441 in
capital losses for tax purposes. The Company was able
to carryback $6,163 of the capital loss to offset capital
gains in prior years tax returns. The effect of the
carryback resulted in $2,157 of tax benefit realized in
2003 for financial statement purposes. A valuation
allowance has been provided for the remainder of the
capital loss due to the uncertainty of utilization.
NOTE D – OTHER CHARGES
In 2003, the Company recorded charges totaling
$2,459 for severance payable to several members of
management. Benefits of $1,175 and $422 were paid
in 2004 and 2003 respectively. The remaining benefits
will be paid through 2006.
During 2002, the Company recorded a charge of $568
for severance payable to several members of management
and a $208 adjustment to the reserve resulting from a
severance settlement. Benefits of $92 and $155 were paid
in 2004 and 2003 respectively. The remaining benefits
will be paid in future years.
The table below shows an analysis of the Company’s
reserves for other charges:
Severance
and Related
Description of Item Expenses
Balance January 1, 2002 $1,458
Charged to earnings 2002 568
Cash paid in 2002 (942)
Adjustment to reserves (208)
Balance December 31, 2002 876
Charged to earnings 2003 2,459
Cash paid in 2003 (859)
Balance December 31, 2003 2,476
Cash paid in 2004 (1,434)
Balance December 31, 2004 $1,042
NOTE E – INVENTORIES
The following is a summary of inventories and reserve for
excess and obsolete inventory:
2004 2003
Inventories $ 68,759 $ 64,958
Reserve for excess and
(5,141)
obsolete inventory (3,072)
$65,687 $59,817
11
NOTE F – PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of:
2004 2003
Land $ 8,472 $ 8,389
Buildings and improvements 51,839 51,556
Machinery and equipment 30,084 30,143
Furniture and fixtures 5,611 5,749
Vehicles 359 432
Capitalized software 4,372 6,771
Construction in progress 552 557
101,289 103,597
Accumulated
depreciation and amortization (58,837) (58,692)
$42,452 $44,905
NOTE G– GOODWILL AND OTHER INTANGIBLES
The Company adopted FASB statement No. 142 “Goodwill
and Other Intangibles” as of January 1, 2002. The
Company performed its annual impairment test in the
fourth quarter of 2004 and determined the Company’s
goodwill was not impaired.
Intangible assets subject to amortization were as follows:
Gross Accumulated Net Carrying
December 31, 2004 Balance Amortization Amount
Trademarks and tradenames $1,747 $935 $812
Customer lists 953 400 553
$2,700 $1,335 $1,365
Gross Accumulated Net Carrying
December 31, 2003 Balance Amortization Amount
Trademarks and tradenames $1,747 $851 $896
Customer lists 953 368 585
$2,700 $1,219 $1,481
Trademarks and tradenames are being amortized over
a weighted average 15.14 years. Customer lists are
being amortized over 13.96 years. Amortization expense,
all of which was included in the MRO distribution
segment, for the intangible assets was $116, $518 and
$377 in 2004, 2003 and 2002, respectively. Amortization
expense for each of the next five years is estimated to
be $83 per year.
NOTE H – ACCRUED EXPENSES AND OTHER
Accrued expenses and other liabilities consist of
the following:
2004 2003
Salaries, commissions and
other compensation $11,369 $ 6,802
Accrued other charges 1,042 2,476
Accrued and withheld taxes,
other than income taxes 2,644 2,591
Accrued profit sharing
contributions 3,626 3,448
Accrued stock performance
rights 2,081 654
Accrued self-insured health benefits 1,560 1,800
Cash dividends payable 1,670 1,709
Other 8,636 7,696
$32,628 $27,176
NOTE I – LONG TERM DEBT
On July 1, 2003 the Company adopted FIN 46 which has
resulted in the Company’s consolidation of an investment
in a limited partnership which owns an office building in
Chicago, Illinois. In conjunction with the consolidation
of its investment, the Company has recorded long-term
debt, which represents a non-recourse mortgage
payable relative to the building. The interest rate of
the non-recourse mortgage payable is 7.315%, with a
maturity date of December 31, 2005. The building and
land have a net carrying value of $4,184, which are
included in property, plant and equipment. The
remaining assets, none of which are significant, are
recorded in other assets.
The Company’s mortgage obligations in effect at
December 31, 2004 and 2003, with respect to this
office building, amounted to approximately $1,573 and
$3,035, respectively. Mortgage payments are payable as
follows: 2005 - $1,573. Interest expense related to the
mortgage totaled $171 and $124 in 2004 and 2003,
respectively.
On February 21, 2001, the Company entered into a $50
million unsecured multi-currency line of credit. The
Company had no loans outstanding under the line at
December 31, 2004 and 2003. Amounts outstanding
under the line carry interest at 1.5% below the prime
rate or .75% over LIBOR. The line matures on February
21, 2006. The line requires the Company to meet certain
covenants, all of which were met at December 31, 2004.
The Company paid interest of $0, $7 and $220,
respectively, in 2004, 2003 and 2002.
12
Lawson Products, Inc. and Subsidiaries
®
NOTE J – STOCK PLANS
The Incentive Stock Plan (Plan), provides for the
issuance of shares of Common Stock to non-employee
directors, officers and key employees pursuant to
stock options, stock performance rights (SPRs), stock
purchase agreements and stock awards. As of December
31, 2004, 519,327 shares of Common Stock were
available for issuance under the Plan.
In 2003 and 2002, the Company granted SPRs pursuant to
the Plan. These SPRs have exercise prices ranging from
$24.64 to $33.15 per share. These SPRs vest at 20% per
year and entitle the recipient to receive a cash payment
equal to the excess of the market value of the Company’s
common stock and the SPR price when the SPRs are
surrendered. Compensation expense for the SPRs in
2004, 2003 and 2002 was $2,620, $410 and $244,
respectively.
Additional information with respect to SPRs is
summarized as follows:
Average SPR
Exercise Price # of SPRs
230,350
Outstanding January 1, 2002(1) $26.90
Granted(2) 30.74
18,000
Outstanding December 31, 2002 27.18 248,350
Granted(3) 27.85
31,500
Exercised 26.77 (1,900)
Outstanding December 31, 2003 27.26 277,950
Exercised 26.76 (66,450)
Canceled 27.45 (22,500)
Outstanding December 31, 2004 $27.41 189,000
(1) Includes 84,560 SPRs vested at December 31, 2004
(2) Includes 5,200 SPRs vested at December 31, 2004
(3) Includes 1,000 SPRs vested at December 31, 2004
The Plan permits the grant of incentive stock options,
subject to certain limitations, with substantially the same
terms as non-qualified stock options. Non-employee
directors are not eligible to receive incentive stock
options. Stock options are not exercisable within six
months from date of grant and may not be granted at
prices less than the fair market value of the shares at the
dates of grant. Benefits may be granted under the Plan
through December 16, 2006.
Additional information with respect to the Plan is
summarized as follows:
Average Price Option Shares
Outstanding January 1, 2002 $22.87 172,990
Granted — —
Exercised 22.73 (50,954)
Canceled or expired — —
Outstanding December 31, 2002 22.93 122,036
Granted — —
Exercised 22.50
(19,686)
Canceled or expired — —
Outstanding December 31, 2003 23.01 102,350
Granted — —
(31,350)
Exercised 23.62
Canceled or expired 22.70
(21,450)
Outstanding December 31, 2004 $22.75 49,550
Exercisable options at Weighted Average Price Option Shares
December 31, 2004 $22.75 49,550
December 31, 2003 $22.99 99,600
December 31, 2002 $22.90 114,286
As of December 31, 2004, the Company had the
following outstanding options:
Exercise Price $22.44-$22.50 $23.56 $26.75
Options Outstanding 40,550 8,000 1,000
Weighted Average Exercise Price $22.49 $23.56 $26.75
Weighted Average Remaining Life 1.9 5.4 3.3
Options Exercisable 40,550 8,000 1,000
Weighted Average Exercise Price $22.49 $23.56 $26.75
Disclosure of pro forma information regarding net
income and net income per share is required by
FASB Statement No. 123, “Accounting for Stock-Based
Compensation,” and has been determined as if the
Company had accounted for its employee stock options
under the fair value method of that Statement. The fair
value of these options was estimated at the date of grant
using the Black-Scholes options pricing model.
No options were granted in 2004, 2003 or 2002. See
Note B - Stock Options for impact of options granted
prior to 2002 on pro forma earnings per share.
NOTE K – PROFIT SHARING AND SECURITY BONUS PLANS
The Company and certain subsidiaries have a profit
sharing plan for office and warehouse personnel.
The amounts of the companies’ annual contributions
are determined by the board of directors subject to
limitations based upon operating results.
13
The plan also has a 401(k) defined contribution saving
feature. This feature, available to all participants, was
provided to give employees a pretax investment vehicle
to save for retirement. The Company does not match the
contributions made by plan participants.
The Company and its subsidiaries also have in effect
security bonus plans for the benefit of independent sales
representatives and certain regional managers, under
the terms of which participants are credited with a
percentage of their yearly earnings. Of the aggregate
amounts credited to participants’ accounts, 25% vests
after five years and an additional 5% vests each year
thereafter. For financial reporting purposes, amounts are
charged to operations over the vesting period.
Provisions for profit sharing and security bonus plans
aggregated $5,979, $5,301 and $5,689 for the years
ended December 31, 2004, 2003 and 2002, respectively.
NOTE L – INCOME TAXES
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. In
addition, deferred income taxes include net operating
loss carryforwards of foreign subsidiaries which do
not expire. The Company also has a capital loss related
to the 2003 sale of the Company’s UK MRO business.
A valuation allowance was recorded for a portion of
the $22,441 capital loss due to the uncertainty of the
Company’s ability to realize the capital loss against future
capital gains prior to expiration in 2008. Significant
components of the Company’s deferred tax assets and
liabilities as of December 31 are as follows:
Deferred Tax Assets: 2004 2003
Compensation and benefits $16,185 $15,237
Inventory 3,447 3,011
Net operating loss carryforwards
of subsidiaries 2,619 2,619
Capital loss 5,580 5,697
Accounts receivable 762 669
Other — 345
Total Deferred Tax Assets 28,593 27,578
Valuation allowance for
deferred tax assets (8,199)
(8,316)
Net Deferred Tax Assets 20,394 19,262
Deferred Tax Liabilities:
Property, plant & equipment 1,192 2,381
Other 2,694 1,705
Total Deferred Tax Liabilities 3,886 4,086
Total Net Deferred Tax Assets $16,508 $15,176
Net Deferred Tax Assets: 2004 2003
Total Current Deferred Income Taxes $ 1,729 $ 1,975
Total Noncurrent Deferred Income Taxes 14,779 13,201
Total Net Deferred Tax Assets $16,508 $15,176
Net deferred tax assets include the tax impact of
items in comprehensive income of $(214) and $345
at December 31, 2004 and 2003, respectively.
Income (loss) before income taxes for the years ended
December 31, consisted of the following:
2004 2003 2002
United States $32,182 $27,728 $27,906
Foreign 1,256 (2,836) (4,717)
$33,438 $24,892 $23,189
The provisions for income taxes for the years ended
December 31, consisted of the following:
2004 2003 2002
Current:
Federal $11,652 $7,422 $ 10,972
State 2,136 1,750 1,947
13,788 9,172 12,919
Deferred benefit (1,775) (476) (2,177)
$12,013 $8,696 $ 10,742
The reconciliation between the effective income tax rate
and the statutory federal rate is as follows:
2004 2003 2002
Statutory federal rate 35.0% 35.0% 35.0%
Increase (decrease)
resulting from:
State income taxes, net of
federal income tax benefit 4.2 4.6 5.5
Foreign losses 1.2 6.7 9.3
Capital loss carryback
— (8.7) —
Executive life insurance (2.0) (2.9) 2.1
Other items, net (2.5) 0.2 (5.6)
46.3%
Provision for income taxes 35.9% 34.9%
Income taxes paid for the years ended December 31,
2004, 2003, and 2002 amounted to $12,097, $10,523
and $13,392, respectively.
14
Lawson Products, Inc. and Subsidiaries
®
NOTE M – COMMITMENTS
The Company’s minimum rental commitments,
principally for equipment, under noncancelable leases in
effect at December 31, 2004, amounted to approximately
$14,349. Such rentals are payable as follows:
2010
2005 2006 2007 2008 2009 and thereafter
$3,502 $2,936 $2,488 $1,685 $1,482 $2,256
Total rental expense for the years ended December 31,
2004, 2003 and 2002 amounted to $3,009, $3,977
and $3,669 respectively.
NOTE N – INCOME PER SHARE
The computation of basic and diluted earnings per share
consisted of the following:
Year ended December 31
2004 2003 2002
Numerator:
Net income $21,425 $16,196 $12,447
Denominator:
Denominator for basic income per
share – weighted average shares 9,410 9,492 9,570
Effect of dilutive securities:
Stock option plans 20 19 26
Denominator for diluted
income per share –
adjusted weighted average shares 9,430 9,511 9,596
Basic income per share $2.28 $1.71 $1.30
Diluted income per share $2.27 $1.70 $1.30
NOTE O – SEGMENT REPORTING
The Company has four reportable segments:
Maintenance, Repair and Replacement distribution in
the U.S. (MRO-US), International Maintenance, Repair
and Replacement distribution in Canada (MRO-CAN),
Original Equipment Manufacturer distribution and
manufacturing in the U.S. (OEM-US) and International
Original Equipment Manufacturer distribution in Mexico
and the United Kingdom (OEM-INTL). The operations
of the Company’s MRO distribution segments distribute
a wide range of MRO parts to repair and maintenance
organizations by the Company’s force of independent
sales agents.
The operations of the Company’s OEM segments
manufacture and distribute component parts to OEM
manufacturers through a network of independent
manufacturers representatives as well as internal
sales employees.
The Company’s reportable segments are distinguished
by the nature of products distributed and sold, types
of customers, manner of servicing them, and
geographical location.
The Company evaluates performance and allocates
resources to reportable segments primarily based on
operating income. The accounting policies of the
reportable segments are the same as those described
in the summary of significant policies except that the
Company records its federal and state deferred tax
assets and liabilities at corporate. Intersegment sales
are not significant.
Financial information for the Company’s reportable
segments consisted of the following:
Year ended December 31
2004 2003 2002
Net sales
MRO-US $316,099 $302,047 $306,863
MRO-CAN 21,806 18,976 16,505
OEM-US 64,632 54,147 55,547
OEM-INTL 17,115 13,921 8,541
Consolidated total $419,652 $389,091 $387,456
Operating Income (loss)
MRO-US $27,112 $24,993 $23,828
MRO-CAN 2,313 1,494 1,051
OEM-US 2,326 537 2,490
(5,558)
OEM-INTL (940) (4,283)
Consolidated total $30,811 $22,741 $21,811
Capital expenditures
MRO-US $2,798 $2,792 $4,634
MRO-CAN 323 1,234 944
OEM-US 561 1,565 869
OEM-INTL 102 143 208
Consolidated total $3,784 $5,734 $6,655
Depreciation and amortization
MRO-US $5,345 $5,592 $5,650
MRO-CAN 253 175 121
OEM-US 856 804 799
OEM-INTL 238 532 257
Consolidated total $6,692 $7,103 $6,827
Total assets
MRO-US $174,777 $168,783 $154,832
MRO-CAN 18,519 17,137 13,989
OEM-US 40,275 36,076 33,181
OEM-INTL 10,471 9,771 8,379
Segment total 244,042 231,767 210,381
Corporate 16,508 15,176 15,450
Consolidated total $260,550 $246,943 $225,831
Goodwill
MRO-US $22,104 $22,104 $22,104
MRO-CAN 4,294 4,294 4,294
OEM-US 2,251 2,251 2,251
OEM-INTL — — —
Consolidated total $28,649 $28,649 $28,649
15
The reconciliation of segment profit to consolidated
income before income taxes consisted of the following:
Year ended December 31
2004 2003 2002
Total operating income
for reportable segments $30,811 $22,741 $21,811
Interest and dividend income 122 194 53
Interest expense (184) (131) (154)
Other - net 2,689 2,088 1,479
Income before income taxes $33,438 $24,892 $23,189
Financial information related to the Company’s
operations by geographic area consisted of the following:
Year ended December 31
2004 2003 2002
Net sales
United States $380,731 $356,194 $362,410
Canada 21,806 18,976 16,505
Other foreign countries 17,115 13,921 8,541
Consolidated total $419,652 $389,091 $387,456
Year ended December 31
2004 2004 2003
Long-lived assets
United States $62,677 $65,064 $62,157
Canada 8,269 8,199 7,139
Other foreign countries 155 291 376
Consolidated total $71,101 $73,554 $69,672
Net sales are attributed to countries based on the
location of customers. Long-lived assets consist of total
property, plant and equipment and goodwill.
NOTE P – SUMMARY OF UNAUDITED QUARTERLY
RESULTS OF OPERATIONS
Unaudited quarterly results of operations for the years
ended December 31, 2004 and 2003 are summarized
as follows:
Quarter ended
2004 Mar. 31 Jun. 30 Sept. 30 Dec. 31
(Dollars in thousands, except per share data)
Net sales $100,658 $104,443 $107,380 $107,171
Cost of goods sold 35,261 38,796 40,667 41,247
Income before income taxes1 10,527 8,726 9,048 5,137
Provision for income taxes2 4,001 3,409 3,462 1,141
Net income 6,526 5,317 5,586 3,996
Net income per share
of common stock:
Basic and diluted 0.69 0.56 0.59 0.43
Diluted weighted average
shares outstanding 9,515 9,475 9,422 9,343
Quarter ended
2003 Mar. 31 Jun. 30 Sept. 30 Dec. 31
(Dollars in thousands, except per share data)
Net sales $96,075 $97,109 $99,301 $96,606
Cost of goods sold 34,548 35,034 35,349 36,193
Income before income taxes3 6,621 6,705 7,488 4,078
Provision for income taxes4 2,863 2,564 3,124 145
Net income5 3,758 4,141 4,364 3,933
Net income per share
of common stock:
Basic and Diluted 0.40 0.44 0.46 0.41
Diluted weighted average
shares outstanding 9,511 9,506 9,511 9,519
1 The fourth quarter includes incentive compensation expense of $1,736 related
to stock performance rights and a $881 increase to employee compensation
accruals.
2 The fourth quarter includes a $560 reduction of the tax provision to reflect tax
exempt income related to executive life insurance and charitable contributions
of inventory.
3 The fourth quarter includes a $2,789 pretax loss related to the sale of Lawson
Products Limited, the Company’s former UK subsidiary.
4 The fourth quarter includes a $2,157 reduction of the tax provision to reflect the
partial utilization of a capital loss generated by the sale of the Company’s former
UK subsidiary.
5 The second, third and fourth quarters, respectively, include $751, $240 and
$486 of charges for compensation arrangements related to management
personnel reductions.
16
Lawson Products, Inc. and Subsidiaries
®
Management’s Report on Internal Control
Over Financial Reporting
Our management is responsible for establishing
and maintaining adequate internal control over
financial reporting, as such term is defined in
Rule 13a -15(f) under the Exchange Act. As
required by Rule 13a -15(c) under the Exchange
Act, the Company’s management carried out an
evaluation, with the participation of the Company’s
chief executive officer and chief financial officer,
of the effectiveness of our internal control over
financial reporting as of December 31, 2004. The
framework on which the evaluation was based is
contained in the report entitled “Internal Control
– Integrated Framework” issued by the Committee
of Sponsoring Organizations of the Treadway
Commission (“COSO”).
Based on our evaluation under COSO criteria, our
management concluded that our internal control
over financial reporting was effective as of
December 31, 2004.
Ernst & Young LLP, the Company’s independent
registered public accounting firm, have issued an
attestation report on the Company’s management
assessment of the effectiveness of the Company’s
internal control over financial reporting as of
December 31, 2004, which is included herein.
17
Report of Independent Registered Public Accounting
Firm on Internal Control Over Financial Reporting
To the Stockholders and Board of Directors
Lawson Products, Inc.
We have audited management’s assessment, included
in the accompanying consolidated financial statements,
that Lawson Products, Inc.’s maintained effective
internal control over financial reporting as of
December 31, 2004 based on criteria established in
Internal Control – Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway
Commission (“COSO”). Lawson Products, Inc.’s
management is responsible for maintaining effective
internal control over financial reporting and for its
assessment of the effectiveness of internal control over
financial reporting. Our responsibility is to express an
opinion on management’s assessment and an opinion
on the effectiveness of the Company’s internal control
over financial reporting based on our audit.
We conducted our audit in accordance with the
standards of the Public Company Accounting
Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal
control over financial reporting was maintained in
all material respects. Our audit included obtaining
an understanding of internal control over financial
reporting, evaluating management’s assessment,
testing and evaluating the design and operating
effectiveness of internal control, and performing such
other procedures as we considered necessary in the
circumstances. We believe that our audit provides a
reasonable basis for our opinion.
A company’s internal control over financial reporting
is a process designed to provide reasonable assurance
regarding the reliability of financial reporting and
the preparation of financial statements for external
purposes in accordance with generally accepted
accounting principles. A company’s internal control
over financial reporting includes those policies and
procedures that (1) pertain to the maintenance of
records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of
the company; (2) provide reasonable assurance that
the transactions are recorded as necessary to permit
preparation of financial statements in accordance
18
with generally accepted accounting principles, and
that receipts and expenditures of the company are
being made only in accordance with authorizations of
management and directors of the company; and (3)
provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a
material effect on the financial statements.
Because of its inherent limitations, internal control
over financial reporting may not prevent or detect
misstatements. Also, projections of any evaluation
of effectiveness to future periods are subject to the
risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In our opinion management’s assessment that
Lawson Products, Inc. and subsidiaries maintained
effective internal control over financial reporting as
of December 31, 2004, is fairly stated, in all material
respects based on the COSO criteria. Also, in our
opinion, Lawson Products, Inc. and subsidiaries
maintained, in all material respects, effective internal
control over financial reporting as of December 31,
2004, based on the COSO criteria.
We have also audited, in accordance with standards
of the Public Company Accounting Oversight Board
(United States), the consolidated balance sheets of
Lawson Products, Inc. and subsidiaries as of December
31, 2004 and 2003 and the related consolidated
statements of income, changes in stockholders’ equity,
and cash flows for each of the three years in the period
ended December 31, 2004 of Lawson Products, Inc.
and subsidiaries and our report dated March 10, 2005
expressed an unqualified opinion thereon.
Chicago, Illinois
March 10, 2005
Lawson Products, Inc. and Subsidiaries
®
Management’s Discussion and Analysis of Results
of Operations and Financial Condition
SUMMARY OF FINANCIAL PERFORMANCE
(Dollars in thousands, except share data) 2004 % of Sales 2003 % of Sales 2002
% of Sales
Net sales $419,652 100.0% $389,091
100.0% $387,456
100.0%
Cost of goods sold 155,971 37.2 141,124
36.3 137,129
Gross profit 263,681 62.8 247,967
63.7 250,327
Operating expenses 232,870 55.5 225,226
57.9 228,516
Operating income 30,811 7.3 22,741
5.8 21,811
Other 2,627 0.6 2,151
0.6 1,378
Income before taxes 33,438 8.0 24,892
6.4 23,189
Income tax expense 12,013 2.9 8,696
2.2% 10,742
35.4
64.6
59.0
5.6
0.4
6.0
2.8
Net income $21,425 5.1% $16,196
4.2% $12,447
3.2%
Diluted earnings per share $2.27 $1.70
$1.30
Total assests 260,550 246,943
225,831
Return on assets 8.2% 6.6%
5.5%
Stockholders’ equity 180,332 173,351
162,343
Return on average equity 12.0% 9.6%
7.7%
Lawson achieved solid financial results in 2004, including record
sales of approximately $420 million. The Company effectively
managed costs, resulting in strong operating income leverage and
earnings growth. For 2004, net income per share increased by
33.5% to $2.27 per share from $1.70 per share in 2003.
Management’s discussion and analysis of operating results
below focuses on the MRO and OEM businesses. These
businesses represent the domestic and international segments
of the respective businesses. For additional information on the
Company’s segment reporting refer to Footnote O-Segment
Reporting in the Notes to Consolidated Financial Statements
included elsewhere in this annual report.
YEAR ENDED DECEMBER 31, 2004 COMPARED TO YEAR
ENDED DECEMBER 31, 2003
REVENUES AND GROSS PROFIT
Net sales increased by $30.6 million to $419.7 million in 2004
compared to $389.1 million in 2003, a 7.9% increase.
The following table presents the Company’s net sales results for its
MRO and OEM businesses for the past two years:
2004 2003
MRO $337.9 $321.0
OEM 81.8 68.1
$419.7 $389.1
MRO sales grew by $16.9 million or 5.3% in 2004. Increases in
average unit selling prices were the primary driver of MRO sales
growth in 2004. Changes in product sales mix and the effects
of selling price increases contributed to the increase in average
unit selling prices in 2004. MRO sales increase was also due to
enhanced account penetration, growth in government programs,
and an improved business climate.
OEM sales grew by $13.7 million or 20.1% in 2004 compared
to 2003, driven by domestic and international growth. The OEM
business added new customers and increased sales to existing
customers in 2004.
Gross profit increased by $15.7 million or 6.3%, to $263.7
million in 2004 compared to $248.0 million in 2003. As a
percent of sales, gross profit decreased to 62.8% in 2004 from
63.7% in 2003. The decline in overall gross profit margins is
primarily related to the rapid sales growth in the OEM segment. As
discussed above, OEM segment sales increased at a 20.1% rate in
2004 compared to 5.3% in the MRO segment, having the effect of
reducing consolidated gross profit margins compared to 2003.
MRO segment gross profit margins increased from 71.3% in 2003
to 71.8 % in 2004. As a result of price increases implemented
in 2004, average selling prices increased and drove gross profit
margins higher.
OPERATING EXPENSES AND OPERATING INCOME
Operating expenses increased by 3.4% or $7.6 million to $232.9
million in 2004 compared to $225.2 million in 2003. The
increase in operating expenses is primarily the result of higher
compensation costs, including a $2.6 million charge for Stock
Performance Rights, reflecting the accounting for the impact
of the 51.8% increase in Lawson’s stock price from $33.07 at
December 31, 2003 to $50.19 at December 31, 2004. Other
19
compensation costs increased, including sales commissions, as
a result of higher MRO sales in 2004, and the payment of higher
sales commissions.
As a percentage of sales, operating expenses decreased from
57.9% in 2003 to 55.5% in 2004, primarily as the result of
productivity improvements and the Company’s ability to leverage
its operating cost infrastructure over a larger revenue base.
Operating income increased by 35.5% in 2004 to $30.8
million. This increase is the result of net sales increases and
improved operating expense leverage, offset somewhat by lower
consolidated gross profit margins.
OTHER INCOME AND EXPENSE
Other income consists primarily of rental income from the
Company’s investment in a real estate partnership, as well as other
miscellaneous income and expenses. For 2004, other income
increased by $0.5 million as a result of life insurance death
benefits paid to the Company.
PROVISION FOR INCOME TAXES
The effective tax rates for 2004 and 2003 were 35.9% and 34.9%,
respectively. In 2004, the effective tax rate included the impact of
$1.9 million of tax free proceeds from executive life insurance.
In 2003, the effective tax rate included the effect of a $2.2 million
tax provision reduction to reflect the partial utilization of a capital
loss carryback generated by the 2003 sale of the Company’s MRO
business in the United Kingdom.
NET INCOME
Net income increased by $5.2 million or 32.3% to $21.4 million
in 2004 from $16.2 million in 2003. The factors that affected net
income comparisons have been discussed above. Per share net
income comparisons were positively impacted by the Company’s
share repurchase program.
YEAR ENDED DECEMBER 31, 2003 COMPARED TO YEAR
ENDED DECEMBER 31, 2002
REVENUES AND GROSS PROFIT
Gross profit decreased by $2.3 million, or 0.9%, to $248.0
million during 2003 from $250.3 million in 2002. This decrease
resulted partially from product mix, as the Company sold a lower
percentage of MRO products as a percentage of total sales in 2003
as compared to 2002. In 2003, MRO gross profit was 71.3% of
sales, compared to 72.4% in 2003. OEM gross profit margins
increased in 2003 to 28.8% of sales, compared to 25.3% in 2002.
OPERATING EXPENSES AND OPERATING INCOME
Operating expenses decreased by $3.3 million, or 1.4%, to $225.2
million (57.9% of sales) in 2003 from $228.5 million (59.0% of
sales) in 2002. The decline in operating expenses was attributable
to the Company’s continuing efforts to contain and reduce costs.
Lower sales agent compensation and benefit costs more than
offset increases in other expenses, principally wages and a loss of
approximately $2.8 million in connection with the sale of the MRO
operations of the Company’s former UK subsidiary. The decrease
in sales agent compensation and benefits resulted principally from
the expiration of a special promotional program ending in the
second quarter of 2002.
Operating income increased by $0.9 million, or 4.3%, to $22.7
million in 2003 from $21.8 million in 2002. The increase resulted
primarily from lower operating expenses noted above, partially
offset by lower gross profit and higher other charges.
OTHER INCOME AND EXPENSE
Other income consists primarily of rental income. For 2003,
other income increased by $0.8 million primarily due to the
consolidation of the Company’s investment in a real estate
partnership beginning in July of 2003.
PROVISION FOR INCOME TAXES
The effective income tax rates were approximately 34.9% and
46.3%, respectively, for 2003 and 2002. The decrease in the
effective tax rate was primarily attributable to a $2.2 million
reduction of the income tax provision to reflect the partial
utilization of a capital loss carryback generated by the 2003 sale of
Lawson Products Limited, the Company’s former subsidiary in the
United Kingdom.
The following table presents the Company’s net sales results for its
MRO and OEM businesses for 2003 and 2002:
NET INCOME
2003 2002
MRO $321.0 $323.4
OEM 68.1 64.1
$389.1 $387.5
Net sales increased by $1.6 million, or 0.4 % in 2003 compared
to 2002. The table above illustrates that OEM sales increased
$4.0 million (6.2%) in 2003 while MRO sales declined $2.4
million (0.7 %). In the OEM segment, the Company increased
key account penetration and expanded its international business.
Overall, international sales growth in the OEM segment offset
a slight decline in U.S. OEM sales in 2003. The MRO segment
continued to face difficult market conditions in 2003, particularly
in the United States. MRO sales gains in Canada for 2003 were
offset by sales declines in domestic MRO business in 2003.
Net income increased by $3.7 million, or 30.1%, to $16.2 million
during 2003 from $12.5 million in 2002, while income per share
increased 31.0% to $1.70 in 2003 from $1.30 in 2002. The
principal factors affecting net income and earnings per share were
lower income taxes and higher operating income, as discussed
above. Per share net income for 2003 and 2002 was positively
impacted by the Company’s share repurchase program.
LIQUIDITY AND CAPITAL RESOURCES
Cash flows from operations and an unused $50 million unsecured
line of credit (entered into in February 2001) have been sufficient
to fund operating requirements, cash dividends and capital
improvements. Cash flows from operations and the line of credit
are also expected to finance the Company’s future growth.
Cash flows provided by operations for 2004, 2003 and 2002 were
$25.8 million, $27.9 million and $29.7 million, respectively.
The decline in 2004 was principally attributable to increasing
operating assets, primarily accounts receivable and inventory,
20
Lawson Products, Inc. and Subsidiaries
®
more than offsetting the $5.2 million increase in net income.
The decline in 2003 from 2002 was due primarily to increasing
operating assets, primarily accounts receivable and cash value of
life insurance more than offsetting the $3.7 million increase in
net income. Working capital at December 31, 2004 and 2003 was
approximately $115.0 million and $107.9 million, respectively. At
December 31, 2004 the current ratio was 3.7 to 1 as compared to
3.9 to 1 at December 31, 2003.
Over the past three years, the Company has made the following
purchases of its common stock:
YEAR
YEAR SHARES COST AUTHORIZED
PURCHSED PURCHASED (in millions) BY BOARD
2004 249,236 $9.6 2000
2003 20,186 0.6 2000
2002 196,250 5.6 1999/2000
In October 2004, the Company’s Board of Director’s authorized
the purchase of up to 500,000 shares of the Company’s common
stock in addition to that previously authorized. There is no
expiration relative to this authorization. At December 31, 2004,
500,000 shares were available for purchase pursuant to the 2004
authorization and 37,163 shares were available for purchase
pursuant to the 2000 Board authorization. Funds to purchase
these shares were provided by investments and cash flows from
operations.
Additions to property, plant and equipment were $3.8 million, $5.7
million and $6.7 million, respectively, for 2004, 2003 and 2002.
Capital expenditures were principally related to improvement of
existing facilities and the purchase of related equipment as well
as the development of software. For 2004, the Company incurred
lower facility expansion expenditures as compared to prior years.
Future contractual obligations consisted of the following at
December 31, 2004:
2010 and
(In thousands) 2005 2006 2007 2008 2009 thereafter Total
Rents $3,502 $2,936 $2,488 $1,685 $1,482 $ 2,256 $14,349
Mortgage payable 1,573 – – – – – 1,573
Deferred compensation 733 614 349 326 155 13,007 15,184
Security bonus plan1 – – – – – 21,528 21,528
Total contractual
cash obligations $5,808 $3,550 $2,837 $2,011 $1,637 $36,791 $52,634
1Payments to beneficiaries of the security bonus plan are made on a lump sum basis at
time of retirement. No such obligations exist at December 31, 2004.
BUSINESS DISPOSALS
Sale of MRO Operations in United Kingdom: During the fourth
quarter of 2003, the Company completed the sale of its United
Kingdom MRO subsidiary. As stated above, in connection with the
sale of this operation, the Company incurred a loss of $2.8 million,
including inventory write-offs of $1.8 million. The Company’s OEM
customers in the United Kingdom will be serviced through a newly
formed entity, Assembly Component Systems Limited.
CRITICAL ACCOUNTING POLICIES
The Company has disclosed its accounting policies in Note B to
the consolidated financial statements. The following provides
supplemental information to these accounting policies as well as
information on the accounts requiring more significant estimates.
Allowance for Doubtful Accounts - Methodology: The Company
evaluates the collectibility of accounts receivable based on a
combination of factors. In circumstances where the Company
is aware of a specific customer’s inability to meet its financial
obligations (e.g., bankruptcy filings, substantial down-grading of
credit ratings), a specific reserve for bad debts is recorded against
amounts due to reduce the receivable to the amount the Company
reasonably believes will be collected. For all other customers,
the Company recognizes reserves for bad debts based on the
Company’s historical experience of bad debt write-offs as a percent
of accounts receivable outstanding. If circumstances change
(i.e., higher than expected defaults or an unexpected material
adverse change in a major customer’s ability to meet its financial
obligations), the estimates of the recoverability of amounts due the
Company could be revised by a material amount.
Inventories - Slow Moving and Obsolescence: The Company
carries significant amounts of inventories, which is a part of the
Company’s strategy as a competitive advantage in its ability to fulfill
the vast majority of our customers’ orders the same day received.
However, this strategy also increases the chances that portions
of the inventory have decreased in value below their carrying
cost. To reduce inventory to a lower of cost or market value,
the Company records a reserve for slow-moving and obsolete
inventory. The Company defines obsolete as those inventory parts
on hand which the Company plans to discontinue to offer to its
customers. Slow-moving inventory is monitored by examining
reports of parts which have not been sold for extended periods.
The Company records the reserve needed based on its historical
experience of how much the selling prices must be reduced to
move these obsolete and slow-moving products. If experience or
market conditions change, estimates of the reserves needed could
be revised by a material amount.
Impact of Inflation and Changing Prices: The Company has
historically been able to pass on to its customers most increases in
product costs. Accordingly, gross margins have not been materially
impacted. The impact from inflation has historically been more
significant on the Company’s fixed and semi-variable operating
expenses, primarily wages and benefits, although to a lesser
degree in recent years due to moderate inflation levels.
Although the Company expects that future costs of replacing
warehouse and distribution facilities will rise due to inflation,
such higher costs are not anticipated to have a material effect on
future earnings.
Quantitative and Qualitative Disclosures About Market
Risk: The Company, through its foreign subsidiaries, distributes
products in Canada, the United Kingdom and Mexico. As a result,
the Company is from time to time exposed to market risk relating
to the impact of foreign currency exchange rates. A hypothetical
10% adverse movement in exchange rates would increase income
by $38,000 in 2004 to offset the loss by the foreign subsidiaries.
The Company had no loans outstanding as of December 31, 2004
under its revolving line of credit.
21
BOARD OF DIRECTORS
Sidney L. Port
Founder and Vice Chairman of the
Board of Directors
Robert J. Washlow
Chairman of the Board
Chief Executive Officer
James T. Brophy
(Private Investor)
Chairman, Audit Committee
Ronald B. Port, M.D.
(Retired Physician)
Chairman, Variance Committee
Mitchell H. Saranow
(Chairman, Saranow Group LLC,
a private investment firm) Chairman,
Nominating and Governance Committee
Wilma J. Smelcer
(Trustee of Goldman Shehs Mutual Fund
Complex and Former Chairman,
Bank of America, Illinois)
Lee S. Hillman
(President, Liberation
Investment Group, Investment Advisory Firm)
Robert G. Rettig
(Consultant)
Chairman, Compensation Committee
Jerome Shaffer
Vice President and Special Advisor to the
Chief Executive Officer
CORPORATE MANAGEMENT
Robert J. Washlow
Chairman of the Board and
Chief Executive Officer
Roger F. Cannon
Executive Vice President, Chief Officer,
Field Sales Strategy and Development
Kenneth E. Malik
Group President,
OEM & International
Michael W. Ruprich
Group President,
MRO and New Channels
Jeffrey B. Belford
President and
Chief Operating Officer
Neil E. Jenkins
Executive Vice President, Secretary
and General Counsel
Thomas Neri
Executive Vice President,
Chief Financial Officer, and Treasurer
James J. Smith
Vice President,
Human Resources
22
Lawson Products, Inc. and Subsidiaries
®
Profile
Lawson Products, Inc. is an international seller and distributor of systems, services and products to the
industrial, commercial, institutional and governmental maintenance, repair and replacement marketplace.
The Company also manufactures, sells and distributes specialized component parts to the original equipment
marketplace including automotive, appliance, aerospace, construction and transportation industries.
The Company offers to customers over 900,000 products including fasteners, parts, chemical specialties,
hardware, welding supplies, pneumatics, hydraulic and other flexible hose fittings, tools, safety items and
electrical and shop supplies.
Customers are currently served from seventeen strategically located facilities by approximately 1,800
sales representatives in the United States, Puerto Rico, Canada, Mexico and the United Kingdom.
Lawson Products was founded in 1952 by Sidney L. Port, Vice Chairman of the Board of Directors.
Corporate Information
ANNUAL MEETING
The annual meeting of stockholders will be
held at 10:00 a.m. Tuesday, May 10, 2005 at
Corporate Headquarters.
FORM 10-K
A copy of the Company’s 2004 Annual Report
on Form 10-K to the Securities and Exchange
Commission is available without charge to
stockholders upon written request to the
Secretary of the Company.
CORPORATE HEADQUARTERS
Lawson Products, Inc.
1666 East Touhy Avenue
Des Plaines, Illinois 60018
847-827-9666
www.lawsonproducts.com
PROFESSIONAL SERVICES
Auditors
Ernst & Young LLP
Legal Counsel
McDermott, Will & Emery
Vedder, Price, Kaufman & Kammholz
SHARE OWNER SERVICES
EquiServe Trust Company, N.A.
P.O. Box 43023 • Providence, RI 02940-3023
Telephone: (877)498-8861
(Operators are available Monday-Friday, 8:30 a.m.
to 7:00 p.m. Eastern time. An interactive automated
system is available around the clock every day.)
Internet: http://www.equiserve.com
Access your account via the internet:
http://gateway.equiserve.com
NASDAQ NATIONAL MARKET
The common stock of Lawson Products is part
of the NASDAQ National Market System. Stock
quotations are included in the National Market
system table in The Wall Street Journal and in leading
daily newspapers across the country. These provide
the same high, low and closing transaction prices as
are shown for securities traded on the New York and
other stock exchanges.
23
Lawson
Family of Businesses
LAWSON PRODUCTS, INC.
and named subsidiaries in Canada, Mexico and the United Kingdom
provide abrasives, electrical items, fasteners, fittings, hardware, hoses,
hydraulics, pneumatics, supplies and tools, together with engineering
consultations and inventory control solutions for the maintenance and
repair requirements of customers.
James W. Degnan
President
CRONATRON WELDING SYSTEMS, INC.
Provides maintenance and repair operations with metallurgical
solutions, welding equipment and supplies, wearplate, rods, polymers
and powders along with inventory control systems.
Susan J. Collins
President
DRUMMOND AMERICAN CORPORATION
and its J.I. Holcomb Division provides specialty chemical solutions and
inventory control systems to maintenance and repair operations, food
service and housekeeping industries.
Roland E. Lazzaro Jr.
President
KENT AUTOMOTIVE
offers a broad range of specialty, high performance, problem-solving
products and systems for the automotive collision and mechanical
repair aftermarket.
Thomas E. Pavlick
Vice President and General Manager
24
ASSEMBLY COMPONENT SYSTEMS, INC.
Provides original equipment manufacturers with just-in-time inventories
of custom-ordered component parts and in-plant inventory systems or
vendor-managed inventory systems through electronic commerce
mechanisms.
Richard Schwind
President and Chief Operating Officer
AUTOMATIC SCREW MACHINE PRODUCTS COMPANY, INC.
Manufacturer of specialized machined parts for the OEM and MRO
marketplaces.
Michael Selby
President
C.B. LYNN COMPANY
A custom solutions provider for obtaining special items supplemental
to those products, parts and supplies regularly inventoried by the
Family of Businesses.
Scott O. McCullough
Vice President and General Manager
SPECTRUM INDUSTRIAL SOLUTIONS
Customized Inventory Management Systems and Solutions provider
servicing in-plant MRO customers utilizing a wide array of channel
options to support uptime goals, achieve supply chain initiatives,
system efficiencies, and to provide total cost effectiveness.
Warren Ludvigsen
Vice President
Lawson Products, Inc.
The Single Source of Supply
Keeping Businesses Running at
the Lowest Overall Cost
25
Lawson Products, Inc.
Corporate Headquarters
1666 East Touhy Avenue
Des Plaines, Illinois 60018
www.lawsonproducts.com