EnPro Indsutries, Inc.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
FORM 10-Q
(Mark One)
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þ |
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Quarterly report pursuant to Section 13 or 15(d)
of the securities exchange act of 1934 |
For the quarterly period ended June 30, 2008
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Transition report pursuant to section 13 or 15(d)
of the securities exchange act of 1934 |
Commission File Number 001-31225
ENPRO INDUSTRIES, INC.
(Exact name of registrant, as specified in its charter)
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North Carolina
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01-0573945 |
(State or other jurisdiction of incorporation)
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(I.R.S. Employer Identification No.) |
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5605 Carnegie Boulevard, Suite 500, Charlotte, |
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North Carolina
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28209 |
(Address of principal executive offices)
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(Zip Code) |
(704) 731-1500
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
shorter period that the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer,
a non-accelerated filer, or a smaller reporting company.
See the definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):
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Large accelerated filer þ |
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Accelerated filer o |
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Non-accelerated filer o
(Do not check if a smaller reporting company) |
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Smaller Reporting Company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).
Yes o No þ
As of July 31, 2008, there were 20,017,911 shares of common stock of the registrant outstanding.
There is only one class of common stock.
TABLE OF CONTENTS
PART I
FINANCIAL INFORMATION
Item 1. Financial Statements
ENPRO INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Quarters and Six Months Ended June 30, 2008 and 2007
(in millions, except per share amounts)
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Quarters Ended |
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Six Months Ended |
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June 30, |
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June 30, |
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2008 |
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2007 |
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2008 |
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2007 |
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Net sales |
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$ |
316.8 |
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$ |
254.4 |
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$ |
599.9 |
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$ |
501.7 |
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Cost of sales |
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201.8 |
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163.0 |
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381.4 |
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321.8 |
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Gross profit |
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115.0 |
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91.4 |
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218.5 |
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179.9 |
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Operating expenses: |
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Selling, general and administrative
expenses |
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72.4 |
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55.2 |
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137.9 |
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110.2 |
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Asbestos-related expenses |
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12.2 |
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13.1 |
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24.3 |
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26.0 |
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Other operating expense (income) |
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(3.9 |
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1.3 |
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(2.7 |
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2.3 |
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80.7 |
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69.6 |
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159.5 |
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138.5 |
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Operating income |
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34.3 |
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21.8 |
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59.0 |
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41.4 |
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Interest expense |
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(2.0 |
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(2.0 |
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(4.0 |
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(4.0 |
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Interest income |
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0.8 |
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2.2 |
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1.9 |
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4.1 |
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Other expense |
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(1.0 |
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(3.8 |
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Income before income taxes |
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32.1 |
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22.0 |
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53.1 |
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41.5 |
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Income tax expense |
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(11.0 |
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(8.2 |
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(18.8 |
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(15.4 |
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Net income |
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$ |
21.1 |
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$ |
13.8 |
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$ |
34.3 |
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$ |
26.1 |
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Basic earnings per share |
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$ |
1.05 |
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$ |
0.65 |
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$ |
1.67 |
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$ |
1.23 |
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Diluted earnings per share |
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$ |
0.99 |
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$ |
0.61 |
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$ |
1.60 |
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$ |
1.17 |
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See notes to consolidated financial statements (unaudited).
1
ENPRO INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Six Months Ended June 30, 2008 and 2007
(in millions)
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2008 |
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2007 |
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OPERATING ACTIVITIES |
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Net income |
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$ |
34.3 |
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$ |
26.1 |
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Adjustments to reconcile net income to net cash
provided by operating activities: |
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Depreciation |
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15.2 |
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14.1 |
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Amortization |
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7.0 |
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5.1 |
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Deferred income taxes |
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3.7 |
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0.1 |
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Stock-based compensation |
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3.1 |
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1.0 |
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Excess tax benefits from stock-based compensation |
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(0.5 |
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(3.0 |
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Gain on sale of assets |
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(2.2 |
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Change in assets and liabilities, net of effects of
acquisitions of businesses: |
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Asbestos liabilities, net of insurance receivables |
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22.5 |
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22.8 |
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Accounts and notes receivable |
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(32.7 |
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(17.3 |
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Inventories |
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(7.2 |
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7.0 |
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Accounts payable |
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6.2 |
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2.9 |
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Other current assets and liabilities |
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4.7 |
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(4.7 |
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Other non-current assets and liabilities |
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1.1 |
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(10.0 |
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Net cash provided by operating activities |
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55.2 |
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44.1 |
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INVESTING ACTIVITIES |
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Purchases of property, plant and equipment |
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(26.1 |
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(19.2 |
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Proceeds from sales of assets |
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3.1 |
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Proceeds from liquidation of investments |
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2.6 |
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Acquisitions, net of cash acquired |
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(36.9 |
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(12.5 |
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Other |
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3.1 |
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(0.8 |
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Net cash used in investing activities |
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(54.2 |
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(32.5 |
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FINANCING ACTIVITIES |
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Repayments of debt |
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(4.0 |
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Common stock repurchase |
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(50.2 |
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Proceeds from issuance of common stock |
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0.1 |
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0.5 |
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Excess tax benefits from stock-based compensation |
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0.5 |
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3.0 |
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Net cash provided by (used in) financing activities |
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(53.6 |
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3.5 |
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Effect of exchange rate changes on cash and cash equivalents |
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0.5 |
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1.7 |
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Net increase (decrease) in cash and cash equivalents |
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(52.1 |
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16.8 |
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Cash and cash equivalents at beginning of year |
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129.2 |
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161.0 |
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Cash and cash equivalents at end of period |
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$ |
77.1 |
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$ |
177.8 |
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Supplemental disclosures of cash flow information: |
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Cash paid during the period for: |
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Interest |
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$ |
4.1 |
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$ |
4.0 |
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Income taxes |
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$ |
15.1 |
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$ |
15.3 |
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Asbestos-related claims and expenses, net of
insurance recoveries |
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$ |
1.8 |
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$ |
3.2 |
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See notes to consolidated financial statements (unaudited).
2
ENPRO INDUSTRIES, INC.
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(in millions, except share amounts)
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June 30, |
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December 31, |
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2008 |
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2007 |
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ASSETS |
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Current assets |
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Cash and cash equivalents |
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$ |
77.1 |
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$ |
129.2 |
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Accounts and notes receivable |
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206.9 |
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167.6 |
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Asbestos insurance receivable |
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65.1 |
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70.0 |
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Inventories |
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83.1 |
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70.3 |
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Other current assets |
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45.3 |
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55.3 |
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Total current assets |
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477.5 |
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492.4 |
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Property, plant and equipment |
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210.8 |
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193.5 |
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Goodwill |
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235.9 |
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213.8 |
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Other intangible assets |
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117.0 |
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103.5 |
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Asbestos insurance receivable |
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272.4 |
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311.5 |
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Deferred income taxes |
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92.3 |
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90.3 |
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Other assets |
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71.4 |
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65.3 |
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Total assets |
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$ |
1,477.3 |
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$ |
1,470.3 |
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LIABILITIES AND SHAREHOLDERS EQUITY |
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Current liabilities |
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Current maturities of long-term debt |
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$ |
9.7 |
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$ |
3.6 |
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Accounts payable |
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90.3 |
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80.1 |
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Asbestos liability |
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91.8 |
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86.9 |
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Other accrued expenses |
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108.2 |
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89.8 |
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Total current liabilities |
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300.0 |
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260.4 |
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Long-term debt |
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172.6 |
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182.1 |
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Retained liabilities of previously owned businesses |
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31.4 |
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31.0 |
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Environmental liabilities |
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18.0 |
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20.4 |
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Asbestos liability |
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411.1 |
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437.5 |
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Other liabilities |
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61.7 |
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63.8 |
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Total liabilities |
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994.8 |
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995.2 |
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Shareholders equity |
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Common stock $.01 par value; 100,000,000 shares authorized;
issued, 20,227,997 shares in 2008 and 21,631,176 in
2007 |
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0.2 |
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0.2 |
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Additional paid-in capital |
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380.7 |
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427.2 |
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Retained earnings (accumulated deficit) |
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33.6 |
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(0.7 |
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Accumulated other comprehensive income |
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69.5 |
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49.9 |
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Common stock held in treasury, at cost 220,325 shares in 2008
and 223,081 shares in 2007 |
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(1.5 |
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(1.5 |
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Total shareholders equity |
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482.5 |
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475.1 |
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Total liabilities and shareholders equity |
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$ |
1,477.3 |
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$ |
1,470.3 |
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See notes to consolidated financial statements (unaudited).
3
ENPRO INDUSTRIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. Overview, Basis of Presentation and Recent Accounting Pronouncements
Overview
EnPro Industries, Inc. (EnPro or the Company) is a leader in the design, development,
manufacturing and marketing of well recognized, proprietary engineered industrial products that
include sealing products, metal and metal-polymer bearings and filament wound products, air
compressors, and heavy-duty, medium-speed diesel, natural gas and dual fuel reciprocating engines.
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with
generally accepted accounting principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by generally accepted accounting principles for complete
financial statements. The Consolidated Balance Sheet as of December 31, 2007, was derived from the
audited financial statements included in the Companys annual report on Form 10-K. In the opinion
of management, all adjustments, consisting of normal recurring accruals, considered necessary for a
fair statement of results for the periods presented, have been included. Management believes that
the assumptions underlying the consolidated financial statements are reasonable. These interim
financial statements should be read in conjunction with the Companys consolidated financial
statements and notes thereto that are included in its annual report on Form 10-K for the year ended
December 31, 2007.
Revenues, expenses, cash flows, assets and liabilities can and do vary during each quarter of
the year. Therefore, the results and trends in these interim financial statements may not be
indicative of those for a full year.
All significant intercompany accounts and transactions between the Companys operations have
been eliminated.
Certain amounts in the accompanying 2007 financial statements have been reclassified to
conform to the current year presentation.
Recent Accounting Pronouncements
In May 2008, the Financial Accounting Standards Board (FASB) issued FASB Staff Position No.
APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash Upon Conversion
(Including Partial Cash Settlement) (APB 14-1). APB 14-1 requires the issuer of certain
convertible debt instruments that may be settled in cash on conversion to separately account for
the liability and equity components of the instrument in a manner that reflects the issuers
nonconvertible debt borrowing rate. APB 14-1 is effective for financial statements issued for
fiscal years beginning after December 15, 2008, and interim periods within those fiscal years.
Early application is not permitted; however, the transition guidance requires retrospective
application to all periods presented. The impact of adopting APB 14-1 as of the October 2005
issuance date of the Companys convertible senior debentures is currently estimated to result in
decreases in noncurrent assets (deferred tax assets and capitalized debt issuance costs) totaling
$22.4 million, a decrease in long-term debt of $56.9 million and an increase in additional paid-in
capital of $34.5 million.
4
It is estimated that annual earnings will be reduced between $2 million and $5 million over
the life of the convertible debt as a result of the increased non-cash interest expense that will
need to be recorded using the effective interest rate method for the debt discount amortization
computation.
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161,
"Disclosures About Derivative Instruments and Hedging Activities, an amendment of FASB Statement
No. 133 (SFAS 161). SFAS 161 amends and expands the disclosure requirements of SFAS 133 with
the intent to provide users of financial statements with an enhanced understanding of: (a) how and
why an entity uses derivative instruments; (b) how derivative instruments and related hedged items
are accounted for under SFAS 133 and its related interpretations; and (c) how derivative
instruments and related hedged items affect an entitys financial position, financial performance
and cash flows. This statement is effective for financial statements issued for fiscal years and
interim periods beginning after November 15, 2008, with early application encouraged. The Company
is in the process of evaluating the impact of SFAS 161 on its consolidated financial statements and
the notes thereto.
In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141(R),
"Business Combinations (SFAS 141(R)) and Statement of Financial Accounting Standards No. 160,
"Noncontrolling Interests in Consolidated Financial Statements an Amendment of ARB No. 51 (SFAS
160). These new standards will significantly change the financial accounting and reporting of
business combination transactions and noncontrolling (or minority) interests in consolidated
financial statements. The Company will be required to adopt SFAS 141(R) and SFAS 160 for periods
beginning on or after December 15, 2008. These new standards will not change the financial
accounting and reporting for business combinations completed prior to the effective date of the new
standards.
In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, The
Fair Value Option for Financial Assets and Financial Liabilities (SFAS 159), which permits
entities to choose to measure, on an item-by-item basis, specified financial instruments and
certain other items at fair value. SFAS 159 is effective for fiscal years beginning after November
15, 2007. The Company did not choose to mark any eligible financial assets or liabilities to fair
market value other than those already carried at fair market value; therefore, there was no impact
to the Companys consolidated financial statements from the adoption of SFAS 159.
2. Acquisitions
In June 2008, the Company purchased the 20% ownership of the minority shareholder of Garlock
Pty Limited in Australia. Subsequent to the share purchase, the Company owns 100% of Garlock Pty
Limited, which is in the Sealing Products segment.
In May 2008, the Company acquired certain assets and assumed certain liabilities of Air
Perfection, Inc., a privately-held business which audits, sells and services compressed air
systems. This acquisition is included in the Companys Engineered Products segment.
In February 2008, the Company acquired V.W. Kaiser Engineering, a privately-held manufacturer
of pins, bushings and suspension kits for the commercial vehicle aftermarket. In January 2008, the
Company acquired certain assets and assumed certain liabilities of Sinflex Sealing Technologies, a
distributor and manufacturer of industrial sealing products, located in Shanghai, China. These
acquisitions are included in the Companys Sealing Products segment.
The acquisitions completed during 2008 were paid for in cash. The purchase price allocations
of recently acquired businesses are subject to the completion of the valuation of certain assets
and liabilities.
5
3. Other Operating Expense (Income)
Included in other operating expense (income) for the quarter and six months ended June 30,
2008, was $2.5 million received related to the favorable settlement of a warranty claim against a
supplier.
Also during the second quarter of 2008, the Company sold a building for $3.0 million,
resulting in a pre-tax gain of $2.2 million. This related to the relocation and consolidation of
facilities for an operation in the Sealing Products segment.
The Company incurred $0.8 million and $2.0 million of restructuring costs during the quarter
and six months ended June 30, 2008, and $1.3 million and $2.3 million during the quarter and six
months ended June 30, 2007, related to ongoing projects.
4. Other Expense
Included in other non-operating expense for the quarter and six months ended June 30, 2008,
were $1.0 million and $3.4 million, respectively, of incremental costs for legal, financial and
strategic advice and proxy solicitation in connection with the contested election of directors
initiated by one of the Companys shareholders. On April 11, 2008, an agreement with the
shareholder was entered into that resolved the contested election.
5. Income Taxes
As of June 30, 2008 and December 31, 2007, the Company had $18.2 million and $19.1 million,
respectively, of liabilities recorded for unrecognized tax benefits. These amounts included
interest of $2.4 million and $1.9 million, respectively. The unrecognized tax benefit balances as
of June 30, 2008 and December 31, 2007, also included $11.5 million and $13.2 million,
respectively, for a tax position for which the ultimate deductibility was highly certain but for
which there was uncertainty about the timing of such deductibility. Included in the unrecognized
tax benefits as of June 30, 2008 and December 31, 2007, were cumulative amounts of $6.7 million and
$5.9 million, respectively, for uncertain tax positions that would affect the Companys effective
tax rate if recognized. The Company records interest and penalties related to unrecognized tax
benefits in income tax expense.
The Company and its subsidiaries are subject to U.S. federal income tax as well as income tax
in multiple state and foreign jurisdictions. Substantially all federal, state and local, and
foreign income tax returns for the years 2003 through 2006 are open to examination. The U.S.
federal income tax returns for 2003 to 2005 and various foreign and state tax returns are currently
under examination and may conclude within the next twelve months. The final outcomes of these
audits are not yet determinable; however, management believes that any assessments that may arise
will not be material to the Companys financial condition or results of operations.
6
6. Comprehensive Income
Total comprehensive income consists of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters Ended |
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(in millions) |
|
Net income |
|
$ |
21.1 |
|
|
$ |
13.8 |
|
|
$ |
34.3 |
|
|
$ |
26.1 |
|
Unrealized translation adjustments |
|
|
(2.8 |
) |
|
|
5.1 |
|
|
|
17.2 |
|
|
|
6.8 |
|
Pensions and postretirement benefits |
|
|
0.6 |
|
|
|
0.1 |
|
|
|
0.7 |
|
|
|
0.4 |
|
Net unrealized gains (losses) from
cash flow hedges |
|
|
0.2 |
|
|
|
(0.4 |
) |
|
|
1.7 |
|
|
|
(0.3 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income |
|
$ |
19.1 |
|
|
$ |
18.6 |
|
|
$ |
53.9 |
|
|
$ |
33.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7. Earnings Per Share
The computation of basic and diluted earnings per share is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters Ended |
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(in millions, except per share amounts) |
|
Numerator (basic and diluted): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
21.1 |
|
|
$ |
13.8 |
|
|
$ |
34.3 |
|
|
$ |
26.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares basic |
|
|
20.0 |
|
|
|
21.3 |
|
|
|
20.5 |
|
|
|
21.2 |
|
Share-based awards |
|
|
0.4 |
|
|
|
0.5 |
|
|
|
0.4 |
|
|
|
0.5 |
|
Convertible debentures |
|
|
0.6 |
|
|
|
0.8 |
|
|
|
0.3 |
|
|
|
0.6 |
|
Other |
|
|
0.3 |
|
|
|
|
|
|
|
0.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares diluted |
|
|
21.3 |
|
|
|
22.6 |
|
|
|
21.4 |
|
|
|
22.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
1.05 |
|
|
$ |
0.65 |
|
|
$ |
1.67 |
|
|
$ |
1.23 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted |
|
$ |
0.99 |
|
|
$ |
0.61 |
|
|
$ |
1.60 |
|
|
$ |
1.17 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As discussed further in Note 10, the Company issued Convertible Senior Debentures (the
Debentures). Under the terms of the Debentures, the Company would settle the par amount of its
obligations in cash and the remaining obligations, if any, in common shares. In accordance with
the current applicable accounting guidelines, the Company includes the conversion option effect in
diluted earnings per share during such periods when the Companys average stock price exceeds the
conversion price of $33.79 per share.
7
8. Inventories
Inventories consist of the following:
|
|
|
|
|
|
|
|
|
|
|
As of |
|
|
As of |
|
|
|
June 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
|
|
(in millions) |
|
Finished products |
|
$ |
51.0 |
|
|
$ |
45.7 |
|
Costs relating to long-term contracts and programs |
|
|
33.4 |
|
|
|
19.4 |
|
Work in process |
|
|
24.3 |
|
|
|
23.0 |
|
Raw materials and supplies |
|
|
34.2 |
|
|
|
30.8 |
|
|
|
|
|
|
|
|
|
|
|
142.9 |
|
|
|
118.9 |
|
Reserve to reduce certain inventories to LIFO basis |
|
|
(16.5 |
) |
|
|
(16.2 |
) |
Progress payments |
|
|
(43.3 |
) |
|
|
(32.4 |
) |
|
|
|
|
|
|
|
Total |
|
$ |
83.1 |
|
|
$ |
70.3 |
|
|
|
|
|
|
|
|
The Company uses the last-in, first-out (LIFO) method of valuing certain of its inventories.
An actual valuation of inventory under the LIFO method can be made only at the end of each year
based on the inventory levels and costs at that time. Accordingly, interim LIFO calculations are
based on managements estimates of expected year-end inventory levels and costs and are subject to
the final year-end LIFO inventory valuation.
9. Intangible Assets
The changes in the net carrying value of goodwill by reportable segment for the six months
ended June 30, 2008, are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Engine |
|
|
|
|
|
|
Sealing |
|
|
Engineered |
|
|
Products and |
|
|
|
|
|
|
Products |
|
|
Products |
|
|
Services |
|
|
Total |
|
|
|
(in millions) |
|
Goodwill, net as of December 31, 2007 |
|
$ |
49.8 |
|
|
$ |
156.9 |
|
|
$ |
7.1 |
|
|
$ |
213.8 |
|
Acquisitions |
|
|
16.7 |
|
|
|
(2.7 |
) |
|
|
|
|
|
|
14.0 |
|
Foreign currency translation |
|
|
0.9 |
|
|
|
7.2 |
|
|
|
|
|
|
|
8.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Goodwill, net as of June 30, 2008 |
|
$ |
67.4 |
|
|
$ |
161.4 |
|
|
$ |
7.1 |
|
|
$ |
235.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During the six months ended June 30, 2008, the Company received $5.2 million in satisfaction
of post-closing adjustments related to a previously consummated acquisition in the Engineered
Products segment. This transaction was recorded as a reduction of goodwill associated with the
acquisition.
8
The gross carrying amount and accumulated amortization of identifiable intangible assets is as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of June 30, 2008 |
|
|
As of December 31, 2007 |
|
|
|
Gross |
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
Carrying |
|
|
Accumulated |
|
|
Carrying |
|
|
Accumulated |
|
|
|
Amount |
|
|
Amortization |
|
|
Amount |
|
|
Amortization |
|
|
|
(in millions) |
|
Customer relationships |
|
$ |
72.6 |
|
|
$ |
24.0 |
|
|
$ |
68.4 |
|
|
$ |
20.9 |
|
Existing technology |
|
|
21.0 |
|
|
|
4.5 |
|
|
|
21.0 |
|
|
|
3.8 |
|
Trademarks |
|
|
39.1 |
|
|
|
6.4 |
|
|
|
38.4 |
|
|
|
5.8 |
|
Other |
|
|
27.6 |
|
|
|
8.4 |
|
|
|
13.3 |
|
|
|
7.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
160.3 |
|
|
$ |
43.3 |
|
|
$ |
141.1 |
|
|
$ |
37.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization expense for the six months ended June 30, 2008 and 2007, was $5.4 million and
$3.2 million, respectively. The Company has trademarks with indefinite lives that were included in
the table above valued at approximately $18.0 million as of June 30, 2008 and December 31, 2007,
that were not amortized.
10. Long-Term Debt
In 2005, the Company issued $172.5 million in aggregate principal amount of Debentures that
may be converted only under certain circumstances. The conditions that permit conversion were not
satisfied at June 30, 2008. In the event the conversion conditions are satisfied, the Company will
be required to immediately expense all unamortized debt issue costs, which amounted to $4.2 million
at June 30, 2008, and reclassify the aggregate principal amount from long-term to current.
11. Pensions and Postretirement Benefits
The components of net periodic benefit cost for the Companys U.S. and foreign defined benefit
pension and other postretirement plans for the quarters and six months ended June 30, 2008 and
2007, are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters Ended June 30, |
|
|
|
Pension Benefits |
|
|
Other Benefits |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(in millions) |
|
Service cost |
|
$ |
1.6 |
|
|
$ |
1.6 |
|
|
$ |
0.2 |
|
|
$ |
0.3 |
|
Interest cost |
|
|
2.9 |
|
|
|
2.7 |
|
|
|
0.2 |
|
|
|
0.2 |
|
Expected return on plan assets |
|
|
(3.4 |
) |
|
|
(3.4 |
) |
|
|
|
|
|
|
|
|
Prior service cost component |
|
|
0.3 |
|
|
|
0.3 |
|
|
|
0.1 |
|
|
|
0.1 |
|
Net loss component |
|
|
0.1 |
|
|
|
(0.4 |
) |
|
|
0.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
1.5 |
|
|
$ |
0.8 |
|
|
$ |
0.6 |
|
|
$ |
0.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
Pension Benefits |
|
|
Other Benefits |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(in millions) |
|
Service cost |
|
$ |
3.4 |
|
|
$ |
3.2 |
|
|
$ |
0.4 |
|
|
$ |
0.6 |
|
Interest cost |
|
|
5.8 |
|
|
|
5.3 |
|
|
|
0.5 |
|
|
|
0.3 |
|
Expected return on plan assets |
|
|
(6.9 |
) |
|
|
(6.7 |
) |
|
|
|
|
|
|
|
|
Prior service cost component |
|
|
0.5 |
|
|
|
0.6 |
|
|
|
0.2 |
|
|
|
0.1 |
|
Net loss component |
|
|
0.2 |
|
|
|
1.2 |
|
|
|
0.1 |
|
|
|
0.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
3.0 |
|
|
$ |
3.6 |
|
|
$ |
1.2 |
|
|
$ |
1.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Company anticipates there will be no required funding in 2008 of its U.S. defined benefit
pension plans. In 2007, the Company made discretionary contributions of $10.0 million to its U.S.
defined benefit pension plans. The Company has not determined whether it will make a discretionary
contribution in 2008 to its U.S. defined benefit pension plans. The Company expects to make total
contributions of approximately $1.4 million in 2008 to its foreign pension plans.
12. Shareholders Equity
On March 3, 2008, pursuant to a $100 million share repurchase authorization approved by the
Companys board of directors, the Company entered into an accelerated share repurchase (ASR)
agreement with a financial institution to provide for the immediate retirement of $50 million of
the Companys common stock. Under the ASR agreement, the Company purchased approximately 1.7
million shares of its common stock from a financial institution at an initial price of $29.53 per
share. Total consideration paid at initial settlement to repurchase these shares, including
commissions and other fees, was approximately $50.2 million and was recorded in shareholders
equity as a reduction of common stock and additional paid-in capital.
The ASR is scheduled to terminate in August 2008. During the term of the ASR, the financial
institution is purchasing shares of the Companys common stock in the open market to settle its
obligation related to shares borrowed from third parties and sold to the Company. The Company
will be required to remit a final settlement adjustment based on an average of the reported
daily volume weighted average price of its common stock during the term of the ASR. The final
settlement adjustment can be settled, at the option of the Company, in cash or in shares of its
common stock.
The remainder of the authorization after the final settlement adjustment is made in connection
with the termination of the ASR may be used to make additional purchases through open-market
transactions subject to market conditions, the Companys financial results and other factors.
13. Business Segment Information
The Company has three reportable segments. The Sealing Products segment manufactures sealing
and polytetrafluoroethylene (PTFE) products. The Engineered Products segment manufactures metal
and metal-polymer bearings and filament wound products, air compressor systems and vacuum pumps,
and reciprocating compressor components. The Engine Products and Services segment manufactures and
services heavy-duty, medium-speed diesel, natural gas and dual fuel reciprocating engines. The
Companys reportable segments are managed separately based on differences in their products and
services and their end-customers. Segment profit is total segment revenue reduced by operating
expenses and restructuring and other costs identifiable with the segment. Corporate expenses
include general corporate administrative costs. Expenses not directly attributable to the
segments,
10
corporate expenses, net interest expense, asbestos-related expenses, gains/losses or
impairments related to the sale of assets and income taxes are not included in the computation of
segment profit. The accounting policies of the reportable segments are the same as those for the
Company. Segment operating results and other financial data for the quarters and six-months ended
June 30, 2008 and 2007, are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters Ended |
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(in millions) |
|
Sales |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sealing Products |
|
$ |
136.9 |
|
|
$ |
118.3 |
|
|
$ |
260.5 |
|
|
$ |
233.9 |
|
Engineered Products |
|
|
144.8 |
|
|
|
108.3 |
|
|
|
277.9 |
|
|
|
214.6 |
|
Engine Products and Services |
|
|
35.8 |
|
|
|
28.2 |
|
|
|
62.3 |
|
|
|
53.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
317.5 |
|
|
|
254.8 |
|
|
|
600.7 |
|
|
|
502.3 |
|
Intersegment sales |
|
|
(0.7 |
) |
|
|
(0.4 |
) |
|
|
(0.8 |
) |
|
|
(0.6 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sales |
|
$ |
316.8 |
|
|
$ |
254.4 |
|
|
$ |
599.9 |
|
|
$ |
501.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Profit |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sealing Products |
|
$ |
31.2 |
|
|
$ |
22.1 |
|
|
$ |
52.7 |
|
|
$ |
43.5 |
|
Engineered Products |
|
|
21.9 |
|
|
|
18.4 |
|
|
|
43.7 |
|
|
|
37.2 |
|
Engine Products and Services |
|
|
4.5 |
|
|
|
3.4 |
|
|
|
8.0 |
|
|
|
5.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total segment profit |
|
|
57.6 |
|
|
|
43.9 |
|
|
|
104.4 |
|
|
|
86.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate expenses |
|
|
(12.4 |
) |
|
|
(8.2 |
) |
|
|
(21.8 |
) |
|
|
(17.0 |
) |
Asbestos-related expenses |
|
|
(12.2 |
) |
|
|
(13.1 |
) |
|
|
(24.3 |
) |
|
|
(26.0 |
) |
Interest income (expense), net |
|
|
(1.2 |
) |
|
|
0.2 |
|
|
|
(2.1 |
) |
|
|
0.1 |
|
Other income
(expense), net |
|
|
0.3 |
|
|
|
(0.8 |
) |
|
|
(3.1 |
) |
|
|
(1.7 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes |
|
$ |
32.1 |
|
|
$ |
22.0 |
|
|
$ |
53.1 |
|
|
$ |
41.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Segment Assets |
|
|
|
|
|
|
|
|
Sealing Products |
|
$ |
311.5 |
|
|
$ |
246.8 |
|
Engineered Products |
|
|
503.3 |
|
|
|
464.3 |
|
Engine Products and Services |
|
|
75.5 |
|
|
|
72.2 |
|
Corporate |
|
|
587.0 |
|
|
|
687.0 |
|
|
|
|
|
|
|
|
|
|
$ |
1,477.3 |
|
|
$ |
1,470.3 |
|
|
|
|
|
|
|
|
14. Fair Value Measurements
On January 1, 2008, the Company adopted Statement of Financial Accounting Standards No. 157,
Fair Value Measurements, (SFAS 157) for financial assets and liabilities. As permitted by FASB
Staff Position No. FAS 157-2, Effective Date of FASB Statement No 157, the Company elected to
defer the adoption of SFAS 157 for all nonfinancial assets and nonfinancial liabilities. SFAS 157
provides a framework for measuring fair value and requires expanded disclosures regarding fair
value measurements. SFAS 157 defines fair value as the exchange price that would be received for
an asset or
paid to transfer a liability (an exit price) in the principal or most advantageous market for
the asset or liability in an orderly transaction between market participants on the measurement
date.
11
SFAS 157 utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques
used to measure fair value into three broad levels. The following is a brief description of those
three levels:
|
|
|
Level 1: Observable inputs such as quoted prices in active markets for identical
assets or liabilities. |
|
|
|
|
Level 2: Inputs other than quoted prices that are observable for the asset or
liability, either directly or indirectly. These include quoted prices for similar
assets or liabilities in active markets and quoted prices for identical or similar
assets or liabilities in markets that are not active. |
|
|
|
|
Level 3: Unobservable inputs that reflect the reporting entitys own assumptions. |
Assets and liabilities measured at fair value on a recurring basis are summarized as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements as of |
|
|
|
June 30, 2008 |
|
|
|
Total |
|
|
Level 1 |
|
|
Level 2 |
|
|
Level 3 |
|
|
|
(in millions) |
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents |
|
$ |
70.7 |
|
|
$ |
70.7 |
|
|
$ |
|
|
|
$ |
|
|
Crucible back-up trust assets |
|
|
21.7 |
|
|
|
21.7 |
|
|
|
|
|
|
|
|
|
Cash management fund |
|
|
16.5 |
|
|
|
|
|
|
|
16.5 |
|
|
|
|
|
Foreign currency derivatives |
|
|
4.4 |
|
|
|
|
|
|
|
4.4 |
|
|
|
|
|
Deferred compensation assets |
|
|
2.6 |
|
|
|
2.6 |
|
|
|
|
|
|
|
|
|
Restricted cash |
|
|
1.1 |
|
|
|
1.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
117.0 |
|
|
$ |
96.1 |
|
|
$ |
20.9 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred compensation liabilities |
|
$ |
5.2 |
|
|
$ |
5.2 |
|
|
$ |
|
|
|
$ |
|
|
Foreign currency derivatives |
|
|
1.1 |
|
|
|
|
|
|
|
1.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
6.3 |
|
|
$ |
5.2 |
|
|
$ |
1.1 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Companys cash equivalents, Crucible back-up trust assets, deferred compensation assets
and liabilities, and restricted cash instruments are classified within Level 1 of the fair value
hierarchy because they are valued using quoted market prices. For further discussion of the
Crucible back-up trust, see Note 15, Commitments and Contingencies Crucible Materials
Corporation. The fair values for foreign currency derivatives are based on quoted market prices
from various banks for similar instruments.
In December 2007, the Company was notified that the cash management fund held at a financial
institution would be closed and liquidated. In addition, (1) cash redemptions were temporarily
suspended, although redemptions could be filled through a pro-rata distribution of the underlying
securities, consisting principally of high-quality corporate debt, mortgage-backed securities and
asset-backed securities; (2) the funds valuation would be based on the market value of the
underlying securities, whereas historically the funds valuation was based on amortized cost; and
(3) interest would continue to accrue. Due to this event, the Company re-evaluated the nature of
the investment and determined that it should be reclassified as an investment rather than as a cash
equivalent in its Consolidated Financial Statements. The Company has been advised by the fund
manager that the intention is to make an orderly liquidation of the cash management fund with the
goal of preserving and distributing as much of the original investment values as possible to the
fund investors. The fair value of the cash management fund assets is determined through broker
quotations or alternative pricing sources with reasonable levels of price transparency and is
reflected in the net asset value of the fund.
12
15. Commitments and Contingencies
General
Various claims, lawsuits and administrative proceedings, all arising in the ordinary course of
business with respect to commercial, product liability and environmental matters, are pending or
threatened against the Company or its subsidiaries and seek monetary damages and/or other remedies.
The Company believes that any liability that may finally be determined with respect to commercial
and non-asbestos product liability claims should not have a material effect on the Companys
consolidated financial condition or results of operations. From time to time, the Company and its
subsidiaries are also involved as plaintiffs in legal proceedings involving contract, patent
protection, environmental, insurance and other matters.
Environmental
The Companys facilities and operations are subject to federal, state and local environmental
and occupational health and safety requirements of the U.S. and foreign countries. The Company
takes a proactive approach in its efforts to comply in all material respects with environmental,
health and safety laws as they relate to its manufacturing operations and in proposing and
implementing any remedial plans that may be necessary. The Company also conducts comprehensive
compliance and management system audits at its facilities to maintain compliance and improve
operational efficiency.
Although the Company believes past operations were in substantial compliance with the then
applicable regulations, the Company or one of its subsidiaries has been named as a potentially
responsible party or is otherwise involved at 20 sites at each of which the costs to the Company or
its subsidiary are expected to exceed $100,000. Investigations have been completed for 15 sites
and are in progress at the other five sites. The majority of these sites relate to remediation
projects at former operating facilities that were sold or closed and primarily deal with
remediation of soil and groundwater contamination. The laws governing investigation and
remediation of these sites can impose joint and several liability for the associated costs.
Liability for these costs can be imposed on present and former owners or operators of the
properties or on parties that generated the wastes that contributed to the contamination.
The Companys policy is to accrue environmental investigation and remediation costs when it is
probable that a liability has been incurred and the amount can be reasonably estimated. The
measurement of the liability is based on an evaluation of currently available facts with respect to
each individual situation and takes into consideration factors such as existing technology,
presently enacted laws and regulations and prior experience in remediation of contaminated sites.
Liabilities are established for all sites based on the factors discussed above. As assessments and
remediation progress at individual sites, these liabilities are reviewed periodically and adjusted
to reflect additional technical data and legal information. As of June 30, 2008 and December 31,
2007, EnPro had accrued liabilities of $24.9 million and $27.7 million, respectively, for estimated
future expenditures relating to environmental contingencies. These amounts have been recorded on
an undiscounted basis in the Consolidated Financial Statements.
The Company believes that its accrued environmental liabilities are adequate based on
currently available information. Actual costs to be incurred for identified situations in future
periods may vary from estimates because of the inherent uncertainties in evaluating environmental
exposures due to unknown conditions, changing government regulations and legal standards regarding
liability. Subject to the imprecision in estimating future environmental costs, the Company
believes that maintaining compliance with current environmental laws and government regulations
will not require significant capital expenditures or have a material adverse effect on its
financial condition, but could be material to its results of operations or cash flows in a given
period.
13
Colt Firearms and Central Moloney
The Company has contingent liabilities related to divested businesses for which certain of its
subsidiaries retained liability or are obligated under indemnity agreements. These contingent
liabilities include, but are not limited to, potential product liability and associated claims
related to the Companys former Colt Firearms subsidiary for firearms manufactured prior to its
divestiture in 1990 and the Companys former Central Moloney subsidiary for electrical transformers
manufactured prior to its divestiture in 1994. No product liability claims are currently pending
against the Company related to Colt Firearms or Central Moloney. The Company also has ongoing
obligations, which are included in retained liabilities of previously owned businesses in the
Consolidated Balance Sheets, with regard to workers compensation, retiree medical and other
retiree benefit matters that relate to the Companys periods of ownership of these operations.
Crucible Materials Corporation
Crucible Materials Corporation (Crucible), which is engaged primarily in the manufacture and
distribution of high technology specialty metal products, was a wholly owned subsidiary of Coltec
until 1985 when a majority of the outstanding shares were sold. Coltec sold its remaining minority
interest in 2004.
In conjunction with the closure of a Crucible plant in the early 1980s, Coltec was required to
fund two trusts for retiree medical benefits for union employees at the plant. The first trust
(the Benefits Trust) pays for these retiree medical benefits on an ongoing basis. Coltec has no
ownership interest in the Benefits Trust, and thus the assets and liabilities of this trust are not
included in the Companys Consolidated Balance Sheets. Under the terms of the Benefits Trust
agreement, the trustees retained an actuary to assess the adequacy of the assets in the Benefits
Trust in 1995, another actuarial report was completed in 2005 and a third report will be required
in 2015. The actuarial reports in 1995 and 2005 determined that there were adequate assets to fund
the payment of future benefits. If it is determined in 2015 that the trust assets are not adequate
to fund the payment of future medical benefits, Coltec will be required to contribute additional
amounts to the Benefits Trust. In the event there are ever excess assets in the Benefits Trust,
those excess assets will not revert to Coltec.
Because of the possibility that Coltec could be required to make additional contributions to
the Benefits Trust to cover potential shortfalls, Coltec was required to establish a second trust
(the Back-Up Trust). The trust assets and a corresponding liability of the Back-Up Trust are
reflected in the Companys Consolidated Balance Sheets in other non-current assets and in retained
liabilities of previously owned businesses, respectively, and amounted to $21.7 million each at
June 30, 2008. As noted above, based on the valuation completed in early 2005, an actuary
determined there were adequate assets in the Benefits Trust to fund the estimated payments from the
trust until the next valuation date. Until such time as a payment is required or the remaining
excess Back-Up Trust assets revert to the Company, the Back-Up Trust assets and liability will be
kept equal to each other on the Companys Consolidated Balance Sheets.
The Company also has ongoing obligations, which are included in retained liabilities of
previously owned businesses in the Consolidated Balance Sheets, with regard to workers
compensation, retiree medical and other retiree benefit matters, in addition to those mentioned
previously, that relate to the Companys period of ownership of this operation.
14
Debt and Capital Lease Guarantees
As of June 30, 2008, the Company had contingent liabilities for potential payments on
guarantees of certain debt and lease obligations totaling $6.2 million. These guarantees arose
from the divestitures of Crucible and Central Moloney, and expire at various dates through 2010.
There is no liability for these guarantees reflected in the Companys Consolidated Balance Sheets.
In the event that the other parties do not fulfill their obligations under the debt or lease
agreements, the Company could be responsible for these obligations.
Other Contingent Liability Matters
The Company provides warranties on many of its products. The specific terms and conditions of
these warranties vary depending on the product and the market in which the product is sold. The
Company records a liability based upon estimates of the costs that may be incurred under its
warranties after a review of historical warranty experience and information about specific warranty
claims. Adjustments are made to the liability as claims data and historical experience warrant.
Changes in the carrying amount of the product warranty liability for the six months ended June
30, 2008 and 2007 are as follows:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
(in millions) |
|
Balance at beginning of year |
|
$ |
3.6 |
|
|
$ |
4.0 |
|
Charges to expense |
|
|
1.7 |
|
|
|
2.1 |
|
Charges to the accrual (primarily payments) |
|
|
(1.6 |
) |
|
|
(2.0 |
) |
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
3.7 |
|
|
$ |
4.1 |
|
|
|
|
|
|
|
|
Asbestos
History. Certain of the Companys subsidiaries, primarily Garlock Sealing
Technologies LLC (Garlock) and The Anchor Packing Company (Anchor), are among a large number of
defendants in actions filed in various states by plaintiffs alleging injury or death as a result of
exposure to asbestos fibers. Among the products at issue in these actions are industrial sealing
products, including gaskets and packing products. The damages claimed vary from action to action,
and in some cases plaintiffs seek both compensatory and punitive damages. To date, neither Garlock
nor Anchor has been required to pay any punitive damage awards, although there can be no assurance
that they will not be required to do so in the future. Liability for compensatory damages has
historically been allocated among responsible defendants. Since the first asbestos-related
lawsuits were filed against Garlock in 1975, Garlock and Anchor have processed more than 900,000
asbestos claims to conclusion (including judgments, settlements and dismissals) and, together with
their insurers, have paid more than $1.3 billion in settlements and judgments and over $400 million
in fees and expenses.
Claims Mix. Of those claims resolved, approximately 3% have been claims of plaintiffs
alleging the disease mesothelioma, approximately 6% have been claims of plaintiffs alleging lung or
other cancers, and approximately 90% have been claims of plaintiffs alleging asbestosis, pleural
plaques or other non-malignant impairment of the respiratory system. Of the approximately 105,700
open cases at June 30, 2008, the Company is aware of approximately 10,000 (9.5%) that involve
claimants alleging mesothelioma, lung cancer or some other cancer.
New Filings. The number of new actions filed against the Companys subsidiaries in
2007 (5,200) was lower than the number filed in 2006 (7,700) and 2005 (15,300). The number filed
against its subsidiaries in each of those three years was much lower than the number filed in the
peak filing year,
15
2003, when 44,700 new claims were filed. Factors in the decline include, but are not limited
to, tort reform in some high profile states, especially Mississippi, Texas and Ohio; tort reform in
Florida, Georgia, South Carolina, Kansas and Tennessee; actions taken and rulings by some judges
and court administrators that have had the effect of limiting access to their courts for claimants
without sufficient ties to the jurisdiction or claimants with no discernible disease; acceleration
of claims into past years; and declining incidence of asbestos-related disease. The decline in new
filings has been principally in non-malignant claims; however, new filings of claims alleging
mesothelioma, lung and other cancers have declined modestly since 2005. 3,100 new claims were
filed against the Companys subsidiaries in the first half of 2008, approximately the same number
as in the first half of 2007.
Product Defenses. The asbestos in products formerly sold by Garlock and Anchor was
encapsulated, which means the asbestos fibers were incorporated into the products during the
manufacturing process and sealed in a binder. The products were also nonfriable, which means they
could not be crumbled by hand pressure. The U.S. Occupational Safety and Health Administration,
which began generally requiring warnings on asbestos-containing products in 1972, has never
required that a warning be placed on products such as Garlocks gaskets. Even though no warning
label was required, Garlock included one on all of its asbestos-containing products beginning in
1978. Further, gaskets such as those previously manufactured and sold by Garlock are one of the
few asbestos-containing products still permitted to be manufactured under regulations of the U.S.
Environmental Protection Agency. Nevertheless, Garlock discontinued all manufacture and
distribution of asbestos-containing products in the U.S. during 2000 and worldwide in mid-2001.
From the mid-1980s until 2000, U.S. sales of asbestos-containing industrial sealing products were
not a material part of Garlocks sales and were predominantly to sophisticated purchasers such as
the U.S. Navy and large petrochemical facilities.
Garlocks product defenses have enabled it to be successful at trial. Garlock won a defense
verdict in the one case tried to verdict in 2008, and in 13 of 26 cases tried to verdict in the
years 2004 through 2008. In the successful jury trials, the juries determined that either
Garlocks products were not defective, that Garlock was not negligent, or that the claimant was not
exposed to Garlocks products.
Recent Trial Results. During the first half of 2008, Garlock began six trials
involving seven plaintiffs. An Ohio jury returned a defense verdict in favor of Garlock. In
Pennsylvania, three lawsuits involving four plaintiffs settled during trial before the jury reached
a verdict. A lawsuit in California also settled during trial. In South Carolina, Garlock obtained
a dismissal in one case during trial because there was insufficient evidence of exposure to Garlock
products.
In 2007, Garlock began nine trials involving twelve plaintiffs. A Massachusetts jury returned
a defense verdict in favor of Garlock. In a Kentucky case, the jury awarded the plaintiff $145,000
against Garlock. Garlock is appealing this verdict. Four lawsuits in Pennsylvania settled during
trial before the juries had reached a verdict. Garlock also settled cases during trial in
Louisiana, Maryland and Washington.
In 2006, Garlock began ten trials involving eleven plaintiffs. Garlock received jury verdicts
in its favor in Oakland, California; Easton, Pennsylvania; and Louisville, Kentucky. In
Pennsylvania, three other lawsuits involving four plaintiffs settled during trial before the juries
reached verdict. Garlock also settled cases in Massachusetts, California and Texas during trial.
In a retrial of a Kentucky case, the jury awarded the plaintiff $900,000 against Garlock. The
award was significantly less than the $1.75 million award against Garlock in the previous trial,
which Garlock successfully appealed. In addition, Garlock obtained dismissals in two cases in
Philadelphia after the juries were selected but before the trials began because there was
insufficient evidence of exposure to Garlock products.
16
Appeals. Garlock has historically been successful in a majority of its appeals. The
Company believes that Garlock will continue to be successful in the appellate process, although
there can be no assurance of success in any particular pending or future appeal. In March 2006, a
three-judge panel of the Ohio Court of Appeals, in a unanimous decision, overturned a $6.4 million
verdict that was entered against Garlock in 2003, granting a new trial. The case subsequently
settled. On the other hand, the Maryland Court of Appeals denied Garlocks appeal from a 2005
verdict in a mesothelioma case in Baltimore, Maryland, and Garlock paid that verdict, with
post-judgment interest, in the fourth quarter of 2006. In a separate Baltimore case in the fourth
quarter of 2006, the Maryland Court of Special Appeals denied Garlocks appeal from another 2005
verdict. The subsequent appeal of that decision was also denied and Garlock paid that verdict in
the second quarter of 2007. In June 2007, the New York Court of Appeals, in a unanimous decision,
overturned an $800,000 verdict that was entered against Garlock in 2004, granting a new trial. At
June 30, 2008, two Garlock appeals were pending from adverse verdicts totaling $1.0 million.
In some cases, appeals require the provision of security in the form of appeal bonds,
potentially in amounts greater than the verdicts. The Company is required to provide cash
collateral to secure the full amount of the bonds, which can restrict the use of a significant
amount of the Companys cash for the periods of such appeals. At June 30, 2008 and December 31,
2007, the Company had $1.1 million of cash collateral relating to appeal bonds recorded as
restricted cash on the Consolidated Balance Sheets.
Settlements. Garlock settles and disposes of actions on a regular basis. Garlocks
historical settlement strategy was to settle only cases in advanced stages of litigation. In 1999
and 2000, however, Garlock employed a more aggressive settlement strategy. The purpose of this
strategy was to achieve a permanent reduction in the number of overall asbestos claims through the
settlement of a large number of claims, including some early-stage claims and some claims not yet
filed as lawsuits. Due to this short-term aggressive settlement strategy and a significant overall
increase in claims filings, the settlement amounts paid in those years and several subsequent years
were greater than the amounts paid in any year prior to 1999. In 2001, Garlock resumed its
historical settlement strategy and focused on reducing settlement commitments. As a result,
Garlock reduced new settlement commitments from $180 million in 2000 to $94 million in 2001 and $86
million in 2002. New settlement commitments totaled $84 million in 2006 and $76 million in 2007.
Approximately $15 million of the 2006 amount and approximately $5 million of the 2007 amount were
committed in settlements to pay verdicts that had been rendered in the years 2003 2005. New
settlement commitments in the first half of 2008 were $28.1 million, down from $40.0 million in the
first half of 2007. Much of the decline was because of timing.
Settlements are made without any admission of liability. Settlement amounts vary depending
upon a number of factors, including the jurisdiction where the action was brought, the nature and
extent of the disease alleged and the associated medical evidence, the age and occupation of the
plaintiff, the presence or absence of other possible causes of the plaintiffs alleged illness,
alternative sources of payment available to the plaintiff, the availability of legal defenses, and
whether the action is an individual one or part of a group.
Before any payment on a settled claim is made, the claimant is required to submit a medical
report acceptable to Garlock substantiating the asbestos-related illness and meeting specific
criteria of disability. In addition, sworn testimony or other evidence that the claimant worked
with or around Garlock asbestos-containing products is required. The claimant is also required to
sign a full and unconditional release of Garlock, its subsidiaries, parent, officers, directors,
affiliates and related parties from any liability for asbestos-related injuries or claims.
Status of Anchor. Anchor is an inactive and insolvent indirect subsidiary of Coltec.
There is no remaining insurance coverage available to Anchor. Anchor has no remaining assets and
has not
17
committed to settle any actions since 1998. As cases reach the trial stage, Anchor is
typically dismissed without payment.
Insurance Coverage. At June 30, 2008, Garlock had available $337.5 million of solvent
insurance and trust coverage that the Company believes will be available to cover future asbestos
claims and certain expense payments. In addition, at June 30, 2008, Garlock classified $47.2
million of otherwise available insurance as insolvent. The Company believes that Garlock will
recover some of the insolvent insurance over time. In fact, Garlock collected approximately $1
million from insolvent carriers in 2007. There can be no assurance that Garlock will collect any
of the remaining insolvent insurance.
Of the $337.5 million of collectible insurance and trust assets, the Company considers $291.3
million (86%) to be of high quality because (a) the insurance policies are written or guaranteed by
U.S.-based carriers whose credit rating by S&P is investment grade (BBB) or better, and whose AM
Best rating is excellent (A-) or better, or (b) in the form of cash or liquid investments held in
insurance trusts resulting from commutation agreements. The Company considers $46.2 million (13%)
to be of moderate quality because the insurance policies are written with (a) other solvent U.S.
carriers who are unrated or below investment grade ($40.4 million) or (b) with various London
market carriers ($5.8 million). Of the $337.5 million, $232.9 million is allocated to claims that
have been paid by Garlock and submitted to its insurance companies for reimbursement and the
remainder is allocated to pending and estimated future claims as described later in this section.
Arrangements with Garlocks insurance carriers limit the amount of insurance proceeds that
Garlock is entitled to receive in any one year. Based on these arrangements, which include
settlement agreements in place with most of the carriers involved, the Company anticipates that its
remaining solvent insurance will be collected during the period 2008 2018 in approximately the
following annual amounts: 2008 through 2010 $70 million per year ($44.5 million was collected
in the first half of 2008); 2011 $40 million; 2012 and 2013 $25 million per year; 2014
through 2016 $20 million per year; and 2017 and 2018 $12 million per year.
During the fourth quarter of 2006, the Company reached an agreement with a significant group
of related U.S. insurers. These insurers had withheld payments pending resolution of a dispute.
The agreement provides for the payment of the full amount of the insurance policies ($194 million)
in various annual payments to be made from 2007 through 2018. Under the agreement, Garlock
received $22 million in 2007 and $20 million in the first half of 2008.
Insurance coverage for asbestos claims is not available to cover exposures initially occurring
on and after July 1, 1984. Although Garlock and Anchor continue to be named as defendants in new
actions, only a few allege initial exposure after July 1, 1984. To date, no payments have been
made with respect to these few claims, pursuant to a settlement or otherwise. Garlock and Anchor
believe that they have substantial defenses to these claims and therefore automatically reject them
for settlement. However, there can be no assurance that any or all of these defenses will be
successful in the future.
The Companys Liability Estimate. Prior to mid-2004, the Company maintained that its
subsidiaries liability for unasserted claims was not reasonably estimable. The Company estimated
and recorded liabilities only for pending claims in advanced stages of processing, for which it
believed it had a basis for making a reasonable estimate. The Company disclosed the significance
of the total potential liability for unasserted claims in considerable detail. By 2004, however,
most asbestos defendants who disclose their liabilities were recording estimates of their
liabilities for pending and unasserted claims. In view of the change in practice by other
defendants, during 2004 the Company authorized counsel to retain Bates White to assist in
estimating the Companys subsidiaries liability for pending and future asbestos claims.
18
Bates Whites first report, dated February 17, 2005, provided an estimate of the liability as
of December 31, 2004 for the following ten years, which represented a time horizon within which
Bates White believed such liability was both probable and estimable within a range of values. At
that time, Bates White opined that each value within the range of $227 million to $382 million was
an equally likely estimate of the liability. The Company adopted the Bates White estimate and,
accordingly, recorded an additional liability for pending and unasserted claims as of December 31,
2004 to increase the Companys liability to an amount equal to the low end of the estimated range
($227 million).
Bates White has updated its estimate every quarter since the end of 2004. The estimated range
of potential liabilities provided by Bates White at June 30, 2008 was $416 million to $613 million.
According to Bates White, increases since the initial estimate have been attributable primarily to
(1) an increase in settlement values of mesothelioma claims, (2) an increase in claims filings and
values in some jurisdictions, most notably California, and (3) the delay in, and uncertain impact
of, the funding and implementation of trusts formed under Section 524(g) of the United States
Bankruptcy Code to pay asbestos claims against numerous defendants in Chapter 11 reorganization
cases. Because the 524(g) trusts are estimated to have more than $30 billion that will be
available for the payment of asbestos claims, they could have a significant impact on the Companys
future settlement payments and could therefore significantly affect its liability.
Each quarter until the fourth quarter of 2006, the Company adopted the Bates White estimate
and adjusted the liability to equal the low end of the then-current range. Until the second
quarter of 2006, the additional liability was recorded with a corresponding increase in the
Companys insurance receivable, and thus did not affect net income. During the second quarter of
2006, however, the Companys insurance was fully allocated to past, present and future claims, and
therefore subsequent changes to the Bates White estimate were recorded as charges to income.
The Company has independently developed internal estimates for asbestos-related liabilities.
The Company has used those estimates for a variety of purposes, including guidance for settlement
negotiations and trial strategy, in its strategic planning, budgeting and cash flow planning
processes, and in setting targets for annual and long-term incentive compensation. Until the end
of 2006, the Company did not have sufficient history comparing claims payments to its internal
estimates to allow it to identify a most likely point within the Bates White range. Therefore,
prior to the fourth quarter of 2006, the Company had adopted the low end of the range provided by
Bates White. However, the Companys internal estimate has been within the Bates White range of
equally likely estimates and has proven to be a more precise predictor of the actual amounts spent
on settlements and verdicts than the low end of the range. As a result, while the low end of the
Bates White range still provides a reasonable lower boundary of possible outcomes, Bates White and
management believe that the Companys internal estimate for the next ten years represents the most
likely point within the range. Accordingly, the Company adjusted the recorded liability from the
low end of the Bates White estimate to its point estimate in the fourth quarter of 2006 and has
adjusted the liability in each subsequent quarter consistent with managements internal estimates.
The Company focuses on future cash flows to prepare its estimate. It makes assumptions about
declining future asbestos spending based on (1) past trends, (2) publicly available epidemiological
data, (3) current agreements with plaintiff firms and its judgment about the current and future
litigation environment, (4) the availability to claimants of other payment sources, both
co-defendants and the 524(g) trusts, and (5) the input and insight provided to the Company by Bates
White. The Company adjusts its estimate when current cash flow results and long-term trends
suggest that its targets cannot be met. As a result, the Company has a process that it believes
produces the best estimate of the future liability for the ten-year time period within the Bates
White range.
19
The Company currently estimates that the liability of its subsidiaries for the indemnity cost
of resolving asbestos claims for the next ten years will be $496.7 million. The estimated
liability of $496.7 million is before any tax benefit and is not discounted to present value, and
it does not include fees and expenses, which are recorded as incurred. The recorded liability will
continue to be impacted by actual claims and settlement experience and any change in the legal
environment that could cause a significant increase or decrease in the long-term expectations of
management and Bates White. The Company expects the recorded liability to fluctuate, perhaps
significantly. Any significant change in the estimated liability could have a material effect on
the Companys consolidated financial position and results of operations.
Although the Company believes that its estimate is the best estimate within the Bates White
range of reasonable and probable estimates of Garlocks future obligation, it notes that Bates
White also indicated a broader range of potential estimates from $188 million to $687 million. The
Company cautions that points within or outside that broader range remain possible outcomes. Also,
while the Company agrees with its expert that beyond two to four years for Garlocks
economically-driven non-malignant claims and beyond ten years for Garlocks cancer claims and
medically-driven non-malignant claims, there are reasonable scenarios in which the [asbestos]
expenditure is de minimus, it cautions that the process of estimating future liabilities is highly
uncertain. Adjusting the Companys liability to the best estimate within the range does not change
that fact. In the words of the Bates White report, the reliability of estimates of future
probable expenditures of Garlock for asbestos-related personal injury claims declines significantly
for each year further into the future. Scenarios continue to exist that could result in a total
future asbestos liability for Garlock in excess of $1 billion.
As previously mentioned, the liability estimate does not include legal fees and expenses,
which add considerably to the costs each year. Over the last two years, these expenses have
averaged approximately $7 million per quarter. In addition to these legal fees and expenses, the
Company expects to continue to record charges or credits to income in future quarters for:
|
|
|
Increases or decreases, if any, in the Companys estimate of Garlocks potential
liability, plus |
|
|
|
|
Increases, if any, that result from additional quarters added to maintain the
ten-year estimation period (increases of this type have averaged approximately $6 7
million per quarter for the last two years), plus |
|
|
|
|
Amounts, if any, of solvent insurance lost or commuted, offset by insolvent
recoveries and earnings from insurance settlement trusts. |
In the second quarter of 2008, the Company recorded a pre-tax charge of $12.2 million to
reflect net cash outlays of $6.8 million for fees and expenses paid during the quarter and a $5.4
million non-cash charge primarily to add an estimate of the liability for the second quarter of
2018 to maintain a ten year estimate. In the second quarter of 2007, the Company recorded a
pre-tax charge of $13.1 million to reflect cash outlays of $6.8 million for fees and expenses
incurred during the quarter and a $6.3 million non-cash charge primarily to add an estimate for the
second quarter of 2017 to maintain a ten year estimate. For the first half of 2008, the Company
recorded a pre-tax charge of $24.3 million to reflect net cash outlays of $12.4 million for fees
and expenses and an $11.9 million non-cash charge primarily to add an estimate of the liability for
the first half of 2018. In the first half of 2007, the Company recorded pre-tax charges to income
of $26.0 million to reflect net cash outlays of $13.8 million for legal fees and expenses and a
$12.2 million non-cash charge primarily to add an estimate of the liability for the first half of
2017.
Quantitative Claims and Insurance Information. The Companys liability as of June 30,
2008 was $502.9 million (the Companys estimate of the liability described above of $496.7 million
plus $6.2 million of accrued legal and other fees already incurred but not yet paid). The total
liability as of June 30,
20
2008, included $91.8 million classified as a current liability and $411.1 million classified
as a noncurrent liability. The recorded amounts do not include legal fees and expenses to be
incurred in the future.
As of June 30, 2008, the Company had remaining solvent insurance and trust coverage of $337.5
million which is reflected on its balance sheet as a receivable ($65.1 million classified in
current assets and $272.4 classified in non-current assets) and which it believes will be available
for the payment of asbestos-related claims. Included in the receivable is $232.9 million in
insured claims and expenses that our subsidiaries have paid out in excess of amounts recovered from
insurance. These amounts are recoverable under the terms of its insurance policies and have been
billed to the insurance carriers. The remaining $104.6 million will be available for pending and
future claims.
The table below quantitatively depicts the number of pending cases, asbestos-related cash
flows, the amount that the Company expects Garlock to recover from insurance related to this
liability, and an analysis of the liability.
|
|
|
|
|
|
|
|
|
|
|
As of and for the |
|
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
Pending Cases (1) |
|
|
|
|
|
|
|
|
New actions filed during period |
|
|
3,100 |
|
|
|
3,100 |
|
Open actions at period-end |
|
|
105,700 |
|
|
|
106,500 |
|
Cash Flow (dollars in millions) |
|
|
|
|
|
|
|
|
Payments (2) |
|
$ |
(46.4 |
) |
|
$ |
(67.8 |
) |
Insurance recoveries (3) |
|
|
44.5 |
|
|
|
64.6 |
|
|
|
|
|
|
|
|
Net cash flow |
|
$ |
(1.9 |
) |
|
$ |
(3.2 |
) |
|
|
|
|
|
|
|
Solvent Insurance and Trust Assets (dollars in millions) |
|
|
|
|
|
|
|
|
Receivable for previously paid claims (4) |
|
$ |
232.9 |
|
|
$ |
241.2 |
|
Available for pending and future claims |
|
|
104.6 |
|
|
|
163.6 |
|
|
|
|
|
|
|
|
Remaining solvent insurance and trust assets |
|
$ |
337.5 |
|
|
$ |
404.8 |
|
|
|
|
|
|
|
|
Liability Analysis (dollars in millions) |
|
|
|
|
|
|
|
|
Liability for pending and future claims (5)(6) |
|
$ |
502.9 |
|
|
$ |
527.4 |
|
Insurance available for pending and future claims |
|
|
104.6 |
|
|
|
163.6 |
|
|
|
|
|
|
|
|
Liability in excess of insurance coverage (6) |
|
|
398.3 |
|
|
|
363.8 |
|
Insurance receivable for previously paid claims |
|
|
232.9 |
|
|
|
241.2 |
|
|
|
|
|
|
|
|
Liability in excess of anticipated insurance collections (6) |
|
$ |
165.4 |
|
|
$ |
122.6 |
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes actions actually filed with a court of competent jurisdiction. Each action in which
both Garlock and one or more other of our subsidiaries is named as a defendant is shown as a
single action. Multiple actions filed on behalf of the same plaintiff in multiple
jurisdictions are also counted as one action. Claims not filed as actions in court but that
are submitted and paid as part of previous settlements (approximately 300 and 800 in the first
half of 2008 and 2007, respectively) are not included. |
|
(2) |
|
Includes all payments for judgments, settlements, fees and expenses made in the period. |
|
(3) |
|
Includes all recoveries from insurance received in the period. |
|
(4) |
|
Includes previous payments for which Garlock is entitled to receive corresponding insurance
recoveries but has not received payment, in large part due to annual limits imposed under
insurance arrangements. |
21
|
|
|
(5) |
|
At June 30, 2008 and 2007, the liability represents managements best estimate of the future
payments for the following ten-year period. Amounts shown include $6.2 million and $6.8
million at June 30, 2008 and 2007, respectively, of accrued fees and expenses for services
previously rendered but unpaid. |
|
(6) |
|
Does not include fees and expenses to be incurred in the future, which are recorded as a
charge to income when incurred. |
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
The following is managements discussion and analysis of certain significant factors that have
affected our financial condition, cash flows and operating results during the periods included in
the accompanying unaudited consolidated financial statements and the related notes. You should
read this in conjunction with those financial statements and the audited consolidated financial
statements and related notes included in our annual report on Form 10-K for the fiscal year ended
December 31, 2007.
Forward-Looking Information
This quarterly report on Form 10-Q includes statements that reflect projections or
expectations of the future financial condition, results of operations, liabilities and business of
EnPro that are subject to risk and uncertainty. We believe those statements to be
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. When used in this report, the words believe,
anticipate, estimate, expect, intend, should, could, would or may and similar
expressions generally identify forward-looking statements.
We cannot guarantee that actual results or events will not differ materially from those
projected, estimated, assigned or anticipated in any of the forward-looking statements contained in
this report. In addition to those factors specifically noted in the forward-looking statements and
those identified in the Companys annual report on Form 10-K for the year ended December 31, 2007,
other important factors that could result in those differences include:
|
|
|
the resolution of current and potential future asbestos claims against certain of
our subsidiaries, which depends on such factors as the possibility of asbestos reform
legislation, the financial viability of insurance carriers, the amount and timing of
payments of claims and related expenses, the amount and timing of insurance
collections, limitations on the amount that may be recovered from insurance carriers,
the bankruptcies of other defendants and the results of litigation; |
|
|
|
|
changes in the estimated liability for early-stage and potential future asbestos
claims that may be received, which is highly uncertain, is based on subjective
assumptions and is a point within a range of estimated values; |
|
|
|
|
general economic conditions in the markets served by our businesses, some of which
are cyclical and experience periodic downturns; |
|
|
|
|
prices and availability of raw materials; and |
|
|
|
|
the amount of any payments required to satisfy contingent liabilities related to
discontinued operations of our predecessors, including liabilities for certain
products, environmental matters, guaranteed debt and lease payments, employee benefit
obligations and other matters. |
22
We caution our shareholders not to place undue reliance on these statements, which speak only
as of the date on which such statements were made.
Whenever you read or hear any subsequent written or oral forward-looking statements attributed
to us or any person acting on our behalf, you should keep in mind the cautionary statements
contained or referred to in this section. We do not undertake any obligation to release publicly
any revisions to these forward-looking statements to reflect events or circumstances after the date
of this report or to reflect the occurrence of unanticipated events.
Overview and Outlook
Overview. EnPro was incorporated under the laws of the State of North Carolina on
January 11, 2002. We are a leader in the design, development, manufacturing and marketing of
proprietary engineered industrial products. We have 43 primary manufacturing facilities located in
the United States and 10 countries outside the United States.
We manage our business as three segments: a Sealing Products segment, an Engineered Products
segment, and an Engine Products and Services segment.
Our Sealing Products segment designs, manufactures and sells sealing products, including
metallic, non-metallic and composite material gaskets, rotary seals, compression packing, resilient
metal seals, elastomeric seals, hydraulic components and expansion joints, as well as wheel-end
component systems, PTFE products, conveyor belting and sheeted rubber products. These products are
used in a variety of industries, including chemical and petrochemical processing, petroleum
extraction and refining, pulp and paper processing, heavy-duty trucking, power generation, food and
pharmaceutical processing, primary metal manufacturing, mining, water and waste treatment and
semiconductor fabrication.
Our Engineered Products segment includes operations that design, manufacture and sell
self-lubricating, non-rolling, metal-polymer bearings, filament wound bearings, solid polymer
bearings, aluminum blocks for hydraulic applications, rotary and reciprocating air compressors,
vacuum pumps, air systems and reciprocating compressor components. These products are used in a
wide range of applications, including the automotive, pharmaceutical, pulp and paper, gas
transmission, health, construction, petrochemical and general industrial markets.
Our Engine Products and Services segment designs, manufactures, sells and services heavy-duty,
medium-speed diesel, natural gas and dual fuel reciprocating engines. The United States government
and the general markets for marine propulsion, power generation, and pump and compressor
applications use these products and services.
In January 2008, we acquired certain assets and assumed certain liabilities of Sinflex Sealing
Technologies, a distributor and manufacturer of industrial sealing products, located in Shanghai,
China. The operation will do business as Garlock Sealing Technologies (Shanghai) Co. Ltd. and will
be operated and managed as part of the global Garlock Sealing Technologies business unit. Sinflex
had been Garlocks principal distributor in China for over a decade. In February 2008, we acquired
the stock of V.W. Kaiser Engineering, a manufacturer of pins, bushings and suspension kits
primarily for the heavy-duty truck and bus aftermarket. V.W. Kaiser Engineering is located in
Michigan. It will be operated and managed as part of the Stemco business unit. Both Sinflex and
V.W. Kaiser were added to the Sealing Products segment. In May 2008, we acquired certain assets
and assumed certain liabilities of Air Perfection in California. Air Perfection is engaged in the
audit, sale, distribution, rental and service of compressed air systems and the various components
that comprise such systems. The business will be operated and managed as part of the Quincy
Compressor business unit, which is in the Engineered Products Segment. In June 2008, we purchased
the 20% ownership of the minority shareholder of
23
Garlock Pty Limited in Australia. Subsequent to the share purchase, we own 100% of Garlock
Pty Limited, which is in the Sealing Products segment.
As described elsewhere in this Managements Discussion and Analysis of Financial Condition and
Results of Operations, we actively manage the asbestos claims against our subsidiaries and have a
sizeable amount of insurance remaining for the payment of a portion of these claims. We accrue an
estimated liability for both pending and future asbestos claims for the next ten years. For
additional information on this subject, see Contingencies-Asbestos.
On March 3, 2008, pursuant to a $100 million share repurchase authorization approved by our
board of directors, we entered into an accelerated share repurchase (ASR) agreement with a
financial institution to provide for the immediate retirement of $50 million of our common stock.
Under the ASR agreement, we purchased approximately 1.7 million shares of our common stock from a
financial institution at an initial price of $29.53 per share. Total consideration paid at initial
settlement to repurchase these shares, including commissions and other fees, was approximately
$50.2 million and was recorded in shareholders equity as a reduction of common stock and
additional paid-in capital.
The ASR is scheduled to terminate in August 2008. During the term of the ASR, the financial
institution is purchasing shares of our common stock in the open market to settle its obligation
related to shares borrowed from third parties and sold to us. We will be required to remit a
final settlement adjustment that will be based on an average of the reported daily volume weighted
average price of our common stock during the term of the ASR. While the final settlement
adjustment can be settled, at our option, in cash or in shares of our common stock, we currently
expect to make the settlement in cash. We expect the final settlement adjustment to be
approximately $11 million, based on the recent prices of our common stock. After a cash
settlement, we expect to have completed about $61 million of the share repurchase authorization.
The remainder of the share repurchase authorization after the ASR is completed may be used to make
additional purchases through open-market transactions, subject to market conditions, our financial
results and other factors.
Outlook. We continue to make progress in connection with our strategies to improve
operating efficiency; to expand our product offerings, our markets, and our customer base; to
strengthen the mix of our businesses; and to effectively manage asbestos claims against our
subsidiaries. Our liquidity, cash flows and relatively low debt to total capital ratio provide us
with a sound financial base upon which we expect to continue to grow the Company.
While we expect economic conditions to soften in some markets in the second half of 2008, we
believe our results should continue to benefit from our access to a broad range of markets, our
growing international presence and the acquisitions completed over the past 12 months. Many of our
U.S. and European markets face uncertain economic conditions brought on by high energy prices and
other well-published factors. We expect these developments, combined with normal seasonal
reductions in activity, to slow our rate of growth in the second half of 2008 in comparison to the
first half of the year. However, we expect our operating performance should continue to improve
and our operating results to exceed those we reported in the second half of 2007.
On April 11, 2008, we entered into an agreement with one of our shareholders to resolve the
contested election of directors initiated by that shareholder. In the first half of 2008, we
recorded $3.4 million in other non-operating expense to reflect the incremental cost for legal,
financial and strategic advice and proxy solicitation in connection with the contested election.
That amount also includes what we agreed to pay to cover the expenses of the shareholder. Nearly
all of the expenses related to the contested election have been paid or billed to us. We do not
expect the total expense associated with the contested election to change significantly after the
second quarter of 2008.
24
We anticipate that we will show a net decrease in our cash balance in 2008 as a result of:
$50.2 million used to repurchase shares of the Companys common stock in accordance with the ASR
agreement; any final settlement adjustment that we may remit in cash related to the ASR; any
open-market common stock repurchases that we may make during 2008 subject to several factors; and
the acquisitions that were made in the first half of 2008 and those that may be made during the
remainder of the year. We expect increases in capital expenditures and net asbestos-related
payments compared to 2007 to be partially offset by an increase in operating income. Capital
spending in 2008 is expected to be higher than 2007 as a result of our strategy to improve
operational efficiency and continued investments to expand geographically. We believe net
asbestos-related payments will increase in 2008 because we estimate that we will collect less in
insurance recoveries compared to 2007.
Results of Operations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters Ended |
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
(in millions) |
|
|
|
|
|
Sales |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sealing Products |
|
$ |
136.9 |
|
|
$ |
118.3 |
|
|
$ |
260.5 |
|
|
$ |
233.9 |
|
Engineered Products |
|
|
144.8 |
|
|
|
108.3 |
|
|
|
277.9 |
|
|
|
214.6 |
|
Engine Products and Services |
|
|
35.8 |
|
|
|
28.2 |
|
|
|
62.3 |
|
|
|
53.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
317.5 |
|
|
|
254.8 |
|
|
|
600.7 |
|
|
|
502.3 |
|
Intersegment sales |
|
|
(0.7 |
) |
|
|
(0.4 |
) |
|
|
(0.8 |
) |
|
|
(0.6 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sales |
|
$ |
316.8 |
|
|
$ |
254.4 |
|
|
$ |
599.9 |
|
|
$ |
501.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Profit |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sealing Products |
|
$ |
31.2 |
|
|
$ |
22.1 |
|
|
$ |
52.7 |
|
|
$ |
43.5 |
|
Engineered Products |
|
|
21.9 |
|
|
|
18.4 |
|
|
|
43.7 |
|
|
|
37.2 |
|
Engine Products and Services |
|
|
4.5 |
|
|
|
3.4 |
|
|
|
8.0 |
|
|
|
5.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total segment profit |
|
|
57.6 |
|
|
|
43.9 |
|
|
|
104.4 |
|
|
|
86.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate expenses |
|
|
(12.4 |
) |
|
|
(8.2 |
) |
|
|
(21.8 |
) |
|
|
(17.0 |
) |
Asbestos-related expenses |
|
|
(12.2 |
) |
|
|
(13.1 |
) |
|
|
(24.3 |
) |
|
|
(26.0 |
) |
Interest income (expense), net |
|
|
(1.2 |
) |
|
|
0.2 |
|
|
|
(2.1 |
) |
|
|
0.1 |
|
Other income (expense), net |
|
|
0.3 |
|
|
|
(0.8 |
) |
|
|
(3.1 |
) |
|
|
(1.7 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes |
|
$ |
32.1 |
|
|
$ |
22.0 |
|
|
$ |
53.1 |
|
|
$ |
41.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment profit is total segment revenue reduced by operating expenses and restructuring and
other costs identifiable with the segment. Corporate expenses include general corporate
administrative costs. Expenses not directly attributable to the segments, corporate expenses, net
interest expense, asbestos-related expenses, gains/losses or impairments related to the sale of
assets, and income taxes are not included in the computation of segment profit. The accounting
policies of the reportable segments are the same as those for EnPro.
Second Quarter of 2008 Compared to the Second Quarter of 2007
Sales of $316.8 million in the second quarter of 2008 increased 25% from $254.4 million in the
comparable quarter of 2007. The increase in the values of foreign currencies relative to the U.S.
dollar and the results of the acquisitions completed since the second quarter of 2007 each
contributed seven percentage points of the sales increase. The remaining 11 percentage points of
organic growth were primarily the result of strength in the broad-based sealing markets for Garlock
Sealing Technologies; higher volumes at the GGB operations; an increase in engine and parts
shipments by Fairbanks Morse
25
Engine and selected price increases at several businesses. In addition, a decline in demand
from OEM heavy-duty truck and trailer manufacturers continued to negatively impact Stemcos volume.
Segment profit, managements primary measure of how our operations perform, increased 31% from
$43.9 million in the second quarter of 2007 to $57.6 million in 2008. Segment profit increased
primarily due to higher sales volume in the Sealing and Engineered Products segments, an increase
in higher margin parts shipments in the Engine Products and Services segment, selected price
increases, contributions from the acquisitions, cost savings and the favorable foreign exchange
rates. These improvements were partially offset by cost increases in
several areas, particularly raw material
costs. Segment profit in 2008 also included a one-time $2.5 million warranty
claim settlement in favor of Garlock Sealing Technologies. Segment margins, defined as segment
profit divided by sales, increased from 17.3% in 2007 to 18.2% in 2008.
The increase in corporate expenses from $8.2 million in the second quarter of 2007 to $12.4
million in 2008 was primarily the result of recording final salary, benefit and incentive
compensation expenses for the former chief executive officer and one-time benefit expenses for the
incoming chief executive officer in connection with the transition that took place during the
second quarter of this year.
Other income (expense), net included a $2.2 million gain on the sale of fixed assets related
to the disposal of the former Plastomer Technologies facility in Newtown, Pennsylvania in the
second quarter of 2008. Other income (expense), net also included $1.0 million of expenses
incurred in the second quarter of 2008 for external advisors and service providers engaged in
connection with the contested election of directors that was resolved in April 2008.
Our effective tax rate for the second quarter of 2008 was 34.4% compared to 37.0% in 2007.
The change in the rate is principally a result of the release of a valuation allowance against a
net operating loss carryforward in a foreign jurisdiction, a decrease in 2008 in the need to add to
the reserve for uncertain tax positions combined with lower interest on pre-existing uncertain tax
positions compared to 2007, a decrease in deferred tax liabilities in connection with a decrease in
statutory income tax rates in certain countries, and the benefit of reductions in statutory income
tax rates in several countries since the beginning of 2007.
Net income was $21.1 million, or $0.99 per share, in the second quarter of 2008 compared to
$13.8 million, or $0.61 per share, in the same quarter of 2007. Earnings per share are expressed
on a diluted basis.
Following is a discussion of operating results for each segment during the quarter:
Sealing Products. Sales of $136.9 million in the second quarter of 2008 were 16%
higher than the $118.3 million reported in the same quarter of 2007. The favorable impact of
foreign currency exchange rates versus the U.S. dollar accounted for five percentage points of the
growth. Sales at Garlock Sealing Technologies showed the highest growth in the segment and were up
21%. Its sales were favorably impacted by increased demand in European markets; strength in the
oil and gas, energy, mining and primary metals sectors; selected price increases; and the increases
in the value of foreign currencies. Stemcos sales during the quarter increased 14% year-over-year
primarily as a result of the acquisition of the V.W. Kaiser business in late February, an
improvement in aftermarket demand and a price increase. Its OEM sales for the U.S. heavy-duty
truck market continued to be lower compared to 2007 as the number of new trailers built was down as
a result of the U.S. economic slowdown. This partially offset its otherwise favorable results.
Segment profit of $31.2 million in the second quarter of 2008 increased 41% compared to the
$22.1 million reported in the second quarter of 2007. A 65% increase in profit at Garlock Sealing
26
Technologies reflected the benefits of its higher sales; a one-time $2.5 million warranty
claim settlement received from a supplier; and selected price increases. The favorable variances
were partially offset by net cost increases in manufacturing and SG&A. Stemco reported an increase
in profit primarily from the addition of the V.W. Kaiser business. Lower volumes and manufacturing
cost increases negatively impacted Plastomer Technologies results, as did increased restructuring
expenses for the reorganization of their facilities. Operating margins for the segment increased
to 22.8% in 2008 from 18.7% in 2007.
Engineered Products. Sales of $144.8 million in the second quarter of 2008 were 34%
higher than the $108.3 million reported in 2007. The year-over-year increase in the value of
foreign currencies and the acquisitions completed since the second quarter of 2007 favorably
impacted revenue by 22 percentage points. Sales for Compressor Products International in the
second quarter of 2008 were double the amount reported in the comparable quarter of 2007 primarily
due to additional volume from the acquisitions completed after March 2007. In 2008, GGB benefited
mainly from favorable foreign currency exchange rates, increased volume in many of its geographic
markets, and the addition of a product line acquisition in the fourth quarter of last year. Quincy
Compressors sales increased as a result of favorable changes in their volume and mix of parts,
accessories and higher priced compressor shipments and sales from the acquisition completed in the
second quarter of 2008.
Segment profits were $21.9 million in the second quarter of 2008, which was 19% higher than
the $18.4 million reported in the same quarter of 2007. GGBs profits increased in 2008 due to
increased volumes and a stronger euro. Quincy Compressor reported a slight increase in its profit
as a result of a better mix of parts, accessories and higher priced compressors in its 2008 sales.
Profits at Compressor Products International increased as a result of the acquisitions and improved
volume and product mix. The entire segment experienced significant upward cost pressure in raw
materials and other manufacturing costs that was partially offset by selected price increases.
Primarily because of cost increases and lower margins on the acquired CPI business, operating
margins for the segment decreased from 17.0% in 2007 to 15.1% in 2008.
Engine Products and Services. Sales increased 27% from $28.2 million in the second
quarter of 2007 to $35.8 million in the second quarter of 2008. The increase was attributable to
additional parts shipments and a mix of engine shipments that resulted in higher revenue in 2008.
The segment reported a profit of $4.5 million in the second quarter of 2008 compared to $3.4
million in the second quarter of 2007. The year-over-year improvement was a result of the increase
in parts shipments, which have better margins than engine sales, and cost savings. Operating
margins for the segment increased to 12.6% in 2008 compared to 12.1% in 2007.
Six Months Ended June 30, 2008 Compared to the Six Months Ended June 30, 2007
Sales increased 20% from $501.7 million in 2007 to $599.9 million in 2008. The year-over-year
increase in the values of foreign currencies relative to the U.S. dollar added six percentage
points to the total growth rate. Acquisitions completed since the first half of 2007 contributed
seven percentage points of the 2008 growth. The remaining seven percentage points of growth were
principally a result of the same factors that influenced the organic growth in the second quarter
of 2008.
Segment profit increased 21% from $86.1 million in 2007 to $104.4 million in 2008. Segment
profit in the first six months of 2008 benefited primarily from the same changes that resulted in
the increase in segment profit in the second quarter of 2008. Segment margins in 2007 were 17.2%
compared to 17.4% in 2008.
The increase in corporate expenses from $17.0 million in the first half of 2007 to $21.8
million in the same period of 2008 was primarily the result of recording final salary, benefit and
incentive
27
compensation expenses for the former chief executive officer and one-time benefit expenses for the
incoming chief executive officer in connection with the transition that took place during the
second quarter of this year.
Net interest expense during the first six months of 2008 was $2.1 million compared to net
interest income of $0.1 million in 2007. The change from net interest income to expense was caused
by decreases in our cash balance and the yields on cash and cash equivalent investments.
Other income (expense), net included a $2.2 million gain on the sale of fixed assets related
to the disposal of the former Plastomer Technologies facility in Newtown, Pennsylvania in the first
half of 2008. Other income (expense), net also included $3.4 million of expenses incurred in the
first half of 2008 for external advisors and service providers engaged in connection with the
contested election of directors that was resolved in April 2008.
Our effective tax rate for the six months ended June 30, 2008, was 35.5% compared to 37.0% in
2007. The change in the rate is principally a result of the release of a valuation allowance
against a net operating loss carryforward in a foreign jurisdiction, a decrease in 2008 in the need
to add to the reserve for uncertain tax positions combined with lower interest on pre-existing
uncertain tax positions compared to 2007, a decrease in deferred tax liabilities in connection with
a decrease in statutory income tax rates in certain countries, and the benefit of reductions in
statutory income tax rates in several countries since the beginning of 2007.
Net income was $34.3 million, or $1.60 per share, for the first six months of 2008 compared to
$26.1 million, or $1.17 per share, in the same period last year. Earnings per share are expressed
on a diluted basis.
Liquidity and Capital Resources
Cash requirements for working capital, capital expenditures, acquisitions, debt repayments and
common stock repurchases have been and continue to be funded from cash balances on hand and cash
generated from operations. Should we need additional capital in the future, we have other
resources available, which are discussed under the heading of Capital Resources.
Cash Flows
Operating activities generated cash in the amount of $55.2 million in the first half of 2008
compared to $44.1 million in the same period last year. The increase in operating cash flows was
primarily attributable to an increase in net earnings in 2008. Working capital increased by a
greater amount in 2008 than in 2007, but this change was nearly offset by a $10 million
contribution to the U.S. defined benefit pension plans in 2007 for which there was no comparable
contribution payment in 2008. Working capital typically increases during the first half of each
year as seasonal activity increases in many of our markets and as we come off of a low point in
working capital requirements at the end of the previous year.
Investing activities used $54.2 million and $32.5 million of cash during the first half of
2008 and 2007, respectively. We made net payments for acquisitions of $36.9 million in 2008
compared to $12.5 million in 2007. In addition, capital expenditures in 2008 are approximately $7
million more than 2007 as we continue to invest in growth opportunities and operational
efficiencies.
In the first half of 2008, we paid $50.2 million in connection with the repurchase of
approximately 1.7 million shares of our common stock under the ASR agreement. This transaction was
included in financing activities in the Consolidated Statements of Cash Flows.
28
Capital Resources
Our primary U.S. operating subsidiaries have a senior secured revolving credit facility with a
group of banks, which matures on April 21, 2011. We have not borrowed against this facility. The
facility is collateralized by our receivables, inventories, intellectual property, insurance
receivables and all other personal property assets (other than fixed assets), and by pledges of 65%
of the capital stock of our direct foreign subsidiaries and 100% of the capital stock of our direct
and indirect U.S. subsidiaries. The facility contains covenants and restrictions that are
customary for an asset-based loan, including limitations on dividends, limitations on incurrence of
indebtedness and maintenance of a fixed charge coverage financial ratio. Certain of the covenants
and restrictions apply only if availability under the facility falls below certain levels.
The maximum initial amount available for borrowings under the facility is $75 million. Under
certain conditions, the borrowers may request that the facility be increased by up to $25 million,
to $100 million in total. Actual borrowing availability at any date is determined by reference to
a borrowing base of specified percentages of eligible accounts receivable and inventory and is
reduced by usage of the facility (including outstanding letters of credit) and any reserves.
We issued $172.5 million of convertible debentures in 2005. The debentures bear interest at
an annual rate of 3.9375%, and we pay accrued interest on April 15 and October 15 of each year.
The debentures will mature on October 15, 2015. The debentures are direct, unsecured and
unsubordinated obligations and rank equal in priority with our unsecured and unsubordinated
indebtedness and will be senior in right of payment to all subordinated indebtedness. They
effectively rank junior to our secured indebtedness to the extent of the value of the assets
securing such indebtedness. The debentures do not contain any financial covenants. Holders may
convert the debentures into cash and shares of our common stock, if any, at an initial conversion
rate of 29.5972 shares of common stock per $1,000 principal amount of debentures (which is equal to
an initial conversion price of $33.79 per share), subject to adjustment, before the close of
business on October 15, 2015. Upon conversion, we would deliver (i) cash equal to the lesser of
the aggregate principal amount of the debentures to be converted or our total conversion
obligation, and (ii) shares of our common stock in respect of the remainder, if any, of our
conversion obligation. Conversion is permitted only under certain circumstances that had not
occurred at June 30, 2008.
We used a portion of the net proceeds from the sale of the debentures to enter into call
options (hedge and warrant transactions), which entitle us to purchase shares of our stock from a
financial institution at $33.79 per share and entitle the financial institution to purchase shares
of our stock from us at $46.78 per share. This will reduce potential dilution to our common
stockholders from conversion of the debentures and have the effect to us of increasing the
conversion price of the debentures to $46.78 per share.
The remaining $3.1 million of 71/2% Coltec Senior Notes were paid in the second quarter of 2008.
The industrial revenue bonds, in the amount of $9.6 million at June 30, 2008, are payable in full
in the first quarter of 2009. The industrial revenue bonds bear interest at rates ranging from
6.4% to 6.55%.
Contractual Obligations
In addition to our contractual obligations disclosed in our Form 10-K for the fiscal year
ended December 31, 2007, we entered into an ASR agreement in 2008 with a financial institution to
provide for the immediate retirement of approximately $50 million of our common stock. Under the
ASR agreement, we purchased 1,693,193 shares of our common stock at an aggregate price of
approximately $50.2 million, including commissions and other fees. The price is subject to a final
settlement adjustment based
29
on the arithmetic average of a reported daily volume weighted average price of our common
stock over a measurement period ending on August 29, 2008, or an earlier date selected by the
financial institution. After the termination of this period, we will be required to remit a
final settlement adjustment based on this average price. The final settlement adjustment can be
settled, at our option, in cash or in shares of our common stock.
Critical Accounting Policies and Estimates
Please refer to our annual report on Form 10-K for the fiscal year ended December 31, 2007,
for a complete list of our critical accounting policies and estimates.
New Accounting Pronouncements
See Note 1 to the Consolidated Financial Statements, which is incorporated herein by
reference, for a description of new accounting pronouncements, including the expected dates of
adoption and the expected effects on our results of operations, cash flows and financial condition,
if any.
Contingencies
General
Various claims, lawsuits and administrative proceedings with respect to commercial, product
liability and environmental matters, all arising in the ordinary course of business, are pending or
threatened against us or our subsidiaries and seek monetary damages and/or other remedies. We
believe that any liability that may finally be determined with respect to commercial and
non-asbestos product liability claims should not have a material effect on our consolidated
financial condition or results of operations. From time to time, we and our subsidiaries are also
involved as plaintiffs in legal proceedings involving contract, patent protection, environmental,
insurance and other matters.
Environmental
Our facilities and operations are subject to federal, state and local environmental and
occupational health and safety requirements of the U.S. and foreign countries. We take a proactive
approach in our efforts to comply in all material respects with environmental, health and safety
laws as they relate to our manufacturing operations and in proposing and implementing any remedial
plans that may be necessary. We also regularly conduct comprehensive environmental, health and
safety audits at our facilities to maintain compliance and improve operational efficiency.
Although we believe past operations were in substantial compliance with the then applicable
regulations, we or one of our subsidiaries have been named as a potentially responsible party, or
are otherwise involved, at 20 sites where the costs to us are expected to exceed $100,000.
Investigations have been completed for 15 sites and are in progress at the other five sites. The
majority of these sites relate to remediation projects at former operating facilities that were
sold or closed and primarily deal with remediation of soil and groundwater contamination.
As of June 30, 2008 and December 31, 2007, EnPro had accrued liabilities of $24.9 million and
$27.7 million, respectively, for estimated future expenditures relating to environmental
contingencies. See Note 15 to the Consolidated Financial Statements for additional information
regarding our environmental contingencies.
30
Colt Firearms and Central Moloney
We have contingent liabilities related to divested businesses for which certain of our
subsidiaries retained liability or are obligated under indemnity agreements. These contingent
liabilities include, but are not limited to, potential product liability and associated claims
related to Coltecs former Colt Firearms subsidiary for firearms manufactured prior to its
divestiture in 1990 and Coltecs former Central Moloney subsidiary for electrical transformers
manufactured prior to its divestiture in 1994. No product liability claims are currently pending
against Coltec related to Colt Firearms or Central Moloney. Coltec also has ongoing obligations,
which are included in retained liabilities of previously owned businesses in our Consolidated
Balance Sheets, with regard to workers compensation, retiree medical and other retiree benefit
matters that relate to Coltecs periods of ownership of these operations.
Crucible Materials Corporation
Crucible Materials Corporation (Crucible), which is engaged primarily in the manufacture and
distribution of high technology specialty metal products, was a wholly owned subsidiary of Coltec
until 1985 when a majority of the outstanding shares were sold. Coltec sold its remaining minority
interest in 2004. See Note 15 to the Consolidated Financial Statements for information about
certain liabilities relating to Coltecs ownership of Crucible.
Debt and Capital Lease Guarantees
As of June 30, 2008, we had contingent liabilities for potential payments on guarantees of
certain debt and lease obligations totaling $6.2 million. These guarantees arose from the
divestiture of Crucible and Central Moloney, and expire at various dates through 2010. There is no
liability for these guarantees reflected in our Consolidated Balance Sheets. In the event that the
other parties do not fulfill their obligations under the debt or lease agreements, we could be
responsible for these obligations.
Asbestos
History. Certain of our subsidiaries, primarily Garlock Sealing Technologies LLC
(Garlock) and The Anchor Packing Company (Anchor), are among a large number of defendants in
actions filed in various states by plaintiffs alleging injury or death as a result of exposure to
asbestos fibers. Among the products at issue in these actions are industrial sealing products,
including gaskets and packing products. Since the first asbestos-related lawsuits were filed
against Garlock in 1975, Garlock and Anchor have processed more than 900,000 asbestos claims to
conclusion (including judgments, settlements and dismissals) and, together with their insurers,
have paid more than $1.3 billion in settlements and judgments and over $400 million in fees and
expenses. See Note 15 to the Consolidated Financial Statements, which is incorporated herein by
reference, for information on the disease mix in the claims, new claims recently filed, product
defenses asserted by our subsidiaries, recent trial and appeal results, and settlements.
Status of Anchor. Anchor is an inactive and insolvent indirect subsidiary of Coltec.
There is no remaining insurance coverage available to Anchor. Anchor has no remaining assets and
has not committed to settle any actions since 1998. As cases reach the trial stage, Anchor is
typically dismissed without payment.
Insurance Coverage. At June 30, 2008, Garlock had available $337.5 million of solvent
insurance and trust coverage that we believe will be available to cover future asbestos claims and
certain expense payments. In addition, at June 30, 2008, Garlock classified $47.2 million of
otherwise available insurance as insolvent. We believe that Garlock will recover some of the
insolvent insurance over time. In fact, Garlock collected approximately $1 million from insolvent
carriers in 2007. There can be no
31
assurance that Garlock will collect any of the remaining insolvent insurance. See Note 15 to
the Consolidated Financial Statements for additional information about the quality of Garlocks
insurance, arrangements for payments with certain insurers, the resolution of past insurance
disputes, and coverage exclusions for exposure after July 1, 1984.
Our Liability Estimate. Prior to mid-2004, we maintained that our subsidiaries
liability for unasserted claims was not reasonably estimable. We estimated and recorded
liabilities only for pending claims in advanced stages of processing, for which we believed we had
a basis for making a reasonable estimate. We disclosed the significance of the total potential
liability for unasserted claims in considerable detail. During 2004 we authorized counsel to
retain Bates White to assist in estimating our subsidiaries liability for pending and future
asbestos claims.
Bates Whites first report, dated February 17, 2005, provided an estimate of the liability as
of December 31, 2004 for the following ten years, which represented a time horizon within which
Bates White believed such liability was both probable and estimable within a range of values. We
adopted the Bates White estimate and, accordingly, recorded an additional liability for pending and
unasserted claims to increase our liability to an amount equal to the low end of the estimated
range. Bates White has updated its estimate every quarter since the end of 2004. The estimated
range of potential liabilities provided by Bates White at June 30, 2008 was $416 million to $613
million.
Each quarter until the fourth quarter of 2006, we adopted the Bates White estimate and
adjusted the liability to equal the low end of the then-current range. Until the second quarter of
2006, the additional liability was recorded with a corresponding increase in our insurance
receivable, and thus did not affect net income. During the second quarter of 2006, however, our
insurance was fully allocated to past, present and future claims, and therefore subsequent changes
to the Bates White estimate were recorded as charges to income.
We have independently developed internal estimates for asbestos-related liabilities. We have
used those estimates for a variety of purposes, including guidance for settlement negotiations and
trial strategy, in our strategic planning, budgeting and cash flow planning processes, and in
setting targets for annual and long-term incentive compensation. Until the end of 2006, we did not
have sufficient history comparing claims payments to our internal estimates to allow us to identify
a most likely point within the Bates White range. Therefore, prior to the fourth quarter of 2006,
we had adopted the low-end of the range provided by Bates White. However, our internal estimate
has been within the Bates White range of equally likely estimates and has proven to be a more
precise predictor of the actual amounts spent on settlements and verdicts than the low end of the
range. As a result, while the low end of the Bates White range still provides a reasonable lower
boundary of possible outcomes, Bates White and management believe that our internal estimate for
the next ten years represents the most likely point within the range. Accordingly, we adjusted the
recorded liability from the low end of the Bates White estimate to our point estimate in the fourth
quarter of 2006 and have adjusted the liability in each subsequent quarter consistent with our
internal estimate.
We focus on future cash flows to prepare our estimate. We make assumptions about declining
future asbestos spending based on (1) past trends, (2) publicly available epidemiological data, (3)
current agreements with plaintiff firms and our judgment about the current and future litigation
environment, (4) the availability to claimants of other payment sources, both co-defendants and the
524(g) trusts, and (5) the input and insight provided to us by Bates White. We adjust our estimate
when current cash flow results and long-term trends suggest that our targets cannot be met. As a
result, we have a process that we believe produces the best estimate of the future liability for
the ten-year time period within the Bates White range.
32
We currently estimate that the liability of our subsidiaries for the indemnity cost of
resolving asbestos claims for the next ten years will be $496.7 million. The estimated liability
of $496.7 million is before any tax benefit and is not discounted to present value, and it does not
include fees and expenses, which are recorded as incurred. The recorded liability will continue to
be impacted by actual claims and settlement experience and any change in the legal environment that
could cause a significant increase or decrease in the long-term expectations of management and
Bates White. We expect the recorded liability to fluctuate, perhaps significantly. Any
significant change in the estimated liability could have a material effect on our consolidated
financial position and results of operations.
Although we believe that our estimate is the best estimate within the Bates White range of
reasonable and probable estimates of Garlocks future obligation, we note that Bates White also
indicated a broader range of potential estimates from $188 million to $687 million. We caution
that points within or outside that broader range remain possible outcomes. Also, while we agree
with our expert that beyond two to four years for Garlocks economically-driven non-malignant
claims and beyond ten years for Garlocks cancer claims and medically-driven non-malignant claims,
there are reasonable scenarios in which the [asbestos] expenditure is de minimus, we caution that
the process of estimating future liabilities is highly uncertain. Adjusting our liability to the
best estimate within the range does not change that fact. In the words of the Bates White report,
the reliability of estimates of future probable expenditures of Garlock for asbestos-related
personal injury claims declines significantly for each year further into the future. Scenarios
continue to exist that could result in a total future asbestos liability for Garlock in excess of
$1 billion.
As previously mentioned, the liability estimate does not include legal fees and expenses,
which add considerably to the costs each year. Over the last two years, these expenses have
averaged approximately $7 million per quarter. In addition to these legal fees and expenses, we
expect to continue to record charges or credits to income in future quarters for:
|
|
|
Increases or decreases, if any, in our estimate of Garlocks potential liability,
plus |
|
|
|
|
Increases, if any, that result from additional quarters added to maintain the
ten-year estimation period (increases of this type have averaged
approximately $6 million to $7 million per quarter for the last two years), plus |
|
|
|
|
Amounts, if any, of solvent insurance lost or commuted, offset by insolvent
recoveries and earnings from insurance settlement trusts. |
In the second quarter of 2008, we recorded a pre-tax charge of $12.2 million to reflect net
cash outlays of $6.8 million for fees and expenses paid during the quarter and a $5.4 million
non-cash charge primarily to add an estimate of the liability for the second quarter of 2018 to
maintain a ten year estimate. In the second quarter of 2007, we recorded a pre-tax charge of $13.1
million to reflect cash outlays of $6.8 million for fees and expenses incurred during the quarter
and a $6.3 million non-cash charge primarily to add an estimate for the second quarter of 2017 to
maintain a ten year estimate. For the first half of 2008, we recorded a pre-tax charge of $24.3
million to reflect net cash outlays of $12.4 million for fees and expenses and an $11.9 million
non-cash charge primarily to add an estimate of the liability for the first half of 2018. In the
first half of 2007, we recorded pre-tax charges to income of $26.0 million to reflect net cash
outlays of $13.8 million for legal fees and expenses and a $12.2 million non-cash charge primarily
to add an estimate of the liability for the first half of 2017.
See Note 15 to the Consolidated Financial Statements for additional information about our
liability estimate.
Quantitative Claims and Insurance Information. Our liability as of June 30, 2008 was
$502.9 million (our estimate of the liability described above of $496.7 million plus $6.2 million
of accrued legal
33
and other fees already incurred but not yet paid). The total liability as of June 30, 2008,
included $91.8 million classified as a current liability and $411.1 million classified as a
noncurrent liability. The recorded amounts do not include legal fees and expenses to be incurred
in the future. See Note 15 to the Consolidated Financial Statements for additional information
about pending cases, insurance, cash flows and our liability.
Strategy. Garlocks strategy is to focus on trial-listed cases and other cases in
advanced stages, to reduce new settlement commitments each year, to carefully manage and maximize
insurance collections, and to proactively support legislative and other efforts aimed at meaningful
asbestos reform. We believe that this strategy should result in the continued reduction of the
negative annual cash flow impact from asbestos claims. However, the risk of large verdicts
sometimes impacts the implementation of the strategy, and therefore it is likely that, from time to
time, Garlock will enter into settlements that involve large numbers of cases, including
early-stage cases, when it believes that the risk outweighs the benefits of the strategy. We
believe that, as predicted in various epidemiological studies that are publicly available, the
incidence of asbestos-related disease is in decline and should continue to decline steadily over
the next decade and thereafter, so that claims activity against Garlock will eventually decline to
a level that can be paid from the cash flow expected from Garlocks operations, even after Garlock
exhausts its insurance coverage. However, there can be no assurance that epidemiological
predictions about incidence of asbestos-related disease will prove to be accurate, or that, even if
they are, there will be a commensurate decline in the number of asbestos-related claims filings.
Considering the foregoing, as well as the experience of our subsidiaries and other defendants
in asbestos litigation, the likely sharing of judgments among multiple responsible defendants,
bankruptcies of other defendants, and legislative efforts, and given the amount of insurance
coverage available to our subsidiaries from solvent insurance carriers, we believe that pending
asbestos actions against our subsidiaries are not likely to have a material adverse effect on our
financial condition, but could be material to our results of operations or cash flows in given
future periods. We anticipate that asbestos claims will continue to be filed against our
subsidiaries. Because of (1) the uncertainty as to the number and timing of potential future
claims and the amount that will have to be paid to litigate, settle or satisfy claims, and (2) the
finite amount of insurance available for future payments, future claims could have a material
adverse effect on our financial condition, results of operations and cash flows.
Reform Legislation. While reform measures have been adopted in several states and are
likely to be considered from time-to-time on a state-by-state basis in a number of other
jurisdictions, the outlook for federal legislation to provide national asbestos litigation reform
continues to be uncertain. While reform legislation ultimately may be adopted by the U.S.
Congress, it appears unlikely that any federal asbestos legislation will be enacted in the near
future.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to certain market risks as part of our ongoing business operations, including
risks from changes in foreign currency exchange rates and interest rates that could impact our
financial condition, results of operations and cash flows. We manage our exposure to these and
other market risks through regular operating and financing activities and through the use of
derivative financial instruments. We intend to use derivative financial instruments as risk
management tools and not for speculative investment purposes. For information about our interest
rate risk, see Quantitative and Qualitative Disclosures about Market Risk Interest Rate Risk
in our annual report on Form 10-K for the year ended December 31, 2007, and the following section.
34
Foreign Currency Risk
We are exposed to foreign currency risks that arise from normal business operations. These
risks include the translation of local currency balances of our foreign subsidiaries, intercompany
loans with foreign subsidiaries and transactions denominated in foreign currencies. Our objective
is to control our exposure to these risks through our normal operating activities and, where
appropriate, through foreign currency forward contracts and option contracts. The following table
provides information about our outstanding foreign currency forward and option contracts as of June
30, 2008:
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Notional Amount |
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|
|
|
|
|
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Outstanding in |
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|
|
|
|
|
Millions of U.S. |
|
|
|
|
|
Transaction Type |
|
Dollars (USD) |
|
|
Maturity Dates |
|
Exchange Rate Ranges |
Forward Contracts |
|
|
|
|
|
|
|
|
Sell koruna/buy euro |
|
$ |
30.3 |
|
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Jul 2008 |
|
30.304 to 30.310 koruna/euro |
Sell British pound/buy euro |
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|
21.3 |
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Jul 2008 |
|
0.792 to 0.793 pound/euro |
Buy euro/sell USD |
|
|
20.5 |
|
|
Jul 2008 Jan 2010 |
|
1.375 to 1.579 USD/euro |
Sell euro/buy Australian dollar |
|
|
11.7 |
|
|
Jul 2008 |
|
1.635 to 1.639 Australian dollar/euro |
Buy USD/sell euro |
|
|
7.2 |
|
|
Jul 2008 Dec 2008 |
|
1.380 to 1.382 USD/euro |
Buy USD/sell Canadian dollar |
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4.1 |
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Jul 2008 Dec 2008 |
|
1.041 Canadian dollar/USD |
Buy koruna/sell euro |
|
|
3.8 |
|
|
Jul 2008 Dec 2008 |
|
32.829 to 32.961 koruna/euro |
Buy euro/sell peso |
|
|
3.6 |
|
|
Jul 2008 |
|
16.050 to 16.097 peso/euro |
Buy USD/sell Australian dollar |
|
|
2.1 |
|
|
Jul 2008 Dec 2008 |
|
0.859 to 0.869 USD/Australian dollar |
Sell USD/buy peso |
|
|
1.3 |
|
|
Jul 2008 Dec 2008 |
|
11.140 to 11.268 peso/USD |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
105.9 |
|
|
|
|
|
Option Contracts |
|
|
|
|
|
|
|
|
Buy euro/sell USD |
|
|
22.1 |
|
|
Jan 2009 Dec 2010 |
|
1.336 USD/euro |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
128.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Item 4. Controls and Procedures
As of the end of the period covered by this report, we carried out an evaluation, under the
supervision and with the participation of our chief executive officer and chief financial officer,
of the effectiveness of the design and operation of our disclosure controls and procedures. The
purpose of our disclosure controls and procedures is to provide reasonable assurance that
information required to be disclosed in our reports filed under the Exchange Act, including this
report, is recorded, processed, summarized and reported within the time periods specified, and that
such information is accumulated and communicated to our management to allow timely decisions
regarding disclosure.
Based on the controls evaluation, our chief executive officer and chief financial officer have
concluded that our disclosure controls and procedures are effective to reasonably ensure that
information required to be disclosed in our reports filed under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified, and that management will be
timely alerted to material information required to be included in our periodic reports filed with
the Securities and Exchange Commission.
In addition, no change in our internal control over financial reporting has occurred during
the quarter ended June 30, 2008, that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
35
PART II
OTHER INFORMATION
Item 1. Legal Proceedings.
A description of environmental, asbestos and other legal matters is included in Note 15 to the
Consolidated Financial Statements included in this report, which is incorporated herein by
reference. In addition to the matters noted therein, we are from time to time subject to, and are
presently involved in, other litigation and legal proceedings arising in the ordinary course of
business. We believe that the outcome of such other litigation and legal proceedings will not have
a material adverse affect on our financial condition, results of operations and cash flows.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
The following table sets forth all purchases made by or on behalf of the Company or any
affiliated purchaser, as defined in Rule 10b-18(a)(3) under the Exchange Act, of shares of the
Companys common stock during each month in the second quarter of 2008.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(d) Maximum Number (or |
|
|
(a) Total Number |
|
|
|
|
|
(c) Total Number of |
|
Approximate Dollar Value) of |
|
|
of Shares |
|
(b) Average |
|
Shares (or Units) |
|
Shares (or Units) That May |
|
|
(or Units) |
|
Price Paid per |
|
Purchased as Part of |
|
Yet Be Purchased Under the |
|
|
Purchased |
|
Share (or Unit) |
|
Publicly Announced |
|
Plans or Programs |
Period |
|
(1) |
|
(1) |
|
Plans or Programs |
|
(2) |
April 1 April 30, 2008 |
|
|
-0- |
|
|
|
|
|
|
|
|
|
|
|
|
|
May 1 May 31, 2008 |
|
|
-0- |
|
|
|
|
|
|
|
|
|
|
|
|
|
June 1 June 30, 2008 |
|
|
1,239 |
|
|
|
37.82 |
|
|
|
|
|
|
|
|
|
Total |
|
|
1,239 |
|
|
|
37.82 |
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
A total of 1,239 shares were transferred to a rabbi trust that we established in connection
with our Deferred Compensation Plan for Non-Employee Directors, pursuant to which non-employee
directors may elect to defer directors fees into common stock units. Coltec, which is a
wholly owned subsidiary of EnPro, furnished these shares in exchange for management and other
services provided by EnPro. These shares were valued at a price of $37.82 per share, the
average of the high and low prices of our common stock on June 30, 2008. We do not consider
the transfer of shares from Coltec in this context to be pursuant to a publicly announced plan
or program. |
|
(2) |
|
On March 3, 2008, pursuant to a $100 million share repurchase authorization approved by our
board of directors, we entered into an accelerated share repurchase (ASR) agreement with a
financial institution to provide for the immediate retirement of approximately $50 million of
our common stock. Under the ASR agreement, we purchased 1,693,193 shares of our common stock |
36
|
|
|
|
|
at an aggregate price of approximately $50.2 million, including commissions and other fees. The price is subject to a final settlement adjustment based on the arithmetic average of a
reported daily volume weighted average price of our common stock over a measurement period
ending on August 29, 2008, or an earlier date selected by the financial institution. After the termination of
this period, we will be
required to remit a final settlement adjustment based on this average price. The final
settlement adjustment can be settled, at our option, in cash or in shares of our common stock.
Once this final settlement of the ASR
takes place, we may purchase additional shares that have an aggregate value equal to the
remaining balance of the $100 million repurchase authorization. |
Item 4. Submission of Matters to a Vote of Security Holders.
The Annual Meeting of Shareholders was held on June 9, 2008. The following sets forth the
voting results on each of the matters voted upon at the meeting:
(a) Election of Directors
|
|
|
|
|
|
|
|
|
|
|
No. of Votes |
|
No. of Votes |
Nominee |
|
For |
|
Withheld |
J.P. Bolduc |
|
|
17,874,979 |
|
|
|
760,773 |
|
Peter C. Browning |
|
|
17,344,007 |
|
|
|
1,291,745 |
|
Joe T. Ford |
|
|
18,136,137 |
|
|
|
499,615 |
|
Gordon D. Harnett |
|
|
18,138,075 |
|
|
|
497,677 |
|
David L. Hauser |
|
|
18,110,853 |
|
|
|
524,899 |
|
William R. Holland |
|
|
17,915,365 |
|
|
|
720,387 |
|
Stephen E. Macadam |
|
|
17,950,049 |
|
|
|
685,703 |
|
Wilbur J. Prezzano, Jr. |
|
|
18,198,789 |
|
|
|
436,963 |
|
There were no broker non-votes with respect to the election of directors.
See our definitive proxy statement on Schedule 14A filed with the U.S. Securities and Exchange
Commission on April 25, 2008, in connection with the Annual Meeting of Shareholders for a
description of our settlement of the contested election of directors initiated by one of our
shareholders and Note 4 to the Consolidated Financial Statements for a description of the costs
associated with the contested election.
(b) Approval of Amendment to Articles of Incorporation to clarify the restriction on
repurchase of shares
|
|
|
|
|
|
|
No. of Votes |
|
No. of Votes |
|
No. of |
|
No. of Broker |
For |
|
Against |
|
Abstentions |
|
Non-Votes |
18,181,317
|
|
342,014
|
|
112,421
|
|
|
(c) Approval of Amendment to Articles of Incorporation to remove provisions for classification
of Board of Directors
|
|
|
|
|
|
|
No. of Votes |
|
No. of Votes |
|
No. of |
|
No. of Broker |
For |
|
Against |
|
Abstentions |
|
Non-Votes |
18,590,284
|
|
31,200
|
|
14,268
|
|
|
37
(d) Ratification of Independent Registered Public Accounting Firm for 2008
|
|
|
|
|
|
|
No. of Votes |
|
No. of Votes |
|
No. of |
|
No. of Broker |
For |
|
Against |
|
Abstentions |
|
Non-Votes |
18,473,845
|
|
48,348
|
|
113,559
|
|
|
Item 6. Exhibits.
The exhibits to this report on Form 10-Q are listed in the accompanying Exhibit Index.
38
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City
of Charlotte, North Carolina on this 5th day of August, 2008.
|
|
|
|
|
|
ENPRO INDUSTRIES, INC.
|
|
|
By: |
/s/ Richard L. Magee
|
|
|
|
Richard L. Magee |
|
|
|
Senior Vice President, General Counsel and
Secretary |
|
|
|
|
|
|
By: |
/s/ Donald G. Pomeroy
|
|
|
|
Donald G. Pomeroy |
|
|
|
Vice President and Controller |
|
39
EXHIBIT INDEX
|
|
|
2
|
|
Distribution Agreement between Goodrich Corporation, EnPro Industries, Inc. and Coltec
Industries Inc (incorporated by reference to Exhibit 2 to the Form 10-Q for the quarter ended
June 30, 2002 filed by EnPro Industries, Inc.) |
|
|
|
3.1*
|
|
Restated Articles of Incorporation of EnPro Industries, Inc., as amended |
|
|
|
3.2
|
|
Amended Bylaws of EnPro Industries, Inc. (incorporated by reference to Exhibit 4.5 to the
Registration Statement on Form S-8 filed by EnPro Industries, Inc., the EnPro Industries, Inc.
Retirement Savings Plan for Hourly Workers and the EnPro Industries, Inc. Retirement Savings
Plan for Salaried Workers (File No. 333-89576)) |
|
|
|
23.1*
|
|
Consent of Bates White, LLC |
|
|
|
31.1*
|
|
Certification of Chief Executive Officer pursuant to Rule 13a 14(a)/15d 14(a) |
|
|
|
31.2*
|
|
Certification of Chief Financial Officer pursuant to Rule 13a 14(a)/15d 14(a) |
|
|
|
32*
|
|
Certification pursuant to Section 1350 |