Why did reported net earnings fall so sharply in fiscal 2002?

Reported net earnings were $122 million, down from $1,032 million in 2001, primarily because of a non-cash, after-tax $938 million charge recorded as a cumulative effect of adopting SFAS 142 (goodwill impairment). Most of the charge, $831 million, related to the Electronics and Telecommunications segment, reflecting the collapse in telecom and computing equipment markets. Excluding this charge, earnings were about $1.1 billion, though still down 18% from 2001 excluding the prior-year repositioning charge.

Which business segments performed best and worst in 2002?

Process Control was the most stable, with sales of $3.4 billion and modest underlying growth from systems and solutions, despite a 7% earnings decline largely tied to divestitures. Electronics and Telecommunications was the weakest, with sales down 31% and underlying sales down 38%, and earnings falling 71% to $119 million. Industrial Automation sales fell to $2.5 billion, with earnings down 31%. HVAC and Appliance and Tools were comparatively steady, with sales down only 2% each.

How strong is Emerson's cash generation and balance sheet?

Cash generation remained strong, with operating cash flow of $1.8 billion and record free cash flow of $1.4 billion, supported by inventory reduction and lower capital spending. However, total debt rose to about $4.6 billion, and the debt-to-capital ratio increased to 44.2%. Liquidity appears adequate, with $3.1 billion in lines of credit and up to $1.25 billion available under the shelf registration, though leverage increased partly because of the goodwill charge.

What are the main risks investors should monitor going forward?

Key risks include continued weakness in telecommunications and industrial capital spending, particularly in the U.S. and Europe; pension funding exposure, since the accumulated benefit obligation exceeded plan assets by about $180 million as of October 2002, and a further equity decline could require a roughly $700 million pre-tax charge to equity; and currency and emerging-market risks, given that about 42% of sales are international. Management has also flagged the possibility of further rationalization costs and integration risks from acquisitions like Avansys.

What strategic moves did Emerson make in 2002 that could drive future growth?

Emerson acquired Avansys for about $750 million to gain access to China's telecom power market and a low-cost manufacturing base. It divested the Chromalox and Daniel Valve businesses and exchanged its ENI semiconductor business for 12 million shares of MKS Instruments. The company continues to push its PlantWeb and solutions offerings in Process Control, expanded its commercial refrigeration services business, and targets 2003 capital spending of about 3% of sales.

EMR 10-K FY2002 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed December 23, 2002. Cited figures are marked; the original filing is the authoritative source.

Emerson Electric's fiscal 2002 (year ended September 30, 2002) was a challenging year driven by a sharp downturn in telecommunications, weak European and U.S. industrial markets, and cyclical softness across most segments.

Net sales fell 10.7% to $13.8 billion^a, and underlying sales (excluding acquisitions, divestitures and currency) declined 11%. The Electronics and Telecommunications segment was hit hardest, with underlying sales down 38%, while Industrial Automation fell 11% underlying. Process Control was the relative bright spot, with modest underlying growth driven by systems and solutions.

Reported net earnings were $122 million^b, or $0.29 per diluted share, but this figure includes a non-cash, after-tax charge of $938 million ($2.23 per share) from the transitional goodwill impairment under the new FAS 142 accounting standard. Excluding that charge, earnings were about $1.1 billion, or $2.52 per diluted share, down 16% from $3.01 in 2001 excluding the prior-year repositioning charge. Operating cash flow rose 6.5% to $1.8 billion, and free cash flow reached a record $1.4 billion, helped by a 31% reduction in capital spending and lower inventory levels.

Balance sheet leverage increased. Total debt was about $4.6 billion^c, the debt-to-capital ratio rose to 44.2% from 43.5%, and the goodwill charge added almost 4 percentage points to leverage ratios. Interest coverage remained solid at 7.3 times.

Management continued to invest in growth markets, notably China through the $750 million^d Avansys acquisition, and raised the quarterly dividend to an annualized $1.57 per share. Investors should watch for continued end-market weakness, pension-related equity exposure, and the pace of recovery in telecom and industrial spending.

02—Key points

Key Highlights

Net sales declined 10.7% to $13.8 billion; underlying sales fell 11%, with Electronics and Telecommunications down 38% on an underlying basis.
Reported net earnings of $122 million ($0.29 per diluted share) include a $938 million non-cash goodwill impairment charge from adopting FAS 142; excluding it, diluted EPS was $2.52.
Operating cash flow grew 6.5% to $1.8 billion, and free cash flow hit a record $1.4 billion as capital expenditures fell 31% to $384 million.
Total debt was about $4.6 billion, with the debt-to-capital ratio rising to 44.2% from 43.5%; interest coverage remained healthy at 7.3 times.
Process Control was the most resilient segment, with sales of $3.4 billion and modest underlying growth driven by systems and solutions, while Electronics and Telecommunications earnings fell 71%.
Emerson acquired Avansys (renamed Emerson Network Power China) for about $750 million to expand in China, and raised the annualized quarterly dividend to $1.57 per share.
Management expects 2003 capital spending of about 3% of sales and notes that a further equity-market decline could trigger a material pension charge of roughly $700 million pre-tax.

03—Questions

Frequently Asked Questions

Why did reported net earnings fall so sharply in fiscal 2002?
Reported net earnings were $122 million, down from $1,032 million in 2001, primarily because of a non-cash, after-tax $938 million charge recorded as a cumulative effect of adopting SFAS 142 (goodwill impairment). Most of the charge, $831 million, related to the Electronics and Telecommunications segment, reflecting the collapse in telecom and computing equipment markets. Excluding this charge, earnings were about $1.1 billion, though still down 18% from 2001 excluding the prior-year repositioning charge.
Which business segments performed best and worst in 2002?
Process Control was the most stable, with sales of $3.4 billion and modest underlying growth from systems and solutions, despite a 7% earnings decline largely tied to divestitures. Electronics and Telecommunications was the weakest, with sales down 31% and underlying sales down 38%, and earnings falling 71% to $119 million. Industrial Automation sales fell to $2.5 billion, with earnings down 31%. HVAC and Appliance and Tools were comparatively steady, with sales down only 2% each.
How strong is Emerson's cash generation and balance sheet?
Cash generation remained strong, with operating cash flow of $1.8 billion and record free cash flow of $1.4 billion, supported by inventory reduction and lower capital spending. However, total debt rose to about $4.6 billion, and the debt-to-capital ratio increased to 44.2%. Liquidity appears adequate, with $3.1 billion in lines of credit and up to $1.25 billion available under the shelf registration, though leverage increased partly because of the goodwill charge.
What are the main risks investors should monitor going forward?
Key risks include continued weakness in telecommunications and industrial capital spending, particularly in the U.S. and Europe; pension funding exposure, since the accumulated benefit obligation exceeded plan assets by about $180 million as of October 2002, and a further equity decline could require a roughly $700 million pre-tax charge to equity; and currency and emerging-market risks, given that about 42% of sales are international. Management has also flagged the possibility of further rationalization costs and integration risks from acquisitions like Avansys.
What strategic moves did Emerson make in 2002 that could drive future growth?
Emerson acquired Avansys for about $750 million to gain access to China's telecom power market and a low-cost manufacturing base. It divested the Chromalox and Daniel Valve businesses and exchanged its ENI semiconductor business for 12 million shares of MKS Instruments. The company continues to push its PlantWeb and solutions offerings in Process Control, expanded its commercial refrigeration services business, and targets 2003 capital spending of about 3% of sales.

04—Continue

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