UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended May 31, 2008

or

 

¨ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from              to             

Commission File Number 001-09225

 

 

H.B. FULLER COMPANY

(Exact name of Registrant as specified in its charter)

 

 

 

Minnesota   41-0268370

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

1200 Willow Lake Boulevard, Vadnais Heights, Minnesota   55110-5101
(Address of principal executive offices)   (Zip Code)

(651) 236-5900

(Registrant’s 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 such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes   x     No   ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer   x     Accelerated filer   ¨     Non- accelerated filer   ¨

Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes   ¨     No   x

The number of shares outstanding of the Registrant’s Common Stock, par value $1.00 per share, was 48,430,171 as of June 27, 2008.

 

 

 


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

H.B. FULLER COMPANY AND SUBSIDIARIES

Consolidated Statements of Income

(In thousands, except per share amounts)

(Unaudited)

 

     13 Weeks Ended     26 Weeks Ended  
     May 31,
2008
    June 2,
2007
    May 31,
2008
    June 2,
2007
 

Net revenue

   $ 356,765     $ 353,704     $ 679,413     $ 687,058  

Cost of sales

     (261,542 )     (248,323 )     (492,673 )     (482,012 )
                                

Gross profit

     95,223       105,381       186,740       205,046  

Selling, general and administrative expenses

     (62,795 )     (69,027 )     (127,792 )     (140,666 )

Gains from sales of assets

     26       16       29       103  

Other income, net

     818       1,267       2,084       2,635  

Interest expense

     (3,942 )     (3,181 )     (6,870 )     (6,789 )
                                

Income from continuing operations before income taxes, minority interests, and income from equity investments

     29,330       34,456       54,191       60,329  

Income taxes

     (8,343 )     (10,029 )     (15,553 )     (17,556 )

Minority interests in (income) loss of subsidiaries

     28       22       111       (9 )

Income from equity investments

     351       411       830       767  
                                

Income from continuing operations

     21,366       24,860       39,579       43,531  

Income from discontinued operations

     —         2,407       —         4,556  
                                

Net income

   $ 21,366     $ 27,267     $ 39,579     $ 48,087  
                                

Basic income per common share:

        

Continuing operations

   $ 0.42     $ 0.41     $ 0.73     $ 0.72  

Discontinued operations

     —         0.04       —         0.08  
                                

Net Income

   $ 0.42     $ 0.45     $ 0.73     $ 0.80  

Diluted income per common share:

        

Continuing operations

   $ 0.41     $ 0.40     $ 0.72     $ 0.71  

Discontinued operations

     —         0.04       —         0.07  
                                

Net Income

   $ 0.41     $ 0.44     $ 0.72     $ 0.78  

Weighted-average shares outstanding:

        

Basic

     51,047       60,394       53,865       60,164  

Diluted

     51,819       61,465       54,655       61,339  

Dividends declared per common share

   $ 0.0660     $ 0.0645     $ 0.1305     $ 0.1270  

See accompanying notes to consolidated financial statements.

 

1


H.B. FULLER COMPANY AND SUBSIDIARIES

Consolidated Balance Sheets

(In thousands, except share and per share amounts)

(Unaudited)

 

     May 31,
2008
    December 1,
2007
 

Assets

    

Current assets:

    

Cash and cash equivalents

   $ 212,478     $ 246,358  

Trade receivables

     221,801       218,774  

Allowance for sales and doubtful accounts

     (6,270 )     (6,297 )

Inventories

     147,605       137,564  

Other current assets

     46,715       38,659  

Current assets of discontinued operations

     892       892  
                

Total current assets

     623,221       635,950  
                

Property, plant and equipment, net

     812,023       791,160  

Accumulated depreciation

     (537,770 )     (513,326 )
                

Property, plant and equipment, net

     274,253       277,834  
                

Other assets

     109,338       106,699  

Goodwill

     189,112       184,660  

Other intangibles, net

     154,648       159,459  
                

Total assets

   $ 1,350,572     $ 1,364,602  
                

Liabilities and Stockholders’ Equity

    

Current liabilities:

    

Notes payable

   $ 10,830     $ 10,608  

Current installments of long-term debt

     25,000       25,000  

Trade payables

     133,923       156,247  

Accrued payroll / employee benefits

     30,732       40,144  

Other accrued expenses

     26,491       33,057  

Income taxes payable

     18,698       16,904  

Current liabilities of discontinued operations

     675       15,875  
                

Total current liabilities

     246,349       297,835  
                

Long-term debt, excluding current installments

     312,000       137,000  

Accrued pension liabilities

     59,013       61,986  

Other liabilities

     76,583       65,731  

Minority interests in consolidated subsidiaries

     2,935       3,057  
                

Total liabilities

     696,880       565,609  
                

Commitments and contingencies

    

Stockholders’ equity:

    

Preferred stock (no shares outstanding) Shares authorized – 10,045,900

     —         —    

Common stock, par value $1.00 per share, Shares authorized – 160,000,000, Shares issued and outstanding – 48,433,208 and 57,436,515, for May 31, 2008 and December 1, 2007 respectively

     48,433       57,437  

Additional paid-in capital

     —         17,356  

Retained earnings

     544,697       683,698  

Accumulated other comprehensive income

     60,562       40,502  
                

Total stockholders’ equity

     653,692       798,993  
                

Total liabilities and stockholders’ equity

   $ 1,350,572     $ 1,364,602  
                

See accompanying notes to consolidated financial statements.

 

2


H.B. FULLER COMPANY AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

 

     26 Weeks Ended  
     May 31, 2008     June 2, 2007  

Cash flows from operating activities from continuing operations:

    

Net income

   $ 39,579     $ 48,087  

Adjustments to reconcile net income to net cash provided by operating activities:

    

Income from discontinued operations, net of tax

     —         (4,556 )

Depreciation

     17,283       17,922  

Amortization

     5,913       7,942  

Deferred income taxes

     31       (1,205 )

Gains from sales of assets

     (29 )     (103 )

Share-based compensation

     1,950       1,439  

Excess tax benefit from share-based compensation

     (489 )     (2,071 )

Change in assets and liabilities, net of effects of acquisitions and discontinued operations:

    

Accounts receivables, net

     1,677       22,736  

Inventories

     (6,907 )     (3,265 )

Other assets

     (7,850 )     (231 )

Trade payables

     (25,189 )     (19,367 )

Accrued payroll / employee benefits

     (10,066 )     (13,559 )

Other accrued expenses

     (7,904 )     (16,035 )

Income taxes payable

     10,049       11,262  

Accrued / prepaid pensions

     (4,173 )     859  

Other liabilities

     (563 )     2,862  

Other

     (724 )     5,786  
                

Net cash provided by operating activities from continuing operations

     12,588       58,503  

Cash flows from investing activities from continuing operations:

    

Purchased property, plant and equipment

     (7,914 )     (10,919 )

Proceeds from sale of property, plant and equipment

     95       797  
                

Net cash used in investing activities from continuing operations

     (7,819 )     (10,122 )

Cash flows from financing activities from continuing operations:

    

Proceeds from long-term debt

     200,000       —    

Repayment of long-term debt

     (25,000 )     (87,000 )

Net proceeds from (payments on) notes payable

     238       (140 )

Dividends paid

     (7,040 )     (7,710 )

Proceeds from stock options exercised

     1,219       11,291  

Excess tax benefit from share-based compensation

     489       2,071  

Repurchases of common stock

     (200,750 )     (132 )
                

Net cash used in financing activities from continuing operations

     (30,844 )     (81,620 )

Effect of exchange rate changes

     7,211       2,540  
                

Net change in cash and cash equivalents from continuing operations

     (18,864 )     (30,699 )

Cash used in operating activities of discontinued operations

     (15,016 )     (23,430 )
                

Net change in cash and cash equivalents

     (33,880 )     (54,129 )

Cash and cash equivalents at beginning of period

     246,358       255,129  
                

Cash and cash equivalents at end of period

   $ 212,478     $ 201,000  
                

Supplemental disclosure of cash flow information:

    

Noncash financing activities

    

Dividends paid with company stock

   $ 40     $ 46  

Cash paid for interest

   $ 9,107     $ 10,961  

Cash paid for income taxes

   $ 23,172     $ 5,770  

See accompanying notes to consolidated financial statements.

 

3


H.B. FULLER COMPANY AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts)

Note 1: Accounting Policies

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information necessary for a fair presentation of results of operations, financial position, and cash flows in conformity with U.S. generally accepted accounting principles. In the opinion of management, the interim consolidated financial statements reflect all adjustments of a normal recurring nature considered necessary for a fair presentation of the results for the periods presented. Operating results for interim periods are not necessarily indicative of results that may be expected for the fiscal year as a whole. The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures at the date of the financial statements and during the reporting period. Actual results could differ from these estimates. These unaudited interim consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the company’s Annual Report on Form 10-K for the year ended December 1, 2007 as filed with the Securities and Exchange Commission.

Recently Issued Accounting Pronouncements:

In June 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 clarifies the accounting for income taxes by prescribing the minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. FIN 48 also provides guidance on derecognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition. The company adopted FIN 48 as of December 2, 2007, as further discussed in Note 11.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements,” (SFAS 157). SFAS 157 provides enhanced guidance for using fair value to measure assets and liabilities. The statement provides a common definition of fair value and establishes a framework to make the measurement of fair value in generally accepted accounting principles more consistent and comparable. SFAS 157 also requires expanded disclosures to provide information about the extent to which fair value is used to measure assets and liabilities, the methods and assumptions used to measure fair value, and the effect of fair value measures on earnings. In February 2008, the FASB issued Staff Positions (FSPs) No. 157-1 and No. 157-2, which, respectively, remove leasing transactions from the scope of SFAS 157 and defer its effective date for one year relative to certain nonfinancial assets and liabilities.

As a result, the application of the definition of fair value and related disclosures of SFAS 157 (as impacted by these two FSPs) was effective for the company on December 2, 2007 on a prospective basis with respect to fair value measurements of (a) nonfinancial assets and liabilities that are recognized or disclosed at fair value in the company’s financial statements on a recurring basis (at least annually) and (b) all financial assets and liabilities. The adoption did not have a material impact on the company’s financial condition, results of operations or cash flows. The remaining aspects of SFAS No. 157 for which the effective date was deferred under FSP No. 157-2 are currently being evaluated by the company. Areas impacted by the deferral relate to nonfinancial assets and liabilities that are measured at fair value, but are recognized or disclosed at fair value on a nonrecurring basis. This deferral applies to such items as nonfinancial assets and liabilities initially measured at fair value in a business combination (but not measured at fair value in subsequent periods) or nonfinancial long-lived asset groups measured at fair value for an impairment assessment. The effects of these remaining aspects of SFAS 157 are to be applied by the company to fair value measurements prospectively beginning November 30, 2008. The effects are not expected to have a material impact on the company’s financial condition, results of operations or cash flows. See Note 13 for further disclosures.

In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106 and 132(R)” (SFAS 158). This statement requires an employer to: (1) recognize in its statement of financial position an asset for a plan’s over-funded status or a liability for the plan’s under-funded status, (2) measure the plan’s assets and obligations that determine its funded status as of the end of the employer’s fiscal year (with limited exceptions) and (3) recognize as a component of other comprehensive income, the changes in the funded status of the plan that arise during the year but are not recognized as components of net periodic benefit cost pursuant to other relevant accounting standards. SFAS 158 also requires an employer to disclose in the notes to the financial statements additional information on how delayed recognition of certain changes in the funded status of a defined benefit postretirement plan affects net periodic benefit cost for the next fiscal year. Effective December 1, 2007, the company adopted SFAS 158. Measurement of the plan’s assets and obligations that determine its funded status as of the end of the employer’s fiscal year is required to be adopted for fiscal years ending after December 15, 2008, which would be the fiscal year ending November 28, 2009 for the company. See Note 6 for further discussion.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115” (SFAS 159). SFAS 159 expands the use of fair value accounting but does not affect existing standards that require assets or liabilities to be carried at fair value. Under SFAS 159, a company may elect to use fair value to measure accounts and loans receivable, available-for-sale and held-to-maturity securities, equity method investments, accounts payable, guarantees and issued debt. Other eligible items include firm commitments for financial instruments that otherwise would not be recognized at inception and non-cash warranty obligations where a warrantor is permitted to pay a third party to provide the warranty goods or services. If the use of fair value is elected, any upfront costs and fees related to the item must be recognized in earnings and cannot be deferred, e.g., debt issue costs. The fair value election is irrevocable and generally made on an instrument-by-instrument basis, even if a company has similar instruments that it elects not to measure based on fair value. At the adoption date, unrealized gains and losses on existing items for which fair value has been elected are reported as a cumulative adjustment to beginning retained earnings. Subsequent to the adoption of SFAS 159, changes in fair value are recognized in earnings. SFAS 159 was effective for the company on December 2, 2007. The adoption of SFAS 159 did not have a material impact on the company’s financial condition, results of operations or cash flows.

 

4


In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141R”), which replaces FASB Statement No. 141. SFAS 141R establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any non- controlling interest in the acquiree and the goodwill acquired. The Statement also establishes disclosure requirements that will enable users to evaluate the nature and financial effects of the business combination. SFAS 141R is effective as of the beginning of an entity’s fiscal year that begins after December 15, 2008, which will be the company’s fiscal year 2010. The company’s adoption of SFAS No. 141R, beginning fiscal year 2010, will apply prospectively to business combinations completed on or after that date.

In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements—an amendment of ARB No. 51 (SFAS 160).” SFAS 160 requires that accounting and reporting for minority interests will be recharacterized as noncontrolling interests and classified as a component of equity. SFAS 160 also establishes reporting requirements that provide sufficient disclosures that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 applies to all entities that prepare consolidated financial statements, except not-for-profit organizations, but will affect only those entities that have an outstanding noncontrolling interest in one or more subsidiaries or that deconsolidate a subsidiary. This statement is effective as of the beginning of an entity’s first fiscal year beginning after December 15, 2008, which will be the company’s fiscal year 2010. Based upon the May 31, 2008 balance sheet, the impact of adopting SFAS 160 would be to reclassify $2,935 in minority interests in consolidated subsidiaries from total liabilities to a separate component of stockholders’ equity.

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities—an amendment of FASB Statement No. 133” (SFAS 161). The standard requires additional quantitative disclosures and qualitative disclosures for derivative instruments. The required disclosures include how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows; relative volume of derivative activity; the objectives and strategies for using derivative instruments; the accounting treatment for those derivative instruments formally designated as the hedging instrument in a hedge relationship; and the existence and nature of credit-related contingent features for derivatives. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The company does not expect the adoption of SFAS 161 to have a material impact on its financial condition, results of operations and cash flows.

Note 2: Acquisitions and Divestitures

Acquisitions

Sekisui-Fuller Japan : In the second quarter of 2005, the company completed its definitive agreements to enter into business-related partnerships in Japan and China with Sekisui Chemical Co., Ltd. In Japan, Sekisui and the company merged their Japanese adhesives businesses on April 1, 2005 to create Sekisui-Fuller Company, Ltd. In exchange, the company received a 40 percent ownership in Sekisui-Fuller Company, Ltd. with an option to purchase an additional 10 percent in 2007 for $12,000, which the company exercised during the third quarter of 2007 and paid on September 27, 2007. The additional 10 percent increased the company’s ownership in the joint venture from 40 percent to 50 percent. Due to the structure of the joint venture, the company continues to account for this investment using the equity method.

With respect to China, the company received $8,000 from Sekisui on May 26, 2005 in exchange for a 20 percent investment in the company’s China subsidiaries and an option for Sekisui to increase its investment to 30 percent in 2007 for $4,000. Sekisui’s option to purchase an additional 10 percent in 2007 was initially recorded as a liability at a fair value of $688 and was subsequently marked-to-market at December 2, 2006 to $665. The option expired, unexercised, on October 1, 2007 and the remaining value of the option as of that date of $271 was removed from the liability and recorded into other income, net. The company continues to consolidate China with the portion owned by Sekisui represented as a minority interest liability.

 

5


Carolina Polymers’ polymer and adhesive technology : On September 5, 2006, the company acquired Carolina Polymers’ polymer and adhesive technology for the multi-wall bag industry. The company acquired inventory, accounts receivable, personal property, intellectual property and customer lists. No other assets or liabilities were purchased. The initial cash payment was $4,950 and was funded through existing cash. The company also incurred $49 of direct external costs. Based on preliminary valuation estimates, the company recorded $1,385 of current assets, $1,782 to intangibles, $50 to other non-current assets and $1,782 to goodwill. The acquisition was recorded in the North America operating segment. Carolina Polymers was entitled to an earn-out of up to $1,700 based on the company’s shipment volume from September 5, 2006 to September 5, 2007; however, the final valuation and earn-out calculation, which was completed in the third quarter of 2007, resulted in an earn-out payment of $1,124. This entire amount is considered additional purchase price and classified to goodwill. The company also incurred $31 of additional direct external costs in 2007. The total final purchase price was $6,154. Based on final valuations the company recorded $1,385 of current assets, $2,495 to intangibles, $50 to other non-current assets and $2,224 to goodwill.

Henkel KGaA’s insulating glass sealant business : On March 27, 2006, the company signed an asset purchase agreement with Henkel KGaA, under which the company agreed to acquire Henkel’s insulating glass sealant business. On June 9, 2006, the acquisition was completed. The insulating glass sealant business manufactures sealants for windows used in both residential and commercial construction. This business has a strong presence in Europe and an expanding presence in Asia. The acquired business is included in the company’s Europe operating segment.

The total purchase price for the acquisition was $34,040, which included direct external acquisition costs of $631. The company funded the transaction with existing cash.

The acquired assets consist of inventory, manufacturing equipment and intangibles. The valuation of the net assets received involved allocations of the consideration paid to $3,166 of current assets, $1,490 of equipment, $14,563 of intangible assets, $14,971 of goodwill and $150 of long-term liabilities. All of the goodwill was assigned to the Europe operating segment and is tax deductible over 5 to 15 years. Of the $14,563 of acquired intangibles, $10,131 was assigned to customer relationships with an expected life of approximately 12 years and $4,432 was assigned to intellectual property and trademarks that have expected lives of 8 years.

Roanoke Companies Group, Inc .: On January 30, 2006, the company signed an asset purchase agreement, under which it agreed to acquire substantially all the assets of Roanoke Companies Group, Inc. and assume certain operating liabilities. On March 17, 2006, the acquisition was completed. Roanoke is a U.S. manufacturer of “pre-mix” grouts, mortars and other products designed to enhance the installation of flooring systems. Roanoke is focused particularly on the retail home improvement market segment and is included in the company’s North America operating segment.

The total purchase price for the acquisition was $275,258, which includes direct external acquisition costs of $744. In addition, if certain profitability thresholds were met, members of Roanoke’s senior management would have received additional cash consideration of up to $15,000 (in total), which would have been paid out over a two-year period. The two year period expired in the second quarter of 2008 and no payments were made under this provision.

The company funded the transaction with $80,258 in existing cash and $195,000 in new debt. The company utilized its revolving credit agreement to provide the initial debt financing. The credit agreement was amended to increase the commitment level to $250,000, and revise the imbedded accordion feature. $15,000 of the purchase price was placed into escrow to cover indemnification by the seller and shareholders. The escrow was originally scheduled to expire in March 2008, subject to any indemnification claims made by the company. In the first quarter of 2008, the company asserted indemnification and other claims against the sellers of the Roanoke business in an amount in excess of the $15,000 escrow and, therefore, the escrow continues to remain in place.

The acquired assets consist primarily of assets used by Roanoke in the operation of its business, including, without limitation, certain real property, intellectual property, equipment, accounts, contracts and intangibles. The valuation of the net assets received involved allocations of the consideration paid to $20,581 of current assets, $23,746 of property, plant and equipment, $146,900 of intangible assets, $94,769 of goodwill, $10,582 of current liabilities and

 

6


$156 of long-term liabilities. All of the goodwill was assigned to the North America operating segment and is tax deductible over 15 years. Of the $146,900 of acquired intangibles, $131,000 and $15,900 was assigned to customer relationships and trademarks / trade names that have expected lives of 20 years and 15 years, respectively.

Divestitures

Automotive: On October 8, 2007, the company agreed to sell its automotive business to EMS-TOGO Corp. for cash proceeds of $71,089 which includes the $80,000 sales price net of $8,911 cash on the balance sheet of the divested business. The sale was completed on November 20, 2007. As part of this transaction, the company recorded a gain of $7,604 (a loss of $6,184 net of tax), which included direct external costs to sell of $200.

The company does not have any significant continuing involvement in the operations after the divestiture. The company continues to produce a small percentage of product for the divested automotive business according to a supply agreement. Terms of the supply agreement are at fair market value rates.

In accordance with SFAS No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” the company has reclassified the results from its automotive business as discontinued operations, restating previously reported results to reflect the reclassification on a comparable basis. The operational results of this business are presented in the “Income from discontinued operations” line item on the Consolidated Statements of Income. Prior to the reclassification, these results were reported in the North America operating segment.

Revenue and income from discontinued operations for the 13 and 26 weeks ended June 2, 2007 were as follows:

 

     13 weeks ended
June 2, 2007
    26 weeks ended
June 2, 2007
 

Net revenue

   $ 19,812     $ 38,213  

Income from operations

     851       1,495  

Other income, net

     15       22  

Income tax expense

     (215 )     (380 )

Minority interests in (income) loss of subsidiaries

     (91 )     (100 )

Income from equity investments

     1,847       3,519  
                

Net income from discontinued operations

   $ 2,407     $ 4,556  
                

Income from operations excludes certain information technology and shared services charges that could not be directly attributed to the automotive business. In accordance with EITF 87-24, the company has not allocated general corporate overhead charges to the automotive business and has elected not to allocate general corporate interest expense.

The major classes of assets and liabilities in discontinued operations as of May 31, 2008 and December 1, 2007 were as follows:

 

     May 31,
2008
   December 1,
2007

Other current assets

   $ 27    $ 27
             

Current assets of discontinued operations

     27      27

Income taxes payable

     —        15,200
             

Current liabilities of discontinued operations

     —        15,200

Powder Coatings: On October 19, 2006, the company agreed to sell its powder coatings business to The Valspar Corporation. The sale was completed on December 1, 2006. The sale price was $104,199 and was subject to a net working capital adjustment, which the company preliminarily calculated to be $435. This adjustment reduced the selling price and resulting gain by $435. In the second quarter of 2007, the calculation of the net working capital

 

7


adjustment of $485 was paid. As part of this transaction, the company recorded a gain in the fourth quarter of 2006 of $68,916 ($50,339 net of tax), which included direct external costs to sell of $3,561, a favorable cumulative translation adjustment reversal of $3,002, the write-off of $5,336 of goodwill and the preliminary net working capital adjustment.

In accordance with SFAS No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” the company reclassified the results from its powder coatings business as discontinued operations, restating previously reported results to reflect the reclassification on a comparable basis. The operational results and the gain associated with the sale of this business are presented in the “Income from discontinued operations, net of tax” line item on the Consolidated Statements of Income. Prior to the reclassification, with operations in the United States and the United Kingdom, these results would have been reported in the North America and Europe operating segments.

The major classes of assets and liabilities of discontinued operations as May 31, 2008 and December 1, 2007 were as follows:

 

     May 31,
2008
   December 1,
2007

Other current assets

   $ 865    $ 865
             

Current assets of discontinued operations

     865      865

Other accrued expenses

     134      134

Income taxes payable

     541      541
             

Current liabilities of discontinued operations

     675      675

Note 3: Accounting for Share-Based Compensation

Overview: The company has various share-based compensation programs, which provide for equity awards including stock options, restricted stock and deferred compensation. These equity awards fall under several plans and are described in detail in the company’s Annual Report filed on Form 10-K as of December 1, 2007.

Grant-Date Fair Value: The company uses the Black-Scholes option-pricing model to calculate the grant-date fair value of an award. The fair value of options granted during the 13 and 26 weeks ended May 31, 2008 and June 2, 2007 were calculated using the following assumptions:

 

     13 Weeks Ended 1   26 Weeks Ended
     May 31, 2008   May 31, 2008    June 2, 2007

Expected life (in years)

   5.0   5.0    5.9

Weighted-average expected volatility

  

36.56%

  35.69%    36.26%

Expected volatility

  

36.56%

  35.63% -36.56%    34.42% -37.35%

Risk-free interest rate

  

2.72%

  3.32%    4.64%

Expected dividend yield

  

1.27%

  1.02%    0.94%

Weighted-average fair value of grants

   $6.72   $8.76    $10.43

 

1

There were no options granted for the 13 week period ended June 2, 2007.

Expected life – The company uses historical employee exercise and option expiration data to estimate the expected life assumption for the Black-Scholes grant-date valuation. The company believes that this historical data is currently the best estimate of the expected term of a new option. The company uses a weighted-average expected life for all awards.

 

8


Expected volatility – The company uses the company stock’s historical volatility for the same period of time as the expected life. The company has no reason to believe that its future volatility will differ from the past.

Risk-free interest rate – The rate is based on the U.S. Treasury yield curve in effect at the time of the grant for the same period of time as the expected life.

Expected dividend yield – The calculation is based on the total expected annual dividend payout divided by the average stock price.

Expense Recognition: The company uses the straight-line attribution method to recognize expense for all option awards with graded vesting and restricted stock awards with cliff vesting.

The amount of share-based compensation recognized during a period is based on the value of the portion of the awards that are ultimately expected to vest. The company currently expects, based on an analysis of its historical forfeitures and known forfeitures on existing awards, that approximately 74 percent and 88 percent of its unvested outstanding options and restricted stock awards will vest, respectively.

Total share-based compensation expense of $888 and $859 was included in the company’s Consolidated Statements of Income for the 13 weeks ended May 31, 2008 and June 2, 2007, respectively. Included in these amounts were $487 and $604 of stock option expense, respectively. Total share-based compensation expense of $1,950 and $1,439 was included in the company’s Consolidated Statements of Income for the 26 weeks ended May 31, 2008 and June 2, 2007, respectively. Included in these amounts were $1,078 and $1,299 of stock option expense, respectively. In the first quarter of 2007, total share-based compensation expense included $846 of favorable adjustments from unexpected executive forfeitures. Included in the favorable 2007 forfeiture adjustments was $205 related to stock options. No share-based compensation was capitalized. All share-based compensation was recorded as selling, general and administrative expense. For the 13 weeks ended May 31, 2008 and June 2, 2007, there was $122 and $798, respectively, of excess tax benefit recognized. For the 26 weeks ended May 31, 2008 and June 2, 2007, there was $489 and $2,071, respectively, of excess tax benefit recognized.

Upon adoption of SFAS 123R, the company calculated that its APIC Pool was $993. Exercises of stock options, restricted stock lapsings and deferred compensation payouts since adoption has increased the APIC Pool to $10,096.

As of May 31, 2008, there was $4,791 of unrecognized compensation costs related to unvested stock option awards, which is expected to be recognized over a weighted-average period of 2.7 years. Unrecognized compensation costs related to unvested restricted stock awards was $2,299, which is expected to be recognized over a weighted-average period of 2.1 years.

Share-based Activity

A summary of option activity as of May 31, 2008, and changes during the 26 weeks then ended is presented below:

 

     Options     Weighted-
Average
Exercise Price

Outstanding at December 1, 2007

   1,721,358     $ 16.44

Granted

   396,918       26.30

Exercised

   (81,949 )     14.87

Forfeited or Cancelled

   (102,752 )     21.10
            

Outstanding at May 31, 2008

   1,933,575     $ 18.28

The fair value of options granted during the 13 weeks ended May 31, 2008 was $161. No options were granted during the 13 weeks ended June 2, 2007. Total intrinsic value of options exercised during the 13 weeks ended May 31, 2008

 

9


and June 2, 2007 was $456 and $2,331, respectively. Intrinsic value is the difference between the company’s closing stock price on the respective trading day and the exercise price, multiplied by the number of options exercised. The fair value of options granted during the 26 weeks ended May 31, 2008 and June 2, 2007 was $3,478 and $4,558, respectively. Total intrinsic value of options exercised during the 26 weeks ended May 31, 2008 and June 2, 2007 was $629 and $10,151, respectively. Proceeds received from option exercises were $915 and $2,139 during the 13 weeks ended May 31, 2008 and June 2, 2007, respectively, and $1,219 and $11,291 during the 26 weeks ended May 31, 2008 and June 2, 2007, respectively.

The following table summarizes information concerning outstanding and exercisable options as of May 31, 2008:

 

Range of

Exercise Prices

   Options Outstanding    Options Exercisable
   Options    Life 1    Price 2    Value 3    Options    Life 1    Price 2    Value 3

$5.01-$10.00

   242,428    2.5    $ 9.31    $ 3,772    242,428    2.5    $ 9.31    $ 3,772

$10.01-$15.00

   638,742    4.9      13.70      7,137    565,405    4.7      13.60      6,373

$15.01-$20.00

   356,366    7.5      16.31      3,050    153,645    7.4      16.25      1,324

$20.01-$25.00

   23,971    9.8      20.93      94    —      —        —        —  

$25.01-$30.00

   672,068    9.1      26.83      —      73,125    8.5      26.79      —  
                                               
   1,933,575    6.6    $ 18.28    $ 14,053    1,034,603    4.9    $ 13.92    $ 11,469

 

1

Represents the weighted-average remaining contractual life in years.

2

Represents the weighted-average exercise price.

3

Represents the aggregate intrinsic value based on the company’s closing stock price on the last trading day of the quarter for in-the-money options.

A summary of nonvested restricted stock activity as of May 31, 2008, and changes during the 26 weeks then ended is presented below:

 

     Units     Shares     Total     Weighted-
Average
Grant
Date Fair
Value
   Weighted-
Average
Remaining
Contractual
Life

(in Years)

Nonvested at December 1, 2007

   52,865     261,173     314,038     $ 18.44    1.8

Granted

   26,964     72,562     99,526       26.31    3.0

Vested

   (20,414 )   (83,074 )   (103,488 )     14.27    —  

Forfeited

   (6,653 )   (33,793 )   (40,446 )     20.18    1.3
                             

Nonvested at May 31, 2008

   52,762     216,868     269,630     $ 22.68    2.1

Total fair value of restricted stock vested during the 13 weeks ended May 31, 2008 and June 2, 2007 was $180 and $322, respectively. Total fair value of restricted stock vested during the 26 weeks ended May 31, 2008 and June 2, 2007 was $2,474 and $527, respectively. The total fair value of nonvested restricted stock at May 31, 2008 was $6,706.

The company repurchased 2,603 and 3,405 restricted stock shares during the 13 weeks ended May 31, 2008 and June 2, 2007, respectively, in conjunction with restricted stock share vestings. The company repurchased 30,383 and 4,849 restricted stock shares during the 26 weeks ended May 31, 2008 and June 2, 2007, respectively, in conjunction with restricted stock share vestings. The repurchases relate to statutory minimum tax withholding. The company does not expect any additional restricted stock shares to be repurchased in fiscal 2008.

A summary of deferred compensation unit activity as of May 31, 2008, and changes during the 26 weeks then ended is presented below:

 

     26 Weeks Ended May 31, 2008  
     Non-employee
Directors
    Employees     Total  

Units outstanding December 1, 2007

   212,695     109,376     322,071  

Participant contributions

   9,807     8,702     18,509  

Company match contributions

   1,364     1,096     2,460  

Payouts

   (12,857 )   (10,327 )   (23,184 )
                  

Units outstanding May 31, 2008

   211,009     108,847     319,856  

Deferred compensation units are fully vested at the date of contribution.

 

10


Note 4: Earnings Per Share:

A reconciliation of the common share components for the basic and diluted earnings per share calculations follows:

 

     13 Weeks Ended    26 Weeks Ended
     May 31,
2008
   June 2,
2007
   May 31,
2008
   June 2,
2007

Weighted-average common shares – basic

   51,047,457    60,394,126    53,864,919    60,163,751

Equivalent shares from share-based compensation plans

   771,387    1,070,793    790,502    1,174,917
                   

Weighted-average common and common equivalent shares – diluted

   51,818,844    61,464,919    54,655,421    61,338,668
                   

Basic earnings per share is calculated by dividing net income by the weighted average number of common shares outstanding during the applicable period. Diluted earnings per share is based upon the weighted average number of common and common equivalent shares outstanding during the applicable period. The difference between basic and diluted earnings per share is attributable to share-based compensation awards. The company uses the treasury stock method to calculate the effect of outstanding shares, which computes total employee proceeds as the sum of (a) the amount the employee must pay upon exercise of the award, (b) the amount of unearned share-based compensation costs attributed to future services and (c) the amount of tax benefits, if any, that would be credited to additional paid-in capital assuming exercise of the award. Share-based compensation awards for which total employee proceeds exceed the average market price over the applicable period have an antidilutive effect on earnings per share, and accordingly, are excluded from the calculation of diluted earnings per share.

Options to purchase 686,810 and 344,358 shares of common stock at the weighted-average exercise price of $26.68 and $26.43 for the 13 week periods ended May 31, 2008 and June 2, 2007, respectively, and options to purchase 701,459 and 356,985 shares at the weighted-average exercise price of $26.69 and $26.40 for the 26 week periods ended May 31, 2008 and June 2, 2007, respectively, were excluded from the diluted earnings per share calculations because they were antidilutive.

Note 5: Comprehensive Income

The components of total comprehensive income follow:

 

     13 Weeks Ended    26 Weeks Ended
     May 31,
2008
   June 2,
2007
   May 31,
2008
    June 2,
2007

Net income

   $ 21,366    $ 27,267    $ 39,579     $ 48,087

Other comprehensive income

          

Foreign currency translation, net

     6,679      12,145      20,535       8,533

Gain (loss) on interest rate hedging instruments, net of tax

     228      —        (475 )     —  
                            

Total comprehensive income

   $ 28,273    $ 39,412    $ 59,639     $ 56,620
                            

 

11


Components of accumulated other comprehensive income follows:

 

Accumulated Other Comprehensive Income

   May 31,
2008
    December 1,
2007
 

Foreign currency translation adjustment

   $ 103,093     $ 82,558  

Pension adjustment, net of taxes of $24,404

     (42,056 )     (42,056 )

Loss on interest rate hedging instrument, net of taxes of $304

     (475 )     —    
                

Total accumulated other comprehensive income

   $ 60,562     $ 40,502  
                

Note 6: Components of Net Periodic Cost (Benefit) related to Pension and Other Postretirement Benefit Plans:

 

     13 Weeks Ended May 31, 2008 and June 2, 2007  
     Pension Benefits     Other
Postretirement
Benefits
 
     U.S. Plans     Non-U.S. Plans    

Net periodic cost (benefit):

   2008     2007     2008     2007     2008     2007  

Service cost

   $ 1,432     $ 1,651     $ 294     $ 669     $ 364     $ 397  

Interest cost

     4,148       4,122       1,991       1,717       1,204       1,010  

Expected return on assets

     (6,212 )     (4,819 )     (2,280 )     (1,898 )     (972 )     (921 )

Amortization:

            

Prior service cost

     76       76       —         (1 )     (231 )     (433 )

Actuarial (gain)/ loss

     41       582       54       346       933       787  

Transition amount

     —         —         5       5       —         —    
                                                

Net periodic cost (benefit)

   $ (515 )   $ 1,612     $ 64     $ 838     $ 1,298     $ 840  
                                                

 

     26 Weeks Ended May 31, 2008 and June 2, 2007  
     Pension Benefits     Other
Postretirement
Benefits
 
     U.S. Plans     Non-U.S. Plans    

Net periodic cost (benefit):

   2008     2007     2008     2007     2008     2007  

Service cost

   $ 2,863     $ 3,302     $ 579     $ 1,330     $ 728     $ 793  

Interest cost

     8,297       8,243       3,937       3,411       2,408       2,019  

Expected return on assets

     (12,424 )     (9,637 )     (4,523 )     (3,774 )     (1,943 )     (1,841 )

Amortization:

            

Prior service cost

     151       151       (1 )     (2 )     (461 )     (867 )

Actuarial (gain)/ loss

     82       1,164       109       688       1,865       1,575  

Transition amount

     —         —         11       10       —         —    
                                                

Net periodic cost (benefit)

   $ (1,031 )   $ 3,223     $ 112     $ 1,663     $ 2,597     $ 1,679  
                                                

Effective December 1, 2007, the company adopted SFAS No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106 and 132(R)” (SFAS 158). This standard requires employers to recognize the underfunded or overfunded status of defined benefit pension and postretirement plans as an asset or liability in its statement of financial position, and recognize changes in the funded status in the year in which the changes occur through accumulated other comprehensive income, which is a component of stockholders’ equity. This standard also eliminates the requirement for Additional Minimum Pension Liability (AML) required under SFAS 87. As a result of the application of SFAS 158 as of December 1, 2007, the company reversed assets of $2,651 and increased liabilities by $35,512. These liabilities were offset to accumulated other comprehensive income and deferred taxes. As a result of the implementation of SFAS 158, the company recognized an after-tax decrease in accumulated other comprehensive income of $5,333 and $8,385 for the U.S. and non-U.S. pension benefit plans, respectively, and $24,445 for the postretirement health care and life insurance benefit plan.

 

12


Note 7: Inventories

The composition of inventories follows:

 

     May 31,
2008
    December 1,
2007
 

Raw materials

   $ 72,482     $ 64,897  

Finished goods

     94,575       90,772  

LIFO reserve

     (19,452 )     (18,105 )
                
   $ 147,605     $ 137,564  
                

Note 8: Derivatives

Foreign currency derivative instruments outstanding were not designated as hedges for accounting purposes, the gains and losses related to mark-to-market adjustments were recognized as other income or expense in the income statement during the periods in which the derivative instruments were outstanding. Management does not enter into any speculative positions with regard to derivative instruments.

As of May 31, 2008, the company had forward foreign currency contracts maturing between June 13, 2008 and September 11, 2008. The mark-to-market effect associated with these contracts was net unrealized gain of $121 at May 31, 2008.

On December 14, 2007 the company entered into an interest rate swap agreement to limit exposure to the fluctuations in its LIBOR-based variable interest payments on its $75,000 term loan. The swap covers the notional amount of $75,000 at a fixed rate of 4.359 percent and expires on December 19, 2008. The swap has been designated for hedge accounting treatment. Accordingly, the company recognizes the fair value of the swap in the consolidated balance sheet and any changes in the fair value are recorded as adjustments to accumulated other comprehensive income, net of tax. The fair value of the swap is the estimated amount that the company would pay or receive to terminate the agreement at the reporting date. The fair value of the swap was a liability of $779 at May 31, 2008 and is included in other accrued expenses in the consolidated balance sheet.

Note 9: Commitments and Contingencies

Environmental: From time to time, the company is identified as a “potentially responsible party” (“PRP”) under the Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”) and/or similar state laws that impose liability for costs relating to the clean up of contamination resulting from past spills, disposal or other release of hazardous substances. The company is also subject to similar laws in some of the countries where current and former facilities are located. The company’s environmental, health and safety department monitors compliance with all applicable laws on a global basis.

Currently the company is involved in various environmental investigations, clean up activities and administrative proceedings and lawsuits. In particular, the company is currently deemed a PRP in conjunction with numerous other parties, in a number of government enforcement actions associated with hazardous waste sites. As a PRP, the company may be required to pay a share of the costs of investigation and clean up of these sites. In addition, the company is engaged in environmental remediation and monitoring efforts at a number of current and former company operating facilities, including remediation of environmental contamination at its Sorocaba, Brazil facility. Soil and water samples were collected on and around the Sorocaba facility, and test results indicated that certain contaminants, including carbon tetrachloride and other solvents, exist in the soil at the Sorocaba facility and in the groundwater at both the Sorocaba facility and some neighboring properties. The company is continuing to work with Brazilian regulatory authorities to implement a remediation system at the site. As of May 31, 2008, $1,257 was recorded as a liability for expected investigation and remediation expenses remaining for this site. Depending on the results of the initial remediation actions, the company may be required to record additional liabilities related to remediation costs at the Sorocaba facility.

As of May 31, 2008, the company had recorded $2,637 as its best probable estimate of aggregate liabilities for costs of environmental investigation and remediation, inclusive of the accrual related to the Sorocaba facility described above. These estimates are based primarily upon internal or third-party environmental studies, assessments as to the company’s responsibility, the extent of the contamination and the nature of required remedial actions. The company’s current assessment of the probable liabilities and associated expenses related to environmental matters is based on the facts and circumstances known at this time. Recorded liabilities are adjusted as further information is obtained or circumstances change.

 

13


Because of the uncertainties described above, the company cannot accurately estimate the cost of resolving pending and future environmental matters impacting the company. While uncertainties exist with respect to the amounts and timing of the company’s ultimate environmental liabilities, based on currently available information, management does not believe that these matters, individually or in aggregate, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements could negatively impact the company’s results of operations or cash flows in one or more future quarters.

Product Liability: As a participant in the chemical and construction products industries, the company faces an inherent risk of exposure to claims in the event that the alleged failure, use or misuse of its products results in or is alleged to result in property damage and/or bodily injury. From time to time and in the ordinary course of business, the company is a party to, or a target of, lawsuits, claims, investigations and proceedings, including product liability, personal injury, contract, patent and intellectual property, health and safety and employment matters.

A subsidiary of the company is a defendant in a number of exterior insulated finish systems (“EIFS”) related lawsuits. As of May 31, 2008, the company’s subsidiary was a defendant in approximately 8 lawsuits and claims related primarily to single-family homes. The EIFS product was used primarily in the residential construction market in the southeastern United States. Some of the lawsuits and claims involve EIFS in commercial or multi-family structures. Lawsuits and claims related to this product seek monetary relief for water intrusion-related property damages. The company has insurance coverage for certain years with respect to this product line.

As of May 31, 2008, the company had recorded $380 for the probable liabilities and $216 for insurance recoveries for all remaining EIFS-related liabilities. The liabilities are recorded at management’s best estimate of the outcome of the lawsuits and claims taking into consideration the facts and circumstances of the individual matters as well as past experience on similar matters. The company continually reevaluates these amounts.

The rollforward of EIFS-related lawsuits and claims is as follows:

 

     26 Weeks Ended
May 31, 2008
    Year Ended
December 1, 2007
 

Lawsuits and claims at beginning of period

   15     29  

New lawsuits and claims asserted

   1     5  

Lawsuits and claims settled

   (6 )   (11 )

Lawsuits and claims dismissed

   (2 )   (8 )
            

Lawsuits and claims at end of period

   8     15  

A summary of the aggregate costs and settlement amounts for EIFS-related lawsuits and claims is as follows:

 

     26 Weeks Ended
May 31, 2008
   Year Ended
December 1, 2007

Settlements reached

   $ 270    $ 283

Defense costs incurred

   $ 361    $ 843

Insurance payments received or expected to be received

   $ 381    $ 580

Plaintiffs in EIFS cases generally seek to have their homes repaired or the EIFS replaced, but a dollar amount for the cost of repair or replacement is not ordinarily specified in the complaint. Although complaints in EIFS cases usually do not contain a specific amount of damages claimed, a complaint may assert that damages exceed a specified amount in order to meet jurisdictional requirements of the court in which the case is filed. Therefore, the company does not believe it is meaningful to disclose the dollar amount of damages asserted in EIFS complaints.

Based on currently available information, management does not believe that the ultimate outcome of any pending legal proceedings and claims related to this product line, individually or in aggregate, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements could negatively impact the company’s results of operations or cash flows in one or more future quarters. Given the numerous uncertainties surrounding litigation and the projection of future events, such as the number of new claims to be filed each year and the average cost of disposing of each such claim, the actual costs could be higher or lower than the current estimated reserves or insurance recoveries.

 

14


The company and/or its subsidiaries have been named as defendants in lawsuits in various courts in which plaintiffs have alleged injury due to products containing asbestos manufactured more than 25 years ago. The plaintiffs generally bring these lawsuits against multiple defendants and seek damages (both actual and punitive) in very large amounts. In many of these cases, the plaintiffs are unable to demonstrate that they have suffered any compensable injuries or that the injuries suffered were the result of exposure to products manufactured by the company or its subsidiaries. The company is typically dismissed as a defendant in such cases without payment. If the plaintiff establishes that compensable injury occurred as a result of exposure to the company’s products, the case is generally settled for an amount that reflects the seriousness of the injury, the number and solvency of other defendants in the case, and the jurisdiction in which the case has been brought.

As a result of bankruptcy filings by numerous defendants in asbestos-related litigation and the prospect of national and state legislative reform relating to such litigation, the rate at which plaintiffs filed asbestos-related lawsuits against various companies (including the company) increased in 2001, 2002 and the first half of 2003. Since the second half of 2003, the rate of these filings has declined. However, the company expects that asbestos-related lawsuits will continue to be filed against the company in the future.

A significant portion of the defense costs and settlements relating to asbestos-related litigation involving the company continues to be paid by third parties, including indemnification pursuant to the provisions of a 1976 agreement under which the company acquired a business from a third party. Historically, this third party routinely defended all cases tendered to it and paid settlement amounts resulting from those cases. In the 1990s, the third party sporadically reserved its rights, but continued to defend and settle all asbestos-related claims tendered to it by the company. In 2002, the third party rejected the tender of certain cases by the company and indicated it would seek contributions from the company for past defense costs, settlements and judgments. However, this third party has continued to defend and pay settlement amounts, under a reservation of rights, in most of the asbestos cases tendered to the third party by the company. As discussed below, during the fourth quarter of 2007, the company and a group of other defendants, including the third party obligated to indemnify the company against certain asbestos-related claims, entered into negotiations with certain law firms to settle a number of asbestos-related lawsuits and claims.

In addition to the indemnification arrangements with third parties, the company has insurance policies that generally provide coverage for asbestos liabilities (including defense costs). Historically, insurers have paid a significant portion of the defense costs and settlements in asbestos-related litigation involving the company. However, certain of the company’s insurers are insolvent. During 2005, the company and a number of its insurers entered into a cost-sharing agreement that provides for the allocation of defense costs, settlements and judgments among these insurers and the company in certain asbestos-related lawsuits. Under this agreement, the company is required to fund a share of settlements and judgments allocable to years in which the responsible insurer is insolvent. The cost-sharing agreement applies only to asbestos litigation involving the company that is not covered by the third-party indemnification arrangements.

During the first six months of 2008, the company settled two asbestos-related lawsuits for $93. The company’s insurers have paid or are expected to pay $61 of that amount. In addition, as referenced above, during the fourth quarter of 2007, the company and a group of other defendants entered into negotiations with certain law firms to settle a number of asbestos-related lawsuits and claims. Subject to finalization of the terms and conditions of the settlement, the company expects to contribute up to $4,600 towards the settlement amount to be paid to the claimants in exchange for a full release of claims. Of this amount, the company’s insurers have committed to pay $1,900 based on a probable liability of $4,600. Given that the payouts will occur on certain dates over a four-year period, the company applied a present value approach and has accrued $4,384 and recorded a receivable of $1,811.

The company does not believe that it would be meaningful to disclose the aggregate number of asbestos-related lawsuits filed against the company because relatively few of these lawsuits are known to involve exposure to asbestos-containing products made by the company. Rather, the company believes it is more meaningful to disclose the number of lawsuits that are settled and result in a payment to the plaintiff.

 

15


To the extent the company can reasonably estimate the amount of its probable liability for pending asbestos-related claims, the company establishes a financial provision and a corresponding receivable for insurance recoveries if certain criteria are met. As of May 31, 2008, the company had recorded $4,759 for probable liabilities and $2,093 for insurance recoveries related to asbestos claims. However, the company has concluded that it is not possible to reasonably estimate the cost of disposing of other asbestos-related claims (including claims that might be filed in the future) due to its inability to project future events. Future variables include the number of claims filed or dismissed, proof of exposure to company products, seriousness of the alleged injury, the number and solvency of other defendants in each case, the jurisdiction in which the case is brought, the cost of disposing of such claims, the uncertainty of asbestos litigation, insurance coverage and indemnification agreement issues, and the continuing solvency of certain insurance companies.

Because of the uncertainties described above, the company cannot reasonably estimate the cost of resolving pending and future asbestos-related claims against the company. Based on currently available information, the company does not believe that asbestos-related litigation, individually or in aggregate, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements in such litigation could negatively impact the company’s results of operations or cash flows in one or more future quarters.

In addition to product liability claims discussed above, the company is involved in other claims and legal proceedings related to its products, which it believes are not out of the ordinary in a business of the type and size in which it is engaged.

Note 10: Operating Segments

Management evaluates the performance of each of the company’s operating segments based on operating income, which is defined as gross profit less selling, general and administrative (SG&A) expenses and excludes gains from sales of assets. Corporate expenses are fully allocated to each operating segment. All information has been adjusted to exclude discontinued operations. The tables below set forth certain information regarding the net revenue and operating income of each of the company’s operating segments.

 

     13 Weeks Ended
     May 31, 2008    June 2, 2007
     Trade
Revenue
   Inter-
Segment
Revenue
   Operating
Income
   Trade
Revenue
   Inter-
Segment
Revenue
   Operating
Income

North America

   $ 160,100    $ 8,675    $ 18,773    $ 172,481    $ 9,522    $ 23,805

Europe

     109,332      3,079      9,629      104,001      2,161      10,092

Latin America

     53,475      699      1,479      50,021      374      1,209

Asia Pacific

     33,858      195      2,547      27,201      436      1,248
                                 

Total

   $ 356,765       $ 32,428    $ 353,704       $ 36,354
                                 

 

     26 Weeks Ended
     May 31, 2008    June 2, 2007
     Trade
Revenue
   Inter-
Segment
Revenue
   Operating
Income
   Trade
Revenue
   Inter-
Segment
Revenue
   Operating
Income

North America

   $ 298,739    $ 16,033    $ 34,540    $ 329,707    $ 16,091    $ 39,164

Europe

     208,930      5,573      17,714      199,419      4,120      18,090

Latin America

     109,222      1,265      2,704      104,939      626      4,480

Asia Pacific

     62,522      230      3,990      52,993      655      2,646
                                 

Total

   $ 679,413       $ 58,948    $ 687,058       $ 64,380
                                 

 

16


Reconciliation of Operating Income from Continuing Operations to Income from Continuing Operations before Income Taxes, Minority Interests and Income from Equity Investments:

 

     13 Weeks Ended     26 Weeks Ended  
     May 31, 2008     June 2, 2007     May 31, 2008     June 2, 2007  

Operating income from continuing operations

   $ 32,428     $ 36,354     $ 58,948     $ 64,380  

Gains from sales of assets

     26       16       29       103  

Other income, net

     818       1,267       2,084       2,635  

Interest expense

     (3,942 )     (3,181 )     (6,870 )     (6,789 )
                                

Income from continuing operations before income taxes, minority interests, and income from equity investments

   $ 29,330     $ 34,456     $ 54,191     $ 60,329  
                                

Note 11: Income Taxes

The company adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”), on December 2, 2007. There was no cumulative effect to the December 2, 2007 balance of retained earnings as a result of adopting FIN 48. As of the date of adoption, the company’s gross unrecognized tax benefits totaled $11.4 million. If recognized, $8.2 million would favorably impact the company’s effective tax rate. Consistent with the provisions of FIN 48, the company reclassified the reserves for uncertain tax positions from current liabilities to non-current liabilities unless the liability is expected to be paid within one year.

The company and its subsidiaries are subject to U.S. federal income tax as well as income tax of numerous state and foreign jurisdictions. The company is no longer subject to U.S. federal tax examinations for years before 2004 and subsequent years are not currently under examination. The company has ongoing state and foreign income tax examinations in certain jurisdictions for years prior to and after 2004. However, the company does not anticipate any adjustments that would result in a material change to its financial position.

The company recognizes potential accrued interest and penalties related to unrecognized tax benefits in income tax expense. Included in the gross unrecognized tax benefits of $11.4 million as of December 2, 2007 was approximately $2.5 million for accrued interest and penalties of which $1.9 million would favorably impact the company’s effective tax rate if recognized. To the extent interest and penalties are not assessed with respect to uncertain tax positions, amounts accrued will be reduced and reflected as a reduction of future income tax expense.

The company does not anticipate that total unrecognized tax benefits will change significantly within the next 12 months.

Note 12: Share Repurchase Program

On January 24, 2008, the Board of Directors authorized a new share repurchase program of up to $200 million of the company’s outstanding common shares after having completed a $100 million stock buyback program authorized July 11, 2007. Under the new program, the company, at management’s discretion, was authorized to repurchase shares for cash on the open market, from time to time, in privately negotiated transactions or block transactions, or through an accelerated repurchase agreement. The primary source of funding for the new program was debt financing. The timing of such repurchases was dependent on price, market conditions and applicable regulatory requirements. Upon repurchase of the shares, the company reduced its common stock for the par value of the shares with the excess being applied against additional paid in capital. When additional paid in capital was exhausted, the excess reduced retained earnings.

Share repurchases were $61.1 million and $138.9 million for the quarters ended March 1, 2008 and May 31, 2008, respectively, thus completing the $200 million share repurchase program. Of this amount, $9.1 million reduced common stock, $20.8 million reduced additional paid in capital to zero and the remaining $170.1 million reduced retained earnings.

Note 13: Fair Value Measurements

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurement” (SFAS 157). This statement provides a single definition for fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. Under SFAS No. 157, fair value is defined as the exit price, or the amount that

 

17


would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants as of the measurement date. SFAS No. 157 also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs market participants would use in valuing the asset or liability developed based on market data obtained from sources independent of the company. Unobservable inputs are inputs that reflect the company’s assumptions about the factors market participants would use in valuing the asset or liability developed based upon the best information available in the circumstances.

The provisions of SFAS 157 (as impacted by FSP Nos. 157-1 and 157-2) were effective for the company on December 2, 2007 with respect to fair value measurements of (a) nonfinancial assets and liabilities that are recognized or disclosed at fair value in the company’s financial statements on a recurring basis (at least annually) and (b) all financial assets and liabilities. The financial assets and liabilities that are re-measured and reported at fair value for each reporting period include marketable securities, investments in trading securities and derivatives. Derivatives include foreign currency forward contracts and the company’s interest rate swap. There were no fair value measurements with respect to nonfinancial assets or liabilities that are recognized or disclosed at fair value in the company’s financial statements on a recurring basis subsequent to the effective date of SFAS 157. The adoption of SFAS 157 did not have a material impact on the company’s financial condition, results of operations or cash flows.

The following table presents information about the company’s financial assets and liabilities that are measured at fair value on a recurring basis as of May 31, 2008, and indicates the fair value hierarchy of the valuation techniques utilized to determine such fair value. The hierarchy is broken down into three levels. Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities. Level 2 inputs include data points that are observable such as quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs (other than quoted prices) such as interest rates and yield curves that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable data points for the asset or liability, and include situations where there is little, if any, market activity for the asset or liability.

 

          Fair Value Measurements Using:

Description

   May 31,
2008
   Level 1    Level 2    Level 3

Assets:

           

Marketable securities

   $ 125,622    $ 125,622      

Investments in trading securities

     22,076      22,076      

Derivative assets

     477         477   

Liabilities:

           

Derivative liabilities

   $ 1,118       $ 1,118   

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

The Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) should be read in conjunction with the MD&A included in the company’s Annual Report on Form 10-K for the year ended December 1, 2007 for important background information related to the company’s business.

Net income from continuing operations in the second quarter of 2008 of $21.4 million represented a 14.1 percent decrease from the second quarter of 2007. Net income from continuing operations in the first six months of 2008 of $39.6 million represented a 9.1 percent decrease from the first six months of 2007. Lower sales volume and higher raw material costs were the primary contributors to the reduced net income as the gross profit margin declined 3.1 percentage points in the second quarter and 2.3 percentage points for the first six months of 2008 as compared to the same periods from the prior year. High oil prices have had a major impact on the company’s cost of raw materials.

 

18


Reductions in selling, general and administrative (SG&A) expenses helped mitigate the negative effects on the gross profit margin. The reductions in SG&A were driven by reduced payroll-related expenses, lower pension costs and overall strict cost controls. Net earnings per share from continuing operations on a diluted basis, was $0.41 in the second quarter and $0.72 for the first six months of 2008 as compared to $0.40 in the second quarter and $0.71 for the first six months of 2007. The increase in year-over-year EPS was driven by a significant reduction in the weighted-average diluted shares. The share reduction resulted from the completion of the share repurchase programs that began in the third quarter of 2007. The second quarter of 2008 included two one-time charges totaling $2.7 million (pretax) related to channel resetting costs associated with the acquisition of new retail business and severance and other related costs connected with the realignment of an adhesives manufacturing facility. Both charges were recorded in the North America operating segment.

Results of Operations

Net Revenue:

 

       13 Weeks Ended     26 Weeks Ended  
(In millions)      May 31,
2008
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

Net revenue

     $ 356.8        $ 353.7        0.9 %   $ 679.4        $ 687.1        (1.1 )%

Management reviews variances in net revenue in terms of changes related to product pricing, sales volume, acquisitions/divestitures and changes in foreign currency exchange rates. The following table shows the net revenue variance analysis for the second quarter of 2008 compared to the second quarter of 2007 and the first six months of 2008 compared to the first six months of 2007:

 

( ) = Decrease    13 Weeks Ended
May 31, 2008
    26 Weeks Ended
May 31, 2008
 

Product Pricing

   0.9 %   0.7 %

Sales Volume

   (5.4 )%   (6.8 )%

Currency

   5.4 %   5.0 %
            

Total

   0.9 %   (1.1 )%
            

The slowdown in the North American economy, particularly in the U.S. housing and construction markets, continued to have a negative impact on sales volume in the second quarter. Sales volume also declined in the Europe operating segment in the second quarter while volume growth was realized in both the Latin America and Asia Pacific operating segments. The positive currency effects continued to be driven mainly by the relative weakness of the U.S. dollar versus the euro for both the second quarter and first six months of 2008. There was no impact on the net revenue variances from acquisitions. The divestiture of the automotive business in the fourth quarter of 2007 is included in Discontinued Operations.

Cost of Sales:

 

       13 Weeks Ended     26 Weeks Ended  
(In millions)      May 31,
2008
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

Cost of sales

     $ 261.5        $ 248.3        5.3 %   $ 492.7        $ 482.0        2.2 %

Percent of net revenue

       73.3 %     70.2 %       72.5 %     70.2 %  

The cost of sales increased 5.3 percent from the second quarter of 2007 and increased 2.2 percent for the first six months of 2008 compared to the first six months of 2007. The dollar increases in the cost of sales were primarily due to higher raw material costs and the impact from foreign currency translation. The escalation in global oil prices has been the main cause for the increase in the company’s raw material costs as compared to 2007. These increases were partially offset by the effects of lower sales volume. The increase in the cost of sales as a percent of net revenue for both the second quarter and six months year-to-date was driven mainly by raw material cost increases as compared to the rate at which selling prices were increased.

 

19


Gross Profit Margin:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

Gross profit

   $ 95.2     $ 105.4     (9.6 )%   $ 186.7     $ 205.0     (8.9 )%

Percent of net revenue

     26.7 %     29.8 %       27.5 %     29.8 %  

The decline in the gross profit margin for both the second quarter and first six months of 2008 resulted primarily from increases in raw material costs exceeding the effects of selling price increases. Price increases have been implemented and additional increases may be needed to mitigate the negative impact from raw material cost increases in the third and fourth quarters of 2008. The one-time charges referred to in the ‘Overview’ of this MD&A had a negative 0.6 percentage point impact on the second quarter gross profit margin.

Selling, General and Administrative (SG&A) Expenses:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

SG&A

   $ 62.8     $ 69.0     (9.0 )%   $ 127.8     $ 140.7     (9.2 )%

Percent of net revenue

     17.6 %     19.5 %       18.8 %     20.5 %  

SG&A expenses decreased $6.2 million from the second quarter of 2007 and $12.9 million year-to-date from 2007 in spite of currency effects that added an estimated $2.0 million and $4.0 million to the 2008 expenses for the second quarter and first six months, respectively. SG&A expense decreases resulted primarily from reductions in employee headcount, lower pension expenses and stringent cost controls throughout the company.

Gains from Sales of Assets:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Gains from sales of assets

   $ 0.03    $ 0.02    62.5 %   $ 0.03    $ 0.10    (71.8 )%

There were no significant asset sales in the first or second quarters of either 2008 or 2007.

Other Income, net:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Other income, net

   $ 0.8    $ 1.3    (35.4 )%   $ 2.1    $ 2.6    (20.9 )%

Interest income, the largest component of other income, net, was $1.5 million in the second quarter of both 2008 and 2007. For the first six months, interest income was $3.4 million in 2008 and $3.1 million in 2007. Currency transaction and re-measurement losses accounted for increases in expense of $0.3 million and $0.4 million for the second quarter and first six months of 2008, respectively, as compared to the same periods of 2007.

Interest Expense:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Interest expense

   $ 3.9    $ 3.2    23.9 %   $ 6.9    $ 6.8    1.2 %

The year-over-year increase in the second quarter interest expense was mainly due to the additional borrowings related to the company’s share repurchase program. Total debt increased to $347.8 million as of May 31, 2008 from $214.8 million as of March 1, 2008.

 

20


Income Taxes:

 

                       13 Weeks Ended                                          26 Weeks Ended                     
(In millions)                                                                                              May 31,
2007
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

Income taxes

   $ 8.3     $ 10.0     (16.8 )%   $ 15.6     $ 17.6     (11.4 )%

Effective tax rate

     28.4 %     29.1 %       28.7 %     29.1 %  

The lower effective tax rate in 2008 versus 2007 was primarily due to the geographic mix of pretax earnings generation.

Minority Interests in (Income) Loss of Subsidiaries:

 

                       13 Weeks Ended                                          26 Weeks Ended                   
(In millions)                                                                                              May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
    2008 vs
2007

Minority interests in (income) loss of subsidiaries

   $ 0.03    $ 0.02    27.3 %   $ 0.11    $ (0.01 )   NMP

NMP = Non-meaningful percentage

The minority interests (income) loss in the company’s China entities, of which the company owns 80 percent, was not significant in the first or second quarters of either 2008 or 2007.

Income from Equity Investments:

 

                       13 Weeks Ended                                          26 Weeks Ended                     
(In millions)                                                                                              May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Income from equity investments

   $ 0.35    $ 0.41    (14.6 )%   $ 0.83    $ 0.77    8.2 %

The income from equity investments relates to the company’s 50 percent ownership of the Sekisui-Fuller joint venture in Japan. The reduced second quarter result reflects the lower net income recorded by the joint venture in the quarter. The increase in the first six months of 2008 versus 2007 was due primarily to the increase in the company’s ownership from 40 percent to 50 percent as of July 12, 2007.

Income from Continuing Operations :

 

                       13 Weeks Ended                                          26 Weeks Ended                     
(In millions)                                                                                              May 31,
2008
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

Income from continuing operations

   $ 21.4     $ 24.9     (14.1 )%   $ 39.6     $ 43.5     (9.1 )%

Percent of Net Revenue

     6.0 %     7.0 %       5.8 %     6.3 %  

The reduced income from continuing operations in the second quarter and first six months of 2008 resulted primarily from the lower sales volume and higher raw material costs as compared to the first and second quarters of 2007. SG&A expense reductions were not enough to offset the gross profit reductions. The diluted earnings per share from continuing operations of $0.41 for the second quarter and $0.72 for the first six months of 2008 compared to $0.40 for the second quarter and $0.71 for the first six months of 2007. The increase in the EPS figures was due to reductions in the weighted average number of diluted shares outstanding of 15.7 percent and 10.9 percent, respectively, for the second quarter and first six months of 2008 as compared to 2007.

 

21


Income from Discontinued Operations:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Income from discontinued operations

   $ —      $ 2.4    (100.0 )%   $ —      $ 4.6    (100.0 )%

The income from discontinued operations of $2.4 million for the second quarter and $4.6 million for the first six months of 2007 represents net income generated by the automotive business, net of tax, that was divested in the fourth quarter of 2007.

Net Income:

 

                     13 Weeks Ended                                     26 Weeks Ended                  
(In millions)                                                                                                  May 31,
2008
    June 2,
2007
    2008 vs
2007
    May 31,
2008
    June 2,
2007
    2008 vs
2007
 

Net Income

   $ 21.4     $ 27.3     (21.6 )%   $ 39.6     $ 48.1     (17.7 )%

Percent of Net Revenue

     6.0 %     7.7 %       5.8 %     7.0 %  

The diluted earnings per share were $0.41 for the second quarter and $0.72 for the first six months of 2008 and $0.44 for the second quarter and $0.78 for the first six months of 2007.

Operating Segment Results

The company’s operations are managed through the four primary geographic regions: North America, Europe, Latin America and Asia Pacific. Region Vice Presidents report directly to the Chief Executive Officer (CEO) and are accountable for the financial results of their entire region. The tables below set forth certain information regarding the net revenue and operating income of each of the company’s operating segments. All information has been adjusted to exclude discontinued operations.

Net Revenue by segment:

 

                             13 Weeks Ended                                                      26 Weeks Ended                           
     May 31, 2008     June 2, 2007     May 31, 2008     June 2, 2007  
(In millions)                                            Net
Revenue
   % of
Total
    Net
Revenue
   % of
Total
    Net
Revenue
   % of
Total
    Net
Revenue
   % of
Total
 

North America

   $ 160.1    45 %   $ 172.5    49 %   $ 298.8    44 %   $ 329.7    48 %

Europe

     109.3    31 %     104.0    29 %     208.9    31 %     199.4    29 %

Latin America

     53.5    15 %     50.0    14 %     109.2    16 %     105.0    15 %

Asia Pacific

     33.9    9 %     27.2    8 %     62.5    9 %     53.0    8 %
                                                    

Total

   $ 356.8    100 %   $ 353.7    100 %   $ 679.4    100 %   $ 687.1    100 %

Operating Income by segment:

 

                             13 Weeks Ended                                                      26 Weeks Ended                           
     May 31, 2008     June 2, 2007     May 31, 2008     June 2, 2007  
(In millions)                                            Operating
Income
   % of
Total
    Operating
Income
   % of
Total
    Operating
Income
   % of
Total
    Operating
Income
   % of
Total
 

North America

   $ 18.8    58 %   $ 23.8    66 %   $ 34.5    58 %   $ 39.2    61 %

Europe

     9.6    29 %     10.1    28 %     17.7    30 %     18.1    28 %

Latin America

     1.5    5 %     1.2    3 %     2.7    5 %     4.5    7 %

Asia Pacific

     2.5    8 %     1.3    3 %     4.0    7 %     2.6    4 %
                                                    

Total

   $ 32.4    100 %   $ 36.4    100 %   $ 58.9    100 %   $ 64.4    100 %

The following table provides a reconciliation of operating income from continuing operations to income from continuing operations before income taxes, minority interests and income from equity investments, as reported on the Consolidated Statements of Income.

 

22


     13 Weeks Ended     26 Weeks Ended  
(In millions)    May 31,
2008
    June 2,
2007
    May 31,
2008
    June 2,
2007
 

Operating income from continuing operations

   $ 32.4     $ 36.4     $ 58.9     $ 64.4  

Gains from sales of assets

     —         —         —         0.1  

Other income, net

     0.8       1.3       2.1       2.6  

Interest expense

     (3.9 )     (3.2 )     (6.8 )     (6.8 )
                                

Income from continuing operations before income taxes, minority interests, and income from equity investments

   $ 29.3     $ 34.5     $ 54.2     $ 60.3  
                                

North America:

The following table shows the net revenue generated from the key components of the North America segment.

 

                         13 Weeks Ended                                              26 Weeks Ended                       
(In millions)                                                                                 May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Adhesives

   $ 92.4    $ 95.6    (3.4 )%   $ 177.2    $ 184.5    (3.9 )%

Packaging Solutions

     15.2      14.2    6.7 %     28.0      25.4    10.4 %

Specialty Construction

     38.8      46.6    (16.6 )%     70.0      91.4    (23.4 )%

Insulating Glass

     13.7      16.1    (14.5 )%     23.5      28.4    (17.5 )%
                                        

Total North America

   $ 160.1    $ 172.5    (7.2 )%   $ 298.7    $ 329.7    (9.4 )%

The following tables provide details of North America net revenue variances by segment component. The Pricing/Sales Volume variance is viewed as organic growth.

 

                         13 weeks ended May 31, 2008 vs 13 weeks ended June 2,  2007                      
( ) = Decrease                                                                             Adhesives     Packaging
Solutions
    Specialty
Construction
    Insulating
Glass
    Total  

Pricing/Sales Volume

   (4.6 )%   5.2 %   (16.6 )%   (14.5 )%   (8.0 )%

Currency

   1.2 %   1.5 %   —       —       0.8 %
                              

Total

   (3.4 )%   6.7 %   (16.6 )%   (14.5 )%   (7.2 )%
                              

 

                         26 weeks ended May 31, 2008 vs 26 weeks ended June 2,  2007                      
( ) = Decrease                                                                             Adhesives     Packaging
Solutions
    Specialty
Construction
    Insulating
Glass
    Total  

Pricing/Sales Volume

   (5.1 )%   8.7 %   (23.4 )%   (17.5 )%   (10.2 )%

Currency

   1.2 %   1.7 %   —       —       0.8 %
                              

Total

   (3.9 )%   10.4 %   (23.4 )%   (17.5 )%   (9.4 )%
                              

The following table reflects the operating income by component of the North America operating segment:

 

                         13 Weeks Ended                                              26 Weeks Ended                       
(In millions)                                                                                 May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Adhesives

   $ 10.2    $ 13.3    (23.1 )%   $ 20.2    $ 24.0    (15.7 )%

Packaging Solutions

     5.2      4.4    19.0 %     9.5      7.3    30.4 %

Specialty Construction

     1.5      4.2    (64.8 )%     1.5      5.4    (72.9 )%

Insulating Glass

     1.9      1.9    (3.1 )%     3.3      2.5    35.8 %
                                        

Total North America

   $ 18.8    $ 23.8    (21.1 )%   $ 34.5    $ 39.2    (11.8 )%

 

23


Note: Individual component results are subject to numerous allocations of segment-wide costs that may or may not have been focused on that particular component for a particular reporting period. The costs of these allocated resources are not tracked on a “where-used” basis as financial performance is managed to maximize the total operating segment performance. Therefore, the above financial information should only be used for directional indications of performance

Total North America: The slowdown in the North American construction-related end markets had a significant negative impact on the net revenue for both the first and second quarters of 2008 as compared to 2007. Packaging solutions was the only component in the North America segment to record net revenue growth in the second quarter and first six months of 2008. Reduced sales volume and increased raw material costs driven by higher oil prices contributed to a lower gross profit margin as compared to 2007. SG&A expenses were down significantly from the prior year however the operating income still decreased 21.1 percent and 11.8 percent, respectively, for the second quarter and first six months of 2008 as compared to 2007.

Adhesives : Net revenue in the Adhesives component declined 3.4 percent in the second quarter and 3.9 percent in the first six months as compared to last year. Sharp increases in raw material costs and the impact from lower sales volume were the primary reasons for the operating income decreases for both the second quarter and first six months of 2008 as compared to 2007. The second quarter of 2008 included $0.9 million of charges related to a cost reduction initiative at a manufacturing facility. The operating income margin of 11.1 percent in the second quarter of 2008 was 2.8 percentage points below the second quarter of 2007. For the first six months the operating income margin of 11.4 percent in 2008 compared to 13.0 percent for the first six months of 2007.

Packaging Solutions : The net revenue increases of 6.7 percent in the second quarter and 10.4 percent for the first six months of 2008 over the same periods of 2007 were driven by sales volume gains. Sales to new customers were a key component in the net revenue increases. The higher sales volume was the key factor in the 19.0 percent second quarter and 30.4 percent year-to-date improvement in operating income in 2008 versus the same periods in 2007.

Specialty Construction : Net revenue decreased 16.6 percent and 23.4 percent for the second quarter and first six months of 2008 respectively, as compared to the same periods in 2007. The Specialty Construction component has been heavily impacted by the slowdown in the U.S. housing and other construction markets. The economic slowdown and lost customers related to the 2006 Roanoke acquisition were the primary reasons for the year-over-year decrease in net revenue for both the second quarter and six months year-to-date. The 2008 results included $1.8 million of charges against net revenue in the second quarter related to start-up costs associated with a new merchandising program for a significant retail customer. SG&A expenses decreased as compared to 2007 for both the second quarter and first six months due to reduced headcount and stringent cost controls. Last year’s SG&A expenses included $1.7 million of accelerated amortization expense in the first quarter on a particular trade name that was discontinued.

Insulating Glass: The net revenue decreases for both the second quarter and first six months of 2008 as compared to last year were driven by sales volume decreases of 14.8 percent in the quarter and 18.3 percent for the first six months. The volume declines were a direct result of the slowdown in the U.S. housing market. The insulating glass component’s primary business is selling adhesives and sealants to manufacturers of windows primarily for residential construction. Despite the lower sales volume, operating income only decreased 3.1 percent in the second quarter of 2008 compared to the second quarter of 2007 and increased 35.8 percent over the first six months of 2008 compared to the first six months of 2007, due to significant reductions in SG&A expenses. The reduction in SG&A expenses for both the second quarter and first six months of 2008 was mainly due to reduced headcount and the reallocation of certain expenses as a result of the 2007 regional reorganization.

Europe:

In the first quarter of 2008 the insulating glass business component was merged with the adhesives component. The Europe operating segment is now managed as one component. The following table reflects the net revenue and operating income of the Europe operating segment.

 

24


     13 Weeks Ended     26 Weeks Ended  
(In millions)    May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Net Revenue

   $ 109.3    $ 104.0    5.1 %   $ 208.9    $ 199.4    4.8 %

Operating Income

   $ 9.6    $ 10.1    (4.6 )%   $ 17.7    $ 18.1    (2.1 )%

The following table provides details of the Europe net revenue variances. The Pricing/Sales Volume variance is viewed as organic growth.

 

( ) = Decrease    13 weeks ended May 31, 2008
vs June 2, 2007
    26 weeks ended May 31, 2008
vs June 2, 2007
 

Pricing/Sales Volume

   (9.1 )   (8.3 )

Currency

   14.2     13.1  
            

Total

   5.1     4.8  
            

Total Europe: The stronger euro as compared to the U.S. dollar was the primary factor in the net revenue increase over last year for both the quarter and first six months. The lower sales volume and higher raw material costs resulted in a lower gross profit margin in the first quarter of 2008 as compared to last year. Significant reductions in SG&A expenses helped mitigate the gross profit shortfall. The positive currency effects on operating income were an estimated $1.8 million for the second quarter and $3.0 million for the first six months of 2008 as compared to the same periods in 2007. The operating income margin for the operating segment was 8.8 percent in the second quarter of 2008 compared to 9.7 percent in the second quarter of 2007. The year-to-date operating income margin was 8.5 percent for 2008 compared to 9.1 percent for 2007.

Latin America:

The following table shows the net revenue generated from the key components of the Latin America segment.

 

     13 Weeks Ended     26 Weeks Ended  
(In millions)    May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Adhesives

   $ 26.6    $ 26.8    (0.7 )%   $ 52.6    $ 54.8    (4.0 )%

Paints

     26.9      23.3    15.7 %     56.7      50.2    12.9 %
                                        

Total Latin America

   $ 53.5    $ 50.0    6.9 %   $ 109.2    $ 105.0    4.1 %

The following table provides details of Latin America net revenue variances by segment component. The Pricing/Sales Volume variance is viewed as organic growth.

 

     13 weeks ended May 31, 2008
vs June 2, 2007
    26 weeks ended May 31, 2008
vs June 2, 2007
 
( ) = Decrease    Adhesives     Paints     Total     Adhesives     Paints     Total  

Pricing/Sales Volume

   (0.7 )%   15.7 %   6.9 %   (4.0 )%   12.9 %   4.1 %

The following table reflects the operating income by component of the Latin America operating segment:

 

     13 Weeks Ended     26 Weeks Ended  
(In millions)    May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Adhesives

   $ 0.9    $ 0.9    (5.1 )%   $ 2.0    $ 2.4    (18.3 )%

Paints

     0.6      0.3    101.9 %     0.7      2.1    (64.3 )%
                                        

Total Latin America

   $ 1.5    $ 1.2    22.2 %   $ 2.7    $ 4.5    (39.7 )%

Note: Individual component results are subject to numerous allocations of segment-wide costs that may or may not have been focused on that particular component for a particular reporting period. The costs of

 

25


these allocated resources are not tracked on a “where-used” basis as financial performance is managed to maximize the total operating segment performance. Therefore, the above financial information should only be used for directional indications of performance

Total Latin America: Net revenue in the second quarter of 2008 was 6.9 percent higher than the second quarter of 2007 and up 4.1 percent for the first six months of 2008 compared to the first six months of 2007. For the second quarter and year-to-date, net revenue increases in the paints component were partially offset by decreases in adhesives. The operating income for the operating segment increased $0.3 million or 22.2 percent for the second quarter and decreased $1.8 million or 39.7 percent for the first six months as compared to last year, primarily due to the reduced operating income generated by the paints component.

Adhesives: The reduced net revenue in the adhesives component was attributed to sales volume losses. Higher raw material costs combined with the lower sales volumes resulted in operating income decreases of 5.1 percent and 18.3 percent for second quarter and first six months of 2008, respectively, as compared to the same periods in 2007. The operating income margin was 3.2 percent in the second quarter of 2008 as compared to 3.4 percent for the second quarter of 2007. The operating income margin was 3.7 percent for the first six months of 2008 compared to 4.4 percent last year.

Paints: The paints component had net revenue increases of 15.7 percent in the second quarter and 12.9 percent for the first six months of 2008 compared to the same periods of last year. Investments in retail stores have had a significant positive impact on the net revenue growth. The operating income margin for the second quarter was 2.3 percent as compared to 1.3 percent in the second quarter of 2007. Increases in raw material costs prevented the paints component from realizing additional improvements in the operating income margin. Through six months of 2008 the operating income margin of 1.3 percent was 2.8 percentage points below the margin realized in the first six months of 2007. Manufacturing and logistics changes that were implemented in the first quarter of 2008 had an initial impact in the first quarter of increasing manufacturing costs as compared to last year. Higher raw material costs and SG&A expenses also contributed to the reduced operating income in the first six months of 2008.

Asia Pacific:

The following table shows the net revenue generated from the key components of the Asia Pacific segment.

 

     13 Weeks Ended     26 Weeks Ended  
(In millions)    May 31,
2008
   June 2,
2007
   2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Adhesives

   $ 27.4    $ 21.2    28.7 %   $ 49.8    $ 41.0    21.5 %

Consumer

     6.5      6.0    9.3 %     12.7      12.0    6.1 %
                                        

Total Asia Pacific

   $ 33.9    $ 27.2    24.5 %   $ 62.5    $ 53.0    18.0 %

The following table provides details of Asia Pacific net revenue variances by segment component. The Pricing/Sales Volume variance is viewed as organic growth.

 

     13 weeks ended May 31, 2008
vs June 2, 2007
    26 weeks ended May 31, 2008
vs June 2, 2007
 
( ) = Decrease    Adhesives     Consumer     Total     Adhesives     Consumer     Total  

Pricing/Sales Volume

   18.7 %   (5.5 )%   13.5 %   12.2 %   (7.5 )%   7.7 %

Currency

   10.0 %   14.8 %   11.0 %   9.3 %   13.6 %   10.3 %
                                    

Total

   28.7 %   9.3 %   24.5 %   21.5 %   6.1 %   18.0 %
                                    

 

26


The following table reflects the operating income by component of the Asia Pacific operating segment:

 

     13 Weeks Ended     26 Weeks Ended  
(In millions)    May 31,
2008
   June 2,
2007
    2008 vs
2007
    May 31,
2008
   June 2,
2007
   2008 vs
2007
 

Adhesives

   $ 2.2    $ 1.3     73.6 %   $ 3.3    $ 2.6    26.2 %

Consumer

     0.3      (0.0 )   NMP       0.7      0.0    NMP  
                                         

Total Asia Pacific

   $ 2.5    $ 1.3     104.0 %   $ 4.0    $ 2.6    50.8 %

NMP = Non-meaningful percentage

Note: Individual component results are subject to numerous allocations of segment-wide costs that may or may not have been focused on that particular component for a particular reporting period. The costs of these allocated resources are not tracked on a “where-used” basis as financial performance is managed to maximize the total operating segment performance. Therefore the above financial information should only be used for directional indications of performance

Total Asia Pacific: Sales volume growth in the adhesives component and positive currency effects were the main drivers of the net revenue increase in the first and second quarters of 2008 as compared to last year. Sales volume growth in China, Australia and Thailand were the most significant contributor to the overall segment growth. The positive currency effects were led by the strengthening of the Australian dollar versus the U.S. dollar. The operating income margin in the second quarter of 2008 improved to 7.5 percent as compared to 4.6 percent in the second quarter of 2007. The additional gross profit generated by the increased sales volume more than offset higher SG&A expenses resulting from the new regional management structure that was put in place in the first quarter of 2007. The operating income margin for the first six months of 2008 was 6.4 percent as compared to 5.0 percent for the same period in 2007.

Adhesives: The adhesive component recorded positive sales volume growth of 28.7 percent in the second quarter and 21.5 percent year-to-date, driven by new business growth in China, Australia and Thailand. Gross margins improved with the increased volume however SG&A expenses also increased due to the additional regional infrastructure. The result was an increase in operating income of $1.0 million in the second quarter of 2008 as compared to last year and $0.7 million for the first six months of 2008 compared to the first six months of 2007.

Consumer: Sales volume decreased however operating income increased for both the second quarter and first six months of 2008 as compared to the same periods in 2007. A focus on more profitable product lines was key to the operating income improvement. The favorable currency effects also contributed to the positive operating income results for both the quarter and first six months of 2008 as compared to the prior year.

Financial Condition, Liquidity and Capital Resources

Total cash and cash equivalents as of May 31, 2008 were $212.5 million as compared to $246.4 million as of December 1, 2007. Total long and short-term debt was $347.8 million as of May 31, 2008 and $172.6 million as of December 1, 2007. During the first and second quarters of 2008 the company repurchased $200.8 million of its common stock, $200.0 million of which was per the repurchase program approved by the Board of Directors in January 2008. The share repurchases were financed primarily through additional borrowings from the company’s revolving credit agreement. As a result of the share repurchases, the additional paid in capital on the consolidated balance sheet as of May 31, 2008 was reduced to zero. Therefore, an amount of $170.1 million in excess of the additional paid in capital balance was charged against retained earnings in the consolidated balance sheet as of May 31, 2008.

Management believes that cash flows from operating activities will be adequate to meet the company’s ongoing liquidity and capital expenditure needs. In addition, the company has sufficient access to capital markets to meet current expectations for acquisition funding requirements.

At May 31, 2008, the company was in compliance with all covenants of its contractual obligations. There are no rating triggers that would accelerate the maturity dates of any debt. Management believes the company has the ability to meet all of its contractual obligations and commitments in fiscal 2008.

 

27


Selected Metrics of Liquidity

Key metrics monitored by management are net working capital as a percent of annualized net revenue, trade account receivable days sales outstanding (DSO), inventory days on hand and debt capitalization ratio.

 

     May 31,
2008
  June 2,
2007

Net working capital as a percentage of annualized net revenue 1

   16.1%   12.9%

Accounts receivable DSO 2

   54 Days   52 Days

Inventory days on hand 3

   53 Days   48 Days

Debt capitalization ratio 4

   34.7%   16.9%

 

1

Current quarter net working capital (trade receivables, net of allowance for doubtful accounts plus inventory minus trade payables) divided by annualized net revenue (current quarter multiplied by four).

2

(Accounts receivable less the allowance for doubtful accounts at the balance sheet date) multiplied by 90 and divided by the net revenue for the quarter.

3

Average inventory over last five quarters multiplied by 360 and divided by cost of sales for prior 12 months.

4

Total debt divided by total debt plus total stockholders’ equity.

Another key metric introduced in 2007 was return on gross investment, or ROGI. The calculation is based on continuing operations and is represented by Gross Cash Flow divided by Gross Investment.

 

   

Gross Cash Flow is defined as: Gross Profit less SG&A less taxes at a non-GAAP standard rate of 29 percent plus depreciation and amortization expenses less maintenance capital expenditures, a non-GAAP financial measure defined as 50 percent of total depreciation expense. Gross cash flow is calculated using trailing 12 month information.

 

   

Gross Investment is defined as total assets plus accumulated depreciation less non-debt current liabilities less cash.

ROGI was introduced because management believes it provides a true measure of return on investment, it is a better way to internally measure performance and it is focused on the long term. The ROGI calculated at May 31, 2008 was 8.7 percent as compared to 9.6 percent at December 1, 2007. Lower gross cash flow in the first six months of 2008 as compared to the first six months of 2007 contributed to the lower ROGI as well as a higher gross investment as of May 31, 2008 as compared to December 1, 2007.

The following table shows the ROGI calculation based on the company’s definition above compared to a calculation using all GAAP-based data. Management believes use of certain non-GAAP financial measures provides a better calculation of ROGI because they eliminate fluctuations not specifically related to the return on the current investment base.

 

(In millions)    ROGI
(Management
calculation)
    ROGI
(GAAP-based
calculation)
 

Gross profit

   400.4     400.3  

Selling, general and administrative expenses

   (263.0 )   (263.0 )
            
   137.4     137.3  

Taxes 1

   (39.8 )   (37.6 )

Depreciation and amortization

   47.7     47.7  

Maintenance capital expenditures 2

   (17.8 )   (17.9 )
            

Gross Cash Flow

   127.5     129.5  

Gross Investment

   1,465.1     1,465.1  

Return on gross investment

   8.7 %   8.8 %

 

28


 

1

The ROGI calculation for management measurement purposes uses a tax rate of 29%. The GAAP rate is based on actual tax expense including any one time, discrete items.

2

Maintenance capital expenditures used for the management calculation of ROGI is 50 percent of total depreciation expense whereas the GAAP-based amount is actual capital expenditures from the cash flow statement.

Summary of Cash Flows

Cash flows from Operating Activities from Continuing Operations:

 

                 26 Weeks Ended            
(In millions)    May 31,
2008
   June 2,
2007

Net cash provided by operating activities from continuing operations

   $ 12.6    $ 58.5

Income from continuing operations plus depreciation and amortization expense totaled $62.8 million in the first six months of 2008 as compared to $69.4 million for the same period of 2007. Changes in net working capital accounted for a use of cash of $30.4 million and a source of $0.1 million in the first six months of 2008 and 2007, respectively. Changes in accounts receivable was a source of cash of $1.7 million in the first six months of 2008 as compared to a $22.7 million source of cash in the first six months of 2007. The two day increase in DSO in 2008 as compared to last year contributed to the reduced source of cash from accounts receivable. The increase in DSO resulted primarily from the construction-related components in North America which have been most impacted by the slowdown in the U.S. economy. Changes in trade accounts payable accounted for a $25.2 million use of cash in 2008 as compared to a $19.4 million use of cash in 2007.

Cash flows from Investing Activities from Continuing Operations:

 

                 26 Weeks Ended              

(In millions)

   May 31,
2008
    June 2,
2007
 

Net cash used in investing activities from continuing operations

   $ (7.8 )   $ (10.1 )

Purchases of property plant and equipment were $7.9 million in 2008 as compared to $10.9 million in 2007. The capital investment activity was lower than last year primarily due to the lower sales volumes. The company does not anticipate significant repair and maintenance activities on existing property, plant and equipment as a result of current or past capital spending policies.

Cash flows from Financing Activities from Continuing Operations:

 

                 26 Weeks Ended              
(In millions)    May 31,
2008
    June 2,
2007
 

Net cash used in financing activities from continuing operations

   $ (30.8 )   $ (81.6 )

The cash used in financing from continuing operations in 2008 was mainly due to the $25.0 million payment of the company’s senior long-term debt. The $200.8 million of repurchases of common stock was offset by $200.0 million of new financing from the revolving credit agreement. The higher 2007 financing activity was mainly due to the $62.0 million pay-off of the company’s revolving credit agreement and $25.0 million payment of the company’s senior long-term debt. Cash generated from the exercise of stock options was $1.2 million in 2008, compared to

 

29


$11.3 million in 2007. The higher 2007 cash generated from the exercise of stock options was mainly due to exercises by the former CEO and the former CFO as their departures required the exercise of certain stock option awards prior to the end of the first quarter. Cash dividends paid on common stock were $7.0 million and $7.7 million in 2008 and 2007, respectively.

Cash Flows from Discontinued Operations:

 

     26 Weeks Ended  
(In millions)    May 31,
2008
    June 2,
2007
 

Cash used in operating activities of discontinued operations

   $ (15.0 )   $ (23.4 )

Cash used in operating activities of discontinued operations represents the cash used in the operations of the automotive business in 2008 and powder coatings business in 2007. Cash used in the operating activities of discontinued operations in 2008 and 2007 is primarily comprised of income tax payments made in conjunction with the pretax gains on disposal of discontinued operations and closing costs payments made associated with selling the businesses. The related expenses were recorded in the fiscal years 2007 and 2006.

Forward-Looking Statements and Risk Factors

The Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward-looking statements. In this Quarterly Report on Form 10-Q, the company discusses expectations regarding future performance of the company which include anticipated financial performance, savings from restructuring and process initiatives, global economic conditions, liquidity requirements, the impact of litigation and environmental matters, the effect of new accounting pronouncements and one-time accounting charges and credits, and similar matters. This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements may be identified by the use of words like “plan,” “expect,” “aim,” “believe,” “project,” “anticipate,” “intend,” “estimate,” “will,” “should,” “could” (including the negative or variations thereof) and other expressions that indicate future events and trends. These plans and expectations are based upon certain underlying assumptions, including those mentioned with the specific statements. Such assumptions are in turn based upon internal estimates and analyses of current market conditions and trends, management plans and strategies, economic conditions and other factors. These plans and expectations and the assumptions underlying them are necessarily subject to risks and uncertainties inherent in projecting future conditions and results. Actual results could differ materially from expectations expressed in the forward-looking statements if one or more of the underlying assumptions and expectations proves to be inaccurate or is unrealized. In addition to the factors described in this report, Part II, Item 1A. Risk Factors in this report and Part I, Item 1A. Risk Factors in the company’s Annual Report on Form 10-K for the fiscal year ended December 1, 2007, identify some of the important factors that could cause the company’s actual results to differ materially from those in any such forward-looking statements. This list of important factors does not include all such factors nor necessarily present them in order of importance. In order to comply with the terms of the safe harbor, the company has identified these important factors which could affect the company’s financial performance and could cause the company’s actual results for future periods to differ materially from the anticipated results or other expectations expressed in the forward-looking statements. Additionally, the variety of products sold by the company and the regions where the company does business makes it difficult to determine with certainty the increases or decreases in revenues resulting from changes in the volume of products sold, currency impact, changes in geographic and product mix and selling prices. Management’s best estimates of these changes as well as changes in other factors have been included. References to volume changes include volume, product mix and delivery charges, combined. These factors should be considered, together with any similar risk factors or other cautionary language, which may be made elsewhere in this Quarterly Report on Form 10-Q.

The company may refer to Part II, Item 1A. Risk Factors and this section of the Form 10-Q to identify risk factors related to other forward looking statements made in oral presentations, including investor conferences and/or webcasts open to the public.

 

30


This disclosure, including that under “Forward-Looking Statements and Risk Factors,” and other forward-looking statements and related disclosures made by the company in this report and elsewhere from time to time, represents management’s best judgment as of the date the information is given. The company does not undertake responsibility for updating any of such information, whether as a result of new information, future events, or otherwise, except as required by law. Investors are advised, however, to consult any further public company disclosures (such as in filings with the Securities and Exchange Commission or in company press releases) on related subjects.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Raw Materials: The principal raw materials used to manufacture products include resins, polymers, synthetic rubbers, vinyl acetate monomer, plasticizers and wax. The majority of the company’s raw materials are petroleum/natural gas based derivatives. Under normal conditions, all of these raw materials are generally available on the open market. Prices and availability are subject to supply and demand market mechanisms. Higher crude oil and natural gas costs usually result in higher prices for raw materials; however, supply and demand pressures also have a significant impact.

The objective in sourcing raw materials is to generate the best total cost of ownership solutions for the business by successfully managing the cost, quality and service of supply. Strategic relationships with suppliers combined with risk mitigation strategies ensure the best possible supply stream and pricing. Contracts with some key suppliers limit price increases to increases in supplier raw material costs, while requiring decreases as supplier raw material costs decline. Contracts also limit the price increase frequency, but not the magnitude of the increase.

The weakening in the North American economy, supplier production shortages and higher crude oil prices have led to price increases and strained supply scenarios for several key derivatives of the company’s products. Management’s objective is to leverage the opportunity of having substitute raw materials approved for use wherever possible to minimize the impact of possible material shortages and/or price increases.

Market Risk: The company is exposed to various market risks, including changes in interest rates, foreign currency rates and prices of raw materials. Market risk is the potential loss arising from adverse changes in market rates and prices, such as interest rates and foreign currency exchange rates.

Interest Rate Risk: Exposure to changes in interest rates result primarily from borrowing activities used to fund operations. Committed floating rate credit facilities are used to fund a portion of operations. On December 14, 2007 the company entered into an interest rate swap agreement to limit exposure to the fluctuations in its LIBOR-based variable interest payments on its $75.0 million term loan. The swap covers the notional amount of $75.0 million at a fixed rate of 4.359 percent and expires on December 19, 2008. The swap has been designated for hedge accounting treatment. Accordingly, the company recognizes the fair value of the swap in the consolidated balance sheet and any changes in the fair value are recorded as adjustments to accumulated other comprehensive income, net of tax. The fair value of the swap is the estimated amount that the company would pay or receive to terminate the agreement at the reporting date. The fair value of the swap was a liability of $0.8 million at May 31, 2008 and is included in other accrued expenses in the consolidated balance sheet.

Management believes that probable near-term changes in interest rates would not materially affect financial condition, results of operations or cash flows. The annual impact, prior to entering into the swap agreement, on the results of operations of a one-percentage point interest rate change on the outstanding balance of its variable rate debt as of May 31, 2008 would be approximately $2.9 million.

Foreign Exchange Risk: As a result of being a global enterprise, there is exposure to market risks from changes in foreign currency exchange rates, which may adversely affect operating results and financial condition. Approximately 59 percent of net revenue was generated outside of the United States in the first six months of 2008. Principal foreign currency exposures relate to the euro, British pound sterling, Japanese yen, Australian dollar, Canadian dollar, Argentine peso, Brazilian real, Colombian peso and Chinese renminbi.

Management’s objective is to balance, where possible, local currency denominated assets to local currency denominated liabilities to have a natural hedge and minimize foreign exchange impacts. The company enters into cross border transactions through importing and exporting goods to and from different countries and locations.

 

31


These transactions generate foreign exchange risk as they create assets, liabilities and cash flows in currencies other than the local currency. This also applies to services provided and other cross border agreements among subsidiaries.

Management takes steps to minimize risks from foreign currency exchange rate fluctuations through normal operating and financing activities and, when deemed appropriate, through the use of derivative instruments. Management does not enter into any speculative positions with regard to derivative instruments.

From a sensitivity analysis viewpoint, based on the financial results of the first 26 weeks of 2008, a hypothetical overall 10 percent change in the U.S. dollar would have resulted in a change in net income of approximately $2.4 million.

Item 4. Controls and Procedures

(a) Controls and procedures

As of the end of the period covered by this report, the company conducted an evaluation, under the supervision and with the participation of the company’s chief executive officer and chief financial officer, of the company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934). Based on this evaluation, the chief executive officer and chief financial officer concluded that, as of May 31, 2008, the company’s disclosure controls and procedures were effective to ensure that information required to be disclosed by the company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the Commission’s rules and forms and to ensure that information required to be disclosed by the company in the reports that it files or submits under the Securities Exchange Act of 1934 is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.

(b) Change in internal control over financial reporting

There were no changes in the company’s internal control over financial reporting during its most recently completed fiscal quarter that have materially affected or are reasonably likely to materially affect its internal control over financial reporting, as defined in Rule 13a-15(f) under the Exchange Act.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

Environmental Matters. From time to time, the company is identified as a “potentially responsible party” (“PRP”) under the Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”) and/or similar state laws that impose liability for costs relating to the clean up of contamination resulting from past spills, disposal or other release of hazardous substances. The company is also subject to similar laws in some of the countries where current and former facilities are located. The company’s environmental, health and safety department monitors compliance with all applicable laws on a global basis.

Currently the company is involved in various environmental investigations, clean up activities and administrative proceedings and lawsuits. In particular, the company is currently deemed a PRP in conjunction with numerous other parties, in a number of government enforcement actions associated with hazardous waste sites. As a PRP, the company may be required to pay a share of the costs of investigation and clean up of these sites. In addition, the company is engaged in environmental remediation and monitoring efforts at a number of current and former company operating facilities, including remediation of environmental contamination at its Sorocaba, Brazil facility. Soil and water samples were collected on and around the Sorocaba facility, and test results indicated that certain contaminants, including carbon tetrachloride and other solvents, exist in the soil at the Sorocaba facility and in the groundwater at both the Sorocaba facility and some neighboring properties. The company is continuing to work with Brazilian regulatory authorities to implement a remediation system at the site. As of May 31, 2008, $1.3 million was

 

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recorded as a liability for expected investigation and remediation expenses remaining for this site. Depending on the results of the initial remediation actions, the company may be required to record additional liabilities related to remediation costs at the Sorocaba facility.

From time to time, management becomes aware of compliance matters relating to, or receives notices from, federal, state or local entities regarding possible or alleged violations of environmental, health or safety laws and regulations. In some instances, these matters may become the subject of administrative proceedings or lawsuits and may involve monetary sanctions of $0.1 million or more (exclusive of interest and litigation costs).

The company’s management reviews the circumstances of each individual site, considering the number of parties involved, the level of potential liability or contribution of the company relative to the other parties, the nature and magnitude of the hazardous substances involved, the method and extent of remediation, the estimated legal and consulting expense with respect to each site and the time period over which any costs would likely be incurred. To the extent the company can reasonably estimate the amount of its probable liabilities for environmental matters, the company establishes a financial provision if certain criteria are met. As of May 31, 2008, the company had reserved $2.6 million, which represents its best estimate of probable liabilities with respect to environmental matters, inclusive of the accrual related to the Sorocaba facility as described above. However, the full extent of the company’s future liability for environmental matters is difficult to predict because of uncertainty as to the cost of investigation and clean up of the sites, the company’s responsibility for such hazardous substances and the number of and financial condition of other potentially responsible parties.

Because of the uncertainties described above, the company cannot accurately estimate the cost of resolving pending and future environmental matters impacting the company. While uncertainties exist with respect to the amounts and timing of the company’s ultimate environmental liabilities, based on currently available information, management does not believe that these matters, individually or in aggregate, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements could negatively impact the company’s results of operations or cash flows in one or more future quarters.

Other Legal Proceedings. From time to time and in the ordinary course of business, the company is a party to, or a target of, lawsuits, claims, investigations and proceedings, including product liability, personal injury, contract, patent and intellectual property, health and safety and employment matters. While the company is unable to predict the outcome of these matters, it does not believe, based upon currently available information, that the ultimate resolution of any pending matter, individually or in aggregate, including the EIFS and asbestos litigation described in the following paragraphs, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements could negatively impact the company’s results of operations or cash flows in one or more future quarters.

A subsidiary of the company is a defendant in a number of exterior insulated finish systems (“EIFS”) related lawsuits. As of May 31, 2008, the company’s subsidiary was a defendant in approximately 8 lawsuits and claims related primarily to single-family homes. The EIFS product was used primarily in the residential construction market in the southeastern United States. Some of the lawsuits and claims involve EIFS in commercial or multi-family structures. Lawsuits and claims related to this product line seek monetary relief for water intrusion-related property damages. The company has insurance coverage for certain years with respect to this product line.

As of May 31, 2008, the company had recorded $0.4 million for the probable EIFS-related liabilities and $0.2 million for insurance recoveries, for all remaining EIFS-related liabilities. The liabilities are recorded at management’s best estimate of the outcome of the lawsuits and claims taking into consideration the facts and circumstances of the individual matters as well as past experience on similar matters. The company continually reevaluates these amounts.

The rollforward of EIFS-related lawsuits and claims is as follows:

 

     26 Weeks Ended
May 31, 2008
    Year Ended
December 1, 2007
 

Lawsuits and claims at beginning of period

   15     29  

New lawsuits and claims asserted

   1     5  

Lawsuits and claims settled

   (6 )   (11 )

Lawsuits and claims dismissed

   (2 )   (8 )
            

Lawsuits and claims at end of period

   8     15  

 

33


A summary of the aggregate costs and settlement amounts for EIFS-related lawsuits and claims is as follows:

 

(In thousands)    26 Weeks Ended
May 31, 2008
   Year Ended
December 1, 2007

Settlements reached

   $ 270    $ 283

Defense costs incurred

   $ 361    $ 843

Insurance payments received or expected to be received

   $ 381    $ 580

Plaintiffs in EIFS cases generally seek to have their homes repaired or the EIFS replaced, but a dollar amount for the cost of repair or replacement is not ordinarily specified in the complaint. Although complaints in EIFS cases usually do not contain a specific amount of damages claimed, a complaint may assert that damages exceed a specified amount in order to meet jurisdictional requirements of the court in which the case is filed. Therefore, the company does not believe it is meaningful to disclose the dollar amount of damages asserted in EIFS complaints.

Based on currently available information, management does not believe that the ultimate outcome of any pending legal proceedings and claims related to this product line, individually or in aggregate, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements could negatively impact the company’s results of operations or cash flows in one or more future quarters. Given the numerous uncertainties surrounding litigation and the projection of future events, such as the number of new claims to be filed each year and the average cost of disposing of each such claim, the actual costs could be higher or lower than the current estimated reserves or insurance recoveries.

The company and/or its subsidiaries have been named as defendants in lawsuits in which plaintiffs have alleged injury due to products containing asbestos manufactured more than 25 years ago. The plaintiffs generally bring these lawsuits against multiple defendants and seek damages (both actual and punitive) in very large amounts. In many cases, plaintiffs are unable to demonstrate that they have suffered any compensable injuries or that the injuries suffered were the result of exposure to products manufactured by the company or its subsidiaries. The company is typically dismissed as a defendant in such cases without payment. If the plaintiff establishes that compensable injury occurred as a result of exposure to the company’s products, the case is generally settled for an amount that reflects the seriousness of the injury, the number and solvency of other defendants in the case, and the jurisdiction in which the case has been brought.

As a result of bankruptcy filings by numerous defendants in asbestos-related litigation and the prospect of national and state legislative reform relating to such litigation, the rate at which plaintiffs filed asbestos-related lawsuits against various companies (including the company) increased in 2001, 2002 and the first half of 2003. Since the second half of 2003, the rate of these filings has declined. However, the company expects that asbestos-related lawsuits will continue to be filed against the company in the future.

A significant portion of the defense costs and settlements relating to asbestos-related litigation involving the company continues to be paid by third parties, including indemnification pursuant to the provisions of a 1976 agreement under which the company acquired a business from a third party. Historically, this third party routinely defended all cases tendered to it and paid settlement amounts resulting from those cases. In the 1990s, the third party sporadically reserved its rights, but continued to defend and settle all asbestos-related claims tendered to it by the company. In 2002, the third party rejected the tender of certain cases by the company and indicated it would seek contributions from the company for past defense costs, settlements and judgments. However, this third party has continued to defend and pay settlement amounts, under a reservation of rights, in most of the asbestos cases tendered to the third party by the company. As discussed below, during the fourth quarter of 2007, the company and a group of other defendants, including the third party obligated to indemnify the company against certain asbestos-related claims, entered into negotiations with certain law firms to settle a number of asbestos-related lawsuits and claims.

 

34


In addition to the indemnification arrangements with third parties, the company has insurance policies that generally provide coverage for asbestos liabilities (including defense costs). Historically, insurers have paid a significant portion of the defense costs and settlements in asbestos-related litigation involving the company. However, certain of the company’s insurers are insolvent. During 2005, the company and a number of its insurers entered into a cost-sharing agreement that provides for the allocation of defense costs, settlements and judgments among these insurers and the company in certain asbestos-related lawsuits. Under this agreement, the company is required to fund a share of settlements and judgments allocable to years in which the responsible insurer is insolvent. The cost-sharing agreement applies only to asbestos litigation involving the company that is not covered by the third-party indemnification arrangements.

During the first six months of 2008, the company settled two asbestos-related lawsuits for $93 thousand. The company’s insurers have paid or are expected to pay $61 thousand of that amount. In addition, as referenced above, during the fourth quarter of 2007, the company and a group of other defendants entered into negotiations with certain law firms to settle a number of asbestos-related lawsuits and claims. Subject to finalization of the terms and conditions of the settlement, the company expects to contribute up to $4.6 million towards the settlement amount to be paid to the claimants in exchange for a full release of claims. Of this amount, the company’s insurers have committed to pay $1.9 million based on a probable liability of $4.6 million. Given that the payouts will occur on certain dates over a four-year period, the company applied a present value approach and has accrued $4.4 million and recorded a receivable of $1.8 million.

The company does not believe that it would be meaningful to disclose the aggregate number of asbestos-related lawsuits filed against the company because relatively few of these lawsuits are known to involve exposure to asbestos-containing products made by the company. Rather, the company believes it is more meaningful to disclose the number of lawsuits that are settled and result in a payment to the plaintiff.

To the extent the company can reasonably estimate the amount of its probable liabilities for pending asbestos-related claims, the company establishes a financial provision and a corresponding receivable for insurance recoveries if certain criteria are met. As of May 31, 2008, the company had $4.8 million accrued for probable liabilities and $2.1 million for insurance recoveries related to asbestos claims. However, the company has concluded that it is not possible to reasonably estimate the cost of disposing of other asbestos-related claims (including claims that might be filed in the future) due to its inability to project future events. Future variables include the number of claims filed or dismissed, proof of exposure to company products, seriousness of the alleged injury, the number and solvency of other defendants in each case, the jurisdiction in which the case is brought, the cost of disposing of such claims, the uncertainty of asbestos litigation, insurance coverage and indemnification agreement issues, and the continuing solvency of certain insurance companies.

Because of the uncertainties described above, the company cannot reasonably estimate the cost of resolving pending and future asbestos-related claims against the company. Based on currently available information, the company does not believe that asbestos-related litigation, individually or in aggregate, will have a material adverse effect on the company’s long-term financial condition. However, adverse developments and/or periodic settlements in such litigation could negatively impact the company’s results of operations or cash flows in one or more future quarters.

In addition to product liability claims discussed above, the company and its subsidiaries are involved in other claims or legal proceedings related to its products, which it believes are not out of the ordinary in a business of the type and size in which it is engaged.

 

Item 1A. Risk Factors

This Form 10-Q contains forward-looking statements concerning our future programs, products, expenses, revenue, liquidity and cash needs as well as our plans and strategies. These forward-looking statements are based on current expectations and the company assumes no obligation to update this information. Numerous factors could cause actual results to differ significantly from the results described in these forward-looking statements, including the risk factors identified under Part I, Item 1A. Risk Factors contained in the company’s Annual Report on Form 10-K for the fiscal year ended December 1, 2007. There have been no material changes in the risk factors disclosed by the company under Part I, Item 1A. Risk Factors contained in the Annual Report on Form 10-K for the fiscal year ended December 1, 2007.

 

35


Item 1B. Unresolved Staff Comments

None.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Issuer Purchases of Equity Securities

Information on the company’s purchases of equity securities during the second quarter follows:

 

Period

   (a)
Total
Number
of Shares
Purchased 1
   (b)
Average
Price Paid
per Share
   (c)
Total Number
of Shares
Purchased as
Part of Publicly
Announced
Plans or
Programs
   (d)
Maximum
Approximate
Dollar Value of
Shares that May
Yet Be Purchased
Under the Plans
or Programs

(thousands)

March 2, 2008 – April 5, 2008

   1,804,536    $ 21.58    1,804,536    $ 100,000

April 6, 2008 – May 3, 2008

   3,493,362    $ 22.08    3,490,757    $ 22,915

May 4, 2008 – May 31, 2008

   976,414    $ 23.47    976,414      —  

Repurchases of common stock are made to support the company’s stock-based employee compensation plans and for other corporate purposes.

Upon vesting of restricted stock awarded by the company to employees, shares are withheld to cover the employees’ withholding taxes. On January 24, 2008, the board of directors authorized a new share repurchase program of up to $200 million of the company’s outstanding common shares after completing a $100 million stock buyback program, authorized July 11, 2007. Under the new program, the company, at management’s discretion, was authorized to repurchase shares for cash on the open market, from time to time, in privately negotiated transactions or block transactions, or through accelerated repurchase agreements. The primary source of funding for the January 24, 2008 program was debt financing. The timing of such repurchases was dependent on price, market conditions and applicable regulatory requirements. The $200 million share repurchase program was completed in the second quarter of 2008.

 

1

The total number of shares purchased includes: (i) shares purchased under the board’s authorization described above, and (ii) shares withheld to satisfy the employees’ withholding taxes upon vesting of restricted stock awarded by the company to employees. There were 30,383 shares withheld in the first 26 weeks of 2008, to satisfy employee tax withholdings.

 

Item 4. Submission of Matters to a Vote of Security Holders

 

(a) The Registrant’s 2008 Annual Meeting of Shareholders was held on April 3, 2008. There were 56,340,502 shares of Common Stock entitled to vote at the meeting and a total of 52,233,245 shares were represented at the meeting.

 

36


(c) The following matters were submitted to a vote of security holders during the second quarter:

Proposal 1 - Election of Directors for a term expiring at the 2011 Annual Meeting of Shareholders:

 

Director Name

   Votes in Favor    Share Votes Withheld

J. Michael Losh

   34,169,808    18,063,437

Lee R. Mitau

   35,882,494    16,350,751

R. William Van Sant

   35,746,190    16,487,055

Juliana L. Chugg, Knut Kleedehn, Richard L. Marcantonio, Alfredo L. Rovira, John C. van Roden Jr., and Michele Volpi continued to serve as directors following the meeting.

Proposal 2 - Proposal to Ratify the Appointment of KPMG LLP as the company’s independent auditors for the fiscal year ending November 29, 2008:

 

For

  

Against

  

Abstain

51,698,775

   359,787    174,683

Proposal 3 - Proposal to approve Amended and Restated H.B. Fuller Company Annual and Long-Term Incentive Plan.

 

For

  

Against

  

Abstain

  

Broker non-vote

45,943,140

   2,211,521    465,783    3,612,801

 

Item 6.

Exhibits

 

10.1

   First Amendment of the H.B. Fuller Company Defined Contribution Restoration Plan (2008 Amendment and Restatement)

10.2

   Form of Severance Agreement between H.B. Fuller Company and each of its executive officers

12.0

   Computation of Ratios

31.1

   Form of 302 Certification –Michele Volpi

31.2

   Form of 302 Certification –James R. Giertz.

32.1

   Form of 906 Certification –Michele Volpi

32.2

   Form of 906 Certification –James R. Giertz

 

37


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.

 

  H.B. Fuller Company
Dated: July 2, 2008  

/s/ James R. Giertz

  James R. Giertz
  Senior Vice President and Chief Financial Officer

 

38


Exhibit Index

Exhibits

 

10.1

   First Amendment of the H.B. Fuller Company Defined Contribution Restoration Plan (2008 Amendment and Restatement)

10.2

   Form of Severance Agreement between H.B.Fuller Company and each of its executive officers

12

   Computation of Ratios

31.1

   Form of 302 Certification – Michele Volpi

31.2

   Form of 302 Certification – James R. Giertz

32.1

   Form of 906 Certification –Michele Volpi

32.2

   Form of 906 Certification –James R. Giertz

Exhibit 10.1

FIRST AMENDMENT

OF THE

H.B. FULLER COMPANY

DEFINED CONTRIBUTION RESTORATION PLAN

(2008 Amendment and Restatement)

H.B. Fuller Company (the “Company”) has heretofore adopted the H.B. Fuller Company Defined Contribution Restoration Plan (the “Plan”) which Plan, as amended and restated, is now in full force and effect. The Company now wishes to amend the Plan in certain respects and, to accomplish this, the Compensation Committee of the Board of Directors of the Company, acting pursuant to Sections 9.1 and 11.1.3 of the Plan, has approved and adopted the following Plan amendment:

1. Definition of Measuring Option(s). Section 1.2.17 of the Plan is amended in its entirety, to read as follows:

“1.2.17 Measuring Option(s) — the investment option(s) determined from time to time in the sole discretion of the Committee which may be elected by the Participant to measure the value of credits in the Participant’s Account. In the absence of a specific determination by the Committee, the value of the Participant’s Account shall be increased daily by an amount equal to the quotient obtained by dividing: (a) the product of the balance in the Participant’s Account prior to the increase, multiplied by one-twelfth (1/12) of the annual prime rate for corporate borrowers quoted on the first business day of the current month by the Wall Street Journal; by (b) the number of calendar days in the current month.”

2. Effective Date. This Amendment is effective as of January 1, 2008.

3. Savings Clause. Save and except as hereinabove expressly amended, the Plan Statement shall continue in full force and effect.

 

  H.B. FULLER COMPANY
Dated: 4/28/2008  

/s/ Michele Volpi

  President and Chief Executive Officer

Exhibit 10.2

SEVERANCE AGREEMENT

THIS SEVERANCE AGREEMENT (the “Agreement”) is made this          day of                      , 2008 (the “Effective Date”), by and between H.B. Fuller Company, a Minnesota corporation (the “Company”), and                      (the “Executive”).

W I T N E S S E T H :

WHEREAS, the Company desires to continue to employ the Executive in accordance with the terms and conditions stated in this Agreement;

WHEREAS, the Executive is a key member of the management of the Company and is expected to devote substantial skill and effort to the affairs of the Company, and the Company desires to recognize the significant personal contribution that the Executive makes, and is expected to continue to make, to further the best interests of the Company and its shareholders;

WHEREAS, it is desirable and in the best interests of the Company and its shareholders to continue to obtain the benefits of the Executive’s services and attention to the affairs of the Company;

WHEREAS, the Company and the Executive are parties to a Change in Control Agreement dated as of                      , and as may be amended from time to time (the “Change in Control Agreement”), which provides the Executive the opportunity to receive certain benefits upon termination of the Executive’s employment under certain conditions during a limited period following a change in control;

WHEREAS , the Company desires to provide the Executive the opportunity to receive certain benefits when, in the absence of a Change in Control, Executive’s employment is terminated by the Company without Cause or by the Executive for Good Reason, according to the terms, conditions and obligations set forth below;

WHEREAS , the Executive understands that the Executive’s receipt of the benefits provided for in this Agreement depends on, among other things, the Executive’s willingness to agree to and abide by the non-disclosure, non-competition, non-solicitation, and other covenants contained in Exhibit A attached to this Agreement (the “Non-Disclosure Agreement”) and Executive’s execution of a release of claims in favor of the Company upon termination;

WHEREAS, it is desirable and in the best interests of the Company and its shareholders to protect confidential, proprietary and trade secret information of the Company, to prevent unfair competition by former Executives of the Company following separation of their employment with the Company and to secure cooperation from former Executives with respect to matters related to their employment with the Company; and

WHEREAS , the Executive understands that nothing in this Agreement limits the Company’s right to terminate the Executive’s employment at any time and for any reason,


NOW, THEREFORE , in consideration of the Executive’s employment with the Company, the compensation and benefits payable in connection with such employment, and the foregoing premises and other good and valuable consideration, the receipt and adequacy of which are hereby acknowledged, the Executive and the Company agree as follows:

1. Definitions . The capitalized terms used in this Agreement have the following meanings:

(a) “Affiliated Organization” means a business entity that is treated as a single employer with the Company under the rules of section 414(b) and (c) of the Code, including the eighty percent (80%) standard therein.

(b) “Annual Cash Compensation” means an amount equal to the sum of: (A) the Executive’s annual base salary in effect as of the Date of Termination plus (B) the amount of the annual target bonus opportunity of the Executive, pursuant to the bonus plan described in Section 3(b) below, for the fiscal year of the Company in which the Date of Termination occurs.

(c) “Board” means the Board of Directors of the Company, including any authorized committee of the Board.

(d) “Cause” means:

(i) any act by the Executive that is materially inimical to the best interests of the Company and that constitutes common law fraud, a felony or other gross malfeasance of duty on the part of the Executive;

(ii) any material disloyalty or dishonesty by the Executive related to or connected with the Executive’s employment by the Company or otherwise likely to cause material harm to the Company or its reputation;

(iii) a willful and material violation by the Executive of the Company’s written policies or codes of conduct;

(iv) wrongful appropriation by the Executive of Company funds or property or other material breach of the Executive’s fiduciary duties to the Company; or

(v) the willful and material breach by the Executive of this Agreement, the Non-Disclosure Agreement, or any other written agreement between the Company and the Executive.

(e) “Change in Control” has the meaning prescribed for such term in the Change in Control Agreement.

(f) “Code” means the Internal Revenue Code of 1986, as amended. Any reference to a specific provision of the Code will include a reference to such provision as it may be amended from time to time and to any successor provision.

 

- 2 -


(g) “Company” means the Company as defined in the first sentence of this Agreement and any successor to its business and/or assets which assumes or agrees to perform this Agreement by operation of law, assignment or otherwise. If at any time during the Term of this Agreement the Executive is employed by an Affiliated Organization, the term “Company” as used in this Agreement shall in addition include such Affiliated Organization. In such event, the Company agrees that it shall pay or provide, or shall cause such Affiliated Organization to pay or provide, any amounts or benefits due the Executive pursuant to this Agreement.

(h) “Date of Termination” means the date of the Executive’s “separation from service” with the Company (including all Affiliated Organizations, as applicable), within the meaning of section 409A(a)(2)(A)(i) of the Code.

(i) “Disability” or “Disabled” means leaving active employment and qualifying for and receiving disability benefits under the Company’s long-term disability plan as in effect from time to time.

(j) “Good Reason” means the occurrence of any of the following without the Executive’s consent:

(i) A material reduction of the Executive’s base salary (unless such reduction is part of an across-the-board uniformly applied reduction affecting all senior executives of the Company);

(ii) A material diminution in the Executive’s authority and duties; provided, however, that a change of the individual or officer to whom the Executive reports, in and of itself, would not constitute diminution; or

(iii) a required change of the Executive’s principal work location of fifty (50) or more miles.

Notwithstanding the above, the occurrence of any of the events described above will not constitute Good Reason unless (A) the Executive gives the Company written notice within ninety (90) days after the initial occurrence of any of such event that the Executive believes that such event constitutes Good Reason and describing the details of such event, (B) the Company thereafter fails to cure any such event within thirty (30) days after receipt of such notice, and (C) the Executive’s Date of Termination as a result of such event occurs within 180 days after the initial occurrence of such event.

(k) “Protected Period” has the meaning prescribed for such term in the Change in Control Agreement.

(l) “Term” means the period commencing on the Effective Date and ending on the last business day of the Company’s fiscal year ending in 2009, provided that such period will be automatically extended for successive one-year periods ending on the last business day of each subsequent fiscal year, unless either party gives written notice of non-renewal to the other party at least six (6) months prior to the last business day of the Company’s fiscal year 2009, or the last business day of each subsequent fiscal year, as the case may be, that such party elects not to extend the Term under this Agreement.

 

- 3 -


2. Position and Duties . During employment with the Company, the Executive will perform such duties and responsibilities as the Company may assign from time to time. Executive will serve the Company faithfully and to the best of the Executive’s ability and will devote full working time, attention, and efforts to the business and affairs of the Company. Executive will follow and comply with applicable policies and procedures adopted by the Company from time to time, including without limitation policies relating to business ethics, conflict of interest, non-discrimination, confidentiality and protection of trade secrets, and insider trading. Executive will not engage in other employment or other material business activity, except as approved in writing by the Board. It shall not be a violation of this Agreement for the Executive to (i) serve on corporate, civic or charitable boards or committees or (ii) manage personal investments, so long as such activities do not materially interfere with the performance of the Executive’s responsibilities to the Company. Executive hereby represents and confirms that the Executive is under no contractual or legal commitments that would prevent the Executive from fulfilling Executive’s duties and responsibilities as set forth in this Agreement.

3. Compensation . During employment with the Company, the Executive will be provided with the following compensation and benefits:

(a) Base Salary. The Company will pay to the Executive for services provided hereunder a base salary at a rate determined from time to time by the Board, which base salary will be paid in accordance with the Company’s normal payroll policies and procedures.

(b) Incentive Compensation. Executive will be eligible to participate in an annual cash bonus plan of the Company as designated by the Board, in accordance with the terms and conditions of such plan as may be in effect from time to time.

(c) Employee Benefits. Executive will be entitled to participate in all employee benefit plans and programs generally available to executive employees of the Company, as determined by the Company and to the extent that the Executive meets the eligibility requirements for each individual plan or program. Executive’s participation in any plan or program will be subject to the provisions, rules, and regulations of, or applicable to, the plan or program. The Company provides no assurance as to the adoption or continuation of any particular employee benefit plan or program.

(d) Expenses. The Company will reimburse the Executive for all reasonable and necessary out-of-pocket business, travel, and entertainment expenses incurred by the Executive in the performance of duties and responsibilities to the Company during the Executive’s employment. Such reimbursement shall be subject to the Company’s normal policies and procedures for expense verification, documentation, and reimbursement.

4. Termination of Employment . Executive shall at all times be an employee at will, and either the Company or the Executive may terminate Executive’s employment with or without Cause at any time, with or without advance notice, subject to the obligations of the parties under this Agreement.

 

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5. Payments Upon Involuntary Termination . If the Executive’s Date of Termination occurs during the Term, and if such separation from service (A) is involuntary at the initiative of the Company for any reason other than Cause or Disability or at the initiative of the Executive for Good Reason, and (B) does not occur during a Protected Period, then, in addition to such compensation that has been earned but not paid to the Executive as of the Date of Termination, the Company will provide to the Executive the severance benefits set forth in this Section 5, subject to the conditions in Section 6.

(a) Separation Pay .

(i) The Company will pay to the Executive an amount equal to [ for CEO add: two times] the Executive’s Annual Cash Compensation, payable to the Executive in equal installments in accordance with the Company’s regular payroll practices and schedule over the [twelve (12)] [ for CEO: twenty-four (24)] month period following the Date of Termination, but in no event shall such amount paid under this Section 5(a)(i) exceed the lesser of (A) $460,000.00 or (B) two (2) times the Executive’s annualized compensation based upon the annual rate of pay for services to the Company for the calendar year prior to the calendar year in which the Date of Termination occurs (adjusted for any increase during that year that was expected to continue indefinitely if the Executive had not separated from service). The separation pay under this Section 5(a)(i) is intended to constitute a “separation pay plan due to involuntary separation from service” under Treas. Reg. § 1.409A-1(b)(9)(iii).

(ii) In the event that the amount payable to the Executive under Section 5(a)(i) is limited by Section 5(a)(i)(A) or (B) above, then the Company will also pay to the Executive a lump sum payment equal to the difference between (A)  [ for CEO add: two times] the Executive’s Annual Cash Compensation and (B) the amount payable under Section 5(a)(i). Such payment will be paid to the Executive in a lump sum on the earlier of: (x) the date that is six (6) months after the Date of Termination, or (y) the date of Executive’s death.

(b) Continued Benefits . If the Executive (and/or the Executive’s covered dependents) is eligible and properly elects to continue group medical and/or dental insurance coverage, as in place immediately prior to the Date of Termination, the Company will continue to pay the Company’s portion of any such premiums or costs of coverage until the earlier of (A)  [twelve (12)] [ for CEO: eighteen (18)] months after the Date of Termination, or (B) the date the Executive (and the Executive’s covered dependents) is provided such form of coverage by a subsequent employer. All such Company-provided medical and/or dental insurance premiums, or costs of coverage, will be paid directly to the insurance carrier or other provider by the Company and the Executive shall make arrangements with the Company to pay the Executive’s portion of such coverage in an amount equal to such portion that the Executive would pay if actively employed by the Company.

(c) Outplacement Services . For a period of up to one year following the Date of Termination, the Company will provide to the Executive executive-level outplacement services from a provider selected by the Company, with a total cost not to exceed

 

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$20,000.00. The Company shall pay (or, at its option, reimburse the Executive) for such services within ten days after its receipt of a statement from the service provider; provided that in no event shall reimbursements be paid to the Executive after the last day of the Executive’s third taxable year following the taxable year in which the Date of Termination occurs. The Executive shall not be eligible to receive cash in lieu of outplacement services.

6. Termination Payment Conditions . Notwithstanding anything above to the contrary, the Company will not be obligated to provide any benefits to the Executive under Section 5 hereof unless: (a) the Executive has signed a release of claims in favor of the Company and its affiliates and related entities, and their directors, officers, insurers, employees and agents, in a form prescribed by the Company (which release will not include any claims the Executive may have to indemnification or advancement of expenses with respect to the Executive’s actions as an officer or director of the Company); (b) all applicable rescission periods provided by law for releases of claims have expired and the Executive has not rescinded the release of claims; and (c) the Executive is in strict compliance with the terms of this Agreement, the Non-Disclosure Agreement and any other written agreements between the Company and the Executive as of the dates of such payments.

7. Other Terminations . If Executive’s Date of Termination occurs:

(a) by reason of Executive’s abandonment of employment or resignation from employment for any reason other than Good Reason;

(b) by reason of termination of Executive’s employment by the Company for Cause;

(c) because of Executive’s death or Disability;

(d) upon or following expiration of the Term; or

(e) during a Protected Period,

then the Company will pay to Executive, or Executive’s beneficiary or Executive’s estate, as the case may be, such compensation that has been earned but not paid to Executive as of the Date of Termination, payable pursuant to the Company’s normal payroll practices and procedures, and the Executive shall not be entitled to any additional compensation or benefits provided under this Agreement. In no event shall the Executive be entitled to payments in connection with any separation from service under both this Agreement and under the Change in Control Agreement.

8. Restrictive Covenants . At the same time as the Executive signs this Agreement, the Executive will sign the Non-Disclosure Agreement attached hereto as Exhibit A, among other things in consideration of the payments and benefits provided to the Executive pursuant to this Agreement.

9. Successors . This Agreement shall not be assignable, in whole or in party, by either party without the written consent of the other party, except that the Company may, without the consent of the Executive, assign or delegate all or any portion of its rights and obligations

 

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under this Agreement to any corporation or other business entity (i) with which the Company may merge or consolidate, (ii) to which the Company may sell or transfer all or substantially all of its assets or capital stock, or (iii) that is or becomes an Affiliated Organization. Any such current or future successor to which any right or obligation has been assigned or delegated shall be deemed to be the “Company” for purposes of such rights or obligations of this Agreement. In the event of the Executive’s death after the Executive has become eligible for any payments under Section 5 of this Agreement, all amounts payable to the Executive thereunder shall be paid to a beneficiary designated by the Executive in the form established by the Company or, if no such beneficiary is designated, then to the Executive’s estate, heirs or representatives.

10. Miscellaneous .

(a) Tax Withholding . The Company may withhold from any amounts payable under this Agreement such federal, state and local income and employment taxes as the Company shall determine are required or authorized to be withheld pursuant to any applicable law or regulation.

(b) Section 409A . This Agreement is intended to satisfy the requirements of sections 409A(a)(2), (3) and (4) of the Code, including current and future guidance and regulations interpreting such provisions, and should be interpreted accordingly.

(c) Governing Law . All matters relating to the interpretation, construction, application, validity, and enforcement of this Agreement will be governed by the laws of the State of Minnesota without giving effect to any choice or conflict of law provision or rule, whether of the State of Minnesota or any other jurisdiction, that would cause the application of laws of any jurisdiction other than the State of Minnesota.

(d) Jurisdiction and Venue . The Executive and the Company consent to jurisdiction of the courts of the State of Minnesota and/or the United States District Court, District of Minnesota, for the purpose of resolving all issues of law, equity, or fact arising out of or in connection with this Agreement. Any action involving claims of a breach of this Agreement must be brought in such courts. Each party consents to personal jurisdiction over such party in the state and/or federal courts of Minnesota and hereby waives any defense of lack of personal jurisdiction. Venue, for the purpose of all such suits, will be in Ramsey County, State of Minnesota.

(e) Waiver of Jury Trial . To the extent permitted by law, the Executive and the Company waive any and all rights to a jury trial with respect to any dispute arising out of or relating to this Agreement.

(f) Notice . Notices and all other communications provided for in the Agreement shall be in writing and shall be deemed to have been duly given when personally delivered, sent by reliable overnight courier or mailed by United States registered mail (or its equivalent for overseas delivery), return receipt requested, postage prepaid, and addressed as follows:

If to the Company:

H.B. Fuller Company

P.O. Box 64683

St. Paul, MN 55164-0683

Attention: General Counsel

If to the Executive, to the Executive’s most recent address on file with the Company

 

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or to such other address as either party may have furnished to the other in writing in accordance herewith, except that notices of change of address shall be effective only upon receipt.

(g) Modifications; Waiver . No provision of this Agreement may be modified, waived or discharged unless such waiver, modification or discharge is agreed to in writing signed by the Executive and the Company. No waiver by either party hereto at any time of any breach by the other party of, or compliance with, any condition or provision of this Agreement to be performed by such other party shall be deemed a waiver of similar or dissimilar provisions or conditions at the same or at any prior or subsequent time.

(h) Entire Agreement . This Agreement, the Change in Control Agreement, and the Non-Disclosure Agreement constitute the entire understandings and agreements between the Company and the Executive with regard to payments and benefits upon a termination of the Executive’s employment or other separation from service with the Company. This Agreement supersedes and renders null and void all prior agreements, offer letters, plans, programs or other undertakings between the parties with regard to such subject matter (other than those specifically referenced herein), whether written or oral.

IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first above written.

 

H.B. FULLER COMPANY
By:  

 

As its:  

 

[The Executive]

 

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EXHIBIT A

TO SEVERANCE AGREEMENT

NON-DISCLOSURE AND NON-COMPETITION

H.B. Fuller Company

H.B. Fuller’s continuing growth offers opportunity and security to all employees. This growth is dependent on specialized knowledge not generally known to other companies in the areas of research, technical service, production, marketing and management.

H.B. Fuller spends great amounts of money to obtain and use this specialized knowledge in the form of equipment, study and personnel. By far the largest contribution to this knowledge comes from our people.

This knowledge is only useful, obviously, when it remains with H.B. Fuller. Once the specialized information is generally known it eliminates any advantage to the company or to H.B. Fuller employees.

In other words, all H.B. Fuller employees have a common interest and responsibility in seeing that no one single employee uses this specialized information outside of the company to the detriment of the rest of the employees.

To help protect you and other employees, this Non-Disclosure and Non-Competition Agreement points out our common responsibility.

We ask that you read it very carefully before signing.

 

By:  

 

  President and Chief Executive Officer


H.B. Fuller Company

NON-DISCLOSURE AND NON-COMPETITION AGREEMENT

I am employed by or desire to be employed by H.B. Fuller in a capacity in which I may receive or contribute Confidential Information. To protect such Confidential Information, as well as H.B. Fuller’s other legitimate business interests, and in consideration of such employment or continued employment, the wages and benefits provided to me, being given access to Confidential Information, my rights under the Severance Agreement dated                      , 2008, and the other consideration set forth in this Agreement, H.B. Fuller and I agree as follows:

 

A. DEFINITIONS

In this Agreement the following definitions shall apply:

 

1. “H.B. Fuller” means H.B. Fuller Company and any of its existing or future subsidiaries, partnerships, joint ventures and affiliates.

 

2. “CONFIDENTIAL INFORMATION” means all confidential information of H.B. Fuller including, but not limited to, the following:

 

   

Product formulas, designs and specifications

 

   

Product and production know how, technologies and concepts

 

   

new Product ideas

 

   

testing methods, know how, techniques, concepts and results

 

   

customer lists including identities of existing and potential customers, identities of contacts or possible contacts at customers and prospective customers regardless of who at H.B. Fuller compiled such information

 

   

customer purchasing histories, pricing and other contract terms, product preferences, buying habits, business plans, Product plans and expectations

 

   

other information disclosed by customers and prospective customers to H.B. Fuller a) where disclosure of such information may be harmful to a customer or prospective customer; b) that the customer or prospective customer has informed H.B. Fuller is not to be disclosed to third parties; or c) where there is an expectation created through any means that H.B. Fuller will keep such information confidential

 

   

marketing studies, methods, plans and strategies

 

   

business relationships, contracts, methods, models, analyses, plans and strategies

 

   

new business ideas

 

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financial and accounting information including budgets, forecasts, projections, costs, prices, margins, profits and sales

 

   

supplier and potential supplier identity, sales history, pricing and other contract terms, business plans, and production plans

 

   

other information disclosed by suppliers and prospective suppliers to H.B. Fuller a) where disclosure of such information may be harmful to a supplier or prospective supplier; b) that the supplier or prospective supplier has informed H.B. Fuller is not to be disclosed to third parties; or c) where there is an expectation of confidentiality created through any means that H.B. Fuller will keep such information confidential

 

   

software ideas and programs

 

   

computer user identifiers, access codes and passwords and the like

 

   

personnel files and other information specific to individual H.B. Fuller employees

 

   

any other information which H.B. Fuller has an obligation to keep confidential

Information shall be considered Confidential Information regardless of the means, media or format in which it is maintained or communicated. Confidential Information shall not include information the entirety of which is now or subsequently becomes generally and publicly known, other than as a direct or indirect result of the breach of this Agreement by me or a breach of a confidentiality obligation owed to H.B. Fuller by any third party.

 

3. “INVENTIONS” means all formulas, processes, practices, methods, discoveries, improvements, ideas, devices, designs, apparatuses and works of authorship, whether or not patentable or copyrightable.

 

4. “PRODUCT” means any product, process, equipment, concept or service (in existence or under development).

 

5. “CONFLICTING PRODUCT” means any Product of any person or organization (other than H.B. Fuller ), that resembles or competes with an H.B. Fuller Product .

 

B. EMPLOYEE’S OBLIGATIONS TO H.B. FULLER

 

1. FULL-TIME COMMITMENT. I will devote my full-time and energy to furthering H.B. Fuller’s business. I will not pursue any other business activity without H.B. Fuller’s written consent if such business activity would otherwise violate this Agreement or any of H.B. Fuller’s policies on conflicts of interest or outside employment including H.B. Fuller’s Code of Ethics.

 

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2. WORK PRODUCT AND INVENTIONS.

(a) I agree that H.B. Fuller owns and shall continue to be the sole proprietor, in all countries, of all Inventions that I may learn of, have access to, have a part in developing, first conceive, or first reduce to practice (alone or jointly with others) (i) during my work with H.B. Fuller , whether or not during normal work time or at H.B. Fuller’s premises; (ii) at any time after termination of my employment with H.B. Fuller that relate directly to H.B. Fuller’s business or actual or anticipated research about which I became aware at anytime; (iii) at any time after termination of my H.B. Fuller employment if based on Confidential Information ; and/or (iv) at any time after termination of my H.B. Fuller employment that result from any of my work for H.B. Fuller. I agree to promptly disclose such Inventions to H.B. Fuller , and I hereby assign all right, title, and interest I may have in such Inventions to H.B. Fuller without charge to H.B. Fuller . In the absence of clear and convincing proof to the contrary, all Inventions conceived by me or first reduced to practice within one year after termination of H.B. Fuller employment that directly relate to H.B. Fuller business or demonstrably anticipated research will be considered to be Inventions to be disclosed to and owned by H.B. Fuller .

(b) I agree to deliver to H.B. Fuller accounts and records of all such Inventions set forth above in Section 2(a), and to execute all documents and oaths and to do such other acts as may be necessary or desirable in H.B. Fuller’s opinion to obtain, maintain, reissue, extend, or enforce patents or copyrights (including without limitation design patents or other applicable registrations) and to vest, perfect, affirm, and record the entire right, title, and interest in H.B. Fuller to such patents, copyrights and Inventions in all countries. I agree to assist in these regards without any obligation by H.B. Fuller to provide me with further compensation, royalties or payments (without charge but at no expense to myself).

(c) This Agreement does not obligate me to assign to H.B. Fuller any Invention developed entirely on my own time without the use of any H.B. Fuller equipment, supplies, facility or Confidential Information and (1) which does not relate (i) directly to H.B. Fuller business or (ii) to H.B. Fuller’s actual or demonstrably anticipated research or development; or (2) which does not result from any work performed by me for H.B. Fuller .

(d) I will promptly document all research according to H.B. Fuller policy, including H.B. Fuller’s policy in the laboratory notebooks assigned to me.

 

3. CONFIDENTIAL INFORMATION.

All Confidential Information disclosed to me or to which I have access during the period of my employment, which I have a reasonable basis to believe is Confidential Information , or which is treated or designated by H.B. Fuller as being Confidential Information , shall be presumed to be Confidential Information .

 

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(a) I acknowledge that H.B. Fuller has taken reasonable measures to preserve the secrecy of its Confidential Information , including, but not limited to, requiring me to execute this Agreement.

(b) I acknowledge that all of the items comprising Confidential Information are confidential, whether or not H.B. Fuller specifically labels such information as confidential or internally restricts access to such information. I acknowledge that H.B. Fuller may have separate policies in effect from time to time regarding protection of its Confidential Information . I agree to abide by these policies even if they more broadly define Confidential Information than this Agreement otherwise does or provide additional instructions on my use or disclosure of Confidential Information .

(c) I agree that Confidential Information , even though it may have been or may be developed or otherwise acquired by me, is the exclusive property of H.B. Fuller to be held by me in fiduciary capacity and solely for H.B. Fuller’s benefit. I agree that I will not at any time, either during or after my employment with H.B. Fuller , reveal, report, publish, transfer or otherwise disclose to any person or entity, or use, any Confidential Information , without the written consent of H.B. Fuller , except for the benefit of H.B. Fuller in connection with my employment consistent with H.B. Fuller’s policies. I agree to stop using any Confidential Information after the termination of my H.B. Fuller employment. I also agree to refrain from any acts or omissions that would reduce the value of any Confidential Information , and to take and comply with reasonable security measures to prevent any accidental or intentional disclosure or misappropriation.

 

4. NON-COMPETITION AND NON-SOLICITATION

In consideration of my employment (including future employment) by H.B. Fuller and the payments and benefits provided to me in compensation for my services, all increases in payments and benefits and promotions over the course of my employment by H.B. Fuller , my rights under the Severance Agreement, and in further consideration of my being given access to Confidential Information and H.B. Fuller’s other obligations as set forth in this Agreement, I agree that:

(a) During the term of my employment and for twenty-four (24) months after termination (for any reason and by either party) of my employment with H.B. Fuller :

(1) Before accepting employment with a potential employer or beginning work as a consultant or independent contractor (i) in an industry in which H.B. Fuller competes, (ii) with an entity that uses H.B. Fuller Products , or (iii) with an entity that supplies Products to H.B. Fuller , I will provide the potential employer or party engaging my services with a copy of this Agreement and will promptly notify H.B. Fuller in writing of my intention to accept work with such party;

(2) I will not directly or indirectly identify, contact, make sales calls on, make introductions to, accept business from, provide services, assistance or

 

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consulting to, with respect to any Conflicting Product , any entity or person who at any time within the two (2) year period prior to my employment termination (i) was a customer of H.B. Fuller with whom I had direct or indirect contact; (ii) was identified as a prospective customer of H.B. Fuller by me, at my direction or by another H.B. Fuller employee or contractor; (iii) was a customer or prospective customer to whom I directly or indirectly rendered assistance of any kind; or (iv) was a customer whose account I supervised or serviced for H.B. Fuller ;

(3) I will not encourage any H.B. Fuller customer or prospective customer to divert, terminate, limit, adversely modify, or fail to enter into any actual or potential business with H.B. Fuller ;

(4) I will not make statements, publicly or otherwise, that disparage H.B. Fuller , its Products or its conduct or that are otherwise adverse to H.B. Fuller’s interests;

(5) I will not serve in any capacity with, provide services to or have any interest in, whether as an owner, employee, consultant, or otherwise, any entity, organization or person engaged in the development, production or sale of any Conflicting Product , provided that ownership by me as a passive investment of less than 2% of the outstanding shares of capital stock of any corporation listed on a national securities exchange or publicly traded in the over-the-counter market shall not constitute a breach of this paragraph.

(b) During the term of my employment and for twenty-four (24) months after termination (for any reason and by either party) of my employment with H.B. Fuller I will not hire or induce, attempt to induce, or in any way assist or act in concert with any other person or organization in hiring, inducing or attempting to induce any employee, agent or consultant of H.B. Fuller to terminate such employee’s, agent’s or consultant’s relationship with H.B. Fuller .

 

5. RETURN OF H.B. FULLER PROPERTY

I agree that no later than termination of my H.B. Fuller employment, I will return all Confidential Information , any other information related to H.B. Fuller’s business or my H.B. Fuller work and all other H.B. Fuller property to H.B. Fuller that is in my possession or control, regardless of the format or location of such information. This includes all documents, computers and electronic storage devices such as flash drives, pdas, cds, dvds, floppy discs, keys, credit cards and software that belong to H.B. Fuller . Prior to the termination of my employment, I will advise H.B. Fuller as to whether I have used any computers or other electronic storage device in my possession or control (other than those belonging to H.B. Fuller ) to access, store or transmit Confidential Information or H.B. Fuller property and will make such computers or other electronic storage devices available to H.B. Fuller to allow H.B. Fuller to search for and permanently delete any such Confidential Information and other H.B. Fuller property that may still exist on such devices.

 

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I further agree that I will cooperate with H.B. Fuller in the transition of my duties and responsibilities for H.B. Fuller , and will participate in interviews or other meetings or proceedings without subpoena, at the request of H.B. Fuller , with any investigations or litigation relating to matters about which I have knowledge by virture of my employment by or service to H.B. Fuller .

 

C. OTHER PROVISIONS

 

1. I understand that I am free at any time to leave the employment of H.B. Fuller and, subject to the limitations set forth in this Agreement, to accept any job that utilizes my general education and skills.

 

2. I understand that these covenants are not intended to limit my post-termination employment in any industry or for any employer producing a product or providing a service different from H.B. Fuller’s . I acknowledge and represent that I have substantial experience and knowledge such that I can readily obtain employment that does not violate these covenants.

 

3. I represent and agree that I am aware of my right to discuss any and all aspects of this Agreement with my own attorney, that I have carefully read and fully understand all the provisions of this Agreement, and that I am voluntarily entering into this Agreement.

 

4. I acknowledge that H.B. Fuller has not asked or required me to, and I agree that I will not, violate the terms of any prior employment, confidentiality, non-competition or similar agreements to which I have been a party. The only such agreements to which I have been a party are as follows (copies of which I agree to provide H.B. Fuller as available):

 

 

(If none, please specify)

 

 

 

 

5. I agree not to disclose to H.B. Fuller , directly or indirectly, confidential information I have obtained from a third party under an obligation of secrecy, except with the specific consent of that third party.

 

6. My obligations under this Agreement shall be binding on my heirs, executors, administrators and assigns.

 

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7. If any dispute arises under this Agreement, I agree that this Agreement will be interpreted and construed under the laws of Minnesota. I also agree that all disputes arising out of or relating to this Agreement shall be brought, if at all, in a court located in Minnesota to the exclusion of the courts of any other state or jurisdiction. I agree that any court located in the Minnesota has jurisdiction over me in connection with any such disputes, regardless whether H.B. Fuller or I bring the claim or action.

 

8. I acknowledge and agree that the scope of Sections B and C is reasonable as to both time and extent of customer and other restrictions, that the provisions of the Agreement are reasonable and necessary for the protection of H.B. Fuller in its employment of me and its furnishing to me Confidential Information , and that my violation of this Agreement may subject me to discipline under H.B. Fuller’s discipline policies and will cause H.B. Fuller irreparable harm for which it will be entitled to (a) temporary and permanent injunctive relief without the necessity of proving actual damages, (b) money damages insofar as they can be determined, and (c) all related costs and reasonable attorneys’ fees.

 

9. The parties agree that if any provision of this Agreement is void or unenforceable for any reason, the remaining provisions will remain in full force and effect. If any particular provision of this Agreement adjudicated to be invalid or unenforceable, the parties specifically authorize the court making such determination to edit the invalid or unenforceable provision to allow this Agreement, and its provisions, to be valid and enforceable to the fullest extent allowed by law or public policy. I expressly stipulate that this Agreement shall be construed in a manner that renders its provisions valid and enforceable to the maximum extent (not exceeding its express terms) possible under applicable law.

 

10. The terms of this Agreement that relate to periods, activities, obligations, rights or remedies will survive termination of my employment with H.B. Fuller and will govern all rights, disputes, claims or causes of action arising out of or in any way related to this Agreement.

 

11. This Agreement, the Severance Agreement to which it is an exhibit, and the other documents referenced and incorporated in the Severance Agreement (including without limitation the Change in Control Agreement) (a) replace any prior agreement between H.B. Fuller and me relating to these subjects; (b) is the entire agreement between us concerning these subjects; (c) applies during my entire tenure with H.B. Fuller regardless of subsequent changes in position or compensation; and (d) cannot be amended or altered, nor any portion waived, except in writing signed by both parties. This Agreement is ancillary to my employment with H.B. Fuller and is not intended to govern aspects of that employment relationship not covered herein. The obligations in this Agreement are unconditional and do not depend on the performance or non-performance by H.B. Fuller of any terms, duties or obligations not specifically set forth in this Agreement. Nothing in this Agreement changes the fact that I am an “at will” employee of H.B. Fuller and that my employment with H.B. Fuller may be terminated at any time with or without cause and with or without notice. I further understand that any employment policies or other such materials that may be distributed to me during the course of my employment shall not be construed as a contract.

 

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12. I understand that my rights and obligations under this Agreement are not assignable or delegable by me. I agree that this Agreement is fully assignable by H.B. Fuller .

 

13. I will assert no patent or other rights against H.B. Fuller based on Inventions made by me prior to the date of this Agreement, except for rights under those Inventions described at the top of the next page:

 

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DO NOT WRITE ANYTHING CONFIDENTIAL

(Provide only a general description of such Inventions . If this will require disclosure of information you believe is confidential, consult the H.B. Fuller Human Resources Department before completing.)

 

 

 

 

 

      ACCEPTED at Vadnais Heights, Minnesota by H.B. Fuller Company.

 

    By  

 

Employee Name (please print)      

 

    Its  

 

Employee Signature      
Date  

 

    Date  

 

 

- 10 -

Exhibit 12

H.B. FULLER COMPANY

Computations of Ratios of Earnings to Fixed Charges and

Ratios of Earnings to Fixed Charges and Preferred Stock Dividends

(Thousands of Dollars)

 

     Six Months
Ended
May 31,
2008
   Fiscal Year
      2007    2006    2005    2004    2003

Ratio of Earnings to Fixed Charges:

                 

Earnings:

                 

Income before income taxes, minority interests, equity investments and accounting change

   $ 54,191    $ 136,887    $ 94,037    $ 73,400    $ 36,132    $ 44,198

Add:

                 

Interest expense

     7,282      13,589      17,824      13,213      14,650      15,514

Interest portion of rental expense

     319      625      987      1,181      1,158      1,207

Distributed earnings of 20-50% owned companies

     —        —        —        —        —        —  
                                         

Total Earnings Available for Fixed Charges

   $ 61,792    $ 151,101    $ 112,848    $ 87,794    $ 51,940    $ 60,919
                                         

Fixed charges:

                 

Interest on debt

   $ 7,037    $ 12,920    $ 17,526    $ 12,674    $ 14,490    $ 14,573

Interest portion of rental expense

     319      625      987      1,181      1,158      1,207
                                         

Total fixed charges

   $ 7,356    $ 13,545    $ 18,513    $ 13,855    $ 15,648    $ 15,780
                                         

Ratio of earnings to fixed charges

     8.4      11.2      6.1      6.3      3.3      3.9

Ratio of Earnings to Fixed Charges and Preferred Stock Dividends:

                 

Total fixed charges, as above

   $ 7,356    $ 13,545    $ 18,513    $ 13,855    $ 15,648    $ 15,780

Dividends on preferred stock (pre-tax basis)

     —        —        —        —        —        —  
                                         

Total fixed charges and preferred stock dividends

   $ 7,356    $ 13,545    $ 18,513    $ 13,855    $ 15,648    $ 15,780
                                         

Earnings available for fixed charges and preferred stock dividends

   $ 61,792    $ 151,101    $ 112,848    $ 87,794    $ 51,940    $ 60,919
                                         

Ratio of earnings to fixed charges and preferred stock dividends

     8.4      11.2      6.1      6.3      3.3      3.9

Exhibit 31.1

CERTIFICATION

I, Michele Volpi, certify that:

 

1. I have reviewed this report on Form 10-Q of H.B. Fuller Company;

 

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

 

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d–15(f)) for the registrant and have:

 

  a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;

 

  b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

  c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

  d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

 

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

 

  a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

 

  b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

Date: July 2, 2008

/s/ Michele Volpi

Michele Volpi
President and Chief Executive Officer

Exhibit 31.2

CERTIFICATION

I, James R. Giertz, certify that:

 

1. I have reviewed this report on Form 10-Q of H.B. Fuller Company;

 

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

 

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-115(e) and 15d-115(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d–15(f)) for the registrant and have:

 

  a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;

 

  b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

  c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

  d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

 

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

 

  a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

 

  b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

Date: July 2, 2008

/s/ James R. Giertz

James R. Giertz
Senior Vice President and Chief Financial Officer

Exhibit 32.1

CERTIFICATION

I, Michele Volpi, in connection with the Quarterly Report of H.B. Fuller Company on Form 10-Q for the quarter ended May 31, 2008 (the “Report”), hereby certify that:

 

  (a) the Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)), and

 

  (b) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of H.B. Fuller Company.

 

Date: July 2, 2008

/s/ Michele Volpi

Michele Volpi
President and Chief Executive Officer

Exhibit 32.2

CERTIFICATION

I, James R. Giertz, in connection with the Quarterly Report of H.B. Fuller Company on Form 10-Q for the quarter ended May 31, 2008 (the “Report”), hereby certify that:

 

  (a) the Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)), and

 

  (b) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of H.B. Fuller Company.

 

Date: July 2, 2008

/s/ James R. Giertz

James R. Giertz
Senior Vice President and Chief Financial Officer