FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1997 Commission file number 1-5318 KENNAMETAL INC. (Exact name of registrant as specified in its charter) PENNSYLVANIA 25-0900168 (State or other jurisdiction (I.R.S. Employer of incorporation) Identification No.) ROUTE 981 AT WESTMORELAND COUNTY AIRPORT P.O. BOX 231 LATROBE, PENNSYLVANIA 15650 (Address of registrant's principal executive offices) Registrant's telephone number, including area code: (724) 539-5000 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: TITLE OF EACH CLASS OUTSTANDING AT JANUARY 30, 1998 - ---------------------------------------- ------------------------------- Capital Stock, par value $1.25 per share 26,338,115
TABLE OF CONTENTS Item No. - -------- PART I. FINANCIAL INFORMATION 1. Financial Statements: Condensed Consolidated Balance Sheets (Unaudited) December 31, 1997 and June 30, 1997 Condensed Consolidated Statements of Income (Unaudited) Three and six months ended December 31, 1997 and 1996 Condensed Consolidated Statements of Cash Flows (Unaudited) Six months ended December 31, 1997 and 1996 Notes to Condensed Consolidated Financial Statements (Unaudited) 2. Management's Discussion and Analysis of Financial Condition and Results of Operations PART II. OTHER INFORMATION 4. Submission of Matters to a Vote of Shareholders 6. Exhibits and Reports on Form 8-K
PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS KENNAMETAL INC. CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) - --------------------------------------------------------------- (in thousands) December 31, June 30, 1997 1997 ------------ -------- ASSETS Current Assets: Cash and equivalents $ 29,265 $ 21,869 Accounts receivable, less allowance for doubtful accounts of $13,016 and $7,325 303,496 200,515 Inventories 403,866 210,111 Other current assets 41,091 25,384 ---------- -------- Total current assets 777,718 457,879 ---------- -------- Property, Plant and Equipment: Land and buildings 215,963 156,292 Machinery and equipment 632,791 473,850 Less accumulated depreciation (346,674) (329,756) ---------- -------- Net property, plant and equipment 502,080 300,386 ---------- -------- Other Assets: Investments in affiliated companies 11,191 11,736 Intangible assets, less accumulated amortization of $27,677 and $23,960 708,382 49,915 Deferred income taxes 31,079 34,307 Other 30,766 15,086 ---------- -------- Total other assets 781,418 111,044 ---------- -------- Total assets $2,061,216 $869,309 ========== ======== LIABILITIES Current Liabilities: Current maturities of term debt and capital leases $ 4,561 $ 13,853 Notes payable to banks 26,788 120,166 Accounts payable 90,727 60,322 Accrued payroll 24,004 3,294 Accrued vacation pay 21,103 18,176 Other 92,924 66,191 ---------- -------- Total current liabilities 260,107 282,002 ---------- -------- Term Debt and Capital Leases, Less Current Maturities 1,110,074 40,445 Deferred Income Taxes 35,516 21,055 Other Liabilities 73,749 57,060 ---------- -------- Total liabilities 1,479,446 400,562 ---------- -------- Minority Interest in Consolidated Subsidiaries 45,989 9,139 ---------- -------- SHAREHOLDERS' EQUITY Shareholders' Equity: Preferred stock, 5,000 shares authorized; none issued - - Capital stock, $1.25 par value; 70,000 shares authorized; 29,370 shares issued 36,712 36,712 Additional paid-in capital 151,623 91,049 Retained earnings 424,282 406,083 Treasury shares, at cost; 3,041 and 3,263 shares held (59,758) (62,400) Cumulative translation adjustments (17,078) (11,836) ---------- -------- Total shareholders' equity 535,781 459,608 ---------- -------- Total liabilities and shareholders' equity $2,061,216 $869,309 ---------- -------- See accompanying notes to condensed consolidated financial statements.
KENNAMETAL INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) - ----------------------------------------------------------------- (in thousands, except per share data) Three Months Ended Six Months Ended December 31, December 31, ------------------- ------------------- 1997 1996 1997 1996 -------- -------- -------- -------- OPERATIONS: Net sales $370,048 $273,435 $680,840 $548,638 Cost of goods sold 219,546 160,089 398,115 320,582 -------- -------- -------- -------- Gross profit 150,502 113,346 282,725 228,056 Research and development expenses 4,956 5,694 10,183 11,433 Selling, marketing and distribution expenses 79,056 64,771 147,627 127,790 General and administrative expenses 23,816 15,799 48,536 34,005 Amortization of intangibles 2,713 748 3,765 1,294 -------- -------- -------- -------- Operating Income 39,961 26,334 72,614 53,534 Interest expense 18,693 2,773 19,873 5,415 Other income (expense) (221) 608 (661) 1,235 -------- -------- -------- -------- Income before income taxes and minority interest 21,047 24,169 52,080 49,354 Provision for income taxes 10,000 9,400 22,100 19,200 Minority interest 1,473 202 2,858 384 -------- -------- -------- -------- Net income $ 9,574 $ 14,567 $ 27,122 $ 29,770 ======== ======== ======== ======== PER SHARE DATA: Basic earnings per share $ 0.36 $ 0.54 $ 1.03 $ 1.11 ======== ======== ======== ======== Diluted earnings per share $ 0.36 $ 0.54 $ 1.02 $ 1.11 ======== ======== ======== ======== Dividends per share $ 0.17 $ 0.17 $ 0.34 $ 0.32 ======== ======== ======== ======== Weighted average shares outstanding 26,273 26,758 26,223 26,743 ======== ======== ======== ======== Diluted average shares outstanding 26,669 26,923 26,565 26,904 ======== ======== ======== ======== See accompanying notes to condensed consolidated financial statements.
KENNAMETAL INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) - ----------------------------------------------------------------- (in thousands) Six Months Ended December 31, ----------------------- 1997 1996 -------- -------- OPERATING ACTIVITIES: Net income $27,122 $29,770 Adjustments for noncash items: Depreciation and amortization 25,060 20,275 Other 3,775 5,090 Changes in certain assets and liabilities, net of effects of acquisitions: Accounts receivable 218 21,665 Inventories (8,796) 902 Accounts payable and accrued liabilities 17,501 (12,748) Other (25,497) (14,175) -------- -------- Net cash flow from operating activities 39,383 50,779 -------- -------- INVESTING ACTIVITIES: Purchases of property, plant and equipment (29,307) (40,557) Disposals of property, plant and equipment 1,226 180 Acquisitions, net of cash (711,609) (17,665) Other (7,609) 3,056 -------- -------- Net cash flow used for investing activities (747,299) (54,986) -------- -------- FINANCING ACTIVITIES: Increase (decrease) in short-term debt (92,750) 11,939 Increase in term debt 758,238 200 Reduction in term debt (31,458) (6,180) Net proceeds from issuance and sale of subsidiary stock 90,445 - Dividend reinvestment and employee stock plans 8,606 1,915 Cash dividends paid to shareholders (8,923) (8,556) Other (7,384) - -------- -------- Net cash flow from (used for) financing activities 716,774 (682) -------- -------- Effect of exchange rate changes on cash (1,462) (163) -------- -------- CASH AND EQUIVALENTS: Net increase (decrease) in cash and equivalents 7,396 (5,052) Cash and equivalents, beginning 21,869 17,090 -------- -------- Cash and equivalents, ending $29,265 $12,038 ======== ======== SUPPLEMENTAL DISCLOSURES: Interest paid $16,030 $ 4,936 Income taxes paid 22,708 23,380 See accompanying notes to condensed consolidated financial statements.
KENNAMETAL INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - ---------------------------------------------------------------- 1. The condensed consolidated financial statements should be read in conjunction with the Notes to Consolidated Financial Statements included in the Company's 1997 Annual Report. The condensed consolidated balance sheet as of June 30, 1997 has been derived from the audited balance sheet included in the Company's 1997 Annual Report. These interim statements are unaudited; however, management believes that all adjustments necessary for a fair presentation have been made and all adjustments are normal, recurring adjustments. The results for the three months and six months ended December 31, 1997 are not necessarily indicative of the results to be expected for the full fiscal year. 2. Inventories are stated at lower of cost or market. Cost is determined using the last-in, first-out (LIFO) method for a significant portion of domestic inventories and the first-in, first-out (FIFO) method or average cost for other inventories. The Company used the LIFO method of valuing its inventories for approximately 56 percent of total inventories at December 31, 1997. Because inventory valuations under the LIFO method are based on an annual determination of quantities and costs as of June 30 of each year, the interim LIFO valuations are based on management's projections of expected year-end inventory levels and costs. Therefore, the interim financial results are subject to any final year-end LIFO inventory adjustments. 3. The major classes of inventory as of the balance sheet dates were as follows (in thousands): December 31, June 30, 1997 1997 ---------- -------- Finished goods $262,173 $183,961 Work in process and powder blends 123,662 50,351 Raw materials and supplies 57,691 16,494 -------- -------- Inventory at current cost 443,526 250,806 Less LIFO valuation (39,660) (40,695) -------- -------- Total inventories $403,866 $210,111 -------- -------- 4. The Company has been involved in various environmental cleanup and remediation activities at several of its manufacturing facilities. In addition, the Company has been named as a potentially responsible party at several Superfund sites in the United States. However, it is management's opinion, based on its evaluations and discussions with outside counsel and independent consultants, that the ultimate resolution of these environmental matters will not have a material adverse effect on the results of operations, financial position or cash flows of the Company. The Company maintains a Corporate Environmental, Health and Safety (EH&S) Department to facilitate compliance with environmental regulations and to monitor and oversee remediation activities. In addition, the Company has established an EH&S administrator at each of its domestic manufacturing facilities. The Company's financial management team periodically meets with members of the Corporate EH&S Department and the Corporate Legal Department to review and evaluate the status of environmental projects and contingencies. On a quarterly and annual basis, management establishes or adjusts financial provisions and reserves for environmental contingencies in accordance with Statement of Financial Accounting Standards (SFAS) No. 5, "Accounting for Contingencies." 5. The Financial Accounting Standards Board (FASB) recently issued SFAS No. 128, "Earnings Per Share" (SFAS No. 128) and SFAS No. 129, "Disclosure of Information about Capital Structures" (SFAS No. 129). SFAS No. 128 was issued in February 1997 and is effective for periods ending after December 15, 1997. This statement requires all prior ending earnings per share (EPS) data to be restated to conform to the provisions of the statement. This statement's objective is to simplify the computations of EPS and to make the U.S. standard for EPS computations more compatible with that of the International Accounting Standards Committee. The Company adopted SFAS No. 128 in the second quarter of fiscal 1998. Basic earnings per share for fiscal 1998 was computed using the weighted average number of shares outstanding during the period, while diluted earnings per share was calculated to reflect the potential dilution that occurs related to issuance of common stock under stock option grants. The difference between basic and diluted earnings per share relates solely to the effect of common stock options. SFAS No. 129 was issued in February 1997 and is effective for periods ending after December 15, 1997. This statement requires all companies to provide specific disclosure regarding their capital structure. SFAS No. 129 specifies the disclosure for all companies, including descriptions of their capital structure and the contractual rights of the holders of such securities. The Company adopted SFAS No. 129 in the second quarter of fiscal 1998. 6. On July 2, 1997, an initial public offering (IPO) of approximately 4.9 million shares of common stock at a price of $20.00 per share of JLK Direct Distribution Inc. (JLK), a subsidiary of the Company, was consummated. JLK operates the industrial supply operations consisting of the Company's wholly owned J&L Industrial Supply (J&L) subsidiary and its Full Service Supply programs. The net proceeds from the offering were approximately $90 million and represented approximately 20 percent of JLK's common stock. The transaction has been accounted for as a capital transaction in the Company's consolidated financial statements. The net proceeds were used by JLK to repay $20 million of indebtedness related to a dividend to the Company and $20 million related to intercompany obligations to the Company. The Company used these proceeds to repay short-term debt. Additional net proceeds of $14 million have been used to make acquisitions (see Note 7). The remaining net proceeds are loaned to the Company under an intercompany debt/investment and cash management agreement at a fluctuating rate of interest equal to the Company's short-term borrowing costs. The Company will maintain unused lines of credit to enable it to repay any portion of the borrowed funds as the amounts are due on demand by JLK. The Company today owns approximately 80 percent of the outstanding common stock of JLK and intends to retain a majority of both the economic and voting interests of JLK. 7. During the quarter ended December 31, 1997, the Company acquired Presto Engineers Cutting Tools Ltd., a manufacturer of industrial high-speed steel cutting tools, GRS Industrial Supply Company (GRS) and Car-Max Tool & Cutter Sales, Inc. (Car-Max). GRS and Car-Max are engaged in the distribution of metalcutting tools and industrial supplies. The combined companies had annual sales approximating $45 million. The acquisitions were accounted for using the purchase method of accounting. The consolidated financial statements include the operating results from the respective dates of acquisition. Pro forma results of operations have not been presented because the effects of these acquisitions were not significant. Additionally, on January 5, 1998, JLK acquired Production Tools Sales, Inc. (PTS), a metalworking distributor headquartered in Dallas, Texas. PTS had annual sales of $23 million in its latest fiscal year. On October 10, 1997, Kennametal and Kennametal Acquisition Corp. (Acquisition Corp.) entered into a Merger Agreement with Greenfield Industries, Inc. (Greenfield) pursuant to which Acquisition Corp. purchased at $38.00 per share on November 17, 1997, approximately 16,179,976 (98% of the outstanding) shares of Greenfield's common stock (Tender Offer). Pursuant to the Merger Agreement, a merger of Acquisition Corp. into Greenfield (Merger) occurred on November 18, 1997, and Greenfield became a wholly owned subsidiary of Kennametal on that date. The total purchase price for the acquisition of Greenfield (including estimated transaction costs and assumed Greenfield debt and convertible redeemable preferred securities of approximately $320 million) was approximately $1.0 billion. Pro forma results of operations for the acquisition of Greenfield, but excluding the effects of all other acquisitions, are based on the historical financial statements of the Company and Greenfield adjusted to give effect to the acquisition of Greenfield. The pro forma results of operations for the three and six months ended December 31, 1997 and 1996 assume that the acquisition of Greenfield occurred as of the first day of the Company's 1997 fiscal year (July 1, 1996). The pro forma financial information reflects the purchase method of accounting for the acquisition of Greenfield, and accordingly is based on estimated purchase accounting adjustments that are subject to further revision upon completion of appraisals or other studies of the fair value of Greenfield's assets and liabilities. The preliminary allocation of the estimated purchase price to assets acquired and liabilities assumed is as follows: Working capital, other than cash $ 205,712 Property plant and equipment 171,514 Other assets 1,685 Other liabilities ( 29,746) Long-term debt (325,502) Goodwill 632,133 --------- Net purchase price $ 655,796 ========= The pro forma financial information does not purport to present what the Company's results of operations would actually have been if the acquisition of Greenfield had occurred on the assumed date, as specified above, or to project the Company's financial condition or results of operations for any future period. Three months ended Six months ended December 31, December 31, (in thousands) 1997 1996 1997 1996 ------ ------ ------ ------ Net sales $465.0 $399.4 $915.6 $796.0 Net income $ 5.8 $ 9.2 $ 19.5 $ 17.6 Basic earnings per share $ 0.22 $ 0.34 $ 0.75 $ 0.66 Diluted earnings per share $ 0.22 $ 0.34 $ 0.74 $ 0.65 8. In connection with the acquisition of Greenfield, the Company, on November 17, 1997, entered into a $1.4 billion Credit Agreement (New Bank Credit Facility) with BankBoston, N.A., Deutsche Bank AG, New York Branch and/or Cayman Islands Branch, Mellon Bank N.A. and PNC Bank, National Association. As of December 31, 1997, the Company had borrowed $500 million under a term loan and approximately $490 million in revolving credit loans under the New Bank Credit Facility. Interest payable under the term loan and revolving credit loans are currently based on LIBOR plus 1.375. The proceeds from the loans were principally used to pay for the shares of common stock of Greenfield purchased in the Tender Offer and the Merger, to pay transaction costs, to refinance certain indebtedness of Greenfield, and to refinance certain indebtedness of the Company. Subject to certain conditions, the New Bank Credit Facility permits revolving credit loans of up to $900 million for working capital requirements, capital expenditures, and general corporate purposes. The New Bank Credit Facility was initially secured by all of the stock of certain of Kennametal's significant domestic subsidiaries, by guarantees of certain such subsidiaries and by 65% of the stock of Kennametal's significant foreign subsidiaries. On December 24, 1997, the stock held as security was released. The New Bank Credit Facility contains various restrictive covenants and affirmative covenants requiring the maintenance of certain financial ratios. The term loans under the New Bank Credit Facility are subject to mandatory amortization commencing on November 30, 1998, and all loans mature on August 31, 2002. 9. As a result of the Greenfield acquisition, the outstanding Greenfield convertible preferred securities (Greenfield securities) have been classified as long-term debt in the Company's consolidated balance sheet, as these securities no longer are convertible into Greenfield common stock. The holders of the Greenfield securities can convert these securities into the right to receive cash, including a conversion premium, or they can continue to remain outstanding until their due date of March 31, 2016. At December 31, 1997, approximately $89.5 million of these securities was included in long- term debt. As of January 31, 1998, approximately $23.8 million remained outstanding.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------- RESULTS OF OPERATIONS SALES AND EARNINGS - ------------------ During the quarter ended December 31, 1997, consolidated sales were $370 million, up 35 percent from $273 million in the same quarter last year. Excluding acquisitions and unfavorable foreign currency translation effects, sales increased 13 percent during the quarter. The 13 percent increase in sales was primarily attributable to continued higher sales of metalworking products in North America and Europe and from higher sales of industrial supplies sold through Kennametal's JLK Direct Distribution Inc. (JLK) subsidiary. Net income for the second quarter ended December 31, 1997, was $9.6 million, or $0.36 per share, as compared with net income of $14.6 million, or $0.54 per share in the same quarter last year. The results were reduced by approximately $10.6 million, or $0.40 per share as a result of the net effects of the Greenfield Industries, Inc. acquisition, which occurred on November 18, 1997. The $0.40 per share includes $0.18 per share for the amortization of financing fees related to the Greenfield acquisition. Excluding the effects of the Greenfield acquisition, earnings per share would have been $0.76 per share. During the six-month period ended December 31, 1997, consolidated sales were $681 million, up 24 percent from $549 million last year. Net income was $27.1 million, or $1.03 on a basic per share basis and $1.02 on a diluted basis, compared to $29.8 million, or $1.11 per share on a basic and diluted basis last year. The following table presents the Company's sales and geographic area information (in thousands): Three Months Ended Six Months Ended December 31, December 31, ------------------------ -------------------------- 1997 1996 % Change 1997 1996 % Change -------- -------- ------ -------- -------- ------ Metalworking: North America $ 99,228 $ 90,936 9% $196,495 $181,843 8% Europe 76,250 61,715 24 136,706 122,409 12 Asia Pacific 9,832 10,359 (5) 19,953 20,759 (4) Industrial Supply 97,423 74,090 31 196,474 147,368 33 Mining and Construction 38,707 36,335 7 82,604 76,259 8 Greenfield Industries 48,608 -- -- 48,608 -- -- -------- -------- ------ -------- -------- ---- Net sales $370,048 $273,435 35% $680,840 $548,638 24% ======== ======== === ======== ======== === By Geographic Area: Within the United States $239,214 $176,170 36% $449,177 $353,670 27% International 130,834 97,265 35 231,663 194,968 19 -------- -------- ------ -------- -------- ---- Net sales $370,048 $273,435 35% $680,840 $548,638 24% ======== ======== === ======== ======== === METALWORKING MARKETS - -------------------- Sales of traditional metalcutting products sold through all sales channels in North America, including sales through the Industrial Supply market, increased 15 percent during the December 1997 quarter, and 11 percent from the September 1997 quarter. This increase is attributable to broad-based gains in industrial production in most industries, and deeper and broader market and customer penetration. Sales, as reflected in the North America Metalworking market, increased 9 percent during the quarter. Sales in the Europe Metalworking market on a local currency basis increased 34 percent over the same quarter a year ago. Demand for metalworking products continued to show strong gains in nearly all industries in the European market. Sales also increased due to two recent acquisitions. Sales in the Europe Metalworking market, on a local currency basis excluding acquisitions, increased 17 percent and sales increased 7 percent including unfavorable currency effects. The Asia Pacific Metalworking market, representing only 3 percent of total sales, increased 6 percent on a local currency basis during the quarter. The results were affected by weak economic conditions across most Asia Pacific countries. Including unfavorable foreign currency translation effects, sales in this market decreased 5 percent. For the six-month period, sales in the North America Metalworking market increased 8 percent, sales in the Europe Metalworking market increased 12 percent, and sales in the Asia Pacific Metalworking market decreased 4 percent. INDUSTRIAL SUPPLY MARKET - ------------------------ Sales in the Industrial Supply market rose 31 percent as a result of increased sales through mail order and from acquisitions. Sales increased primarily because of an expanded product offering, from acquisitions and from further penetration of existing customers. Excluding acquisitions, sales increased approximately 16 percent. Additionally, during the quarter, JLK acquired Car- Max Tool & Cutter, Inc. and GRS Industrial Supply Company, and on January 5, 1998, it acquired Production Tools Sales, Inc. The three companies had combined annual sales of approximately $47 million. For the six-month period, sales in the Industrial Supply market increased 33 percent. MINING AND CONSTRUCTION MARKET - ------------------------------ During the December 1997 quarter, sales in the Mining and Construction market increased 7 percent from last year as a result of increased domestic demand for highway construction tools. Domestic sales of mining tools were flat. International sales of mining and highway construction tools were flat during the quarter. For the six-month period, sales of mining and construction tools increased 8 percent. GREENFIELD INDUSTRIES - --------------------- Sales of Greenfield Industries, Inc. from the period November 18, 1997 to the end of the quarter rose 10 percent from the same period of a year ago. GROSS PROFIT MARGIN - ------------------- As a percentage of sales, gross profit margin for the December 1997 quarter was 40.7 percent as compared with 41.5 percent in the prior year. Excluding the effects of the Greenfield acquisition, the gross profit margin would have been 42.7 percent. The gross profit margin increased primarily as a result of productivity improvements related in part to the Focused Factory initiative, from higher production levels and, to a lesser extent, from a more favorable sales mix. This increase was partially offset by unfavorable foreign currency translation effects. For the six-month period, the gross profit margin was 41.5 percent, compared with 41.6 percent last year. The gross profit margin declined slightly as a result of the acquisition of Greenfield and a less favorable sales mix. This decline was partially offset by productivity improvements related to the Focused Factory initiative and improved manufacturing efficiencies due to higher production volumes. OPERATING EXPENSES - ------------------ For the quarter ended December 31, 1997, operating expenses as a percentage of sales were 29.1 percent compared to 31.5 percent last year. Operating expenses were controlled despite higher costs related to acquisitions, higher sales volumes and from the JLK showroom expansion program. Additionally, amortization of intangibles increased approximately $2.0 million related primarily to the Greenfield acquisition. For the six-month period, operating expenses as a percentage of sales were 30.3 percent compared to 31.6 percent last year. Operating expenses, on an absolute dollars basis, increased primarily because of the acquisition of Greenfield, higher costs to support the JLK expansion program and higher costs associated with other acquisitions. INTEREST EXPENSE - ---------------- Interest expense for the December 1997 quarter increased $15.9million as a result of increased borrowings, including approximately $8.0 million for the amortization of financing fees related to the acquisition of Greenfield. For the six-month period, interest expense was $19.9 million compared to $5.4 million last year. INCOME TAXES - ------------ The effective tax rate for the December 1997 quarter was 47.5 percent compared to an effective tax rate of 38.9 percent in the prior year. The increase in the effective tax rate aligns the year-to-date rate with an expected fiscal 1998 rate that is anticipated to be higher as a result of the Greenfield acquisition. For the six-month period, the effective tax rate was 42.4 percent compared to 38.9 percent in the prior year. LIQUIDITY AND CAPITAL RESOURCES - ------------------------------- The Company's cash flow from operations is the primary source of financing for capital expenditures and internal growth. During the six months ended December 31, 1997, the Company generated approximately $39 million in cash from operations. The decrease in cash provided by operations resulted from lower net income and higher incremental working capital requirements offset in part by higher noncash items. Net cash used in investing activities was $747 million. The increase in net cash used in investing activities primarily resulted from the acquisition of Greenfield Industries. Cash used in investing activities also increased due to the acquisitions of Rubig G.m.b.H., Presto Engineers Cutting Tools Ltd., GRS Industrial Supply Company and Car-Max Tool & Cutter Sales, Inc. Net cash flow from financing activities was $717 million. The increase in net cash from financing activities was a result of increased borrowings under the New Bank Credit Facility to finance the acquisition of Greenfield, the assumption of Greenfield's debt, and dividends. Net cash flow from financing activities also increased because of proceeds received from the issuance of common stock of the Company's JLK subsidiary. On October 10, 1997, Kennametal and Acquisition Corp. entered into the Merger Agreement with Greenfield pursuant to which Acquisition Corp. purchased at $38.00 per share on November 17, 1997, approximately 16,179,976 (98% of the outstanding) shares of Greenfield's common stock. The Merger occurred on November 18, 1997, and Greenfield became a wholly owned subsidiary of Kennametal on that date. The total purchase price for the acquisition of Greenfield (including estimated transaction costs and assumed Greenfield debt and convertible redeemable preferred securities of approximately $320 million) was approximately $1.0 billion. In connection with the acquisition of Greenfield, the Company, on November 17, 1997, entered into a $1.4 billion New Bank Credit Facility with BankBoston, N.A., Deutsche Bank AG, New York Branch and/or Cayman Islands Branch, Mellon Bank N.A. and PNC Bank, National Association. As of December 31, 1997, the Company had borrowed $500 million under a term loan and approximately $490 million in revolving credit and swingline loans under the New Bank Credit Facility. The proceeds from the loans were principally used to pay for the shares of common stock of Greenfield purchased in the Tender Offer and the Merger, to pay transaction costs, to refinance certain indebtedness of Greenfield, and to refinance certain indebtedness of the Company. Subject to certain conditions, the New Bank Credit Facility permits revolving credit loans of up to $900 million for working capital requirements, capital expenditures, and general corporate purposes. The New Bank Credit Facility was initially secured by all of the stock of certain of Kennametal's significant domestic subsidiaries, by guarantees of certain such subsidiaries and by 65% of the stock of Kennametal's significant foreign subsidiaries. On December 24, 1997, the stock held as security was released. The New Bank Credit Facility contains various restrictive covenants and affirmative covenants requiring the maintenance of certain financial ratios. The term loans under the New Bank Credit Facility are subject to mandatory amortization commencing on November 30, 1998 and all term and revolving credit loans mature on August 31, 2002. On January 23, 1998, the Company decided to postpone its proposed offerings of approximately $450 million of equity and equity-related securities and $450 million of senior debt securities due to a decline in its stock price. The proceeds of such offerings would have been used to make prepayments of outstanding borrowings under the New Bank Credit Facility. The Company intends to proceed with appropriate offerings when stock market conditions are favorable. In anticipation of the proposed senior debt securities offering, the Company also entered into three one-month interest rate hedges on an aggregate notional value of $225 million under a treasury lock arrangement in order to reduce its exposure to fluctuations in interest rates. The interest rate hedges met the criteria required to use hedge accounting. As a result of the postponement of the planned offerings, the Company decided to terminate the interest rate hedges. This was due in part to the uncertainty of when the Company would re-enter the market in the future. As a result, the Company will recognize a loss of approximately $3.5 million in its third quarter ending March 31, 1998, to terminate the interest rate hedges. The termination of the interest rate hedges has eliminated any further earnings impact from these hedges due to changes in interest rates. Total assets were $2.1 billion at December 31, 1997, up from $869 million at June 30, 1997. Net working capital was $518 million, up from $176 million at June 30, 1997, and the ratio of current assets to current liabilities was 3.0 as of December 31, 1997 and 1.6 as of June 30, 1997. Also, the debt to capital ratio (i.e., total debt divided by the sum of total debt and shareholders' equity) was 66.2 percent as of December 31, 1997, and 27.5 percent as of June 30, 1997. The most significant event that affected the Company's financial condition during the quarter was the acquisition of Greenfield Industries. OUTLOOK - ------- In looking to the third quarter ending March 31, 1998, management expects Kennametal's consolidated sales to increase over the third quarter of a year ago. Sales in the North America Metalworking market should benefit from continuing strong market conditions in the United States. Sales in the Europe Metalworking market are also expected to benefit from steadily improving market conditions throughout Europe, especially in Germany. Sales in the Asia Pacific Metalworking market are expected to remain weak. Sales in the Industrial Supply market should benefit from expansion of locations, increased mail order sales as a result of the expanded product offering in the new J&L Industrial Supply master catalog, and from acquisitions offset in part by the loss of the General Electric Full Service Supply contract. Sales in the Mining and Construction market should increase from additional domestic demand. Sales by Greenfield are expected to benefit as a result of the factors mentioned previously. This Form 10-Q contains "forward-looking statements" as defined in Section 21E of the Securities Exchange Act of 1934. Actual results can materially differ from those in the forward-looking statements to the extent that the anticipated economic conditions in the United States, Asia Pacific and Europe are not sustained. The Company undertakes no obligation to publicly release any revisions to forward-looking statements to reflect events or circumstances occurring after the date hereof.
PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - ------------------------------------------------------------ The information set forth in Part II, Item 4 of the Company's September 30, 1997 Form 10-Q is incorporated by reference herein. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K - ----------------------------------------- (a) Exhibits (10) Material Contracts 10.1 Letter agreement dated May 5, 1997 between Greenfield Industries, Inc. and Paul W. Jones (incorporated herein by reference to Exhibit 10.2 of the Form 10-Q of Greenfield Industries, Inc. ("Greenfield") for the quarterly period ended June 30, 1997). 10.2 Credit Agreement, dated as of November 17, 1997, by and among the Company, as Borrower, the Lender Parties named therein, and Mellon Bank, N.A., as Administrative Agent (incorporated herein by reference to Exhibit (b)(2) to the Company's Schedule 14D-1 dated October 17, 1997, as amended). 10.3 Guaranty and Suretyship Agreement, dated as of November 17, 1997, made by the Subsidiary Guarantor named therein in favor of Mellon Bank, N.A., as Collateral Agent, as supplemented by the Additional Subsidiary Guarantor Supplement, dated as of November 18, 1997, made by Greenfield (incorporated herein by reference to Exhibit (b)(3) to the Company's Schedule 14D-1, as amended, and Exhibit 10.2 of Greenfield's Current Report on Form 8-K dated November 17, 1997). (27) Financial Data Schedule for six months ended December 31, 1997, submitted to the Securities and Exchange Commission in electronic format. Filed Herewith. (99) Additional Exhibits. Press Release dated January 23, 1998. Filed Herewith. (b) Reports on Form 8-K A report on Form 8-K dated November 20, 1997, Amendment No. 1 dated December 31, 1997, and Amendment No. 2 dated January 20, 1998, were filed during and subsequent to the quarter ended December 31, 1997, and related to the Company's acquisition of Greenfield Industries, Inc. 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. KENNAMETAL INC. Date: February 13, 1998 By: /s/ RICHARD J. ORWIG --------------------- Richard J. Orwig Vice President Chief Financial and Administrative Officer