2005 Annual Report - Investor Relations - Sherwin-Williams

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS offset increased selling, general and administrative expenses of $187.3 million. The increased gross profit was adversely affected by rising raw material prices. As a percent of sales, consolidated gross profit in 2004 decreased to 44.2 percent from 45.4 percent in 2003. The decrease in gross profit as a percent of sales was due primarily to raw material cost increases and $12.3 million in impairment charges that included a $9.8 million charge for a customer sales incentive program. The Paint Stores Segment’s gross profit for 2004 increased $238.8 million due primarily to increased sales volume and the acquisition of Duron. In the Consumer Segment, gross profit for 2004 decreased due primarily to the year-over-year impact of a $12.3 million impairment charge in 2004 for certain intangible assets and a customer sales incentive program and sharply increasing raw material costs. The Automotive Finishes Segment’s gross profit improved over 2003 due to domestic and foreign sales volume increases, sales of higher margin new products and profits of the Kinlita acquisition. The International Coatings Segment’s 2004 gross profit increased due to the net sales gain and operating efficiencies related to additional manufacturing volume. Consolidated SG&A increased $187.3 million in 2004 due primarily to expenses associated with additional investment in our businesses but decreased as a percent of sales to 33.8 percent in 2004 from 34.8 percent in 2003. In the Paint Stores Segment, SG&A increased $162.0 million in 2004 due primarily to incremental expenses associated with increased sales volume, continued investments in new stores and acquisitions. The Consumer Segment’s 2004 SG&A decreased and the percentage of sales ratio was favorable to 2003 due primarily to continued cost control. In the Automotive Segment, SG&A as a percent of sales remained flat with 2003. Lower expenses associated with the Kinlita acquisition were offset by incremental expenses associated with the opening of new branches in this Segment. In the International Coatings Segment, SG&A decreased in U.S. dollar spending and declined as a percentage of sales in 2004 due primarily to increased sales levels, favorable currency exchange fluctuations and tight expense control. In addition to an impairment charge of $2.1 million for a reduction in the carrying value of certain capitalized software, the Administrative Segment’s SG&A increased in 2004 due to normal increases in administrative spending and increased expenses of results-related employee benefits. The Administrative Segment’s operating loss was also higher in 2004 due to higher interest expense and more environmental-related provisions. The annual impairment review performed as of October 1, 2004 in accordance with FAS No. 142, resulted in reductions in the carrying value of certain trademarks with indefinite lives of $2.5 million, which was charged to Cost of goods sold in the Consumer Segment. The impairment of trademarks with indefinite lives was due to a reduction in estimated discounted cash flows for certain product lines. In addition, the Company also recorded impairments due to change in circumstances in accordance with FAS No. 144 for capitalized software of $2.1 million, which was charged to the Administrative Segment’s SG&A, and a customer sales incentive program of $9.8 million, which was charged to Net sales in the Consumer Segment. In 2003, an impairment charge was recorded in SG&A of the Consumer Segment for $1.0 million due to the reduction in fair values of indefinite-lived intangible assets. An impairment charge of $11.4 million for capitalized software was also recorded in 2003 and charged to SG&A in the Consumer and Administrative Segments. Interest expense increased $1.2 million in 2004 versus 2003 due to increased short-term borrowing and rates that were 125 average basis points higher in 2004 than in 2003. Other expense – net decreased $.8 million in 2004 compared to 2003. A decrease in net expense of financing and investing activities and an increase in other miscellaneous income items more than offset a $3.7 million increase in provisions for environmental-related matters. Income before income taxes, minority interest and cumulative effect of change in accounting principle increased $57.3 million primarily as a result of increased gross profit exceeding SG&A by $58.9 million. Net income increased $61.2 million in 2004 due primarily to the increased sales volume, the accretion to net income by acquisitions of $4.7 million and the favorable effect of a reduction in the effective tax rate to 32.0 percent in 2004 from 36.5 percent in 2003. The reduction in the effective tax rate was due to better performance in the foreign operations which are taxed at lower rates, favorable changes in the tax laws, increases in the favorable effect of tax credit investments and an increase in deductible dividends under the Company’s ESOP. For the year, diluted net income per common share increased to $2.72 per share from $2.26 per share in 2003. 36
REPORT OF MANAGEMENT ON THE CONSOLIDATED FINANCIAL STATEMENTS Shareholders The Sherwin-Williams Company We are responsible for the preparation and fair presentation of the consolidated financial statements, accompanying notes and related financial information included in this report of The Sherwin-Williams Company and its consolidated subsidiaries (collectively, the “Company”) as of December 31, 2005, 2004 and 2003 and for the years then ended in accordance with accounting principles generally accepted in the United States. The consolidated financial information included in this report contains certain amounts that were based upon our best estimates, judgments and assumptions that we believe were reasonable under the circumstances. We have conducted an assessment of the effectiveness of internal control over financial reporting based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. As discussed in the Report of Management on Internal Control Over Financial Reporting, we concluded that the Company’s internal control over financial reporting was effective as of December 31, 2005. The Board of Directors pursues its responsibility for the oversight of the Company’s accounting policies and procedures, financial statement preparation and internal control over financial reporting through the Audit Committee, comprised exclusively of independent directors. The Audit Committee is responsible for the appointment and compensation of the independent registered public accounting firm. The Audit Committee meets at least quarterly with financial management, internal auditors and the independent registered public accounting firm to review the adequacy of financial controls, the effectiveness of the Company’s internal control over financial reporting and the nature, extent and results of the audit effort. Both the internal auditors and the independent registered public accounting firm have private and confidential access to the Audit Committee at all times. We believe that the consolidated financial statements, accompanying notes and related financial information included in this report fairly reflect the form and substance of all material financial transactions and fairly present, in all material respects, the consolidated financial position, results of operations and cash flows as of and for the periods presented. C. M. Connor Chairman, President and Chief Executive Officer S. P. Hennessy Senior Vice President - Finance and Chief Financial Officer J. L. Ault Vice President - Corporate Controller 37
Page 1 and 2: The Sherwin-Williams Company 2005 A
Page 3 and 4: ON THE COVER: In 1890, the original
Page 5 and 6: LETTER TO SHAREHOLDERS portion of t
Page 7 and 8: This past year, we realigned our ma
Page 9 and 10: PAINT STORES SEGMENT to maximize co
Page 11 and 12: CONSUMER SEGMENT Williamsburg Color
Page 13 and 14: AUTOMOTIVE FINISHES SEGMENT The lau
Page 15 and 16: INTERNATIONAL COATINGS SEGMENT to t
Page 17 and 18: STRENGTH IN NUMBERS IN ADDITION TO
Page 19 and 20: COMMITTED TO FINANCIAL EXCELLENCE F
Page 21 and 22: FINANCIAL SUMMARY (millions of doll
Page 23 and 24: MANAGEMENT’S DISCUSSION AND ANALY
Page 37: MANAGEMENT’S DISCUSSION AND ANALY
Page 41 and 42: REPORT OF THE INDEPENDENT REGISTERE
Page 43 and 44: REPORT OF THE INDEPENDENT REGISTERE
Page 45 and 46: STATEMENTS OF CONSOLIDATED INCOME (
Page 47 and 48: STATEMENTS OF CONSOLIDATED SHAREHOL
Page 49 and 50: NOTES TO CONSOLIDATED FINANCIAL STA
Page 75 and 76: SHAREHOLDER INFORMATION Annual Meet
Page 77 and 78: 2005 BOARD OF DIRECTORS 1 SUSAN J.

2005 Annual Report - Investor Relations - Sherwin-Williams

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