Summary of EATON CORP - Yahoo! Finance

ITEM 2. MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS
Millions of dollars unless indicated otherwise (per share data assume dilution)
OVERVIEW OF EATON
Eaton Corporation is a diversified power management company with 2008 sales of $15.4 billion. Eaton is a global technology leader in electrical components and systems for power quality, distribution and control; hydraulics components, systems and services for industrial and mobile equipment; aerospace fuel, hydraulics and pneumatic systems for commercial and military use; and truck and automotive drivetrain and powertrain systems for performance, fuel economy and safety. Eaton has approximately 75,000 employees and sells products to customers in more than 150 countries.
In the first quarter of 2009, Eaton changed its business segment financial reporting structure. The Electrical segment was divided into Electrical Americas and Electrical Rest of World. The Hydraulics, Aerospace, Truck and Automotive segments continue as individual reporting segments. Accordingly, business segment information for prior years has been restated to conform to the current year's presentation. The change to the business segments did not affect net income for any of the periods presented.
The principal markets for the Electrical Americas and Electrical Rest of World segments are industrial, institutional, government, utility, commercial, residential, information technology and original equipment manufacturer customers. These products are used wherever there is a demand for electrical power in commercial buildings, data centers, residences, apartment and office buildings, hospitals and factories. Customers are generally concentrated in North America, Europe and Asia Pacific; however, sales are made globally. Sales are made directly and indirectly through distributors, resellers and manufacturers representatives.
The principal markets for the Hydraulics segment include oil and gas, renewable energy, marine, agriculture, construction, mining, forestry, utility, material handling, truck and bus, machine tools, molding, primary metals, power generation, and entertainment. Customers are generally concentrated in North America, Europe and Asia Pacific; however, sales are made globally. Sales are made directly and indirectly through distributors, resellers and manufacturers representatives.
The principal markets for the Aerospace segment are manufacturers of commercial and military aircraft and related after-market customers. Customers are located globally, and products are sold and serviced through a variety of channels. The principal markets for the Truck and Automotive segments are original equipment manufacturers and after-market customers of heavy-, medium-, and light-duty trucks, SUVs, CUVs and passenger cars. Customers are located globally, and most sales are made directly to these customers.

HIGHLIGHTS OF RESULTS FOR 2009

                                                                 Three months ended March 31
                                                           2009               2008           Decrease
Continuing operations
Net sales                                               $    2,813         $    3,496              (20 )%
Gross profit                                                   639                964              (34 )%
Percent of net sales                                          22.7 %             27.6 %
Income (loss) before income taxes                              (63 )              289
Income (loss) after income taxes                        $      (52 )       $      247
Income from discontinued operations                                                 3

Net income (loss)                                              (52 )              250
Adjustment of net income (loss) for noncontrolling
interests                                                        2                 (3 )

Net income (loss) attributable to Eaton                 $      (50 )       $      247


Net income (loss) per Common Share attributable to
Eaton Common Shareholders-assuming dilution
Continuing operations                                   $    (0.30 )       $     1.62
Discontinued operations                                                           .02

                                                        $    (0.30 )       $     1.64

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In the first quarter of 2009, net sales declined by 20% compared to the first quarter of 2008. The reduction reflected a 20% decline in organic growth, which primarily resulted from the global economic recession, and 8% from foreign exchange, partially offset by an 8% increase from acquisitions of businesses. The decline in organic growth resulted from end markets that fell 21% in the first quarter of 2009 compared to the first quarter of 2008, partially offset by 1% from outgrowing end markets. Acquisitions of businesses were primarily The Moeller Group, acquired on April 4, 2008, and Phoenixtec Power Company Ltd., acquired on February 26, 2008.
Gross profit declined by 34% in the first quarter of 2009 compared to the first quarter of 2008. The reduction was primarily due to the 20% decline in net sales discussed above; operating inefficiencies related to the difficulty in absorbing fixed manufacturing costs resulting from reduced sales; pretax charges of $65 resulting from actions to reduce the workforce, a substantial portion of which were recorded in cost of products sold; and higher acquisition integration charges of $21 in 2009 compared to $13 in 2008. These reductions in gross profit were partially offset by savings associated with employee reductions in 2008 and 2009 and the benefits of integrating recently acquired businesses, primarily Moeller and Phoenixtec.
In the first quarter of 2009, Eaton reported a net loss of $50 and a net loss per Common Share of $.30, compared to net income in the first quarter of 2008 of $247 and net income per share of $1.64. The declines were primarily due to lower net sales in 2009 resulting from the global economic recession and the factors that affected gross profit discussed above. Net loss per share was reduced due to a higher number of average shares outstanding in the first quarter of 2009 compared to the first quarter of 2008, resulting from the sale of 18.678 million shares in the second quarter of 2008.
Net cash provided by operating activities was $107 in the first quarter of 2009, an increase of $124 compared to cash used by operating activities of $17 in the first quarter of 2008. Operating cash flows in 2009 were reduced by the net loss of $50 in the first quarter of 2009 compared to net income of $247 in the first quarter of 2008. This effect on operating cash flows was more than offset by the $323 net reduction in working capital accounts in the first quarter of 2009 compared to the first quarter in 2008, primarily due to the impact on accounts receivable, inventory and other working capital accounts of lower levels of operations resulting from the global economic recession, and internal efforts to reduce the investment in working capital. Cash and short-term investments totaled $434 at March 31, 2009, down $96 from $530 at year-end 2008, reflecting the use of these assets to fund operating, investing and financing activities. Total debt of $4,187 at March 31, 2009 declined by $84 from $4,271 at year-end 2008. Eaton issued $550 of long-term debt in March 2009 through the sale of $250 of 5.95% Notes due 2014 and $300 of 6.95% Notes due 2019, with the cash proceeds from the sale of the Notes used to repay outstanding commercial paper. The net-debt-to-capital ratio was 38.1% at March 31, 2009 compared to 37.0% at the end of 2008, reflecting the combined effect during the first quarter of 2009 of the $84 decrease in total debt, the $96 decline in cash and short-term investments, and the $252 decrease in Eaton shareholders' equity, which primarily resulted from foreign currency translation adjustments of $183, cash dividends paid of $83, and the net loss of $50 in the first quarter of 2009. Net working capital of $1,497 at March 31, 2009 rose by $447 from $1,050 at the end of 2008. The increase was primarily due to short-term debt that was $601 lower at March 31, 2009 compared to the end of 2008, largely due to the repayment of $550 of commercial paper borrowings through the use of cash proceeds from the sale of $550 of long-term notes in March 2009 discussed above. Other working capital amounts declined by $154 primarily due to lower activity levels due to the global economic recession. The current ratio was 1.5 at March 31, 2009 and 1.3 at year-end 2008.
As of mid-April 2009, Eaton anticipates its end markets will decline between 15% and 16% for all of 2009 as the recovery in the U.S. and Western European economies is expected to be delayed one quarter, with the recovery now more likely to begin in the first quarter of 2010. As a result of the expected greater market decline in 2009, Eaton is continuing to adjust corporate-wide resource levels.

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RESULTS OF OPERATIONS - 2009 COMPARED TO 2008

                                                                 Three months ended March 31
                                                           2009               2008           Decrease
Continuing operations
Net sales                                               $    2,813         $    3,496              (20 )%
Gross profit                                                   639                964              (34 )%
Percent of net sales                                          22.7 %             27.6 %
Income (loss) before income taxes                              (63 )              289
Income (loss) after income taxes                        $      (52 )       $      247
Income from discontinued operations                                                 3

Net income (loss)                                              (52 )              250
Adjustment of net income (loss) for noncontrolling
Interests                                                        2                 (3 )

Net income (loss) attributable to Eaton                 $      (50 )       $      247


Net income (loss) per Common Share attributable to
Eaton Common Shareholders-assuming dilution
Continuing operations                                   $    (0.30 )       $     1.62
Discontinued operations                                                           .02

                                                        $    (0.30 )       $     1.64

Net sales in the first quarter of 2009 declined 20% compared to the first quarter of 2008. The reduction reflected a 20% decline in organic growth, which primarily resulted from the global economic recession, and 8% from foreign exchange, partially offset by an 8% increase from acquisitions of businesses. The decline in organic growth resulted from end markets that fell 21% in the first quarter of 2009 compared to the first quarter of 2008, partially offset by 1% from outgrowing end markets. Acquisitions of businesses were primarily Moeller, acquired on April 4, 2008, and Phoenixtec, acquired on February 26, 2008. These acquisitions increased the proportion of Eaton's sales outside of the United States.
Gross profit declined by 34% in the first quarter of 2009 compared to the first quarter of 2008. The reduction was primarily due to the 20% decline in net sales discussed above; operating inefficiencies related to the difficulty in absorbing fixed manufacturing costs resulting from reduced sales; pretax charges of $65 resulting from actions to reduce the workforce, a substantial portion of which were recorded in cost of products sold; and higher acquisition integration charges of $21 in 2009 compared to $13 in 2008. These reductions in gross profit were partially offset by savings associated with employee reductions in 2008 and 2009 and the benefits of integrating recently acquired businesses, primarily Moeller and Phoenixtec.
OTHER RESULTS OF OPERATIONS
Eaton took significant actions in 2008 to reduce the workforce in anticipation of the severe economic downturn, and in the first quarter of 2009 took further action. The reductions in 2008 and 2009 total approximately 10% of the full-time workforce. Pretax charges recorded in the first quarter of 2009 for these actions were $65. The workforce reduction charges were included in the Statements of Consolidated Income in Cost of products sold or Selling & administrative expense, as appropriate. In Business Segment Information, the charges reduced Operating profit of the related business segment.
In 2009 and 2008, Eaton incurred charges related to the integration of acquired businesses. These charges, which consisted of plant consolidations and integration, were recorded as expense as incurred. A summary of these charges follows:

                                               Three months ended
                                                    March 31
                                              2009            2008
                 Electrical Americas        $       1
                 Electrical Rest of World          16       $       3
                 Hydraulics                         1               2
                 Aerospace                          2               7
                 Automotive                         1               1

                 Pretax charges             $      21       $      13

                 After-tax charges          $      14       $       9
                 Per Common Share           $     .08       $     .06

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Charges in 2009 were related primarily to the integration of the following acquisitions: Integrated Hydraulics, Kirloskar, Moeller, Phoenixtec and Argo-Tech. Charges in 2008 were related primarily to the integration of the following acquisitions: the MGE small systems UPS business, Argo-Tech, Synflex, PerkinElmer and Cobham. The acquisition integration charges were included in the Statements of Consolidated Income in Cost of products sold or Selling & administrative expense, as appropriate. In Business Segment Information, the charges reduced Operating profit of the related business segment. During the first quarter of 2009, income tax benefits of $11 were recorded (a tax benefit rate of 17.1%) compared to income tax expense of $42 in the first quarter of 2008 (14.4% effective tax rate).
In the first quarter of 2009, Eaton reported a net loss of $50 and a net loss per Common Share of $.30, compared to net income in the first quarter of 2008 of $247 and net income per share of $1.64. The declines were primarily due to lower net sales in 2009 resulting from the global economic recession and the factors that affected gross profit discussed above. Net loss per share was reduced due to a higher number of average shares outstanding in the first quarter of 2009 compared to the first quarter of 2008, resulting from the sale of 18.678 million shares in the second quarter of 2008.
In the first quarter of 2009, Eaton adopted Statement of Financial Accounting Standards (SFAS) No. 160, "Noncontrolling Interests in Consolidated Financial Statements - an amendment of ARB No. 51". This Standard clarifies accounting and reporting for noncontrolling interests, sometimes called a minority interest, which is the portion of equity in a subsidiary not owned, directly or indirectly, by Eaton. As result of the adoption of this Standard, the Statements of Consolidated income and the Consolidated Balance Sheets were reclassified to report separately noncontrolling interests. The adoption of this Statement did not have a material effect on Eaton's consolidated financial position and results of operations.

RESULTS BY BUSINESS SEGMENT
Electrical Americas

                                        Three months ended March 31
                                    2009            2008         Decrease
               Net sales          $     859       $     911             (6 )%
               Operating profit         106             142            (25 )%
               Operating margin        12.3 %          15.6 %

Sales of the Electrical Americas segment declined 6% in the first quarter of 2009 compared to the first quarter of 2008. The decline consisted of a 3% decline in organic growth and a 3% decline from foreign exchange. The reduction in organic growth included 10% from lower end markets during the first quarter of 2009 compared to the first quarter of 2008, partially offset by a 7% increase from outgrowing end markets. Eaton's large project business held up well in the first quarter of 2009, but the short-cycle component businesses all registered steep declines. Eaton now anticipates end markets for the Electrical Americas segment are likely to decline by 12% for all of 2009.
Operating profit declined 25% in the first quarter of 2009 compared to the first quarter of 2008. The reduction was largely due to the 6% decline in net sales discussed above, operating inefficiencies related to the difficulty in absorbing fixed manufacturing costs resulting from reduced sales in 2009, and a changed sales mix. Operating profit in the first quarter of 2009 was also reduced by acquisition integration charges of $1, which reduced the operating margin by 0.1%.

Electrical Rest of World

                                            Three months ended March 31
                                                                     Increase
                                       2009              2008       (Decrease)
          Net sales                 $      544         $    393              38 %
          Operating profit (loss)           (6 )             18              NM
          Operating margin                (1.1 )%           4.6 %

Sales of the Electrical Rest of World segment increased 38% in the first quarter of 2009 compared to the first quarter of 2008. The increase consisted of a 70% increase from acquisitions of businesses, primarily Moeller, acquired on April 4, 2008, and Phoenixtec, acquired on February 26, 2008, partially offset by

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declines of 16% in organic growth and 16% from foreign exchange. The 16% decline in organic growth in the first quarter of 2009 included 18% from lower end markets compared to the first quarter of 2008, partially offset by a 2% increase from outgrowing end markets. End markets in Europe and Asia Pacific declined markedly in the first quarter of 2009 and reflected significant inventory destocking in most distribution channels as customers moved aggressively to reduce their inventory levels. Eaton is starting to see some signs that Asian markets are stabilizing, but has yet to see such signs in Europe. Eaton now anticipates end markets for the Electrical Rest of World segment are likely to decline by 9% for all of 2009.
Operating losses of $6 in the first quarter of 2009 compared to operating profit of $18 in the first quarter of 2008. The decline was largely due to the negative effect of foreign exchange and reduced operating profit related to the 16% decline in organic sales growth, partially offset by increased operating profit, before acquisition integration charges, from the acquired Moeller and Phoenixtec businesses. The decline in operating profit also was due to acquisition integration charges of $16 in 2009 that increased over similar charges of $3 in the first quarter of 2008. These charges reduced the operating margin by 2.9% in 2009 and 0.8% in 2008. Acquisition integration charges in 2009 primarily related to Moeller and Phoenixtec, while charges in 2008 related to the MGE small systems UPS business.
Hydraulics

                                        Three months ended March 31
                                    2009            2008         Decrease
               Net sales          $    430       $      657            (35 )%
               Operating profit          6               78            (92 )%
               Operating margin        1.4 %           11.9 %

Sales of the Hydraulics segment declined 35% in the first quarter of 2009 compared to the first quarter of 2008. The decline included a 31% decline in organic growth and a 5% decline from foreign exchange, partially offset by a 1% increase from acquisitions of businesses. Global hydraulics markets fell by 29% in the first quarter of 2009 compared to the first quarter of 2008, with non-U.S. markets down 29% and U.S. markets down 28%. Hydraulics markets in the first quarter of 2009 suffered from prolonged shutdowns and cancellations of orders by many original equipment manufacturers. In addition, distributor channel partners also significantly curtailed their level of orders. Eaton now anticipates end markets for the Hydraulics segment are likely to decline by 25% for all of 2009.
Operating profit declined 92% in the first quarter of 2009 compared to the first quarter of 2008. The reduction was primarily due to the 35% decline in net sales discussed above and operating inefficiencies related to the difficulty in absorbing fixed manufacturing costs resulting from reduced sales in 2009. Operating profit in the first quarter of 2009 was also reduced by acquisition integration charges of $1 compared to charges of $2 in the first quarter of 2008, which reduced the operating margin by 0.2% in 2009 and 0.3% in 2008. Charges in 2009 and 2008 related to Ronningen-Petter and Synflex.

Aerospace

                                        Three months ended March 31
                                                                 Increase
                                   2009             2008        (Decrease)
             Net sales          $      418       $      430              (3 )%
             Operating profit           71               63              13 %
             Operating margin         17.0 %           14.7 %

Net sales of the Aerospace segment declined 3% in the first quarter of 2009 compared to the first quarter of 2008. The decline reflected a 5% reduction from foreign exchange, partially offset by a 2% increase from organic growth. The increase in organic growth included a reduction of 4% from lower end markets in the first quarter of 2009 compared to the first quarter of 2008, more than offset by a 6% increase from outgrowing end markets. Aerospace markets declined 4% in the first quarter of 2009 compared to the first quarter of 2008, with non-U.S. markets down 13% and U.S. markets up 1%. Eaton anticipates the global aerospace market will decline by 5% in 2009. The decline is driven by reduced commercial passenger traffic and by a sharp decline in business jet production. Operating profit rose 13% in the first quarter of 2009 over the first quarter of 2008. The increase was primarily due to acquisition integration charges of $2 in the first quarter of 2009 which were reduced compared to charges of $7 in the first quarter of 2008. These charges reduced the operating margin by 0.5% in 2009 and 1.6% in 2008. The acquisition integration charges related to Argo-Tech, PerkinElmer and Cobham.

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Truck

                                            Three months ended March 31
                                        2009             2008        Decrease
           Net sales                 $      292        $     567           (49 )%
           Operating profit (loss)          (34 )             85            NM
           Operating margin               (11.6 )%          15.0 %

Net sales of the Truck segment declined 49% in the first quarter of 2009 from the first quarter of 2008. The decline included a 38% decline in organic growth and an 11% decline from foreign exchange. The reduction in organic growth was primarily due to OEM end markets that fell 27% in the first quarter of 2009 compared to the first quarter of 2008, with U.S. markets down 32% and non-U.S. markets down 20%. Also purchases of components by global truck manufacturers and aftermarket channel customers declined even more severely than truck production, as significant destocking occurred throughout the channel. Eaton now anticipates global truck markets will fall 22% for all of 2009.
Operating losses of $34 in the first quarter of 2009 compared to operating profit of $85 in the first quarter of 2008. The reduction was primarily due to the significant 49% reduction in sales in 2009 and operating inefficiencies related to the difficulty in absorbing fixed manufacturing costs resulting from reduced sales in 2009.

Automotive

                                            Three months ended March 31
                                        2009              2008       Decrease
           Net sales                 $       270        $    538           (50 )%
           Operating profit (loss)           (46 )            46            NM
           Operating margin                (17.0 )%          8.6 %

Sales of the Automotive segment declined 50% in the first quarter of 2009 from the first quarter of 2008. The decline included a 39% decline in organic growth and an 11% decline from foreign exchange. The decline in organic growth was primarily due to global automotive end markets that fell 40% in the first quarter of 2009 compared to the first quarter of 2008, with U.S. markets down 51% and non-U.S. markets down 35%. World automotive markets in the first quarter of 2009 suffered their sharpest decline in decades. Eaton now anticipates global automotive markets will fall by 23% for 2009, with U.S. production down 25% and non-U.S. production down 22%.
Operating losses of $46 in the first quarter of 2009 compared to operating profits of $46 in the first quarter of 2008. The reduction was primarily due to the significant 50% reduction in sales, operating inefficiencies related to the difficulty in absorbing fixed manufacturing costs resulting from reduced sales in 2009, and the cost of the workforce reductions undertaken in the first quarter of 2009. Operating profit was also reduced by acquisition integration charges of $1 in both the first quarter of 2009 and the first quarter of 2008, which reduced the operating margin by 0.4% and 0.2%, respectively. Acquisition charges in 2009 primarily related to the engine valve business of Kirloskar Oil Engines Ltd.
Corporate
Amortization of intangible assets of $42 in the first quarter of 2009 increased from $25 in the first quarter of 2008. The increase was due to amortization of intangible assets associated with recently acquired businesses, primarily the Moeller and Phoenixtec businesses.
Corporate pension & other postretirement benefit expense was $47 in the first quarter of 2009 compared to $38 in the first quarter of 2008. The increase was primarily due to the effect of updated actuarial assumptions, lower returns on pension plan assets due to the decline in asset values arising from the decline in world equity markets, and increased curtailment and settlement losses in 2009.

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CHANGES IN FINANCIAL CONDITION DURING 2009
Cash flow and working capital
Net cash provided by operating activities was $107 in the first quarter of 2009, an increase of $124 compared to cash used by operating activities of $17 in the first quarter of 2008. Operating cash flows in 2009 were reduced by the net loss . . .