Changes in the components of working capital included an increase in short-term borrowings incurred during the year through the use of a portion of the Company's commercial paper program, which had unused borrowing availability of $433.8 million at December 31, 1996. This program is fully backed by the Company's revolving credit agreements. Other current assets increased $113.7 million, of which approximately $56.0 million is related to a settlement receivable with certain insurance carriers pertaining to environmental-related matters, and approximately $68.0 million is related to various assets acquired, including the Company's investment in a subsidiary in Chile which was not consolidated at December 31, 1996. Increased current deferred income taxes related primarily to the tax effects of purchase accruals recorded in connection with acquisitions. Increases in other components of working capital occurred primarily due to the effects of the acquisitions and related increases in sales and manufacturing activity. The Company's current ratio declined to 1.35 at December 31, 1996. The decrease in this ratio from 2.0 at the end of 1995 occurred primarily due to the increased short-term borrowings and related decreases in cash and cash equivalents and short-term investments. 

Deferred pension assets, totaling $254.4 million at December 31, 1996, represent the excess fair market value of the assets in the defined benefit pension trusts over the actuarially-determined projected benefit obligations. The 1996 increase in deferred pension assets resulted primarily from net deferred pension assets acquired combined with the recognition of the net pension credit further described in Note 6. The actual return on plan assets of the defined benefit pension plans exceeded the assumed asset earnings rate of 8.5 percent primarily due to favorable actual returns realized on equity investments. These excess earnings are deferred, decreasing the cumulative unrecognized net loss. The effect of this decrease, combined with an increased asset base, will increase the net pension credit in 1997. The increase in goodwill of $507.7 million and the increase in intangible and other long-term assets of $54.7 million primarily relates to acquisitions of $612.5 million offset by amortization expense of $27.4 million and other reductions in long-term assets from 1995. Goodwill represents the excess cost over fair value of net assets acquired in purchase business combinations, and intangible assets represent the cost of trademarks and other intangibles acquired. 

Net property, plant and equipment increased $93.0 million during 1996 primarily due to capital expenditures of $122.7 million and net fixed assets acquired of $55.6 million, offset partially by depreciation expense of $76.2 million and dispositions or retirements of certain assets. Capital expenditures in 1996 represented primarily the costs of upgrading or installing point-of-sale computer systems in paint stores, relocating or remodeling paint stores, new powder coatings manufacturing facilities, and upgrading distribution centers and manufacturing facilities. The increase in capital expenditures in the Paint Stores Segment in 1996 occurred primarily due to the upgrade or installation of new point-of-sale computer systems in most of the Segment's stores. In the Coatings Segment, increased capital expenditures in 1996 relating to a new Brazilian manufacturing facility in the Coatings Division were offset by lower construction costs in the Transportation Services and Automotive Divisions due to the 1995 completion of distribution centers in Fredericksburg, Pennsylvania and Richmond, Kentucky. Capital expenditures in the Corporate area increased due to the increased cost of a replacement aircraft. In 1997, the most significant planned capital expenditures are the continued replacement of point-of-sale computer systems in the paint stores, the construction of a 695,000 square foot distribution center in Reno, Nevada and various productivity improvement projects at manufacturing facilities. The Company will continue to invest strategically in upgrading or expanding its facilities and equipment. We do not anticipate the need for any specific external financing to support these capital programs. Total assets grew to just under $3.0 billion during 1996, an increase of $853.5 million from December 31, 1995. 

Long-term debt increased $118.7 million to $142.7 million at December 31, 1996. The issuance of two $50.0 million floating term notes in conjunction with the purchase of Pratt & Lambert and the subsequent refinancing of their existing debt and the issuance of various fixed rate notes totaling $22.0 million in conjunction with other acquisitions accounted for the majority of the change in long-term debt. Long-term debt assumed as part of certain acquisitions and other changes in long-term debt, totaling $69.1 million, were more than offset by payments of $72.4 million. As more fully explained in Note 16, the Company increased the aggregate principal amount of short-term debt which can be issued under its commercial paper program to $1.45 billion in January 1997. This program is fully supported by revolving credit agreements in the same aggregate amount. Proceeds from borrowings under this program were used to purchase all outstanding shares of Thompson Minwax Holding Corp. (Thompson Minwax) in January 1997. Subsequently, in February 1997, the Company issued $100.0 million of 6.25% notes due February 1, 2000, $100.0 million of 6.5% notes due February 1, 2002 and $200.0 million of 6.85% notes due February 1, 2007 under its previously existing shelf registration with the Securities and Exchange Commission. In addition, the Company issued $150.0 million of 7.375% debentures due February 1, 2027 and $150.0 million of 7.45% debentures due February 1, 2097 in a private offering not registered under the Securities Act of 1933, as amended. The net proceeds from the sale of the notes and debentures were used to refinance a portion of the Company's commercial paper outstanding. Due to the refinancing, the size of the commercial paper program and related revolving credit agreements will be re-evaluated in 1997. The Company expects to remain in a borrowing position throughout 1997. 

The increase in the long-term postretirement liability occurred due to the combination of postretirement liabilities assumed in acquisitions and the excess of the net postretirement expense, as determined in accordance with Statement of Financial Accounting Standards (SFAS) No. 106, over the costs for benefit claims incurred. The current portion of the accrued postretirement liability is included in other accruals. See Note 7, for additional information concerning the Company's postretirement obligations. 

Other long-term liabilities include accruals for environmental-related items and other miscellaneous items. The increase of $104.9 million during 1996 occurred due primarily to adjustments made to previously recorded environmental-related accruals, liabilities assumed for environmental-related matters as a result of acquisitions and other items. In addition, the Company accrued certain additional environmental- related expenses in accordance with the early adoption of the American Institute of Certified Public Accountants Statement of Position 96-1 (SOP 96-1), "Environmental Remediation Liabilities". See Note 1, for further information concerning the Company's adoption of SOP 96-1 and see Note 10, for additional information concerning the Company's other long-term liabilities. 

The Company and certain other companies are defendants in a number of lawsuits arising from the manufacture and sale of lead pigments and lead paints. It is possible that additional lawsuits may be filed against the Company in the future with similar allegations. The various existing lawsuits seek damages for personal injuries and property damages, along with costs involving the abatement of lead related paint from buildings and medical monitoring costs. The Company believes that such lawsuits are without merit and is vigorously defending them. The Company does not believe that any potential liability ultimately determined to be attributable to the Company arising out of such lawsuits will have a material adverse effect on the Company's business or financial condition. 

The operations of the Company, like those of other companies in our industry, are subject to various federal, state and local environmental laws and regulations. These laws and regulations not only govern our current operations and products, but also impose liability on the Company for past operations which were conducted utilizing practices and procedures considered acceptable under the laws and regulations existing at that time. The Company expects environmental laws and regulations to impose increasingly stringent requirements upon the Company and our industry in the future. The Company believes it conducts its operations in compliance with applicable environmental laws and regulations and has implemented various programs designed to protect the environment and promote continued compliance. 

Capital expenditures and other expenses related to ongoing environmental compliance measures are included in the normal operating expenses of conducting business. The Company's capital expenditures and other expenses related to ongoing environmental compliance measures were not material to the Company's financial condition or net income during 1996, and the Company does not expect such capital expenditures and other expenses to be material to the Company's financial condition or net income in the future. 

The Company is involved with environmental compliance and remediation activities at some of its current and former sites. The Company, together with other parties, has also been designated a potentially responsible party under federal and state environmental protection laws for the remediation of hazardous waste at a number of third-party sites, primarily Superfund sites. The Company may be similarly designated with respect to additional third-party sites in the future. The Company accrues for certain environmental remediation-related activities relating to its past operations and third-party sites, including Superfund sites, for which commitments or clean-up plans have been developed or for which costs or minimum costs can be reasonably estimated. The Company continuously assesses its potential liability for remediation-related activities and adjusts its environmental- related accruals as information becomes available upon which more accurate costs can be reasonably estimated and as additional accounting guidelines are issued, such as SOP 96-1, which require changing the estimated costs or the procedure utilized in estimating such costs. Actual costs incurred may vary from these estimates due to the inherent uncertainties involved including, among others, the number and financial condition of parties involved with respect to any given site, the volumetric contribution which may be attributed to the Company relative to that attributable to other parties, the nature and magnitude of the wastes involved, the various technologies that can be used for remediation and the determination of acceptable remediation with respect to a particular site. 

Pursuant to a Consent Decree entered into with the United States of America, on behalf of the Environmental Protection Agency, which has been filed in the United States District Court for the Northern District of Illinois and which is subject to court approval, the Company has agreed, in part, to (i) conduct an investigation at its southeast Chicago, Illinois facility to determine the nature, extent and potential impact, if any, of environmental contamination at the facility, and (ii) implement remedial action measures, if required, to address any environmental contamination identified pursuant to the investigation. In addition, the Company is a defendant in a lawsuit brought by PMC, Inc. regarding one of the Company's former Chemical Division's manufacturing facilities which is located adjacent to the Company's southeast Chicago, Illinois facility. This former manufacturing facility was sold to PMC, Inc. in 1985. PMC, Inc. is seeking an undisclosed amount for environmental remediation costs and other damages based upon contractual and tort theories, and under various environmental laws. The Company is vigorously defending this lawsuit. 

With respect to the Company's southeast Chicago, Illinois facility and its former manufacturing facility adjacent thereto, the Company has evaluated its potential liability and, based upon its preliminary evaluation, has accrued an appropriate amount. However, due to the uncertainties surrounding these facilities, the Company's ultimate liability may result in costs that are significantly higher than currently accrued. In such event, the recording of the liability may result in a significant impact on net income for the annual or interim period during which the additional costs are accrued. 

In the opinion of the Company's management, any potential liability ultimately attributed to the Company for its environmental- related matters will not have a material adverse effect on the Company's financial condition, liquidity, cash flow or, except as set forth in the preceding paragraph, net income. See Note 10, for discussion of the environmental-related accruals included in the Company's consolidated balance sheets. 

Shareholders' equity increased $189.1 million during 1996 due primarily to current year net income offset partially by dividends paid to shareholders. Approximately 77,800 shares of the Company's common stock were received in exchange from the exercise of stock options during 1996. We did not acquire any of our own shares through open market purchases during this time period. Depending upon our cash position and market conditions in the future, we may acquire shares of our own stock for general corporate purposes. 

At a meeting held January 29, 1997, the Board of Directors declared a two-for-one common stock split and increased the quarterly dividend to $.10 per share on a post-split basis, both payable to shareholders of record on March 3, 1997. The increase in the quarterly dividend represents the eighteenth consecutive annual increase and a compounded rate of increase of 28.0 percent since the dividend was reinstated in the fourth quarter of 1979. The 1996 annual dividend of $.35 per share (on a post-split basis) marked the seventeenth consecutive year that the dividend approximated our payout ratio target of 30 percent of the prior year's earnings. 

The January 1997 acquisition of Thompson Minwax, for an approximate purchase price of $830 million, included funds to extinguish all of Thompson Minwax's previously-existing debt. Preliminary estimates of the fair market value of the net assets to be recorded pursuant to the acquisition will approximate $257.3 million, with approximately $572.7 million recorded as goodwill. These estimates are tentative, pending completion of final appraisals. The goodwill ultimately recorded for the purchase will be amortized over its estimated life. See Note 16, for additional information related to the acquisition. 

Results of Operations - 1996 vs 1995 
Consolidated net sales increased to $4.13 billion in 1996, a 26.2 percent increase over 1995. Excluding incremental sales from Pratt & Lambert and other smaller acquisitions (collectively, Acquisitions) after date of acquisition, net sales for 1996 increased 7.5 percent. 

Sales in the Paint Stores Segment increased 13.1 percent over 1995, or 9.1 percent excluding Acquisitions, due primarily to increased paint gallons sold to both retail and wholesale customers. Comparable store sales were up 10.0 percent for the year. Despite selling price reductions on certain non-paint product lines in 1996, volume gains generated overall sales increases in all non-paint product lines except window treatments. 

Incremental sales from Acquisitions led to an external sales increase of 51.4 percent over 1995 in the Coatings Segment. Excluding Acquisitions, external sales increased 4.7 percent. Increased gallons sold to national accounts and independent dealers led to a net external sales increase excluding Acquisitions over last year in the Consumer Brands Division. In the Automotive Division, 1996 external sales gains excluding Acquisitions were generated primarily from sales growth in its branch distribution network. The addition of new products and new customers in the Diversified Brands Division during 1996 helped to achieve sales gains in its custom, automotive, hardware and industrial product lines excluding Acquisitions. Revenue generated by real estate operations in the Other Segment decreased slightly compared to 1995 due to the disposition of certain properties in late 1995 and in 1996. 

Lower gross profit margins from some of the Acquisitions' businesses caused consolidated gross profit as a percent of sales to decline to 41.8 percent from 42.7 percent in 1995. Excluding Acquisitions, gross profit margins increased to 44.4 percent. Gross profit margins in the Paint Stores Segment, both including and excluding Acquisitions, were higher than last year due to increased sales of its higher margin product lines combined with increased retail sales. Stable product costs combined with a favorable sales mix led to improved gross profit margins over last year in the Coatings Segment excluding Acquisitions. 

Consolidated selling, general and administrative (SG&A) expenses as a percent of sales were favorable to last year, declining to 31.7 percent from 32.8 percent, due to lower-than-average expenses in the Acquisitions' businesses. Excluding Acquisitions, SG&A expenses as a percent of sales increased to 33.5 percent. The Paint Stores Segment's controlled spending throughout 1996 combined with its sales gains led to favorable SG&A expenses as a percent of sales on both an as-reported basis and excluding Acquisitions. The Coatings Segment's SG&A expenses as a percent of sales excluding Acquisitions were unfavorable to last year due primarily to increased merchandising costs, advertising and promotional expenses related to product introductions in the Consumer Brands and Diversified Brands Divisions. 

Consolidated operating profits increased 30.3 percent over 1995, or 19.2 percent excluding Acquisitions. Operating profits of the Paint Stores Segment increased 30.2 percent, or 28.1 percent excluding Acquisitions, due to volume gains and the continued containment of SG&A expenses. The Coatings Segment's operating profits excluding Acquisitions increased 11.9 percent due to stable raw material costs and manufacturing efficiencies resulting from volume gains. The operating profits of the Other Segment increased in comparison to 1995 primarily due to the reduction in costs associated with disposed properties. Corporate expenses increased over 1995 due to increased interest expense, decreased net investment income and increases in other costs and expenses which are not directly associated with or allocable to any individual operating segment. Additional Business Segment information can be found here. 

The increases in long-term debt and short-term borrowings which occurred in 1996 due to the financing of Acquisitions caused interest expense to increase significantly over 1995. Correspondingly, interest coverage decreased to 16.3 times from 126.8 times in 1995. Fixed charge coverage, which is calculated using interest and gross rent expense, declined to 3.9 times from 4.2 times in 1995. 

Net interest and investment income was lower than 1995 due to lower average cash and short-term investment balances offset partially by higher average yields. Other costs and expenses increased in 1996 due to increased provisions for dispositions and termination of operations and for environmental remediation-related matters and other items as more fully discussed in Note 4. The effective income tax rate increased in 1996, as shown in Note 14, primarily due to the increase in non-deductible tax items, primarily goodwill. 

Net income increased 14.2 percent in 1996 to $229.2 million from $200.7 million in 1995. Excluding Acquisitions, net income increased 12.6 percent. Net income per share increased 13.7 percent in 1996 to $1.33 from $1.17. 

In accordance with the consensus guidance in Emerging Issues Task Force No. 87-11, "Allocation of Purchase Price to Assets to be Sold", all 1996 results of operations exclude the results of operations of certain Pratt & Lambert subsidiaries through their respective dates of sale. These subsidiaries, which were sold during the third quarter of 1996, include essentially all operations of Pierce & Stevens Corp., a manufacturer of specialty chemicals, and Miracle Adhesives Corporation, a manufacturer of adhesives for the construction industry. The total operating profit related to these subsidiaries prior to their sale, approximately $3.0 million in 1996, has been excluded from the statement of consolidated income. The net gain realized on the sale of these subsidiaries was insignificant to the allocation of purchase price pursuant to APB Opinion No. 16. 

The acquisition of Thompson Minwax in January 1997 will affect our results of operations beginning in 1997. 

Results of Operations - 1995 vs 1994 
Consolidated net sales increased 5.6 percent, to $3.27 billion, over 1994 due primarily to volume and price increases in the Paint Stores Segment. 

Sales in the Paint Stores Segment increased 7.3 percent for 1995 as all divisions achieved sales improvements, particularly in paint and paint-related product lines. Comparable store sales increased 6.5 percent. Increased paint gallons sold to wholesale customers generated the majority of the sales increase. Volume sales to retail customers remained sluggish. Selling price increases implemented to partially offset increased raw materials costs also contributed to the sales improvements. 

External sales in the Coatings Segment increased 2.7 percent over 1994. The Consumer Brands Division was the primary contributor to this sales increase due to increased gallon sales, particularly in its Dutch Boy ® brand. In the Automotive Division, sales increases in the automotive branches were partially offset by declines in two of its major product lines which resulted from soft automotive aftermarket sales throughout 1995. Reduced consumer demand in the custom, automotive and industrial markets led to flat sales as compared to 1994 in the Diversified Brands Division. Revenue for the real estate operations in the Other Segment increased slightly for 1995. 

Consolidated gross profit as a percent of sales was slightly lower than 1994, decreasing to 42.7 percent from 42.8 percent. Gross profit margins increased slightly in the Paint Stores Segment due to gallon sales improvement combined with successful implementation of supplemental selling price increases during the year to partially offset increased costs for raw materials. The Coatings Segment's gross profit margins were lower than 1994 due to the adverse effects of raw material cost increases combined with a sales mix toward lower-margin products in the Automotive Division and production volume decreases in the Diversified Brands Division. 

Consolidated SG&A expenses as a percent of sales declined to 32.8 percent from 32.9 percent in 1994. The Paint Stores Segment carefully contained SG&A spending throughout 1995, leading to favorable SG&A expenses as a percent of sales. The Coatings Segment's SG&A expenses as a percent of sales were higher than 1994 primarily due to increased market penetration costs for new customers in the Consumer Brands Division and to the marginally higher sales amount. 

Consolidated operating profits increased 4.0 percent in 1995. In the Paint Stores Segment, operating profits increased 12.7 percent over 1994 due to increased volume and controlled SG&A spending. Operating profits in the Coatings Segment improved 0.6 percent for 1995. Increased raw material costs during 1995 combined with moderate production volume increases adversely impacted this Segment's results. The operating profits of the Other Segment increased in 1995 due primarily to reduced interest expense on average long-term debt allocable to its real estate operations combined with provisions incurred in 1994 for disposition of certain non-retail properties. Corporate expenses increased in 1995 due primarily to various environmental remediation-related and disposition provisions which are not directly associated with or allocable to any individual segment. 

Interest expense decreased 21.3 percent during 1995 due to reduced average long-term debt resulting from normal maturities and 1994 debt purchases. As a result, interest coverage increased to 126.8 times from 93.8 times in 1994. Our fixed charge coverage, which is calculated using interest and gross rent expense, improved to 4.2 times from 4.1 times in 1994. 

Interest and net investment income increased 40.1 percent in 1995 due primarily to increased investment yields. Other costs and expenses decreased in 1995 primarily due to increased dividends and a net reduction of other expenses as more fully described in Note 4. The effective income tax rate decreased in 1995, as shown in Note 14, primarily due to increased tax-exempt investment vehicles. 

Net income increased 7.5 percent in 1995 to $200.7 million from $186.6 million in 1994. Net income per share increased 9.3 percent to $1.17 from $1.07.