10-K 1 tkr10k2013.htm 10-K TKR 10K 2013


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2013
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from______to_______            
Commission file number: 1-1169
THE TIMKEN COMPANY
(Exact name of registrant as specified in its charter)
Ohio
 
34-0577130
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
 
 
1835 Dueber Avenue, S.W., Canton, Ohio
 
44706
(Address of principal executive offices)
 
(Zip Code)
(330) 438-3000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of each exchange on which registered
Common Stock, without par value
 
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
    Yes  x    No  o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes  o    No  x
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  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   
 Yes  x    No  o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
x
Accelerated filer
o
Non-accelerated filer
o
Smaller reporting company
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  x
As of June 28, 2013, the aggregate market value of the registrant’s common shares held by non-affiliates of the registrant was $4,830,680,452 based on the closing sale price as reported on the New York Stock Exchange.
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
 
Outstanding at January 31, 2014
Common Shares, without par value
 
92,781,376 shares
DOCUMENTS INCORPORATED BY REFERENCE
Document
 
Parts Into Which Incorporated
Proxy Statement for the Annual Meeting of Shareholders to be held on or about May 13, 2014 (Proxy Statement)
 
Part III




THE TIMKEN COMPANY
INDEX TO FORM 10-K REPORT
 
 
 
PAGE
I.
 
 
 
Item 1.
 
Item 1A.
 
Item 1B.
 
Item 2.
 
Item 3.
 
Item 4.
 
Item 4A.
II.
 
 
 
Item 5.
 
Item 6.
 
Item 7.
 
Item 7A.
 
Item 8.
 
Item 9.
 
Item 9A.
 
Item 9B.
III.
 
 
 
Item 10.
 
Item 11.
 
Item 12.
 
Item 13.
 
Item 14.
IV.
 
 
 
Item 15.
 
 
 
 
 
Exhibit 4.1
First Amendment to Credit Agreement and Waiver
 
 
Exhibit 10.1
Time-Based Restricted Stock Unit Agreement
 
 
Exhibit 12
Computation of Ratio of Earnings to Fixed Charges
 
 
Exhibit 21
Subsidiaries of the Registrant
 
 
Exhibit 23
Consent of Independent Registered Public Accounting Firm
 
 
Exhibit 24
Power of Attorney
 
 
Exhibit 31.1
Principal Executive Officer’s Certifications
 
 
Exhibit 31.2
Principal Financial Officer’s Certifications
 
 
Exhibit 32
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
 
Exhibit 101
Extensible Business Reporting Language (XBRL)
 




PART I.

Item 1. Business

General:
As used herein, the term “Timken” or the “Company” refers to The Timken Company and its subsidiaries unless the context otherwise requires. Timken, a global industrial technology leader, engineers, manufactures and markets mechanical components, Timken® bearings and engineered steel bars and tubes, as well as transmissions, gearboxes, chain and related products and services, support diversified markets worldwide.

The Company was founded in 1899 by Henry Timken, who received two patents on the design of a tapered roller bearing. Timken grew to become the world's largest manufacturer of tapered roller bearings and leveraged its expertise to further expand its portfolio of bearing products to include cylindrical, spherical, needle and precision ball bearings. Based on its engineering capabilities and technical knowledge, Timken built its reputation as a global leader and applied its knowledge of metallurgy, friction management and mechanical power transmission to increase the reliability and efficiency of its customers' equipment, improving productivity, uptime and performance across a wide range of applications and markets. The Company's broad portfolio includes power transmission components and systems, engineered surfaces and coatings, lubricants and seals, as well as aftermarket services, including bearing and gearbox remanufacture and repair. The Company also manufactures helicopter transmissions, high-performance engineered alloy steels bars and seamless mechanical tubing, as well as finished and semi-finished steel components made to exact specifications to meet customers' increasing demands for reliability and efficiency. The Company's global footprint consists of 64 manufacturing facilities, 12 technology and engineering centers and 11 distribution centers and warehouses, supported by a team comprised of nearly 19,000 employees. Timken operates in 28 countries and territories around the globe.

Industry Segments and Geographical Financial Information:
Information required by this Item is incorporated herein by reference to Note 15 - Segment Information in the Notes to the Consolidated Financial Statements.

Major Customers:
The Company sells products and services to a diverse customer base globally, including customers in the following market sectors: industrial equipment, construction, agriculture, rail, aerospace and defense, automotive, heavy truck and oil and gas. The Company does not have any sales to a single customer that are 5% or more of total sales.

Products:
Timken manufactures and manages global supply chains for multiple product lines including anti-friction bearings, mechanical power transmission solutions, engineered steel and related precision steel components designed to operate in demanding environments. The Company leverages its technical knowledge, research expertise and production and engineering capabilities across all of its products and end-markets to deliver high-performance products to its customers. Differentiation in these product lines is achieved by either: (1) product type or (2) the targeted applications utilizing the product.

Bearings and Power Transmission Solutions. Selection and development of bearings for customer applications and demand for high reliability require sophisticated engineering and analytical techniques. Deep knowledge of friction management combined with high precision tolerances, proprietary internal geometries and premium quality materials, provide Timken bearings with high load-carrying capacity, excellent friction-reducing qualities and long service lives. The uses for bearings are diverse and can be found in transportation applications that include passenger cars and trucks, heavy trucks, helicopters, airplanes and trains. Ranging in size from precision bearings the size of a pencil eraser to those roughly three meters in diameter, high-performance Timken components are also used in a wide variety of industrial applications, ranging from paper and steel mills, mining, oil and gas extraction and production, gear drives, health and positioning control, wind mills and food processing. Timken manufactures or in some cases purchases the required components and then sells them assembled or as individual components in a wide variety of configurations and sizes. In addition to bearings, Timken offers mechanical power transmission components, including chains, augers, gear boxes, seals, lubricants and related products and services.


1


Tapered Roller Bearings. The tapered roller bearing is the Company's original entrant to the anti-friction bearing sector. Tapered rollers permit ready absorption of both radial and axial load combinations. For this reason, tapered roller bearings are particularly well-adapted to reducing friction where shafts, gears or wheels are used. Bearings generally consist of four components: (1) the cone or inner race; (2) the cup or outer race; (3) the rollers, which roll between the cup and cone; and (4) the cage, which serves as a retainer and maintains proper spacing between the rollers. They can be found wherever gears and shafts turn in a wide variety of market sectors, including construction and mining, metal and paper-making mills, commercial truck and power generation.

Precision Cylindrical and Ball Bearings. The Company's aerospace facilities produce high-performance ball and cylindrical bearings for ultra high-speed and/or high-accuracy applications in space and robotic vehicles, including Curiosity, the newest Mars rover. Customers for these precision bearings also include manufacturers of medical and health equipment, machine tools, critical motion control systems and precision robotics. These bearings utilize ball and straight rolling elements and are in the super-precision end of the general ball and straight roller bearing product range in the bearing industry. A majority of these bearings products are custom-designed bearings and spindle assemblies. They often utilize specialized materials and coatings in applications that subject the bearings to extreme operating conditions of speed and temperature.

Spherical and Cylindrical Roller Bearings. Timken produces spherical and cylindrical roller bearings for large gear drives, rolling mills and other industrial and infrastructure development applications. These products are sold worldwide to original equipment manufacturers and industrial distributors serving major end-market sectors, including construction and mining, natural resources, defense, pulp and paper production, rolling mills and general industrial goods. The same rigorous analysis and development apply to these products.

Chains and Augers. Through the acquisition of Drives, LLC (Drives) in 2011, Timken manufactures precision roller chain, pintle chain, agricultural conveyor chain, engineering class chain, oil field roller chain and auger products. These highly engineered products are vital to a wide range of mobile and industrial machinery applications, including agriculture, oil and gas, aggregate and mining, primary metals, forest products and other heavy industries. They also are utilized in the food and beverage and packaged goods sectors, which often require high-end, specialty products, including stainless-steel and corrosion-resistant roller chains.

Gear-Drive Systems. Through the acquisition of the assets of Philadelphia Gear Corp. (Philadelphia Gear) in 2011, Timken provides aftermarket gear box repair services and gear-drive systems for the industrial, energy and military marine sectors, including refining and pipeline systems, mining, cement, pulp and paper making and water management systems.

Services. Timken offers a broad array of industrial services including bearing reconditioning and repair; condition monitoring and reliability services designed to maximize performance; and durability and maintenance intervals for industrial and railroad customers, both domestically and internationally. Other services include maintenance and rework of large industrial equipment used in metal-making mills and the energy sectors.  Services accounted for less than 5% of the Company’s net sales for the year ended December 31, 2013.

Aerospace Products and Services. The Company's portfolio of parts, systems and services for the aerospace market sector has grown to include products used in helicopters and fixed-wing aircraft for the military and commercial aviation industries. Timken designs, manufactures and tests a wide variety of power transmission and drive train components, including bearings, transmissions, turbine engine components, gears and rotor-head assemblies and housings. Other parts include airfoils (such as blades, vanes, rotors and diffusers), nozzles and other precision flight-critical components. In addition to original equipment, Timken provides a wide range of aftermarket products and services for global customers, including complete engine overhaul, bearing repair, component reconditioning and replacement parts for gas turbine engines, transmissions and fuel controls, gearboxes and accessory systems in helicopters and fixed-wing aircraft.


2


Steel. Timken manufactures alloy steel as well as carbon and micro-alloy steel.  Included in its portfolio are specialty bar quality (SBQ) bars and seamless mechanical tubing.  In addition, Timken supplies machining and thermal treatment services, as well as manages raw material recycling programs.  Timken's metallurgical expertise and unique operational capabilities drive customized, high-value solutions for the mobile, industrial and energy sectors. 

Timken focuses on creating tailored products and services for their customers’ most demanding applications and supply chains, and most of their steel is custom-engineered.  Timken leverages its technical knowledge, research expertise and production and engineering capabilities across all of its products and end markets to deliver high-performance steel products to its customers.  Timken’s engineers are experts both in materials and applications, enabling us to deliver flexible solutions related to steel products as well as their applications and supply chains. 

Precision Steel Components. Timken also produces custom-made steel products, including steel components for automotive and industrial customers. Steel components provide the Company with the opportunity to further expand its market for tubing and capture higher value-added steel sales by streamlining customer supply chains. It also enables traditional Timken tubing customers in the automotive and bearing industries to take advantage of ready-to-finish components that cost less than other alternatives. Customization of products is an important element of the Company's steel business where mechanical power transmission is critical to the end customer.

Sales and Distribution:
Timken products are sold principally by its own internal sales organizations. A portion of each segment's sales are made through authorized distributors.

Customer collaboration is central to the Company's sales strategy. Therefore, Timken goes where its customers need them, with sales engineers primarily working in close proximity to customers rather than at production sites. In some cases, Timken may co-locate with a customer at their facility to ensure optimized collaboration. The Company's sales force constantly updates the team's training and knowledge regarding all friction management products and market sector trends, and Timken employees assist customers during development and implementation phases and provide ongoing service and support.

The Company has a joint venture in North America focused on joint logistics and e-business services. This joint venture, CoLinx, LLC, includes five equity members: Timken, SKF Group, the Schaeffler Group, Rockwell Automation and Gates Corporation. The e-business service focuses on information and business services for authorized distributors in the Process Industries segment.

Most orders for Timken's steel products are customized to satisfy customer-specific applications and are shipped directly to customers from the Company's steel manufacturing plants. Less than 10% of the Timken Steel segment's net sales are intersegment sales. In addition, sales are made to other anti-friction bearing companies and to the automotive and truck, forging, construction, industrial equipment, oil and gas drilling, aircraft industries and to steel service centers.

Timken has entered into individually negotiated contracts with some of its customers. These contracts may extend for one or more years and, if a price is fixed for any period extending beyond current shipments, customarily include a commitment by the customer to purchase a designated percentage of its requirements from Timken. Timken does not believe that there is any significant loss of earnings risk associated with any given contract.


3


Competition:
The anti-friction bearing business is highly competitive in every country where Timken sells products. Timken competes primarily based on total value, including price, quality, timeliness of delivery, product design and the ability to provide engineering support and service on a global basis. The Company competes with domestic manufacturers and many foreign manufacturers of anti-friction bearings, including SKF Group, the Schaeffler Group, NTN Corporation, JTEKT Corporation (JTEKT) and NSK Ltd.

The steel industry, both domestically and globally, is highly competitive and is expected to remain so. Maintaining high standards of product quality and reliability, while keeping production costs competitive, is essential to the Company's ability to compete with domestic and foreign manufacturers of mechanical components and alloy steel. Principal bar competitors include foreign-owned domestic producers Gerdau Special Steel North America (a unit of Brazilian steelmaker Gerdau, S.A) and Republic Steel (a unit of Mexican steel producer ICH), along with domestic steel producers Steel Dynamics, Inc. and Nucor Corporation. Seamless tubing competitors include foreign-owned domestic producers ArcelorMittal Tubular Products (a unit of Luxembourg-based ArcelorMittal, S.A.), V&M Star Tubes (a unit of Vallourec, S.A.), and Tenaris, S.A. Additionally, Timken competes with a wide variety of offshore producers of both bars and tubes, including Sanyo Special Steel and Ovako Group AB. Timken also provides value-added steel products to its customers in the energy, industrial and automotive sectors. Competitors within the value-added market segment include Linamar, Jernberg and Curtis Screw Company.

Joint Ventures:
Investments in affiliated companies accounted for under the equity method were approximately $1.6 million and $1.1 million, respectively, at December 31, 2013 and 2012. The amount at December 31, 2013 was reported in other non-current assets on the Consolidated Balance Sheets.

Backlog:
The following table provides the backlog of orders of the Company's domestic and overseas operations at December 31, 2013 and 2012:
  
December 31,
(Dollars in millions)
2013
2012
Segment:
 
 
Mobile Industries
$
562.7

$
708.5

Process Industries
370.8

387.8

Aerospace
382.4

404.7

Steel
285.7

311.6

Total Company
$
1,601.6

$
1,812.6


Approximately 90% of the Company’s backlog at December 31, 2013 is scheduled for delivery in the succeeding twelve months. Actual shipments depend upon customers' ever-changing production schedules. Accordingly, Timken does not believe that its backlog data and comparisons thereof, as of different dates, reliably indicate future sales or shipments.


4


Raw Materials:
The principal raw materials used by Timken in steel manufacturing are scrap metal, nickel, molybdenum and other alloys. The availability and costs of raw materials and energy resources are subject to curtailment or change due to, among other things, new laws or regulations, changes in global demand levels, suppliers’ allocations to other purchasers, interruptions in production by suppliers, changes in exchange rates and prevailing price levels. For example, the consumption cost of scrap metal increased 23.4% from 2010 to 2011, decreased 6.1% from 2011 to 2012 and decreased 10.2% from 2012 to 2013.

The Company continues to expect that it will be able to pass a significant portion of cost increases through to customers in the form of price increases or surcharges.

Disruptions in the supply of raw materials or energy resources could temporarily impair the Company’s ability to manufacture its products for its customers or require the Company to pay higher prices in order to obtain these raw materials or energy resources from other sources, which could affect the Company’s revenues and profitability. Any increase in the costs for such raw materials or energy resources could materially affect the Company’s earnings. Timken believes that the availability of raw materials and alloys is adequate for its needs, and, in general, it is not dependent on any single source of supply.

Research:
Timken operates a network of technology and engineering centers to support its global customers with sites in North America, Europe and Asia. This network develops and delivers innovative friction management and mechanical power transmission solutions and technical services. The largest technical center is located in North Canton, Ohio, near Timken's world headquarters. Other sites in the United States include Mesa, Arizona; Manchester, Connecticut; Fulton, Illinois; Keene and Lebanon, New Hampshire and King of Prussia, Pennsylvania. Within Europe, the Company has technology facilities in Plymouth, England; Colmar, France and Ploiesti, Romania. In Asia, Timken operates technology and engineering facilities in Bangalore, India and Shanghai, China.

Expenditures for research, development and application amounted to approximately $46.1 million, $52.6 million and $49.6 million in 2013, 2012 and 2011, respectively. Of these amounts, approximately $0.4 million, $0.8 million and $0.3 million were funded by others in 2013, 2012 and 2011, respectively.

Environmental Matters:
The Company continues its efforts to protect the environment and comply with environmental protection laws. Additionally, it has invested in pollution control equipment and updated plant operational practices. The Company is committed to implementing a documented environmental management system worldwide and to becoming certified under the ISO 14001 standard where appropriate to meet or exceed customer requirements. As of the end of 2013, 21 of the Company’s plants had obtained ISO 14001 certification.

The Company believes it has established appropriate reserves to cover its environmental expenses and has a well-established environmental compliance audit program for its domestic and international units. This program measures performance against applicable laws, as well as against internal standards that have been established for all units worldwide. It is difficult to assess the possible effect of compliance with future requirements that differ from existing ones. As previously reported, the Company is unsure of the future financial impact to the Company that could result from the United States Environmental Protection Agency’s (EPA’s) final rules to tighten the National Ambient Air Quality Standards for fine particulate and ozone. In addition, the Company is unsure of the future financial impact to the Company that could result from the EPA instituting hourly ambient air quality standards for sulfur dioxide and nitrogen oxide. The Company is also unsure of the potential future financial impact to the Company that could result from possible future legislation regulating emissions of greenhouse gases.


5


The Company and certain of its U.S. subsidiaries have been identified as potentially responsible parties for investigation and remediation at off-site disposal or recycling facilities under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA), known as the Superfund, or state laws similar to CERCLA. In general, such claims for investigation and remediation have also been asserted against numerous other entities, which are believed to be financially solvent and are expected to substantially fulfill their proportionate share of the obligation.

Management believes any ultimate liability with respect to pending actions will not materially affect the Company’s operations, cash flows or consolidated financial position. The Company is also conducting environmental investigation and/or remediation activities at a number of current or former operating sites. The costs of such investigation and remediation activities, in the aggregate, are not expected to be material to the operations or financial position of the Company.

New laws and regulations, stricter enforcement of existing laws and regulations, the discovery of previously unknown contamination or the imposition of new clean-up requirements may require Timken to incur costs or become the basis for new or increased liabilities that could have a materially adverse effect on the Company's business, financial condition or results of operations.

Patents, Trademarks and Licenses:
Timken owns numerous U.S. and foreign patents, trademarks and licenses relating to certain products. While Timken regards these as important, it does not deem its business as a whole, or any industry segment, to be materially dependent upon any one item or group of items.

Employment:
At December 31, 2013, Timken had nearly 19,000 employees. Approximately 9% of Timken’s U.S. employees are covered under collective bargaining agreements.

Available Information:
The Company uses its Investor Relations website at www.timken.com/investors, as a channel for routine distribution of important information, including news releases, analyst presentations and financial information. The Company posts filings as soon as reasonably practicable after they are electronically filed with, or furnished to, the Securities and Exchange Commission (the SEC), including its annual, quarterly and current reports on Forms 10-K, 10-Q and 8-K; its proxy statements; and any amendments to those reports or statements. All such postings and filings are available on the Company’s website free of charge. In addition, this website allows investors and other interested persons to sign up to automatically receive e-mail alerts when the Company posts news releases and financial information on the Company’s website. The SEC also maintains a web site, www.sec.gov, which contains reports, proxy and information statements and other information regarding issuers that file electronically with the SEC. The content on any website referred to in this Annual Report on Form 10-K is not incorporated by reference into this Annual Report unless expressly noted.



6


Item 1A. Risk Factors

The following are certain risk factors that could affect our business, financial condition and results of operations. The risks that are highlighted below are not the only ones that we face. These risk factors should be considered in connection with evaluating forward-looking statements contained in this Annual Report on Form 10-K because these factors could cause our actual results and financial condition to differ materially from those projected in forward-looking statements. If any of the following risks actually occur, our business, financial condition or results of operations could be negatively affected.

Risk Relating to our Business

The bearing industry is highly competitive, and this competition results in significant pricing pressure for our products that could affect our revenues and profitability.

The global bearing industry is highly competitive. We compete with domestic manufacturers and many foreign manufacturers of anti-friction bearings, including SKF Group, the Schaeffler Group, NTN Corporation, JTEKT and NSK Ltd. The bearing industry is also capital intensive and profitability is dependent on factors such as labor compensation and productivity and inventory management, which are subject to risks that we may not be able to control. Due to the competitiveness within the bearing industry, we may not be able to increase prices for our products to cover increases in our costs. In many cases we face pressure from our customers to reduce prices, which could adversely affect our revenues and profitability. In addition, our customers may choose to purchase products from one of our competitors rather than pay the prices we seek for our products, which could adversely affect our revenues and profitability.


Competition and consolidation in the steel industry, together with potential global overcapacity, could result in significant pricing pressure for our products.

Competition within the steel industry, both domestically and worldwide, is intense and is expected to remain so. Global production overcapacity has occurred in the recent past and may recur in the future, which would exert downward pressure on domestic steel prices and result in, at times, a dramatic narrowing, or with many companies the elimination, of gross margins. High levels of steel imports into the United States could exacerbate this pressure on domestic steel prices. In addition, many of our competitors are continuously exploring and implementing strategies, including acquisitions and the addition or repositioning of capacity, which focus on manufacturing higher margin products that compete more directly with our steel products. Depending upon prevailing market conditions in the United States and abroad, the value of the U.S. dollar relative to other currencies, and other similar variables beyond our control, import activity into the United States and/or domestic production could continue to increase. These factors could lead to significant downward pressure on prices for our steel products or a reduction in sales, which could have a material adverse effect on our revenues and profitability.


Our business is capital intensive, and if there are downturns in the industries that we serve, we may be forced to significantly curtail or suspend operations with respect to those industries, which could result in our recording asset impairment charges or taking other measures that may adversely affect our results of operations and profitability.

Our business operations are capital intensive, and we devote a significant amount of capital to certain industries. If there are downturns in the industries that we serve, we may be forced to significantly curtail or suspend our operations with respect to those industries, including laying-off employees, recording asset impairment charges and other measures, which may adversely affect our results of operations and profitability.

7


Weakness in global economic conditions or in any of the industries or geographic regions in which we or our customers operate, as well as the cyclical nature of our customers' businesses generally or sustained uncertainty in financial markets, could adversely impact our revenues and profitability by reducing demand and margins.

Our results of operations may be materially affected by the conditions in the global economy generally and in global capital markets. There has been extreme volatility in the capital markets and in the end markets and geographic regions in which we and our customers operate, which has negatively affected our revenues. Our revenues may also be negatively affected by changes in customer demand, additional changes in the product mix and negative pricing pressure in the industries in which we operate. Margins in those industries are highly sensitive to demand cycles, and our customers in those industries historically have tended to delay large capital projects, including expensive maintenance and upgrades, during economic downturns. As a result, our revenues and earnings are impacted by overall levels of industrial production.


Our results of operations may be materially affected by the conditions in the global financial markets or in any of the geographic regions in which we operate. If an end user cannot obtain financing to purchase our products, either directly or indirectly contained in machinery or equipment, demand for our products will be reduced, which could have a material adverse effect on our financial condition and earnings.

If a customer becomes insolvent or files for bankruptcy, our ability to recover accounts receivable from that customer would be adversely affected and any payment we received during the preference period prior to a bankruptcy filing may be potentially recoverable by the bankruptcy estate. Furthermore, if certain of our customers liquidate in bankruptcy, we may incur impairment charges relating to obsolete inventory and machinery and equipment. In addition, financial instability of certain companies in the supply chain could disrupt production in any particular industry. A disruption of production in any of the industries where we participate could have a material adverse effect on our financial condition and earnings.


Any change in the operation of our raw material surcharge mechanisms, a raw material market index or the availability or cost of raw materials and energy resources could materially affect our revenues and earnings.

We require substantial amounts of raw materials, including scrap metal and alloys and natural gas to operate our business. Many of our customer contracts contain surcharge pricing provisions. The surcharges are generally tied to a widely-available market index for that specific raw material. Recently many of the widely-available raw material market indices have experienced wide fluctuations. Any change in a raw material market index could materially affect our revenues. Any change in the relationship between the market indices and our underlying costs could materially affect our earnings. Any change in our projected year-end input costs could materially affect our last-in, first-out (LIFO) inventory valuation method and earnings.

Moreover, future disruptions in the supply of our raw materials or energy resources could impair our ability to manufacture our products for our customers or require us to pay higher prices in order to obtain these raw materials or energy resources from other sources, and could thereby affect our sales and profitability. Any increase in the prices for such raw materials or energy resources could materially affect our costs and therefore our earnings.

 
Warranty, recall, quality or product liability claims could materially adversely affect our earnings.

In our business, we are exposed to warranty and product liability claims. In addition, we may be required to participate in the recall of a product. If we fail to meet customer specifications for their products, we may be subject to product quality costs and claims. A successful warranty or product liability claim against us, or a requirement that we participate in a product recall, could have a material adverse effect on our earnings.



8


We may incur further impairment and restructuring charges that could materially affect our profitability.

We have taken $246.1 million in impairment and restructuring charges during the last five years. Changes in business or economic conditions, or our business strategy, may result in additional restructuring programs and may require us to take additional charges in the future, which could have a material adverse effect on our earnings.


Environmental laws and regulations impose substantial costs and limitations on our operations and environmental compliance may be more costly than we expect.

We are subject to the risk of substantial environmental liability and limitations on our operations due to environmental laws and regulations. We are subject to extensive federal, state, local and foreign environmental, health and safety laws and regulations concerning matters such as air emissions, wastewater discharges, solid and hazardous waste handling and disposal and the investigation and remediation of contamination. The risks of substantial costs and liabilities related to compliance with these laws and regulations are an inherent part of our business, and future conditions may develop, arise or be discovered that create substantial environmental compliance or remediation liabilities and costs.

Compliance with environmental, health and safety legislation and regulatory requirements may prove to be more limiting and costly than we anticipate. To date, we have committed significant expenditures in our efforts to achieve and maintain compliance with these requirements at our facilities, and we expect that we will continue to make significant expenditures related to such compliance in the future. From time to time, we may be subject to legal proceedings brought by private parties or governmental authorities with respect to environmental matters, including matters involving alleged noncompliance with or liability under environmental, health and safety laws, property damage or personal injury. New laws and regulations, including those which may relate to emissions of greenhouse gases, stricter enforcement of existing laws and regulations, the discovery of previously unknown contamination or the imposition of new clean-up requirements could require us to incur costs or become the basis for new or increased liabilities that could have a material adverse effect on our business, financial condition or results of operations.


Unexpected equipment failures or other disruptions of our operations may increase our costs and reduce our sales and earnings due to production curtailments or shutdowns.

Interruptions in production capabilities, especially in our Steel segment, would likely increase our production costs and reduce sales and earnings for the affected period. In addition to equipment failures, our facilities and information technology systems are also subject to the risk of catastrophic loss due to unanticipated events such as fires, explosions or violent weather conditions. Our manufacturing processes are dependent upon critical pieces of equipment for which there may be only limited or no production alternatives, such as furnaces, continuous casters and rolling equipment, as well as electrical equipment, such as transformers, and this equipment may, on occasion, be out of service as a result of unanticipated failures. In the future, we may experience material plant shutdowns or periods of reduced production as a result of these types of equipment failures, which could cause us to lose or prevent us from taking advantage of various business opportunities or prevent us from responding to competitive pressures.


The Company may be subject to risks relating to its information technology systems.

The Company relies on information technology systems to process, transmit and store electronic information and manage and operate its business. A breach in security could expose the Company and its customers and suppliers to risks of misuse of confidential information, manipulation and destruction of data, production downtimes and operations disruptions, which in turn could adversely affect the Company's reputation, competitive position, business or results of operations.


9


The global nature of our business exposes us to foreign currency fluctuations that may affect our asset values, results of operations and competitiveness.

We are exposed to the risks of currency exchange rate fluctuations because a significant portion of our net sales, costs, assets and liabilities, are denominated in currencies other than the U.S. dollar. These risks include a reduction in our asset values, net sales, operating income and competitiveness.

For those countries outside the United States where we have significant sales, devaluation in the local currency would reduce the value of our local inventory as presented in our Consolidated Financial Statements. In addition, a stronger U.S. dollar would result in reduced revenue, operating profit and shareholders' equity due to the impact of foreign exchange translation on our Consolidated Financial Statements. Fluctuations in foreign currency exchange rates may make our products more expensive for others to purchase or increase our operating costs, affecting our competitiveness and our profitability.

Changes in exchange rates between the U.S. dollar and other currencies and volatile economic, political and market conditions in emerging market countries have in the past adversely affected our financial performance and may in the future adversely affect the value of our assets located outside the United States, our gross profit and our results of operations.


Global political instability and other risks of international operations may adversely affect our operating costs, revenues and the price of our products.

Our international operations expose us to risks not present in a purely domestic business, including primarily:
changes in tariff regulations, which may make our products more costly to export or import;
difficulties establishing and maintaining relationships with local original equipment manufacturers (OEMs), distributors and dealers;
import and export licensing requirements;
compliance with a variety of foreign laws and regulations, including unexpected changes in taxation and environmental or other regulatory requirements, which could increase our operating and other expenses and limit our operations;
disadvantages of competing against companies from countries that are not subject to U.S. laws and regulations, including the Foreign Corrupt Practices Act;
difficulty in staffing and managing geographically diverse operations; and
tax exposures related to cross-border intercompany transfer pricing and other tax risks unique to international operations.

These and other risks may also increase the relative price of our products compared to those manufactured in other countries, reducing the demand for our products in the markets in which we operate, which could have a material adverse effect on our revenues and earnings.


The funded status of our defined benefit and other postretirement plans has caused and may in the future cause a significant reduction in our shareholders' equity.
 
We recorded an increase in shareholders' equity related to pension and postretirement benefit liabilities in 2013 primarily due to an increase in discount rates, as well as higher than expected returns on pension and postretirement assets. However, we recorded a decrease in shareholders' equity related to pension and postretirement benefit liabilities in 2012, and in the future, we may be required to record charges related to pension and other postretirement liabilities as a result of asset returns, discount rate changes or other actuarial adjustments. These charges may be significant and would cause a reduction in our shareholders' equity.




10


The funded status of our pension plans may require additional contributions, which may divert funds from other uses.

The funded status of our pension plans may require us to make additional contributions to such plans. We made cash contributions of approximately $121 million, $326 million and $291 million in 2013, 2012 and 2011, respectively, to our defined benefit pension plans and currently expect to make cash contributions of approximately $20 million in 2014 to such plans. However, we cannot predict whether changing economic conditions, the future performance of assets in the plans or other factors will lead us or require us to make contributions in excess of our current expectations, diverting funds we would otherwise apply to other uses.


Our defined benefit plans' assets and liabilities are substantial and expenses and contributions related to those plans are affected by factors outside our control, including the performance of plan assets, interest rates, actuarial data and experience, and changes in laws and regulations.

Our defined benefit pension plans had assets with an estimated value of approximately $3.3 billion and liabilities with an estimated value of approximately $3.1 billion, both as of December 31, 2013. Our future expense and funding obligations for the defined benefit pension plans depend upon a number of factors, including the level of benefits provided for by the plans, the future performance of assets set aside in trusts for these plans, the level of interest rates used to determine the discount rate to calculate the amount of liabilities, actuarial data and experience and any changes in government laws and regulations. In addition, if the various investments held by our pension trusts do not perform as expected or the liabilities increase as a result of discount rates and other actuarial changes, our pension expense and required contributions would increase and, as a result, could materially adversely affect our business. Due to the value of our defined benefit plan assets and liabilities, even a minor decrease in interest rates, to the extent not offset by contributions or asset returns, could increase our obligations under such plans. We may be legally required to make contributions to the pension plans in the future in excess of our current expectations, and those contributions could be material.


Work stoppages or similar difficulties could significantly disrupt our operations, reduce our revenues and materially affect our earnings.

A work stoppage at one or more of our facilities could have a material adverse effect on our business, financial condition and results of operations. Also, if one or more of our customers were to experience a work stoppage, that customer would likely halt or limit purchases of our products, which could have a material adverse effect on our business, financial condition and results of operations.


We are subject to a wide variety of domestic and foreign laws and regulations that could adversely affect our results of operations, cash flow or financial condition.

We are subject to a wide variety of domestic and foreign laws and regulations, and legal compliance risks, including securities laws, tax laws, employment and pension-related laws, competition laws, U.S. and foreign export and trading laws, and laws governing improper business practices. We are affected by new laws and regulations, and changes to existing laws and regulations, including interpretations by courts and regulators.

Compliance with the laws and regulations described above or with other applicable foreign, federal, state, and local laws and regulations currently in effect or that may be adopted in the future could materially adversely affect our competitive position, operating results, financial condition and liquidity.




11


If we are unable to attract and retain key personnel our business could be materially adversely affected.

Our business substantially depends on the continued service of key members of our management. The loss of the services of a significant number of members of our management could have a material adverse effect on our business. Our future success will also depend on our ability to attract and retain highly skilled personnel, such as engineering, finance, marketing and senior management professionals. Competition for these employees is intense, and we could experience difficulty from time to time in hiring and retaining the personnel necessary to support our business. If we do not succeed in retaining our current employees and attracting new high quality employees, our business could be materially adversely affected.


We may not realize the improved operating results that we anticipate from past and future acquisitions and we may experience difficulties in integrating acquired businesses.

We seek to grow, in part, through strategic acquisitions and joint ventures, which are intended to complement or expand our businesses, and expect to continue to do so in the future. These acquisitions involve challenges and risks. In the event that we do not successfully integrate these acquisitions into our existing operations so as to realize the expected return on our investment, our results of operations, cash flow or financial condition could be adversely affected.


Our operating results depend in part on continued successful research, development and marketing of new and/or improved products and services, and there can be no assurance that we will continue to successfully introduce new products and services.

The success of new and improved products and services depends on their initial and continued acceptance by our customers. Our businesses are affected, to varying degrees, by technological change and corresponding shifts in customer demand, which could result in unpredictable product transitions or shortened life cycles. We may experience difficulties or delays in the research, development, production, or marketing of new products and services which may prevent us from recouping or realizing a return on the investments required to bring new products and services to market. The end result could be a negative impact on our operating results.






























12


Risks Relating to Our Proposed Spinoff of Our Steel Business

The proposed spinoff of our steel business is contingent upon the satisfaction of a number of conditions, may require significant time and attention of our management and may have an adverse effect on us even if not completed.

On September 5, 2013, our board of directors approved a plan to pursue a separation of our steel business through a spinoff. The proposed spinoff is subject to various conditions and may be affected by unanticipated developments or changes in market conditions. Completion of the spinoff will be contingent upon customary closing conditions, including, among other things, authorization and approval of our board of directors, receipt of governmental and regulatory approvals of the transactions contemplated by the spinoff, receipt of a legal opinion regarding the tax-free status of the spinoff, execution of intercompany agreements and the effectiveness of a registration statement on Form 10 with the SEC. For these and other reasons, the spinoff may not be completed as expected during 2014, if at all.

Even if the spinoff is not completed, our ongoing businesses may be adversely affected and we may be subject to certain risks and consequences, including, among others, the following:

execution of the proposed spinoff will require significant time and attention from management, which may distract management from the operation of our businesses and the execution of other initiatives that may have been beneficial to us;
our employees may be distracted due to uncertainty about their future roles with each of the separate companies pending the completion of the spinoff;
we will be required to pay certain costs and expenses relating to the spinoff, such as legal, accounting and other professional fees, whether or not it is completed; and
we may experience negative reactions from the financial markets if we fail to complete the spinoff.

Any of these factors could have a material adverse effect on our financial condition, results of operations, cash flows and the price of our common shares.


We may be unable to achieve some or all of the benefits that we expect to achieve from the spinoff.

Although we believe that separating our steel business from our bearings and power transmission business by means of the spinoff will provide financial, operational, managerial and other benefits to us and our shareholders, the spinoff may not provide such results on the scope or scale we anticipate, and we may not realize the assumed benefits of the spinoff. In addition, we will incur one-time costs in connection with the spinoff that may exceed our estimates or could negate some of the benefits we expect to realize as a result of the spinoff. If we do not realize the assumed benefits of the spinoff or if our costs exceed our estimates, then we could suffer a material adverse effect on our financial condition.


If the proposed spinoff of our steel business is completed, the trading price of our common shares will decline.

We expect the trading price of our common shares immediately following the spinoff to be significantly lower than immediately prior to the spinoff because the trading price for our common shares will no longer reflect the value of our steel business.


Following the spinoff, the value of your common shares in: (a) the Company and (b) the steel business may collectively trade at an aggregate price less than what the Company's common shares might trade at had the spinoff not occurred.

The common shares of: (a) the Company and (b) the steel business that you may hold following the spinoff may collectively trade at a value less than the price at which the Company’s common shares might have traded at had the spinoff not occurred. These reasons include the future performance of either the Company or the steel business as separate, independent companies, and the future shareholder base and market for the Company’s common shares and the shares of the steel business and the prices at which these shares individually trade.



13


The spinoff could result in substantial tax liability.

The spinoff is conditioned on our receipt of an opinion of Covington & Burling LLP, special tax counsel to us (or other nationally recognized tax counsel), in form and substance satisfactory to us, that the distribution of shares of our steel business in the spinoff will qualify as tax-free to the steel business, us and our shareholders for U.S. federal income tax purposes under Sections 355 and 368(a)(1)(D) and related provisions of the U.S. Internal Revenue Code of 1986, as amended (the Code), and that certain internal restructuring transactions in connection with the spinoff similarly will be tax-free to the steel business, us and other members of our consolidated tax reporting group. The opinion will rely on, among other things, various assumptions and representations as to factual matters made by us and the steel business which, if inaccurate or incomplete in any material respect, could jeopardize the conclusions reached by such counsel in its opinion. The opinion will not be binding on the Internal Revenue Service (the IRS), or the courts, and there can be no assurance that the IRS or the courts will not challenge the qualification of the spinoff as a transaction under Sections 355 and 368(a) of the Code or that any such challenge would not prevail.

If, notwithstanding receipt of the opinion of counsel, the spinoff were determined not to qualify under Section 355 of the Code, each U.S. holder of our common shares who receives shares of the steel business in connection with the spinoff would generally be treated as receiving a taxable distribution of property in an amount equal to the fair market value of the shares of the steel business that are received. That distribution would be taxable to each such shareholder as a dividend to the extent of our current and accumulated earnings and profits. For each such shareholder, any amount that exceeded our earnings and profits would be treated first as a non-taxable return of capital to the extent of such shareholder’s tax basis in his or her common shares of the Company with any remaining amount being taxed as a capital gain. We would be subject to tax as if we had sold common shares in a taxable sale for their fair market value and we would recognize taxable gain in an amount equal to the excess of the fair market value of such common shares over our tax basis in such common shares, which could have a material adverse impact on our financial condition, results of operations and cash flows.


Certain members of our board of directors and management may have actual or potential conflicts of interest because of their ownership of shares of the steel business or their relationships with the steel business following the spinoff.

Certain members of our board of directors and management are expected to own shares of the steel business and/or options to purchase shares of the steel business, which could create, or appear to create, potential conflicts of interest when our directors and executive officers are faced with decisions that could have different implications for us and the steel business. It is possible that some of our directors might also be directors of the steel business following the spinoff. This may create, or appear to create, potential conflicts of interest if these directors are faced with decisions that could have different implications for the steel business then the decisions have for us.


Item 1B. Unresolved Staff Comments
None.


14


Item 2. Properties
Timken has manufacturing facilities at multiple locations in the United States and in a number of countries outside the United States. The aggregate floor area of these facilities worldwide is approximately 14,383,000 square feet, all of which, except for approximately 1,936,000 square feet, is owned in fee. The facilities not owned in fee are leased. The buildings occupied by Timken are principally made of brick, steel, reinforced concrete and concrete block construction. All buildings are in satisfactory operating condition to conduct business.
Timken’s Mobile Industries and Process Industries segments’ manufacturing facilities in the United States are located in Bucyrus, Canton and Niles, Ohio; Hueytown, Alabama; Sante Fe Springs, California; Broomfield and Denver, Colorado; New Castle, Delaware; Ball Ground, Georgia; Carlyle, Fulton and Mokena, Illinois; South Bend, Indiana; Lenexa, Kansas; Randleman and Iron Station, North Carolina; Gaffney, Union and Honea Path, South Carolina; Pulaski and Knoxville, Tennessee; Ogden, Utah; Altavista, Virginia; Ferndale and Pasco, Washington; Princeton, West Virginia; and Casper, Wyoming. These facilities, including warehouses at plant locations and a technology center in North Canton, Ohio that primarily serves the Mobile Industries and Process Industries business segments, have an aggregate floor area of approximately 5,579,000 square feet.
Timken’s Mobile Industries and Process Industries segments’ manufacturing plants outside the United States are located in Benoni, South Africa; Villa Carcina, Italy; Colmar, France; Cheltenham, Northampton, and Plymouth England; Ploiesti, Romania; Belo Horizonte, Sao Paulo and Sorocaba, Brazil; Durg, Jamshedpur and Chennai, India; Sosnowiec, Poland; Saskatoon, Prince George and St. Thomas, Canada; and Wuxi, Xiangtan and Yantai, China. These facilities, including warehouses at plant locations, have an aggregate floor area of approximately 4,037,000 square feet.
Timken’s Aerospace segment’s manufacturing facilities in the United States are located in Mesa, Arizona; Los Alamitos, California; Manchester, Connecticut; Keene and Lebanon, New Hampshire; New Philadelphia, Ohio; and Rutherfordton, North Carolina. These facilities, including warehouses at plant locations, have an aggregate floor area of approximately 1,017,000 square feet.
Timken’s Aerospace segment’s manufacturing facilities outside the United States are located in Wolverhampton, England; and Chengdu, China. These facilities, including warehouses at plant locations, have an aggregate floor area of approximately 290,000 square feet.
Timken’s Steel segment’s manufacturing facilities in the United States are located in Canton and Eaton, Ohio; Columbus, North Carolina; and Houston, Texas. These facilities have an aggregate floor area of approximately 3,460,000 square feet. The Steel segment also has a ferrous scrap and recycling operation in Akron, Ohio.
In addition to the manufacturing and distribution facilities discussed above, Timken owns or leases warehouses and steel distribution facilities in the United States, Canada, United Kingdom, France, Mexico, Singapore, Argentina, Australia, Brazil and China.
The plant utilization for the Mobile Industries segment was between approximately 50% and 60% in 2013. The plant utilization for the Process Industries segment was between approximately 50% and 60% in 2013. The plant utilization for the Aerospace segment was between approximately 50% and 60% in 2013. Finally, the Steel segment plant utilization was between approximately 50% and 60% in 2013. Plant utilization for all of the segments was lower in 2013 than in 2012.


Item 3. Legal Proceedings
The Company is involved in various claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company’s consolidated financial position or results of operations.


Item 4. Mine Safety Disclosures
Not applicable.


15


Item 4A. Executive Officers of the Registrant
The executive officers are elected by the Board of Directors normally for a term of one year and until the election of their successors. All executive officers have been employed by Timken or by a subsidiary of the Company during the past five-year period. The executive officers of the Company as of February 28, 2014 (except as otherwise noted below) are as follows:

Name
 
Age    
 
Current Position and Previous Positions During Last Five Years
Ward J. Timken, Jr.
 
46
 
2005 Chairman of the Board
James W. Griffith
 
60
 
2002 President and Chief Executive Officer; Director
William R. Burkhart
 
48
 
2000 Senior Vice President and General Counsel
Christopher A. Coughlin
 
53
 
2012 Group President
 
 
 
 
2011 President - Process Industries
 
 
 
 
2010 President - Process Industries & Supply Chain
 
 
 
 
2009 President - Process Industries
Glenn A. Eisenberg
 
52
 
2002 Executive Vice President—Finance and Administration
Philip D. Fracassa
 
45
 
2014 Chief Financial Officer (1)
 
 
 
 
2012 Senior Vice President - Planning and Development
 
 
 
 
2010 Senior Vice President and Controller - BP&T
 
 
 
 
2009 Senior Vice President - Tax and Treasury
Richard G. Kyle
 
48
 
2013 Chief Operating Officer - B&PT; Director
 
 
 
 
2012 Group President
 
 
 
 
2011 President - Mobile Industries & Aerospace
 
 
 
 
2009 President - Mobile Industries
J. Ted Mihaila
 
59
 
2006 Senior Vice President and Controller
Donald L. Walker
 
57
 
2004 Senior Vice President - Human Resources and Organizational
          Advancement
(1)
Effective March 1, 2014

16


PART II.

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

The Company’s common shares are traded on the New York Stock Exchange under the symbol “TKR.” The estimated number of record holders of the Company’s common shares at December 31, 2013 was 4,850. The estimated number of beneficial shareholders at December 31, 2013 was 52,218.
The following table provides information about the high and low sales prices for the Company’s common shares and dividends paid for each quarter for the last two fiscal years.
 
 
2013
 
2012
 
Stock prices
Dividends
 
Stock prices
Dividends
 
High
Low
per share
 
High
Low
per share
First quarter
$
58.50

$
47.67

$
0.23

 
$
54.87

$
38.92

$
0.23

Second quarter
$
59.44

$
50.22

$
0.23

 
$
57.94

$
41.81

$
0.23

Third quarter
$
64.35

$
55.00

$
0.23

 
$
46.49

$
32.59

$
0.23

Fourth quarter
$
61.57

$
50.22

$
0.23

 
$
48.12

$
36.15

$
0.23


Issuer Purchases of Common Shares:
The following table provides information about purchases of its common shares by the Company during the quarter ended December 31, 2013.
 
Period
Total number
of shares purchased (1)
Average
price paid per share (2)
Total number of
shares purchased as
part of publicly
announced
plans or programs
Maximum number
of shares that may
yet be purchased
under the
plans or programs (3)
10/1/2013 - 10/31/2013
9,323

$
52.69


5,627,807

11/1/2013 - 11/30/2013
1,191,987

53.12

1,190,000

4,437,807

12/1/2013 - 12/31/2013
358,345

52.15

357,000

4,080,807

Total
1,559,655

$
52.90

1,547,000

4,080,807

 
(1)
Of the shares purchased in October, November and December, 9,323, 1,987 and 1,345, respectively, represent common shares of the Company that were owned and tendered by employees to exercise stock options, and to satisfy withholding obligations in connection with the exercise of stock options and vesting of restricted shares.
(2)
For shares tendered in connection with the vesting of restricted shares, the average price paid per share is an average calculated using the daily high and low of the Company’s common shares as quoted on the New York Stock Exchange at the time of vesting. For shares tendered in connection with the exercise of stock options, the price paid is the real-time trading share price at the time the options are exercised.
(3)
On February 10, 2012, the Board of Directors of the Company approved a new share purchase plan pursuant to which the Company may purchase up to ten million of its common shares in the aggregate. This new share purchase plan replaced the Company’s 2006 common share purchase plan and this authorization expires on December 31, 2015. The Company may purchase shares from time to time in open market purchases or privately negotiated transactions. The Company may make all or part of the purchases pursuant to accelerated share repurchases or Rule 10b5-1 plans.

 


17


Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities (continued)

*Total return assumes reinvestment of dividends. Fiscal years ending December 31.
Assumes $100 invested on January 1, 2009, in Timken common shares, the S&P 500 Index, and the S&P 400 Industrials.


 
2009
2010
2011
2012
2013
Timken
$
124

$
254

$
210

$
264

$
309

S&P 500
126

145

149

172

228

S&P 400 Industrials
132

172

170

207

299

 
The line graph compares the cumulative total shareholder returns over five years for The Timken Company, the S&P 500 Stock Index and the S&P 400 Industrials Index.

18


Item 6. Selected Financial Data

Summary of Operations and Other Comparative Data:
(Dollars in millions, except per share and per employee data)
2013
2012
2011
2010
2009
Statements of Income
 
 
 
 
 
Net sales
$
4,341.2

$
4,987.0

$
5,170.2

$
4,055.5

$
3,141.6

Gross profit
1,092.0

1,366.3

1,369.7

1,021.7

582.7

Selling, general and administrative expenses
626.6

643.9

626.2

563.8

472.7

Impairment and restructuring charges
16.4

29.5

14.4

21.7

164.1

Operating income (loss)
436.0

692.9

729.1

436.2

(54.1
)
Other income (expense), net
3.6

101.3

(1.1
)
3.8

(0.1
)
Interest expense, net
22.5

28.2

31.2

34.5

40.0

Income (loss) from continuing operations
263.0

495.9

456.6

269.5

(66.0
)
Income (loss) from discontinued operations, net of income taxes



7.4

(72.6
)
Net income (loss) attributable to The Timken Company
$
262.7

$
495.5

$
454.3

$
274.8

$
(134.0
)
Balance Sheets
 
 
 
 
 
Inventories, net
$
809.9

$
862.1

$
964.4

$
828.5

$
671.2

Property, plant and equipment, net
1,558.1

1,405.3

1,308.9

1,267.7

1,335.2

Total assets
4,477.9

4,244.2

4,327.4

4,180.4

4,006.9

Total debt:
 
 
 
 
 
Short-term debt
18.6

14.3

22.0

22.4

26.3

Current portion of long-term debt
250.7

9.6

14.3

9.6

17.1

Long-term debt
206.6

455.1

478.8

481.7

469.3

Total debt
$
475.9

$
479.0

$
515.1

$
513.7

$
512.7

Net debt (cash)
 
 
 
 
 
Total debt
475.9

479.0

515.1

513.7

512.7

Less: cash and cash equivalents and restricted cash
(399.7
)
(601.5
)
(468.4
)
(877.1
)
(755.5
)
 Net debt (cash): (1)
$
76.2

$
(122.5
)
$
46.7

$
(363.4
)
$
(242.8
)
Total liabilities
1,829.3

1,997.6

2,284.9

2,238.6

2,411.3

Shareholders’ equity
$
2,648.6

$
2,246.6

$
2,042.5

$
1,941.8

$
1,595.6

Capital:
 
 
 
 
 
Net debt (cash)
76.2

(122.5
)
46.7

(363.4
)
(242.8
)
Shareholders’ equity
2,648.6

2,246.6

2,042.5

1,941.8

1,595.6

Net debt (cash) + shareholders’ equity (capital)
$
2,724.8

$
2,124.1

$
2,089.2

$
1,578.4

$
1,352.8

Other Comparative Data
 
 
 
 
 
Income (loss) from continuing operations / Net sales
6.1
%
9.9
 %
8.8
%
6.6
 %
(2.1
)%
Net income (loss) attributable to The Timken Company / Net sales
6.1
%
9.9
 %
8.8
%
6.8
 %
(4.3
)%
 Return on equity (2)
9.9
%
22.1
 %
22.4
%
13.9
 %
(4.1
)%
 Net sales per employee (3)
$
223.7

$
243.5

$
253.5

$
222.2

$
168.8

Capital expenditures
325.8

297.2

205.3

115.8

114.1

Depreciation and amortization
194.6

198.0

192.5

189.7

201.5

Capital expenditures / Net sales
7.5
%
6.0
 %
4.0
%
2.9
 %
3.6
 %
Dividends per share
$
0.92

$
0.92

$
0.78

$
0.53

$
0.45

 Basic earnings (loss) per share - continuing operations (4)
$
2.76

$
5.11

$
4.65

$
2.76

$
(0.64
)
 Diluted earnings (loss) per share - continuing operations (4)
$
2.74

$
5.07

$
4.59

$
2.73

$
(0.64
)
 Basic earnings (loss) per share (5)
$
2.76

$
5.11

$
4.65

$
2.83

$
(1.39
)
 Diluted earnings (loss) per share (5)
$
2.74

$
5.07

$
4.59

$
2.81

$
(1.39
)
Net debt (cash) to capital (1)
2.8
%
(5.8
)%
2.2
%
(23.0
)%
(17.9
)%
Number of employees at year-end (6)
19,052

19,769

20,954

19,839

16,667

Number of shareholders (7)
52,218

50,783

44,238

39,118

27,127


(1)
The Company presents net debt (cash) because it believes net debt (cash) is more representative of the Company’s financial position than total debt due to the amount of cash and cash equivalents.
(2)
Return on equity is defined as income from continuing operations divided by ending shareholders’ equity.
(3)
Based on average number of employees employed during the year.
(4)
Based on average number of shares outstanding during the year.
(5)
Based on average number of shares outstanding during the year and includes discontinued operations for all periods presented.
(6)
Adjusted to exclude Needle Roller Bearings operations (which was sold to JTEKT in 2009) for all periods.
(7)
Includes an estimated count of shareholders having common shares held for their accounts by banks, brokers and trustees for benefit plans.


19


Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Dollars in millions, except per share data)

OVERVIEW

The Timken Company, a global industrial technology leader, applies its deep knowledge of materials, friction management and mechanical power transmission to improve the reliability and efficiency of industrial machinery and equipment all around the world. The Company engineers, manufactures and markets high-performance engineered steel, bearings and related mechanical power transmission components and services. Timken® bearings, alloy steel bars and tubes as well as transmissions, gearboxes, chain and related products and services, support diversified markets worldwide through the OEMs and aftermarket channels. The Company operates under four segments: (1) Mobile Industries; (2) Process Industries; (3) Aerospace; and (4) Steel. The following further describes these business segments:

Mobile Industries provides bearings, power transmission components, engineered chain, lubrication devices and systems, augers and related products and services to OEMs and suppliers of agricultural, construction and mining equipment; passenger cars, light trucks, medium- and heavy-duty trucks; rail cars and locomotives. Aftermarket sales are handled through the Company's extensive network of authorized automotive and heavy truck distributors.

Process Industries supplies bearings, power transmission components, engineered chains, and related products and services to OEMs and suppliers of power transmission, energy and heavy industrial machinery and equipment. This includes rolling mills, cement and aggregate processing equipment, paper mills, sawmills, printing presses, cranes, hoists, drawbridges, wind energy turbines, gear drives, drilling equipment, coal conveyors, coal crushers, marine equipment and food processing equipment. This segment also supports aftermarket needs through its global network of authorized industrial distributors as well as through its industrial services team, which offers end users a broad portfolio of capabilities that include bearing, gearbox and electric motor repair and services.

Aerospace provides bearings, helicopter transmission systems, rotor head assemblies, turbine engine components, gears and other precision flight-critical components for commercial and military aviation applications. It also provides aftermarket services, including repair and overhaul of engines, transmissions and fuel controls, as well as aerospace bearing repair and component reconditioning. Additionally, this segment manufactures precision bearings, complex assemblies and sensors for manufacturers of health and critical motion control equipment.

Steel manufactures alloy steel as well as carbon and micro-alloy steel. Included in its portfolio are SBQ bars and seamless mechanical tubing.  In addition, this segment supplies machining and thermal treatment services, as well as manages raw material recycling programs. This segment's metallurgical expertise and unique operational capabilities drive customized, high-value solutions for the mobile, industrial and energy sectors. 

The Company's strategy balances corporate aspirations for sustained growth and a determination to optimize the Company's existing portfolio of business, thereby generating strong earnings and cash flows. The Company pursues its strategy to create value by:

Applying its knowledge of metallurgy, friction management and mechanical power transmission to create unique solutions used in demanding applications that create value for its customers. The Company seeks to grow in attractive market sectors, with particular emphasis on those industrial markets that value the reliability and efficiency offered by the Company's products and that create significant aftermarket demand, thereby providing a lifetime of opportunity in both product sales and services.

20


Differentiating its businesses and its products, offering a broad array of mechanical power transmission components, high-performance steel and related solutions and services. In 2013 the Company announced the opening of its new industrial service center in Raipur, India, which will provide gear drive and bearing repair and upgrade services to meet growing customer demand for Timken industrial services outside the United States. Additionally, the Company expanded its product portfolio, launching new Timken® SNT plummer blocks and seals, adding new Timken® encoders and designing two new high-performance Timken® alloy steels to meet specific needs of the oil and gas industry.

Performing with excellence, delivering exceptional results with a passion for superior execution. The Company drives execution by embracing a continuous improvement culture that is charged with lowering costs, eliminating waste, increasing efficiency, encouraging organizational agility and building greater brand equity. As part of this effort, the Company may also reposition underperforming product lines and segments and divest non-strategic assets.

The following items highlight certain of the Company's more significant strategic accomplishments in 2013:

In the fourth quarter of 2013, the Company implemented a strategy to repatriate approximately $365 million of cash, incurring tax expense of approximately $26 million. The Company repatriated $123 million of cash in January 2014, with the remaining portion expected to be repatriated in future periods. 

On September 5, 2013, the Company announced that its Board of Directors had approved a plan to pursue a separation of its steel business from the rest of the Company through a spinoff, creating a new independent, publicly traded steel company, TimkenSteel Corporation. The transaction is expected to be tax-free to shareholders and should be completed in mid-2014, subject to customary regulatory approvals, the receipt of a legal opinion regarding the tax-free nature of the transaction, the execution of intercompany agreements between the Company and the new steel company, final approval of the Company's Board of Directors and other customary matters. One-time transaction costs in connection with the separation of the two companies are expected to be approximately $105 million.

On May 13, 2013, the Company completed the acquisition of Hamilton Gear Ltd., d/b/a Standard Machine (Standard Machine), which provides new gearboxes, gearbox service and repair, open gearing, large gear fabrication, machining and field technical services to end users in Canada and the western United States, for approximately $37.0 million in cash, including cash acquired of approximately $0.1 million that was subject to a post-closing indebtedness adjustment. Based in Saskatoon, Saskatchewan, Canada, Standard Machine employs approximately 125 associates and serves a wide variety of industrial sectors including mining, oil and gas, and pulp and paper. In 2012, Standard Machine reported sales of approximately $31 million. The results for Standard Machine are reported in the Process Industries segment.

On April 11, 2013, the Company completed the acquisition of substantially all of the assets of Smith Services, Inc. (Smith Services), an electric motor repair specialist, for approximately $13.2 million. Based in Princeton, West Virginia and employing approximately 140 associates, Smith Services had 2012 sales of approximately $17 million. The results for Smith Services are reported in the Process Industries segment.

On March 11, 2013, the Company completed the acquisition of Interlube Systems Ltd. (Interlube), which makes and markets automated lubrication delivery systems and related components to end-market sectors, including commercial vehicles, construction, mining, and heavy and general industries, for approximately $14.5 million, including cash acquired of approximately $0.3 million, that was subject to a post-closing indebtedness adjustment. Based in Plymouth, United Kingdom, Interlube employs about 90 associates and had 2012 sales of approximately $13 million. The results of Interlube are reported in the Mobile Industries segment.



21


RESULTS OF OPERATIONS
2013 compared to 2012

Overview: 
 
2013
2012
$ Change
% Change
Net sales
$
4,341.2

$
4,987.0

$
(645.8
)
(12.9
)%
Income from continuing operations
263.0

495.9

(232.9
)
(47.0
)%
Income attributable to noncontrolling interest
0.3

0.4

(0.1
)
(25.0
)%
Net income attributable to The Timken Company
$
262.7

$
495.5

$
(232.8
)
(47.0
)%
Diluted earnings per share
$
2.74

$
5.07

$
(2.33
)
(46.0
)%
Average number of shares—diluted
95,823,728

97,602,481


(1.8
)%

The Company reported net sales for 2013 of approximately $4.3 billion, compared to approximately $5.0 billion in 2012, a 12.9% decrease. The decrease in sales was primarily due to lower volume across all business segments and lower surcharges, partially offset by the impact of acquisitions and favorable pricing. In 2013, net income per diluted share was $2.74, compared to $5.07 in 2012. The Company's net income for 2013, compared to 2012, was lower due to the impact of lower volume, unfavorable sales mix, higher manufacturing costs and separation costs due to the planned spinoff of the steel business, partially offset by lower raw material costs (net of surcharges), lower selling, general and administrative expenses, favorable pricing and lower restructuring charges. In addition, net income for 2013 was lower due to U.S. Continued Dumping and Subsidy Offset Act (CDSOA) receipts, net of expense, of $108.0 million ($68.0 million after tax, or approximately $0.69 per diluted share) received in 2012. The higher manufacturing costs were the result of lower plant utilization. Restructuring charges related to the closure of the manufacturing facility in St. Thomas, Ontario, Canada (St. Thomas) were lower in 2013 compared to 2012.

Outlook:
The Company's outlook reflects its current business structure with all four operating segments in place for the full twelve months of 2014. The Company expects sales to increase approximately 6% in 2014 compared to 2013, primarily driven by higher demand in the industrial, off-highway, energy, defense and rail end-market sectors. The Company's earnings are expected to be higher in 2014 compared to 2013, primarily due to higher demand and the impact from cost-reduction initiatives, with all four segments expected to achieve double-digit operating margins.

From a liquidity standpoint, the Company expects to generate cash from operations of approximately $560 million in 2014, an increase of $128 million or 30% over 2013, as the Company anticipates higher net income and lower pension contributions. Pension contributions are expected to be approximately $20 million in 2014, compared to $120.7 million in 2013. The Company expects to decrease capital expenditures to approximately $310 million in 2014, compared to $325.8 million in 2013.



22


THE STATEMENTS OF INCOME

Sales by Segment:
 
2013
2012
$ Change
% Change    
(Excludes intersegment sales)
 
 
 
 
Mobile Industries
$
1,474.3

$
1,675.0

$
(200.7
)
(12.0
)%
Process Industries
1,231.7

1,337.6

(105.9
)
(7.9
)%
Aerospace
329.5

346.9

(17.4
)
(5.0
)%
Steel
1,305.7

1,627.5

(321.8
)
(19.8
)%
Total Company
$
4,341.2

$
4,987.0

$
(645.8
)
(12.9
)%

Net sales for 2013 decreased $645.8 million, or 12.9%, compared to 2012, primarily due to lower volume of approximately $625 million across all segments. In addition, the decrease in sales reflects lower surcharges of approximately $115 million and the impact of foreign currency exchange of approximately $10 million, partially offset by the impact of acquisitions of approximately $85 million and favorable pricing of approximately $20 million.

Gross Profit:
 
2013
2012
$ Change
Change
Gross profit
$
1,092.0

$
1,366.3

$
(274.3
)
(20.1
%)
Gross profit % to net sales
25.2
%
27.4
%

(220
) bps
Rationalization expenses included in cost of products sold
$
5.9

$
8.3

$
(2.4
)
(28.9
%)

Gross profit decreased in 2013 compared to 2012, primarily due to the impact of lower sales volume of approximately $275 million, unfavorable sales mix of approximately $50 million and higher manufacturing costs of approximately $35 million, partially offset by lower raw material costs (net of surcharges) of approximately $55 million, the impact of acquisitions of approximately $20 million and favorable pricing of approximately $20 million.

Selling, General and Administrative Expenses:
 
2013
2012
$ Change
Change
Selling, general and administrative expenses
$
626.6

$
643.9

$
(17.3
)
(2.7)%

Selling, general and administrative expenses % to net
 sales
14.4
%
12.9
%

150
 bps

The decrease in selling, general and administrative expenses of $17.3 million in 2013 compared to 2012 was primarily due to lower expenses related to incentive compensation plans of approximately $30 million, partially offset by the full-year impact of acquisitions of approximately $15 million.



23


Impairment and Restructuring Charges:
 
2013
2012
$ Change
Impairment charges
$
0.7

$
6.6

$
(5.9
)
Severance and related benefit costs
16.3

18.4

(2.1
)
Exit costs
(0.6
)
4.5

(5.1
)
Total
$
16.4

$
29.5

$
(13.1
)

Impairment and restructuring charges decreased $13.1 million in 2013 compared to 2012. Impairment and restructuring charges of $16.4 million in 2013 were primarily due to the recognition of severance and related benefits of approximately $10 million, including $7.1 million of pension settlement costs, related to the closure of the manufacturing facility in St. Thomas. In addition, impairment and restructuring charges for 2013 included severance and related benefit costs of approximately $6 million due to cost-reduction initiatives relating to reductions in headcount in the bearings and power transmission business. Impairment and restructuring charges of $29.5 million in 2012 were primarily due to the recognition of severance and related benefits, including approximately $10.7 million of pension curtailment charges, as well as impairment charges, related to the closure of the manufacturing facility in St. Thomas and the recognition of environmental remediation costs at the former manufacturing facility in Sao Paulo, Brazil (Sao Paulo). Refer to Note 10 - Impairment and Restructuring Charges in the Notes to the Consolidated Financial Statements for additional discussion.

Separation Costs:
 
2013
2012
$ Change
Severance and related benefit costs
$
5.7

$

$
5.7

Professional fees
7.3


7.3

Total
$
13.0

$

$
13.0


On September 5, 2013, the Company announced its intent to pursue a separation of the Company's steel business through a tax-free spinoff, creating a new independent publicly traded steel company, TimkenSteel Corporation, that is expected to be completed by mid-year 2014.

In connection with the spinoff, the Company expects to incur one-time separation costs of approximately $105 million, of which approximately $30 million is expected to be capital. Included in these costs is approximately $15 million related to another specific cost-reduction initiative to generate an additional $20 million of annualized savings, which are intended to mitigate the incremental enterprise costs associated with operating two independent companies. As of December 31, 2013, the Company has incurred approximately $13 million of separation costs related to the planned spinoff of the steel business.

Interest (Expense) and Income:
 
2013
2012
$ Change
% Change
Interest (expense)
$
(24.4
)
$
(31.1
)
$
6.7

(21.5
)%
Interest income
1.9

2.9

(1.0
)
(34.5
)%

Interest expense for 2013 decreased compared to 2012 primarily due to lower average debt and higher capitalized interest. Interest income decreased for 2013 compared to 2012 primarily due to lower invested cash balances.



24


Other (Expense) Income:
 
2013
2012
$ Change
% Change
CDSOA (expense) receipts, net
$
(2.8
)
$
108.0

$
(110.8
)
(102.6
)%
 
 
 
 
 
Gain on sale of real estate in Brazil
5.4


5.4

NM

Other income (expense), net
1.0

(6.7
)
7.7

114.9
 %
Total
$
6.4

$
(6.7
)
$
13.1

(195.5
)%

The CDSOA provides for distribution of monies collected by U.S. Customs from antidumping cases to qualifying domestic producers where the domestic producers have continued to invest in their technology, equipment and people. In 2013, the Company reported expenses in connection with CDSOA of $2.8 million. In 2012, the Company reported CDSOA receipts, net of expense, of $108 million. Refer to Note 20 - Continued Dumping and Subsidy Offset Act in the Notes to the Consolidated Financial Statements for additional information.

In November 2013, the Company finalized the sale of its former manufacturing facility in Sao Paulo, resulting in a $5.4 million gain. The Company is recognizing the gain on the sale of this facility on the installment method. The Company expects to recognize an additional gain of approximately $25 million in 2014 related to this transaction.

Income Tax Expense:
 
2013
2012
$ Change
Change
Income tax expense
$
154.1

$
270.1

$
(116.0
)
(42.9)%

Effective tax rate
36.9
%
35.3
%

160 bps


The effective tax rate on pretax income for 2013 was unfavorable relative to the U.S. federal statutory rate primarily due to U.S. taxation of foreign income including U.S. taxation on cash repatriation, losses at certain foreign subsidiaries where no tax benefit could be recorded, U.S. non-deductible items, including certain separation costs, and U.S. state and local taxes. These factors were partially offset by discrete U.S. tax benefits, including certain settlements related to tax audits, U.S. foreign tax credits, earnings in certain foreign jurisdictions where the effective tax rate is less than 35%, the U.S. manufacturing deduction and the U.S research tax credit.

The effective tax rate for 2012 was unfavorable relative to the U.S. federal statutory rate primarily due to losses at certain foreign subsidiaries where no tax benefit could be recorded, U.S. state and local taxes and U.S. taxation of foreign income. These factors were partially offset by earnings in certain foreign jurisdictions where the effective tax rate is less than 35%, U.S. foreign tax credits, the U.S. manufacturing deduction and certain discrete U.S. tax benefits.
The change in the effective tax rate in 2013 compared to 2012 was primarily due to U.S. taxation of foreign income, including U.S. taxation on cash repatriation, losses at certain foreign subsidiaries where no tax benefit could be recorded and higher U.S. state and local taxes, partially offset by U.S. foreign tax credits, higher U.S. manufacturing deduction and the net effect of other discrete items.


25


BUSINESS SEGMENTS

The primary measurement used by management to measure the financial performance of each segment is earnings before interest and taxes (EBIT). Refer to Note 15 - Segment Information in the Notes to the Consolidated Financial Statements for the reconciliation of EBIT by segment to consolidated income before income taxes.

The presentation of segment results below includes a reconciliation of the changes in net sales for each segment reported in accordance with U.S. GAAP to net sales adjusted to remove the effects of acquisitions made in 2013 and 2012 and currency exchange rates. The effects of acquisitions and currency exchange rates on net sales are removed to allow investors and the Company to meaningfully evaluate the percentage change in net sales on a comparable basis from period to period. During the fourth quarter of 2012, the Company completed the acquisition of substantially all of the assets of Wazee Companies, LLC (Wazee). During the first quarter of 2013, the Company completed the acquisition of Interlube. Results for Interlube are reported in the Mobile Industries segment. During the second quarter of 2013, the Company completed the acquisition of Standard Machine, as well as substantially all of the assets of Smith Services. Results for Standard Machine, Smith Services and Wazee are reported in the Process Industries segment.

Mobile Industries Segment:
 
2013
2012
$ Change
Change
Net sales, including intersegment sales
$
1,475.4

$
1,675.5

$
(200.1
)
(11.9)%

EBIT
$
164.7

$
208.1

$
(43.4
)
(20.9)%

EBIT margin
11.2
%
12.4
%

(120) bps

 
 
 
 
 
 
 
 
 
 
  
2013
2012
$ Change
% Change
Net sales, including intersegment sales
$
1,475.4

$
1,675.5

$
(200.1
)
(11.9)%

Less: Acquisitions
27.0


27.0

NM

         Currency
(11.5
)

(11.5
)
NM

Net sales, excluding the impact of acquisitions and currency
$
1,459.9

$
1,675.5

$
(215.6
)
(12.9)%


The Mobile Industries segment’s net sales, excluding the impact of acquisitions and currency-rate changes, decreased 12.9% in 2013 compared to 2012, primarily due to lower volume of approximately $220 million, partially offset by favorable pricing of approximately $5 million. The lower volume was driven by a 20% decrease in off-highway, primarily in mining and agriculture sectors. In addition, heavy truck declined 18% and light vehicle declined 14% primarily due to planned program exits. EBIT decreased in 2013 compared to 2012, primarily due to the impact of lower volume of approximately $80 million and higher manufacturing costs of approximately $20 million, partially offset by lower restructuring charges of approximately $15 million, lower material costs of approximately $15 million, lower selling, general and administrative expenses of approximately $15 million, favorable pricing of approximately $5 million and a gain on the sale at the Company's former manufacturing facility in Sao Paulo of approximately $5 million. Restructuring charges related to the closure of the manufacturing facility in St. Thomas were lower in 2013 compared to 2012.

Sales for the Mobile Industries segment are expected to decrease by 3% to 8% in 2014 compared to 2013. The expected decrease is primarily due to a decrease in lower light-vehicle volume of approximately 30%, driven by planned program exits, partially offset by an increase in off-highway volume of approximately 5% and an increase in rail volume of approximately 5%. EBIT for the Mobile Industries segment is expected to remain approximately the same in 2014 compared to 2013 as a result of the recognition of an additional gain related to the Company's former manufacturing facility in Sao Paulo offset by the impact of lower volume.


26


Process Industries Segment:
 
2013
2012
$ Change
Change
Net sales, including intersegment sales
$
1,235.6

$
1,343.3

$
(107.7
)
(8.0)%

EBIT
$
201.9

$
274.9

$
(73.0
)
(26.6)%

EBIT margin
16.3
%
20.5
%

(420
) bps
 
 
 
 
 
 
 
 
 
 
  
2013
2012
$ Change
% Change
Net sales, including intersegment sales
$
1,235.6

$
1,343.3

$
(107.7
)
(8.0)%

Less: Acquisitions
59.0


59.0

NM

         Currency
0.7


0.7

NM

Net sales, excluding the impact of acquisitions and currency
$
1,175.9

$
1,343.3

$
(167.4
)
(12.5)%


The Process Industries segment’s net sales, excluding the impact of acquisitions and currency-rate changes, decreased 12.5% for 2013 compared to 2012, primarily due to decreases in volume of approximately $185 million, partially offset by favorable pricing of approximately $15 million. EBIT in 2013 decreased compared to 2012 primarily due to the impact of lower volume of approximately $90 million and higher manufacturing costs of approximately $15 million, partially offset by favorable pricing of approximately $15 million and lower selling, general and administrative expenses of approximately $10 million.

Sales for the Process Industries segment are expected to increase 7% to 12% in 2014 compared to 2013 as a result of increased demand across most industrial end-market sectors. EBIT for the Process Industries segment is expected to increase in 2014 compared to 2013 due to increased volume.

Aerospace Segment:
 
2013
2012
$ Change
Change
Net sales, including intersegment sales
$
329.5

$
346.9

$
(17.4
)
(5.0)%

EBIT
$
26.6

$
36.3

$
(9.7
)
(26.7)%

EBIT margin
8.1
%
10.5
%

(240
) bps
  
2013
2012
$ Change
% Change
Net sales, including intersegment sales
$
329.5

$
346.9

$
(17.4
)
(5.0)%

Less: Currency
0.5


0.5

NM

Net sales, excluding the impact of currency
$
329.0

$
346.9

$
(17.9
)
(5.2)%


The Aerospace segment’s net sales, excluding the impact of currency-rate changes, decreased 5.2% for 2013 compared to 2012. The decrease was due to lower volume of approximately $20 million, partially offset by favorable pricing of approximately $2 million. The decrease in volume was driven by a decrease in the critical motion market sector of approximately 15% and the defense market sector of approximately 4%. EBIT decreased in 2013 compared to 2012, primarily due to higher manufacturing costs of approximately $15 million and the impact of lower volume of approximately $7 million, partially offset by lower selling, general and administrative expenses of approximately $5 million and favorable pricing of approximately $2 million.

Sales for the Aerospace segment are expected to increase by approximately 5% to 10% in 2014 compared to 2013, due to increased demand in both the defense and critical motion market sectors. EBIT for the Aerospace segment is expected to increase in 2014 compared to 2013 as a result of higher volume and lower manufacturing expenses.


27


Steel Segment:
 
2013
2012
$ Change
Change
Net sales, including intersegment sales
$
1,380.8

$
1,728.7

$
(347.9
)
(20.1)%

EBIT
$
140.2

$
251.8

$
(111.6
)
(44.3)%

EBIT margin
10.2
%
14.6
%

(440
) bps
  
2013
2012
$ Change
% Change
Net sales, including intersegment sales
$
1,380.8

$
1,728.7

$
(347.9
)
(20.1)%

Less: Currency
1.1


1.1

NM

Net sales, excluding the impact of currency
$
1,379.7

$
1,728.7

$
(349.0
)
(20.2)%


The Steel segment’s net sales for 2013, excluding the impact of currency-rate changes, decreased 20.2% compared to 2012. The decrease was primarily due to lower volume of approximately $230 million and lower surcharges of approximately $115 million. The lower volume was led by decreases in industrial demand of approximately 35% and oil and gas demand of approximately 30%, partially offset by an increase in mobile demand of approximately 10%.

Surcharges decreased to $300 million in 2013 from approximately $415 million in 2012. Approximately 60% of the decrease in surcharges was a result of lower volume. The remaining portion was a result of lower market prices for certain input raw materials, especially scrap steel, nickel and molybdenum. Surcharges are a pricing mechanism that the Company uses to recover scrap steel, energy and certain alloy costs, which are derived from published monthly indices.

Amounts are shown in whole values
2013
2012
Change
% Change
Scrap index per ton
$
405

$
429

$
(24
)
(5.6)%

Shipments (in tons)
919,000

1,070,000

(151,000
)
(14.1)%

Average selling price per ton, including surcharges
$
1,503

$
1,615

$
(112
)
(6.9)%


The decrease in the average selling price was primarily the result of lower volume and surcharges.

The Steel segment’s EBIT decreased $111.6 million in 2013 compared to 2012, primarily due to lower surcharges of approximately $115 million, the impact of lower volume of approximately $95 million, unfavorable mix of approximately $50 million and higher LIFO expense of approximately $17 million, partially offset by lower raw material costs of approximately $150 million and lower logistics and manufacturing costs of approximately $15 million. In 2013, the Steel segment recognized an increase in its LIFO reserve of LIFO expense of $1.1 million, compared to a decrease in its LIFO reserve of $15.6 million in 2012. The change in LIFO was due to lower inventory levels and the mix of inventory. Raw material costs consumed in the manufacturing process, including scrap steel, alloys and energy, decreased 14% in 2013 compared to the prior year to an average cost of $463 per ton.

Sales for the Steel segment are expected to increase 12% to 17% in 2014 compared to 2013, primarily due to higher volume and higher surcharges. The Company expects higher volume to be driven by increases in oil and gas and industrial demand of over 20% each, with mobile demand remaining relatively flat. EBIT for the Steel segment is expected to increase in 2014 compared to 2013 driven by higher volume, higher surcharges and lower manufacturing costs, partially offset by higher raw material costs and higher LIFO expense. Scrap, alloy and energy costs are expected to increase in the near term from current levels.

Corporate:
 
2013
2012
$ Change
Change
Corporate expenses
$
79.7

$
84.4

$
(4.7
)
(5.6) %

Corporate expenses % to net sales
1.8
%
1.7
%

10
 bps

Corporate expenses decreased in 2013 compared to 2012 primarily due to lower expense related to incentive compensation plans.

28


RESULTS OF OPERATIONS:
2012 compared to 2011

Overview:
 
2012
2011
$ Change
% Change
Net sales
$
4,987.0

$
5,170.2

$
(183.2
)
(3.5
)%
Income from continuing operations
495.9

456.6

39.3

8.6
 %
Income attributable to noncontrolling interest
0.4

2.3

(1.9
)
(82.6
)%
Net income attributable to The Timken Company
$
495.5

$
454.3

$
41.2

9.1
 %
Diluted earnings per share
$
5.07

$
4.59

$
0.48

10.5
 %
Average number of shares - diluted
97,602,481

98,655,513


(1.1
)%

The Company reported net sales for 2012 of approximately $5.0 billion, compared to approximately $5.2 billion in 2011, a 3.5% decrease. The sales decrease reflects lower volume across all business segments except for the Aerospace segment, lower surcharges and the effect of currency rate changes, partially offset by favorable pricing and the impact of acquisitions. In 2012, net income per diluted share was $5.07, compared to $4.59 in 2011. The Company's earnings for 2012 reflected CDSOA receipts, net of expense, of $108.0 million ($68.0 million after tax, or approximately $0.69 per diluted share), as well as favorable pricing, lower material costs and the impact of prior-year acquisitions, partially offset by lower material surcharges, the impact of lower volume, higher manufacturing costs and restructuring charges related to the announced closure of the manufacturing facility in St. Thomas. The higher manufacturing costs were the result of lower plant utilization.

THE STATEMENTS OF INCOME

Sales by Segment:
 
2012
2011
$ Change
% Change
(Excludes intersegment sales)
 
 
 
 
Mobile Industries
$
1,675.0

$
1,768.9

$
(93.9
)
(5.3
)%
Process Industries
1,337.6

1,240.5

97.1

7.8
 %
Aerospace
346.9

324.1

22.8

7.0
 %
Steel
1,627.5

1,836.7

(209.2
)
(11.4
)%
Total Company
$
4,987.0

$
5,170.2

$
(183.2
)
(3.5
)%

Net sales for 2012 decreased $183.2 million, or 3.5%, compared to 2011, primarily due to lower volume of approximately $300 million principally driven by the Steel segment and the Mobile Industries’ heavy truck and light vehicle market sectors. In addition, the decrease in sales reflects lower surcharges of approximately $155 million and the effect of currency rate changes of approximately $75 million, partially offset by favorable pricing of $190 million and the impact of prior-year acquisitions of $160 million.

Gross Profit:
 
2012
2011
$ Change
Change
Gross profit
$
1,366.3

$
1,369.7

$
(3.4
)
(0.2) %

Gross profit % to net sales
27.4
%
26.5
%

90
 bps
Rationalization expenses included in cost of products sold
$
8.3

$
6.7

$
1.6

23.9 %


Gross profit decreased in 2012 compared to 2011, primarily due to lower surcharges of approximately $160 million, the impact of lower sales volume of approximately $150 million and higher manufacturing costs of approximately $75 million, mostly offset by favorable pricing of approximately $190 million, lower raw material and logistics costs of approximately $155 million and the impact from prior-year acquisitions of approximately $40 million.



29


Selling, General and Administrative Expenses:
 
2012
2011
$ Change
Change
Selling, general and administrative expenses
$
643.9

$
626.2

$
17.7

2.8 %

Selling, general and administrative expenses % to net sales
12.9
%
12.1
%

80
 bps

The increase in selling, general and administrative expenses of $17.7 million in 2012 compared to 2011 was primarily due to the full-year impact of acquisitions of approximately $15 million and higher salaries and related benefits of approximately $15 million, partially offset by lower expense related to incentive compensation plans of approximately
$15 million.

Impairment and Restructuring Charges:
 
2012
2011
$ Change
Impairment charges
$
6.6

$
0.5

$
6.1

Severance and related benefit costs
18.4

0.1

18.3

Exit costs
4.5

13.8

(9.3
)
Total
$
29.5

$
14.4

$
15.1


Impairment and restructuring charges increased $15.1 million in 2012 compared to 2011. Impairment and restructuring charges of $29.5 million in 2012 were primarily due to the recognition of severance and related benefits, including $10.7 million of pension curtailment charges, as well as impairment charges related to the announced closure of the manufacturing facility in St. Thomas and the recognition of environmental remediation costs at the former manufacturing facility in Sao Paulo. Impairment and restructuring charges of $14.4 million in 2011 were primarily related to environmental remediation costs and workers compensation claims by former associates at the former manufacturing facility in Sao Paulo. Refer to Note 10 – Impairment and Restructuring Charges in the Notes to the Consolidated Financial Statements for additional information.

Interest (Expense) and Income:
 
2012
2011
$ Change
% Change
Interest (expense)
$
(31.1
)
$
(36.8
)
$
5.7

(15.5
)%
Interest income
$
2.9

$
5.6

$
(2.7
)
(48.2
)%

Interest expense for 2012 decreased compared to 2011 primarily due to lower average debt and higher capitalized interest. Interest income decreased for 2012 compared to 2011 primarily due to lower invested cash balances.


30


Other (Expense) Income:
 
2012
2011
$ Change
% Change
CDSOA receipts (expense), net
$
108.0

$
(1.1
)
$
109.1

NM
Other (expense), net
(6.7
)

(6.7
)
NM

The Company reported CDSOA receipts, net of expense, of $108.0 million in 2012. In 2012, the Company reported expenses in excess of CDSOA receipts of $1.1 million. Refer to Note 20 - Continued Dumping and Subsidy Offset Act (CDSOA) in the Notes to the Consolidated Financial Statements for additional information.

Other (expense), net increased in 2012 compared to 2011 primarily due to higher foreign currency exchange losses and higher losses from the disposal of fixed assets. Other (expense), net for 2012 also includes the loss on the divestiture of its interest in Advanced Green Components (AGC) of $2.0 million.

Income Tax Expense:
 
2012
2011
$ Change
Change
Income tax expense
$
270.1

$
240.2

$
29.9

12.4 %

Effective tax rate
35.3
%
34.5
%

80
 bps

The effective tax rate on pretax income for 2012 was unfavorable relative to the U.S. federal statutory rate primarily due to losses at certain foreign subsidiaries where no tax benefit could be recorded, including restructuring charges related to the closure of the Company's manufacturing facility in St. Thomas, U.S. state and local taxes and U.S. taxation of foreign income. These factors were partially offset by earnings in certain foreign jurisdictions where the effective tax rate is less than 35%, U.S. foreign tax credits, the U.S. manufacturing deduction and certain discrete U.S. tax benefits.

The effective tax rate for 2011 was favorable relative to the U.S. federal statutory rate primarily due to earnings in certain foreign jurisdictions where the effective tax rate is less than 35%, the U.S. manufacturing deduction, the U.S. research tax credit and the net effect of other U.S. tax items, partially offset by losses at certain foreign subsidiaries where no tax benefit could be recorded, U.S. state and local taxes and the net effect of other discrete items.

The change in the effective tax rate in 2012 compared to 2011 was primarily due to losses at certain foreign subsidiaries where no tax benefit could be recorded, including restructuring charges related to the closure of the Company's manufacturing facility in St. Thomas, and higher U.S. state and local taxes, partially offset by U.S. foreign tax credits,
and the net effect of other discrete items.


31


BUSINESS SEGMENTS

The primary measurement used by management to measure the financial performance of each segment is EBIT. Refer to Note 15 - Segment Information in the Notes to the Consolidated Financial Statements for the reconciliation of EBIT by segment to consolidated income before income taxes.

The presentation of segment results below includes a reconciliation of the changes in net sales for each segment reported in accordance with U.S. GAAP to net sales adjusted to remove the effects of acquisitions made in 2011 and currency exchange rates. The effects of acquisitions and currency exchange rates on net sales are removed to allow investors and the Company to meaningfully evaluate the percentage change in net sales on a comparable basis from period to period. During the third quarter of 2011, the Company completed the acquisition of substantially all of the assets of Philadelphia Gear, which is reported in the Process Industries segment. During the fourth quarter of 2011, the Company completed the acquisition of Drives. Results for Drives are reported in the Mobile and Process Industries segments based on customer application. The acquisition of the assets of Wazee, which was completed on December 31, 2012, had no impact on the 2012 operating results.

Mobile Industries Segment:
 
2012
2011
$ Change
Change
Net sales, including intersegment sales
$
1,675.5

$
1,769.4

$
(93.9
)
(5.3
)%
EBIT
$
208.1

$
261.8

$
(53.7
)
(20.5
)%
EBIT margin
12.4
%
14.8
%

(240) bps
  
2012
2011
$ Change
% Change
Net sales, including intersegment sales
$
1,675.5

$
1,769.4

$
(93.9
)
(5.3
)%
Less: Acquisitions
65.4


65.4

NM

         Currency
(53.5
)

(53.5
)
NM

Net sales, excluding the impact of acquisitions and currency
$
1,663.6

$
1,769.4

$
(105.8
)
(6.0
)%

The Mobile Industries segment’s net sales, excluding the impact of acquisitions and currency-rate changes, decreased 6.0% in 2012 compared to 2011, primarily due to lower volume of approximately $120 million, partially offset by favorable pricing of $15 million and higher surcharges of $5 million. The lower volume was led by a decrease in light-vehicle volume of approximately 20%, driven by exited business, and a decrease in heavy truck volume of approximately 20%, partially offset by an increase in rail volume of approximately 20%. EBIT decreased in 2012 compared to 2011, primarily due to the impact of lower volume of approximately $45 million, restructuring costs of approximately $30 million due to the closure of the St. Thomas plant and higher manufacturing and material costs of approximately $25 million, partially offset by favorable pricing of approximately $15 million, lower logistics costs of approximately $15 million and higher surcharges of approximately $5 million.


32


Process Industries Segment:
 
2012
2011
$ Change
Change
Net sales, including intersegment sales
$
1,343.3

$
1,244.6

$
98.7

7.9 %

EBIT
$
274.9

$
274.2

$
0.7

0.3 %

EBIT margin
20.5
%
22.0
%

(150
) bps
 
 
 
 
 
  
2012
2011
$ Change
% Change
Net sales, including intersegment sales
$
1,343.3

$
1,244.6

$
98.7

7.9 %

Less: Acquisitions
94.2


94.2

NM

         Currency
(21.4
)

(21.4
)
NM

Net sales, excluding the impact of acquisitions and currency
$
1,270.5

$
1,244.6

$
25.9

2.1 %


The Process Industries segment’s net sales, excluding the effect of acquisitions and currency-rate changes, increased 2.1% for 2012 compared to 2011, primarily due to favorable pricing of approximately $25 million. EBIT in 2012 was comparable to 2011 due to favorable pricing of $25 million and the impact of prior-year acquisitions of $15 million, mostly offset by higher manufacturing costs of approximately $20 million, the negative impact of currency of approximately $10 million and the impact of unfavorable sales mix of approximately $5 million.

Aerospace Segment:
 
2012
2011
$ Change
Change
Net sales, including intersegment sales
$
346.9

$
324.1

$
22.8

7.0 %

EBIT
$
36.3

$
5.1

$
31.2

NM

EBIT margin
10.5
%
1.6
%

890
 bps
 
 
 
 
 
 
 
 
 
 
  
2012
2011
$ Change
% Change
Net sales, including intersegment sales
$
346.9

$
324.1

$
22.8

7.0 %

Less: Currency
(1.1
)

(1.1
)
NM

Net sales, excluding the impact of currency
$
348.0

$
324.1

$
23.9

7.4 %


The Aerospace segment’s net sales, excluding the effect of currency-rate changes, increased 7.4% for 2012 compared to 2011. The increase was due to higher volume of approximately $20 million and favorable pricing of approximately $5 million. The increase in volume was driven by increased demand in the critical motion market sector of approximately 15% and the defense market sector of approximately 10%. EBIT increased in 2012 compared to 2011, primarily due to the impact of higher volume of approximately $10 million, favorable pricing of approximately $5 million, lower manufacturing costs of approximately $5 million and lower selling, general and administrative expenses of approximately $5 million. The lower manufacturing costs were due to lower product warranty charges of approximately $4 million in 2012 compared to 2011, and an inventory write-down of approximately $3 million recognized in 2011.


33


Steel Segment:
 
2012
2011
$ Change
Change
Net sales, including intersegment sales
$
1,728.7

$
1,956.5

$
(227.8
)
(11.6) %

EBIT
$
251.8

$
267.4

$
(15.6
)
(5.8) %

EBIT margin
14.6
%
13.7
%

90
 bps
 
 
 
 
 
 
 
 
 
 
  
2012
2011
$ Change
% Change
Net sales, including intersegment sales
$
1,728.7

$
1,956.5

$
(227.8
)
(11.6) %

         Currency
(1.0
)

(1.0
)
NM

Net sales, excluding the impact of currency
$
1,729.7

$
1,956.5

$
(226.8
)
(11.6) %


The Steel segment’s net sales for 2012, excluding the impact of acquisitions and currency-rate changes, decreased 11.6% compared to 2011. The decrease was primarily due to lower volume of approximately $220 million and lower surcharges of approximately $165 million, partially offset by higher pricing and favorable sales mix of approximately $155 million. The lower volume was led by a decrease in industrial demand of approximately 25%, a decrease in oil and gas demand of approximately 15% and a decrease in mobile demand of approximately 5%.

Surcharges decreased to approximately $415 million in 2012 from approximately $580 million in 2011. Approximately 60% of the decrease in surcharges was a result of lower volumes. The remaining portion was a result of lower market prices for certain input raw materials, especially scrap steel, nickel and molybdenum.
Amounts are shown in whole values
2012
2011
Change
% Change
Scrap index per ton
$
429

$
485

$
(56
)
(11.5)%

Shipments (in tons)
1,070,000

1,286,000

(216,000
)
(16.8)%

Average selling price per ton, including
 surcharges
$
1,615

$
1,522

$
93

6.1%


The increase in the average selling price was primarily the result of higher pricing, partially offset by lower surcharges.

The Steel segment’s EBIT decreased $15.6 million in 2012 compared to 2011, primarily due to lower surcharges of approximately $165 million, the impact of lower volume of approximately $100 million and higher manufacturing costs of approximately $55 million, partially offset by favorable pricing of approximately $140 million, lower raw material costs of approximately $140 million and lower LIFO expense of approximately $30 million. In 2012, the Steel segment recognized LIFO income of $15.6 million, compared to LIFO expense of $15.2 million in 2011. The change in LIFO was due to lower inventory levels and the mix of inventory. Raw material costs consumed in the manufacturing process, including scrap steel, alloys and energy, decreased 8% in 2012 compared to the prior year to an average cost of $510 per ton.

Corporate:
 
2012
2011
$ Change
Change
Corporate expenses
$
84.4

$
80.8

$
3.6

4.5%

Corporate expenses % to net sales
1.7
%
1.6
%

10
 bps

Corporate expenses increased in 2012 compared to 2011, primarily due to higher salaries and related benefits of $5 million and higher professional fees of $4 million, partially offset by lower expense related to incentive compensation plans of $4 million.


34


THE BALANCE SHEETS

The following discussion is a comparison of the Consolidated Balance Sheets at December 31, 2013 and December 31, 2012.

Current Assets:
  
December 31,
  
  
  
2013
2012
$ Change
% Change
Cash and cash equivalents
$
384.6

$
586.4

(201.8
)
(34.4
)%
Restricted cash
15.1

15.1


NM

Accounts receivable, net
566.7

546.7

20.0

3.7
 %
Inventories, net
809.9

862.1

(52.2
)
(6.1
)%
Deferred income taxes
69.8

86.5

(16.7
)
(19.3
)%
Deferred charges and prepaid expenses
27.6

12.6

15.0

119.0
 %
Other current assets
63.8

52.6

11.2

21.3
 %
Total current assets
$
1,937.5

$
2,162.0

$
(224.5
)
(10.4
)%

Refer to the Consolidated Statements of Cash Flows for a discussion of the increase in cash and cash equivalents. Accounts receivable, net increased as a result of higher sales in December 2013 compared to December 2012, and a lower allowance for doubtful accounts of $1.9 million. Inventories decreased across all businesses to match current demand, partially offset by the impact of current year acquisitions. Deferred income taxes decreased while deferred charges and prepaid expenses increased due to a reclassification of income taxes related to intercompany transactions. Other current assets increased primarily due to the recognition of receivables related to the sale of real estate in Sao Paulo of approximately $14 million.

Property, Plant and Equipment, Net:
  
December 31,
  
  
  
2013
2012
$ Change
% Change
Property, plant and equipment
$
4,078.1

$
3,792.1

$
286.0

7.5
 %
Less: allowances for depreciation
(2,520.0
)
(2,386.8
)
(133.2
)
(5.6
)%
Property, plant and equipment, net
$
1,558.1

$
1,405.3

$
152.8

10.9
 %

The increase in property, plant and equipment, net in 2013 was primarily due to capital expenditures in 2013 exceeding depreciation expense. See "Other Disclosures - Capital Expenditures" for more information.

Other Assets:
  
December 31,
  
  
  
2013
2012
$ Change
% Change
Goodwill
$
358.7

$
338.9

$
19.8

5.8
 %
Non-current pension assets
342.6

0.2

342.4

NM

Other intangible assets
219.1

224.7

(5.6
)
(2.5
)%
Deferred income taxes
10.1

74.1

(64.0
)
(86.4
)%
Other non-current assets
51.8

39.0

12.8

32.8
 %
Total other assets
$
982.3

$
676.9

$
305.4

45.1
 %

The increase in goodwill was primarily due to acquisitions completed in 2013. The increase in non-current pension assets was primarily due to an increase in the discount rate used to measure the projected benefit obligation from 4% to 5%, as well as pension asset returns in excess of expectations, both of which primarily related to U.S. pension plans. The decrease in other intangible assets was primarily due to current-year amortization expense exceeding intangibles acquired in 2013. The decrease in deferred income taxes was primarily due to the recognition of certain tax deductible items, primarily related to accelerated tax depreciation, which are recognized in different periods for tax and financial reporting purposes, as well as the reduction of pension and postretirement liabilities. The increase in other non-current assets was primarily due to receivables of approximately $11 million extending beyond one year related to the sale of real estate in Sao Paulo.

35


Current Liabilities:
  
December 31,
  
  
  
2013
2012
$ Change
% Change
Short-term debt
$
18.6

$
14.3

$
4.3

30.1
 %
Accounts payable
222.5

216.2

6.3

2.9
 %
Salaries, wages and benefits
183.1

213.9

(30.8
)
(14.4
)%
Income taxes payable
107.1

33.5

73.6

219.7
 %
Deferred income taxes
7.6

2.8

4.8

171.4
 %
Other current liabilities
190.5

177.5

13.0

7.3
 %
Current portion of long-term debt
250.7

9.6

241.1

2,511.5
 %
Total current liabilities
$
980.1

$
667.8

$
312.3

46.8
 %

The increase in short-term debt during 2013 was primarily to provide liquidity for non-U.S. inter-company dividends. Salaries, wages and benefits decreased primarily due to the reduction in accruals for incentive based compensation plans. The increase in income taxes payable was primarily due to the provision for current-year income taxes and a reclassification of uncertain tax positions from other non-current liabilities to income taxes payable. These increases were partially offset by current-year tax payments. The increase in other current liabilities was primarily due to the recognition of a deferred gain of approximately $23 million related to the sale of real estate in Sao Paulo, partially offset by lower restructuring accruals. The increase in the current portion of long-term debt was primarily due to the reclassification of the Company’s $250 million fixed-rate senior unsecured notes, which mature in September 2014, from non-current liabilities to current liabilities.

Non-Current Liabilities:
  
December 31,
  
  
  
2013
2012
$ Change
% Change
Long-term debt
$
206.6

$
455.1

$
(248.5
)
(54.6
)%
Accrued pension cost
179.0

391.4

(212.4
)
(54.3
)%
Accrued postretirement benefits cost
233.9

371.8

(137.9
)
(37.1
)%
Deferred income taxes
166.9

4.5

162.4

NM

Other non-current liabilities
62.8

107.0

(44.2
)
(41.3
)%
Total non-current liabilities
$
849.2

$
1,329.8

$
(480.6
)
(36.1
)%

The decrease in long-term debt was primarily due to the reclassification of the Company’s $250 million fixed-rate senior unsecured notes, which mature in September 2014, to current liabilities. The decrease in accrued pension cost was primarily due to an increase in the discount rate used to measure the projected benefit obligation, as well as favorable returns on pension assets and $121 million in contributions, which changed the U.S. pension plans from underfunded to overfunded requiring a reclassification to non-current pension assets for 2013. The decrease in accrued postretirement benefits cost was primarily due to an increase in the discount rate used to measure the accumulated benefit obligation. The increase in deferred income taxes related primarily to the reduction of pension and postretirement liabilities. The decrease in other non-current liabilities was primarily due to a reclassification of uncertain tax positions to current income taxes payable.
  


36


Shareholders’ Equity:
  
December 31,
  
  
  
2013
2012
$ Change
% Change
Common stock
$
949.5

$
944.5

$
5.0

0.5
 %
Earnings invested in the business
2,586.4

2,411.2

175.2

7.3
 %
Accumulated other comprehensive loss
(626.1
)
(1,013.2
)
387.1

(38.2
)%
Treasury shares
(273.2
)
(110.3
)
(162.9
)
(147.7
)%
Noncontrolling interest
12.0

14.4

(2.4
)
(16.7
)%
Total equity
$
2,648.6

$
2,246.6

$
402.0

17.9
 %

Earnings invested in the business increased in 2013 by net income attributable to the Company of $262.7 million, partially offset by dividends of $87.5 million. The decrease in the accumulated other comprehensive loss was primarily due to a $398.3 million after tax pension and postretirement liability adjustment, partially offset by $11.5 million from foreign currency translation. The pension and postretirement liability adjustment was primarily due to an increase in the discount rate used to measure pension and postretirement plan obligations, as well as higher than expected returns on plan assets and the realization of actuarial losses in 2013. The foreign currency translation adjustment was due to the U.S. dollar strengthening relative to other currencies, such as the Australian dollar, the Indian rupee, the South African rand, the Canadian dollar and the Brazilian real. The increase in treasury shares was primarily due to the Company's purchase of 3.4 million of its common shares for an aggregate of $189.2 million, partially offset by shares issued pursuant to stock compensation plans.

CASH FLOWS
 
2013
2012
$ Change
Net cash provided by operating activities
$
430.0

$
624.1

$
(194.1
)
Net cash used by investing activities
(376.0
)
(297.7
)
(78.3
)
Net cash used by financing activities
(249.3
)
(208.6
)
(40.7
)
Effect of exchange rate changes on cash
(6.5
)
3.8

(10.3
)
(Decrease) increase in cash and cash equivalents
$
(201.8
)
$
121.6

$
(323.4
)

Operating activities provided net cash of $430.0 million in 2013, compared to $624.1 million in 2012. The change in cash from operating activities was primarily due to a decrease in net income, as well as the impact of incomes taxes and lower cash provided by working capital items. These decreases in cash were partially offset by lower pension contributions and other postretirement benefit payments. Net income attributable to The Timken Company decreased by $232.8 million in 2013 compared to 2012. Income taxes, including deferred income taxes, provided cash of $34.8 million in 2013, compared to $144.8 million in 2012. Pension and other postretirement benefit contributions and payments were $158.0 million in 2013, compared to $412.7 million in 2012.

The following chart displays the impact of working capital items on cash during 2013 and 2012:
 
 
2013
2012
Cash Provided (Used):
 
 
Accounts receivable
$
(13.4
)
$
103.0

Inventories
62.5

102.5

Trade accounts payable
3.5

(73.2
)
Other accrued expenses
(38.5
)
(54.0
)

Investing activities used cash of $376.0 million in 2013 compared to $297.7 million in 2012. The increase was primarily due to a $43.5 million increase in cash used for acquisitions and a $28.6 million increase in cash used for capital expenditures, as well as an $8.8 million reduction in cash provided by investments in short-term marketable securities. Short-term marketable securities provided cash of $5.5 million in 2013 after providing cash of $14.3 million in 2012.

37


Net cash used by financing activities was $249.3 million and $208.6 million in 2013 and 2012, respectively. The increase in cash used for financing activities was primarily due to increased purchases of common shares in 2013. The Company purchased 3.4 million of its common shares for an aggregate of $189.2 million in 2013 after purchasing 2.5 million of its common shares for an aggregate of $112.3 million in 2012. The increase was partially offset by a decrease of approximately $30 million on payments on long-term debt.

LIQUIDITY AND CAPITAL RESOURCES

Total debt was $475.9 million and $479.0 million at December 31, 2013 and December 31, 2012, respectively. Debt exceeded cash and cash equivalents by $76.2 million at December 31, 2013. At December 31, 2012, cash and cash equivalents exceeded debt by $122.5 million. The ratio of net debt (cash) to capital was 2.8% at December 31, 2013. The ratio of net debt (cash) to capital was (5.8)% at December 31, 2012.

Reconciliation of total debt to net (cash) debt and the ratio of net (cash) debt to capital:

Net Debt:
  
December 31,
  
2013
2012
Short-term debt
$
18.6

$
14.3

Current portion of long-term debt
250.7

9.6

Long-term debt
206.6

455.1

Total debt
$
475.9

$
479.0

Less: Cash and cash equivalents
384.6

586.4

 Restricted cash
15.1

15.1

Net debt (cash)
$
76.2

$
(122.5
)

Ratio of Net Debt to Capital:
  
December 31,
  
2013
2012
Net debt (cash)
$
76.2

$
(122.5
)
Total equity
2,648.6

2,246.6

Capital (net debt (cash) + total equity)
$
2,724.8

$
2,124.1

Ratio of net debt (cash) to capital
2.8
%
(5.8
)%

The Company presents net debt (cash) because it believes net debt (cash) is more representative of the Company’s financial position than total debt due to the amount of cash and cash equivalents.

On November 30, 2012, the Company entered into a three-year Amended and Restated Accounts Receivable Securitization Financing Agreement (Asset Securitization Agreement), which provides for borrowings up to $200 million, subject to certain borrowing base limitations, and is secured by certain domestic trade receivables of the Company. At December 31, 2013, the Company had no outstanding borrowings under the Asset Securitization Agreement; however, certain borrowing base limitations reduced the availability under the Asset Securitization Agreement to $149.3 million.

The Company has a $500 million Senior Credit Facility that matures on May 11, 2016. At December 31, 2013, the Company had no outstanding borrowings under the Senior Credit Facility but had letters of credit outstanding totaling $8.6 million, which reduced the availability under the Senior Credit Facility to $491.4 million. Under the Senior Credit Facility, the Company has two financial covenants: a consolidated leverage ratio and a consolidated interest coverage ratio. At December 31, 2013, the Company was in full compliance with the covenants under the Senior Credit Facility. The maximum consolidated leverage ratio permitted under the Senior Credit Facility is 3.25 to 1.0. As of December 31, 2013, the Company’s consolidated leverage ratio was 0.72 to 1.0. The minimum consolidated interest coverage ratio permitted under the Senior Credit Facility is 4.0 to 1.0. As of December 31, 2013, the Company’s consolidated interest coverage ratio was 18.84 to 1.0.

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The interest rate under the Senior Credit Facility is based on the Company’s consolidated leverage ratio. In addition, the Company pays a facility fee based on the consolidated leverage ratio multiplied by the aggregate commitments of all of the lenders under the Senior Credit Facility.

Other sources of liquidity include short-term and long-term lines of credit for certain of the Company’s foreign subsidiaries, which provide for borrowings up to $217.0 million in the aggregate. The majority of these lines are uncommitted. At December 31, 2013, the Company had borrowings outstanding of $19.8 million, which reduced the availability under these facilities to $197.2 million.

The Company expects that any cash requirements in excess of cash on hand will be met by the committed funds available under its Asset Securitization Agreement and the Senior Credit Facility. Management believes it has sufficient liquidity to meet its obligations through at least the term of the Senior Credit Facility.

At December 31, 2013, approximately $274.1 million, or 71%, of the Company’s cash and cash equivalents resided in jurisdictions outside the United States. Repatriation of these funds to the United States could be subject to domestic and foreign taxes and an immaterial amount could be subject to governmental restrictions. In the fourth quarter of 2013, the Company implemented a strategy to repatriate approximately $365 million of cash, incurring tax expense of approximately $26 million. The Company repatriated $123 million of cash in January 2014, with the remaining portion expected to be repatriated in future periods. The Company had undistributed earnings related to its international subsidiaries of $577.9 million at December 31, 2013. A deferred tax liability of $8.7 million has been accrued at December 31, 2013 for earnings of $136.1 million (relating to the $365 million cash repatriation strategy) that are available to be repatriated to the U.S.  No provisions for U.S. income taxes have been made with respect to earnings of $441.8 million that are planned to be reinvested indefinitely outside the United States.  The amount of U.S. income taxes that may be applicable to such earnings is $23.3 million if such earnings were repatriated, net of foreign tax credits. Part of the Company’s strategy is to grow in attractive market sectors, many of which are outside the United States. This strategy may include making investments in facilities and equipment and potential new acquisitions. The Company plans to fund these investments, as well as meet working capital requirements, with cash and cash equivalents and unused lines of credit within the geographic location of these investments when possible.

The Company expects to remain in compliance with its debt covenants. However, the Company may need to limit its borrowings under the Senior Credit Facility or other facilities in order to remain in compliance. As of December 31, 2013, the Company could have borrowed the full amounts available under the Senior Credit Facility and Asset Securitization Agreement, and would have still been in compliance with its debt covenants.

The Company has $250 million of fixed-rate unsecured notes which mature in September 2014. The Company plans to refinance the unsecured notes in advance of their maturities.

The Company expects cash from operations in 2014 to increase to approximately $560 million from $430 million in 2013, as the Company anticipates higher net income and lower pension contributions. The Company expects to make approximately $20 million in pension contributions in 2014, compared to $120.7 million in 2013. The Company also expects to decrease capital expenditures to approximately $310 million in 2014 compared to $325.8 million in 2013.


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CONTRACTUAL OBLIGATIONS

The Company’s contractual debt obligations and contractual commitments outstanding as of December 31, 2013 were as follows:

Payments due by Period:
Contractual Obligations
Total
Less than
1 Year
1-3 Years
3-5 Years
More than
5 Years
Interest payments
$
165.9

$
20.2

$
24.1

$
21.9

$
99.7

Long-term debt, including current portion
457.3

250.7

16.4

5.0

185.2

Short-term debt
18.6