Current Report

EXHIBIT 99.1

 

The Items included in this Exhibit supersede the corresponding Items included in the Annual Report on Form 10-K for the year ended December 31, 2008 (“2008 Form 10-K”) filed by TRW Automotive Holdings Corp. (“TRW”) with the Securities and Exchange Commission (“SEC”) on February 20, 2009. This Exhibit should be read in conjunction with TRW’s 2008 Form 10-K, TRW’s Quarterly Report on Form 10-Q for the quarter ended April 3, 2009 and other documents filed by TRW with the SEC subsequent to February 20, 2009. As used in this Exhibit, this “Report” refers to TRW’s 2008 Form 10-K.

 

Except for certain changes to Item 8 that are described in this Current Report on Form 8-K to which this is an Exhibit, the information contained in this Exhibit does not update the information in TRW’s 2008 Form 10-K to speak as of any date after February 20, 2009, the date TRW’s 2008 Form 10-K was filed with the SEC.

PART I

 

 

The Company

 

TRW Automotive Holdings Corp. (together with its subsidiaries, “we,” “our,” “us” or the “Company”) is among the world’s largest and most diversified suppliers of automotive systems, modules and components to global automotive original equipment manufacturers (“OEMs”) and related aftermarkets. We conduct substantially all of our operations through subsidiaries. These operations primarily encompass the design, manufacture and sale of active and passive safety related products. Active safety related products principally refer to vehicle dynamic controls (primarily braking and steering), and passive safety related products principally refer to occupant restraints (primarily air bags and seat belts) and safety electronics (electronic control units and crash and occupant weight sensors). We operate our business along four segments: Chassis Systems, Occupant Safety Systems, Automotive Components, and Electronics. We are primarily a “Tier 1” original equipment supplier, with approximately 86% of our end-customer sales in 2008 made to major OEMs. Of our 2008 sales, approximately 56% were in Europe, 30% were in North America, 9% were in Asia, and 5% were in the rest of the world.

 

Acquisition of the Company.   Prior to the Acquisition (as defined below), our predecessor operated as a segment of the former TRW Automotive Inc. (which we did not acquire and was renamed Richmond TAI Corp.) and its subsidiaries and the other subsidiaries, divisions and affiliates of TRW Inc. (“Old TRW”), that together constituted the automotive business of Old TRW for the periods prior to February 28, 2003, the date the Acquisition was consummated. Old TRW entered into an Agreement and Plan of Merger with Northrop Grumman Corporation (“Northrop”), dated June 30, 2002, whereby Northrop acquired all of the outstanding common stock of Old TRW, including Old TRW’s automotive business, in exchange for Northrop shares. The acquisition of Old TRW by Northrop was completed on December 11, 2002 (the “Merger”).

 

Additionally, on November 18, 2002, an entity controlled by affiliates of The Blackstone Group, L.P. (“Blackstone”), entered into a master purchase agreement, (as amended, the “Master Purchase Agreement”), pursuant to which the Company, a Delaware corporation formed in 2002, caused its indirect wholly-owned subsidiary, TRW Automotive Acquisition Corp., to purchase from Northrop the shares of the subsidiaries of Old TRW engaged in the automotive business (the “Acquisition”). The Acquisition was completed on February 28, 2003. Subsequent to the Acquisition, TRW Automotive Acquisition Corp. changed its name to TRW Automotive Inc. (referred to herein as “TRW Automotive”). As a result of the Acquisition, Automotive Investors L.L.C. (“AI LLC”), an affiliate of Blackstone, originally held approximately 78.4% of our common stock, an affiliate of Northrop held approximately 19.6% and our management group held approximately 2.0%. The successor and registrant TRW Automotive Holdings Corp. and its subsidiaries own and operate the automotive business of Old TRW as a result of the Acquisition.

 

Initial Public Offering.   On February 6, 2004, we completed an initial public offering of 24,137,931 shares of our common stock (the “Common Stock”). We used a portion of the net proceeds from our initial public offering to repurchase a portion of the shares held by AI LLC.

 

Share Repurchases in 2005 and 2006.   On March 11, 2005, we repurchased from an affiliate of Northrop 7,256,500 shares of our Common Stock for approximately $143 million in cash. On November 10, 2006, we repurchased an additional 9,743,500 shares of Common Stock from an affiliate of Northrop for approximately $209 million. The shares from the repurchases were immediately retired following repurchase. As a result of these repurchases, Northrop and its affiliates hold no shares of our Common Stock.

 

Share Issuances in 2005 and 2006.   On March 11, 2005, we sold to two investment institutions 7,256,500 newly issued shares of Common Stock for approximately $143 million in cash. We filed a registration statement with the Securities and Exchange Commission (“SEC”) for the registration of the resale of these newly issued shares.

 

We used the $143 million of proceeds we received from the 2005 share issuances initially to return cash and/or reduce liquidity line balances to the levels that existed in 2005 immediately prior to the time we repurchased shares

from an affiliate of Northrop, as referenced above. On May 3, 2005, a portion of the proceeds from these share issuances was then used to repurchase the €48 million principal amount of the Company’s 10 1 / 8 % Senior Notes.

 

On November 10, 2006, we issued 6,743,500 shares of Common Stock in a registered public offering pursuant to our universal shelf registration statement filed with the SEC. We used the net proceeds of $153 million, together with cash on hand, to make the 2006 repurchase of shares of Common Stock from an affiliate of Northrop.

 

Secondary Offering in 2007.   On May 29, 2007, the Company, AI LLC and certain management stockholders entered into an underwriting agreement with Banc of America Securities LLC (the “Underwriter”) pursuant to which AI LLC and certain executive officers of the Company agreed to sell to the Underwriter 11,000,000 shares of the Company’s Common Stock in a registered public secondary offering (the “Offering”) pursuant to the Company’s shelf registration statement on Form S-3 filed with the SEC on November 6, 2006. The Company did not receive any proceeds related to the Offering, nor did its total number of shares of Common Stock outstanding change as a result of the Offering. Immediately following the Offering the percentage of shares of the Company’s Common Stock held by AI LLC decreased from approximately 56% to approximately 46%.

 

Financial and Operating Information

 

During the first quarter of 2009, due to the increasing importance and focus on the use of electronics in vehicle safety systems, the Company began to manage and report on the Electronics business separately from its other reporting segments. As part of the Company’s change in its segment reporting structure, historical information for the years ended 2008 and 2007 was reallocated among the reporting segments. The Company determined that it was impracticable to restate the 2006 period; therefore, under the new basis of segmentation only the 2008 and 2007 periods are presented. Additionally, since 2006 has not been restated under the new basis of segmentation, segment related information is required to be reported under the old basis of segmentation (3-segment structure) as well as under the new basis of segmentation (4-segment structure).

 

 

See “Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 20 to the consolidated financial statements included under “Item 8 — Financial Statements and Supplementary Data” below for further information on our segments.

As Reported Under New Basis of Segmentation

 

Sales by Product Line.  Our 2008 sales by product line are as follows:

 

 

Sales by Geography.   Our 2008 sales by geographic region are as follows:

 

 

See Note 20 to our consolidated financial statements under “Item 8 — Financial Statements and Supplementary Data” below for additional product sector and geographical information.

 

Business Developments and Industry Trends

 

References in this Annual Report on Form 10-K (this “Report”) to our being a leading supplier or the world’s leading supplier, and other similar statements as to our relative market position are based principally on calculations we have made. These calculations are based on information we have collected, including company and industry sales data obtained from internal and available external sources, as well as our estimates. In addition to such quantitative data, our statements are based on other competitive factors such as our technological capabilities, the breadth of our product offerings, our research and development efforts and innovations and the quality of our products and services, in each case relative to that of our competitors in the markets we address.

 

Business Development and Strategy.   We have become a leader in the global automotive parts industry by capitalizing on the strength of our products, technological capabilities and systems integration skills. Over the last decade, we have experienced sales growth in many of our product lines due to an increasing focus by both governments and consumers on safety and fuel efficiency. We believe that such focus on safety and fuel economy is continuing as evidenced by ongoing regulatory activities and given uncertainty over fluctuating fuel costs, and will enable us to experience growth in the most recent generation of advanced safety and fuel efficient products. Such advanced products include vehicle stability control systems, curtain and side air bags, occupant sensing systems, electrically assisted power steering systems, electric park brake and tire pressure monitoring systems.

 

Throughout our long history as a leading supplier to major OEMs, we have focused on products in which we have a technological advantage. We have extensive technical experience in a focused range of safety-related product lines and strong systems integration skills. These traits enable us to provide comprehensive, systems-based solutions for our OEM customers. We have a broad and established global presence and sell to major OEMs across

the world’s major vehicle producing regions, including the expanding Chinese and Indian markets. We believe our business diversification mitigates our exposure to the risks of any one geographic economy, product line or major customer concentration. It also enables us to extend our portfolio of products and new technologies across our customer base and geographic regions, and provides us the necessary scale to optimize our cost structure.

 

The Automotive Industry Climate.   The following key trends have been affecting the automotive parts industry over the past several years, many of which we expect will continue in the near term. (The statements regarding industry outlook, trends, the future development of certain automotive systems and other non-historical statements contained in this section are forward-looking statements as that term is defined by the federal securities laws.)

 

General economic and automotive industry conditions changed significantly during 2008. During the first half of the year, consumer confidence remained stable and production volumes of automobiles were continuing to increase compared to corresponding prior year periods. During the second half of the year, however, consumer confidence fell drastically in response to sharp declines in general economic conditions, which ultimately significantly impacted the demand for, and production of, automobiles.

 

These developments and trends include:

 

General Economic Factors:

 

 

Production Levels and Product Mix:

 

 

Inflation and Pricing Pressure:

 

 

Foreign Currencies:

 

 

These developments and trends are discussed in “Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

In addition, the following are significant characteristics of the automotive and automotive supply industries.

 

 

 

In November 2008, the National Highway Safety Traffic Administration (“NHTSA”) finalized a rule requiring standard fitment of electronic stability control (“ESC”) on all North American vehicles under 10,000 lbs. gross vehicle weight. The rule includes a phase-in plan, with ESC to be fitted on 55% of new vehicle production by September 2009, 75% by September 2010, 95% by September 2011 and on all vehicles thereafter. Similarly, in November 2007, the European Commission approved an amendment to the European braking regulation to require ESC on heavy commercial trucks by 2010. The European Commission is also considering regulation that would require compulsory fitment of ESC on all cars sold in Europe by 2012.

 

Advances in technology by us and others have led to a number of innovations in our product portfolio, which will allow us to benefit from this trend. Such innovations include rollover sensing and curtain and side air bag systems, occupant sensing systems, ESC systems and tire pressure monitoring systems.

 

 

Advances in technology by us and others have led to a number of innovations in our product portfolio, which will allow us to benefit from this trend. Such innovations include electric and electro-hydraulic power steering systems, brake controls for regenerative braking systems, efficient HVAC control systems and advanced-material/heat-resistant engine valves.

 

 

We have also seen certain vehicle manufacturers shift away from their funding of development contracts for new technology.

 

 

Competition

 

The automotive supply industry is extremely competitive. OEMs rigorously evaluate us and other suppliers based on many criteria such as quality, price/cost competitiveness, system and product performance, reliability and timeliness of delivery, new product and technology development capability, excellence and flexibility in operations, degree of global and local presence, effectiveness of customer service and overall management capability. We believe we compete effectively with leading automotive suppliers on all of these criteria. For example, we generally follow manufacturing practices designed to improve efficiency and quality, including but not limited to, one-piece-flow machining and assembly, and just-in-time scheduling of our manufacturing plants, all of which enable us to manage inventory so that we can deliver quality components and systems to our customers in the quantities and at the times ordered. Our resulting quality and delivery performance, as measured by our customers, generally meets or exceeds their expectations.

 

Additionally, due to the current negative economic environment, OEMs have been, and we expect will continue to be, increasingly focused on the financial strength and viability of their supply base. We believe that such scrutiny of suppliers will result in a general contraction in the supply base and may force combinations of some suppliers. We feel that this will provide us with the opportunity to win additional business.

 

Within each of our product segments, we face significant competition. Our principal competitors include Advics, Bosch, Continental-Teves, JTEKT, and ZF in the Chassis Systems segment; Autoliv, Bosch, Delphi, Key Safety, and Takata in the Occupant Safety Systems segment; and Delphi, Eaton, ITW, Kostal, Nifco, Raymond, Tokai Rika, and Valeo in the Automotive Components segment.

 

Products.   The following tables describe the principal product lines by segment, in order of 2008 sales levels:

 

 

 

Chassis Systems.   Our Chassis Systems segment focuses on the design, manufacture and sale of product lines relating to steering, foundation brakes, brake control, linkage and suspension, and modules. We sell our Chassis Systems products primarily to OEMs and other Tier 1 suppliers. We also sell these products to OEM service organizations and in the independent aftermarket, through a licensee in North America, and in the rest of the world, to independent distributors. We believe our Chassis Systems segment is well positioned to capitalize on growth trends toward (1) increasing active safety systems, particularly in the areas of electric steering, electronic vehicle stability control and other advanced braking systems and integrated vehicle control systems; (2) increasing electronic content per vehicle; and (3) integration of active and passive safety systems.

 

Occupant Safety Systems.   Our Occupant Safety Systems segment focuses on the design, manufacture and sale of air bags, seat belts, safety electronics, steering wheels and security electronic systems. We sell our Occupant Safety Systems products primarily to OEMs and also to other Tier 1 suppliers. We also sell these products to OEM service organizations. We believe our Occupant Safety Systems segment is well positioned to capitalize on growth trends toward (1) increasing passive safety systems, particularly in the areas of side and curtain air bag systems, occupant sensing systems, active seat belt pretensioning and retractor systems, and tire pressure monitoring systems; (2) increasing electronic content per vehicle; and (3) integration of active and passive safety systems.

 

Automotive Components.   Our Automotive Components segment focuses on the design, manufacture and sale of engine valves, body controls, and engineered fasteners and components. We sell our Automotive Components products primarily to OEMs and also to other Tier 1 suppliers. We also sell these products to OEM service organizations. In addition, we sell some engine valve and body control products to independent distributors for the automotive aftermarket. We believe our Automotive Components segment is well positioned to capitalize on growth trends toward multi-valve engines and increasing electronic content per vehicle.

 

As Reported Under New Basis of Segmentation

 

Sales.   The following table provides external sales for each of our segments:

 

Products.   The following tables describe the principal product lines by segment, in order of 2008 sales levels:

 

 

 

 

Chassis Systems.   Our Chassis Systems segment focuses on the design, manufacture and sale of product lines relating to steering, foundation brakes, brake control, linkage and suspension, and modules. We sell our Chassis Systems products primarily to OEMs and other Tier 1 suppliers. We also sell these products to OEM service organizations and in the independent aftermarket, through a licensee in North America, and in the rest of the world, to independent distributors. We believe our Chassis Systems segment is well positioned to capitalize on growth trends toward (1) increasing active safety systems, particularly in the areas of electric steering, electronic vehicle stability control and other advanced braking systems and integrated vehicle control systems; (2) increasing electronic content per vehicle; and (3) integration of active and passive safety systems.

 

Occupant Safety Systems.   Our Occupant Safety Systems segment focuses on the design, manufacture and sale of air bags, seat belts, steering wheels and occupant restraint systems. We sell our Occupant Safety Systems products primarily to OEMs and also to other Tier 1 suppliers. We also sell these products to OEM service organizations. We believe our Occupant Safety Systems segment is well positioned to capitalize on growth trends toward (1) increasing passive safety systems, particularly in the areas of side and curtain air bag systems, and active seat belt pretensioning and retractor systems; (2) increasing electronic content per vehicle; and (3) integration of active and passive safety systems.

 

Automotive Components.   Our Automotive Components segment focuses on the design, manufacture and sale of engine valves, body controls, and engineered fasteners and components. We sell our Automotive Components products primarily to OEMs and also to other Tier 1 suppliers. We also sell these products to OEM service organizations. In addition, we sell some engine valve and body control products to independent distributors for the automotive aftermarket. We believe our Automotive Components segment is well positioned to capitalize on growth trends toward (1) multi-valve engines and (2) increasing electronic content per vehicle.

 

Electronics.   Our Electronics segment focuses on the design, manufacture and sale of electronics components and systems in the areas of safety, Radio Frequency (“RF”), chassis, driver assistance and powertrain. We sell our Electronics products primarily to OEMs and to TRW Chassis Systems (braking and steering applications). We also sell these products to OEM service organizations. We believe our Electronics segment is well positioned to capitalize on growth trends toward (1) increasing electronic content per vehicle, (2) increasing active safety systems, particularly in the areas of electric steering, electronic vehicle stability control and integrated vehicle control systems; (3) increasing passive safety systems, particularly in the areas of side and curtain air bag systems and active seat belt pretensioning and retractor systems; (4) integration of active and passive safety systems; and (5) improving fuel economy and reducing CO ₂ emissions.

 

Customers

 

We sell to all the major OEM customers across the world’s major vehicle producing regions. Our long-standing relationships with our customers have enabled us to understand global customers’ needs and business opportunities. We believe that we will continue to be able to compete effectively for our customers’ business because of the high quality of our products, our ongoing cost reduction efforts, our strong global presence and our product and

technology innovations. Although business with any given customer is typically split among numerous contracts, the loss of or a significant reduction in purchases by one or more of those major customers could materially and adversely affect our business, results of operations and financial condition.

 

Recent, significant declines in economic and industry conditions, including the impact of restrictions on liquidity available to consumers, have caused the demand for automobiles to decrease considerably. This decrease in demand, together with relatively inflexible cost structures, has dramatically impacted the financial health and solvency of our customers. Recently, Chrysler and GM have sought loans, and Ford has sought a line of credit, from the U.S. government due to the significant financial challenges they face. Also, several of our European customers have obtained, or are seeking loans from their home governments.

 

Primary end-customer sales (by OEM group) for the years ended December 31, 2008 and 2007 were:

 

 

 

 

We also sell products to the global aftermarket as replacement parts for current production and older vehicles. For each of the years ended December 31, 2008 and 2007, our sales to the aftermarket represented approximately 8% of our total sales. We sell these products through both OEM service organizations and independent distribution networks.

 

Sales and Marketing

 

We have a sales and marketing organization of dedicated customer teams that provide a consistent interface with our key customers. These teams are located in all major vehicle-producing regions to best represent their respective customers’ interests within our organization, to promote customer programs and to coordinate global customer strategies with the goal of enhancing overall customer service, satisfaction and TRW Automotive growth. Our ability to support our customers globally is further enhanced by our broad global presence in terms of sales offices, manufacturing facilities, engineering/technical centers, joint ventures and licensees.

 

Our sales and marketing organization and activities are designed to create overall awareness and consideration of, and to increase purchases of, our systems, modules and components. To further this objective, we participate in an international trade show in Frankfurt. We also provide on-site technology demonstrations at our major OEM customers on a regular basis.

 

Customer Support

 

Our engineering, sales and production facilities are located in 26 countries. With the appropriate level of dedicated sales/customer development employees, we provide effective customer solutions, products and service in any region in which these facilities operate or manufacture.

Joint Ventures

 

Joint ventures represent an important part of our business, both operationally and strategically. We have used joint ventures to enter into new geographic markets, such as China and India, to gain new customers and/or strengthen positions with existing customers, or to develop new technologies such as direct tire pressure monitoring systems or radar.

 

In the case of entering new geographic markets where we have not previously established substantial local experience and infrastructure, teaming with a local partner can reduce capital investment by leveraging pre-existing infrastructure. In addition, local partners in these markets can provide knowledge and insight into local customs and practices and access to local suppliers of raw materials and components. All of these advantages can reduce the risk, and thereby enhance the prospects for the success, of an entry into a new geographic market.

 

Joint ventures can also be an effective means to acquire new customers. Joint venture arrangements can allow partners access to technology they would otherwise have to develop independently, thereby reducing the time and cost of development. More importantly, they can provide the opportunity to create synergies and applications of the technology that would not otherwise be possible.

 

The following table shows our significant unconsolidated joint ventures in which we have a 49% or greater interest that are accounted for under the equity method:

 

 

Intellectual Property

 

We own a significant quantity of intellectual property, including a large number of patents, trademarks, copyrights and trade secrets, and are involved in numerous licensing arrangements. Although our intellectual property plays an important role in maintaining our competitive position in a number of the markets that we serve, no single patent, copyright, trade secret or license, or group of related patents, copyrights, trade secrets or licenses, is, in our opinion, of such value to us that our business would be materially affected by the expiration or termination thereof. However, we view the name TRW Automotive and primary mark “TRW” as material to our business as a whole. Our general policy is to apply for patents on an ongoing basis in the United States, Germany and, as appropriate, other countries to protect our patentable developments.

 

Our portfolio of patents and pending patent applications reflects our commitment to invest in technology and covers many aspects of our products and the processes for making those products. In addition, we have developed a substantial body of manufacturing know-how that we believe provides a significant competitive advantage in the marketplace.

We have entered into numerous technology license agreements that either strategically capitalize on our intellectual property rights or provide a conduit for us into third party intellectual property rights useful in our businesses. In many of these agreements, we license technology to our suppliers, joint venture companies and other local manufacturers in support of product production for our customers and us. In other agreements, we license the technology to other companies to obtain royalty income.

 

We own a number of secondary trade names and trademarks applicable to certain of our businesses and products that we view as important to such businesses and products as well.

 

Seasonality

 

Our business is moderately seasonal because our largest North American customers typically halt operations for approximately two weeks in July and one week in December. Additionally, customers in Europe historically shut down vehicle production during portions of August and one week in December. As new models are typically introduced during the third quarter, automotive production traditionally is lower during that period. Accordingly, our third and fourth quarter results may reflect these trends.

 

In the fourth quarter of 2008, due to significant declines in general market and automotive industry conditions, several of our customers shut down vehicle production for longer periods than normal, therefore impacting our fourth quarter results more than would normally be expected.

 

Additionally, considering the current economic conditions and actions of our customers, the normal seasonality of the automotive industry as described above may not be experienced in 2009.

 

Research, Development and Engineering

 

We operate a global network of technical centers worldwide where we employ several thousand engineers, researchers, designers, technicians and their supporting functions. This global network allows us to develop active and passive automotive safety technologies while improving existing products and systems. We utilize sophisticated testing and computer simulation equipment, including computer-aided engineering, noise-vibration-harshness, crash sled, math modeling and vehicle simulations. We have advanced engineering and research and development programs for next-generation products in each of our segments. We are disciplined and innovative in our approach to research and development, employing various tools to improve efficiency and reduce cost, such as Six Sigma, “follow-the-sun” (a 24-hour a day engineering program that utilizes our global network) and other e-Engineering programs, and by outsourcing non-core activities.

 

We believe that continued research, development and engineering activities are critical to maintaining our leadership position in the industry and will provide us with a competitive advantage as we seek additional business with new and existing customers. Company-funded research, development and engineering costs were approximately 6% of sales for each of the years ended December 31, 2008, 2007, and 2006. Recently, we have seen certain vehicle manufacturers shift away from their funding of development contracts for new technology.

 

For research and development expenditures in each of the years ended December 31, 2008, 2007 and 2006, see “— Research and Development” in Note 2 to the consolidated financial statements included in “Item 8 — Financial Statements and Supplementary Data”.

 

Supply Base — Manufactured Components and Raw Materials

 

We purchase various manufactured components and raw materials for use in our manufacturing processes. The principal components and raw materials we purchase include castings, electronic parts, molded plastic parts, finished subcomponents, fabricated metal, aluminum, steel, resins, textiles, leather and wood. All of these components and raw materials are available from numerous sources. Despite recent declines, we see a continued rise in inflationary pressures impacting certain commodities such as petroleum-based products, resins, yarns, ferrous metals, base metals, and certain chemicals. Additionally, because we purchase various types of equipment, raw materials and component parts from our suppliers, we may be adversely affected by their failure to perform as expected or their inability to adequately mitigate inflationary, industry, or economic pressures. These pressures have proven to be insurmountable to some of our suppliers and we have seen the number of bankruptcies and insolvencies

increase. The unstable condition of some of our suppliers or their failure to perform has caused us to incur additional costs which negatively impacted certain of our businesses in 2008. The overall condition of our supply base may possibly lead to delivery delays, production issues or delivery of non-conforming products by our suppliers in the future. As such, we continue to monitor our vendor base for the best source of supply and work with those vendors and customers to attempt to mitigate the impact of the pressures mentioned above.

 

Although we have not, in recent years, experienced any significant shortages of manufactured components or raw materials, and normally do not carry inventories of these items in excess of those reasonably required to meet our production and shipping schedule, the possibility of shortages exist especially in light of the weakened state of the supply base described above.

 

Employees

 

As of December 31, 2008, we had approximately 65,200 employees (including approximately 3,000 contract employees, but excluding employees who were on approved forms of leave).

 

As of December 31, 2007, we had approximately 73,100 employees (including approximately 6,800 contract employees, but excluding employees who were on approved forms of leave).

 

During 2008, approximately 2,000 employees were added to the Company through growth resulting from an acquisition and the vertical integration of certain operations. Considering these employees, there was a reduction of approximately 9,900 employees, or 13%, from December 31, 2007 to December 31, 2008. This reduction was primarily the result of our global workforce reduction initiatives in light of current economic and industry conditions.

 

Environmental Matters

 

Governmental requirements relating to the discharge of materials into the environment, or otherwise relating to the protection of the environment, have had, and will continue to have, an effect on our operations and us. We have made and continue to make expenditures for projects relating to the environment, including pollution control devices for new and existing facilities. We are conducting a number of environmental investigations and remedial actions at current and former locations to comply with applicable requirements and, along with other companies, have been named a potentially responsible party for certain waste management sites. Each of these matters is subject to various uncertainties, and some of these matters may be resolved unfavorably to us.

 

A reserve estimate for each matter is established using standard engineering cost estimating techniques on an undiscounted basis. In the determination of such costs, consideration is given to the professional judgment of our environmental engineers, in consultation with outside environmental specialists, when necessary. At multi-party sites, the reserve estimate also reflects the expected allocation of total project costs among the various potentially responsible parties. As of December 31, 2008, we had reserves for environmental matters of $45 million. In addition, the Company has established a receivable from Northrop for a portion of this environmental liability as a result of the indemnification provided for in the Master Purchase Agreement under which Northrop has agreed to indemnify us for 50% of any environmental liabilities associated with the operation or ownership of TRW Inc.’s automotive business existing at or prior to the Acquisition, subject to certain exceptions. During 2008 and 2007, the Company received settlement payments of $5 million and $2 million, respectively, for environmental matters related to obligations that have been incurred and paid.

 

We do not believe that compliance with environmental protection laws and regulations will have a material effect upon our capital expenditures, results of operations or competitive position. Our capital expenditures pertaining to environmental control during 2009 are not expected to be material to us. We believe that any liability that may result from the resolution of environmental matters for which sufficient information is available to support cost estimates will not have a material adverse effect on our financial position or results of operations. However, we cannot predict the effect on our financial position of expenditures for aspects of certain matters for which there is insufficient information. In addition, we cannot predict the effect of compliance with environmental laws and regulations with respect to unknown environmental matters on our financial position or results of operations or the possible effect of compliance with environmental requirements imposed in the future.

International Operations

 

We have significant manufacturing operations outside the United States and, in 2008, approximately 75% of our sales originated outside the United States. See Note 20 to our consolidated financial statements included under “Item 8. Financial Statements and Supplementary Data” for financial information by geographic area. Also, see “Item 1A. Risk Factors” for a description of risks inherent in such international operations.

 

Available Company Information

 

TRW Automotive Holdings Corp.’s Internet website is www.trw.com . Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available free of charge through our website as soon as reasonably practicable after they are electronically filed with, or furnished to, the Securities and Exchange Commission. Our Audit Committee Charter, Compensation Committee Charter, Corporate Governance and Nominating Committee Charter, Corporate Governance Guidelines and Standards of Conduct (our code of business conduct and ethics) are also available on our website and available in print to any shareholder who requests it.

 

 

Our principal executive offices are located in Livonia, Michigan. Our operations include numerous manufacturing, research and development, warehousing facilities and offices. We own or lease principal facilities located in 13 states in the United States and in 25 other countries as follows: Austria, Brazil, Canada, China, the Czech Republic, France, Germany, Italy, Japan, Malaysia, Mexico, Poland, Portugal, Romania, Singapore, Slovakia, South Africa, South Korea, Spain, Sweden, Switzerland, Thailand, Tunisia, Turkey, and the United Kingdom. Approximately 54% of our principal facilities are used by the Chassis Systems segment, 23% are used by the Occupant Safety Systems segment and 23% are used by the Automotive Components segment. Our corporate headquarters are contained within the Chassis Systems numbers below. The Company considers its facilities to be adequate for their current uses.

 

Of the total number of principal facilities operated by us, approximately 60% of such facilities are owned and 40% are leased.

 

A summary of our principal facilities, by segment, type of facility and geographic region, as of January 31, 2009 is set forth in the following tables. Additionally, where more than one segment utilizes a single facility, that facility is categorized by the purposes for which it is primarily used.

 

 

 

 

 

 

 

 

 

EXECUTIVE OVERVIEW

 

We are among the world’s largest and most diversified suppliers of automotive systems, modules and components to global automotive original equipment manufacturers, or OEMs, and related aftermarkets. We conduct substantially all of our operations through subsidiaries. These operations primarily encompass the design, manufacture and sale of active and passive safety related products. Active safety related products principally refer to vehicle dynamic controls (primarily braking and steering), and passive safety related products principally refer to occupant restraints (primarily air bags and seat belts) and safety electronics (electronic control units and crash and occupant weight sensors). We operate our business along four segments: Chassis Systems, Occupant Safety Systems, Automotive Components and Electronics. We are primarily a “Tier 1” supplier, with over 86% of our end-customer sales in 2008 made to major OEMs. Of our 2008 sales, approximately 56% were in Europe, 30% were in North America, 9% were in Asia, and 5% were in the rest of the world.

Financial Results

 

Our net sales for the year ended December 31, 2008 were $15.0 billion, which represents an increase of 2% over the prior year. The increase in sales was driven by favorable foreign currency exchange and a higher level of lower margin module sales, significantly offset by lower production volumes, primarily in North America and Europe, and price reductions provided to customers.

 

Operating losses for the year ended December 31, 2008 were $468 million compared to operating income of $624 million for the prior year. The decline in operating results of $1,092 million resulted primarily from the impairment of goodwill and intangible assets of $787 million, higher restructuring and fixed asset impairment charges of $94 million, the profit impact of lower sales due to lower production volumes and adverse mix as compared to the prior year.

 

Net losses attributable to TRW for the year ended December 31, 2008 were $779 million as compared to net earnings attributable to TRW of $90 million for the year ended December 31, 2007. This decrease of $869 million was primarily the result of the significant decrease in operating results of $1,092 million, as described above, offset by a loss on retirement of debt of $155 million that was included in net earnings attributable to TRW for the year ended December 31, 2007. Additionally, interest expense decreased by $46 million for the year ended December 31, 2008 compared to the year ended December 31, 2007, primarily due to the debt refinancing in 2007 and lower interest rates.

 

Despite the decline in sales and net income, the Company generated positive operating cash flow of $773 million, which exceeded capital expenditures of $482 million. The Company also reduced its level of debt during 2008.

 

Recent Trends and Market Conditions

 

The automotive and automotive supply industries experienced significantly unfavorable developments during the year 2008 (primarily the second half of 2008), particularly in North America and Europe. These trends include:

 

General Economic Factors:

 

Disruptions in financial markets and restrictions on liquidity are adversely impacting the availability and cost of incremental credit for many companies. These disruptions are also adversely affecting the global economy, further negatively impacting consumer spending patterns in the automobile industry. As our customers and suppliers respond to rapidly changing consumer preferences, restricted liquidity or increased cost of capital could negatively impact their business, which could result in further restructuring or even reorganization or liquidation under bankruptcy laws. Any such negative impact could, in turn, negatively affect our business either through loss of sales to our customers or through our inability to meet our commitments (or inability to meet them without excess expense), due to the loss of supplies from any of our suppliers so affected.

 

Production Levels and Product Mix :

 

In the U.S. and Europe, overall negative economic conditions, including the deterioration of global financial markets, reduced credit availability and lower consumer confidence have significantly impacted the automotive industry. As such, automotive production and sales have deteriorated substantially and are not expected to rebound significantly in the near term. Therefore, considering the drastic changes to consumer demand for automobiles, and corresponding decrease in automobile production and demand for our products, we assessed the recoverability of our long-lived assets, resulting in intangible asset impairment charges of $329 million and fixed asset impairment charges of $87 million during 2008. Additionally, as a result of our annual testing of goodwill for impairment, we recognized goodwill impairment charges of $458 million.

 

There has been a dramatic shift in the North American market away from sport utility vehicles, light trucks and heavy-duty pickup trucks, which tend to be higher margin products for OEMs and suppliers, to more fuel-efficient passenger cars. Similarly, in Europe, there has been a more recent shift from large and mid-size passenger cars to small cars. These changes have negatively impacted the mix of our product sales.

In recent years, and continuing into 2008, the Detroit Three have seen a steady decline in their market share for vehicle sales in North America, with Asian OEMs increasing their share in this market. Although we have business with the Asian OEMs, our customer base in North America is more heavily weighted toward the Detroit Three. Declining market share, inherent legacy issues with the Detroit Three and the impact of declining consumer confidence have led to recent, unprecedented production cuts and permanent capacity reductions. During 2008, the Detroit Three North American production levels declined approximately 21% compared to 2007. These declines will have a continuing negative impact on our sales, liquidity and results of operations.

 

In addition, in order to address market share declines, reduced production levels, negative industry trends (such as change in mix of vehicles), general macroeconomic conditions and other structural issues specific to their companies (such as significant overcapacity and pension and healthcare costs), the Detroit Three and certain of our other customers continue to implement or may implement various forms of restructuring initiatives (including, in certain cases, reorganization under bankruptcy laws). These restructuring actions have had and may continue to have a significant impact throughout our industry, including our supply base.

 

Inflation and Pricing Pressure :

 

Throughout 2008 commodity inflation continued to negatively impact the industry. Costs of petroleum-based products were volatile, and the per barrel price of oil reached record highs in July. Further, ferrous metals and other base metal prices, resins, yarns and energy costs increased significantly. It is unclear whether the recent decline of the spot price of certain commodities is sustainable, or when, or if, we could expect to benefit from such declines. In general, overall commodity inflation pressures remain a significant concern for our business and have placed a considerable operational and financial burden on the Company. We have continued to work with our suppliers and customers to mitigate the impact of increasing commodity costs. However, it is generally difficult to pass increased prices for manufactured components and raw materials through to our customers in the form of price increases.

 

Additionally, pricing pressure from our customers is characteristic of the automotive parts industry. This pressure is substantial and will continue. Virtually all OEMs have policies of seeking price reductions each year. Consequently, we have been forced to reduce our prices in both the initial bidding process and during the terms of contractual arrangements. We have taken steps to reduce costs and resist price reductions; however, price reductions have negatively impacted our sales and profit margins and are expected to do so in the future. In addition to pricing concerns, we continue to be approached by our customers for changes in terms and conditions in our contracts concerning warranty and recall participation and payment terms on products shipped. We believe that the likely resolution of these proposed modifications will not have a material adverse effect on our financial condition, results of operations or cash flows.

 

Furthermore, because we purchase various types of equipment, raw materials and component parts from our suppliers, we may be adversely affected by their failure to perform as expected or their inability to adequately mitigate inflationary, industry, or economic pressures. These pressures have proven to be insurmountable to some of our suppliers and we have seen the number of bankruptcies and insolvencies increase. While the unstable condition of some of our suppliers or their failure to perform has not led to any material disruptions thus far, it has caused us to incur additional costs which have negatively impacted certain of our businesses in 2008. The overall condition of our supply base may possibly lead to delivery delays, additional costs, production issues or delivery of non-conforming products by our suppliers in the future. As such, we continue to monitor our vendor base for the best source of supply.

 

Labor Relations:

 

Work stoppages or other labor issues are inherent in our industry and may potentially occur at our customers’ or their suppliers’ facilities or at our or our suppliers’ facilities, which may have a material adverse effect on us. During 2008, a labor disruption occurred at a supplier of General Motors Corporation during the renegotiation of a labor agreement with one of its major unions. The disruption impacted the production at General Motors Corporation and, as a result, its purchases from us. While this disruption did not have a material impact on our business in 2008, other work stoppages could occur that may negatively impact our operations.

Foreign Currencies :

 

Through the third quarter of 2008, currency trends of prior years continued, with a favorable impact on our reported earnings in U.S. dollars resulting from the translation of results denominated in other currencies, mainly the euro, which appreciated against the U.S dollar, partially offset by the negative impacts of certain other currency fluctuations. In the fourth quarter of 2008 these trends reversed and volatilities spiked at the same time as automotive sales declined. As a result, in the fourth quarter the Company incurred a negative translation impact, losses on hedging of forecasted transactions, as well as losses on other unhedged smaller exposures, resulting in an aggregate negative impact from currency fluctuations for the full year. In the case of weakening foreign currencies in our manufacturing base, our hedge positions as of December 31, 2008 will limit potential improvements in our margins throughout 2009.

 

Company Strategy

 

Significant declines in general economic conditions and production levels of automobiles, an unfavorable change in the mix of our product sales and continuing inflationary and pricing pressures have forced us to re-evaluate all aspects of our business and determine the best approach to mitigate these negative conditions. We continually evaluate our competitive position in the automotive supply industry and whether actions are required to maintain or improve our standing. Such actions may include plant rationalization or global capacity optimization across our businesses.

 

During the fourth quarter of 2008, as a result of the negative conditions mentioned above, automobile manufacturers significantly reduced production volumes to better align supply with demand. This significant reduction in production volumes along with our revised production outlook resulted in the recognition of impairments for goodwill, other identifiable intangible assets and long-lived assets in the amount of $458 million, $329 million and $87 million, respectively, during 2008.

 

Consequently, we have undertaken a number of restructuring and cost reduction initiatives in efforts to further improve our cost base. Such initiatives include the closure of several facilities in addition to a general reduction of our global workforce (including our corporate infrastructure) resulting in a reduction of approximately 9,900, or 13% of our employees during 2008.

 

While we continue our efforts to mitigate the impact of the market conditions and declining demand described above, we expect the negative conditions to continue in the near future, thereby impacting 2009. We will continue to evaluate our global footprint to ensure that we are properly configured and sized, considering the changes in market conditions. Plant rationalization beyond the facilities we have closed or announced for closure, and additional global workforce reduction efforts, may be warranted.

 

Additionally, we will continue to focus on our four strategic priorities, which include achieving world-class quality, reducing costs, leveraging our global reach and developing innovative technology. We believe that these priorities, along with continued focus on our Six Sigma and business excellence programs, can be effectively used to manage our cost structure and ensure efficiency in our day-to-day operations.

 

Our Debt and Capital Structure

 

On an ongoing basis we monitor, and may modify, our debt and capital structure to reduce associated costs and provide greater financial and covenant flexibility.

 

We refinanced our debt in 2007, which provided us with increased liquidity. We believe that our current financial position and financing plans will provide flexibility in worldwide financing activities and permit us to respond to changing conditions in credit markets. However, the ability to fully utilize our facilities may be subject to the financial strength of the underlying participants of the agreements and, in the case of our receivables facilities, the underlying financial strength of our customers. Additionally, our primary credit facilities contain certain

covenants including a maximum total leverage ratio and a minimum interest coverage ratio that would impact our ability to borrow on these facilities if not met. These ratios are calculated on a trailing four quarter basis.

 

As of December 31, 2008, the Company was in compliance with these financial covenants. As a result of the current automotive industry environment, it is uncertain whether the Company will be in compliance with its debt covenants throughout 2009. In the event of noncompliance, the Company believes that it will be able to obtain a waiver from the lender group or successfully amend the covenants.

 

In May 2007, we entered into an amended and restated credit agreement whereby we refinanced $2.5 billion of existing senior secured credit facilities with new facilities consisting of a secured revolving credit facility (the “Revolving Credit Facility”) and various senior secured term loan facilities (collectively with the Revolving Credit Facility, the “Senior Secured Credit Facilities”). In March 2007, we commenced, and in April 2007 we completed, a tender offer for our then outstanding $1.3 billion of senior and senior subordinated notes (the “Old Notes”). In March 2007, we also issued new senior notes for approximately $1.5 billion (the “New Senior Notes”), and used the proceeds to fund the repurchase of the Old Notes.

 

On February 15, 2008, the Company redeemed all of its then remaining Old Notes for $20 million.

 

On March 13, 2008, the Company entered into a transaction to repurchase $12 million in principal amount of the 7% Senior Notes outstanding. The repurchased notes were retired upon settlement on March 18, 2008.

 

As market conditions warrant, we and our major equity holders, including The Blackstone Group L.P. and its affiliates (the “Blackstone Investors”), may from time to time repurchase debt securities issued by the Company or its subsidiaries, in privately negotiated or open market transactions, by tender offer, exchange offer or otherwise.

 

Restructuring Charges and Asset Impairments

 

As a result of our global strategy, we have closed or announced the closure of 24 facilities since the beginning of 2005. During 2008, we closed four facilities and announced two others. For the year ended December 31, 2008, we recorded restructuring charges and asset impairments of $37 million related to the closure or announced closure of various facilities and $42 million primarily related to the global workforce reduction in 2008.

 

Restructuring charges for the year ended December 31, 2008 included cash charges of $69 million for severance and other costs, $11 million of curtailment gains, and $21 million of net non-cash asset impairments related to restructuring activities. Also in 2008, we incurred $66 million of net other asset impairments not related to restructuring.

 

Goodwill and Intangible Assets

 

In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”), we performed our annual impairment test at the reporting unit level during the fourth quarter of 2008. During our annual impairment testing process we identified that there was a goodwill impairment indicator as of October 31, 2008 (the date of our annual impairment test). Based on testing performed we identified impairments of intangible assets of $329 million and goodwill of $458 million. Also, as of December 31, 2008 we identified an additional goodwill impairment indicator, but based on our analyses no additional impairments were required.

 

Other Matters

 

During the third quarter of 2007, we signed an agreement with Delphi Corporation to purchase a portion of its North American brake component machining and module assembly assets. As of January 2, 2008, we closed the purchase and took possession of the former Delphi braking facility located in Saginaw, Michigan.

 

CRITICAL ACCOUNTING ESTIMATES

 

The critical accounting estimates that affect our financial statements and that use judgments and assumptions are listed below. In addition, the likelihood that materially different amounts could be reported under varied conditions and assumptions is noted.

Goodwill.   Goodwill, which represents the excess of cost over the fair value of the net assets of the businesses acquired, was approximately $1.8 billion as of December 31, 2008, or 19% of our total assets.

 

In accordance with SFAS No. 142, we perform annual impairment testing at a reporting unit level. To test goodwill for impairment, we estimate the fair value of each reporting unit and compare the estimated fair value to the carrying value. If the carrying value exceeds the estimated fair value, then a possible impairment of goodwill exists and requires further evaluation. Estimated fair values are based on the cash flows projected in the reporting units’ strategic plans and long-range planning forecasts (see “— Impairment of Long-Lived Assets and Intangibles” below), discounted at a risk-adjusted rate of return.

 

See Note 6 to the consolidated financial statements included under “Item 8. Financial Statements and Supplementary Data” for further information on our annual impairment analysis of goodwill.

 

Impairment of Long-Lived Assets and Intangibles.   We evaluate long-lived assets and definite-lived intangible assets for impairment when events and circumstances indicate that the assets may be impaired and the undiscounted cash flows to be generated by those assets are less than their carrying value. If the undiscounted cash flows are less than the carrying value of the assets, the assets are written down to their fair value. We also evaluate the useful lives of intangible assets each reporting period.

 

The determination of undiscounted cash flows is based on the businesses’ strategic plans and long-range planning forecasts. The revenue growth rates included in the plans are based on industry specific data. We use external vehicle build assumptions published by widely used external sources and market share data by customer based on known and targeted awards over a five-year period. The projected profit margin assumptions included in the plans are based on the current cost structure and anticipated cost reductions. If different assumptions were used in these plans, the related undiscounted cash flows used in measuring impairment could be different and additional impairment of assets might be required to be recorded.

 

We test indefinite-lived intangible assets, other than goodwill, for impairment on at least an annual basis, or when events and circumstances indicate that the indefinite-lived intangible assets may be impaired, by comparing the estimated fair values to the carrying values. If the carrying value exceeds the estimated fair value, the asset is written down to its estimated fair value. Estimated fair value is based on cash flows as discussed above, discounted at a risk-adjusted rate of return.

 

See Notes 6 and 14 to the consolidated financial statements included under “Item 8. Financial Statements and Supplementary Data” for our evaluation of long-lived assets for impairment and further information on our annual impairment analysis of intangibles, respectively.

 

Product Recalls.   We are at risk for product recall costs. Recall costs are costs incurred when the customer or we decide to recall a product through a formal campaign, soliciting the return of specific products due to a known or suspected safety concern. In addition, NHTSA has the authority, under certain circumstances, to require recalls to remedy safety concerns. Product recall costs typically include the cost of the product being replaced, customer cost of the recall and labor to remove and replace the defective part.

 

Recall costs are recorded based on management estimates developed utilizing actuarially established loss projections based on historical claims data. Based on this actuarial estimation methodology, we accrue for expected but unannounced recalls when revenues are recognized upon shipment of product. In addition, we accrue for announced recalls based on our best estimate of our obligation under the recall action when such an obligation is probable and estimable.

 

Valuation Allowances on Deferred Income Tax Assets.   In assessing the realizability of deferred tax assets, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. Management considers historical taxable income, projected future taxable income, the expected timing of the reversals of existing temporary differences and tax planning strategies. We determined that we could not conclude that it was more likely than not that the benefits of certain deferred income tax assets would be realized. As such, the valuation allowance we recorded reduced the net carrying value of deferred tax assets to the amount that is more likely than not to be realized. We expect the deferred tax assets, net of the valuation allowance, to be realized as a

result of the reversal of existing taxable temporary differences in the United States and as a result of projected future taxable income and the reversal of existing taxable temporary differences in certain foreign jurisdictions.

 

Environmental.   Governmental regulations relating to the discharge of materials into the environment, or otherwise relating to the protection of the environment, have had, and will continue to have, an effect on our operations. We have made and continue to make expenditures for projects relating to the environment, including pollution control devices for new and existing facilities. We are conducting a number of environmental investigations and remedial actions at current and former locations to comply with applicable requirements and, along with other companies, have been named a potentially responsible party for certain waste management sites.

 

A reserve estimate for each matter is established using standard engineering cost estimating techniques on an undiscounted basis. In the determination of such costs, consideration is given to the professional judgment of our environmental engineers, in consultation with outside environmental specialists, when necessary. At multi-party sites, the reserve estimate also reflects the expected allocation of total project costs among the various potentially responsible parties. Each of the environmental matters is subject to various uncertainties, and some of these matters may be resolved unfavorably to us. We believe that any liability, in excess of amounts accrued in our consolidated financial statements, that may result from the resolution of these matters for which sufficient information is available to support cost estimates, will not have a material adverse affect on our financial position, results of operations or cash flows. However, we cannot predict the effect on our financial position, results of operations or cash flows for aspects of certain matters for which there is insufficient information. In addition, we cannot predict the effect of compliance with environmental laws and regulations with respect to unknown environmental matters.

 

Pensions.   We account for our defined benefit pension plans in accordance with SFAS No. 87, “Employers’ Accounting for Pensions” (“SFAS No. 87”), which requires that amounts recognized in financial statements be determined on an actuarial basis. This determination involves the selection of various assumptions, including an expected rate of return on plan assets and a discount rate.

 

A key assumption in determining our net pension expense in accordance with SFAS No. 87 is the expected long-term rate of return on plan assets. The expected return on plan assets that is included in pension expense is determined by applying the expected long-term rate of return on assets to a calculated market-related value of plan assets, which recognizes changes in the fair value of plan assets in a systematic manner over five years. Asset gains and losses will be amortized over five years in determining the market-related value of assets used to calculate the expected return component of pension income. We review our long-term rate of return assumptions annually through comparison of our historical actual rates of return with our expectations, and consultation with our actuaries and investment advisors regarding their expectations for future returns. While we believe our assumptions of future returns are reasonable and appropriate, significant differences in our actual experience or significant changes in our assumptions may materially affect our pension obligations and our future pension expense. The weighted average expected long-term rate of return on assets used to determine net periodic benefit cost for 2008 was 6.97% as compared to 6.96% for 2007 and 6.97% for 2006.

 

Another key assumption in determining our net pension expense is the assumed discount rate to be used to discount plan liabilities. The discount rate reflects the current rate at which the pension liabilities could be effectively settled. In estimating this rate, we look to rates of return on high quality, fixed-income investments that receive one of the highest ratings given by a recognized ratings agency, and that have cash flows similar to those of the underlying benefit obligation. The weighted average discount rate used to calculate the benefit obligations as of December 31, 2008 was 6.42% as compared to 5.74% as of December 31, 2007. The weighted average discount rate used to determine net periodic benefit cost for 2008 was 5.74% as compared to 5.08% for 2007 and 5.04% for 2006.

 

The Company adopted the measurement date provisions of SFAS No. 158, “Employers’ Accounting for Defined Benefit and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106, and 132(R)” (“SFAS No. 158”), effective January 1, 2008 using the one-measurement approach. As a result, the Company changed the measurement date for its pension and other postretirement plans from October 31 to its year end date of December 31. Under the one-measurement approach, net periodic benefit cost of the Company for the period between October 31, 2007 and December 31, 2008 is being allocated proportionately between amounts recognized as an adjustment of retained earnings at January 1, 2008, and net periodic benefit cost for the year ended

December 31, 2008. The Company recorded an adjustment, which increased retained earnings by approximately $3 million, net of tax, in relation to this allocation.

 

Based on our assumptions as of December 31, 2008, the measurement date, a change in these assumptions, holding all other assumptions constant, would have the following effect on our pension costs and obligations on an annual basis:

 

 

SFAS No. 87 and the policies we have used (most notably the use of a calculated value of plan assets for pensions as described above), generally reduce the volatility of pension expense that would otherwise result from changes in the value of the pension plan assets and pension liability discount rates. A substantial portion of our pension benefits relate to our plans in the United States and the United Kingdom.

 

Our 2009 pension income is estimated to be approximately $9 million in the U.S. and $93 million in the U.K.; our pension expense is estimated to be approximately $38 million for the rest of the world (based on December 31, 2008 exchange rates). During 2008, an executive supplemental retirement plan was amended which will increase future service costs. During 2006, certain amendments reducing future benefits for nonunion participants were adopted that will reduce future service costs. We expect to contribute approximately $42 million to our U.S. pension plans and approximately $43 million to our non-U.S. pension plans in 2009.

 

The U.K. pension plan undergoes triennial actuarial funding valuations. The plan was in a surplus position for funding purposes as of March 31, 2006, the date of the last triennial valuation. The date of the next actuarial funding valuation will be March 31, 2009. Given the recent declines in global financial markets, the funding valuation is likely to result in an overall deficit as of that date. This may result in the need for the Company to enter into discussions on a “deficit recovery plan” with the plan fiduciaries/trustees, with the potential for the Company to be required to commence contributions to the plan. Such discussions, including the finalization of a “deficit recovery plan” would need to be concluded no later than June 30, 2010. In the finalization process, allowances could be made for any changes or recoveries in asset values over the 15 month period following March 31, 2009, as well as future expected investment returns over the full length of the agreed upon recovery plan. Should Company contributions be required, the fiduciaries/trustees would consider the affordability of such contributions to the U.K. business and will make appropriate allowances for this in the formal deficit recovery plan.

 

Other Postretirement Benefits.   We account for our OPEB in accordance with SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” (“SFAS No. 106”) which requires that amounts recognized in financial statements be determined on an actuarial basis. This determination involves the selection of various assumptions, including a discount rate and health care cost trend rates used to value benefit obligations. The discount rate reflects the current rate at which the OPEB liabilities could be effectively settled at the end of the year. In estimating this rate, we look to rates of return on high quality, fixed-income investments that receive one of the highest ratings given by a recognized ratings agency and that have cash flows similar to those of the underlying benefit obligation. We develop our estimate of the health care cost trend rates used to value the benefit obligation through review of our recent health care cost trend experience and through discussions with our actuary regarding the experience of similar companies. Changes in the assumed discount rate or health care cost trend rate can have a significant impact on our actuarially determined liability and related OPEB expense.

The following are the significant assumptions used in the measurement of the accumulated projected benefit obligation (“APBO”) as of the measurement date for each year:

 

 

Based on our assumptions as of December 31, 2008, the measurement date, a change in these assumptions, holding all other assumptions constant, would have the following effect on our OPEB expense and obligation on an annual basis:

 

 

Our 2009 OPEB expense is estimated to be approximately $9 million (based on December 31, 2008 exchange rates), and includes the effects of the adoption of certain 2008, 2007 and 2006 amendments which reduce future benefits for participants. We fund our OPEB obligation on a pay-as-you-go basis. We expect to contribute approximately $46 million on a pay-as-you-go basis in 2009.

RESULTS OF OPERATIONS

 

The following consolidated statements of operations compare the results of operations for the years ended December 31, 2008, 2007 and 2006.

 

 

Year Ended December 31, 2008 Compared to Year Ended December 31, 2007

 

Sales for the year ended December 31, 2008 increased by $293 million as compared to the year ended December 31, 2007. Foreign currency exchange had a $730 million net favorable effect on sales due to the relative weakness of the dollar against other currencies (most notably the euro). This was partially offset by lower volume and price reductions provided to customers, together which totaled $437 million. Increased module sales in the current period were more than offset by lower sales of core products in both North America and Europe resulting from reduced light vehicle production volumes.

 

Gross profit for the year ended December 31, 2008 decreased by $190 million as compared to the year ended December 31, 2007. The decrease was driven primarily by lower volume and adverse mix in excess of favorable supplier resolutions that occurred in the prior year, together which net to $281 million. Also contributing to the decline in gross profit were higher engineering expenses, coupled with lower recoveries, totaling $27 million and the net unfavorable impact of foreign currency exchange of $20 million. These unfavorable items were partially offset by cost reductions (in excess of inflation and price reductions provided to customers) and the non-recurrence of certain prior period product-related settlements, together which totaled $82 million. Net insurance recoveries in

the current period of $17 million related to a business disruption at our brake line production facility in South America and the non-recurrence of associated costs (net of insurance recoveries) which negatively impacted the prior period by $6 million also offset the decrease in gross profit, as did a reduction in pension and postretirement benefit expense of $18 million and lower warranty costs of $14 million. Gross profit as a percentage of sales for the year ended December 31, 2008 was 6.8% compared to 8.2% for the year ended December 31, 2007.

 

Administrative and selling expenses for the year ended December 31, 2008 decreased by $14 million as compared to the year ended December 31, 2007. The decrease was driven primarily by cost reductions in excess of inflation and other costs which in total net to $24 million and merger and acquisition activity costs of $9 million in 2007 which did not recur in 2008. These items were partially offset by the unfavorable impact of foreign currency exchange of $19 million. Administrative and selling expenses as a percentage of sales for the year ended December 31, 2008 were 3.5% as compared to 3.7% for the year ended December 31, 2007.

 

Restructuring charges and fixed asset impairments increased by $94 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The increase was driven primarily by an increased level of restructuring activities of $34 million for severance and other charges related to plant closures and the global workforce reduction, which was offset by net curtailment gains of $11 million as a result of the decrease in pension and retiree medical benefit obligations related to the headcount reductions. Additionally, fixed asset impairments increased by $71 million, primarily due to the impact of declines in general economic and industry conditions.

 

Intangible asset impairments were $329 million for the year ended December 31, 2008. During the fourth quarter of 2008, due to the impact of significant declines in economic and industry conditions, impairment charges of $329 million were recorded as a result of testing the recoverability of our customer relationships.

 

Goodwill impairments were $458 million for the year ended December 31, 2008. On October 31, 2008, the Company performed its annual impairment analysis of goodwill, which resulted in the full impairment of goodwill in three reporting units within its Automotive Components segment.

 

Other income — net decreased by $40 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. This was primarily due to an unfavorable increase in foreign currency exchange losses of $20 million, a decrease in net gains on sales of assets of $15 million, a decrease in royalty and grant income of $5 million, and an unfavorable change to the net provision for bad debts of $8 million. This was offset by an increase in miscellaneous other income of $8 million.

 

Interest expense — net decreased by $46 million for the year ended December 31, 2008 compared to the year ended December 31, 2007, primarily as a result of lower interest rates on variable rate debt and lower interest rates on the New Senior Notes compared to the Old Notes.

 

Loss on retirement of debt was $155 million for the year ended December 31, 2007. During the year ended December 31, 2007, the Company recognized a loss of $148 million in association with payments to note holders who tendered their Old Notes. In addition, in conjunction with the May 9, 2007 refinancing, the Company recognized a loss of $7 million related to the write off of debt issuance costs associated with the former senior secured credit facilities.

 

Income tax expense for the year ended December 31, 2008 was $126 million on a pre-tax loss of $638 million as compared to income tax expense of $155 million on pre-tax earnings of $264 million for the year ended December 31, 2007. Income tax expense for the year ended December 31, 2008 includes a net one time charge of approximately $15 million resulting from changes in determinations relating to the potential realization of deferred tax assets in certain foreign subsidiaries. Income tax expense for the year ended December 31, 2007 includes no tax benefit related to the $155 million loss on retirement of debt due to the Company’s valuation allowance position in the United States. The income tax rate varies from the United States statutory income tax rate due primarily to the items noted above, and the impact of losses in the United States and certain foreign jurisdictions, without recognition of a corresponding income tax benefit, partially offset by favorable foreign tax rates, holidays, and credits.

 

Year Ended December 31, 2007 Compared to Year Ended December 31, 2006

 

Sales increased $1,558 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. Favorable currency effects contributed to an increase in sales of $856 million, as the dollar weakened against other currencies (most notably the euro). Higher volume (net of price reductions provided to customers) of $702 million also contributed to the sales increase, driven by an expansion in customer vehicle production in Europe and China, an increase in module sales in North America and Asia, and the general growth of safety products in all markets, partially offset by the decline in North American customer vehicle production.

 

Gross profit increased $20 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by an increase in volume (net of adverse product mix) and supplier resolutions, together which totaled $120 million, a reduction in pension and postretirement benefit expense of $47 million, net favorable currency effects of $34 million, lower warranty costs of $13 million and other performance improvements. These items were partially offset by price reductions and other costs related to our customers, including the net unfavorable impact of certain product-related settlements, and higher inflation in excess of cost reductions, of $136 million, and a larger investment in engineering expenses of $28 million. Other drivers negatively impacting the gross profit comparison included the favorable resolution of certain business and patent matters of $22 million in 2006 that did not recur in 2007, net costs incurred from property damage at our brake line production facility located in South America of $6 million, and incremental costs related to a first quarter acquisition of $3 million. Gross profit as a percentage of sales for the year ended December 31, 2007 was 8.2% compared to 9.0% for the year ended December 31, 2006.

 

Administrative and selling expenses increased $23 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by unfavorable currency effects of $29 million, costs of $9 million related to merger and acquisition activity, an increase in share-based compensation

expense of $6 million, and the favorable resolution of certain patent matters of $6 million in 2006 that did not recur in 2007. These items were partially offset by cost reductions, and performance improvements of $22 million, as well as a reduction in pension and postretirement benefit expense of $4 million. Administrative and selling expenses as a percentage of sales for the year ended December 31, 2007 were 3.7% as compared to 3.9% for the year ended December 31, 2006.

 

Restructuring charges and asset impairments were $51 million for the year ended December 31, 2007 as compared to $30 million for the year ended December 31, 2006. Charges for the year ended December 31, 2007 included $35 million for severance and other costs, $7 million of asset impairments related to restructuring activities and $9 million of other asset impairments. Charges for the year ended December 31, 2006 consisted of $37 million for severance and other costs, $7 million of asset impairments related to restructuring, $6 million of other asset impairments, offset by $20 million of postretirement benefit curtailment gains at closed facilities.

 

Other income — net increased $13 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by net gains on the sale of assets of $13 million, a decrease in bad debt expense of $9 million, and an increase in royalty income of $4 million. These items were partially offset by unfavorable currency effects of $11 million.

 

Interest expense — net for the year ended December 31, 2007 decreased $19 million compared to the year ended December 31, 2006. The decrease in interest expense was primarily due to lower interest rates on the New Senior Notes compared to the Old Notes, partially offset by the effect of higher outstanding debt balances on the New Senior Notes, largely as a result of financing the redemption premium relating to the tender transactions in early 2007.

 

Loss on retirement of debt for the year ended December 31, 2007 totaled $155 million as compared to $57 million for the year ended December 31, 2006. During the year ended December 31, 2007, we recognized a loss of $148 million in association with payments to note holders who tendered their Old Notes. In addition, in conjunction with the May 9, 2007 refinancing, we recognized a loss of $7 million related to the write off of debt issuance costs associated with our former revolving facility and our former syndicated term loans. On February 2, 2006 we repurchased all of our subsidiary Lucas Industries Limited’s £94.6 million 10 7 / 8 % bonds due 2020, for £137 million, or approximately $243 million. The repayment of debt resulted in a pretax charge of £32 million, or approximately $57 million, for loss on retirement of debt.

 

Income tax expense for the year ended December 31, 2007 was $155 million on pre-tax income of $264 million as compared to income tax expense of $166 million on pre-tax earnings of $355 million for the year ended December 31, 2006. Income tax expense for the year ended December 31, 2007 includes no tax benefit related to the $155 million loss on retirement of debt due to the Company’s valuation allowance position in the United States. Income tax expense for the year ended December 31, 2006 includes a one-time charge of approximately $49 million resulting from the recognition of a valuation allowance against certain deferred tax assets in our Canadian operations that the Company determined were no longer more likely than not to be realized. Income tax expense for the year ended December 31, 2006 also includes a one-time benefit of approximately $35 million related to the reversal of certain tax reserves recorded in 2004 and 2005 with respect to interest expense in a foreign jurisdiction. The income tax rate varies from the United States statutory income tax rate due primarily to the items noted above, and the impact of losses in the United States and certain foreign jurisdictions, without recognition of a corresponding income tax benefit, partially offset by favorable foreign tax rates, holidays, and credits.

Segment Results of Operations

 

As Reported Under Old Basis of Segmentation

 

The following table reconciles segment sales and earnings before taxes to consolidated sales and earnings before taxes for 2008, 2007, and 2006. See Note 20 to the consolidated financial statements included in “Item 8 — Financial Statements and Supplementary Data” for a description of segment earnings before taxes for the periods presented.

 

 

 

Sales increased $739 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007. The increase was driven primarily by the favorable impact of foreign currency exchange of $443 million and increased volume (including net favorable price recoveries from customers) of $296 million. The higher volume is attributed primarily to increased module sales in North America and Asia.

 

Earnings before taxes decreased by $102 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007. The decrease was driven mainly by adverse mix in excess of favorable volume of $65 million, which is primarily related to the increase in sales of lower margin modules. Also contributing to the decrease in earnings are increased restructuring and impairment costs of $61 million, the net unfavorable impact of foreign currency exchange of $32 million, and higher engineering expense of $5 million. These unfavorable items were partially offset by cost reductions and net price recoveries from our customers (in excess of inflation) of

$27 million and net insurance recoveries in the current period of $17 million related to a business disruption at our brake line production facility in South America and the non-recurrence of associated costs (net of insurance recoveries) which negatively impacted the prior period by $6 million. Other favorable drivers included lower warranty costs of $9 million and a reduction in pension and postretirement benefit expense of $2 million.

 

For the year ended December 31, 2008, this segment recorded restructuring charges and asset impairments of $91 million in connection with severance, retention and outplacement services at various production facilities, net of curtailment gains, as well as net fixed asset impairment charges to write down certain machinery and equipment to fair value. For the year ended December 31, 2007, this segment recorded restructuring charges and asset impairments of $30 million in connection with severance and costs related to the consolidation of certain facilities, as well as net asset impairment charges to write down certain assets to fair value.

 

 

Sales increased $901 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by favorable currency effects of $482 million, as well as favorable volume, including higher module sales in North America and Asia (net of price reductions provided to customers) of $419 million.

 

Earnings before taxes decreased $12 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The decrease was driven primarily by higher engineering expenses of $20 million, the favorable resolution of business settlements in 2006 that did not recur in 2007 of $19 million, higher restructuring charges and asset impairments of $16 million, the favorable resolution of certain patent matters of $9 million in 2006 that did not recur in 2007, the net unfavorable impact of property damage at our brakeline production facility in South America of $6 million, a gain of $5 million on the sale of a facility in Asia in 2006 that did not recur in 2007, and incremental costs related to a first quarter 2007 acquisition of $3 million. These items were partially offset by a reduction in pension and postretirement benefit expense of $28 million, favorable volume (net of adverse mix) of $26 million, and lower warranty costs of $14 million.

 

For the year ended December 31, 2007, this segment recorded restructuring charges and asset impairments of $30 million in connection with severance and costs related to the consolidation of certain facilities, as well as net asset impairment charges to write down certain assets to fair value. For the year ended December 31, 2006, this segment recorded restructuring charges and asset impairments of $14 million in connection with severance and costs related to the consolidation of certain facilities, offset by postretirement benefit curtailment gains.

 

Sales decreased $292 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007. The decrease was driven primarily by unfavorable volume and price reductions provided to customers of $494 million, partially offset by the favorable impact of foreign currency exchange of $202 million. The decrease in volume is attributed to lower sales in both North America and Europe resulting from reduced light vehicle production volumes.

 

Earnings before taxes decreased $414 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007. The decrease was driven primarily by increased restructuring and impairment costs of $215 million and lower volume and adverse mix net of favorable supplier resolutions that occurred in the prior period, which combined amounted to $152 million. Also contributing to the decrease in earnings were the net unfavorable impact of foreign currency exchange of $29 million, higher engineering expense coupled with lower recoveries totaling $17 million, the non-recurrence of a $7 million gain on the sale of an idle facility that occurred in the prior period, and price reductions and inflation in excess of cost reductions of $1 million. These items were partially offset by lower warranty costs of $5 million and reduced pension and other postretirement benefit expense of $2 million.

 

For the year ended December 31, 2008, this segment recorded restructuring charges and asset impairments of $219 million, primarily in connection with the impairment of customer relationship intangible assets of $174 million and severance and other costs of $17 million associated with the closure of a facility in Europe. Severance and other costs of $14 million, offset by net curtailment gains of $2 million, and an increase in fixed asset impairments of $12 million, also contributed to the $215 million increase in restructuring and impairment costs. For the year ended December 31, 2007, this segment recorded restructuring charges and asset impairments of $4 million in connection with the write down of certain machinery and equipment to fair value.

 

 

Sales increased $388 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by favorable currency effects of $252 million, and favorable volume (net of price reductions provided to customers) of $136 million.

 

Earnings before taxes increased $33 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by the favorable impact of volume (net of adverse mix) and favorable supplier resolutions, which together totaled $57 million, a gain on the sale of a facility of $7 million, a reduction in net pension and postretirement benefit expense of $6 million, and lower restructuring and impairment costs of $5 million. These items were partially offset by price reductions to our customers and inflation (net of cost reductions) of $33 million, higher engineering expenses of $8 million, and unfavorable foreign currency exchange of $3 million.

 

For the year ended December 31, 2007, this segment recorded restructuring charges and asset impairments of $4 million in connection with the write down of certain machinery and equipment to fair value. For the year ended December 31, 2006, we recorded restructuring charges and asset impairments of $9 million in connection with severance and costs related to the consolidation of certain facilities.

 

Sales decreased by $154 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007. The decrease was driven primarily by unfavorable volume and price reductions provided to customers of $238 million, partially offset by the favorable impact of foreign currency exchange of $84 million. The decrease in volume is attributed to lower sales of core products in both North America and Europe resulting from reduced light vehicle production volumes.

 

(Losses) earnings before taxes decreased by $674 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007. The decrease was driven primarily by increased restructuring and impairment costs of $604 million, lower volume and adverse mix which totaled $68 million and the non-recurrence of a $10 million gain on the sale of an Engine Components manufacturing facility which occurred in the prior period. These unfavorable items were partially offset by cost reductions (in excess of inflation and price reductions provided to customers) of $4 million and the net favorable impact of foreign currency exchange of $3 million.

 

For the year ended December 31, 2008, this segment recorded restructuring charges and asset impairments of $621 million, primarily in connection with the impairment of goodwill of $458 million, customer relationship intangible assets of $155 million, and increased fixed asset impairments of $1 million. This charge was partially offset by a decrease in severance and other costs of $8 million and recording of net curtailment gains of $2 million. For the year ended December 31, 2007, this segment recorded restructuring charges of $17 million.

 

 

Sales increased $269 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by favorable volume (net of price reductions provided to customers) of $148 million and favorable foreign currency exchange of $121 million.

 

Earnings before taxes increased $15 million for the year ended December 31, 2007 as compared to the year ended December 31, 2006. The increase was driven primarily by higher volume (net of adverse mix) of $29 million, the gain on the sale of an Engine Components manufacturing facility of $10 million, the favorable currency effects of $6 million, and other performance improvements. These items were partially offset by price reductions to our customers and inflation (net of cost reductions) of $18 million, higher restructuring charges of $10 million, and higher warranty costs of $2 million.

 

For the year ended December 31, 2007, this segment recorded restructuring charges and asset impairments of $17 million primarily related to severance and other charges at various production facilities. For the year ended December 31, 2006, this segment recorded restructuring charges of $7 million.