Item 1 Business News and Information
CTS IS A 100 YEAR OLD COMPANY MOVING INTO THE NEXT CENTURY
CTS Corporation was established in 1896 as Chicago Telephone Supply, a provider of high-quality telephone products. The technology was soon adapted to the emerging radio industry, to which CTS became a major supplier of quality components. Today, CTS is a recognized leader in the design and manufacture of electronic components and electronic assemblies.
CTS designs, manufactures, assembles and sells a broad line of passive electronic components and electronic assemblies, serving the electronic needs of original equipment manufacturers worldwide in the computer equipment, automotive, communications equipment and other markets. Manufacturing operations, sales representatives and distributors are located throughout the United States and in many countries worldwide to work closely with customers.
CTS' growth has been worldwide. The major elements contributing to the sustained growth are:
* customer focused, market driven new product development enabled by existing and new technologies,
* high volume manufacturing to consistent standards of quality and reliability, cost effectiveness and delivery and
* state-of-the-art manufacturing technologies and processes.
On December 22, 1998, CTS signed a definitive agreement to acquire the Component Products Division (CPD) of Motorola, Inc. CPD will be wholly-owned by CTS and operate under the name CTS Wireless Components, Inc. CPD manufactures ceramics, quartz, oscillators, lead zirconate titanate and surface acoustic wave components, primarily for the wireless communications industry.
During 1998, CTS finalized its plan for integration and disposal of the Dynamics Corporation of America (DCA) businesses acquired on October 16, 1997. Prior to acquisition by CTS, DCA owned 44% of CTS' common stock and seven separate businesses. Except for DCA's frequency and heat sink businesses, which have been integrated into CTS' complementary operations, all other DCA businesses are reflected in CTS' financial results as discontinued operations (including the Waring Division which was sold in May, 1998.)
BUSINESS SEGMENTS AND PRODUCTS BY MAJOR MARKET
CTS' operations comprise two reportable business segments, the manufacturing of electronic components and electronic assemblies. Electronic components are products which perform the basic level electronic function for a given product family for use in customer assemblies. Electronic components consist principally of automotive sensors used in commercial or consumer vehicles, frequency control devices such as crystals and clocks, loudspeakers, resistor networks, switches and variable resistors. CTS' electronic assemblies are assemblies of electronic or electronic and mechanical products which, apart from the assembly, may themselves be marketed as separate stand-alone products. Such assembly represents a completed, higher- level functional product to be used in customer end products or assemblies. These products consist principally of flex cable assemblies used in the disk drive market, hybrid microcircuits used in the healthcare market, cursor controls for computers and interconnect products such as backpanels and connectors used in the telecommunications industry.
Within the two business segments, products are also identified by market. CTS products are principally sold into four primary original equipment manufacturing (OEM) markets including computer equipment, automotive, communications equipment and other markets. Other markets include OEMs for consumer electronics, instruments and controls, and defense and aerospace equipment.
Electronic components sales as a percent of consolidated sales were 67% of sales for 1998, 61% for 1997 and 67% for 1996. Electronic assemblies sales as a percent of consolidated sales were 33% of sales for 1998, 39% for 1997 and 33% for 1996. The following table breaks down the percentages by segment into each segment's major markets:
Electronic Components Electronic Assemblies
Markets 1998 1997 1996 1998 1997 1996 - ------- ---- ---- ---- ---- ---- ----
Computer Equipment 9% 8% 11% 23% 25% 14% Automotive 32% 31% 34% - - - Communications Equipment 17% 12% 11% 6% 8% 10% Other 9% 10% 11% 4% 6% 9% Segment as a % of Consolidated 67% 61% 67% 33% 39% 33%
Sales to unaffiliated customers, operating earnings and identifiable assets, by geographic area, are contained in "Note I - Business Segments" appearing herein the financial statements as noted in the index appearing under Item 14(a)(1) and (2).
The following table identifies major products by their business segment and markets. Many products are sold into several (OEM) markets.
Product Computer Automotive Communications Other Description Equipment Market Equipment Markets Market Market ------ ------
Electronic Components: DIP/Rotary Switches o o o Automotive Sensors o Frequency Control Devices o o o (Crystals and Oscillators) Loudspeakers o o Potentiometers and Trimmers o o o o Resistor Networks o o o o Thermal Dissipators o o o Electronic Assemblies: Cursor Controls o Flex Cable Assemblies o Hybrid Microcircuits o o Interconnect Systems, Backpanels o o o
MARKETING AND DISTRIBUTION
CTS sales engineers and manufacturers' representatives sell CTS electronic components and electronic assemblies to original equipment manufacturers. CTS maintains sales offices in Elkhart, Indiana; Southfield, Michigan; Hong Kong; Taiwan and Japan in addition to several business unit locations. Various regions of the United States are serviced by sales engineers working at independent locations.
Approximately half of the sales in 1998 were attributable to coverage by CTS sales engineers. CTS sales engineers generally service the largest customers with application specific products. The engineers work closely with major customers in designing products to meet or exceed customer requirements.
CTS utilizes the services of independent sales representatives and distributors in the United States and other countries for customers not serviced directly by CTS sales engineers. Sales representatives receive commissions from CTS. During 1998, approximately 43% of net sales were attributable to coverage by sales representatives. Additionally, independent distributors purchase products from CTS for resale to customers. In 1998, independent distributors and/or dealers accounted for approximately 6% of net sales.
RAW MATERIALS
* Raw materials used in many CTS products include steel, copper, brass, aluminum, certain precious metals, resistive and conductive inks, passive electronic components and semiconductors.
* Ceramic materials are used in resistor networks and hybrid microcircuits.
* Synthetic quartz is used in frequency control devices.
* Molding compounds are used in automotive sensors, DIP/rotary switches and loudspeakers.
These raw materials are purchased from several vendors, and except for certain semiconductors, CTS does not believe that it is dependent on one or on a very few vendors. In 1998, all of these materials were available in adequate quantities to meet CTS' production demands.
CTS does not currently anticipate any raw material shortages which would slow production. However, the lead times between the placement of orders for certain raw materials and actual delivery to CTS may vary, and occasionally might require the Company to order raw materials in quantities and at prices less than optimal to compensate for the variability of lead times for delivery.
Precious metal prices may have a significant effect on the cost and selling price of many CTS products, particularly some switches, interconnect products, resistor networks and hybrid microcircuits. CTS reduced the precious metals content of several products in 1998, and will continue the program in 1999 when consistent with customer specifications.
WORKING CAPITAL
CTS does not usually buy inventories or manufacture products without actual or reasonably anticipated customer orders, except for some standard, off-the-shelf distributor products. CTS is not generally required to carry significant amounts of inventories in anticipation of rapid delivery requirements because most customer orders are custom built. CTS has entered into "just-in-time" arrangements with certain major customers in order to meet their delivery requirements.
CTS carries raw materials, including certain semiconductors, work-in-process and finished goods inventories which are unique to a particular customer(s), and in the event of reductions or cancellations of orders, some inventories may not be useable or returnable to vendors for credit. CTS generally imposes charges for the reduction or cancellation of orders by customers, and these charges are usually sufficient to cover the financial exposure of CTS to inventories which are unique to a customer. CTS does not customarily grant special return or payment privileges to customers, although CTS' distributor program permits certain returns or adjustments. CTS' working capital requirements are generally cyclical but not seasonal.
Working capital requirements are generally dependent on the overall business level. During 1998, working capital decreased to $36.2 million, primarily due to the decrease in cash. Cash declined as a result of the repurchase of 1.8 million CTS common stock shares for treasury, partially offset by proceeds from the sale of the Waring Products Division. Cash of various non-U.S. subsidiaries was held in U.S.-denominated cash equivalents at December 31, 1998. Cash, except for approximately $1.8 million which would be due in foreign withholding taxes, is generally available to the Company.
PATENTS, TRADEMARKS AND LICENSES
CTS maintains a program of obtaining and protecting U.S. and non-U.S. patents and trademarks. CTS believes that the success of its business is not materially dependent on the existence or duration of any patent, group of patents or trademarks.
CTS licenses the right to manufacture several electronic products to companies in the United States and non- U.S. countries. In 1998, license and royalty income was less than 1% of net sales. CTS believes that the success of its business is not materially dependent upon any licensing arrangement where CTS is either the licensor or licensee.
MAJOR CUSTOMERS
CTS' 15 largest customers represented about 66%, 67% and 62% of net sales in 1998, 1997 and 1996, respectively. Sales of electronic components to General Motors Corporation represented 12% to 15% of CTS' sales in each of the last three years. Sales of electronic assemblies to Compaq Computer Corporation represented 12% of CTS' net sales in two of the last three years. Sales of electronic assemblies to Seagate Technology, Inc. represented 11% of CTS' net sales in one of the last three years.
BACKLOG OF ORDERS
Backlog of orders may not provide an accurate indication of present or future business levels for CTS. For many electronic components and electronic assemblies the period between receipt of orders and expected delivery is relatively short. Large orders from major customers may constitute backlog over an extended period of time. Production scheduling and delivery for such orders could be changed or canceled by the customer on relatively short notice. At December 31, 1998, CTS' backlog of orders was $90 million compared to $91 million at December 31, 1997. The backlog of orders at the end of 1998 will generally be filled during the 1999 fiscal year.
GOVERNMENT CONTRACTS
CTS estimates that about 3% of its net sales are associated with purchases by the U.S. Government or non- U.S. governments, principally for defense and aerospace applications. Because most CTS products procured through government contractors and subcontractors are for military end uses, the level of defense and aerospace market sales by CTS is dependent upon government budgeting and funding of programs utilizing electronic systems. The Ellis and Watts and Fermont businesses, which are both discontinued operations, do have significant government contracts. The sale of these discontinued businesses may not relieve CTS of all liabilities associated with its government contracts.
CTS is usually subject to contract provisions permitting termination of the contract, usually with penalties payable by the government, maintenance of specified accounting procedures, limitations on and renegotiations of profits, priority production scheduling and possible penalties or fines against CTS for late delivery or substandard quality. Such contract provisions have not previously resulted in material uncertainties or disruptions for CTS.
COMPETITION
CTS competes with many domestic and non-U.S. manufacturers principally on the basis of product features, price, technology, quality, reliability, delivery and service. Most CTS product lines encounter significant competition. The number of significant competitors varies from product line to product line. No one competes with CTS in every product line, but many competitors are larger and more diversified than CTS. Some competitors are divisions or affiliates of customers. CTS is subject to competitive risks which are the nature of the electronics industry including shorter product life cycles and technical obsolescence.
Some customers have reduced or plan to reduce the number of suppliers while increasing the volume of purchases. Most customers are demanding higher quality, reliability and delivery standards from CTS as well as competitors. These trends create opportunities for CTS, but also increase the risk of loss of business to competitors.
The Company believes that it competes most successfully in custom products manufactured to meet specific applications of major original equipment manufacturers.
CTS believes that it has an advantage over certain competitors:
* The ability to apply a broad range of technologies and materials capabilities to develop products for the special requirements of customers.
* The capability to sell a broad range of products manufactured to consistent standards of quality and delivery.
* CTS is one of the largest manufacturers of automotive throttle position sensors in the world.
NON-U.S. REVENUES AND RISKS
In 1998 approximately 40% of net sales to unaffiliated customers were attributable to non-U.S. operations. This is unchanged from 1997. In 1998, approximately 28% of total CTS assets are non-U.S. A substantial portion of these assets, other than cash and equivalents, cannot readily be liquidated. CTS believes that the business risks to its non-U.S. operations, though substantial, are normal risks for non-U.S. businesses, including expropriation, currency controls and changes in currency exchange rates and government regulations. Southeast Asia is currently experiencing currency, economic and political instability. CTS has manufacturing facilities in Taiwan and Singapore, but the majority of their sales are to Europe and the United States, which Management believes minimizes any potential risk to the Compny.
Information about revenue from sales to unaffiliated customers, operating earnings and identifiable assets, by geographic area, is contained in "Note I - Business Segments" appearing herein the financial statements as noted in the index appearing under Item 14(a)(1) and (2).
RESEARCH AND DEVELOPMENT ACTIVITIES
In 1998, 1997 and 1996, CTS spent $13.4, $13.1 and $10.7 million, respectively, for research and development. Most CTS research and development activities relate to developing new products and technologies, improving product flow and adding product value to meet the current and future needs of its customers. CTS'engineers and technicians apply engineering techniques such as computer aided design and computer aided manufacturing to develop and produce prototypes. CTS provides its customers with full systems support to ensure product quality and reliability through all phases of design, launch and production manufacturing to meet or exceed customer requirements. The 1998 efforts were particularly devoted to the automotive products in North America and Europe. Many such research and development activities are for the benefit of one or a limited number of customers or potential customers. The Company expenses all research and development costs as incurred. Design and development costs may be paid or shared by the customer.
ENVIRONMENTAL PROTECTION LAWS
In complying with federal, state and local environmental protection laws, CTS continues to make additional modifications to manufacturing processes. Such modifications have not materially affected the capital expenditures, earnings or competitive position of CTS.
The manufacturing process of certain current and past products create hazardous waste by-products as currently defined by federal and state laws and regulations. The Company has been notified by the U.S. Environmental Protection Agency, state environmental agencies and, in some cases, generator groups, that it is or may be a Potentially Responsible Party (PRP) regarding hazardous waste remediation at several non- CTS sites. The factual circumstances of each site are different. Management believes that its role as a PRP with respect to these sites, even in the aggregate, will not have a material adverse effect on the Company's business or financial condition, based on the following:
(1) the Company's status as a de minimis party; (2) the large number of other PRPs identified; (3) the identification and participation of many larger PRPs who are financially viable; (4) defenses concerning the nature and limited quantities of materials sent by the Company to certain of the sites; and (5) the Company's experience to-date in relation to the determination of its allocable share.
In addition to these non-CTS sites, the Company has an ongoing practice of providing reserves for probable remediation activities at certain of its manufacturing locations and for claims and proceedings against CTS with respect to other environmental matters. In the opinion of Management, based upon presently available information, either adequate provision for probable costs has been made, or the ultimate costs resulting will not materially affect the consolidated financial position or results of operations of CTS.
There are claims against CTS with respect to environmental matters which the Company contests. Management believes that either adequate provision for potential costs has been made, or the potential costs would not materially affect the consolidated financial position or results of operations of CTS.
YEAR 2000 COMPUTER SYSTEMS COMPLIANCE
CTS is addressing the issues associated with the programming code in existing computer systems and other equipment which may be affected by the rollover of the two-digit year value to 00 in the year 2000. Systems that do not properly recognize such dates could generate erroneous information or cause a system to fail. The Year 2000 issue creates risk for CTS from unforeseen problems in its own systems and from worldwide third parties with whom CTS transacts business. CTS believes that its products are not "time and date" sensitive.
CTS has formed a Company-wide Year 2000 Readiness Project to identify and resolve Year 2000 issues. This program includes the inventory of financial, manufacturing, design and other internal systems, hardware, equipment and embedded chips in industrial control instruments, and the assessment, remediation and testing of the systems. All systems were inventoried, reviewed and assessed in 1998, and the majority of systems which were not Year 2000 ready were remedied or replaced and tested in 1998. The project is approximately 85% completed and the remaining remediation of systems is expected to be completed by the end of the second quarter of 1999. Acceptance testing and certification of these systems are projected for completion by the third quarter of 1999. A task force, comprised of members from operating units and executive management, meets regularly and tracks the progress of the program, prioritizes all the potential risks and develops plans to eliminate or reduce risks.
CTS also faces risk to the extent that suppliers of products, services and systems purchased by CTS and others with whom CTS transacts business on a worldwide basis do not comply with Year 2000 requirements. As part of the program, Year 2000 Readiness Surveys have been sent to significant service providers, vendors, suppliers, customers and governmental entities that are believed to be critical to business operations. CTS is currently in the process of evaluating responses and sending follow-up requests to the estimated 20% that have not responded. While Management believes that it will be able to qualify alternative suppliers as needed, until all supplier and customer survey responses have been received and evaluated, the Company cannot fully evaluate the extent of potential problems and the costs associated with corrective actions. A contingency plan is being evaluated and reviewed, and will not be formally established until the third quarter of 1999 when the evaluation of suppliers and the remaining remediation of systems and testing is completed. CTS is unable to determine what effect the failure of systems due to Year 2000 issues by CTS or its suppliers or customers may have, but any significant failures could have an adverse material effect on CTS' results of operations and financial condition.
The cost to complete the program is estimated at $2 million for the costs of outside consultants, software and hardware applications. There has been $1 million spent to date as of December 31, 1998 with the remainder projected to be spent in 1999. CTS has not tracked the internal costs incurred for all of the hours spent on the project.
EMPLOYEES
CTS employed 4,012 persons at December 31, 1998, and approximately 46% of these persons were employed outside the United States at the end of 1998. Approximately 700 CTS employees in the United States were covered by collective bargaining agreements as of December 31, 1998. There are two continuing operations with collective bargaining agreements, one will expire in 2003 and the other will expire in 2005. There are two discontinued operations with collective bargaining agreements which will expire in 2000.
Item 2
Item 2 Properties
CTS has manufacturing facilities, administrative, research and development and sales offices in many locations. The manufacturing properties are listed and identified with a representative product. The other facilities are shown along with the primary activity. Each property's relative size is shown in square footage, and each location is identified as to whether it is leased or owned.
CTS regularly assesses the adequacy of its manufacturing facilities for manufacturing capacity, available labor and location to its markets and major customers. CTS also reviews the operating costs of its facilities and may from time to time relocate or move a portion of its manufacturing activities in order to reduce operating costs and improve asset utilization and cash flow. CTS is currently marketing its discontinued properties.
Item 3
Item 3 Legal Proceedings
Contested claims involving various matters, including environmental claims brought by governmental agencies, are being litigated by CTS, both in legal and administrative forums. CTS is subject to normal litigation which results from the ordinary conduct of its business operations, however, Management is not aware of any significant pending litigation.
Item 4
Item 4 Submission of Matters to a Vote of Security Holders
During the fourth quarter of 1998, no matter was submitted to a vote of security holders of the Company.
PART 2 Item 5
Item 5 Stock and Dividend Information
The principal market for CTS common stock is the New York Stock Exchange. Quarterly market high and low trading prices for CTS Common Stock for each quarter of the past two years and the amount of dividends declared during the previous two years are contained in "Shareholder Information," appearing herein. On December 31, 1998, there were approximately 1,379 holders of record of CTS common stock.
CTS intends to continue its policy of considering dividends on a quarterly basis. The declaration of a dividend and the amount of any such dividend is subject to earnings, anticipated working capital, capital expenditures, other investment requirements, the financial condition of CTS and any other factors considered relevant by the Board of Directors.
Item 6
Item 6 Five-Year Financial Summary
A summary of selected financial data for CTS for each of the previous five years is contained in the "Five-Year Summary," appearing herein the financial statements as noted in the index appearing under Item 14(a)(1) and (2).
Certain divestitures and closures of businesses do affect the comparability of information contained in the "Five-Year Summary."
Item 7
Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations 1996-1998
Information about liquidity, capital resources and results of operations, for the three previous fiscal years, is contained in "Management's Discussion and Analysis of Financial Condition and Results of Operations (1996- 1998)," appearing herein the financial statements as noted in the index appearing under Item 14(a)(1) and (2).
Item 8
Item 8 Financial Statements and Supplementary Data
Consolidated financial statements, meeting the requirements of Regulation S-X, and the Report of Independent Accountants, are contained in the CTS Corporation 1998 Annual Report, incorporated herein. Quarterly per share financial data is provided in "Shareholder Information," under the subheadings, "Per Share Data," appearing herein the financial statements as noted in the index appearing under Item 14(a)(1) and (2).
Item 9
Item 9 Changes in Auditors or Disagreements With Accountants on Accounting and Financial Disclosure
There were no disagreements or changes.
PART 3 Item 10
Item 10 Directors and Executive Officers
Information responsive to Items 401(a) and 401(e) of Regulation S-K pertaining to directors of CTS is contained in the 1999 Proxy Statement, page 7, under the caption "Election of Directors" to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
Information responsive to Item 405 of Regulation S-K pertaining to compliance with Section 16(a) of the Securities Exchange Act of 1934 is contained in the 1999 Proxy Statement, page 13, under the caption "Directors & Officers' Stock Ownership", to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
The individuals in the following list were elected as executive officers of CTS at the annual meeting of the Board of Directors on April 26, 1998, except for George T. Newhart, elected Vice President and Corporate Controller effective on June 26, 1998, Timothy J. Cunningham, elected Vice President Finance and Chief Financial Officer effective on October 5, 1998, Philip G. Semprevio, elected Group Vice President effective on November 16, 1998, George A. Harding, elected Group Vice President effective on December 18, 1998, and Jeannine M. Davis, elected Senior Vice President and General Counsel, effective on December 18, 1998. They are expected to serve as executive officers until the next annual meeting of the Board of Directors, scheduled on April 30, 1999, at which time the election of officers will be considered again by the Board of Directors.
List Of Officers
Name Age Position and Offices Joseph P. Walker 60 Chairman, President and Chief Executive Officer George A. Harding 52 Group Vice President William J. Kaska 57 Group Vice President Philip G. Semprevio 48 Group Vice President Jeannine M. Davis 50 Senior Vice President, Secretary and General Counsel Timothy J. Cunningham 45 Vice President Finance and Chief Financial Officer James L. Cummins 43 Vice President Human Resources James N. Hufford 59 Vice President Research, Development and Engineering George T. Newhart 56 Vice President and Corporate Controller Donald R. Schroeder 50 Vice President Sales and Marketing Gary N. Hoipkemier 44 Treasurer
Brief History of Officers
Joseph P. Walker has served as Chairman of the Board, President and Chief Executive Officer of CTS since 1988.
George A. Harding was elected as Group Vice President effective December 18, 1998. Mr. Harding served as Vice President and General Manager for the CTS Microelectronics business unit from 1996 to 1998, and for the CTS Resistor Products business unit from 1993 to 1996. Prior to joining CTS, Mr. Harding was Operations Manager and General Manager of Dale Electronics, subsidiary of Vishay Intertechnology.
William J. Kaska has served as Group Vice President since 1997. Prior to his appointment, he served as Vice President and General Manager of CTS Automotive Products.
Philip G. Semprevio was elected as Group Vice President effective November 16, 1998. Prior to his appointment, he served as President, Justrite Manufacturing Company, LLC, a subsidiary of Federal Signal Corporation. Mr. Semprevio worked for CTS as Vice President and General Manager of the Electrocomponents business unit from 1990-1994.
Jeannine M. Davis was elected Senior Vice President, Secretary and General Counsel effective on December 18, 1998. Previously she served as Vice President, Secretary and General Counsel since 1988.
Timothy J. Cunningham was elected as Vice President Finance and Chief Financial Officer effective October 5, 1998. Prior to joining CTS, Mr. Cunningham was Vice President of Finance for Moore Document Solutions a $1.2 billion division of Moore Corporation, Ltd.
(Officer History Continued)
James L. Cummins has served as Vice President Human Resources since 1994. For the three years prior to this appointment, he served as Director, Human Resources, CTS Corporation.
James N. Hufford has served as Vice President Research, Development and Engineering since 1995. During the four years prior to this appointment, Mr. Hufford served as Manager and then Director of Corporate Research, Development and Engineering for CTS.
George T. Newhart was elected Vice President and Corporate Controller effective on June 26, 1998. From 1989 until this appointment Mr. Newhart served as Corporate Controller.
Donald R. Schroeder has served as Vice President Sales and Marketing since 1995. During the six years prior to this appointment, Mr. Schroeder served as Business Development Manager for innovative and new technology for the CTS Microelectronics business unit.
Gary N. Hoipkemier has served as Treasurer since 1989.
Item 11
Item 11 Director and Executive Compensation
Information responsive to Item 402 of Regulation S-K pertaining to management remuneration is contained in the 1999 Proxy Statement in the captions "Director Compensation," page 9 and "Executive Compensation," pages 14 - 18, to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
Item 12
Item 12 Directors and Officers' Stock Ownership
Information responsive to Item 403 of Regulation S-K pertaining to security ownership of certain beneficial owners and management is contained in the 1999 Proxy Statement in the caption "Directors & Officers' Stock Ownership," pages 13 - 14, to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
Item 13
Item 13 Certain Relationships and Related Transactions
Mr. Profusek is a Partner and Head of the Merger Department of the law firm of Jones, Day, Reavis & Pogue, a law firm which CTS has retained for specific legal services and litigation, on a case by case basis, for over five years.
(Part 4, Item 14