Fiscal 2001 was among the most challenging years in Emersons long history. Not since the early 1960s have so many sectors been simultaneously impacted by such a sudden economic downturn. While our business and geographic diversity have historically helped buffer economic swings, the breadth of this downturn has been exceptional.

 

We responded to this environment in several ways. First, we accelerated cost-cutting and restructuring, investing in actions such as facility consolidations and product line rationalizations to improve Emersons long-term cost structure. Second, we maintained investments in our industry-leading, technology-based products and services, which drive over half of Emersons total sales. This commitment will help increase our lead over competitors who cannot keep up during tough times. And finally, we continued repositioning into faster-growth areas worldwide through acquisitions and divestitures. As a result of these investment decisions, we ended Emersons record 43 years of consecutive earnings increases. We are proud of the record, but the actions necessary to maintain it were not in our shareholders long-term interest.

 

Despite the economic challenges, Emerson achieved solid financial results in fiscal 2001. Sales were flat versus fiscal 2000, at $15.5 billion. Net earnings were $1.0 billion, or $2.40 per share. Operating earnings and operating earnings per share, which exclude $377 million in charges for the aggressive rationalization of our operations, were $1.3 billion and $3.01, respectively. Operating cash flow was $1.7 billion and free cash flow increased to $1.2 billion. I applaud the efforts of our entire organization for delivering these results in a tough economic environment.

One of our fundamental objectives in increasing shareholder value is to deliver sustainable, double-digit earnings growth. Key to this objective is to accelerate the Companys underlying sales growth. Weve made significant progress in this area, although much of our success is masked in the current global economy. Through investments in internal growth initiatives and repositioning, Emersons businesses have excellent technology platforms, global reach, and solutions and services capabilities from which to grow.

 

In the process business, Emerson is the only company with a scalable, intelligent process automation architecture that is commercially available. We call our technology PlantWeb^®, and since its launch in 1998 it has been selected over legacy process automation systems on more than 2,000 occasions. Virtually all major customers in the oil and gas, refinery, chemical, pharmaceutical and other process industries have embraced PlantWeb. We also created a Performance Solutions organization to deliver complete project solutions - from upfront engineering and program management through ongoing service. This powerful combination was a major contributor to the nearly 10 percent underlying growth this business achieved in 2001.

 

In HVAC, sales of Copeland Scroll^® compressors approached $900 million in 2001, representing more than 35 percent of this segments sales. Scroll technology is more reliable and efficient and quieter than traditional compressors. Anticipated increases in U.S. energy efficiency standards within the next five years, growing use of air conditioning (A/C) and refrigeration in Asia, and new Scroll applications - such as our recently launched unit for large commercial A/C installations - present continued growth prospects.

 

Our electronics and telecommunications business has assembled comprehensive product, geographic and customer positions in the market for computing and communications power conversion and connectivity solutions. This business has been affected recently by the sharp decline in these markets, but we are confident that it will be an important growth area over the long term. We are taking advantage of the downturn to accelerate creation of a single globally integrated Network Power business, and to emerge a stronger leader. The recent purchase of Avansys Power - the largest private acquisition in China by a foreign company - supports our global integration and extends our leadership.

 

Avansys Power also creates opportunities for other Emerson operations, elevating our total presence in Asia. This region is important because it contains more than 50 percent of the worlds population and more than 25 percent of world Gross Domestic Product. More than 22,000 Emerson employees reside in Asia, supporting sales of approximately $1.7 billion, including Avansys. While this is a strong presence, we clearly have substantial opportunities to grow.

 

 

As Avansys illustrates, we continue to use acquisitions and divestitures to reposition Emerson into faster-growth markets. Since 1998, Emerson has announced divestitures of 11 slower-growing, noncore operations with annual sales of approximately $1.5 billion.

 

We anticipate additional divestitures in the next few years totaling from $500 million to $1 billion of sales, as well as acquisitions to support higher growth. Each of our five business segments will remain important, but the segment weighting will continue to shift as consumer, industrial and electronics sales become more balanced.

 

As we interact with customers globally and provide more cross-divisional solutions, the Emerson brand has become a valuable asset in communicating our capabilities. Over the past year, we established a series of brand platforms, such as Emerson Process Management, Emerson Network Power and Emerson Climate Technologies, uniting the capabilities of complementary divisions under the Emerson name. We continue to increase communications in support of these brand platforms.

Emerson has long been recognized for delivering strong profitability and high-quality earnings, measured by free cash flow as a percent of net earnings. We are driving further improvement in these areas, to continue to grow cash flow faster than earnings and to expand reported operating margins.

 

Working capital improvement will be a primary driver of cash flow growth. We continue to deploy lean manufacturing techniques designed to reduce customer lead times and inventory levels. This will also help reduce capital spending. New facilities are being designed to operate lean from the start, and existing operations that have converted have shown significant improvements. In receivables and payables, we are utilizing e-business technologies to aggregate and optimize transactions.

 

I believe e-business is the most powerful source of productivity improvement that Emerson has seen in many years. Applications that centralize and improve companywide costs create step-change opportunities to improve reported profit margins. Across the Company, we purchase annually more than $5 billion in material, and with our Intranet-based Material Information Network, Emerson is aggregating and sourcing common parts. In addition, our divisions annually spend another $5 billion in support costs such as SG&A, travel, logistics, and information technology infrastructure. E-business enables us to become a single purchaser in support as well, and only a few percent savings in either category can generate over a full point of margin improvement. We are tracking e-business programs as part of our quarterly and long-term profit planning efforts to ensure we capture these savings.

Balancing Emersons strong divisional and business autonomy with centralization is not always easy. But done properly, it can provide growth and profit opportunities that were previously unachievable. Our brand strategy of aligning divisions under customer platforms, our success in delivering solutions from multiple operations, and our early gains in e-business show that this balance can achieve great things.

 

Another important area for value creation is Return On Total Capital (ROTC). For the first time in many years, Emersons ROTC declined to less than 14 percent, driven by the economic downturn and aggressive acquisitions, which initially dilute the overall company metric. Although still well above our cost of capital, we plan to return this measure to high-teen levels through improvements to working capital and profitability, as well as reductions in assets through lower capital spending and increased outsourcing. A recent decision to outsource crankshaft manufacturing at one of our Copeland Scroll facilities freed enough capacity to increase output by more than 70 percent within the existing plant walls.

 

 

Our actions over the past year have strengthened Emerson and position us for a stronger rebound when the economy improves. I am energized by the opportunities ahead, and our leadership team is committed to converting these opportunities into increased growth and shareholder value. As always, our people are the key to delivering this future, and they are rising to the challenge. Our most successful contributors are balancing the benefits of division autonomy with the need to leverage Emersons global scale. Teamwork and speed will be hallmarks of our achievements.

 

In October 2001, we expanded our executive team by naming Edward L. Monser as chief operating officer. Ed is a long-time leader in our process business, most recently as president of the Rosemount division. He joins the Office of the Chief Executive (OCE), which includes President James G. Berges, Executive Vice President and Chief Financial Officer Walter J. Galvin, and Senior Executive Vice President Charles A. Peters.

 

We deeply appreciate the continuing counsel of Chairman Charles F. Knight, whose nearly three decades of experience as CEO are invaluable to the OCE and the entire management team. Chuck and I have an excellent working relationship, and I am delighted he has agreed to my request to remain as chairman for up to two years. His comments about the board are on page 36.

 

In February, Joseph A. Frates will retire from the board after more than three decades of distinguished service to three Emerson CEOs. We thank Joe for his exemplary leadership and his many great contributions to Emerson.

 

The board members have been extremely supportive of our efforts in 2001, and their contribution is appreciated. I look forward to working with them as we lead Emerson to continued success.

 

As always, we also thank our shareholders and employees for their continuing support.

 

On behalf of the Office of the Chief Executive,

 

 

David N. Farr

Chief Executive Officer