Management’s Discussion and Analysis of Financial

Condition and Results of Operations

Overview

Introduction

The Timken Company is a leading global manufacturer of highly engineered antifriction bearings and alloy steels and a provider of related products and services. Timken employed approximately 26,000 associates in 29 countries as of December 31, 2003.

Timken operates under three segments: Automotive Group, Industrial Group and Steel Group. The Automotive and Industrial Groups design, manufacture and distribute a range of bearings and related products and services. Automotive Group customers include original equipment manufacturers of passenger cars and trucks, ranging from light- and medium-duty to heavy-duty trucks and their suppliers. Industrial Group customers include both original equipment manufacturers and distributors for agriculture, construction, mining, energy, mill, machine tooling, aerospace, and rail applications. The Automotive and Industrial Groups each represent approximately 40% of the company’s sales.

In 2003, Timken acquired The Torrington Company (Torrington), also a leading bearing manufacturer. The strategic acquisition strengthened Timken’s market position among global bearing manufacturers while expanding Timken’s product line with complementary products and services and offering significant cost savings opportunities for the combined organization.

The Steel Group represents approximately 20% of the company’s 2003 sales. Steel Group products include different alloys in both solid and tubular sections as well as custom-made steel products all for both automotive and industrial applications, including bearings.

Financial Overview

In 2003, The Timken Company reported record sales of approximately $3.8 billion, an increase of approximately 49% from 2002, driven by the $840 million strategic acquisition of Torrington on February 18, 2003. For 2003, Torrington added sales and a broad range of complementary products and services. Despite higher sales, earnings decreased from 2002 levels due to the performance of the Automotive and Steel Groups.

Automotive Group profitability was negatively impacted by additional costs associated with the restructuring of manufacturing plants in 2003. In the fourth quarter, the Automotive Group experienced some improvement from rationalization initiatives and the company anticipates continuing improvement in 2004.

Industrial Group profitability increased due to the Torrington acquisition, the effect of the company’s continued manufacturing improvement initiatives, improved results in Europe and the rail business and exiting of low-margin business. Until very late in 2003, there was little evidence of any industrial recovery in the company’s major markets. In 2004, the company expects slow growth from 2003 levels for the North American industrial markets and strong growth in emerging markets.

Despite challenging market conditions, the Steel Group increased sales in 2003 from the prior year due to penetration gains in industrial markets and increased demand from automotive and industrial customers. However, costs for scrap steel – used in steel production – continued at record high levels through 2003. The Steel Group also faced very high costs for natural gas and alloys. The company raised steel prices, implemented raw material surcharges and increased productivity during the year. However, these actions were not sufficient to offset the high costs and the Steel Group recorded a loss in 2003. The company expects raw material and energy costs to remain high in 2004.

The acquisition of Torrington leveraged the company’s balance sheet higher, with total debt peaking at $1.017 billion at June 30, 2003. The company reduced debt from this peak by $282 million to $735 million at year-end. The company raised $375 million in proceeds, before expenses, from equity offerings throughout the year. During the year, the company divested non-strategic assets and received a payment of $65.6 million under the U.S. Continued Dumping and Subsidy Offset Act (CDSOA), net of related expenses and a repayment of a portion of amounts received in 2002.

The Statement of Operations

2003 compared to 2002

Overview

In 2002, the cumulative effect of change in accounting principle related to the adoption of Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets." The goodwill impairment charge related to the company’s Specialty Steel business.

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2003 Annual Report in Print Friendly Format (600K - PDF format)