UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-K

 

þ  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2007

 

Commission File Number 1-6003

 

FEDERAL SIGNAL CORPORATION

(Exact name of the Company as specified in its charter)

 

The Company’s telephone number, including area code

(630) 954-2000

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

Securities registered pursuant to Section 12(g) of the Act:

None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o     No þ

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.  Yes o     No þ

 

Indicate by check mark whether the Company (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Company was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of the Company’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark if the registrant is a shell company, in Rule 12b-2 of the Exchange Act.  Yes o     No þ

 

State the aggregate market value of voting stock held by nonaffiliates of the Company as of June 30, 2007: Common stock, $1.00 par value — $748,992,370

 

Indicate the number of shares outstanding of each of the Company’s classes of common stock, as of January 31, 2008: Common stock, $1.00 par value — 47,787,969 shares

 

Documents Incorporated By Reference

 

Portions of the definitive proxy statement for the Annual Meeting of Shareholders to be held on April 22, 2008 are incorporated by reference in Part III.

 

 

FEDERAL SIGNAL CORPORATION
Index to Form 10-K

 

This Form 10-K and other reports filed by Federal Signal Corporation and subsidiaries (“the Company”) with the Securities and Exchange Commission and comments made by management may contain the words such as “may,” “will,” “believe,” “expect,” “anticipate,” “intend,” “plan,” “project,” “estimate” and “objective” or the negative thereof or similar terminology concerning the Company’s future financial performance, business strategy, plans, goals and objectives. These expressions are intended to identify forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include information concerning the Company’s possible or assumed future performance or results of operations and are not guarantees. While these statements are based on assumptions and judgments that management has made in light of industry experience as well as perceptions of historical trends, current conditions, expected future developments and other factors believed to be appropriate under the circumstances, they are subject to risks, uncertainties and other factors that may cause the Company’s actual results, performance or achievements to be materially different.

 

These risks and uncertainties, some of which are beyond the Company’s control, include the cyclical nature of the Company’s industrial, municipal government and airport markets, technological advances by competitors, increased warranty and product liability expenses, risks associated with supplier, dealer and other partner alliances, changes in cost competitiveness including those resulting from foreign currency movements, disruptions in the supply of parts or components from sole source suppliers and subcontractors, retention of key employees and general changes in the competitive environment. These risks and uncertainties include, but are not limited to, the risk factors described under Item 1A, “Risk Factors,” in this Form 10-K. These factors may not constitute all factors that could cause actual results to differ materially from those discussed in any forward-looking statement. The Company operates in a continually changing business environment and new factors emerge from time to time. The Company cannot predict such factors nor can it assess the impact, if any, of such factors on its financial position or results of operations. Accordingly, forward-looking statements should not be relied upon as a predictor of actual results. The Company disclaims any responsibility to update any forward-looking statement provided in this Form 10-K.

 

 

Federal Signal Corporation, founded in 1901, was reincorporated as a Delaware Corporation in 1969. The Company designs and manufactures a suite of products and integrated solutions for municipal, governmental, industrial and airport customers. Federal Signal’s portfolio of products includes safety and security systems, fire apparatus, aerial devices, street sweepers, industrial vacuums, waterblasters, sewer cleaners and consumable industrial tooling. Federal Signal Corporation and its subsidiaries (referred to collectively as “the Company” or “Company” herein, unless context otherwise indicates) operates manufacturing facilities in 38 plants in 14 countries around the world serving customers in approximately 100 countries in all regions of the world. The Company also provides customer and dealer financing to support the sale of its vehicles.

 

Narrative Description of Business

 

Products manufactured and services rendered by the Company are divided into four major operating groups: Safety and Security Systems, Fire Rescue, Environmental Solutions and Tool. The individual operating companies are organized as such because they share certain characteristics, including technology, marketing, distribution and product application, which create long-term synergies.

 

Financial information (net sales, operating income, capital expenditures and identifiable assets) concerning the Company’s four operating segments as of, and for each of the three years in the period ended, December 31, 2007 included in Note 16 of the financial statements contained under Item 8 of this Form 10-K is incorporated herein by reference.

 

Safety and Security Systems Group

 

Federal Signal Corporation’s Safety and Security Systems Group designs, manufactures and deploys comprehensive safety and security systems that help law enforcement, fire/rescue and EMS, emergency operations and industrial plant/facility first responders protect people, property and the environment.

 

Solutions include systems for automated license plate recognition, campus and community alerting, emergency vehicles, first responder interoperable communications, industrial communications and command, municipal networked security and parking revenue and access control for municipal, governmental and industrial applications. Specific products include access control devices, lightbars and sirens, public warning sirens, public safety software and automated license plate recognition cameras.

 

Products are sold under the Federal Signal, Federal Signal VAMA, Federal APD, Pauluhn, PIPS, Target Tech and Victor brand names. The group operates manufacturing facilities in North America, Europe and South Africa. Many of the group’s products are designed in accordance with various regulatory codes and standards and meet agency approvals such as Underwriters Laboratory (UL), International Electrotechnical Commission (IEC) and American Bureau of Shipping (ABS).

 

Fire Rescue Group

 

The Fire Rescue Group manufactures a broad range of fire rescue apparatus and mission critical vehicles in its facilities located in North America and Europe. The group sells vehicles and equipment under the E-One and Bronto Skylift brand names.

 

E-ONE is a leading brand of aluminum and stainless steel, custom-made vehicles including pumpers, tankers aerial ladders, aerial platforms, rescues, quick attack units, command centers and airport rescue vehicles. Under the Bronto Skylift brand name, the Company manufactures vehicle-mounted aerial access platforms in Finland for fire and industrial uses globally.

Environmental Solutions Group

 

The Environmental Solutions Group manufactures and markets worldwide a full range of street cleaning and vacuum loader vehicles and high-performance water blasting equipment. Products are also manufactured for the newer markets of hydro-excavation, glycol recovery and surface cleaning. Products are sold under the Elgin, RAVO, Vactor, Guzzler, Shanghai Federal Signal and Jetstream brand names. The group’s vehicles and equipment are manufactured in North America, Europe and Asia.

 

Under the Elgin brand name, the Company sells the leading US brand of street sweepers primarily designed for large-scale cleaning of curbed streets, parking lots and other paved surfaces utilizing mechanical sweeping, vacuum and recirculating air technology for cleaning. RAVO is a market leader in Europe for high-quality, compact and self-propelled sweepers that utilize vacuum technology for pick-up.

 

Vactor is a leading manufacturer of municipal combination catch basin/sewer cleaning vacuum trucks. Guzzler is a leader in industrial vacuum loaders that clean up industrial waste or recover and recycle valuable raw materials. Shanghai Federal Signal is a China-based joint venture manufacturer of refuse truck bodies for waste collection and disposal for Asian markets. Jetstream manufactures high pressure waterblast equipment and accessories for commercial and industrial cleaning and maintenance operations. In addition to equipment sales, the group is increasingly engaged in the sale of parts and tooling, service and repair, equipment rentals and training as part of a complete offering to its customer base.

 

Segment results have been restated for all periods presented to exclude losses from the North American refuse business, which was reclassified as a discontinued operation in 2005. The Company substantially disposed of the assets of this business during 2006.

 

Tool Group

 

The Tool Group manufactures, and in some cases is a reseller of, a broad range of precision tooling, ejector pins, core pins, sleeves and accessories for the plastic injection mold industry; and precision tooling and die components for the metal stamping industry. Tooling products are marketed under the Dayton Progress and PCS brand names and manufactured in North America, Europe and Asia.

 

Segment results have been restated for all periods presented to exclude the impact from Manchester Tool Company, On Time Machining and ClappDico Corporation or “Cutting Tool Operations”; which was reclassified as a discontinued operation in 2006. The Company completed the sale of the Ohio based Cutting Tool Operations on January 31, 2007.

 

Financial Services

 

The Company offers a variety of short- and long-term financing primarily to its Fire Rescue and Environmental Solutions independent dealers and customers. The Company provides financing, principally through sales-type leases, to (i) municipal customers to purchase vehicles and (ii) independent dealers to finance the purchase of vehicle inventory. Financings are secured by vehicles and in the case of the independent dealers, the dealer’s personal guarantee. In 2001, the Company decided to curtail new leasing to industrial customers, who generally have a higher credit risk; this portfolio continues to diminish over time as outstanding leases have been collected. By December 31, 2007, the Company’s investment in leases to industrial customers had declined to 3% of its lease financing and other receivables.

 

Marketing and Distribution

 

The Safety and Security Systems Group companies sell to industrial customers through approximately 2,000 wholesalers/distributors who are supported by Company sales personnel and/or independent manufacturer’s representatives. Products are also sold to municipal and governmental customers through more than 900 active independent distributors as well as through original equipment manufacturers and direct sales. International sales are made through the group’s independent foreign distributors or on a direct basis. The Company also sells comprehensive integrated warning, interoperable communications and parking systems through a combination of a direct sales force and distributors.

Fire Rescue and Environmental Solutions use dealer networks and direct sales to service customers generally depending on the type and location of the customer. The Environmental Solutions direct sales channel concentrates on the industrial, utility and construction market segments while the dealer networks focus primarily on the municipal markets. The Company believes its national and global dealer networks for vehicles distinguishes it from its competitors. Dealer representatives are on-hand to demonstrate the vehicles’ functionality and capability to customers and to service the vehicles on a timely basis.

 

The Tool Group sells to die and mold builders, plastic molders, metal stampers and metal fabricators through distributors and a direct sales organization. Because of the consumable nature of most of the Tool Group’s products, volume depends mainly on repeat orders from thousands of customers and end users, driven primarily by their production levels and to a lesser extent by the volumes of new dies and molds being ordered for new products. Many of the Tool Group’s customers have some ability to produce certain products themselves, but at a cost disadvantage. Major market emphasis is placed on quality of product, delivery, level of service and price. Inventories for certain products are maintained to assure prompt service to the customer, while other products are made to order. The average order for standard tools is filled in less than one week for domestic shipments and within two weeks for international shipments.

 

Customers and Backlog

 

Approximately 36%, 25% and 39% of the Company’s total 2007 orders were to US municipal and government customers, US commercial and industrial customers, and non-US customers, respectively. No single customer accounted for a material part of the Company’s business. The Company believes its mix of customers provides some measure of counter cyclicality during economic cycles as the three customer bases are impacted differently during the course of a cycle. The growing share of non-US customers reduces the direct correlation to the US economy.

 

The Company’s US municipal and government customers depend on tax revenues to support spending. A sluggish industrial economy, therefore, will eventually impact a municipality’s revenue base as tax receipts decline due to lost jobs and declining profits. Historically, municipal slowdowns have lagged behind industrial slowdowns such that the industrial economy is growing again by the time municipalities reduce their spending. During 2007, the Company saw municipal and governmental orders decrease 1% from 2006, compared to a 3% increase in these orders in 2006 compared to 2005.

 

The Company’s backlog totaled $479 million and $403 million as of December 31, 2007 and 2006, respectively. The 19% increase is primarily attributed to strong orders for vacuum trucks, sewer cleaners and truck mounted aerial access platforms, partially offset by lower orders for other fire rescue vehicles and street sweepers. A substantial majority of the orders in backlog at December 31, 2007 are expected to be filled during 2008.

 

Suppliers

 

The Company purchases a wide variety of raw materials from around the world for use in the manufacture of its products, although the majority of current purchases are from North American sources. To minimize availability, price and quality risk, the Company is party to numerous strategic supplier arrangements. Although certain materials are obtained from either a single-source supplier or a limited number of suppliers, the Company has identified alternative sources to minimize the interruption to its business in the event of supply problems.

 

Components critical in the production of the Company’s vehicles (such as engines, transmissions, drivetrains, axles and tires) are purchased from a select number of suppliers and may be specified by the customer. The Company also purchases raw and fabricated aluminum and steel as well as commercial chassis with certain specifications from a few sources.

 

The Company believes it has adequate supplies or sources of availability of the raw material and components necessary to meet its needs. However, there are risks and uncertainties with respect to the supply of certain of these raw materials that could impact their price, quality and availability in sufficient quantities.

Competition

 

Within specific product categories and domestic markets, the Safety and Security Systems Group companies are among the leaders with three to four strong competitors and several additional ancillary market participants. The group’s international market position varies from leader to ancillary participant depending on the geographic region and product line. Generally, competition is intense with all of the group’s products and purchase decisions are made based on competitive bidding, price, reputation, performance and servicing.

 

E-ONE is a leading, single-source manufacturer of custom-built, aluminum and stainless steel bodied fire apparatus and chassis in a market served by approximately ten key manufacturers and approximately 70 small, regional manufacturers. E-ONE occupies the number one or two position of the North American pumper and aerial market based on units. E-ONE is a leading command vehicle provider to the city, state and federal agencies for natural and man-made disaster response. In addition, E-ONE is a global provider of industrial pumpers and aerials serving the petrochemical and pharmaceutical industries. E-ONE also competes with six manufacturers worldwide in the production of airport rescue and firefighting vehicles. Bronto Skylift is established as the articulated aerial leader in the global fire fighting, rescue and industrial platform markets; the Company manufactures and distributes vehicle-mounted aerial access platforms globally.

 

Within the Environmental Solutions Group, Elgin is recognized as the market leader among several domestic sweeper competitors and differentiates itself primarily on product performance. RAVO, the Company’s Dutch compact sweeper manufacturer, also competes on product performance through its vacuum technology and successfully leads in market share for mid-sized sweepers among several regional European manufacturers. Vactor and Guzzler both maintain the leading domestic position in their respective marketplaces by enhancing product performance with leading technology and application flexibility. Jetstream is a market leader in the in-plant cleaning segment of the US waterblast industry competing on product performance and rapid delivery.

 

The Tool Group companies compete with several hundred competitors worldwide. In North America, the Company holds a share position ranging from number one to number three depending on the product offering.

 

Research and Development

 

The information concerning the Company’s research and development activities included in Note 16 of the financial statements contained under Item 8 of this Form 10-K is incorporated herein by reference.

 

Patents and Trademarks

 

The Company owns a number of patents and possesses rights under others to which it attaches importance, but does not believe that its business as a whole is materially dependent upon any such patents or rights. The Company also owns a number of trademarks that it believes are important in connection with the identification of its products and associated goodwill with customers, but no material part of the Company’s business is dependent on such trademarks.

 

Employees

 

The Company employed over 5,500 people in ongoing businesses at the close of 2007. Approximately 17% of the Company’s domestic hourly workers were unionized at December 31, 2007. The Company believes relations with its employees continue to be good.

 

Governmental Regulation of the Environment

 

The Company believes it substantially complies with federal, state and local provisions that have been enacted or adopted regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment. Capital expenditures in 2007 attributable to compliance with such laws were not material. The Company believes that the overall impact of compliance with environmental regulations will not have a material effect on its future operations.

Seasonality

 

Certain of the Company’s businesses are susceptible to the influences of seasonal buying or delivery patterns. The Company’s businesses which tend to have lower sales in the first calendar quarter compared to other quarters as a result of these influences are street sweeping, fire rescue products, outdoor warning, emergency signaling products and parking systems.

 

Additional Information

 

The Company makes its Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, other reports and information filed with the SEC and amendments to those reports available, free of charge, through its Internet website (http://www.federalsignal.com) as soon as reasonably practical after it electronically files or furnishes such materials to the SEC. Additionally, the Company makes its proxy statement and its Annual Report to stockholders available at the same internet website (http://www.federalsignal.com), free of charge, when sent to stockholders through the meeting date. All of the Company’s filings may be read or copied at the SEC’s Public Reference Room at 100 F. Street, N.E., Room 1580, Washington, DC 20549. Information on the operation of the Public Reference Room can be obtained by calling the SEC at 1-202-551-8090. The SEC maintains an Internet website (http://www.sec.gov) that contains reports, proxy and information statements and other information regarding issuers that file electronically.

 

 

The following are some of the risks that we face in our business. The list of risk factors is not exhaustive. There can be no assurance that we have correctly identified and appropriately assessed all factors affecting our business or that publicly available and other information with respect to these matters is complete and correct. Additional risks not presently known to us or that we currently believe to be immaterial also may adversely impact us. Should any risks and uncertainties develop into actual events, these developments could have material adverse effects on our business, financial condition and results of operations.

 

Our financial results are subject to considerable cyclicality.

 

Our ability to be profitable depends heavily on varying conditions in the United States government and municipal markets and the overall United States economy. The industrial markets in which we compete are subject to considerable cyclicality, and move in response to cycles in the overall business environment. Many of our customers are municipal governmental agencies, and as such, we are dependent on municipal government spending. Spending by our municipal customers can be affected by local political circumstances, budgetary constraints, and other factors. The United States government and municipalities depend heavily on tax revenues as a source of their spending and, accordingly, there is a historical correlation, of a one or two year lag between the overall strength of the United States economy and our sales to the United States government and municipalities. Therefore, downturns in the United States economy are likely to result in decreases in demand for our products. During previous economic downturns, we experienced decreases in sales and profitability, and we expect our business to remain subject to similar economic fluctuations in the future.

 

The inability to obtain raw materials, component parts, and/or finished goods in a timely and cost-effective manner from suppliers would adversely affect our ability to manufacture and market our products.

 

We purchase raw materials and component parts from suppliers to be used in the manufacturing of our products. In addition, we purchase certain finished goods from suppliers. Changes in our relationships with suppliers or increases in the costs of purchased raw materials, component parts or finished goods could result in manufacturing interruptions, delays, inefficiencies or our inability to market products. In addition, our profit margins would decrease if prices of purchased raw materials, component parts or finished goods increase and we are unable to pass on those increases to our customers.

We operate in highly competitive markets.

 

The markets in which we operate are highly competitive. The intensity of this competition, which is expected to continue, can result in price discounting and margin pressures throughout the industry and adversely affects our ability to increase or maintain prices for our products. In addition, certain of our competitors may have lower overall labor or material costs.

 

Failure to keep pace with technological developments may adversely affect our operations.

 

We are engaged in an industry which will be affected by future technological developments. The introduction of products or processes utilizing new technologies could render our existing products or processes obsolete or unmarketable. Our success will depend upon our ability to develop and introduce on a timely and cost-effective basis new products, processes and applications that keep pace with technological developments and address increasingly sophisticated customer requirements. We may not be successful in identifying, developing and marketing new products, applications and processes and product or process enhancements. We may experience difficulties that could delay or prevent the successful development, introduction and marketing of product or process enhancements or new products, applications or processes. Our products, applications or processes may not adequately meet the requirements of the marketplace and achieve market acceptance. Our business, operating results and financial condition could be materially and adversely affected if we were to incur delays in developing new products, applications or processes or product or process enhancements or if our products do not gain market acceptance.

 

Our ability to operate our Company effectively could be impaired if we fail to attract and retain key personnel.

 

Our ability to operate our businesses and implement our strategies depends, in part, on the efforts of our executive officers and other key employees. In addition, our future success will depend on, among other factors, our ability to attract and retain qualified personnel, including finance personnel, research professionals, technical sales professionals and engineers. The loss of the services of any key employee or the failure to attract or retain other qualified personnel could have a material adverse effect on our business or business prospects.

 

We have international operations that are subject to foreign economic and political uncertainties.

 

Our business is subject to fluctuations in demand and changing international economic and political conditions which are beyond our control. During 2007, approximately 37% of our sales were to customers outside the United States; with approximately 24% of sales being supplied from our overseas operations. We expect a significant and increasing portion of our revenues and profits to come from international sales for the foreseeable future. Operating in the international marketplace exposes us to a number of risks, including abrupt changes in foreign government policies and regulations and, in some cases, international hostilities. To the extent that our international operations are affected by unexpected and adverse foreign economic and political conditions, we may experience project disruptions and losses which could significantly reduce our revenues and profits.

 

Some of our contracts are denominated in foreign currencies, which result in additional risk of fluctuating currency values and exchange rates, hard currency shortages and controls on currency exchange. Although currency exposure is hedged in the short term, over the longer term changes in the value of foreign currencies could increase our US dollar costs for, or reduce our US dollar revenues from, our foreign operations. Any increased costs or reduced revenues as a result of foreign currency fluctuations could affect our profits.

 

We may incur material losses and costs as a result of product liability, warranty, recall claims or other lawsuits or claims that may be brought against us.

 

We are exposed to product liability and warranty claims in the normal course of business in the event that our products actually or allegedly fail to perform as expected or the use of our products results, or is alleged to result, in bodily injury and/or property damage. Accordingly, we could experience material warranty or product liability costs in the future and incur significant costs to defend against these claims. We carry insurance and maintain reserves for product liability claims. However, we cannot be assured that our insurance coverage will be adequate if

such claims do arise, and any liability not covered by insurance could have a material adverse impact on our results of operations and financial position. A future claim could involve the imposition of punitive damages, the award of which, pursuant to state laws, may not be covered by insurance. In addition, warranty or other claims are not typically covered by insurance coverage. Any product liability or warranty issues may adversely impact our reputation as a manufacturer of high quality, safe products and may have a material adverse effect on our business.

 

The costs associated with complying with environmental and safety regulations could lower our margins.

 

We, like other manufacturers, continue to face heavy governmental regulation of our products, especially in the areas of the environment and employee health and safety. Complying with environmental and safety requirements has added and will continue to add to the cost of our products, and could increase the capital required. While we believe that we are in compliance in all material respects with these laws and regulations, we may be adversely impacted by costs, liabilities or claims with respect to our operations under existing laws or those that may be adopted. These requirements are complex, change frequently and have tended to become more stringent over time. Therefore, we could incur substantial costs, including cleanup costs, fines and civil or criminal sanctions as a result of violations, or liabilities under, environmental laws and safety regulations.

 

We are subject to a number of restrictive debt covenants.

 

Our credit facility and other debt instruments contain certain restrictive debt covenants that may hinder our ability to take advantage of attractive business opportunities. Our ability to meet these covenants may be affected by factors outside our control. Failure to meet one or more of these covenants may result in an event of default. Upon an event of default, some of our lenders may be entitled to declare all amounts outstanding as due and payable.

 

 

None.

 

 

As of December 31, 2007, the Company utilized 20 principal manufacturing plants located throughout North America, as well as 14 in Europe, 1 in South Africa and 3 in the Far East.

 

In total, the Company devoted approximately 1.3 million square feet to manufacturing and 1.0 million square feet to service, warehousing and office space as of December 31, 2007. Of the total square footage, approximately 38% is devoted to the Safety and Security Systems Group, 14% to the Tool Group, 22% to the Fire Rescue Group and 26% to the Environmental Solutions Group. Approximately 62% of the total square footage is owned by the Company with the remaining 38% being leased.

 

All of the Company’s properties, as well as the related machinery and equipment, are considered to be well-maintained, suitable and adequate for their intended purposes. In the aggregate, these facilities are of sufficient capacity for the Company’s current business needs.

 

 

The information concerning the Company’s legal proceedings included in Note 15 of the financial statements contained under Item 8 of this Form 10-K is incorporated herein by reference.

 

No matters were submitted to a vote of security holders through the solicitation of proxies or otherwise during the three months ended December 31, 2007.

 

 

The following is a list of the Company’s executive officers, their ages, business experience and positions and offices as of February 1, 2008:

 

Paul Brown, age 44, was appointed Vice President and Controller in March 2005. He served as Vice President-Internal Audit from April 2004. Previously, Mr. Brown was Vice President Finance-Flame Retardants, for Great Lakes Chemical Corporation from 2000 to April 2004.

 

Kimberly L. Dickens, age 46, was elected as Vice President Human Resources in April 2004. Previously, Ms. Dickens was Vice President Human Resources for BorgWarner, Inc. from 2002 to March 2004, and Vice President Human Resources for BorgWarner Transmission Systems from 1999 to 2002.

 

James E. Goodwin, age 63, was appointed interim President and interim Chief Executive Officer on December 11, 2007. Mr. Goodwin was elected to the Company’s Board of Directors in October 2005. Mr. Goodwin has been an independent business consultant since 2001 and served as Chairman and Chief Executive Officer of United Airlines from 1998 to 2001.

 

Peter R. Guile, age 42, was elected as President of E-One, Inc. in July 2007. Mr. Guile was division president of the industrial systems business within the Safety and Security Systems Group from 2001 to 2007.

 

David E. Janek, age 44, was appointed Vice President and Treasurer in September 2006. Mr. Janek was Vice President Finance, Safety and Security Systems Group from June 2002.

 

Stephanie K. Kushner, age 52, was elected as Senior Vice President and Chief Financial Officer in April 2007. Ms. Kushner was Vice President and Chief Financial Officer from 2002 to 2007.

 

Fred H. Lietz, age 52, was appointed as Vice President and Chief Procurement Officer in May 2007. Mr. Lietz was Vice President of Global Procurement and Logistics at Andrew Corporation from 2001 to 2006.

 

David R. McConnaughey, age 51, was appointed President of Federal Signal’s Safety and Security Systems Group in March 2006. Previously, Mr. McConnaughey was President Maytag All Brand Service from 2005 to March 2006 and Vice President Maytag All Brand Service from 2004 to 2005. Previously, Mr. McConnaughey held several roles with Maytag Corporation including Vice President and G.M. Amana Brand 2003 to 2004 and Vice President Supply Chain 2002 to 2003.

 

Esa Peltola, age 56 was elected as President of Bronto Skylift OyAb in July 2007. Mr. Peltola was Managing Director of Bronto Skylift from 1998 to 2007.

 

Jennifer L. Sherman, age 43, was appointed Vice President, General Counsel and Secretary effective March 2004. Ms. Sherman was previously Deputy General Counsel and Assistant Secretary from 1998 to 2004.

 

Mark D. Weber, age 50, was appointed President of the Environmental Solutions Group in April 2003. Mr. Weber was Vice President Sweeper Products for the Environmental Solutions Group from 2002 to 2003 and General Manager of Elgin Sweeper Company from 2001 to 2002.

 

Michael K. Wons, age 43, was appointed Vice President and Chief Information Officer in November 2006. Previously, Mr. Wons was Senior Technology Strategy Director at Microsoft Corporation from 2002 to 2006.

These officers hold office until the next annual meeting of the Board of Directors following their election and until their successors have been elected and qualified.

 

There are no family relationships among any of the foregoing executive officers.

 

 

 

The Company’s common stock is listed and traded on the New York Stock Exchange (“NYSE”) under the symbol FSS. At December 31, 2007, there were no material restrictions on the Company’s ability to pay dividends. The information concerning the Company’s market price range data included in Note 19 of the financial statements contained under Item 8 of this Form 10-K is incorporated herein by reference.

 

As of January 31, 2008, there were 2,859 holders of record of the Company’s common stock.

The following graph compares the cumulative 5-year total return to shareholders on the Company’s common stock relative to the cumulative total returns of the Russell 2000 index, the S&P Industrials index, and the S&P Midcap 400 index. An investment of $100 (with reinvestment of all dividends) is assumed to have been made in the company’s common stock and in each index on December 31, 2002 and its relative performance is tracked through December 31, 2007.

 

Comparison of 5 Year Cumulative Total Return*

 

Among Federal Signal Corporation, The Russell 2000 Index,

The S & P Midcap 400 Index And The S & P Industrials Index

 

 

*$100 invested on 12/31/02 in stock or index-including reinvestment of dividends. Fiscal year ending December 31.

 

Copyright ^© 2007, Standard & Poor’s, a division of The McGraw-Hill Companies, Inc. All rights reserved. www.researchdatagroup.com/S&P.htm

 

 

The stock price performance included in this graph is not necessarily indicative of future stock price performance.

 

The information concerning the Company’s quarterly dividend per share data included in Note 19 of the financial statements contained under Item 8 of this Form 10-K is incorporated herein by reference.

 

The following table presents the selected financial information of the Company as of, and for each of the five years in the period ended December 31, 2007:

 

 

 

 

 

The 2005 and 2004 income (loss) before income taxes includes restructuring costs of $0.7 million and $7.0 million, respectively. The 2005 income before income taxes was impacted by a $6.7 million gain on the sale of two industrial lighting product lines. The 2004 loss before income taxes was impacted by a $10.6 million loss incurred on a large contract for fire apparatus in the Netherlands.

 

The selected financial data set forth above should be read in conjunction with the Company’s consolidated financial statements, including the notes thereto, and Item 7 of this Form 10-K.

 

The information concerning the Company’s selected quarterly data included in Note 19 of the financial statements contained under Item 8 of this Form 10-K is incorporated herein by reference.

 

 

The Company designs and manufactures a suite of products and integrated solutions for municipal, governmental, industrial and airport customers. Federal Signal’s portfolio of products include aerial devices, street sweepers, fire apparatus, safety and security systems, industrial vacuums, waterblasters, sewer cleaners and consumable industrial tooling. Due to technology, marketing, distribution and product application synergies, the Company’s business units are organized and managed in four operating segments: Safety and Security Systems, Fire Rescue, Environmental Solutions and Tool. The Company also provides customer and dealer financing to support the sale of its vehicles. The information concerning the Company’s manufacturing businesses included in Item 1 of this Form 10-K and Note 16 of the financial statements contained under Item 8 of this Form 10-K are incorporated herein by reference.

 

Results of Operations

 

Operating results have been restated to exclude the results of the Cutting Tools Operations, formerly a component of the Tool Group which was presented as discontinued operations in 2006 and also to reflect the exclusion of the Refuse business which was classified as a discontinued operation in 2005. The Company completed the sale of the Cutting Tool Operations on January 31, 2007. The assets of the Refuse business were substantially sold in 2006.

 

Orders and backlog

 

 

US municipal and government orders decreased in 2007 as a result of lower demand for fire trucks and sewer cleaners than the previous year. US industrial and commercial orders increased 8% on continued high demand for industrial vacuum trucks and an increase in orders for hazardous area lighting and industrial signal and communications equipment. Non-US orders increased 22% and included a 31% increase in sales of products manufactured outside of the US, and increases in US exports in Safety and Security Systems and Environmental Solutions. The growth in non-US orders also reflects favorable currency effects due to a weaker US dollar.

 

US municipal and government orders increased 3% in 2006 as a result of high demand for sweepers and sewer cleaners. US industrial and commercial orders increased on continued strength in industrial vacuum trucks and waterblasters. The substantial increase in non-US orders includes a large fire truck order for Montreal, Canada. Demand also increased for US exports in the Fire Rescue, Safety and Security Systems, and Environmental

Solutions segments, and for products manufactured in Europe. Favorable currency movements also improved 2007 compared to 2006.

 

Consolidated results of operations

 

The following table summarizes the Company’s results of operations and operating metrics for each of the three years in the period ended December 31, 2007 ($ in millions, except per share amounts):

 

 

Year Ended December 31, 2007 vs. December 31, 2006

 

Net sales increased 5% over 2006 as the higher volume of Safety and Security Systems together with Environmental Solutions shipments more than offset the decrease in sales of U.S. Fire Rescue apparatus. Gross profit was in line with the prior year, however operating income decreased 8% and operating margins contracted nearly one percent on higher operating expenses. The addition of three new businesses through acquisition in 2007, including the additional amortization of intangible assets acquired, accounted for 41%, or $7.7 million of the increase in operating expenses. Higher commissions and marketing expenses including dealer incentives and increases in costs associated with new product development accounted for $10.1 million of incremental costs.

 

Interest expense increased 4% from 2006, primarily due to an increase in borrowings in order to fund acquisitions in the year.

 

Other expenses include the Company’s share of losses relating to the joint venture in China of $3.3 million.

 

The 2007 effective tax rate relating to income from continuing operations decreased to 12.5% from 19.4% in the prior year. The 2007 rate benefited from a higher mix of profits in lower taxed countries, and the Company’s foreign tax planning strategies including dividend repatriation, foreign entity financing, legal entity restructuring in Canada and the effect of tax-exempt municipal income. The 2006 rate also benefited from the effect of tax-exempt municipal income and the completion of other favorable tax reduction strategies.

 

Income from continuing operations was 13% lower than the prior year on lower operating income despite incremental benefits over the prior year from a more favorable tax rate.

 

Net income more than doubled to $54.9 million for the year ended December 31, 2007 versus $22.7 million in 2006. For 2007, after completion of the sale of the Cutting Tool Operations in the first quarter, and substantial completion of the wind-down of the Refuse business, the Company realized a net after-tax gain on the sale of previously discontinued operations of $25.1 million, compared to a loss of $11.7 in prior year.

Year Ended December 31, 2006 vs. December 31, 2005

 

Net sales increased 8% over 2005 attributable to a higher volume of Safety and Security Systems and Environmental Solutions shipments and increased pricing across all segments. Operating income increased 10% and operating margins increased year over year, on a 13% gross profit increase. Pricing and volume gains overcame higher material and component costs to flow through to earnings. Offsetting the increase in gross profit, was an increase in operating expenses relating to higher sales commissions and selling-related expenses, an increase in stock-based compensation expense of $3.7 million and incentive bonuses, at various levels throughout the Company, of $2.1 million. Additionally, a gain of $6.7 million from the sale of an industrial lighting product line reduced operating expenses in 2005.

 

Interest expense increased 8% from 2005, primarily as a result of higher interest rates and a greater mix of floating rate debt.

 

Other expenses included the Company’s share of losses relating to the start-up of the joint venture in China of $1.9 million.

 

The 2006 effective tax rate relating to income from continuing operations increased to 19.4% from a tax benefit rate of 7.6%. The effective tax rate in 2005 reflected benefits associated with a reduction of reserves associated with the completion of a multi-year audit of the Company’s US tax returns in the amount of $6.0 million, a benefit associated with the reconciliation of deferred tax liabilities, the effect of tax-exempt municipal income, benefits associated with the repatriation of foreign earnings enabled under the American Jobs Creation Act, as well as the completion of other favorable tax reduction strategies. Income from continuing operations decreased as a result of the less favorable tax rate in 2006.

 

Net income improved sixfold over the comparable 2005 period. Net income in 2006 included an $11.7 million loss from discontinued operations versus a $48.5 million loss in 2005. Discontinued operations in 2006 included the profitable Cutting Tool Operations of the Tool reporting segment, which were sold in January 2007. Also included in discontinued operations are the 2006 operations of the North American Refuse truck body business operating under the Leach brand name. Substantially all of the assets of the Leach business were sold during the second half of 2006.

 

Safety and Security Systems Operations

 

The following table presents the Safety and Security Systems Group’s results of operations for each of the three years in the period ended December 31, 2007 ($ in millions):

 

 

Orders increased 20% over 2006 with strength across most market segments. US orders rose 17% due to strength in light bars and sirens for both police and fire customers. During 2007, the Company introduced a next generation and more reliable LED lightbar technology which drove significantly higher orders. Non-US orders increased 25% over the prior year on strength in vehicular warning and police products, and the addition of PIPS Technologies.

 

Net sales increased 21% with broad-based improvement across the business, particularly for energy-related markets. The mid-year addition of PIPS Technologies automated license plate recognition (“ALPR”) cameras added 3% to sales for the year. Operating income increased 20% over the comparable period. The operating margin remained at 13.5% as higher income from the flow-through of higher sales volume that includes the addition of PIPS Technologies, improved pricing, and favorable foreign currency movement were offset by increased costs

associated with expanding the product portfolio and market reach. Results were also adversely impacted by higher implementation costs associated with profitable large airport parking systems.

 

Orders improved 18% in 2006 over the comparable period in 2005 with strength across all major product lines, including industrial signaling and communications, hazardous area lighting, police products, warning systems, and parking systems. Net sales increased 10% over 2005, on increased volumes across all product lines, with the exception of airport parking systems, and despite the absence of $8 million of revenue from two industrial lighting product lines which were divested in the third quarter of 2005.

 

Operating income decreased 9% in 2006 and a lower reported operating margin resulted from the inclusion of a $6.7 million gain on the sale of the industrial lighting product lines in 2005. Excluding the gain and the operations of the disposed product lines, the operating margin increased slightly, on higher sales volume and improved pricing, offset by higher compensation-related charges.

 

Fire Rescue Operations

 

The following table presents the Fire Rescue Group’s results of operations for each of the three years in the period ended December 31, 2007 ($ in millions):

 

 

Orders in 2007 were up 9% over the prior year on continued strong demand and a richer mix of Bronto articulated aerial devices. Orders for E-One products declined in the first 9 months of the year due to disruptions in the North American dealer channel and changes in leadership. During the second half of the year, transitions to several new dealers to expand coverage over these territories took place. US export orders were down slightly, compared to the prior year, due to a large order for Montreal, Canada in 2006.

 

Net sales in the year declined 14% from the prior year as lower E-One fire apparatus volumes more than offset the growth in international sales of Bronto aerial units. The operating loss incurred in 2007 is related to the lower sales volume and lower manufacturing absorption experienced at E-One. Bronto’s higher production volume and favorable currency movement were not sufficient to overcome E-One’s shortfall. The deterioration in the operating margin from the prior year reflects the lower volume of fire trucks produced and sold in 2007.

 

Orders in 2006 improved 3% over 2005, on strong aerial product demand in the Bronto articulated aerial apparatus business, particularly in the European and Asian markets as these platforms increasingly displace traditional ladders. The decline in US orders reflects effects of continuing changes in the Company’s dealer channel structure and policies. Sales increased 4% over the same period in 2005, on higher realized pricing across all product lines mainly due to pricing actions taken in 2005 to recover escalating material costs, and due to currency translation on non-US dollar denominated orders. Partially offsetting these increases was the adverse impact of lower shipments from the Ocala production facility.

 

The operating income increase in 2006 included a $1.6 million benefit from the recovery of costs from certain suppliers relating to a large contract substantially completed in 2004. The benefit was partially offset by $1.0 million of costs incurred for the closure of a production facility in Red Deer, Alberta. The facility was sold in December, 2006. Excluding the effect of these events, operating income increased 170%, and operating margins improved to 1.6%.

Environmental Solutions Operations

 

The following table presents the Environmental Solutions Group’s results of operations for each of the three years in the period ended December 31, 2007 ($ in millions):

 

 

Orders of $458.2 million in 2007 were 5% ahead of the prior year. US orders increased 5% over the prior year due to solid demand for industrial vacuum trucks and the impact of higher priced chassis associated with new 2007 EPA standards. Non-US orders increased 5% driven by stronger US exports of sewer cleaners and industrial vacuum trucks primarily to the Middle East. Net sales compared to 2006 grew 13% on higher unit volumes of primarily vacuum trucks and overall higher pricing due in part to higher priced chassis.

 

Operating income improved modestly over the comparable period however, the operating margin in 2007 declined as the favorable benefits of higher pricing and sales volume were more than offset by increased chassis costs, temporarily high material costs, new product development, ERP implementation, product launches and initiatives to increase manufacturing efficiency.

 

In 2006, orders increased 21% over 2005, showing strength and improvement across all product lines, most notably in street sweepers and vacuum trucks. Sales increased 15% over the prior year on volume strength, higher pricing to offset increases in material and component costs and favorable currency movement.

 

Operating income increased 28% over 2005. The operating margin benefited from the flow through of increased product demand and pricing and an improvement in production cost absorption, offset by elevated operating costs incurred from executing growth initiatives, including advancing the ERP system implementation, global expansion, and new product development.

 

Tool Operations

 

The following table presents the Tool Group’s results of operations for each of the three years in the period ended December 31, 2007 ($ in millions):

 

 

Orders and net sales in 2007 declined 2.5% and 2.9%, respectively, from the comparable period in 2006, with weaker die and mold sales impacted by the weak domestic automotive and housing markets. Operating margins decreased from the prior year principally as a result of the lower volume. Contributing to the revenue and operating margin decline were UAW negotiations that disrupted customer project completions, as well as automotive production shutdowns and layoffs. Favorably, strength in the Japanese and European market continues, operational productivity has increased and operating expenses have declined.

 

Tool segment results were restated in 2006, to exclude the results of the Cutting Tools Operations, which were presented as discontinued operations. The Company completed the sale of the Cutting Tool operations on January 31, 2007 resulting in a gain of $24.6 million.

US orders remained flat in 2006, and non-US orders contracted marginally. Sales were similarly impacted. All businesses continue to feel the impact of a weak automotive market and softness in the US housing market. Operating income declined 27% partially as a result of approximately $0.9 million of costs associated with a voluntary workforce reduction at the Dayton, Ohio plant in 2006. In addition, a business system conversion implementation error identified in 2006 resulted in approximately $1.5 million of incremental costs associated with lost productivity during the first half of 2006. These events affected the operating margin by 2.4 percentage points, and have since been satisfactorily resolved.

 

Corporate Expense

 

Corporate expenses totaled $21.3 million in 2007, $23.4 million in 2006 and $23.8 million in 2005. The 9% reduction in 2007 expense was benefited by the receipt of $3.7 million in reimbursements from one of the Company’s insurers for certain out of pocket expenses related to the Company’s ongoing firefighter hearing loss litigation. The reimbursement essentially offset the legal expenses in 2007 associated with this litigation.

 

The 2% decrease in 2006 over 2005 reflects lower expenses associated with firefighter hearing loss litigation and lower bad debt expenses relating to leasing activities, offset by higher compensation-related costs, particularly stock option expense of $1.3 million, as the Company began expensing stock options in 2006 as required under FASB Statement No. 123(R).

 

Legal Matters

 

The Company has been sued by over 2,500 firefighters in numerous separate cases alleging that exposure to the Company’s sirens impaired their hearing. The Company has successfully concluded over 40 similar cases and contests the allegations. The Company continues to aggressively defend the matter. For further details regarding this and other legal matters, refer to Note 15 in the financial statements included in Item 8 of this Form 10-K.

 

Financial Services Activities

 

The Company maintained an investment of $146.8 million and $158.9 million at December 31, 2007 and 2006, respectively in lease financing and other receivables that are generated primarily by its Fire Rescue and Environmental Solutions customers. The decrease in leasing assets primarily resulted from lower new bookings, early loan payoffs, and the continued runoff of the industrial leasing portfolio resulting from the Company’s decision in 2001 to no longer extend new leases to industrial customers. Financial services assets generally have repayment terms ranging from one to fifteen years. These assets are 94% leveraged as of December 31, 2007 and 2006, consistent with their overall quality; financial services debt was $137.4 million and $149.0 million at December 31, 2007 and 2006, respectively.

 

Financial service revenues totaled $7.4 million, $8.2 million and $9.6 million in 2007, 2006 and 2005, respectively. The decline in 2007 and 2006 reflects the continued runoff of the Company’s industrial leasing portfolio and lower financings of municipal product sales.

 

Financial Condition, Liquidity and Capital Resources

 

During each of the three years in the period ended December 31, 2007, the Company used its cash flows from operations to pay cash dividends to shareholders and to fund sustaining and cost reduction capital needs of its operations. Beyond these uses, remaining cash was used to fund acquisitions, pay down debt, to repurchase shares of common stock and make voluntary pension contributions.

The Company’s cash and cash equivalents totaled $16.0 million, $19.3 million and $91.9 million as of December 31, 2007, 2006 and 2005, respectively. The following table summarizes the Company’s cash flows for each of the three years in the period ended December 31, 2007 ($ in millions):

 

 

Operating cash flow increased by $35.7 million in 2007 compared to 2006. Primary working capital, composed of accounts receivable, inventory, accounts payable, and customer deposits provided $2.5 million of cash flow in 2007, compared with a use of $33.5 million in the prior year. The improvement in working capital was mainly due to lower December sales and better collection of receivables compared to 2006. Pension contributions to the Company’s defined benefit plans in the US and the UK were $6.7 million in 2007, compared to $11.3 million in 2006.

 

In 2006, cash flow from operations decreased by $40.9 million from 2005. The lower cash flow was driven by increases in working capital requirements to support high year-end sales; additional outsourcing to support higher sewer cleaner and aerial device production levels; and inventory pre-buying ahead of 2007 changes in US engine emission regulations; and an $11.3 million contribution to the Company’s pension plans compared to $7.7 million in 2005.

 

The Company’s investment in capital projects increased in 2007 compared to 2006 as the Company’s ERP system design and implementation gained momentum during the year. In 2006, the Company disposed of the production facility in Red Deer, Alberta for proceeds of $2.5 million. In 2005, the Company sold four former production facilities and two industrial lighting product lines for total cash proceeds of $22.0 million. Proceeds from the disposals of property and product lines are included in All other, net in 2006 and 2005.

 

In 2007, the Company acquired three businesses, Codespear LLC in January for $17.4 million in cash, Riverchase Technologies in July for $6.7 million in cash, and PIPS Technologies in August for $126.3 million in cash. See Note 11 of the notes to the consolidated financial statements for additional information on these acquisitions. The Company funded the acquisitions through cash provided by operations, additional bank borrowings, and from proceeds received from the sale of the Cutting Tool operations, included in discontinued operations in 2006, and sold in January, 2007 for $65.4 million in cash. See Note 13 of the notes to the consolidated financial statements for additional information on the sale of the Cutting Tool operations.

 

On April 25, 2007, the Company amended its Revolving Credit Agreement. This Second Amended and Restated Credit Agreement (“Credit Agreement”) provides for borrowings of $250.0 million and matures April, 2012. It also allows the Company to borrow up to $35 million in an alternative currency under the swing line provision. As of December 31, 2007 €22.5 million, or $32.6 million, was drawn as alternative currency and $66.0 million was drawn on the Credit Agreement for a total of $98.6 million drawn under the Credit Agreement. The Company was in compliance with all debt covenants throughout 2007.

 

In December, 2007, the Company amended the Loan Agreement between E-One and Banc of America Leasing & Capital, LLC to allow borrowings against the leases of E-One Inc., E-One New York, Inc., Elgin Sweeper Company and Vactor Manufacturing, Inc. The outstanding balance on this agreement was $96.6 million as of December 31, 2007.

At December 31, 2006, $21.8 million was drawn against the Company’s $125 million Amended Credit Agreement revolving credit line. This Amended Credit Agreement was increased from $75 million to $125 million during 2006. The Company borrowed $23.6 million in September, 2006 through the Banc of America Loan Agreement, the balance on this facility as of December 31, 2006 was $90.7 million. Also in 2006, a $65 million private placement note matured and was repaid using a combination of cash flow from operations and borrowings under the Amended Credit Agreement revolving credit line.

 

In March 2005, the Company entered into the loan agreement with Banc of America secured by certain leases of the E-One business. For more detail on this loan agreement refer to Note 5, contained in this Form 10-K. As of December 31, 2005 the balance on this facility was $91.4 million and there was no balance drawn under the Company’s revolving credit facility.

 

During 2006, the Company repurchased $12.1 million of stock under a 750,000 stock buy-back program approved by the Board of Directors. Treasury stock purchases reflect the Company’s policy to purchase shares to offset the dilutive effects of stock based compensation.

 

Cash dividends paid to shareholders in 2007 were $11.5 million. Cash dividends decreased to $11.5 million in 2006 from $13.5 million in 2005. The Company declared dividends of $0.24 per share in 2007, 2006 and 2005.

 

Total manufacturing debt, net of cash, totaled $272.7 million at December 31, 2007, or 40% of total capitalization, up from 35% in 2006. At December 31, 2006, total manufacturing debt, net of cash, was $205.7 million. The Company believes that its municipal financial services assets, due to their high overall quality, are capable of sustaining a high leverage ratio. The Company’s debt-to-capitalization ratio for its financial services activities was 94% at both December 31, 2007 and 2006. In 2007, the Company’s aggregate borrowing capacity was maintained.

 

The Company anticipates that capital expenditures for 2008 will approximate $37 million and that its financial resources and major sources of liquidity, including cash flow from operations and borrowing capacity, will be adequate to meet its operating and capital needs in addition to its financial commitments.

 

Contractual Obligations and Commercial Commitments

 

The following table presents a summary of the Company’s contractual obligations and payments due by period as of December 31, 2007 ($ in millions):

 

 

The Company is party to various interest rate swap agreements in conjunction with the management of borrowing costs. As of December 31, 2007, the fair value of the Company’s net position would result in cash payments of $2.2 million. Future changes in the US interest rate environment would correspondingly affect the fair value and ultimate settlement of the contracts.

 

The Company also enters into foreign currency forward contracts to protect against the variability in exchange rates on cash flows of its foreign subsidiaries. As of December 31, 2007, there is no unrealized gain or loss on the Company’s foreign exchange contracts. Volatility in the future exchange rates between the US dollar and Euro and Canadian dollar will impact the final settlement.

The following table presents a summary of the Company’s commercial commitments and the notional amount by expiration period ($ in millions):

 

 

Financial standby letters of credit largely relate to casualty insurance policies for the Company’s workers’ compensation, automobile, general liability and product liability policies. Performance standby letters of credit represent guarantees of performance by foreign subsidiaries that engage in cross-border transactions with foreign customers.

 

Purchase obligations relate to commercial chassis and aerial turntables.

 

In limited circumstances, the Company guarantees the residual value on vehicles in order to facilitate a sale. The Company believes its risk of loss is low; no losses have been incurred to date. The inability of the Company to enter into these types of arrangements in the future due to unforeseen circumstances is not expected to have a material impact on its financial position, results of operations or cash flows.

 

As of December 31, 2007, the Company’s expected payment for significant contractual obligations includes approximately $9.9 million of liability for unrecognized tax benefits associated with the adoption of Financial Accounting Standards Board Interpretation No. 48. The Company cannot make a reasonably reliable estimate of the period of cash settlement for this liability.

 

Critical Accounting Policies and Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The Company considers the following policies to be the most critical in understanding the judgments that are involved in the preparation of the Company’s consolidated financial statements and the uncertainties that could impact the Company’s financial condition, results of operations and cash flows.

 

Allowances for Doubtful Accounts

 

The Company performs ongoing credit evaluations of its customers. The Company’s policy is to establish, on a quarterly basis, allowances for doubtful accounts based on factors such as historical loss trends, credit quality of the present portfolio, collateral value and general economic conditions. If the historical loss trend increased or decreased 10% in 2007, the Company’s operating income would have decreased or increased by $0.1 million, respectively. Though management considers the valuation of the allowances proper and adequate, changes in the economy and/or deterioration of the financial condition of the Company’s customers could affect the reserve balances required.

 

Inventory Reserve

 

The Company performs ongoing evaluations to ensure that reserves for excess and obsolete inventory are properly identified and recorded. The reserve balance includes both specific and general reserves. Specific reserves at 100% are established based on the identification of separately identifiable obsolete products and materials. General reserves for materials are established based upon formulas which are established by reference to, among

other things, the level of current inventory relative to recent usage, estimated scrap value and the level of estimated future usage. Historically, this reserve policy has given a close approximation of the Company’s experience with excess and obsolete inventory. The Company does not foresee a need to revise its reserve policy in the future. However, from time to time unusual buying patterns or shifts in demand may cause large movements in the reserve balance.

 

Warranty Reserve

 

The Company’s products generally carry express warranties that provide repairs at no cost to the customer or the issuance of credit. The length of the warranty term depends on the product sold, but generally extends from six months to five years based on the terms that are generally accepted in the Company’s marketplaces. Certain components necessary to manufacture the Company’s vehicles (including chassis, engines and transmissions) are covered under an original manufacturers’ warranty. Such manufacturers’ warranties are extended directly to end customers.

 

The Company accrues its estimated exposure to warranty claims at the time of sale based upon historical warranty claim costs as a percentage of sales. Management reviews these estimates on a quarterly basis and adjusts the warranty provisions as actual experience differs from historical estimates. Infrequently, a material warranty issue can arise which is outside the norm of the Company’s historical experience; costs related to such issues, if any, are provided for when they become probable and estimable.

 

The Company’s warranty costs as a percentage of net sales totaled 1.2% in 2007, 1.0% in 2006 and 1.1% in 2005. The increase in the rate in 2007 is primarily due to increased costs in the Fire Rescue business. Management believes the reserve recorded at December 31, 2007 is appropriate. A 10% increase or decrease in the estimated warranty costs in 2007 would have decreased or increased operating income by $1.5 million, respectively.

 

Workers’ Compensation and Product Liability Reserves

 

Due to the nature of the products manufactured, the Company is subject to product liability claims in the ordinary course of business. The Company is partially self-funded for workers’ compensation and product liability claims with various retention and excess coverage thresholds. After the claim is filed, an initial liability is estimated, if any is expected, to resolve the claim. This liability is periodically updated as more claim facts become known. The establishment and update of liabilities for unpaid claims, including claims incurred but not reported, is based on the assessment by the Company’s claim administrator of each claim, an independent actuarial valuation of the nature and severity of total claims and management’s estimate. The Company utilizes a third-party claims administrator to pay claims, track and evaluate actual claims experience and ensure consistency in the data used in the actuarial valuation. Management believes that the reserve established at December 31, 2007 appropriately reflects the Company’s risk exposure. The Company has not established a reserve for potential losses resulting from hearing loss litigation (see Note 15 contained in Item 8 of this Form 10-K); if the Company is not successful in its defense after exhausting all appellate options, it will record a charge for such claims, to the extent they exceed insurance recoveries, at the appropriate time.

 

Goodwill Impairment

 

In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets”, the Company ceased amortization of goodwill and indefinite-lived intangible assets effective January 1, 2002. SFAS No. 142 also requires the Company to test these assets annually for impairment; the Company performs this test in the fourth quarter unless impairment indicators arise earlier. The Company continues to amortize definite-lived intangible assets over their useful life.

 

A review for impairment requires judgment in estimated cash flows based upon estimates of future sales, operating income, working capital improvements and capital expenditures. Management utilizes a discounted cash flow approach to determine the fair value of the Company’s reporting units. If the sum of the expected discounted cash flows of the reporting unit is less than its carrying value, an impairment loss is required against the unit’s goodwill.

The annual testing conducted in 2007, 2006 and 2005 did not result in any impairment.

 

Although management believes that the assumptions and estimates used were reasonable, a sensitivity analysis for each reporting unit is performed along with the impairment test. The analysis indicated that a 5% change in the operating margin assumption would not have resulted in a goodwill impairment in any group.

 

Postretirement Benefits

 

The Company sponsors domestic and foreign defined benefit pension and other postretirement plans. Major assumptions used in the accounting for these employee benefit plans include the discount rate, expected return on plan assets and rate of increase in employee compensation levels. A change in any of these assumptions would have an effect on net periodic pension and postretirement benefit costs.

 

The following table summarizes the impact that a change in these assumptions would have on the Company’s operating income. ($ in millions):

 

 

The weighted-average discount rate used to measure pension liabilities and costs is set by reference to published high-quality bond indices. However, these indices give only an indication of the appropriate discount rate because the cash flows of the bonds comprising the indices do not match the projected benefit payment stream of the plan precisely. For this reason, we also consider the individual characteristics of the plan, such as projected cash flow patterns and payment durations, when setting the discount rate. The weighted-average discount rate used to measure US pension liabilities decreased from 6.13% in 2006 to 6.0% in 2007. See Note 7 to the Consolidated Financial Statements for further discussion.

 

Stock-Based Compensation Expense

 

Effective January 1, 2006, the Company adopted the provisions of SFAS No. 123(R). SFAS No. 123(R) requires all share-based payments to employees, including grants of employee stock options and restricted stock, to be recognized in the financial statements based on their respective grant date fair values. We use the Black-Scholes option pricing model to estimate the fair value of the stock option awards. The Black-Scholes model requires the use of highly subjective and complex assumptions, including the Company’s stock price, expected volatility, expected term, risk-free interest rate and expected dividend yield. For expected volatility, we base the assumption on the historical volatility of the Company’s common stock. The expected term of the awards is based on historical data regarding employees’ option exercise behaviors. The risk-free interest rate assumption is based on observed interest rates appropriate for the terms of the awards. The dividend yield assumption is based on the Company’s history and expectation of dividend payouts. In addition to the requirement for fair value estimates, SFAS No. 123(R) also requires the recording of expense that is net of an anticipated forfeiture rate. Therefore, only expenses associated with awards that are ultimately expected to vest are included in our financial statements. Our forfeiture rate is determined based on our historical option cancellation experience.

 

We evaluate the Black-Scholes assumptions that we use to value our awards on a quarterly basis. With respect to the forfeiture rate, we revise the rate if actual forfeitures differ from our estimates. If factors change and we employ different assumptions, stock-based compensation expense related to future stock-based payments may differ significantly from estimates recorded in prior periods.

 

Financial Market Risk Management

 

The Company is subject to market risk associated with changes in interest rates and foreign exchange rates. To mitigate this risk, the Company utilizes interest rate swaps and foreign currency options and forward contracts. The

Company does not hold or issue derivative financial instruments for trading or speculative purposes and is not party to leveraged derivatives contracts.

 

Interest Rate Risk

 

The Company manages its exposure to interest rate movements by targeting a proportionate relationship between fixed-rate debt to total debt generally within established percentages of between 40% and 60%. The Company uses funded fixed-rate borrowings as well as interest rate swap agreements to balance its overall fixed/floating interest rate mix.

 

Of the Company’s debt at December 31, 2007, 32% was used to support financial services assets; the weighted average remaining life of those assets is typically under three years and the debt is substantially match-funded to the financing assets.

 

The following table presents the principal cash flows and weighted average interest rates by year of maturity for the Company’s total debt obligations held at December 31, 2007 ($ in millions):

 

 

The following table presents notional amounts and weighted average interest rates by expected (contractual) maturity date for the Company’s interest rate swap contracts held at December 31, 2007 ($ in millions). Notional amounts are used to calculate the contractual payments to be exchanged under the contract. Weighted average variable rates are based on implied forward rates in the yield curve at the reporting date.

 

 

See Note 8 to the consolidated financial statements in this Form 10-K for a description of these agreements. A 100 basis point increase or decrease in variable interest rates in 2007 would have increased or decreased interest expense by $1.5 million, respectively.

 

Foreign Exchange Rate Risk

 

The Company has foreign currency exposures related to buying and selling in currencies other than the local currency in which it operates. The Company utilizes foreign currency options and forward contracts to manage these risks.

The following table summarizes the Company’s foreign currency derivative instruments as of December 31, 2007. All are expected to settle in 2008 ($ in millions):

 

 

See Note 8 to the consolidated financial statements in this Form 10-K for a description of these agreements.

 

Forward exchange contracts are recorded as a natural hedge when the hedged item is a recorded asset or liability that is revalued each accounting period, in accordance with SFAS No. 52, “Foreign Currency Translation”. For derivatives designated as natural hedges, changes in fair values are reported in the “Other income (expense)” line of the Consolidated Statements of Operations.

 

Other Matters

 

The Company has a business conduct policy applicable to all employees and regularly monitors compliance with that policy. The Company has determined that it had no significant related party transactions in each of the three years in the period ended December 31, 2007.

 

 

The information contained under the caption Financial Market Risk Management included in Item 7 of this Form 10-K is incorporated herein by reference.

 

FEDERAL SIGNAL CORPORATION

 

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

 

Board of Directors and Shareholders

of Federal Signal Corporation

 

We have audited the accompanying consolidated balance sheets of Federal Signal Corporation as of December 31, 2007 and 2006, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2007. Our audits also included the financial statement schedule listed in the Index at Item 15(a). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Federal Signal Corporation at December 31, 2007 and 2006, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2007, in accordance with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

 

As discussed in Notes 1 and 6 to the consolidated financial statements, on January 1, 2007, Federal Signal Corporation changed its method of accounting for uncertain tax positions to conform with Financial Accounting Standards Board Interpretation No. 48, “Accounting for Uncertainty in Income Taxes.” On January 1, 2006, Federal Signal Corporation changed its method of accounting for share-based awards to conform with Statement of Financial Accounting Standards (SFAS) No. 123(R), “Share-Based Payment.” Additionally, on December 31, 2006, Federal Signal Corporation changed its method of accounting for defined benefit pension and other postretirement benefit plans to conform with SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106 and 132(R).”

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Federal Signal Corporation’s internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 26, 2008, expressed an unqualified opinion thereon.

 

Ernst & Young LLP

 

Chicago, IL

February 26, 2008

Report of Independent Registered Public Accounting Firm

 

The Board of Directors and Shareholders

of Federal Signal Corporation

 

We have audited Federal Signal Corporation’s internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Federal Signal Corporation’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in Management’s Annual Report on Internal Control over Financial Reporting and Attestation Report of the Registered Public Accounting Firm. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our audit.

 

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

 

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

In our opinion, Federal Signal Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2007, based on the COSO criteria.

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets as of December 31, 2007 and 2006, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2007 of Federal Signal Corporation and our report dated February 26, 2008 expressed an unqualified opinion thereon.

 

Ernst & Young LLP

 

Chicago, IL

February 26, 2008

 

 

See notes to consolidated financial statements.

FEDERAL SIGNAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF OPERATIONS

 

 

See notes to consolidated financial statements.

FEDERAL SIGNAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY