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Business Context and Reporting Period

Company: Honeywell International Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2006
Business Overview: Honeywell is a diversified technology and manufacturing company operating through four segments: Aerospace, Automation and Control Solutions (ACS), Specialty Materials, and Transportation Systems. The company serves customers worldwide with products ranging from aircraft engines and avionics to building controls, specialty chemicals, and automotive components.

Key Financial Metrics (2006)

Note: Shareowners' equity for 2006 includes a $1,512 million reduction due to the adoption of SFAS No. 158 regarding pension accounting.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 13% to $31.4 billion, driven by 7% growth from acquisitions, 6% volume growth, and 1% price increases.
• Profitability: Income from continuing operations rose 33% to $2.1 billion. Diluted EPS increased 36% to $2.51.
• Segment Performance:
  • Aerospace: Sales up 6%; Profit up 13% due to volume growth and productivity savings.
  • ACS: Sales up 17%; Profit up 15% driven by organic growth and acquisitions (NOVAR, First Technology).
  • Specialty Materials: Sales up 43%; Profit up 121% primarily due to the full consolidation of UOP (acquired in late 2005).
  • Transportation Systems: Sales up 2%; Profit up 3% due to Turbo Technologies volume offsetting lower consumer product sales.
• Costs and Charges: Total repositioning and other charges were $483 million, including $210 million for environmental liabilities and $126 million for asbestos litigation.
• Tax Rate: Effective tax rate decreased to 25.7% from 31.9% in 2005, largely due to the absence of a one-time 2005 tax charge related to foreign earnings repatriation.

Guidance, Outlook, and Risks

Management Outlook for 2007:

• Focus Areas: Driving profitable growth through innovation, global expansion (China, India, Middle East), disciplined acquisitions, and managing raw material costs via hedging and price agreements.
• Cash Requirements: Expected capital expenditures of ~$800 million; dividends of ~$800 million; share repurchases under a new $3 billion authorization; and ~$557 million in asbestos claim payments.
• Pension Funding: No mandatory contributions expected for U.S. plans in 2007, but voluntary contributions of ~$52 million are planned.

Key Risks and Contingencies:

• Asbestos Litigation: Significant exposure remains. The company recorded a $335 million reserve for future Bendix claims in Q4 2006. Total asbestos liabilities were $1.8 billion, offset by $1.3 billion in insurance receivables.
• Environmental Liabilities: Recorded liability of $831 million. Major sites include Jersey City, NJ (chromium residue) and Onondaga Lake, NY.
• Raw Material Costs: High volatility in prices for nickel, titanium, steel, and natural gas.
• Government Contracts: 10% of total sales are to the U.S. Department of Defense; subject to funding changes and contract terminations.

Investor Verification Checklist

• Asbestos Reserve Adequacy: Verify the assumptions used for the new $335 million Bendix future claims reserve and the status of the NARCO bankruptcy plan confirmation.
• Environmental Site Costs: Monitor the actual costs versus estimates for the Jersey City and Onondaga Lake remediation projects.
• UOP Integration: Assess the ongoing integration and margin performance of the UOP acquisition within the Specialty Materials segment.
• Pension Assumptions: Review the sensitivity of pension obligations to changes in discount rates and expected returns on plan assets, given the large unfunded status.
• Share Repurchase Execution: Track the utilization of the new $3 billion share repurchase authorization authorized in February 2007.