Steelcase Inc.
Notes to Consolidated Financial Statements

Note 1

Summary of Significant Accounting Policies

Nature of Operations

Steelcase Inc. (the “Company”) is the world’s largest manufacturer and provider of office furniture, office furniture systems and related products and services. The Company manufactures at 31 facilities in the United States, Canada and Mexico and, through international subsidiaries, joint ventures and licensing arrangements, at 20 facilities throughout the rest of the world. The Company distributes its products through a worldwide network of independent dealers in approximately 680 locations including approximately 450 in the United States and Canada and approximately 230 throughout the rest of the world. The Company operates on a worldwide basis within a single industry segment.

Steelcase Strafor, a 50% owned joint venture with Strafor Facom S.A., is a leading office furniture company in Europe with 14 manufacturing facilities and dealers in more than 170 locations.

Principles of Consolidation

The consolidated financial statements include the accounts of Steelcase Inc. and its majority-owned subsidiaries, except for dealers which the Company has acquired with the intention of reselling as soon as practicable (“dealer transitions”). During the three years in the period ended February 27, 1998, the Company closed a series of non-dealer acquisitions, none of which were material individually, or in the aggregate, to the financial position or results of operations of the Company. All significant intercompany accounts, transactions and profits have been eliminated in consolidation. Foreign currency-denominated assets and liabilities are translated into U.S. dollars at the exchange rates existing at the balance sheet date. Income and expense items are translated at the average exchange rates during the respective periods. Translation adjustments resulting from fluctuations in the exchange rates are recorded as a component of shareholders’ equity. Gains and losses resulting from exchange rate fluctuations on transactions denominated in currencies other than the functional currency are not material.

The Company’s investments in joint ventures and dealer transitions are carried at its equity in the net assets of those entities primarily based on audited financial statements for each applicable year.

Year End

Effective March 1, 1995, the Company changed its fiscal year-end from February 28 to the last Friday of February. In addition, the Company standardized its fiscal quarters to include 13 weeks, except for the quarter ended February 28, 1997 which included 14 weeks. Accordingly, 1998 and 1996 included 52 weeks, while 1997 included 53 weeks.

Revenue Recognition

Net sales include product sales, service revenues and leasing revenues. Product sales and service revenues are recognized as products are shipped and services are rendered. Leasing revenue includes interest earned on the net investments in leased assets, which is recognized over the lease term as a constant percentage return. Service and leasing revenues are not material.

Cash Equivalents

Cash equivalents consist of highly liquid investments, primarily interest-earning deposits, treasury notes and commercial paper, with an original maturity of three months or less. Cash equivalents are reported at amortized cost and approximated $119.1 million and $191.5 million as of February 27, 1998 and February 28, 1997, respectively.

Investments

Investments typically include treasury notes, tax-exempt municipal bonds and other debt securities which the Company has the positive intent and ability to hold until maturity. These investments are reported at amortized cost. Gross unrealized gains and losses are insignificant. Investments classified as long-term mature over the next three years.

Inventories

Substantially all inventories are valued based upon last-in, first-out (LIFO) cost, not in excess of market.

Property and Equipment

Property and equipment are stated at cost and depreciated using the straight-line method over the estimated useful lives of the assets, which average 26 years for buildings and improvements and eight years for all other property and equipment. In addition, internal-use software applications and related development efforts are capitalized and amortized over the estimated useful lives of the applications. Software maintenance, year 2000 related matters and training costs are expensed as incurred.

Goodwill and Other Intangible Assets

Goodwill and other intangible assets resulting from business acquisitions are stated at cost and amortized on a straight-line basis over a period of 15 years if acquired subsequent to February 28, 1995, or 40 years if acquired prior thereto. Amortization expense approximated $4.2 million, $4.0 million and $2.6 million for 1998, 1997 and 1996, respectively.

The Company reviews long-lived assets, including goodwill and other intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. If it is determined that an impairment loss has occurred based on expected future cash flows, a current charge to income is recognized.

Product Related Expenses

Research and development expenses, which are expensed as incurred, approximated $70.0 million, $65.0 million and $50.0 million for 1998, 1997 and 1996, respectively.

Self-Insurance

The Company is self-insured for certain losses relating to workers’ compensation claims, employee medical benefits and product liability claims. The Company has purchased stop-loss coverage in order to limit its exposure to any significant levels of workers’ compensation and product liability claims. Self-insured losses are accrued based upon the Company’s estimates of the aggregate liability for uninsured claims incurred using certain actuarial assumptions followed in the insurance industry and the Company’s historical experience.

The accrued liabilities for self-insured losses included in other accrued expenses in the accompanying consolidated balance sheets are as follows:

The Company maintains a Voluntary Employees’ Beneficiary Association (VEBA) to fund employee medical claims covered under self-insurance. The estimates for incurred but not reported medical claims have been fully funded by the Company as of February 27, 1998 and February 28, 1997.

Product Warranty

The Company offers a lifetime warranty on Steelcase brand products, subject to certain exceptions, which provides for the free repair or replacement of any covered product or component that fails during normal use because of a defect in design, materials or workmanship. Accordingly, the Company provides, by a current charge to sales returns and allowances, an amount it estimates will be needed to cover future warranty obligations for products sold. The accrued liability for warranty costs included in other accrued expenses in the accompanying consolidated balance sheets approximated $21.3 million and $15.7 million as of February 27, 1998 and February 28, 1997, respectively.

Environmental Matters

Environmental expenditures that relate to current operations are expensed or capitalized as appropriate. Expenditures that relate to an existing condition allegedly caused by past operations, that do not contribute to current or future revenue generation, are expensed. Liabilities are recorded when material environmental assessments and remedial efforts are probable, and the costs can be reasonably estimated. Generally, the timing of these accruals coincides with completion of a feasibility study or the Company’s commitment to a formal plan of action. The accrued liability for environmental contingencies included in other accrued expenses in the accompanying consolidated balance sheets approximated $11.7 million and $11.2 million as of February 27, 1998 and February 28, 1997, respectively.

Based on the Company’s ongoing oversight of these matters, the Company believes that it has accrued sufficient reserves to absorb the remediation costs of all known sites.

Advertising

Advertising costs, which are expensed as incurred, approximated $7.9 million, $6.0 million and $9.0 million for 1998, 1997 and 1996, respectively.

Income Taxes

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, and are measured using enacted tax rates expected to apply to taxable income in the years in which the temporary differences are expected to reverse.

Earnings Per Share

Statement of Financial Accounting Standards (“SFAS”) No. 128, Earnings per Share, replaces the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes the dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. In accordance with SFAS No. 128, earnings per share amounts for all periods presented in the accompanying consolidated statements of income have been adjusted to give retroactive effect to the Recapitalization discussed in Note 9. The weighted average number of shares outstanding for basic and diluted calculations were 154.8 million, 154.7 million and 154.6 million for 1998, 1997 and 1996, respectively.

Stock-Based Compensation

SFAS No. 123, Accounting for Stock-Based Compensation, encourages entities to record compensation expense for stock-based employee compensation plans at fair value, but provides the option of measuring compensation expense using the intrinsic value method prescribed in Accounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees. The Company has elected to account for its Stock Incentive Plans in accordance with APB Opinion No. 25. Pro forma results of operations for the Company, as if the fair value method prescribed by SFAS No. 123 had been used to account for its Stock Incentive Plans, are presented in Note 10.

Fair Value of Financial Instruments

The carrying amounts of the Company’s financial instruments, consisting of cash equivalents, investments, accounts and notes receivable, accounts and notes payable and certain other liabilities, approximate their fair value due to their relatively short maturities.

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Although these estimates are based on management’s knowledge of current events and actions it may undertake in the future, they may ultimately differ from actual results.