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Monsanto Company 1997 Annual Report Moore's Law Transistors perchip irr millions IIN Gordon Moore predicted that the computing power of silicon chips would double every 18 to 24 months. This phenomenon, now known as "Moore's Law," is driving the rapid growth and economic value of the computer industry. Monsanto's Law 79 73 7S 79 82 85 88 9t 94 97 Source: Intel Corp. T .1 OodDaAylj the ability to identify and use genetic information is doubling every 12 to 24 months. This exponential growth in biological knowledge is trans forming agriculture, nutrition and health care in the emerging life sciences industry. Source: GenBank MONSANTO Food -Health 'HopeTM TOWOLDMONO016027 LETTER TO SHAREOWNERS A New Era of Value Creation 1 To Our Shareowners: In 1997, we completed one era of your company's history and made long strides into another. The completed era, of course, is that of Monsanto's existence as a chemical com pany. It began with the founding of the company in 1901 and ended on Sept. 1, 1997, with the spinoff to shareowners of our chemical businesses as a new, independent company called Solutia Inc. I'm glad to report that the spinoff went smoothly, thanks to an enormous amount of work by these technologies and goals defines an extraordinary set of business people in both compa nies, and Solutia is off opportunities. Second, the previ ously separate domains of agricul ture, nutrition and health should to a great start. The new era is that of now be managed as an intercon nected system. We use the term "life sciences" to describe that sys Monsanto's existence as a life sciences company. tem. These conclusions formed the basis for the decision by your board of directors to spin off the chemical businesses and to create a focused The concept of a life sciences company to compete for world company is a recent one, and the leadership in the life sciences. term is only now beginning to find Few people understand the size its way into the business lexicon. and scope of the opportunities Although several companies have we're pursuing. In our last two begun using it in connection with Bob Shapiro annual reports, we described the their business direction -- Novartis, Chairman and Chief Executive Officer revolution under way in global Hoechst, DuPont and Rhone agriculture, which is driven in large Poulenc are examples -- it isn't yet found in any standard list of part by the application of biotechnology to create better industry classifications. Nor does it have an accepted definition. agronomic practices and better crops. This year, we want to Because the concept is new and rapidly evolving, this annual expand the discussion. report is intended to explain why we've chosen this direction. It also assesses the past year in that context and outlines what we hope to accomplish in 1998 and beyond. Monsanto's Law We became a life sciences company because we were In our view, all industries based on biological science -- engaged in three historically separate businesses -- agricul including agriculture, food and health -- are in the early stages ture, food ingredients and pharmaceuticals -- that now have of an extremely powerful and probably inexorable process. We begun to share common technologies and common goals. liken it to what's happened in the last 30 years in the industries The technologies are those of advanced bioscience, including based on semiconductor technology -- notably, the computer genomics. The goals are to help people around the world lead and communications industries, which in turn underpin vast longer, healthier lives, at costs that they and their nations can areas of human activity. That process has been incredibly fruit aflord, and without continued environmental degradation. ful, and it has created enormous value for customers, investors When we considered the implications of this convergence, and societv. It's generally recognized that it has largely been we reached two basic conclusions: First, the intersection of driven by a phenomenon known as "Moore's Law." 2 1997 Monsanto Annual Report TOWOLDMON0016030 In 1965, Gordon Moore, who was later to be a co-founder of Intel Corp., noted that the number of transistors that could be put on a silicon chip was doubling every 18 to 24 months. He predicted that this pattern would continue and that it would produce rapid, exponential growth in computing power. It ranks as one of the best predictions in history. We're now seeing a similar pattern emerging in the biosciences. Like Moore's Law, this phenomenon can be described in several ways, but we think its basic nature is already clear: Advances infundamental techniquesfor understanding gene sequences andfunctions permit dramaticallyfaster, cheaper development ofknowledge that can be practically applied to solve complex human problems in areas such as agriculture, nutrition, health, material sciences, and environ mental sustainability. Based on the data now available, it appears that progress has been, and will continue to be, at an exponential rate, with doublings every one to twoyears. A more succinct version, which we propose as "Monsanto's Law," is simply this: The amount ofgenetic information used in practical applications will double everyyear or two. In part, Monsanto's Law depends directly on Moore's Law. The field of bioinformatics -- the application of powerful information technology to genomics -- has, in just a few years, become an indispensable part of life sciences capabili ties. It's made possible by the exponential advances in comput ing power that Moore predicted. But there are other forces at work. Moore's Law itself was built on multiple factors that allow more and more tran sistors to be put on a chip -- advances in areas such as silicon crystal technology, photolithographic techniques and equip ment, and computerized design and testing. Monsanto's Law likewise has multiple bases. The array of technologies needed to put genes to work -- from sophisticated mathematical modeling of complex systems to robotics that vastly increase the sensitivity and throughput of laboratory procedures -- is so large and complex that new networks and alliances among companies are already emerging to support them. When Moore's Law was formulated, few people appreci ated its importance. In 1971, when Intel squeezed about 2,300 transistors onto a chip to create a four-bit microproces sor, not even wild-eyed visionaries imagined what could be done 26 years later by the 7.5 million transistors on its Pentium II processor -- nor what conceivable market such a device would serve. In 1996, Monsanto introduced single-gene traits into com mercial agricultural products. Like other companies, we also developed drugs that target proteins produced by single human genes. These single-gene products are revolutionary, and they produce great value for farmers, patients and investors. But they are no more than the equivalent of Intel's four-bit microprocessor in 1971: very useful, commercially important, but no more than the tip of the tip of the iceberg. As these technologies progress, the movement toward employing multiple genes and their interactions is inevitable. New combinations almost certainly will produce astonishing results across the life sciences and lead to solutions for many large, intractable human problems. We believe that Monsanto's Law will produce economic effects on a scale at least as large as Moore's Law.There are plausible grounds for arguing that the effects may even be larger. That's why we're moving quickly to link the array of capabilities that will enable us to invent, develop and market the continuing stream of products Monsanto's Law predicts. That's been the organizing theme of our strategies for the past several years, and will continue to be for the next several. Earnings Before Interest, Taxes, Amortization and Technology; and Partnering Dollars in millions: excludes unusual items 1997 Results In 1997, we continued the two trends that will make it possible to achieve that purpose. First, we continued to generate increased earnings from our mar keted products. Second, we continued the major ramp-up of our investment in new products and the capabilities we'll need to launch and market them around the world. Our reported financial results for 1997 reflect some accounting com plexities, especially the restatement of our accounts to reflect the spinolf, and the write-offs of the costs for research and development (R&D) a Earnings Before Interest, Taxes Amortization M Technology Partnering/Rights Sales EBITAT;P in progress at the companies we acquired last year. If unusual items were excluded in 1996 and 1997, sales and operating income each would have grown more than n Monsanto is reinvesting 18 percent since 1996, and income potential earnings to create greater future value and growth. Amortisation and technology costs are rising as we bring new products forward, often with the help of partners who are offsetting some expenses. from continuing operations 12 percent. Earnings per share, if unusual items were excluded, would have been $ 1.23, an increase of 10 percent. These results should be seen in the context of the two basic trends I mentioned above: a substantial increase in income from marketed products, and a somewhat larger rate of increase in spending to create new products and to build the global infrastructure to commercialize them. To put these trends in perspective, for the last five years, if unusual items were excluded, income from continuing operations would have grown at a compound rate of 2 5 per cent per vear. Although there's no universally accepted defini tion of "growth" spending, our calculations -- which include technology, infrastructure costs and the income effects of (continueJ on page 4) 3 1997 Monsanto Annual Report TOWOLDMONOQ16031 (continuedfrom pogc 3) recent acquisitions -- show that we've been Searle's Operating Earnings In addition to strong operating performance, increasing growth spending at a compound Dollars in millions the real story of 1997 was the progress in our rate of 28 percent per year over the same period. Even more striking, we estimate that we spent more than $1.3 billion pretax on growth in 1997, an Operations 900 ri 600 If Technology and Launch Infrastructure Spending Partnering/ Product Rights Sales Total Operating Earnings new product pipeline and the strengthening of our capabilities to launch and market these new products around the world. ass Celecoxib, a increase of more than 300 $500 million, or about :1 ri new arthritis treatment from our family of a 60 percent increase, 95 96 97 95 96 97 95 96 97 95 96 97 COX-2 inhibitors, con from our growth spend ing in 1996. Put another way, -300 1_ tinued to move satisfac torily through Phase III clinical trials for arthri if we had held 1997 -600 tis and pain indications. growth spending flat at the 1996 level and -900 Celecoxib also showed promise for other possi if unusual items were n Searle's operating income, if unusual items were excluded, would have continued to ble indications, includ excluded, income would have been approximately increase as its base businesses and partnering income have grown significantly and have helped fund the development and launch of new products. ing certain cancers and Alzheimer's disease. $1.1 billion, an increase Subject to regulatory of more than 60 percent from $670 million in 1996. approval of the name, celecoxib will be marketed under the By choosing to ramp up growth spending and thereby trademark Celebra. to forgo a portion of current income, we're expressing aa Less in the public spotlight, the rest of our pharma confidence in the earnings capacity of our base businesses, ceutical pipeline products also made good progress. Our anti in the nature of the opportunities ahead, and in our ability to platelet compounds, xemilofiban and orbofiban, appear to have implement our strategies in an intensely taken the lead over potential competitive offerings, and the first competitive marketplace. products from our new oncology platform are moving ahead. If we had held an We received U.S. Food and Drug Administration approval 1997 growth spending flat Our base businesses had by far the for Arthrotec, and launched it in early 1998. Arthrotec has been at the 1996 level and best year in our history. successful in other markets and is off to a good start in the highly if unusual items were excluded, Revenues in our agriculture competitive U.S. nonsteroidal anti-inflammatory market. income would have been sector grew 22 percent, with aa We entered into two major collaborations to help fund approximately $1.1 billion, operating contribution up our pharmaceutical programs and increase the speed and an increase of more than 60 19 percent. Volume gains for power of new product launches. Pfizer Inc. will co-promote percent from $670 million Roundup herbicide were well Celebra with us in the United States. We're in discussions to in 1996. in excess of long-term growth expand this collaboration around the world, except in japan, trends and more than offset continued where we'll work with our Japanese partner, Yamanouchi price reductions. Pharmaceutical Co. Ltd. We've also entered into an innovative Sales and operating income from our agricultural agreement withYamanouchi concerning other compounds biotechnology traits grew dramatically in their second at earlier stages in our pipeline. year on the market. saa We completed several seed and ag biotech acquisitions, Posilac, our bovine somatotropin product for enhanced including Asgrow Agronomics, Calgene Inc., Holden's dairy production, became solidly profitable. Foundation Seeds Inc. and the seed business of Sementes Pharmaceutical revenues were up 21 percent, and operat Agroceres S.A.These companies fit well with each other ing contribution was up more than 50 percent, reflecting and with our gene discovery and development programs. good growth for Ambien short-term treatment for insomnia We made substantial investments in genomics, both and lor Daypro and Arthrotec arthritis treatments, as well as internally and with other companies. We're building an royalty income. industry-leading network of relationships to help us find major However, revenues in our nutrition and consumer products new products and bring them to market much more rapidly. sector were down 3 percent, and operating contribution We also accelerated spending to develop new declined 10 percent. Aggressive price competition in tabletop classes of products in our nutrition business. We're working sweeteners was the major cause. on nutritional targets that can make genuine scientifically 4 1997 Monsanto Annual Report TOWOLDMONOOI6032 Today, the ability to identify and use genetic infor mation is doubling every 12 to 24 months. This exponential growth in biological knowledge is transforming agriculture, nutrition and health care in the emerging life sciences industry. Monsanto's cost to sequence one gens -- :: determine its chemical structure -- has fallen from S2.5 million in 197 to SI50 in 1998. Jetineii ,n i,ninth tier. Min,llid 'rod ratoijt lesnnntes ~:v s.i:;s'\ .lem.m.l v. Ohm:; or. n.innii<n:.; ,:egia<:.mor The term exponential accurately describes recent growth in biologi cal knowledge. We have seen an explosion ol discovery and innovation in the life sciences, at a time when increases in both population and economic development are driving growth in world demand for better food and health care. For Monsanto, this convergence creates an opportunity to capture the value inherent in the life sciences and to meet expanding demand for 1 *- nutrition and health in a way that preserves the environment. EXPONENTIAL The meaning of exponential OPPORTUNITY/TECHNOLOGY Advances in biotechnology accelerate innovation and integration of the life sciences We're experiencing an explosion ot knowledge in biotechnology, which realizes the potential of living systems through an understanding of their genetic structure and function. The pace and magnitude of change constitute a revolution in the life sciences comparable with -- and building on -- what has come to be known as the Information Revolution, Exponential growth in computing capacity, which speeds the evaluation of com plex genetic data, will support exponential Ogrowth in our knowledgOe of ogenes and our ability to apply that knowledge to improve nutrition and health. Exponential is not a term we use loosely. We believe that the ability to identify and use genetic information is doubling every 1 2 to 24 months, a phenomenon we refer to as "Monsanto's Law." This trend is comparable to the technological phenomenon driving the Information Revolution -- a doubling ot the computing power of silicon chips every I 8 to 24 months known as "Moore's Law." in mathematics, an exponential function is of the form f=a" where n is a number greater than zero and a is a number greater than one. This means a is multiplied by itself n times. When a equals two, then as n takes on the succes sive values of one, two, three, etc., Twill double. The larger the number n, the faster the curve rises. The graphs in this report that exhibit expo nential rates of change demonstrate the potential of life sciences for nonlinear, accelerating growth. Monsanto has created a life sciences company to capture value by advancing and applying this explosion in biological knowledge. We've linked agriculture, nutrition and health with our core capabilities in biotechnology. Bv integrat ing our efforts across the life sciences con tinuum -- from food to nutrition to human health -- Monsanto can create value in three ways. First, we can find multiple applications for discoveries in biotechnology. Second, by considering agriculture, nutrition and health as a system rather than as isolated pieces, wc can expect to develop more powerful (continued on pouc 8) 7 1997 Monsanto Annual Report (continuedfrom page 7) approaches to medical and agricultural needs. implications for Global planting of geneti And third, we can reduce the time and cost of research and development (R&D) and focus on the most promising candidates in our product pipeline. By combining expertise in plant biotech nology and nutrition, Monsanto is developing soybean and canola plants that will produce Monsanto's R&D in all areas of the life sciences. Genomics is a critical element in Monsanto's drug discovery process. It's cally improved crops increased from 5 million acres in 1996 to 30 million acres in 1997 and is expected to reach 65 mil lion acres in 1998. Crops with Monsanto traits will account for approximately oils with healthier properties for margarines particularly useful in 50 million of those acres. and shortenings. By combining plant biotech nology with pharmacology, Monsanto is pro identifying molecular j targets, reducing costly and time-consuming ducing plant-grown antibodies that can be trial and error. For example, had our current produced more efficiently than in animals and genomics capabilities been available earlier, that hold promise in helping patients tolerate celecoxib -- a new treatment for arthritis cancer treatments. that we're preparing for regulatory review -- might have been developed and brought to A key factor in the market at least two to three years earlier. Monsanto's top two biotechnology product groups -- Roundup Ready products, which growth of the life sciences is the emergence of tolerate Roundup herbicide, and genomics as a Bollgard, NewLeaf g/7f/Yie!dGard powerful new area products, which resist insects -- of biotechnology. are each based on only one Genomics is a group gene out of 40,000 in a plant. of technologies that dramatically increase the speed and power of genetic research. By compressing the time needed to study large numbers of genes, genomics also makes it possible to analyze the genetic structures of biological systems rather than only isolated genes. We've scarcely begun to realize the potential of biotechnology and genomics. Monsanto's top two biotechnology product groups -- Roundup Ready products, which tolerate Roundup herbicide, and Bollgard, NewLeafand YieldGard products, which resist insects -- are each based on onlv one gene out of 40,000 in a plant. In 1997, we intro duced cotton with both Bollgard and Roundup Ready traits, the first plants with specialized combinations of multiple traits. The ability to "stack" multiple genes in a single plant will allow Monsanto to commercialize more products faster and create far greater value for our customers. (continued on page 10) In developing celecoxib, a new treatment for arthritis and pain, Monsanto expects to cut in half the time it has taken us histori cally to bring a pharmaceu tical product from the first human trials to global registration. Celebra, Monsanto's trademark for celecoxib, is being prepared fora 1998 filing at the U.S. Food and Drug Administration. Genomics creates opportunities that could not be fathomed with earlier technologies. It accelerates CALGENE new discoveries in how we can grow food, and how we can nourish our bodies to fight -- even prevent -- disease. Monsanto has made major investments as part of a compre Getting more nutrition out of oil seeds Monsanto's acquisition of Calgene Inc., completed in appealing taste and texture, and a bet ter melting point. Monsanto researchers are hensive strategy to integrate the leading genomics capabilities into its R&D efforts (see "A Network oj Partnerships,"page 22). Genomics has contributed to an exponential increase in the speed and precision with which we can create life sci ences products and bring them to market. For example, Monsanto's cost to sequence one gene -- to determine its chemical structure -- has fallen from $2.5 million in 1974 to SI 50 in 1998.The ability to identify more genes more rapidly and at lower costs has 1997, is one step in our larger strategy to invest in a science-based approach to food and nutrition. Among the strengths that Calgene brings to Monsanto is the science of how to control fatty acids in oil seeds, and to add nutritional and other consumer benefits to oils. High-stearate soybean oil can be used to produce margarines, spreads and shortenings that don't contain trans fatty acids, known to increase cholesterol levels. Laurical, a highlaurate canola oil, has a range of applications. It's being marketed first as a replacement for cocoa butter in chocolate-flavored confections and as a dairy replacement in whipped topping. Laurical offers collaborating to identify fatty acids with possible nutritional and therapeutic benefits -- work that may lead to applications of Calgene technology in both nutrition and pharmaceuticals. Another Calgene technol ogy is increasing the oil con tent in soybeans, corn and canola. Higher oil content means a more valuable crop for farmers and grain proces sors, and a more valuable seed product for Monsanto. 1997 Monsanto Annual Report TOWOLDMONOOI6036 (continued from page 8) mn Prelections or world population in 2C80 range from 8 billion to 12 billion, uo from approximately 8 billion n IPS8. OPPORTUNITY/MARKETS Demand for life sciences products is creating markets, attracting competitors, and requiring increased investment Two trends are coinciding with the increase in biological knowledge: growth in markets and intensification of competition. The life sciences industry is developing to serve some of the largest possible markets -- providing health and nutrition for the world's population at a moment when rapidly growing population is strain ing the world's resources. Estimates of world population in 2050 range as high as 1 2 billion -- double the current number. At the same time, economic growth is adding an estimated trillion dollars to the global economy each year, expanding markets for life sciences products. Rising incomes in emerging economies will create increased demand for better diets, better health care and other factors affecting quality of life. We believe that the combination of popula tion and economic growth will double or eyen triple world food demand. As demand for nutrition and health care increases because of population and income growth, we anticipate that demand for prod ucts created through life sciences technologies will grow even faster. As consumers substitute (continued on puge 12) DECOMMODITIZATION Specialized crops will transform agriculture, create value Agriculture is changing. Today, most agriculture is based on growing large amounts of crops of a standard quality for universal use. In the future, the products of life sciences will change the process and provide additional value across the system. As we progress from the agronomic traits of today's first biotechnology craps to higher quality traits and biofactories, farmers will be able to grow specific crops for specialized uses. Differentiated crops will create, in turn, the need tor identity preservation aiong the production chain. These higher vaiue life sciences traits will provide the economic incentive for growers to farm differently and processors to operate differently in order to provide foods for specific nutritional needs and other specialized products. In short, global agriculture will experience what is being called "decommoditization," and an industry built around commodities will have to restructure itself to support new technologies. Such a period of flux presents Monsanto with an opportunity to redefine our role in creating and capturing value. The flow charts below demonstrate how more specialized crops will result in a proliferation of production streams. Each integrated process will require fewer inputs and produce greater value. Traditional Agriculture Model: Commodities Natural | Resources Plant Breeding r- Seed Farm Manager Harvest ENERGY -- Processing -- Food Consumer 1 CRUDE OIL. MINERALS, LAND, Inputs TIME, INFORMATION WASTE -- Feed -- Animal Farmer _______ j 1 WATER FERTILIZER, PESTICIDES, GAS. MACHINERY, ENERGY WASTE Emerging Agriculture Model: Decommoditization Natural 1 Resources LESS CRUDE OIL, MINERALS, LAND. WATER Plant Breeding j New Genes l Seed A __f Seed B ( l Seed C Seed D Inputs | Farm Manager LESS TIME. MORE INFORMATION LESS FERTILIZER. PESTICIDES. GAS, MACHINERY, - ENERGY HIGHER QUALITY. MORE NUTRITIOUS LESS ENERGY Processor A\ Processor B Food Processor C Processor D LESS WASTE Feed HIGHER QUALITY. MORE NUTRITIOUS Consumer A Consumer B Consumer C Animal Farmer LESS WASTE lO 1997 Monsanto Annual Report TOWOLDMONOOI6038 imperative, economic opportunity Sustainable development means meetingthe demands of people today while preserving the capacity ofthe environmentto provideforfuture generations. Achievingsustainability means creatingeconomic growth and improving the qualityof lifewhile conserving environmental resources to preserve clean air and watec That's not only areethical position, but an economic reality. Monsanto believes there iseconomicvalue to be captured ire meeting world demandforahetterquality of life in a sustainable way. The earth's ecological system cannot withstand unlimited increases inthe amount of material produced and consumed, but it can withstand exponential increases in knowledge and information. Monsanto is creating value by developing processes and products that are sustainable becausethey replace "stuff' with information. For example,Monsanto has applied biotechnology to improve seeds, sothattheirgenes carry informationto repel or destroy harmful insects.This informationismore valuable than the "stuff" it replaces insecticides and the fuels used to apply them--because it achieves the same desired effect in a sustainable way. For additional information on sustainability, you're invited to read Monsanto's Sustainable Development Reportfor 1997 (seepage 65for ordering information), or visit our web siteatwww.monsanto.com. Currentagricultural technology is notsustainable. Today, farmland covers approximately 6million square miles ofthe earth's surface. If we used only the conventional farming practices in place today, we would need as much as 15 million square miles ofarable land to produce the food needed for the 8 billion to 12 billion people expected to inhabit the earth by 2050. Yet most of the world's productive, sustain able farmland is already under cultivation. We must either expand agri culture onto underdeveloped or marginal land -- depletingresources and destroying habitats that support biodiversity -- or achieve higher yields on existing farmland. Seeds improved through biotechnology are making itpossible to produce higher yields on the farmland we have available today while reducing the effect on the environment. In 1997, Monsanto's YieldGard insect- f* M HMH protected corn increased yields 8 percent from yields 6 million sq. mi. ) of standard corn hybrid varieties, while farmers who used Bollgard 15 million sq. mi. AHii^HHliHNKIflNv^ insect-protected cotton saw a 7percent yield 2050 improvement. . t. Conservation tillage (con-till) is a farmingpracticethat replaces plowing withtmjUciausmetolfbmrbicides to mm 25billiantonsoftopsoileachyear worldwide. Crofttesiduaisleftamthe field, seedsarepfanteUinnarrowraws-' ardrilledhales, and weedsarecon trolled with herbicides such as Monsanto's Roundup. A recentstudyindicates that the use ofRaundup Ready soybeans com bined w/tfrRoundup encouragescon-till practices andallows farmersta use herbicides mateiudiciously. (above) findsearthwormsa.signof healthy soiliharcon-till field. Con-tilt acreage is increasing in Argentina, and salescflfijfeatoip therereflect this growth^' .. ft 1997 Monsanto Annual Report TOWOLDMONO016039 (continuedfrom page 10) higher quality and more environmentally sustainable products of life sciences for those produced by conventional means, thev will add another layer of demand. The convergence of demand and technology offers a significant opportunity for the companies and investors who get there first. Monsanto has assumed a leading role in the creation and consolidation of the life sciences industry through steadfast pursuit of a consistent strategy rooted in decisions made more than a decade ago. At a time when Monsanto's base business was chemicals, the company recognized the potential of biotechnology and made investments across the life sciences -- in agriculture, nutrition and pharmaceuticals -- to develop that potential. The magnitude of the opportunity allows for many winners, but opportunities will be greatest for companies that gain early access to key capabilities. That's why Monsanto moved quickly to build alliances in technology and in the marketplace. Other firms are now following our lead, consolidating their positions in the life sciences. Their actions confirm Monsanto's strategy, but also increase competition for future partnerships and investments. The market is developing as we expected, although unfolding faster and larger than any one could have anticipated. Opportunities are expanding rapidly, but so is the scale of the necessary investment. This requires Monsanto to make critical choices and to focus its resources where they create the greatest long-term value. In 1997, Monsanto invested approximately S1.3 billion pretax on growth -- a figure that includes spending on technology and the effect on income of acquisitions and infra structure costs.This figure represents an increase of more than $500 million, or approximately 60 percent, from our growth spending in 1996. For the past five years, if unusual items were excluded, income from continuing operations would have increased at a compound rate of 25 percent annually, while spending on growth increased at a compound rate of 28 percent per year. Near term earnings will continue to reflect the imperative to invest in growth. EE3 According to the World Bonk, the global economy is estimated to grow 3.4 percent annually in the decade from 1997 to 2006 in terms of real gross domestic product IGDP). Based on world GDPofS28.3 trillion in 1995, this rate of growth adds a trillion dollars or more to the world economy each year. LAUNCH What it takes to launch a global blockbuster Shorter product life cycles -- brought about by accelerating techno logical advances -- demand new launch strategies for pharmaceu tical products. To capture the maximum value from a Global launches of cholesterol-reducing pharmaceuticals in recent years have set the new pattern: a dramatic esca lation in upfront launch costs and rapid growth in long-term market product, companies must achieve virtually simulta neous global launches and rapid market penetration. share and earnings. Monsanto is collabo rating with Pfizer Inc. to co-promote ' Monsanto's Celebra \ treatment for arthri\ fis and pain in the United States. Both companies are in discus sions to extend the collaboration worldwide, except in Japan. We have similar M i*--) arrangements in 04, Japan with Yamanouchi Pharmaceutical Co. Ltd. for Celebra and with Sankyo Co. for xemilofiban and orbofiban to prevent blood clots. With several block busters -- products with potential sales of more than S750 million -- approaching launch in the next few years, Monsanto must make large investments now to achieve full value from its product pipeline. The alliances we've formed will add financial and marketing resources critical to successful launches that achieve maximum returns during each product's life cycle. Blockbuster launches will require a global net work and infrastructure, consistency in positioning and marketing products, and highly coordinated regulatory efforts. For example, comprehensive data must be assembled prior to launch to support speedy regulatory approval, public accept ance and effective positioning in the market place. To achieve a steep increase in sales. spending on large clinical trials and marketing strat egy and materials must begin years before the launch. For new block busters, Monsanto's target isto secure, within 12 months of the first launch, regulatory approval in the markets that account for 05 percent of the potential sales. We'll continue to pursue partnerships that strengthen these global launch capabilities. 12 1997 Monsanto Annual Report TOWOLDMONO016040 genes tit m plant Amtthe oi For instance, today the Bacillus Tv - - ,| OT plants of the tobacce plant Today, we can manage more than W.IHHIgenetTialsayear,, including As discussed on page 6, gene annotation reflects our growing understanding ofthe genetic organization and potential of plants. But that's only half thestory and part of the growth. Monsanto's ability to createvaluein agriculture is based on the genetic improvement of plants-- applying what we've learned about genes to strengthentheperformance of crops in the field and the nutritional benefit of the food we harvest Monsanto's ability to insertgenesinto plants hasgrowigeniKlilltfw>Mi|fPiM crops like corn, rice, wheatantfsoybeans. This exponential increase in production allows for the testing of more individual traits, reduced risk in productdevelopment andtha increased chance of identifyingtraits withcommercial potentialThecharton the oppositepage demonstratesthe exponential growth rnMansanta'sahiiitytninseitgenes into avariety ofcrops: Each new traitcapturesvalueat multiple levels. Thecommercializatioit process of one gene demonstrates the growth in itst valuewhenapptiedlacross multipfe crops. being used infour crops. Each of those crops has between2Q amt 200 important varieties or hybridsttratwill receive the Bt gene. Eachvarietyor hybrid also is grown in many different focations around the world. This multidimensional application of even onegene represents what we refer to as the"valuemultfplier." Additional value will yy We'redeveloping quality traits for corn andothercrops--adapted to specific varieties orhybrids andgrowing conditions --taimpmve nutrition for consumers. Gene Discovery Genomics Quality Trait Hybrid 1 -f Hybrid 2 Hybrid 3 { Geography j -[ Geography j Geography --i Geography fl Geography --f Geography ] Geography Geography Geography DISCOVERY FPAir mw: VARIETY 1E0G3APHV HtBRlD r-C=D JttKL TOWOLDMONO016042 Multiple applications of biotechnology produce exponential possibilities for value creation. Integrated life sciences capabilities multiply the potential value created by Monsanto. Exponential growth is a product of multiplication: Growth in an inte grated life sciences company stems from multiplying the benefits of new discoveries across many disciplines and markets. At Monsanto, growth in agricultural biotechnology and nutrition will be the result of multiple traits applied to multiple crops in multiple countries. Growth in pharmaceuticals will be the result of our focus on compounds with multiple therapeutic applications. The multiplier effect is producing growth in Monsanto's base business and value from its product pipeline. Monsanto's ability to insert genes into plants and test them for new traits is growing exponen tially. Even gene li e inss; successfully into a plan: reveals clues to insetting the next new gene The more qmckh we can verify the efficacy Of a new trait, the mote quini.lv we con captain value through the comma aahrotion or that tin::. VALUE/BASE BUSINESS OUTLOOK Current products demonstrate capacity to sustain earnings growth and support R&D investment Monsanto's core businesses would have gener ated compound annual earnings growth of 25 percent for the past five years, if unusual items in all years were excluded. In that time, the base businesses have provided significant funds for the growing research and development (R&D) demands of the product pipeline. The outlook for Monsanto's base businesses shows room for continued growth in extensions to new markets and increasing sales in current markets. The accelerating growth potential of Monsanto's pipeline (see"Value/Pipeline Outlook" page 18) is layered on, and supported by, con sistently strong growth in existing products. Rapid growth of biotechnology products and the continued strength of Roundup herbicide form the basis for future growth of Monsanto's agricultural business. In 1997, agricultural business sales increased bv 22 percent, and operating contribution -- a measure of cashbased profitability -- increased 19 percent. To accelerate future growth, Monsanto is (continued on page 16) 15 1997 Monsanto Annual Report EVA Measuring value creation To make the best investment choices in the life sciences, Monsanto needed to employ the most sophisticated techniques available to measure value creation. We chose Economic Value Added (EVA) -- which measures a firm's true economic profit after the cost of all capital is subtracted -- as part of a system of economic-based metrics that measure shareowner value and drive decisions to enhance shareowner wealth. EVA also correlates closely with the stock price, which also helps guide our efforts to create greater value. Monsanto has created Economic Value Added of more than $270 million since the start of 1995, when Monsanto first began to evaluate and use EVA. EVA is a powerful and comprehensive tool that aligns long-term share owner value with the decisions made and actions taken by all employees to improve the company's operating results. (continued from page I j I pursuing two principal strategies: We're expanding volumes of Roundup and the acreage ot existing biotechnology products, and we're developing biotechnology products with new agronomic and quality traits. Monsanto is expanding the market for existing products to new crops and new geog raphies via a strong international network. Sales of Roundup, the world's leading nonselec- tive agricultural and industrial her bicide, continued to grow in 1997. Roundup main- _ ., Ihe practice of conservation tillage - which reduces or slim,- tained volume growth . , ___ , ln 1997 above the. nates plowing to control weeds -- perccnt historical has more than doubled globally since trend line. Much of 1990, from approximately 110 million the volume growth acres to approximately 285 million in Roundup was acres. Roundup is the herbicios outside the United of choice for conservation tillage. States__ the onlv ' ' , ,, , country where Roundup is still patent-protected. The interaction of selective price reduc tions and volume increases has enhanced the strong competitive position of Roundup and fueled earnings growth.To maintain its low- cost position in the production of glvphosate, the active ingredient in Roundup, Monsanto is achieving continued reductions in unit costs through improvements in manufacturing tech nology and operating efficiency, as well as economies of scale. Another factor in the continued growth of Roundup is conservation tillage, a farming practice that reduces soil erosion, labor and energy and equipment costs bv reducing or eliminating the use of tillage to control weeds. Because Roundup is the herbicide of choice for conservation tillage, volumes have grown steadily as more growers adopt this practice. The introduction of Roundup Ready crops -- crops that are tolerant of Roundup herbicide -- also has stimulated increased sales of Roundup. Roundup Ready cotton was added to the portfo lio in 1997. Roundup Ready crops are an example of Monsanto's first wave of agricultural biotechnol ogy products with improved agronomic traits. Expansion of biotechnology crops in 1997 -- from 3 million acres to 19 million acres -- con firmed the growth potential of this technology. With widespread grower acceptance, the primary limit on expansion has been the time it takes to produce seed with new traits. As the supply catches up with demand, total acreage planted in Monsanto's biotechnology crops is expected to approach 50 million in 1998. Monsanto is broadening the applications of first-wave biotechnology products by stacking multiple traits in a plant. In 1997, we launched Bollgard and Roundup Ready cotton plants stacked with the genes for both insect protec tion and tolerance of Roundup .We expect to launch NewLeaJ Y and NewLeaf Plus potatoes with protection against certain insects and potato viruses in 1 998. (continued on page IS) 'sir 4 ftp' more than 20 years on the market . chime growth of Roi.nnup rose above the 20 cement historical treno One in 1997. Growth -n Roundup '.chimes is a credent or nvera! 'actors 'colliding tillage worlnv.iae and the introduction or Roundup Ready crops Countries Granting Regulatory Approvals to Grow BiotechnologyImproved Crops Years indicate earliest expected date of approval Source: Monsanto i&ag&c. Worldwide Regulatory P Approvals of *-" Biotechnology- Improved Crops Years indicate earliest expected date of approval Source: Monsanto Prior to crop approvals from regulatory agencies, controlled testing of biotechnology-improved crops is required in farm fields in a variety of geog raphies and growing conditions. Since 1982, there have been more than 3.600governmentauthorized on-farm tests involving 56 different crops in 34 countries By the end of 1997, Monsanto s biotechnology cions had recur, erl com mercial approval m five eourtms Approvals of hi t::nps are anticipated it 'be -lust thru - .ears in mne than 35 "mar cotintnes. in a iturmanm total '> 120 or mote approvals. 1s TOWOLDMONOQ16044 ONCOLOGY New approaches improve cancer treatment and hold potential for cancer prevention Searle is working on new products that repre sent a major advance in cancer treatment. Destruction of healthy blood cells is a serious side effect of using drugs to kill cancerous cells. Daniplestim, currently in Phase 111 trials, is the first product of Searle's strategic focus on blood cell growth factors. It may help chemotherapy patients replace damaged blood cells, resist infection and avoid hospitaliza tion. Another drug, leridistim, a secondgeneration growth factor with blockbuster potential, is expected to enter Phase ill trials in early 1938. But what if we could actually prevent cancer? Searls and the National Cancer Institute (MCI) are now testing this hypothesis in collab orative trials. Celebra -- the COX-2 inhibitor now in Phase ill trials as an arthritis treatment -- is under evaluation in Phase II trials as a pre ventive drug for certain types of colon cancer. The cancer treatment implications of COX-2 inhibition are twofold, in colorectal or colon cancer -- and possibly in other forms of cancer -- we know that the COX-2 enzyme is found in areas of inflammation. But it's also found very early in precancerous colon polyps, which may evolve into colon Kim Searle is developing I products to help cancer patients recover from rt chemotherapy treatments. By promoting replacement I of damaged blood cells, daniplestim and leridistim * are designed to help f chemotherapy patients 1 resist infection and avoid *? hospitalization. or colorectal cancer. COX-2 inhibition may actually restrain the evo lution of the polyp and ultimately the cancer. NCI trials are testing for that effect. Recent research at Searle indicates that COX-2 inhibition also may help treat other forms of cancer. Because COX-2 may be important to angio genesis -- the formation of blood vessels that feed a tumor and allow it to grow or metastasize -- inhibiting COX-2 may be useful in the treatment of existing tumors. Potential benefits of COX-2 research platform COX-2 is an enzyme that causes the swelling and pain associated with arthritis. The first product of Monsanto research on COX-2 is Celebra, a COX-2 inhibitor to reduce pain and inflammation in arthritis patients. But Searle is also building a family of products on the COX-2 research platform that includes secondand third-generation compounds with a range of applications, including the treatment of certain cancers, Alzheimer's disease and postsurgical pain. Other Indications Primary Indications Product Candidates Other Opportunities 5Cancer Prevention y ^ Arthritis, Pain Alzheimer's Menstrual Pain ----- ------ yv j t\ Arthritis, Pain f Postsurgical [ Pain The COX-2 family of products includes potential therapeutics for pain, certain cancers, Alzheimer's disease and colorec tal cancer prevention. -1 Indicates the applications in cancer treatment. JCTopical Ophthalmic Veterinary COX-2 Inhibitor 19 1997 Monsanto Annual Report TOWOLDMONOQ16047 (continued from page IS) Hormone Replacement Therapy (HRT) patches that increase a woman's estrogen and progesterone levels as a medical treatment tor symptoms of menopause; Xemilofiban, an oral anti-platelet agent designed to prevent blood clot formation after coronary angioplasty; and Orbofiban, an oral anti-platelet agent designed for long-term use to prevent blood clots. The pipeline includes three potential blockbusters -- products with potential sales of more than $750 million -- in advanced stages of development. These include Celebra and orbofiban, as well as leridistim (formerly called myelopoietin), a blood cell growth fac tor to help cancer patients resist infection after chemotherapy. Leridistim is expected to enter Phase III trials in early 1998. To prepare for new products coming out oi the pipeline, Searle is expanding its global marketing force. Expansion has been imple mented in the United States, and plans are in place in other key countries. The company also is establishing marketing partnerships that will accelerate global market penetration. (See "Launch,"page 12.) The full potential of the agricultural biotech nology pipeline comes from adapting more traits to more crop varieties and more specific geo graphic conditions around the world.This new product expansion starts from a growing base of first-, second- and third-wave traits. Among the 30 new products in the agricul tural biotechnology pipeline are 16 with firstwave, input traits, such as protection against insects. New products in development include application of existing traits to new crops, such as Roundup Ready oilseed rape that '-4 tolerates Roundup herbicide, as well as new traits to improve yields and provide disease protection. In addition, there are 14 new products with second-wave and third-wave traits that create better value from the food or fiber produced by the plant. New output traits in development include improved plant oils; improved-solids potatoes, which absorb less fat during cooking; and colored cotton, which eliminates the need for chemical dyeing. Tim tivo most common forms of arthritis affect approximately 12 percent of the world's population -- a figure that will grow as the average age of the population increases in the next century. Searle's goafis to achieve world leadership in arthritis treatment as that century begins. The nutrition and consumer products group is developing a science-based approach to nutri tion and health. Monsanto is collaborating in the development of a corn fiber oil that may lower serum cholesterol levels. Corn fiber is a low-value byproduct of wet milling;--* the industrial process that produces starch sweeteners and other products from corn. Extracting oil from the corn fiber holds the promise of cre ating nutritional benefits with a variety of food applications. The world's population is growing older. By 2030, nearly 7 billion people alive today will have passed age 65 -- more than double the number of people of that age in 1997. This In the area of food ingredients, projection, by the U.S. Census Bureau, Monsanto is developing a unique, no-calorie, high-intensity sweetener called neotame. Previously known as Sweetener 2000, neotame is the prod indicates that the population over age 65 is increasing at a faster rate than the rate of growth for the total world population. uct of 16 years of R&D designed to build on the market leadership of NutraSweet brand sweetener. Monsanto took the first step toward regulatory approval in December 1997 by filing with the LI.S. Food and Drug Administration for tabletop use. We plan to file for general use in late 1998. To achieve accelerating growth in rev enues, earnings and value, we must make substantial investments today in long-term initiatives. Monsanto will continue to make prudent investments with long-term growth potential, including investments in genomics third-wave plant biotechnology, new compounds for the pharmaceutical pipeline, science-based nutrition and 7, sustainable development. The ultimate potential of the life __7 sciences is to accelerate value crea tion, not just by multiplying growth in different areas, but by creating whole new solutions that cross multi ple areas of the life sciences -- agricul ture, nutrition, pharmaceuticals -- on a global basis. Neotame. a unique, no-calorie, high-intensity sweetener, is approximately 8.000 times sweeter than sugar. Neotame is the product of 16 years of Monsanto R&D to build on the market leadership o/NutiaSweet brand sweetener. 20 1997 Monsanto Annual Report TOWOLDMON0016048 3f*:.199?MbitsantpiAnnuakReport Searfe expectstoachieve its goatofworld leadership irearthritistreatment bytheyear2000. Thetwo most commonformsdarthritisaffect approximately 12 per cent ofthe world's population. Where Searle set its goal ire 1992.the company's arthritis franchise had$124 million in safes In the years since; sales growthfor /7ayprearthritis treat ment has outpacedthegrowth in the marketfor non steroidal anti-inffammatory drugs (NSAIDsf. Ire1997, Oaypro reached a cumulative sales total of$1 billion and becamethe second-leading NSAIB in the United States Withthe IKS. launchof Arthrateein 199% Searle is welt positioned for leadership irethe world's largest marketforarthritis and paintreatment Nearly 40milliottAmericans--one ire seven--suffer from arthritis By202% potential customers will number 6Bmillion. Arthrateecombinesanulcerpreventive drug with areNSAIBtndeliverarthritistreatmentwitha signifi cantly decreased! incidence ofgastrointestinal ulcers. Monsanto invented thistechis and remains in a leading post- Celebrainhibits a type of cyclo-oxygenase, orCOX-2, which causesthe swelling and pain associated with arthritis. Unlike NSAIDs, Celebra does not affect COX-T, which performs basic functions including protecting the stomach lining. Grawtirin Phase III clinical data showed promising results for Celebra in inhibiting COX-2 without blacking COX-T. Celebra did not cause gastrointestinal CTolfarsirr millions ulcers above the placebo level, nor did it have are effect areplateletfunction. Preparations are underwayfaranew drug applicationtabefifedwith the IKS. Food and Drug Administration. SalesofSearle's arthritis products increased more than fivefold from $124 millionin 1992to $681 million in 199T. TOWOLDMONO016049 A Network of Partnerships Investments and relationships made in 1997 and by March 1,1998. Access to New Markets Asgrow Agronomics Our acquisition of this soybean and corn seed company strengthens our ability to deliver new varieties throughout the Americas and Europe. Carlo Erba S.A. Monsanto acquired this Brazilian pharmaceuti cal company, which provides a stronger base to market arthritis and cardiovascular products. Centro Integral Agropecuario IClAGCO) Monsanto and Delta & Pine Land Co. formed a joint venture with this large Argentine distributor to produce and sell genetically improved cotton seeds. Chemotecnica Sintyal S.A. Monsanto's acquisition of Sintyal's pharmaceutical business provides access to the Argentine pharmaceutical market with products in the arthritis, pain and antibiotic categories. Holden's Foundation Seeds Inc., Corn States Hybrid Service Inc., and Corn States International S.a.r.l. We acquired the world's leading foundation corn seed company and its global marketing network. This allows us to provide farmers improved traits in corn varieties. Maharashtra Hybrid Seed Co. Monsanto formed a joint venture with this seed company to develop and commercialize Bollgard insect-protected cotton in India. RAO Biopreparat Under this joint venture agreement, we're building a pharmaceutical facility in Russia to manufacture 40 to 50 different medical products, Sementes Agroceres S.A. The acquisition of Agroceres, the leading seed corn company in Brazil, allows us to introduce improved crops to South American farmers. Stine Seed Co. Monsanto and its Asgrow subsidiary are collaborating with Stine to further improve and develop soybean genetics. 22 1997 Monsanto Annual Report Technologies for Future Product Development ArQuIe Inc. This agreement gives Monsanto access to combinatorial chemistry -- new methods for discovering and mapping chemical compounds. Bayer AG We've formed a joint venture with Bayer AG to develop and market new crop protection products in Europe. Calgene Inc. Acquisition of the remaining 45.6 percent of Calgene accelerates our commercialization of new plant oils, produce and cotton seed. Cytel Corp. We've formed a research collaboration and provided an equity investment in Cytel to jointly explore immunotherapies for treating cancer. Flamel Technologies S.A. We're collaborating with Flamel to develop enhanced formulations of Roundup and other Monsanto herbicides using proprietary technology. Frito-Lay Inc. This global product development alliance is aimed at improving the quality of potato varieties grown for snack foods. IBM Corp. This technology alliance will apply advanced information technologies to genomics research on plant groups and human diseases. Incyte Pharmaceuticals Inc. We've extended this partnership, which gives our researchers access to gene sequence databases for use in product development. Mendel Biotechnology This collaboration, in conjunction with Empresas La Moderna S.A., provides exclusive access to Mendel's technical capabilities in plant genetics and genomics for many crops. Millennium Pharmaceuticals Inc. Our investment in Millennium gains access to proprietary genomics technologies that can help bring future life sciences products to market. NeoRx Corp. This collaboration produced a plant-grown human-like antibody that holds promise for allowing cancer patients to tolerate more frequent doses of a tumor-shrinking drug. Pfizer Inc. We're collaborating with Pfizer to co-promote Celebra, Searle's COX-2 inhibitor for the treatment of arthritis and pain, in the United States. A global agreement, except for Japan, is under discussion. Yamanouchi Pharmaceutical Co. Ltd. Yamanouchi and Monsanto will co-develop and co-market an array of pharmaceutical products in Japan, including Celebra. ALLIANCES Partners strengthen life sciences capabilities Monsanto has amplified its core life sciences capabilities through a series of acquisitions and partnerships. In 1997, Monsanto continued to build a network of alliances to create a genomics program equal to or better than that of any other company. An alliance with IBM will support work in mapping genetic structures. A collaboration with Millennium Pharmaceuticals included the creation of a wholly owned Monsanto genomics subsidiary. Monsanto also extended a partnership with Incyte Pharma ceuticals, under which Incyte will provide access to genomics databases. In collaboration with Empresas La Moderna (ELM), Monsanto acquired an interest in Mendel Biotechnology and funded a five-year R&D program, gaining access to plant genomics capabilities, Monsanto also completed the acqui sition of Holden's Foundation Seeds, which complements the genomics alliances by providing access to corn germplasm. This step follows earlier acquisitions of Asgrow Agronomics/ to strengthen our position in gernipiasm and related technologies; Agracetus, to expand our capacity for genetic improvement of, and protein production in, plants; and Calgene, to build our research in plant oils, produce and cotton seed. TOWOLDMONOOI6050 INPUTS TO THE FARM Agricultural Chemical Producers Agricultural chemicals are used for vegetation management and in the development of herbicide-tolerant crops. Genomics Companies New genes are discovered and footnoted for their biological role and function in living systems. University ^ Relationships Academic institutions research product candidate leads. | X Agricultural Biotechnology Genomic information is used to transform plants, test new traits and create animal health and nutrition products. Fertilizer Producers Animal Health Companies New products for animal health, nutrition .and production are provided to beef, poultry, pork and dairy producers. Seed Companies New life sciences traits for higher quality, healthier foods are commercialized into multiple crop seed lines. [--(^Distributors^) Feed Supplements (Distributors) Pharmaceutical Discovery New therapeutics have both human and animal applications. ' Crop Growers Beef, Poultry, Pork, Dairy Producers OUTPUTS FROM THE FARM Grain Handlers, Traders Feed Manufacturing Food Ingredient Suppliers Higher quality, more nutritious food ingredients are created for X food manufacturing. ' CA Grain Processors A" ' Food Companies Food ingredients are assembled into V'-- finished products. > ' Feediot Operators V ___ y ~r Meat Packagers \ __ Milk Processors Pharmaceutical Development New therapeutics are developed with genomics. New biochemicals are manufactured in plant biofactories. Clinical trials substantiate health claims of nutritional ingredients in specialty foods. V_________________ Pharmaceutical Marketing New life sciences drugs are packaged,launched and promoted. Specialty Food and Supplement Suppliers Therapeutic foods and dietary supplements are the result of healthier, more nutritious food ingredients and pharmaceutical research. Food Retailers ( \r N Doctors V A Consumers V3 A web of connections across life sciences The lire sciences create a unique network of relationships among the traditional providers of agriculture, food, anti human and animal health. New solutions to health and well being are the products of this web of connections. Monsanto's current portfolio of acquisitions a ms .'elationships to research, develop and market new products is depicted here in blue. 23 1997 Monsanto Annual Report TOWOLDMONO016051 A Strong Base Business A record of steady growth in Monsanto's current operations is built on products with enduring strength and growth potential in their markets. / Th bk in Current Key Products Ambien Short-Term Treatment for Insomnia Ambien continues to be a leader in the U.S. hypnotic market with a 50 percent market share in total prescriptions. Arthrotec Arthritis Treatment A pharmaceutical treatment for arthritis, Arthrotec combines a nonsteroidal anti-inflammatory drug (NSAID) with an ulcer preventive drug for significantly decreased incidence of gastroin testinal ulcers. Arthrotec is already being sold in many countries, and recently received approval from the U.S. Food and Drug Administration (FDA). AvadexBVJ and Far-Go Herbicides These herbicides are used to control wild oats in wheat, peas and lentil crops. Bollgard InsectProtected Cotton Growers continue to see higher yields from this cotton developed through biotechnology to protect itself from several insect pests. We're now offering Bollgard and Roundup Ready cotton with both the insect protection of Bollgard and the ability to tolerate Roundup herbicide. This cotton comes from a technology that adds multiple traits to a plant. Calan and Covera-HS Long-Acting Calcium Channel Blockers These pharmaceuticals are used to treat chest pain and hypertension. Covera-HS is the first anti hypertensive medication with a unique delivery system that provides 24 hours of blood pres sure control, with peak drug concentrations delivered during morning hours. Cytotec Ulcer Preventive Drug Cytotec helps prevent gastric ulcers caused by use of NSAIDs, the most commonly used medications for treating arthritis symptoms. Daypro Arthritis Treatment Daypro is a once-a-day NSAID treatment for osteoarthritis and rheumatoid arthritis. Demulen and Tri-Norinyl Oral Contraceptives These oral contraceptives are used in some 70 countries around the world. Equal Brand Sweetener This popular tabletop sweetener is made with NutraSweet brand sweetener and used by consumers to sweeten such foods as tea, fruit, coffee and cereal. Harness and Lasso Herbicides These herbicides are used with corn. Lasso is also used for weed control in soybean, peanut and milo (sorghum) crops. NewLeaf Insect-Protected Potatoes These insect-protected potatoes offer season-long, in-plant control of the Colorado potato beetle. NutraSweet Brand Sweetener The leading brand of high-intensity sweetener, NutraSweet is used in beverages and food products around the world. Posilac Bovine Somatotropin This animal health product increases milk production in cows and helps decrease farmers' costs. p / Roundup Herbicide Roundup is the world's leading nonselective agricultural and industrial herbicide. Roundup Ready Canola, Roundup Ready Cotton and Roundup Ready Soybeans These products, developed through biotechnology, tolerate Roundup herbicide. Growers can apply Roundup over the top of these crops to control weeds with no effect on crop performance. Xanthan Gums, Alginates and Gellan Gums These food ingredients are used to improve the bulk, texture and processing of soups, sauces, beverages, bakery goods and other products. YieldGard Insect-Protected Corn Corn with the YieldGard trait is protected against infestations of the corn borer, one of the most destructive corn pests. 191 Con Cone sterc (NS4 drug redui tinal Flag This form appr Druq 1997 for tr nosi: Gell A bit this' appl conf Inse Devt thes selvr offei qual Nei Viru The; throi then and Nei Viru Thro pota agai beel 24 1997 Monsanto Annual Report 25 TOWOLDMONO016052 A Robust Product Pipeline The potential for accelerating growth is built not just on one blockbuster, or one business, but on discovery and development in multiple areas with multiple growth opportunities. 1998 1999 Condrotec Arthritis Treatment Condrotec combines a non steroidal anti-inflammatory drug (NSAID) with an ulcer preventive drug to treat arthritis while greatly reducing the risk of gastrointes tinal damage. Flagyl ER Anti-Infective Drug This oral, extended-release formulation of Flagyl was approved by the U.S. Food and Drug Administration (FDA) in late 1997. It allows once-a-day dosing for treatment of bacterial vagi nosis, a common vaginal infection. Gellan Biogum A biogum replacement for gelatin, this food ingredient has new applications in desserts, confections and other foods. Insect-Protected Tomatoes Developed through biotechnology, these tomatoes protect them selves from insect pests and offer improved yields and higher quality crops. NewLeaf Plus Insect- and Virus-Protected Potatoes These potatoes, developed through biotechnology, protect themselves from insect pests and potato leafroll virus. NewLeaf Y Insect- and Virus-Protected Potatoes Through biotechnology, these potatoes protect themselves against the Colorado potato beetle and the potato virus Y. Oxaprozin Potassium (formerly Xopane) This pharmaceutical will relieve pain and inflammation. It will be marketed for the management of pain. Roundup Ready Corn Through biotechnology, this product will offer corn growers the advantages of in-crop, broad-spectrum weed control with Roundup. SeaGold DHA Omega-3 Fatty Acid This premium plant-based oil is an alternative to fish oil sources of DHA (docosahexaenoic acid). Studies indicate DHA may help maintain cardiovascular health. SeaGoldmW be sold as a human dietary supplement through General Nutrition Companies (GNC). 25 1997 Monsanto Annual Report Celebra arthritis treatment Celebra is a member of a new class of drugs known as specific COX-2 inhibitors. Most arthritis medications available today have the potential to cause serious gastrointestinal damage, such as ulcers. Celebra is currently being evaluated in Phase III clinical trials to determine if it's effective in treating arthritis without causing damage to the stomach, intestines or kidneys. Daniplestim This blood cell growth factor stimulates bone marrow to rapidly replace white blood cells destroyed by cancer radiation therapy and chemotherapy. Currently in Phase III clinical trials, it may help protect patients from infections and bleeding episodes that compromise their cancer care. MON 37500 This herbicide controls brome, quack grass and winter broadleaf weeds in wheat. Roundup Ready Oilseed Rape Through biotechnology, this oilseed rape plant tolerates Roundup. Growers can apply Roundup over the top of Roundup Ready oilseed rape to control weeds without affecting crop performance. Virus-Protected Tomatoes These tomatoes will be protected against plant viruses and offer improved yields and a higher quality crop. ATTRITION REPORT What's missing from the previous pipeline? Research and development of products based on new technolo gies is by its nature high-risk. It's typical for large numbers of products to fall out of development at various stages in the process. Monsanto is fortunate to have removed only three products from the pipeline shown in our 1996 annual report. BXN Herbicide-Tolerant and Bollgard Insect-Protected Cotton Monsanto and Stoneville Pedigreed Seed Co. have been developing cotton that is both tolerant of Buctril herbicide and insect-protected. However, the U.S. Environmental Protection Agency is currently reviewing Buctril. Therefore, the cotton will be sold for its insect protection, but farmers can't treat the crop with Buctril. Improved Strawberry Crops Monsanto sold its strawberry business in 1997. Inulin This product will not be launched in-1999, but may be commercialized in subsequent years pending additional evaluation. TOWOLDMONO016053 Monsanto has numerous products in its pipeline that will reinforce key franchises or serve as platforms for growth. The years noted here reflect the earliest estimated dates of commercial launch. Commercialization depends on the successful completion of such factors as research, field and clinical trials, and regulatory approvals. 2000 2001 Corn Fiber Oil This specialty oil developed through proprietary extraction and refining techniques is designed to promote cardiovascular health. It can be used as a food ingredient and dietary supplement. Feed Enzymes Feed enzymes developed through biotechnology will increase the nutritive value of animal feed. High-Myristate Oil These oils are produced from canola through biotechnology for use as butter substitutes and as raw materials for milder soap and personal care products. High-Stearate Soybean and Canola Oils These functional oils, created by modified soybean and canola plants, have healthier properties for margarines and shortenings. High-stearate oil requires no hydrogenation and, as a result, may be better for the heart. Hormone Replacement Therapy (HRT) HRT transdermal patches will increase a woman's estrogen and progesterone to premenopausal hormone levels. Insect-Protected Corn This corn is modified through biotechnology to protect itself against the corn rootworm and related insects. Leridistim (formerly Myelopoietin) This second-generation blood cell growth factor is expected to help prevent infections in cancer patients after chemotherapy. MON 48500 This herbicide is primarily for pre emergence control of broadleaf weeds and grasses in European cereals. MON 65500 MON 65500 is a fungicide for con trol of take-all disease in wheat. Roundup Ready Sugar Beets Through biotechnology, these sugar beets will tolerate Roundup for in-crop weed control. SC-69124A An injectable COX-2 inhibitor, this compound is formulated for the management of acute pain in a hospital setting. Xemilofiban An oral anti-platelet agent, xemilofiban is designed to prevent blood-clot formation after coronary angioplasty. Disease-Protected Potatoes These potatoes, developed through biotechnology, will protect themselves from fungal diseases. Eplerenone Epierenone is designed to treat high blood pressure, congestive heart failure and complications of kidney disease; it may have a more favorable side-effect profile than existing agents. Medium-Chain Fatty Acid/Medium-Chain Triglyceride Created through biotechnology, these canola plants produce oils for use in medical foods and nutrition products. Neotame Sweetener (formerly Sweetener 2000) Neotame sweetener is a new high-intensity sweetener with tabletop and commercial processing applications. -~ Orbofiban This oral anti-platelet agent is designed for long-term use in preventing secondary heart attacks and blood clotting from myocardial infarction. Promegapoietin A second-generation blood cell growth factor, promegapoietin is expected to enhance blood platelet recovery after chemother apy, which is key in preventing bleeding in cancer patients. Roundup Ready Potatoes Through biotechnology, these potatoes will offer growers the advantages of in-crop weed control with Roundup. SC-65872 This compound is a secondgeneration COX-2 inhibitor with improved potency. It also has the potential for once-a-day dosing for arthritis sufferers. SC-72393 Preclinical models indicate that this novel sleep aid may have a better safety profile than current products on the market. Second-Generation Bollgard Insect-Protected Cotton This cotton will produce a protein that fatally damages specific insect pests by using a mode of action different than the original Bollgard cotton in order to help growers manage insect-resistance concerns. 26 1997 Monsanto Annual Report TOWOLDMONO016054 2002+ Alpha-v Beta-3 Inhibitor This compound shows promise in inhibiting the growth of blood vessels that nourish cancerous tumors. Biodegradable Plastic Polymers Several plant varieties are being designed through biotechnology to produce biodegradable plastics. Boll Weevil-Protected Cotton Through biotechnology, this cotton will contain a gene that allows the plant to protect itself from the boll weevil. Carotenoids This natural pigmentation is for use in animal feed. Colored Cotton Cotton plants with genes that produce colors will reduce the need for chemical dyeing. Disease-Protected Corn Developed through biotechnology, these corn plants will resist fungal and viral diseases and offer improved yields. Disease-Protected Wheat These wheat plants developed through biotechnology will resist fungal and viral diseases and offer improved yields to growers. High Beta-Carotene Canola Oil This canola oil will contain enhanced beta-carotene levels to combat vitamin A deficiency conditions such as night blindness. Higher Yielding Corn This corn is developed through biotechnology to increase crop yields for farmers. Improved-Energy Corn Developed through biotechnology, these corn plants will supply increased energy and improved oil nutrition for animal feed products. Improved-Fiber Cotton These plants with genes that improve cotton fiber will be used to make sturdier, better quality cotton fabrics. Improved-Oil Canola These canola plants developed through biotechnology will produce oils containing DHA and other highly unsaturated fatty acids that can be used as dietary supplements and for more nutritious foods. Improved-Oil Soybeans Developed through biotechnology, these soybeans will yield improved oils that can be used to make more nutritious foods. Improved-Quality Potatoes These potatoes will have improved commercial storage properties and less discoloration caused by bruising. Improved-Protein Corn This corn modified through biotechnology for animal nutrition products will contain increased protein and a balanced amino acid profile. Improved-Solids Potatoes These potatoes are developed through biotechnology to contain less moisture, which will reduce the absorption of oil during cooking. iNOS Inhibitor This pharmaceutical compound may be useful in controlling inflammation associated with arthritis. Progenipoietin Progenipoietin is a unique protein that shows promise in stimulating the body's immune system to fight tumors. Roundup Ready Rice Through biotechnology, these rice plants will tolerate Roundup. Growers can apply Roundup herbicide over the top of Roundup Ready rice to control weeds with out affecting crop performance. the advantages of in-crop weed control with Roundup. Tifacogin (formerly Tissue Factor Pathway Inhibitor) This naturally occurring protein inhibits blood coagulation and modifies inflammatory processes. Tifacogin is currently being devel oped to treat sepsis, a potentially life-threatening condition resulting from severe infection of the blood. Ultrapure Algin This food ingredient will have biomedical applications, including the management of diabetes. 27 1997 Monsanto Annual Report Financial Section Contents Management Report Page 28 Finance Committee Report, Independent Auditors' Report Page 29 Statement of Consolidated Income Page 30 Statement of Consolidated Financial Position Page 44 Statement of Consolidated Cash Flow Page 46 Statement of Consolidated Shareowners' Equity Page SO Notes to Financial Statements Page 51 Financial Summary Paore 62 Unless otherwise indicated by the context, "Monsanto" means Monsanto Company and consolidated subsidiaries, and "the company" means Monsanto Company only. Unless otherwise indicated, "earnings per share" means diluted earnings per share. In tables, all dollars are in millions, except per share data. MANAGEMENT REPORT Monsanto Company's management is responsible for the fair presentation and consistency, in accordance with gen erally accepted accounting principles, of all the financial information included in this annual report. Where neces sary, the information reflects management's best estimates and judgments. Management is also responsible for maintaining a sys tem of internal accounting controls with the objectives of providing reasonable assurance that Monsanto's assets are safeguarded against material loss from unauthorized use or disposition and that authorized transactions are properly recorded to permit the preparation of accurate financial information. Cost/benefit judgments are an important consideration in this regard.The effectiveness of internal controls is maintained by personnel selection and training, division of responsibilities, establishment and communication of policies, and ongoing internal review programs and audits. Management believes that Monsanto's system of internal accounting controls as of Dec. 31, 1997, was effective and adequate to accomplish the objectives described above. Robert B. Shapiro Chairman and Chief Executive Officer 4//-- Robert B. Hoffman Vice Chairman and Chief Financial Officer Feb. 27, 1998 TOWOLDMONO016056 FINANCE COMMITTEE REPORT INDEPENDENT AUDITORS' REPORT The finance committee assumed the responsibilities of the audit committee as the board of directors was reorganized following the spinoff of the company's chemical businesses in 1997. After its formation in September, the committee met three times in 1997.The committee is composed of four nonemployee members of the board. As part of its duties, the committee reviews and monitors Monsanto's internal accounting controls, financial reports, accounting practices, and the scope and effectiveness of the audits performed by the independent auditors and internal audi tors. The committee also recommends to the full board of directors the appointment of Monsanto's principal inde pendent auditors, and it approves in advance all significant audit and nonaudit services provided by such auditors. As ratified by shareowner vote at the 1997 annual meet ing, Deloitte & Touche LLP was appointed independent auditor to examine, and to express an opinion as to the fair presentation of, the consolidated financial statements. This report follows. The finance committee discusses audit and financial reporting matters with representatives of the company's financial management, its internal auditors, and Deloitte & Touche. The internal auditors and Deloitte & Touche meet with the committee, with and without management repre sentatives present, to discuss the results of their examina tions, the adequacy of Monsanto's internal accounting controls, and the quality of its financial reporting. The committee encourages the internal auditors and Deloitte & Touche to communicate directly with the committee. The finance committee has reviewed the financial sec tion of this annual report. Pursuant to the recommenda tion of the committee, the board of directors has approved the financial section. To the shareowners of Monsanto Company: We have audited the accompanying statement of consoli dated financial position of Monsanto Company and sub sidiaries as of Dec. 31, 1997 and 1996, and the related statements of consolidated income, shareowners' equity and cash flow for each of the three years in the period ended Dec. 31, 1997.These financial statements are the responsibility of the company's management. Our respon sibility is to express an opinion on these financial state ments based on our audits. We conducted our audits in accordance with generally accepted auditing standards.Those standards require that we plan and perform the audit to obtain reasonable assur ance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclo sures 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, such consolidated financial statements present fairly, in all material respects, the financial position of Monsanto Company and subsidiaries as of Dec. 31, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended Dec. 31,1997, in conformity with generally accepted accounting principles. Deloitte & Touche LLP St. Louis, Missouri Feb. 27, 1998 29 1997 Monsanto Annual Report TOWOLDMONO016057 STATEMENT OF CONSOLIDATED INCOME (Dollars in millions, except per share) Net Sales Costs and expenses: Cost of goods sold Selling, general and administrative expenses Technological expenses Acquired in-process research and development Amortization of intangible assets Restructuring expenses Operating Income Interest expense Interest income Other income (expense) -- net Income from Continuing Operations Before Income Taxes Income taxes Income from Continuing Operations Discontinued Operations: Income (Loss) from discontinued operations Gain on sale of styrenics plastics business Income (Loss) from Discontinued Operations Net Income Basic Earnings (Loss) per Share: Continuing operations Discontinued operations Net Income Diluted Earnings (Loss) per Share: Continuing operations Discontinued operations Net Income The above statement should be read in conjunction with pages 51 61 of this report. Key Financial Statistics (Unaudited) As a Percent of Net Sales: Selling, General and Administrative Expenses Technological Expenses Research and Development Expenses'1* Operating Income Income from Continuing Operations Effective Income Tax Rate -- Continuing Operations "'Research and development expenses are included in total technological expenses. 30 1997 Monsanto Annual Report 1997 57,514 3,091 2,023 1,044 684 173 499 (170) 45 (8) 366 72 294 176 176 S 470 S 0.50 0.30 S 0.80 S 0.48 0.29 S 0.77 1996 $6,348 2,684 1,860 702 151 356 595 (119) 51 26 553 140 413 (28) (28) $ 385 $ 0.71 (0.05) $ 0.66 $ 0.69 (0.05) $ 0.64 1995 $5,410 2,357 1,521 601 119 114 698 (132) 57 22 645 184 461 162 116 278 $ 739 $ 0.81 0.49 $ 1.30 $ 0.79 0.48 $ 1.27 1997 27% 14 12 7 4 20 1996 29% 11 10 9 7 25 1995 28% 11 10 13 9 29 TOWOLDMON0016058 REVIEW OF CONSOLIDATED RESULTS OF OPERATIONS Monsanto Achieves Record Results, Excluding Unusual Charges In 1997, Monsanto Company achieved record results, if unusual items were excluded, and sharpened its focus on life sciences following the spinoff of its chemical businesses on Sept. 1, 1997. As a life sciences company, Monsanto has focused its efforts in three areas -- agricul ture, nutrition and health. Income from continuing opera tions totaled S294 million, or $0.48 per share, in 1997. Results included aftertax charges of $455 million, or $0.75 per share, for write-offs of in-process research and development (R&D) related to strategic acquisitions. If these unusual write-offs were excluded, income from con tinuing operations would have totaled a record $749 mil lion, or a record Si .23 per share.The company's core businesses delivered strong results in 1997, as sales of key products continued to grow. Monsanto also made several strategic acquisitions, investments and alliances in 1997 to strengthen the core capabilities necessary to be the first to invent important new life sciences products and bring them to customers worldwide. Net Sales Set Record Net sales were a record $7.5 billion in 1997, topping last year's net sales of S6.3 billion by 18 percent. The increase came primarily from continued strong performances by the Agricultural Products and Pharmaceuticals segments. Net sales for Agricultural Products set another record in 1997, led by significant sales volume increases for the family of Roundup herbicides. Increases in the use of con servation tillage; increases in over-the-top applications of Roundup on Roundup Ready soybeans, cotton and canola; and an increase in the acres of major row crops planted worldwide drove sales of Roundup herbicide to a new high. The increase in 1997 net sales for the Agricultural Products segment also reflected the inclusion of sales from Asgrow Agronomics, a seed company Monsanto acquired in 1997. Higher sales volumes of Posilac bovine soma totropin and Harness herbicide also contributed to the sales growth. In addition, net sales benefited from increased demand for crops developed through biotech nology, including Roundup Ready soybeans, cotton and canola, Bollgard insect-protected cotton and YieldGard insect-protected corn. Net sales for the Pharmaceuticals segment also reached record levels, increasing $412 million, or 21 percent, from 1996 net sales. The increase is attributable primarily to higher sales volumes of Ambien short-term treatment for insomnia and Daypro and Arthrotec arthritis treat ments. Sales of these key growth products grew 26 per cent from sales in the prior year. Sales also benefited from licensing revenues of S75 million related to a collabora tive partnership, and from sales of product rights, which totaled Si 17 million. Lower sales of verapamil calcium channel blockers partially offset these increases. Sales for the family of Calan calcium channel blockers continued to decline, but that decrease was partially offset by growing sales of Covera-HS, Searle's newest verapamil product. Sales for the Corporate and Other segment in 1997 increased significantly compared with year-ago sales, primarilvJ because of th^ e inclusion in 1997 of sales from the produce business of Calgene Inc. Monsanto acquired a controlling interest in Calgene in November 1996. Prior to that time, Calgene was accounted for as an equityaffiliate, and its results were not consolidated. Lower net sales for the Nutrition and Consumer Products segment partially offset the sales increases in the other segments. Nutrition and Consumer Products' sales declined 3 percent in 1997 vs. sales in 1996 primari ly because of lower sales volumes of Equal and Canderel tabletop sweeteners.These decreases were partially offset by higher sales volumes of biogums and Roundup herbicide for lawn-and-garden use. Sales of NutraSweet, the com pany's trademark aspartame product, were essentially flat compared with sales in the prior year. Monsanto's net sales in markets outside the United States represented 44 percent of 1997 net sales, compared with 45 percent in 1996. An analysis of the company's sales change, along with comparative data, follows: Sales Analysis Selling prices Sales volumes and mix Acquisitions and pharmaceutical product rights sales and licensing revenues Total Change 1997 1996 (3)% (2)% 9 17 12 2 18% 17% Events Affecting Operating Comparability During 1997, Monsanto acquired several seed companies specializing in various stages of seed production. These acquisitions included Asgrow, a global leader in soybean research and seeds; Holden's Foundation Seeds Inc., a global leader in the development and growth of corn germplasm and a supplier of parent seed to retail seed companies; Corn States Hybrid Service Inc., the exclusive marketer and distributor for Holden's products; and Sementes Agroceres S.A., the leading seed corn company in Brazil. Monsanto also acquired the remaining interest in Calgene, which has done significant biotechnology research in oils, cotton and produce. The company recorded pretax charges of S684 million ($455 million aftertax, or $0.75 per share) for the write off of acquired in-process R&D related to these acquisi tions. This is an accounting treatment that values and 31 1997 Monsanto Annual Report TOWOLDMONO016059 REVIEW OF CONSOLIDATED RESULTS OF OPERATIONS (continued) immediately writes off research that is under way at the time of an acquisition but that has not resulted in com mercial products and has no alternative future use. In December 1996, the board of directors approved pretax restructuring charges and other unusual items of $376 million ($257 million aftertax, or $0.43 per share) for the closure or rationalization of certain facilities, asset write-offs, and work force reductions. Approximately 940 of the 1,520 positions expected to be eliminated by the restructuring had been eliminated by the end of 1997. Without the unusual events in 1997 and 1996, income from continuing operations would have been $749 million for 1997, an increase of 12 percent from $670 million for the prior year. Earnings per share from continuing operations in 1997 would have been $1.23 vs. $1.12 for 1996, an increase of 10 percent. Operating Results Increase, If Unusual Items Are Excluded Operating income totaled $499 million in 1997, $96 mil lion, or 16 percent, lower than operating income of $595 million in 1996. If the net pretax unusual charges of $684 million in 1997 and $407 million in 1996 were excluded, operating income would have increased $ 181 mil lion, or 18 percent, in 1997. The increase primarily resulted from higher sales volumes, licensing revenues and sales of product rights. These increases were partially offset by increased selling, general and administrative (SG&A) expenses and higher technological spending. If unusual charges in 1997 and 1996 were excluded from segment results, operating income would have increased in 1997 for both the Agricultural Products and Pharmaceuticals segments. The increase in operating income for Agricultural Products was driven by record sales, partially offset by increased SG&A expenses and technological spending. Selling expenses for Agricultural Products rose primarily because of higher selling expenses from seed companies Monsanto acquired in 1997. The seg ment's technological expenses rose principally because of higher spending on crop biotechnology initiatives and the inclusion of expenses from the acquired seed companies. The increase in operating income for the Pharmaceuticals segment resulted from higher sales volumes of key prod ucts, licensing revenues, and sales of product rights, partially offset by increased selling and technological expenses. SG&A expenses for Pharmaceuticals were higher because of an expansion in the sales force and because of preparations for new product launches in 1998.The segment's technological expenses increased markedly as new product candidates advanced to later, more expensive phases of development. If unusual items were excluded, operating income for the Nutrition and Consumer Products segment would have declined in 1997, primarily because of lower sales volumes of tabletop sweeteners and increased technological spending. Technological expenses for Nutrition and Consumer Products rose principally because of the continuing devel opment of a new no-calorie sweetener called neotame. Total SG&A expenses increased $163 million, or 9 per cent, in 1997 compared with expenses in 1996, principally because of the spending increases in the Agricultural Products and Pharmaceuticals segments.Total technologi cal expenses increased $342 million, or 49 percent, com pared with those in 1996.Technological expenses rose for all segments, as Monsanto's focus on developing new products continued. Amortization of intangible assets increased in 1997 compared with amortization in the prior year, principally because of the increase in intanOgible assets related to current-year seed company acquisitions. The increase in inter est expense in year-to-year comparisons was caused by a greater amount of debt outstanding during 1997. If $ 31 mil lion of unusual income in 1996 were excluded, "Other income (expense) -- net" would have shown a small decline in 1997.This decrease was caused by significantly higher exchange losses partially offset by increased income from equity affiliates, primarily from European aspartame joint ventures and DEKALB Genetics Corp.Thc currency exchange losses stemmed primarily from southeast Asia, particularly Indonesia and Malaysia. The 1997 effective tax rate of 20 percent was lower than the 1996 effective tax rate of 25 percent, primarily because of the decrease in pretax income, which gave tax benefits a greater relative effect in 1997. II the unusual items in 1997 and 1996 were excluded, the effective tax rate would have been 29 per cent in 1997 vs. 28 percent in 1996. Cost Savings Continue In prior years, Monsanto took steps to make worldwide operations more focused, productive and cost-effective. The effect of these actions benefited operating income by more than $400 million in 1997.The company invests the savings in its core businesses, new product development, and strategic acquisitions and investments to enhance its long-term profitability. These savings are in line with origi nal expectations, and they are expected to continue. Business redesign and other productivity efforts have yielded significant benefits as well.These initiatives will continue as the company responds to increased global competition and higher customer expectations. 32 1997 Monsanto Annual Report TOWOLDMONOOI6O6O REVIEW OF CONSOLIDATED RESULTS OF OPERATIONS (continued) Development and Commercialization of New Products Are Priorities New product development and commercialization con tinue to be strategic priorities For Monsanto. Recent efforts include insect-protected and herbicide-tolerant crops, a novel arthritis treatment, and a new sweetener. Monsanto's R&D expenditures were $939 million in 1997, or 12 percent of net sales, a level that reflects management's strong, long-term commitment to R&D. The discovery and development of pharmaceutical, agri cultural and science-based nutritional products continue to be the focus of most of these expenditures. Significant R&D efforts in existing product technologies and new product applications also continue across all business sec tors. Additionally, Monsanto's research program includes new technologies and proprietary information obtained through licensing and strategic acquisitions. As a result, Monsanto has numerous products in the R&D pipeline. Many of them are expected to be commercialized in the next few years. Prior Year Review Income from continuing operations in 1996 totaled $41 3 million, or $0.69 per share, vs. $461 million, or $0.79 per share, in 1995. Both years' results, however, were affected by unusual events. In December 1996, the company recorded pretax restructuring charges associated with the closure or rationalization of certain facilities, asset write-offs, and work force reductions totaling $376 million ($257 million aftertax, or $0.43 per share). In December 1995, the company recorded a pretax restructuring charge of Si 14 million ($78 million after tax, or $0.13 per share) to cover the costs of work force reductions, business consolidations, facility closures, and the exit from nonstrategic businesses and facilities. The company also recorded approximately $20 million in favorable pretax adjustments (Si 3 million aftertax, or $0.02 per share) under certain sales rebate programs for product sales made in prior years, and approximately $4 million ($2 million aftertax, or less than $0.01 per share) in insurance settlements. Without the unusual events in 1996 and 1995, income from continuing operations would have been $670 mil lion for 1 996, compared with S524 million for the prior year, an increase of 28 percent. Earnings per share from continuing operations would have been S1.1 2 in 1996, a 24 percent increase from comparable 1 995 results of $0.90 per share. Net sales for 1996 were $6.3 billion, up 5938 million, or 17 percent, from sales in 1995 of $5.4 billion.The Agricultural Products, Nutrition and Consumer Products, and Pharmaceuticals segments all contributed to the increase, primarily because of higher sales volumes. The effects of lower average selling prices, particularly for the Agricultural Products segment, partially offset the increase in net sales. Net sales for Agricultural Products in 1996 increased 20 percent from those in 1995 to $2.6 billion.This increase was primarily the result of higher worldwide sales volumes for the family of Roundup herbicides. Most world areas posted solid sales volume gains in 1996. Continued increases in conservation tillage practices, favorable weather conditions in certain key markets, and an increase in planted acreage drove the increased demand. Higher sales of Posilac bovine somatotropin also contributed to the sales increase. Net sales for the Nutrition and Consumer Products segment increased in 1996, principally on the strength of higher sales volumes of NutraSweet brand sweetener, tabletop sweeteners, biogum products, and lawn-andgarden products. The increase in net sales for Pharmaceuticals can be attributed to sales of key products, principally Ambien short-term insomnia treatment and Daypro and Arthrotec arthritis treatments. In addition, sales from the women's health care product lines acquired from Syntex in the third quarter of 1995 contributed to the growth. Lower sales for the family of Calan calcium channel blockers partially offset the sales increase. Operating income in 1996 was $595 million, $ 103 mil lion lower than operating income in 1995. If the net pre tax restructuring charges and unusual items of $407 million in 1996 and $90 million in 1995 were excluded, operating income would have increased approximately $214 million, or 27 percent, in 1996.This significant increase in operat ing income was related principally to higher sales volumes and an improved gross profit.The increase in gross profit was primarily because of an improved sales mix from an increased percentage of higher margin Agricultural Products and Pharmaceuticals sales. SG&A expenses in 1996 increased, primarily because of higher sales and new product launches for Agricultural Products and Pharmaceuticals, higher costs associated with employee incentive programs, and increased spending on growth initiatives. Technological expenses rose because of higher R&D expenses in the Agricultural Products and Pharmaceuticals segments. Cost sharing payments from pharmaceutical alliances partially offset this increase. If the effect of unusual charges were excluded, 1996 amortization of intangible assets would have increased from amortization in 1995, primarily because of the increase in intangible assets associated with current-year investments and acquisitions in biotechnology businesses. If one-time charges were excluded, "Other income (expense) -- net" would have decreased, principally because of lower income from equity affiliates. 33 1997 Monsanto Annual Report TOWOLDMONO016061 REVIEW OF CONSOLIDATED RESULTS OF OPERATIONS (continued) Analysis of Change in Earnings per Share from Continuing Operations Sales-Related Factors: Selling prices Sales volumes and mix Pharmaceutical product rights sales and licensing revenues Total Sales-Related Factors BETTER (WORSE) 1997 vs. 1996 vs. 1996 1995 $(0.23) 0.66 0.14 0.57 $(0.16) 0.74 0.58 Cost-Related Factors: Raw material and manufacturing costs Selling, general and administrative expenses Technological expenses Amortization of intangible assets Total Cost-Related Factors (0.07) (0.03) (0.33) -- (0.43) 0.18 (0.38) (0.18) (0.01) (0.39) Other Factors: Change in shares outstanding Acquisitions and divestitures Other expenses -- net Total Other Factors (0.03) -- -- (0.03) (0.02) 0.09 (0.04) 0.03 Change in earnings per share before unusual factors Unusual factors Change in Earnings.per Share from Continuing Operations 0.11 (0.32) 0.22 (0.32) $(0.21) $(0.10) 34- 1997 Monsanto Annual Report SEGMENT DATA Agricultural Products Nutrition and Consumer Products Pharmaceuticals Corporate and Other Total 1997 S3,126 NET SALES 1996 $2,555 1,535 2,407 446 57,514 1,581 1,995 217 $6,348 1995 $2,134 1,371 1,711 194 $5,410 OPERATING CONTRIBUTION1" 1997 1996 5 762 $ 639 1995 $508 304 340 (142) 51,264 338 223 (124) $1,076 294 144 (84) $862 OPERATING INCOME (LOSS)'21 1997 1996 5 112 $520 1995 $478 211 318 (142) 5 499 193 79 (197) $595 186 132 (98) $698 Agricultural Products Nutrition and Consumer Products Pharmaceuticals Corporate and Other Discontinued Operations Total TOTAL ASSETS 1997 1996 1995 S 4,520 $ 3,007 $ 2,329 2,646 2,856 752 510,774 2,635 2,391 581 2,623 $11,237 2,653 2,619 375 2,755 $10,731 CAPITAL EXPENDITURES 1997 1996 1995 5341 $280 $135 82 98 72 190 89 78 31 33 16 5644 $500 $301 DEPRECIATION AND AMORTIZATION 1997 1996 1995 5208 $153 $142 118 125 119 136 130 127 25 15 17 5487 $423 $405 Operating contribution is operating income excluding goodwill amortization and the effect of restructuring and other unusual items. (2) Operating income was affected by research and devel opment write-offs in 1997 and by restructuring and other unusual items in 1996 and 1995 as follows: Segment Agricultural Products Nutrition and Consumer Products Pharmaceuticals Corporate and Other Total INCOME (EXPENSE) 1997 1996 1995 5(633) $(106) $(17) (51) 5(684) (103) (125) (73) $(407) (66) 7 (14) $(90) In 1 997, Monsanto redefined its segments. Segment infor mation for 1996 and 1995 has been restated to conform to the current presentation. Although inflation is relatively low in most of Monsanto's major markets, it continues to affect operating results. To mitigate the effect of inflation, Monsanto has implemented measures to control costs, to improve productivity, to manage new fixed and working capital, and to raise selling prices when government regulations and 1997 Net Sales Percent by segment competitive conditions permit. In addition, the current costs of replacing certain assets are esti mated to be greater than the his torical costs presented in the financial statements. Accordingly the depreciation expense reportc in the Statement of Consolidated Income would be greater if it were stated on a current-cost basis. Sales among segments were not significant. Certain corporate Agricultural Products * Nutrition and Consumer Products a Pharmaceuticals Corporate and Other expenses, primarily those related to the overall management of Monsanto, were not allo cated to the segments or geographic areas. Corporate assets are primarily investments in affiliates and a portion of the cash balance. The principal factors that accounted for the segments' performances in 1997 and 1996, along with the factors that are expected to affect operating results in the near term, are described on the following pages. 35 1997 Monsanto Annual Report TOWOLDMONO016063 AGRICULTURAL PRODUCTS 1997 Net Sales Operating Contribution*1* Operating Income Total Assets Capital Expenditures Depreciation and Amortization S3,126 762 112 4,520 341 208 1996 $2,555 639 520 3,007 280 153 1995 $2,134 508 478 2,329 135 142 (l) Operating contribution is operating income excluding goodwill amortization and the effect of restructuring and other unusual items. The Agricultural Products segment is a leading worldwide developer, producer and marketer of crop protection products. This group also develops and markets products enhanced fay biotechnology. These products improve the efficiency of food production and preserve environmental quality for agricul tural and industrial uses. More than half of the unit's herbicide net sales are made outside the United States. Weather condi tions in agricultural markets worldwide affect sales volumes. Net sales for Agricultural Products totaled a record $3.1 billion in 1997, surpassing the 1996 record by $571 million, or 22 percent.The increase in net sales was fueled by higher worldwide sales volumes for the family of Roundup herbicides, led by strong sales in Brazil, Argentina and the United States. Sales volumes of Roundup herbicide were driven to a new Agricultural high by increases in the use of Products conservation tillage, an increase Net Sales in the acres of major row crops Dollars in millions planted worldwide, and applica 4,000 tions of Roundup on Roundup Ready soybeans, cotton and canola. Selling price reductions, 3,000 principally in markets outside the United States, made Roundup more cost effective for weed con 2,000 trol in a broader range of crop * T1,000 mm 95 96 97 Rest of World Europe and Africa United States and industrial uses. The effect of generic competition, especially in certain foreign markets, damp ened selling prices modestly. However, the effect of increased sales volumes more than offset the effect of lower selling prices. Sales from seed companies Monsanto acquired in 1997, particularly Asgrow Agronomics, also added to sales. Net sales for the Agricultural Products segment also bene fited from record sales of Posilac bovine somatotropin, which increased 25 percent from sales in the prior year; increased demand for crops developed through biotech nology, including Roundup Ready soybeans, cotton and canola, Bollgard insect-protected cotton and YicldGard insect-protected corn; and higher sales volumes of acetanilide-based herbicides, particularly Harness herbicide. Operating income for Agricultural Products in 1997 decreased $408 million from operating income in 1996, while operating contribution increased $ 1 23 million, or 19 percent. Operating income was affected by unusual items in both years. In 1997, operating income included $633 million of pretax charges for the write-off of in process research and development (R&D), primarily associated with the acquisitions of Asgrow, Calgene Agricultural Products Operating Measures Dollars in millions boo I Inc.'s cotton business, Holden's Foundation Seeds Inc. and Sementes Agroceres S.A. In 1996, the 600 unusual items included $ 106 mil lion in charges for restructuring and other actions, principally related to the cost of work force reductions. If these unusual items in 1997 and 1996 were excluded, operating income for Agricultural Products would have increased $ 119 million, or 19 percent, in year-to-year comparisons. Higher Operating Contribution Operating Income sales volumes and increased licens ing fees from biotechnology products contributed to the increase.These positive effects were partially offset by increased operating expenses. Selling, general and admin istrative (SG&A) expenses increased primarily because of higher selling expenses from the seed companies Monsanto acquired in 1997.Technological expenses grew primarily because of higher spending on crop biotechnology initiatives and the inclusion of seed company expenses. Amortization of intangible assets rose principally because of the acquisition of Holden's. Prior Year Review Net sales for Agricultural Products in 1996 were 20 percent higher than 1995 net sales. Operating income increased 9 percent from that in 1995. The increase in operating income was affected by unusual items in both 1996 and 1995. In 1996, the unusual items included $ 106 million in charges for restructuring and other actions, principally related to the cost of work force reductions. In 1995, unusual items included $17 million in restructuring charges and other actions for facility clo sures and the cost of work force reductions. If unusual items in 1996 and 1995 were excluded, 1996 Agricultural Products' operating income would have increased $131 million, or 26 percent. 36 1997 Monsanto Annual Report TOWOLDMONO016064 AGRICULTURAL PRODUCTS (continued) The increase in net sales was primarily because of higher worldwide sales volumes for the family of Roundup herbi cides. Most world areas posted solid sales volume stains in 1996.The increased demand was attributed to contin ued increases in conservation tillage practices, favorable weather conditions in key markets, and an increase in planted acreage. Selling price reductions, principally in markets outside the United States, made Roundup cost effective for weed control in a broader range of crop and industrial uses. The effect of generic competition, especially in certain foreign markets, dampened selling prices mod estly. However, the effect of increased sales volumes on operating income exceeded the effect oflower selling prices. Higher sales volumes of Harness herbicide also con tributed to the 1996 sales increase. Net sales in 1996 bene fited from higher sales of Posilac bovine somatotropin. In addition, successful introductions of new products, such as Roundup Ultra herbicide, Roundup Ready soybeans and Bollgard insect-protected cotton, helped fuel sales growth. In addition to the effect of sales volume increases, 1996 operating contribution and operating income bene fited from lower manufacturing costs. The effects of higher sales volumes and lower manufacturing costs were partially offset by higher selling expenses for new product introductions and by higher R&D spending for biotechnology projects. OUTLOOK Agricultural Products Monsanto's family of Roundup herbicides continues to face competition from generic producers in certain markets outside the United States. Patents protecting Roundup in various countries expired in 1991. Compound per se patent protection for the active ingredient in Roundup herbicide continues in the United States through the year 2000. Management expects technologi cal breakthroughs in manufacturing processes and for mulation advancements, as well as rapidly expanding production capacity, to continue to improve Monsanto's cost position and to help maintain its leadership position. Significant growth potential remains for Roundup in con servation tillage applications worldwide, and in the intro duction of crops that tolerate Roundup. Seven biotechnology-related plant sciences products were marketed during 1997: Roundup Ready canola, cot ton and soybeans; corn, cotton and potatoes protected from certain insects; and cotton that is both insect-pro tected and Roundup Ready. These products were devel oped by Monsanto either alone or in partnership with biotechnology and seed production companies. Market acceptance has been strong; volumes for each of these products are expected to increase in 1998. Management also expects that a significant number of new herbicides and biotechnology-related products currently in the R&D pipeline will be commercialized worldwide in the next few years. As a result, increased technological and product-launch expenses are expected in the next few years. Monsanto continues its efforts to address concerns of government regulators, public interest groups and consumers, particularly in Europe. Such concerns are not uncommon as new technologies are commercialized. The company also is involved in intellectual property disputes with several parties. Management expects that such disputes will continue to occur as the agricultural biotechnology industry evolves. As discussed in the Notes to Financial Statements beginning on page S1, Monsanto made several strategic acquisitions of agricultural seed companies in 1997. The company completed the acquisition of Asgrow in February. In September, Monsanto completed the acqui sitions of Holden's and Corn States Hybrid Service Inc. In December, the company acquired a controlling inter est in Agroceres. It's anticipated that Monsanto will make additional alliances and collaborations with, and acquisi tions of, other seed companies to enhance its ability to bring new products to market and to gain worldwide distribution of its numerous agricultural products cur rently being marketed or in the product pipeline. 37 1997 Monsanto Annual Report TOWOLDMONO016065 NUTRITION AND CONSUMER PRODUCTS 1997 Net Sales Operating Contribution*1* Operating Income Total Assets Capital Expenditures Depreciation and Amortization SI,535 304 211 2,646 82 118 1996 $1,581 338 193 2,635 98 125 1995 $1,371 294 186 2,653 72 119 (,) Operating contribution is operating income excluding goodwill amortization and the effect of restructuring and other unusual items. The Nutrition and Consumer Products segment manufactures and markets sweeteners (including NutraSweet brand sweet ener and Equal and Canderel tabletop sweeteners), alginates, biogums and other food ingredients. It also develops, pro duces and markets Ortho brand lawn-and-garden products, and Roundup herbicide for residential use. Net sales for the Nutrition and Consumer Products segment declined 3 percent in 1997 from sales in 1996 primarily because of lower sales volumes of tabletop sweeteners. The sales decrease was caused by a continued decline in market share in the United States and Europe because of lower-priced generic competition, as well as a decline in the overall U.S. grocery market for tabletop sweeteners. Sales of NutraSweet, the company's trademark aspartame product, were essentially flat compared with sales in the prior year. Higher sales volumes of biogums and lawn-and-garden products Nutrition and Consumer Products Operating Measures Dollars in millions 800 partially offset the tabletop sweet ener sales decreases. Biogum sales grew 14 percent because of record customer demand.The increase in lawn-and-garden sales resulted from higher sales of Roundup for residential use, partially offset by lower sales of the Ortho line of 600 products. A global initiative imple mented at the end of 1996 boosted sales of Roundup for residential use 400: in 1997, despite poor weather in several key markets. 200 ffW 95 96 97 Operating Contribution Operating Income Operating income for the Nutrition and Consumer Products segment in 1997 increased 9 per cent from 1996 operating income, while operating contribution declined 10 percent. Unusual items affected operating income in both years. Operating income in 1997 included S 51 million in pretax charges for in-process research and development related to the acquisition of Calgene Inc.'s oils business. In 1996, operating income included restructuring charges of S 103 million, principally for the cost of work force reductions and facility rationaliza tions. If these unusual items were excluded, 1997 operat ingO income for the Nutrition and Consumer Products segment would have totaled $262 million, an 11 percent decline from 1996 operating income of $296 million. The decrease was caused primarily by lower sales volumes of tabletop sweeteners and increased technological spend ing related to the development of a new no-calorie sweet ener, called neotame, and other nutrition products. These effects were partially offset by lower selling expenses. Prior Year Review In 1 996, net sales for the Nutrition and Consumer Products segment increased IS percent from 1995 net sales. Results in 1996 included a full year of sales from the Kelco business acquired in February 1995. In addition, the sales increase resulted from higher sales of NutraSweet brand sweetener, the company's trademark aspartame product, and higher sales volumes of tabletop sweeteners. Higher sales of tabletop sweeteners were driven by increased spending on advertising and promotion. Most of the volume increment for tabletop sweeteners came from international markets. Higher sales volumes of biogum products and increased sales of lawn-and-garden products also contributed to the sales increase. Operating income for 1996 increased 4 percent from the previous year's level primarily because of higher sales and lower manufacturing costs. The effect of higher sales and lower manufacturing costs was partially offset by higher advertising and promotion costs for tabletop sweeteners, higher administrative expenses associated with growth initiatives, and other costs. In addition, cer tain unusual items affected earnings in both years. In 1996, operating income included restructuring charges of S103 million, principally for the cost of work force reductions and facility rationalizations. Operating income in 1995 included $66 million in restructuring charges, primarily to exit a production facility and to effect work force reductions. If these unusual items were excluded, 1996 operating results for the Nutrition and Consumer Products segment would have increased 17 percent com pared with 1995 results. 38 1997 Monsanto Annual Report TOWOLDMONOOI6O66 NUTRITION AND CONSUMER PRODUCTS (continued) OUTLOOK Nutrition and Consumer Products In January 1998, Monsanto announced that it was con sidering alternatives -- including partnerships, restruc turings, divestitures or joint ventures -- for several of its businesses, as part of its effort to focus on growth opportunities in life sciences. Alternatives for the lawnand-garden business currently are being considered. Worldwide demand for aspartame continues to increase. Monsanto is maintaining its leading market share of aspartame sales while pursuing growth opportu nities. Monsanto's NutraSweet brand aspartame has several competitive advantages, including a low-cost position and superior quality. Monsanto successfully implemented a price increase for its aspartame in the fourth quarter of 1997. Other sweeteners also compete with Monsanto's NutraSweet brand sweetener in markets outside the United States. These sweeteners are currently being reviewed by the U.S. Food and Drug Administration (FDA). FDA approval of these competitive products could affect Monsanto's future sales of NutraSweet. Increased competition from lower-priced generic producers of tabletop sweeteners, a declining U.S. grocery market for tabletop sweeteners, and increased competition in Europe may adversely affect future sales and profits from tabletop sweeteners. However, Monsanto introduced two lower priced sweetener prod ucts in 1997 in the United States that could enhance its market share. In December 1997, Monsanto filed a limited-use food additive petition with the FDA for approval of a new no calorie sweetener called neotame. By the end of 1998, the company plans to file a petition with the FDA to approve neotame as a general-purpose sweetener for use in any food or beverage product. Neotame is approximately 8,000 times sweeter than sugar, and Monsanto has exclusive rights to patents covering the product, its manufacturing processes and its uses in food and beverages. The company's alginates and biogums hold strong positions in their food ingredients markets. Although biogums face increased competition in certain industrial applications, the effect has not been significant. PHARMACEUTICALS 1997 Net Sales Operating Contribution*l( Operating Income Total Assets Capital Expenditures Depreciation and Amortization 52,407 340 318 2,856 190 136 1996 $1,995 223 79 2,391 89 130 1995 $1,711 144 132 2,619 78 127 (I* Operating contribution is operating income excluding goodwill amortization and the effect of restructuring and other unusual items. The Pharmaceuticals segment reflects the operations of Searle. Searle develops, produces and markets prescription pharmaceuticals. Its major products include medications to relieve the symptoms of arthritis, to control high blood pres sure, to relieve insomnia, to prevent the formation of ulcers, and to provide better health care for women. In 1997, net sales for Pharmaceuticals grew to a record $2.4 billion, S412 million, or 21 percent, higher than 1996 net sales. Higher sales volumes of Ambien short-term treat ment for insomnia, and Daypro and Arthrotec arthritis treat ments contributed nearly $ 170 million to the sales increase. Ambien continued to be the leader in the U.S. sleep-aid market. Its sales rose 31 percent in 1997, and its market share increased to SO percent. Dajpro and Arthrotec also gained market share, with increased sales of 20 percent Pharmaceuticals and 25 percent, respectively. Net Sales Segment net sales also benefited Dollars in millions from licensing revenues of $75 million related to a collabo 4,000 rative partnership and from sales of product rights totaling 3,000 $ 117 million. Lower sales of ver apamil calcium channel blockers partially offset these increases. 2,000 Sales for the family of Calan cal cium channel blockers continued to decline, but the decrease was partially offset by growing sales of Covera-HS, introduced in 1996 as the first calcium channel blocker with a unique delivery system that provides 24 hours fT1,000 SB 96 97 Rest of World rj Europe and Africa United States of blood pressure control. 39 1997 Monsanto Annual Report TOWOLDMONOQ16067 PHARMACEUTICALS (continued) Operating income for the Pharmaceuticals segment totaled $318 million in 1997, compared with $79 million in 1996. However, 1996 operating results included $ 1 25 million in restructuring and other unusual charges. Operating income would have increased $ 114 million, or 56 percent, in 1997, if the unusual items were excluded from 1996 operating income. The improvements in operating income and operating contribution primarily resulted from higher sales volumes of key products, licensing revenues and sales of product rights. Increased technological and selling expenses Pharmaceuticals Operating Measures Dollars in millions 800 partially offset the strong sales growth.Technological spending rose in 1997, as new product can didates advanced to later, more expensive phases of development. At the end of 1997, the following five new product candidates were 600 in Phase III clinical trials, the final stage before submission for regula tory approval: Celebra, Searle's pro 400 posed trademark for celecoxib, an 200 _ 1 J arthritis treatment that is designed to treat arthritis and pain selec tively without gastrointestinal side r 9 Operating Contribution Operating Income effects; xemilofiban and orbofiban, drugs for the treatment of cardio vascular conditions; daniplestim, a compound that stimulates the replenishment of white blood cells and platelets in chemotherapy patients; and HRT patches, hormone replacement therapy for menopausal symptoms. Technological expenses increased in year-to-year comparisons also because of an absence of cost-sharing payments from alliances and licensing agreements in 1997 compared with the level of such payments in 1996. Selling expenses rose in 1997 because of an expansion in Searle's sales force and new product launch preparations. The product launch prepara tions primarily were related to oxaprozin potassium and Arthrotec arthritis treatments, both of which will be intro duced in the United States in 1998. Searle's investment in research and development (R&D) continues to be significant. R&D expenditures were 24 percent of the segment's net sales in 1997 and 22 percent in 1996, if cost-sharing payments from alliances in 1996 were excluded. Future R&D spending also is expected to be significant. This investment reflects the segment's commitment to the continuing discovery and development of innovative new products. Prior Year Review Net sales for the Pharmaceuticals segment in 1996 were $2 billion, or 17 percent, higher than net sales in 1995. The sales growth was fueled by higher sales volumes, led by strong performances from Daypro and Arthrotec arthri tis treatments and from Ambien, a short-term treatment for insomnia. In 1996, sales of these products increased 39 percent from sales in the prior year. In total, these key products contributed approximately $660 million to 1996 net sales. Sales and earnings growth also benefited from the women's health care product lines acquired from Syntex in September 1995. The 1996 net sales increase for Pharmaceuticals was partially offset by lower sales for the family of Calan calcium channel blockers. Sales in 1995 included the effect of approximately $20 million in favorable adjustments under certain sales rebate programs in the United States for products sold in prior years. Operating income for Pharmaceuticals decreased from the 1995 results by 40 percent. However, operating results in 1996 and 1995 were affected by unusual items. Operating income in 1996 included $125 million in restructuring and other actions, principally related to the cost of work force reductions and facility rationaliza tions. Operating income in 1995 included a $13 million charge for restructuring, principally related to work force reductions and other actions. Operating results in 1995 also reflected the aforementioned $20 million in favorable sales adjustments. If the effect of these unusual items were excluded, operating income would have been $204 million in 1996 and Si25 million in 1995.The significant improve ment in operating income in 1996 was primarily the result of higher sales volumes. Increased expenditures for mar keting and product development costs were offset, in part, by higher cost-sharing payments from alliances and licensingO aOgreements. 40 1997 Monsanto Annual Report TOWOLDMONO016068 PHARMACEUTICALS (continual) OUTLOOK Pharmaceuticals Ambien, a short-term treatment for insomnia, continues as the leader in the hypnotic market with a SO percent share of total prescriptions. Ambien is licensed to a joint venture in which Searle is a general partner. Under the joint venture agreement, Searle's share of profits will be reduced from 90 percent to S1 percent in November 1999. In addition, the other joint venture partner has the right to purchase all or part of Searle's interest beginning in December 1999. In December 1997, Searle received clearance from the U.S. Food and Drug Administration (FDA) to market Arthrotec, the first arthritis therapy that combines a non steroidal anti-inflammatory drug (NSAID) and an ulcer preventive drug to protect the stomach lining against gastrointestinal ulcers. The company's presence in the arthritis market will be strengthened by the continued growth of Daypro, Searle's leading treatment for arthritis, and the anticipated 1998 U.S. introductions of Arthrotec and oxaprozin potassium -- a formulation that acts to relieve pain and inflammation. Condrotec, a combination NSAID and ulcer preventive drug to treat arthritis, will be introduced in 1998 in the United Kingdom. In addi tion, Celebra, a product that is designed to treat arthritis and pain selectively without gastrointestinal side effects, is scheduled to complete Phase III clinical trials in 1998. Searle also expects to file a registration application for Celebra with the FDA in 1998. Corera-HS, Searle's newest verapamil product, was introduced in Brazil and Mexico during 1997 and in Canada in January 1998. Registration applications are being submitted in various European and Asia-Pacific markets as well. In the United States, generic competi tion and continuing controversy following the results of a study about the use of calcium channel blockers may continue to negatively affect the sale of all calcium channel blockers, includingO Searle's Calan and Covera-HS. Drugs being developed for the treatment of cardiovascular conditions include xemilofiban and orbofiban, two anti platelet aggregation product candidates in Phase III clinical trials that act as agents to inhibit blood clotting; tifacogin (formerly tissue factor pathway inhibitor, orTFPI), for sepsis; and eplerenone for congestive heart failure, high blood pressure and the complications of kidney disease. Also in development are four adjunctive therapies for the oncology market: daniplestim, leridistim (previ ously called myelopoietin), promegapoietin and progenipoietin. These compounds are being developed to stimulate the replenishment of white blood cells and platelets in chemotherapy patients. Daniplestim is currently in Phase III clinical trials. The other three therapies are in earlier stages of development. Management expects technological expenses and sell ing expenses to increase in the next few years as Searle continues its commitment to discovering and developing new products and as it commercializes products now in the R&D pipeline. In December 1997, Searle formed an alliance withYamanouchi Pharmaceutical Co. Ltd. to develop and commercialize key pipeline products in Japan. Searle also forged a collaboration with Pfizer Inc. in early 1998 to co-promote celecoxib. Management expects that other pharmaceutical alliances will be formed to offset some of the costs associated with devel oping and marketing pharmaceuticals, to accelerate product development, and to broaden the geographic reach of many Searle products as they are commercial ized during the next several years.These alliances could result in increased licensing revenues. Corporate and Other The Corporate and Other segment comprises various smaller businesses, as well as certain corporate items that are not allocated to the segments. Segment sales increased significantly in 1997 compared with sales in 1996, primari ly because of the inclusion in 1997 of sales from Calgene Inc.'s produce business. Monsanto acquired a controlling interest in Calgene in November 1996. Before that time, Calgene was accounted for as an equity affiliate, and its results were not consolidated. If unusual items of S73 mil lion in 1996 were excluded, the 1997 operating loss for the Corporate and Other segment would have increased S 1 8 million, primarily because of increased technological spending related to genomics. Genomics, which is tire study of all the genes in an organism and their organization into chromosomes, is an important enabling technology.This technology will allow Monsanto to develop, at a faster pace, more and better life sciences products in the areas of agriculture, health and nutrition. The segment's operat ing loss increased from 1995 to 1996 because of greater spending on growth initiatives and higher restructuring charges. As part of Monsanto's efforts to focus on life sci ences businesses, alternatives for the Orcolite and Diamonex optical products and Diamonex performance products divi sions -- including a partnership, restructuring, divestiture or joint venture -- are currently being considered. 41 1997 Monsanto Annual Report TOWOLDMONO016069 GEOGRAPHIC DATA United States Europe-Africa Asia-Pacific Canada Latin America Interarea Eliminations Corporate Discontinued Operations Total NET SALES TO UNAFFILIATED CUSTOMERS 1997 1996 1995 S4,384 1,425 655 285 765 $3,648 1,345 569 271 515 $3,127 1,210 507 219 347 57,514 $6,348 $5,410 OPERATING INCOME (LOSS)111 1997 1996 5 60 353 115 47 12 (15) (73) $420 156 59 20 60 (27) (93) S499 $595 1995 $485 173 63 15 57 (32) (63) $698 TOTAL ASSETS 1997 1996 1995 S 7,808 1,826 455 153 1,054 (956) 434 $ 6,537 1,562 606 121 598 (1,127) 317 2,623 $ 5,810 1,523 662 115 294 (648) 219 2,756 SI 0,774 $11,237 $10,731 The data above are prepared on an "entitv basis," which means that net sales, operating income and assets of each legal entity are assigned to the geographic area where that legal entity is located. For example, a sale from the United States to Latin America is reported as a U.S. export sale. Interarea sales, which are sales between Monsanto loca tions in different world areas, were made on a market price basis. Interarea sales have been excluded from the above table. They were: World area shipped from: United States Europe-Africa Asia-Pacific Canada Latin America Interarea Eliminations Total 1997 1996 S 960 224 69 20 -- (1,273) S-- $ 764 225 23 13 -- (1,025) $- 1995 $660 236 15 10 -- (921) $-- The operating income reported for the individual geo graphic areas does not include the full profitability gener ated by sales of Monsanto products imported from other locations, principally the United States. Direct export sales from the United States to third-party customers outside the United States were $200 million for 1997, $177 million for 1996, and $185 million for 1995. During 1997, the Brazilian economy was designated by Monsanto as hyperinflationary for accounting purposes. However, because the Brazilian economy continued to experience lower inflation rates during the year, as of Jan. 1, 1998, Monsanto designated the Brazilian economy as nonhyperinflationary. The functional currency for Monsanto's Brazilian operations was determined to be the U.S. dollar.These changes are not expected to have a material effect on Monsanto's financial position or operating results. A continuing decline in value of the southeast Asia currencies may adversely affect future income. Monsanto could experience additional foreign currency transactional losses from the area. Also, future sales may decrease because the decline in the southeast Asia economies could cause customers to purchase fewer goods in general, and also because Monsanto products may become more expensive for customers in that region to purchase in their local currency. (l) Geographic area operating income was affected by the 1997 research and development write-offs and the 1996 and 1995 restructurings and other unusual items as follows: United States Europe-Africa Asia-Pacific Canada Latin America Corporate Totai INCOME (EXPENSE) 1997 1996 1995 S(604) (80) $(251) (94) (19) (10) (9) (24) $(54) (4) (16) (13) -- (3) S(684) $(407) .$(90) 42 1997 Monsanto Annual Report TOWOLDMONOOI6070 QUARTERLY DATA (Unaudited) FIRST QUARTER SECOND QUARTER THIRD QUARTER FOURTH QUARTER TOTAL YEAR Net Sales 1997 SI,875 S2.095 SI ,724 SI,820 S7.514 1996 1,612 1,847 1,442 1,447 6,348 1995 1,339 1,541 1,186 1,344 5,410 Operating Income (Loss) 1997 298 363 (216) 54 499 1996 341 434 176 (356) 595 1995 265 351 149 (67) 698 Income (Loss) from Continuing Operations 1997 206 250 (167) 5 294 1996 222 316 107 (232) 413 1995 164 229 94 (26) 461 Net Income (Loss) 1997 274 324 (133) 5 470 1996 260 365 170 (410) 385 1995 229 290 140 80 739 Diluted Earnings (Loss) per Share - Continuing Operations 1997 0.34 0.41 (0.28) 0.01 0.48 1996 0.37 0.53 0.18 (0.39) 0.69 1995 0.28 0.39 0.16 (0.04) 0.79 Diluted Earnings (Loss) per Share 1997 0.45 0.54 (0.23) 0.01 0.77 1996 0.43 0.62 0.28 (0.69) 0.64 1995 0.40 0.51 0.23 0.13 1.27 Dividends per Share 1997 0.150 0.160 0.160 0.030 0.500 1996 0.138 0.150 0.150 0.150 0.588 1995 0.126 0.138 0.138 0.138 0.540 Common Stock Price,1, 1997 High Low 42 V, 46% 52 7,6 45% 52%. 34% 37 363/a 38 34% 1996 High 31% 34/ 37/a 43/ 43/ Low 23 28/ 26/a 36/ 23 1995 High 16/a 18/ 20/a 25 25 Low 13% 15/ 18 19/ 13% (,) Stock prices were restated to reflect the May 1996 Hve-t'or-one stock split, hut were not restated to reflect the spinoff'of the chemical businesses on Sept. 1,1997. Historically, Monsanto's income from continuing opera tions has been higher during the first half of the year, primarily because of the concentration of generally more profitable sales of the Agricultural Products segment dur ing that part of the year. Income from continuing operations for each quarter in 1997 was affected by the write-off of in-process research and development from acquisitions. First-quarter 1997 included an aftertax charge of S63 million, or SO. 11 per share, principally for the Asgrow Agronomics acquisition. Second-quarter 1997 included an aftertax charge of $72 million, or S0.11 per share, for the Calgene Inc. acquisition.Third-quarter 1997 included an aftertax charge of $270 million, or $0.45 per share, for the Holden's Foundation Seeds Inc. acquisition. Fourthquarter 1997 included S50 million, or $0.08 per share, for the Sementes Agroceres S.A. acquisition. Net income for the fourth quarter of 1996 included an aftertax charge of S500 million, or $0.84 per share, associated with the company's exit from the chemical businesses, the proposed spinoff, and other unusual items. The aftertax expense related to continuing operations for these actions was $257 million, or $0.43 per share. Net income in the first quarter ol 1995 included an aftertax gain of $25 million, or $0.04 per share, for insur ance-related settlement payments primarily associated with discontinued operations, and an aftertax charge of $25 million, or $0.04 per share, which is reflected in dis continued operations, for integration costs related to the formation of a joint venture. In the third quarter of 1995, net income included an aftertax gain of $32 million, or $0.06 per share, for environmental insurance litigation settlement payments related primarily to discontinued operations, and an after tax charge of $25 million, or $0.04 per share, which is reflected in discontinued operations, for the settlement of a lawsuit related to a Superfund site. Third-quarter net income and income from continuing operations included favorable adjustments of approximately $ 13 million after tax, or $0.02 per share, related to certain sales rebate programs in the United States for product sales made in prior years. Net income for the fourth quarter of 1995 included an aftertax charge of 5125 million, or $0.22 per share, for restructuring actions.The aftertax expense related to continuing operations for these actions was $78 million, or $0.13 per share. Fourth-quarter 1995 net income also included an aftertax gain of $ 116 million, or $0.20 per share, which is reflected in discontinued operations, resulting from the sale of the styrenics plastics business. 43 1997 Monsanto Annual Report TOWOLDMONO016071 STATEMENT OF CONSOLIDATED FINANCIAL POSITION (Dollars in millions, except per share) ASSETS Current Assets: Cash and cash equivalents Trade receivables, net of allowances of $63 in 1997 and $47 in 1996 Miscellaneous receivables and prepaid expenses Deferred income tax benefit Inventories Discontinued operations Total Current Assets Property, Plant and Equipment: Land Buildings Machinery and equipment Construction in progress Total property, plant and equipment Less accumulated depreciation Net Property, Plant and Equipment Investments in Affiliates Intangible Assets, net of accumulated amortization of $853 in 1997 and $769 in 1996 Other Assets Noncurrent Assets -- Discontinued Operations Total Assets As of Dec. 31, 1997 1996 S 134 1,823 692 243 1,374 4,266 $ 166 1,515 286 282 1,183 908 4,340 99 914 3,359 329 4,701 2,301 2,400 329 2,837 942 510,774 118 848 3,162 300 4,428 2,333 2,095 257 2,166 664 1,715 $11,237 LIABILITIES AND SHAREOWNERS' EQUITY Current Liabilities: Accounts payable Wages and benefits Restructuring reserves Miscellaneous accruals Short-term debt Discontinued operations Total Current Liabilities Long-Term Debt Deferred Income Taxes Postretirement Liabilities Other Liabilities Noncurrent Liabilities -- Discontinued Operations Shareowners' Equity: Common stock (authorized: 1,000,000,000 shares, par value $2) Issued: 821,970,970 shares in 1997 and 1996 Additional contributed capital Treasury stock, at cost (226,686,302 shares in 1997 and 237,594,831 shares in 1996) Reinvested earnings Reserve for ESOP debt retirement(l) Accumulated currencv adjustment Other Total Shareowners' Equity Total Liabilities and Shareowners' Equity S 480 251 176 906 1,726 3,539 1,979 97 735 320 $ 479 456 247 728 654 837 3,401 1,608 102 594 509 1,333 1,644 321 (2,570) 4,973 (123) (128) (13) 4,104 510,774 1,644 65 (2,661) 4,795 (174) 10 11 3,690 $11,237 The above statement should be read in conjunction with pages 51-61 of this report. ll,ESOP stands for Employee Stock Ownership Plan. 44 1997 Monsanto Annual Report TOWOLDMON0016072 REVIEW OF CHANGES IN FINANCIAL POSITION Financial Position Remains Strong Monsanto's financial position remained strong in 1997, as evidenced by the company's "A" debt rating. Financial resources were adequate to support existing businesses and to fund new business opportunities. At the end of 1997, working capital was $212 million lower than at the end of 1996, primarily because of higher short-term debt levels at year-end 1997.The effect of higher short-term debt was partially offset by increases in receivables and inventories and a decrease in accrued wages and benefits. Miscellaneous receivables increased because of 1997 fourth-quarter Pharmaceuticals segment sales of product rights and licensing arrangements. Trade receivables at year-end 1997 increased compared with those at the prior year-end, primarily because of higher sales levels for the Agricultural Products and the Pharmaceuticals segments. Inventories at year-end 1997 increased, primarily because of higher inventories in the Agricultural Products segment. Accrued wages and bene fits declined in 1997 because of a large incentive payout, related to the third year of a three-year plan, made in 1997. Working capital at year-end 1996 included $71 mil lion of working capital related to discontinued operations. New business opportunities and other needs in 1997 were financed with increased short- and long-term debt, which resulted in a ratio of total debt to total capitalization of 47 percent at year-end 1997, compared with 38 percent at year-end 1996.The company is considering various alternatives for several of its nonstrategic businesses that may result in cash proceeds to reduce the company's debt or finance future opportunities. The amount of net property, plant and equipment at year-end 1997 was higher than the comparable 1996 amount, as $644 million in capital additions and the effects of acquisitions exceeded 1997 depreciation expense and divestitures. The increase in intangible assets was attributable primarily to the acquisition of Holden's Foundation Seeds Inc. Total deferred tax benefits, both current and noncur rent, of $495 million at year-end 1997 were related pri marily to U.S. operations, which generally have a strong earnings history. Monsanto uses financial markets worldwide for its financing needs. It has available various short- and medium-term bank credit facilities, which are discussed in the Notes to Financial Statements on pages 51-61 .These credit facilities give Monsanto the financing flexibility it needs to take advantage of investment opportunities that may arise and to satisfy future funding requirements. To maintain adequate financial flexibility and access to debt markets worldwide, Monsanto management intends to maintain an "A" debt rating. Monsanto's commitments and contingencies are described in the Notes to Financial Statements on page 61. Key Financial Statistics Current Ratio (Current assets divided by current liabilities) Trade Receivables -- Days Sales Outstanding (Fourth-quarter trade receivables divided by fourth-quarter net sales times 30 days) Inventory Turnover Ratio (Cost of goods sold divided by inventory) Interest Coverage"1 (Income from continuing operations before interest expense and income taxes divided by total interest cost) Cash Provided by Continuing Operations/Total Debt Total Debt/Total Capitalization12' 1997 1.2 95 2.2 2.9 10% 47% 1996 1.3 99 2.3 5.3 42% 38% 1995 1.5 80 2.2 5.7 26 35 (1) If the effects of the in-process research and development write-offs were excluded in 1997, the interest coverage ratio would have been 6.6. If the effects of the restructuring and other unusual charges were excluded in 1996, the interest coverage ratio would have been 8.2. (2) Total capitalization is the sum of short-term debt, long-term debt and shareowners' equity. 45 1997 Monsanto Annual Report TOWOLDMONO016073 STATEMENT OF CONSOLIDATED CASH FLOW (Dollars in millions) 1997 1996 INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS OPERATING ACTIVITIES: Income from continuing operations Add income taxes -- continuing operations S 294 72 $ 413 140 Income from continuing operations before income taxes Adjustments to reconcile to Cash Provided by Continuing Operations: Income tax payments Items that did not use cash: Depreciation and amortization Acquired in-process research and development expense Restructuring expenses Other Working capital changes that provided (used) cash: Accounts receivable Inventories Accounts payable and accrued liabilities Other Pretax gains from asset sales and licensing arrangements Other items Cash Provided by Continuing Operations Cash Provided by (Used in) Discontinued Operations 366 (134) 487 684 (16) (268) (113) (288) (81) (232) (51) 354 (138) 553 (308) 423 356 70 (330) (86) 198 12 (9) 61 940 263 Total Cash Provided by Operations 216 1,203 INVESTING ACTIVITIES: Property, plant and equipment purchases Seed company acquisitions and investments Acquisition of Kelco and pharmaceutical product lines Other acquisitions and investments Investment and property disposal proceeds Discontinued operations -- proceeds from sale of styrenics plastics business Discontinued operations -- other (644) (1,325) (618) 88 (44) (500) (470) (250) 165 (200) Cash Used in Investing Activities (2,543) (1,255) FINANCING ACTIVITIES: Net change in short-term financing Long-term debt proceeds Long-term debt reductions Treasury stock purchases Dividend payments Common stock issued under employee stock plans Cash transferred to Solutia Inc. Other financing activities Cash Provided by (Used in) Financing Activities DECREASE IN CASH AND CASH EQUIVALENTS CASH AND CASH EQUIVALENTS: Beginning of year 2,372 208 (142) (294) 91 (75) 135 2,295 (32) 166 297 122 (177) (253) (343) 142 133 (79) (131) 297 End of year S 134 $ 166 The above statement should be read in conjunction with pages 51-61 of this report. The ellect ol exchange rate changes on cash and cash equivalents was not material. Cash payments lor interest (net ot amounts capitalized) were S210 million in 1997, Si95 million in 1996, and Si95 million in 1995. 1995 $ 461 184 645 (335) 405 114 10 04) (107) 13 (51) (9) (60) 531 292 823 (301) (1,296) (139) 77 580 (206) (1,285) 53 658 (403) (306) 194 56 252 (210) 507 $ 297 46 1997 Monsanto Annual Report TOWOLDMONOQ16074 REVIEW OF CASH FLOW Cash Flow Declines Cash provided by continuing operations totaled $354 million in 1997, down significantly from the previ ous year's level of $940 million.The decrease was caused primarily by significantly higher employee incentive payouts in 1997 for the final payment of certain deferred amounts related to a three-year incentive plan; severance and other payments during 1997 related to restructuring reserves and spinoff transaction costs; and $ 1 50 million of like-kind exchange proceeds from a 1995 business sale, which were earmarked to prefund 1996 capital expendi tures. Working capital as a percent of net sales was 10 per cent in 1997 compared with 15 percent in 1996. Monsanto's operations have Cash Provided historically generated sufficient by Continuing cash to fund both its existing Operations businesses and its research Dollars in millions and development expenses. 2,000 In 1997, investment and prop erty disposal proceeds related primarily to sales of nonstrategic 1,500 properties and maturing invest ments. In 1996 and 1995, invest ment and property disposal 1,000 proceeds related primarily to nonstrategic investments. Major uses of cash in 1997, 500 1996 and 1995 included invest ments, capital expenditures, dividends and treasury stock purchases. Major investments in 1997 were the acquisitions of Asgrow Agronomics, Holden's Foundation Seeds Inc., Corn States Hybrid Service Inc., and Sementes Agroceres S.A. seed com panies, and the remaining interest in Calgene Inc. Major investments in 1996 were the equity investment in DEKALB Genetics Corp., an investment in Calgene, and the acquisition of the plant biotechnology assets of Agracetus. Major investments in 1995 included the acquisition of the Kelco business and the Syntex pharma ceutical product lines. Monsanto's capital expenditures, which focused on improved technology and capacity expansions, totaled $644 million in 1997. Business redesign efforts and productivity enhancements were successful in increasing effective capacity at many facilities, thereby reducing the need for additional capital expenditures. To the extent the company's cash provided by opera tions was not sufficient to fund its cash needs during the period, short- and long-term debt was issued to finance these requirements. In December 1997, the company issued $200 million of 30-year debentures at an interest rate of 6.75 percent.The majority of the debt needs in 1996 and 1997 were financed with short-term commer cial paper because of its relatively low interest rates and the generally favorable debt market environment. Risk Management Monsanto continually evaluates risk retention and insurance levels for product liability, property damage and other potential areas of risk. Monsanto devotes significant effort to maintaining and improving safety and internal control programs, which reduce its exposure to certain risks. ManaOgement decides the amount of insurance coverage to purchase from unaffiliated companies and the appropriate amount of risk to retain based on the cost and availability of insurance and the likelihood of a loss. Since 1986, Monsanto's liability insurance has been a "claims made" policy form. Management believes that the current levels of risk retention are consistent with those of comparable companies in the various industries in which Monsanto operates. There can be no assurance that Monsanto will not incur losses beyond the limits of, or outside the coverage of, its insurance. Monsanto's liquidity, financial position and profitability are not expected to be affected materially by the levels of risk retention that the company accepts. Company Prepares for Year 2000 Beginning in late 1996, Monsanto initiated the Global Year 2000 program to ensure that its infrastructure and information systems comply with the systems require ments for the year 2000. The program includes the follow ing phases: identifying systems that need to be replaced or fixed, assessing the extent of the work required, prioritiz ing the work and developing an action plan, and imple menting the action plan. In higher risk areas, the company also has developed contingency action plans. Monsanto had essentially completed the first three phases of the pro gram as of Dec. 31,1997, and is now primarily in the implementation phase. The majority of systems, including all business critical systems, are expected to comply with year 2000 requirements by the first quarter of 1999. Monsanto also has contacted its major suppliers to assess their preparations for the year 2000. Similar contacts also are planned for major customers. The company continues to evaluate the estimated costs associated with year 2000 compliance based on actual experience. While the year 2000 efforts involve additional costs, Monsanto believes, based on available information, that it will be able to man age its vear 2000 transition without any material adverse effect on its business operations, financial position, prof itability or liquidity. 47 1997 Monsanto Annual Report TOWOLDMONO016075 REVIEW OF CASH FLOW (continued) Dividend Policy Re-Evaluated Monsanto has paid quarterly dividends on its common shares without interruption since 1928. In 1997, following the spinoff of its chemical businesses, the company's board of directors re-evaluated the dividend policy and reduced the quarterly dividend on its common stock. The lower dividend payout was chosen to reflect the desire to fund the company's growth opportunities appropriately to create long-term economic value for shareowners. Monsanto's dividend policy reflects the company's expec tations of future growth, profitability, financial position, acquisitions, working and fixed capital needs, scheduled debt repavments, and economic conditions, including inflation.The quarterly dividend paid in December 1997 was SO.03 per share vs. $0.16 per share paid in September 1997. Monsanto's common stock is traded principally on the New York Stock Exchange. The number of share owners of record as of Feb. 27, 1998, was 61,008.The high and low common stock prices on that date were $51 %> and $50^, respectively. FINANCIAL INSTRUMENTS Market Risk Management Monsanto is exposed to market risk, including changes in interest rates, currency exchange rates and commodity prices. To manage the volatility relating to these expo sures, the company enters into various derivative transac tions. Monsanto does not hold or issue derivative financial instruments for trading purposes. For more information about how Monsanto manages specific risk exposures, see the currency translation note on page 51, the inventory valuation note beginning on page 54, and the long-term debt note on page 56, in Notes to Financial Statements. The tables below and on the next page provide infor mation about the company's derivative instruments and other financial instruments that are sensitive to changOes in interest rates, currency exchange rates and commodity prices. The financial instruments are grouped by market risk exposure category. Instrument denominations are indicated in parentheses. For instruments denominated in currencies other than the U.S. dollar, the information is presented in U.S. dollar equivalents, which is the com pany's reporting currency. Significant interest rate risk sensitive instruments as of Dec. 31,1997, were: (Dollars in millions, except average interest rate) 1998 1999 EXPECTED MATURITY DATE 2000 2001 2002 Thereafter Total Fair Value Long-Term Debt: Fixed rate ($US) Principal amount Average interest rate Variable rate ($US) Principal amount(I) Average interest rate(2) Short-Term Debt: Fixed rate (Brazilian real) Principal amount Average interest rate Variable rate (SUS) Principal amount Average interest rate(2) $50 8.4% $1 2.9% $179 6.1% $8 3.2% $ 33 8.6% $634 5.6% $19 8.3% $16 3.1% $818 7.6% $190 5.2% $ 244 8.0% $1,208 5.8% l!> Includes S625 million ot commercial paper that is assumed to he renewed through 2001, when the company's credit facility expires. Average variable rates are based on 1997 year-end variable rates. Actual rates may be higher or lower. $1,099 7.4% $ 849 5.4% $ 244 8.0% $1,208 5.8% $1,171 $ 849 $ 244 $1,208 48 1997 Monsanto Annual Report TOWOLDMON0016076 FINANCIAL INSTRUMENTS (continued) Significant currency exchange rate risk sensitive instru ments as of Dec. 31, 1997 (dollars in millions, except average exchange rate): Expected Maturity 1998 Notional Amount Average Exchange Fair Rate'1' Value Forward Contracts: Purchase of Belgian franc Purchase of British pound Sale of Brazilian real Sale of Canadian dollar Sale ofAustralian dollar Sale of South African rand Sale of Indonesian rupiah Sale of Philippine peso Sale of Malaysian ringgit $103 36.09 87 0.589 50 1.152 27 1.402 19 1.460 15 4.966 9 4377 7 39.07 5 3.43 $101 85 50 26 18 15 7 7 4 (l) Average contract exchange rates are stated in currency units per U.S. dollar. Significant commodity price risk sensitive instruments as of Dec. 31, 1997: Expected Maturity 1998 Corn Futures Contracts: Contract volumes (million bushels) Weighted average price (per bushel) Contract amount (SUS in millions) 2.1 $2.90 $6 Fair Value $6 Soybean Futures Contracts: Contract volumes (million bushels) Weighted average price (per bushel) Contract amount (S>US in millions) 8.9 $6.96 $62 $61 Contract amounts are used to calculate the contractual payments and quantity of the commodity to be exchanged. DISCLOSURE OF FORWARD-LOOKING STATEMENTS Under the Private Securities Litigation Reform Act of 1995, companies are provided a "safe harbor" for making forward-looking statements about the potential risks and rewards of their strategies. Monsanto believes it's in the best interests of our shareowners to use these provisions in discussing future events, as we do in this annual report and other communications. These forward-looking statements include our plans for growth; the potential for the devel opment, regulatory approval and public acceptance of new products from our pipeline; and other factors that could affect Monsanto's future operations or financial position. Monsanto's ability to achieve its goals depends on many known and unknown risks and uncertainties, as well as on changes in general economic and business conditions. These factors could cause the anticipated performance and results of the company to differ materially from those described or implied in forward-looking statements. Factors that could cause or contribute to such differ ences include, but aren't limited to Monsanto's ability to: generate cash flows or obtain financing to fund its growth, including research and development; identify new tech nologOies and commercialize from that research innovative and competitive new products worldwide; obtain regula tory approvals and gain consumer acceptance of new products worldwide; secure and defend its intellectual property rights and, when appropriate, license required technology; manufacture its products competitively and cost effectively; manage its businesses in the face of adverse weather or other environmental conditions; respond to challenges in international markets, including changes in currency exchange rates, political or economic conditions, and trade and regulatory matters; complete and integrate appropriate acquisitions, strategic alliances and joint ventures; and manage other factors as may be discussed in Monsanto's reports filed with the U.S. Securities and Exchange Commission. . 49 1997 Monsanto Annual Report TOWOLDMONO016077 STATEMENT OF CONSOLIDATED SHAREOWNERS' EQUITY (Dollars in millions, except per share) COMMON STOCK: Balance, Jan. 1 Par value of stock issued in five-for-one stock split Balance, Dec. 31 ADDITIONAL CONTRIBUTED CAPITAL: Balance, Jan. 1 Employee stock plans and ESOP") Par value of stock issued in five-for-one stock split Spinoff of chemical businesses Balance, Dec. 31 TREASURY STOCK: Balance, Jan. 1 Shares purchased*2) (8,244,500 shares in 1996) Net shares issued under employee stock plans*2* (10,900,529 shares in 1997; 15,269,164 shares in 1996; and 19,675,660 shares in 1995) Balance, Dec. 31 REINVESTED EARNINGS: Balance, Jan. 1 Net income Dividends (net of ESOP tax benefits) Par value of stock issued in five-for-one stock split Balance, Dec. 31 RESERVE FOR ESOP DEBT RETIREMENT: Balance, Jan. 1 Allocation of ESOP shares Spinoff of chemical businesses Balance, Dec. 31 ACCUMULATED CURRENCY ADJUSTMENT: Balance, Jan. 1 Translation adjustments Spinoff of chemical businesses Balance, Dec. 31 OTHER: Balance, Jan. 1 Net change in market value of investments Minimum pension liability Balance, Dec. 31 The above statement should be read in conjunction with pages 51-61 of this report. (l) ESOP stands for Employee Stock Ownership Plan. <2) Adjusted for the 1996 five-for-one common stock split. 1997 S 1,644 S 1,644 S 65 135 121 S 321 5(2,661) 91 S(2,570) S 4,795 470 (292) S 4,973 S (174) 20 31 S (123) S 10 (127) (11) S (128) S 11 (3) (16) S (13) 1996 $ 329 1,315 $ 1,644 $ 902 133 (970) $ 65 $(2,550) (253) 142 $(2,661) $ 5,097 385 (342) (345) $ 4,795 $ (181) 7 $ (174) $ 101 (91) $ 10 $ 34 (23) $ 11 1995 $ 329 $ 329 $ 849 53 $ 902 $(2,744) 194 $(2,550) $ 4,661 739 (303) $ 5,097 $ (199) 18 $ (181) $ 33 68 $ 101 $ 19 15 $ 34 50 1997 Monsanto Annual Report TOWOLDMONOOI6078 NOTES TO FINANCIAL STATEMENTS Significant Accounting Policies Monsanto's significant accounting policies are italicized in the followingO Notes to Financial Statements. Basis of Presentation Where applicable, per share amounts and the number of shares have been restated to reflect the May 1996 five-forone common stock split effected in the form of a stock divi dend. The financial statements have been restated to present the results of the company's former chemical businesses as discontinued operations. Earnings per share have been restated to reflect the company's adoption of Statement of Financial Accounting Standard No. 128, "Earnings per Share." Previously reported amounts have been reclassified to make them consistent with the current presentation. The following notes relate to the continuing operations of Monsanto, unless otherwise indicated. Basis of Consolidation The consolidatedfinancial statements include the company and its majority-owned subsidiaries. Intercompany transactions have been eliminated in consolidation. Other companies in which Monsanto has a sign ifcant ownership interest (generally greater than 20 percent) are included in "Investments in Ajfliates"in the Statement of Consolidated Financial Position. Monsanto's share ofthese companies' net earnings or losses is included in "Other income (expense) -- net"in the Statement of Consolidated Income. Use of Estimates . The preparation offnancial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts fassets and liabilities and the disclosure ifcontin gent assets and liabilities at the date of thefnancial statements and that affect revenues and expenses during the period reported. Estimates are adjusted to refect actual experience when necessary. Signifcant estimates are used to accountfor restructuring reserves, sef-insurance reserves, employee benft plans, asset impairments and contingencies. Currency Translation Thefnancial statementsfor most of Monsanto's ex-U.S. enti ties are translated into U.S. dollars at current exchange rates. Unrealized currency translation adjustments in the Statement of Consolidated Financial Position are accumulated in share owners' equity. Thefnancial statements of ex-U.S. entities that operate in hyperinfationary economies are translated at either current or historical exchange rates, as appropriate. These cur rency adjustments are included in net income. Major currencies are the U.S. dollar, British pound sterling, Belgian franc and Japanese yen. Other important currencies include the Brazilian real, Canadian dollar, French franc, German mark and Italian lira. Currency restrictions are not expected to have a significant effect on Monsanto's cash flow, liquidity or capital resources. Currency option contracts are purchased to manage currency exposure for anticipated transactions (for exam ple, expected export sales in the following year denomi nated in foreign currencies). Currency option and forward contracts are used to manage other currency exposures, primarily for receivables and payables denominated in cur rencies other than the entities' functional currencies.This hedging activity is intended to protect the company from adverse fluctuations in foreign currencies vs. the entities' functional currencies. As of Dec. 31, 1997, Monsanto had currency forward contracts to purchase $ 189 million and to sell $ 131 mil lion, and purchased currency option contracts to sell $38 million, of other currencies. Gains and losses on con tracts that are designated and effective as hedges are dferred and are included in the recorded value of the transaction being hedged. Net deferred hedging losses as of Dec. 31, 1997, were not material. Gains and losses on other currencyforward and option contracts are included in net income immediately. Monsanto is subject to loss if the counterparties to these contracts do not perform. Principal Acquisitions and Divestitures In 1997, the company made several strategic acquisitions of agricultural seed companies. In February 1997, Monsanto completed its acquisition of the Asgrow Agronomics seed business. In September 1997, Monsanto completed the acquisitions of Flolden's Foundation Seeds Inc. and Corn States Hybrid Service Inc. In December 1997, the com pany acquired controlling interest in Sementes Agroceres S.A., a Brazilian seed company.The combined purchase price of these acquisitions was approximately $1.4 billion. The purchase price allocations for Agroceres are based on preliminary assumptions and are subject to revision. In 1997, Monsanto recorded aftertax charges of $383 mil lion, or $0.64 per share, for the write-off of in-process research and development (R&D) related to the seed com pany acquisitions. The amounts of purchased in-process R&D were determined by independent valuations. Management believes that the technological feasibility of the acquired in process research has not been established and that it has no alternative future use. Accordingly, the amounts allocated to in-process R&D are required to be expensed immedi ately under generally accepted accounting principles. The following unaudited pro forma information combines the consolidated results of operations of Monsanto with those of Asgrow, Holden's, Corn States and Agroceres as if these acquisitions had occurred at 51 1997 Monsanto Annual Report TOWOLDMONO016079 NOTES TO FINANCIAL STATEMENTS (continued) the beginning of 1996.The pro forma results give effect to certain purchase accounting adjustments, including additional amortization expense from goodwill and other identified intangible assets, and increased interest expense from acquisition debt. Pro forma income from continu ing operations for 1997 excludes unusual charges of $455 million, or $0.75 per share, related to in-process R&D. Pro forma income from continuing operations for 1996 excludes restructuring and other unusual charges of $257 million, or SO.43 per share. Sales Income from continuing operations Earnings per share -- continuing operations 1997 37,642 683 1996 $6,661 587 1.12 0.98 This pro forma financial information is presented for comparative purposes only and is not necessarily indicative of the operating results that actually would have occurred had the acquisitions occurred on the earliest day of the periods presented. In addition, these results are not intended to be a projection of future results. In May 1997, Monsanto completed its acquisition of the remaining shares of Calgene Inc. that Monsanto did not already own for S8.00 per share, in cash, or approxi mately $267 million. In conjunction with this acquisition, Monsanto recorded a S72 million aftertax charge ($72 mil lion pretax), or $0.11 per share, for acquired in-process R&D. This charge was not tax effected because the transac tion was a stock acquisition rather than an asset purchase. The purchase price allocations are based upon preliminary assumptions and are subject to revision.The amount of this write-off was determined by an independent valua tion. Management believes that the technological feasibil ity of the acquired in-process research has not been established and that it has no alternative future use. Accordingly, the amounts allocated to in-process R&D are required to be expensed immediately under generally accepted accounting principles. Also in 1997, Monsanto completed several smaller acquisitions. The combined purchase price of these acqui sitions was approximately $200 million.The purchase price allocations for these acquisitions are based on pre liminary assumptions and are subject to revision. The above acquisitions were accounted for as purchases, and, accordingly, the results of operations for these com panies were included in the Statement of Consolidated Income from the dates of acquisition. The excess of the purchase price over the estimated fair value of net assets acquired was recorded as goodwill and is being amortized over not more than 20 vears. In March 1996, Monsanto acquired significant equity positions in Calgene and DEKALB Genetics Corp. In November 1996, Monsanto acquired a controlling interest in Calgene. The combined investment in these businesses was approximately $340 million. In May 1996, Monsanto acquired the plant biotechnology assets of Agracetus for approximately $ 150 million. In September 1995, Searle acquired the women's health care assets, primarily product rights, of the former Syntex Corp., a subsidiary of Roche Holding Ltd., for approxi mately $240 million. In February 1995, Monsanto com pleted its acquisition of the worldwide business of Kelco, the specialty chemicals division of Merck & Co. Inc., for $1,062 billion. Discontinued Operations In December 1996, the board of directors approved a plan to spin off the company's chemical businesses to shareowners by means of the distribution of shares of a newly formed, wholly owned subsidiary, later named Solutia Inc. Effective Aug. 12, 1997, the board declared the distribution on Sept. 1, 1997, to shareowners of record on Aug. 20, 1997, of one share of Solutia common stock and one preferred share purchase right of Solutia for every five shares of Monsanto common stock, subject to certain conditions, including shareowner approval. At a special meeting held Aug. 18, 1997, shareowners approved the spinoff. It became effective Sept. 1, 1997. As a result of shareowner approval of the spinoff, Monsanto's financial statements have been restated to present the results of operations, cash flow and financial position of the chemical businesses as discontinued opera tions. Discontinued operations also include certain other operations of the company's chemical businesses that have been sold, primarily the styrenics plastics business. Operating results for discontinued operations were: Met sales Income (loss) before income taxes Pretax gain on sale of business Income taxes Met income (loss) 1997 SI ,943 1996 $2,914 1995 $3,552 S 266 $ (13) $ 253 90 S 176 15 $ (28) 189 164 $ 278 Pretax restructuring and other unusual charges related to discontinued operations were $340 million in 1996 and $55 million in 1995.These costs were associated with work force reductions, the rationalization or closure of certain facilities, asset write-offs, and exit costs to separate the chemical businesses. Other pretax items affecting dis continued operations in 1995 were receipt of settlement payments of $88 million from various insurers for envi ronmental and other insurance litigation, offset by a law suit settlement of $41 million and joint venture integration 52 1997 Monsanto Annual Report TOWOLDMONOOI6O8O NOTES TO FINANCIAL STATEMENTS (continued) costs of $40 million. Also in 1995, the styrenics plastics business and an interest in a related joint venture were sold for a pretax gain of $ 189 million. The effective tax rate for discontinued operations for 1996 exceeded the 35 percent U.S. federal statutory rate, primarily because of the effect of nondeductible exit costs incurred to separate the chemical businesses.This, in turn, was partly offset by the effect of lower ex-U.S. tax rates. The effective tax rates for discontinued operations in 1995 and 1994 exceeded the U.S. federal statutory rate, primar ily because of the effect of state income taxes. Interest expense of $39 million in 1997, $52 million in 1996, and $58 million in 1995 has been allocated to the operating results of Solutia based on the debt assumed by Solutia. Historically, the company did not allocate any debt to the chemical businesses because the company uses a centralized approach to cash management and the financ ing of its operations. In connection with the spinoff, Solutia assumed the pension liabilities and received related assets for its active employees and for certain former employees of the chemi cal businesses. Solutia also assumed the postretirement benefit liabilities for its active employees and former employees who last worked in a chemical business. To complete the spinoff, Monsanto contributed certain assets to Solutia, and Solutia assumed certain liabil ities of Monsanto. In addition to the assets and liabilities reported as discontinued operations in the Consolidated Statement of Financial Position, the assets contributed to Solutia and liabilities assumed by Solutia included a joint venture interest in Monsanto's elemental phosphorus business, $75 million of cash and $1.0 billion of short term debt. Also in connection with the spinoff, Solutia's employee stock ownership plan (ESOP) received 2.4 mil lion shares of unallocated company common stock held by Monsanto's ESOP, and assumed $29 million of ESOP bor rowings. The excess of the liabilities assumed by Solutia and Solutia's ESOP over the assets contributed to Solutia in connection with the spinoff (approximately $141 mil lion) increased Monsanto's shareowners' equity. In connection with the spinoff, several agreements entered into by Monsanto and Solutia allocated responsibil ity between them for various debts, liabilities and obliga tions. These agreements provide that Solutia will indemnify Monsanto for the liabilities assumed by Solutia pursuant to such aOgreements. Restructuring and Other Actions -- Continuing Operations In December 1996, the company recorded pretax restructuring charges and other unusual items related to continuing operations of $376 million ($257 million aftertax) to cover the closure or rationalization of certain facilities, asset write-offs, and work force reductions. Approximately 940 of the 1,520 positions expected to be eliminated by these actions had been eliminated by the end of 1997. Included in these charges were aftertax amounts for asset impairments totaling $39 million. These write-offs were related to intangible assets for products no longer marketed and excess production capacity. Assets were written down to their discounted cash values, using appropriate discount rates. In December 1995, the company recorded pretax restructuring charges associated with continuing opera tions of $114 million ($78 million aftertax) that covered the costs of work force reductions, business consolida tions, facility closures, and the exit from nonstrategic businesses and facilities. This plan was substantially com pleted by the end of 1996 and reduced employment by approximately 370 people. Other unusual items in 1995 included approximately $ 20 million in favorable pretax adjustments ($13 million aftertax) under certain sales rebate programs in the United States for product sales made in prior years, and approximately $4 million ($2 million aftertax) in insurance settlements. The components of the pretax expense (income) related to income from continuing operations before income taxes for the restructuring programs and the other actions were: 1996 1995 Cost of employee reductions S255 $ 41 Shutdown and consolidation of various facilities and departments 57 73 Asset impairments 51 Insurance-related settlement (income) (4) Other costs (income) 13 (20) Total S376 $ 90 The restructuring expenses recorded were based on estimates prepared at the time the restructuring actions were approved by the board of directors. The balance in restructuring reserves as of Dec. 31, 1997, was $235 mil lion. It is earmarked primarily for remaining work force reduction costs and the costs associated with the shut down and consolidation of various facilities and depart ments. Management believes that the balance of these reserves as of Dec. 31, 1997, is adequate for completion of those activities. Restructuring actions during the last three years have reduced these liabilities by approximately $330 million. Approximately one-half of these reductions were related to the cost of work force reduction pro grams. The remaining reductions were primarily related to write-offs and expenditures related to the termination or sale of nonstrategic products and facilities. The pretax expenses (income) related to the restruc turing programs and the other unusual items were 53 1997 Monsanto Annual Report TOWOLDMONO016081 NOTES TO FINANCIAL STATEMENTS (continucj) recorded in the Statement of Consolidated Income in the following categories: 1996 1995 Net sales Cost of goods sold Amortization of intangible assets Restructuring expenses $(20) S 28 (4) 23 356 114 Decrease in operating income Other (income) expense -- net 407 90 (31) Total decrease in income from continuing operations before income taxes S376 $ 90 In 1996, other expense was reduced by reversals of restructuring reserves that were no longer required, and by a minority interest associated with restructuring and other unusual items recorded by Calgene. Income from continuing operations decreased $257 mil lion, or $0.43 per share, in 1996,-and decreased $63 mil lion, or $0.11 per share, in 1995 because of these restructurings and other unusual items. Depreciation and Amortization Goodwill and other intangible assets increased in 1997, primarily because of the acquisitions of Asgrow, Calgene and Holden's. Goodwill is the cost ofacquired businesses in excess if thefair value of their identifable net assets and is amortized over the estimated periods ofbeneft five to 40years). Patents obtained in a business acquisition are recorded at the present value ofestimatedfuture cashfows resultingfrom patent own ership. The cost ofpatents is amortized over their legal lives. The cost ofother intangible assets (principally seed germplasm, product rights and trademarks) is amortized over their esti mated useful lives. Impairment tests oflong-lived assets are made when conditions indicate a possible loss. Such impairment tests are based on a com parison of undiscounted cashfows to the recorded value ofthe asset. Ifan impairment is indicated, the asset value is written down to its discounted cash value, using an appropriate discount rate. Investments Certain investments in equity securities, other than investments in equity ajpliates, are classifed as available-for-sale securities, and are recorded at their market values. When a decline in mar ket value is deemed other than temporary, the reduction to the investment in a security is charged to expense. As of Dec. 31, these equity securities were detailed as follows: Depreciation Amortization of intangible assets Obsolescence Total 1997 1996 1995 $299 $276 $272 173 128 119 15 19 14 $487 $423 $405 Property, plant and equipment is recorded at cost. The cost ofplant and equipment is depreciated over weighted average periods oj 18 yearsfor buildings and 10yearsfor machinery and equipment, by the straight-line method. In 1996, total amortization of intangible assets reflected in the Statement of Consolidated Income includes $23 million of charges for asset impairments. Intangible assets are recorded at cost less accumulated amortization. The components of intangible assets and their estimated remaining useful lives were: Goodwill Patents and other intangible assets Total ESTIMATED REMAINING LIFE'" 1997 21 $1,835 10 1,002 S2.837 1996 $1,519 647 $2,166 1995 $1,372 593 $1,965 Weighted average, in years, as of Dec. 31,1997. Aggregate fair value Gross unrealized holding: Gains Losses 1997 1996 S72 $79 -- 31 12 11 In 1996, proceeds and realized gains from sales of available-for-sale securities were $80 million and $33 mil lion, respectively. Debt securities held are recorded at amortized cost, because the company has the ability and intent to hold these securities to their maturity date. These securities mature in less than five years. As of Dec. 31,1997 and 1996, the total amortized cost of these securities was $ 116 million and $ 147 million, respectively. Inventory Valuation Inventories are stated at cost or market, whichever is less. Actual cost is used to value raw materials and supplies. Standard cost, which approximates actual cost, is used to valuefinished goods and goods in process. Standard cost includes direct labor and raw materials, and manufacturing overhead based on practical capacity. The cost of certain inventories (49 percent as of Dec. 31,1997) is determined by using the last-in,first-out (LIFO) method, which generally refects the effects of inflation or deflation on cost ofgoods sold sooner than other inventory 54 1997 Monsanto Annual Report TOWOLDMONO016082 NOTES TO FINANCIAL STATEMENTS (continued) cost methods do. The cost of other inventories generally is deter mined by thefrst-in,frst-out (FIFO) method. Inventories at FIFO approximate current cost. The components of inventories were: Finished goods Goods in process Raw materials and supplies Inventories, at FIFO cost Excess of FIFO over LIFO cost Total 1997 1996 S 762 265 390 $ 630 287 333 1,417 (43) 1,250 (67) SI ,374 $1,183 Commodity futures and options contracts are used to hedge the price volatility of certain commodities, primar ily soybeans and corn.This hedging activity is intended to manage the cost of soybean and corn seeds that Monsanto's seed companies purchase from seed growers and to reduce the risk of incurring higher seed costs in periods of rising commodity prices. Gains and losses on contracts that are designated and effective as hedges are dejerred in inventory and are included in cost ofgoods sold when the underlying seeds are sold. As of Dec. 31, 1997, Monsanto had futures contracts to purchase $68 million of corn and soybeans. Income Taxes The components of income from continuing operations before income taxes were: United States Outside United States Total 1997 S (55) 421 S366 1996 $313 240 $553 1995 $339 306 $645 The components of income tax expense charged to operations were: 1997 1996 1995 Current: U.S. federal U.S. state Outside United States S 138 20 124 $ 42 $180 14 6 91 108 282 147 294 Deferred: LI.S. federal U.S. state Outside United States (194) 10 (108) (17) (6) 6 1 (11) (8) (210) (7) (110) Total S 72 $140 $184 Factors causing Monsanto's effective tax rate to differ from the U.S. federal statutory rate were: U.S. federal statutory rate U.S. export earnings Puerto Rican operations U.S. R&D tax credit Lower ex-U.S. rates Nondeductible goodwill Valuation allowances Acquired in-process R&D Other Effective income tax rate 1997 35% (7) (5) (7) (2) 3 (4) 7 -- 20% 1996 35% (6) (4) (1) (1) 2 -- -- 25% 1995 35% (2) (4) -- -- 1 (2) 1 29% Deferred income tax balances were related to: Property Postretirement benefits Restructuring reserves Inventory Net operating tax loss and tax credit carryforwards Acquired in-process R&D Other Valuation allowances Net deferred tax assets 1997 S(180) 231 71 6 1996 $(243) 171 181 40 138 207 (53) (22) S 398 163 66 (168) $210 Deferred tax balances were: Deferred tax assets Deferred tax liabilities Net deferred tax assets 1997 S 495 97 S 398 1996 $312 102 $210 The balance in valuation allowances as of Dec. 31, 1996, included $ 107 million for Calgene, primarily related to U.S. net operating loss carryforwards. In 1997, Monsanto acquired the remaining 46 percent interest in Calgene and, as part of the acquisition accounting, recognized the major ity of the deferred tax assets related to these carryforwards. These carryforwards expire from 1999 through 2011. In 1997, Monsanto recognized $24 million in benefits from certain ex-U.S. net operating loss carryforwards. As of Dec. 31, 1997, Monsanto had available approximately $50 million in remaining ex-U.S. net operating loss carry forwards, which expire from 1998 through 2001. Income taxes and remittance taxes have not been recorded on $1.4 billion in undistributed earnings ofsubsidiaries, either because any taxes on dividends would be offset substantially by foreign tax credits or because Monsanto intends to reinvest those 55 1997 Monsanto Annual Report TOWOLDMONO016083 NOTES TO FINANCIAL STATEMENTS (continued) earnings indefinitelj. It is not practicable to estimate the income tax liability that might be incurred if such earnings were remitted to the United States. Long-Term Debt Long-term debt (exclusive of current maturities) was: Short-Term Debt and Credit Arrangements Short-term debt was: Notes payable to banks Commercial paper Bank overdrafts Current portion of long-term debt Total 1997 S 312 1,200 126 88 SI,726 1996 $129 332 112 81 $654 Weighted average interest rates of notes payable as of Dec. 31: Banks <') Commercial paper 8.5% 5.9% 7.7% 5.5% (l) Includes the effect of notes in certain countries where local inflation results in high interest rates. Monsanto had aggregate short-term loan facilities of $746 million, under which loans totaling $312 million were outstanding as of Dec. 31, 1997. Interest on these loans is related to various bank rates. Monsanto has a $ 1.0 billion credit facility, expiring in 2001, which allows the company to request that lenders increase their com mitments up to an aggregate of $1.6 billion.There were no borrowings under this credit facility as of Dec. 31, 1997. This facility is used to support the issuance of com mercial paper. Interest on amounts borrowed under this agreement is expected to be at money market rates. Covenants under this credit facility restrict maximum borrowings. The company does not anticipate that future borrowings will be limited by the terms of this agreement. Historically, Monsanto did not allocate any short-term debt to the chemical businesses, because the company uses a centralized approach to cash management and the financ ing of its operations. Effective Sept. 1, 1997, in connection with the spinoff, Solutia assumed $ 1.0 billion of the com pany's short-term debt, primarily commercial paper, out standing on that date. Industrial revenue bond obligations, average rate in 1997 of 4.96%, due 1999 to 2028 Medium-term notes, rates in 1997 ranging from 8.55% to 9%, due 1999 to 2005 Commercial paper 6% notes due 2000 7.09% and 8.1 3% amortizing ESOP|l) notes and debentures due 2000 and 2006, guaranteed by the company 87/% debentures due 2009 5.6% yen note due 2016 8.7% debentures due 2021 8.2% debentures due 2025 6.75% debentures due 2027 Other Total 1997 1996 S 338 $ 338 90 145 625 325 150 150 101 99 77 100 150 198 51 SI,979 138 99 88 100 150 75 $1,608 (,) ESOP stands for employee stock ownership plan. Maturities and sinking-fund requirements on long term debt, excluding commercial paper, are $88 million in 1998, S84 million in 1999, S226 million in 2000, $43 million in 2001, and $35 million in 2002. Commercial paper balances of $625 million and $325 million as of Dec. 31, 1997 and 1996, respectively, have been classified as long-term debt. Monsanto has the ability and intent to renew these obligations beyond 1998. Interest-rate swap agreements are used to reduce interest rate risks and to manage interest expense. By entering into these agreements, the company changes the fixed/variable interest-rate mix of its debt portfolio. As of Dec. 31, 1997, Monsanto was party to interest-rate swap agreements with an aggregate notional principal amount of $90 million related to existing debt.The agreements effectively convert floating-rate debt into fixed-rate debt. This reduces the company's risk of incur ring higher interest costs in periods of rising interest rates. Monsanto is subject to loss if the counterparties to these agreements do not perform. Interest differentials to be paid or received because ofswap agreements are reflected as an adjustment to interest expense over the related debt period. Historically, Monsanto did not allocate any long-term debt to the chemical businesses, because the company uses a centralized approach to cash management and the financ ing of its operations. Effective Sept. 1, 1 997, in connection with the spinoff, Solutia's ESOP assumed $29 million of ESOP borrowings. 56 1997 Monsanto Annual Report TOWOLDMONO016084 NOTES TO FINANCIAL STATEMENTS (continued) Fair Values of Financial Instruments The estimated fair values of Monsanto's financial instru ments were: _'_________________ 1997 1996 LonOg-term debt RECORDED AMOUNT SI,979 FAIR VALUE RECORDED AMOUNT S2.053 $1,608 FAIR VALUE $1,681 The recorded amounts of cash, trade receivables, invest ments in securities, discounted receivables, third-party guarantees, commodity futures contracts, currency for ward contracts and swaps, accounts payable, interest-rate swaps, and short-term debt approximate their fair values. Fair values are estimated by the use of quoted market prices, estimates obtained from brokers, and other appro priate valuation techniques based on information available as of Dec. 31, 1997.The fair-value estimates do not neces sarily reflect the values Monsanto could realize in the current market. Postretirement Benefits -- Pensions Most Monsanto employees are covered by noncontribu tory pension plans.The components of pension cost were: Service cost for benefits earned during the year Interest cost on benefit obligation Assumed return on plan assets(2) Amortization of unrecognized net (gain) loss Total 1997 1996<1> 1995i'i S 61 $ 83 $ 70 148 287 291 (167) (322) (326) 13 S 55 9 $ 57 (25) $ 10 Continuing operations Discontinued operations Total S 55 S 55 $ 54 3 $ 57 $ 29 (19) $ 10 (,) In connection with the spinoff, Solutia assumed the pension liabilities and received related assets for its active employees and for certain former employees of the chemical businesses. The components of pension cost for 1996 and 1995 have not been restated for amounts related to continuing and discontinued operations as no detailed information was available. t2) Actual returns on plan assets were $350 million in 1997, S558 million in 1996, and $671 million in 1995. Pension benefits are based on an employee's years of service and/or compensation level. Pension plans are funded in accordance with Monsanto's long-range projec tions of the plans' financial conditions. These projections take into account benefits earned and expected to be earned, anticipated returns on pension plan assets, and income tax and other regulations. 57 1997 Monsanto Annual Report Pension costs were determined through the use of the preceding year-end rate assumptions. Assumptions used as of Dec. 31 for the principal plans were: Discount rate Assumed long-term rate of return on plan assets Annual rates of salary increase (for plans that base benefits on final compensation level) 1997 1996 7.00% 7.50% 1995 7.25% 9.50% 9.50% 9.50% 4.00% 4.50% 4.50% The funded status of Monsanto's pension plans at year-ena was: 1997 1996'1' Actuarial present value of plan benefits: Vested Nonvested ASSETS EXCEED ABO ABO EXCEEDS ASSETS S428 51,750 $3,495 1 77 154 Accumulated benefit obligation (ABO) Effect of projected future salary increases 429 1,827 3,649 54 173 377 Projected benefit obligation 483 2,000 4,026 Plan assets at fair value 466 1,563 3,817 Excess of projected benefit obligation over plan assets Unrecognized initial net gain Unrecognized prior service costs Unrecognized subsequent net gain (loss) Minimum liability adjustment 17 437 209 6 21 94 (29) (77) (264) (25) (45) 241 -- 33 Accrued net pension liability (asset)131 $(31) S 369 $ 280 Continuing operations Discontinued operations $(31) S 369 $ 208 72 Total accrued net pension liability (asset) S (31) S 369 $ 280 0) In connection with the spinoff, Solutia assumed the pension liabilities and received related assets for its active employees and for certain former employees of the chemical businesses. The projected benefit obligation, the fair value of plan assets and the components of accrued pension liability for 1996 have not been restated for amounts related to continuing and discon tinued operations as no detailed information was available. (2) Included $228 million in 1996 for unfunded plans. (}) Included S 1 38 million in 1996 for unfunded plans. TOWOLDMONOQ16085 NOTES TO FINANCIAL STATEMENTS (continued) The accrued net pension liability related to continuing operations was included in: 1997 1996 Postretirement liabilities Less other assets S390 (52) $264 (56) Accrued net pension liability S338 $208 As a result of employment reductions from the 1996 restructuring program, $36 million of restructuring reserves was transferred to accrued net pension liability during 1997. Included in the preceding table are plan assets and pro jected benefit obligations for the principal U.S. plans of approximately S1.55 billion and $ 1.96 billion, respec tively, as of Dec. 31, 1997. Plan assets consist principally of common stocks and U.S. government and corporate obligations. Contributions to these plans were neither required nor made in 1997, 1996 and 1995 because the company's principal pension plans are adequately funded, using assumed returns. Postretirement Benefits -- Health Care and Other Monsanto provides certain health care and life insur ance benefits for retired employees. Substantially all of Monsanto's regular, full-time U.S. employees and certain employees in other countries may become eligible for these benefits if they reach retirement age while employed by Monsanto. These postretirement benefits are unfunded and are generally based on the employee's years of service and/or compensation level. The costs of postretirement benefits are accrued by the date the employees become eligible for the benefits. The components of the cost of these postretirement benefits, principally health care and life insurance, were: 1997 Service cost for benefits earned during the year Interest cost on benefit obligation Amortization of unrecognized net (gain) loss S10 27 (3) Total S34 Continuing operations Discontinued operations S34 Total S34 1996'" 1995(1) $ 25 $ 21 88 94 2 (2) $115 $113 $ 33 $ 32 82 81 $115 $113 In connection with the spinoff, Solutia assumed the postretirement benefit liabilities for its active employees and for former employees who last worked at a chemical facility. The components of the cost of postretirement benefits for 1996 and 1995 have not been restated for amounts related to continuing and discontinued operations as no detailed information was available. Postretirement costs were determined by using the pre ceding year-end rate assumptions. Assumptions used as of Dec. 31 for the principal plans were: Discount rate Initial trend rate for health care costs'1' Ultimate trend rate for health care costs 1997 7.00% 1996 7.50% 1995 7.25% 7.00% 8.00% 9.00% 5.00% 5.00% 5.00% (l> The initial trend rate for health care costs declines by 1 percent per year, to 5 percent for years after the year 1999. A 1 percent increase in the assumed trend rate for health care costs would have increased the cost of 1997 postretire ment health care benefits by $ 1 million and the accumu lated benefit obligation by $ 15 million as of Dec. 31,1997. As of Dec. 31, the status of Monsanto's postretirement health care and life insurance benefit plans, and employee disability benefit plans was: 1997 1996"' Accumulated benefit obligation: Retirees Eligible active employees Other active employees S314 $ 938 17 60 52 251 Total 383 1,249 Unrecognized benefits from prior service 12 27 Unrecognized subsequent net loss (26) (28) Accrued liability S369 $1,248 Continuing operations Discontinued operations S369 $ 356 892 Accrued liability S369 $1,248 <9 In connection with the spinoff, Solutia assumed the postretirement benefit liabilities for its active employees and for former employees w'ho last worked at a chemical facility. The accumulated benefit obligation and the components of the accrued liability for 1996 have not been restated for amounts related to continuing and discontinued operations as no detailed information was available. The accrued liability related to continuing operations was included in: 1997 1996'" Miscellaneous accruals Postretirement liabilities S 24 $ 26 345 330 Accrued liability S369 $ 356 The assumptions used to compute the accumulated benefit obligation of the principal plans were changed as of Dec. 31, 1997. That resulted in a decrease of approxi mately $26 million in the obligation. 58 1997 Monsanto Annual Report TOWOLDMONOOI6086 NOTES TO FINANCIAL STATEMENTS (continued) Employee Savings Plans For some company employee savings plans, employee contributions are matched in part by Monsanto. The value of these contributions for such plans was $39 million in 1997, and $30 million in both 1996 and 1995. Monsanto has established an Employee Stock Ownership Plan (ESOP), which held 14.7 million shares of Monsanto common stock as of Dec. 31, 1997. The ESOP acquired shares by using proceeds from the issuance of long-term notes and debentures guaranteed by Monsanto.The ESOP also borrowed $50 million from Monsanto. A portion of the ESOP shares is allocated each year to employee savings accounts as matching contributions. In 1997, 954,778 shares were allocated to participants under the plan, leav ing 10,150,488 unallocated shares as of Dec. 31, 1997. Unallocated shares held by the ESOP are considered outstand ingfor earnings-per-share calculations. Compensation expense is equal to the cost of the shares allocated to participants, less cash dividends paid on the shares held by the ESOP. Dividends on the common stock owned by the ESOP are used to repay the ESOP borrowings, which were $ 139 million as of Dec. 31,1997. In September 1997, the ESOP received Solutia shares from the spinoff. These shares were exchanged for Monsanto shares. Also in connection with the spinoff, Solutia's ESOP received 2.4 million unallocated shares of Monsanto common shares held by the ESOP, and also assumed $29 million of ESOP borrowings. Total ESOP expense Interest portion of total ESOP expense Cash contribution Dividends paid on ESOP shares held 1997 SI 8 1996 $14 1995 $21 12 12 13 6 16 18 8 11 10 whichever comes first. Certain options granted to senior management vest upon the attainment ot pre-established prices within specified time periods. Under the company's Shared Success Stock Option Plan, most regular full-time and regular part-time employees of the company were granted options on 200 shares of common stock in 1996 and 330 shares in 1997. The maximum number of shares for which stock options may be granted under this plan totals 14.8 million. Approximately 10.4 million options, which vest from April 1999 to February 2000, are out standing under this plan. The exercise price of each option is determined by the committee and generally equals the market price of the company's stock on the date of grant. An option's maximum term is 10 years. As permitted by Statement of Financial Accounting Standard (SFAS) No. 123, "Accountingfor Stock-Based Compensation,"the company has elected to continuefollowing the guidance ojAccounting Principles Board (APB) Opinion No. 25, "Accountingfor Stock Issued to Employees,"for mea surement and recognition ofstock-based transactions with employees. Accordingly, no compensation cost has been rec ognized for the company's option plans. Flad the determi nation of compensation cost for these plans been based on the fair value at the grant dates for awards under these plans, consistent with the method of SFAS No. 123, the company's income from continuing operations and earn ings per share from continuing operations would have been reduced to the pro forma amounts indicated below: Income from continuing operations: As reported Pro forma Earnings per share -- continuing operations: As reported Pro forma 1997 1996 S 294 206 $413 331 SO.48 0.34 $0.69 0.57 Stock Option Plans The company grants stock options under two fixed plans. Under the company's Management Incentive Plan of 1996, the company may grant key officers and manage ment employees stock-based awards, including stock options, of up to 71,605,350 shares of common stock. Under this plan, the exercise price of each option equals not less than the market price of the company's stock on the date of grant. An option's maximum term is 10 years. Options are granted at the discretion of the board of direc tors' people committee or its delegate. Options generally vest upon the achievement of business performance tar gets or the ninth anniversary of the option grant date, The pro forma compensation expense may not be rep resentative of pro forma compensation expense that would be incurred in future years. In computing the pro forma compensation expense, the fair value of each option grant is estimated on the date of grant by using the Black-Scholes option-pricing model. The following weighted-average assumptions were used for grants: 1997 1996 Expected dividend yield Expected volatility Risk-free interest rates Expected option lives (years) 0.29% 27.0% 6.4% 4.3 1.5% 25.0% 6.0% 4.0 59 1997 Monsanto Annual Report TOWOLDMONO016087 NOTES TO FINANCIAL STATEMENTS (continued) ' A summary of the status of the company's stock option As a result of the spinoff, options to purchase the com plans for the three-year period ended Dec. 31,1997, follows: pany's common stock under the aforementioned plans were OUTSTANDING converted to options to purchase Solutia common stock or to adjusted options to purchase the company's common EXERCISABLE SHARES SHARES WEIGHTED-AVERAGE EXERCISE PRICE stock, or a combination of both. Recognition of compensation expense was not required as a result of these conversions. Dec. 31,1994 35,842,995 68,543,900 S11.75 1995: Earnings per Share Granted Exercised Expired 7,278,725 (20,135,570) (417,745) 16.01 10.83 14.12 Effective Dec. 31, 1997, Monsanto adopted Statement of Financial Accounting Standard (SFAS) No. 1 28, "Earnings per Share." SFAS 128 establishes standards for computing Dec. 31,1995 45,383,790 55,269,310 $12.63 and presenting earnings per share (EPS).The presentation 1996: Granted Exercised Expired 25,004,150 (16,327,617) (801,605) 33.38 11.93 22.59 of primary and fully diluted EPS required by old standards is replaced by basic and diluted EPS. Basic EPS measures operating performance assuming no dilution from securi ties or contracts to issue common stock. Diluted EPS measures operating performance giving effect to the dilu Dec. 31,1996 38,362,943 63,144,238 $20.90 tion that would occur when securities or contracts to issue 1997: Granted Exercised Expired 27,740,275 (12,002,286) (3,476,815) 37.98 13.64 34.71 common stock are exercised or converted. Basic EPS from continuing operations were computed using the weighted average number of common shares out standing each year (S90.2 million in 1997, 581.2 million in 1996, and 567.2 million in 1995). Diluted EPS from con Dec. 31,1997 45,257,512 75,405,412 S25.22 tinuing operations were computed taking into account the effect of dilutive potential common shares (20.3 million in The weighted-average fair values of options granted dur mg 199 / and 1996 were $10 .01 and $6.86, respectively. 1997, 17.7million in 1996, and 13.4million in 1995). Dilutive potential common shares consist of outstanding The following table summarizes information about stock options outstanding as of Dec. 31, 1997 stock options. As of Dec. 31, 1997, options to purchase approximately 3.6 million shares of common stock were Options Outstanding outstanding, but they were not included in the computation of diluted EPS because the exercise prices of the options RANGE OF EXERCISE PRICES $ 7.00 to 9.99 10.00 to 14.99 15.00 to 19.99 20.00 to 29.99 30.00 to 39.99 40.00 to 55.00 SHARES 8,890,440 18,433,740 451,112 10,283,175 34,997,093 2,349,852 WEIGHTED-AVERAGE REMAINING CONTRACTUAL LIFE WEIGHTEDAVERAGE EXERCISE PRICE 4.5 years 5.3 7.6 8.2 8.9 6.8 $ 9.11 13.13 16.95 26.20 34.19 44.72 were greater than the average market price of the common shares. These options expire from 2006 through 2007. See the previous note for more information about Monsanto's stock options. Capital Stock As of Dec. 31, 1997, there were 119.8 million common shares reserved for employee stock options. $ 7.00 to 55.00 75,405,412 8.2 $25.22 In January 1990, the company's board of directors declared a dividend of one preferred stock purchase right Options Exercisable on each then-outstanding share of the company's common stock. If a person or group acquires beneficial ownership of RANGE OF EXERCISE PRICES $ 7.00 to 9.99 10.00 to 14.99 15.00 to 19.99 20.00 to 29.99 30.00 to 39.99 SHARES 8,890,440 18,410,240 394,528 5,533,204 12,029,100 WEIGHTEDAVERAGE EXERCISE PRICE $ 9.11 13.13 16.73 24.97 34.42 20 percent or more, or announces a tender offer that would result in beneficial ownership of 20 percent or more, of the company's outstanding common stock, the rights become exercisable and, as a result of two subsequent stock splits, for every 10 rights held, the owner will be entitled to pur chase one one-hundredth of a share of a new series of pre ferred stock for S450. If Monsanto is acquired in a business combination transaction while the rights are outstanding, $ 7.00 to 39.99 45,257,512 $19.48 for every 10 rights held, the holder will be entitled to pur chase, for $450, common shares of the acquiring company 60 1997 Monsanto Annual Report TOWOLDMONOOI6088 NOTES TO FINANCIAL STATEMENTS (continued) having a market value of $900. In addition, if a person or group acquires beneficial ownership of 20 percent or more of the company's outstanding common stock, for every 10 rights held, the holder (other than such person or members of such group) will be entitled to purchase, for $450, a number of shares of the company's common stock having a market value of $900. Furthermore, at any time after a person or group acquires beneficial ownership of 20 percent or more (but less than 50 percent) of the company's out standing common stock, the board of directors may, at its option, exchange part or all of the rights (other than rights held by the acquiring person or group) for shares of the company's common stock on a one-share-for-every-10rights basis. At any time prior to the acquisition of such a 20 percent position, the company can redeem each right for $0,001 .The board of directors also is authorized to reduce the aforementioned 20 percent thresholds to not less than 10 percent.The rights expire in the year 2000. Commitments and Contingencies Commitments, principally in connection with uncom pleted additions to property, were approximately $ 116 million as of Dec. 31, 1997. Excluding the ESOP notes and debentures, Monsanto was contingently liable as a Oguarantor for bank loans and for discounted customers' receivables totaling approximately $ 123 million as of Dec. 31, 1997, and $156 million as of Dec. 31, 1996. Future minimum payments under noncancelable operating leases, unconditional inventory purchases, and R&D alliances are $105 million for 1998, $83 million for 1999, $57 million for 2000, $47 million for 2001, $43 million for 2002, and $76 million thereafter. The more significant concentrations in Monsanto's trade receivables at year-end were: 1997 U.S. agricultural product distributors European agricultural product distributors Pharmaceutical distributors worldwide Customers in the former Soviet Union Customers in southeast Asia $359 203 435 75 31 1996 $361 156 399 44 50 Management does not anticipate losses on its trade receivables in excess of established allowances. CostsJor remediation of waste disposal sites are accrued in the accounting period in which the responsibility is established and when the cost is estimable. Postclosure and remediation costsJor hazardous and other wastefacilities at operating locations are accrued over the estimated life ofthefacility as part of its anticipated closure cost. Monsanto's Statement of Consolidated Financial Position included accrued liabili ties of $ 19 million as of Dec. 31,1997, and $25 million as of Dec. 31, 1996, for the remediation of identified waste disposal sites. Monsanto's future remediation expenses for waste disposal sites are affected by a number of uncertainties. These uncertainties include, but are not limited to, the method and extent of remediation, the percentage of material attributable to Monsanto at the sites relative to that attributable to other parties, and the financial capabili ties of the other potentially responsible parties (PRPs). The company does not expect the resolution of such uncertainties to have a material effect on profitability. Monsanto is a party to a number of lawsuits and claims, which it is vigorously defending. Such matters arise out of the normal course of business and relate to a variety of issues. Certain of the lawsuits and claims seek damages in very large amounts, or seek to restrict the company's business activities. Although the results of litigation cannot be predicted with certainty, management's belief, based upon the advice of companv counsel, is that the final outcome of such litigOation will not have a material adverse effect on Monsanto's consolidated financial position, profitability or liquidity in any one year, as applicable. Supplemental Data Supplemental income statement data were: 1997 Rent expense S 130 Technological expenses: Research and development Engineering, commercial development and patent S 939 105 Total technological expenses SI,044 Interest expense: Total interest cost Less capitalized interest S 184 (14) Net interest expense S 170 Currency losses including equity in affiliates' currency gains and losses S 68 1996 $111 $647 55 $702 $128 0) $119 $6 1995 $102 $568 33 $601 $137 (5) $132 $6 Segment Information Certain segment data and geographic data for 1997, 1996 and 1995 that appear on pages 35 and 42 are integral parts of the accompanying financial statements. The company's principal product lines are discussed in the segment data. 61 1997 Monsanto Annual Report TOWOLDMONO016089 FINANCIAL SUMMARY (Dollars in millions, except per share) Operating Results Net Sales Operating Income (Loss) As a Percent of Net Sales Income (Loss) from Continuing Operations As a Percent of Net Sales Income (Loss) from Discontinued Operations(7) Cumulativ e Effect of Accounting Changes Net Income (Loss) Earnings per Share: <8> Income (Loss) from Continuing Operations Net Income (Loss) Year-End Financial Position Total Assets Working Capital Property, Plant and Equipment: Gross Net Long-Term Debt Shareowners' Equity Current Ratio Percent ofTotal Debt to Total Capitalization Other Data Stock Price: (8>9> High Low Year-End Price/Earnings Ratio onYear-End Stock Price Per Share:(8> Dividends (l0) Shareowners' Equity Shareowners (year-end) Shares Outstanding (year-end, in millions)<8) Employees (year-end) (9> 1997m 1996121 S 7,514 499 7% 294 4% $ 6,348 595 9% 413 7% 176 (28) 470 385 S 0.48 0.77 $ 0.69 0.64 $10,774 727 $11,237 939 S 4,701 2,400 S 1,979 4,104 1.2 47% $ 4,428 2,095 $ 1,608 3,690 1.3 38% S 52,5/is $ 43% 34% 23 42 38 % 55 60 S 0.500 6.89 61,265 595 21,900 $ 0.588 6.31 54,828 584 28,000 1995 $ 5,410 698 13% 461 9% 278 739 $ 0.79 1.27 $10,731 1,493 $ 4,111 1,893 $ 1,667 3,732 1.5 35% $ 25 13% 24% 19 $ 0.540 6.46 50,745 575 28,500 1994 $ 4,679 643 14% 454 10% 168 622 $ 0.78 1.06 $ 9,103 1,448 $ 3,748 1,673 $ 1,405 2,948 1.6 37% $ 17/a 13/a 14% 13 $ 0.494 5.29 53,694 560 29,400 1993 $ 4,304 485 11% 298 7% 196 494 $ 0.50 0.82 $ 8,788 1,377 $ 3,687 1,669 $ 1,502 2,855 1.6 38% $ 15 97a 14% 18 $ 0.460 4.92 56,601 580 30,000 1992 $ 4,119 (16) -- (151) (4)% 603 (540) (88) $ (0.24) (0.14) $ 9,210 1,512 $ 3,689 1,737 $ 1,423 3,005 1.6 36% $ 14% 9% 11% -- $ 0.440 4.99 60,074 600 33,800 (1) Income from continuing operations for 1997 included $455 million, or $0.75 per share, for the write-off of acquired in-process research and development. (2) Income from continuing operations for 1996 included restructuring and other unusual charges of S257 million, or $0.43 per share, associated with the closure or rationalization of certain facilities, asset write-offs and work force reductions. (!l Income from continuing operations for 1995 included net restructuring expenses and other unusual items of $63 million, or $0.1 1 per share. (+l Income from continuing operations for 1994 included a net aftertax gain for restructuring and other unusual items of $20 million, or $0.03 per share. (5> Income from continuing operations for 1993 included a net aftertax loss for restructuring and other unusual items of $ 11 million, or $0.02 per share. (6) Loss from continuing operations for 1992 included a net aftertax loss for restructuring and other unusual items of $393 million, or $0.64 per share. (7) Includes sale of styrenics plastics business in 1995 and sale of Fisher Controls in 1992. (8) Stock prices, per share amounts and shares outstanding were restated to reflect the May 1996 five-for-one stock split. (9) Amounts prior to 1997 were not restated to reflect the spinoff of the chemical businesses. (10>The quarterly common stock dividend was reduced from $0.16 per share to $0.03 per share in the 1997 fourth quarter. 62 1997 Monsanto Annual Report TOWOLDMON0016090 OFFICERS Chairman of the Board and Chief Executive Officer Robert B. Shapiro"1 Vice Chairman of the Board Nicholas L. Reding President Hendrik A. Verfaillie"1 Vice Chairmen Richard U. De Schutter"1 Robert B. Hoffman"1 Robert W. Reynolds"1 Executive Vice President Pierre Hochuli"1 Senior Vice President, General Counsel and Secretary R. William Ide III"' Senior Vice Presidents Arnold W. Donald " Steven L. Engelberg" David L. Morley1" Philip Needleman, Ph.D.1" Virginia V. Weldon, M.D. Vice Presidents Kees Been Philip H. Brodsky, Ph.D. A. Nicholas Filippello, Ph.D. Linda J. Fisher Patrick J. Fortune, Ph.D. " Donna A. Kindi1" Frank N. Kotsonis, Ph.D. Richard A. Overton Steve R. Stetz Jr. Michael W. Winkel Vice President and Controller Michael R. Hogan Vice President and Treasurer Juanita H. Hinshaw f'iExecutive officers as defined by the Securities and Exchange Commission. <3) Virginia V. Weldon, M.D., will retire from Monsanto Company on March 1, 1998. 63 1997 Monsanto Annual Report TOWOLDMONO016091 BOARD OF DIRECTORS Robert B. Shapiro, 59, of St. Louis, is chairman of the board and chief executive officer of Monsanto. He joined Searle, Monsanto's pharmaceutical business, in 1979. Mr. Shapiro also has served as the head of the NutraSweet business, and as the head of Monsanto's agricultural business. He has been a director for five years. Mr. Shapiro chairs the board's executive committee. Robert M. Heyssel, M.D., 69, of Seaford, Delaware, is a consultant and president emeritus of the Johns Hopkins Health System, a group of not-for-profit medical centers in Baltimore. He is the retired president and chief execu tive officer of the Johns Hopkins Health System and the Johns Hopkins Hospital. Dr. Heyssel has been a Monsanto director for nine years. He is a member of the board's people and science and technology committees. Michael (Mickey) Kantor, 58, of Washington, D.C., is the former secretary of the U.S. Commerce Department (1996-97) and former U.S. trade representative (1993-96). He currently works for the firm of Mayer, Brown and Platt.This is his first year as a Monsanto director. He is a member of the board's finance and public policy committees. Gwendolyn S. King, 57, of Washington, D.C., is a retired senior vice president, corporate and public affairs for PECO Energy Co., an electric and natural gas provider for the greater Philadelphia area. She is also a former commissioner of the U.S. Social Security Administration. Mrs. King has been a Monsanto director for four years. She chairs the board's public policy committee and is a member of the people and executive committees and the special committee regarding agricultural biotech nology matters. Philip Leder, M.D., 63, of Boston, is chairman of the Department of Genetics at Harvard Medical School. He is also senior investigator for the Howard Hughes Medical Institute. Dr. Leder has been a Monsanto director for eight years. He chairs the board's science and technology committee and is a member of the people and executive committees and the special committee regarding agricul tural biotechnology matters. Jacobus F.M. Peters, 66, of Wassenaar, the Netherlands, is the retired chairman of the executive board and chief executive officer of AEGON N.V., an international insur ance and financial services company. He has been a Monsanto director for five years. Mr. Peters is a member of the board's finance and public policy committees. Nicholas L. Reding, 63, of St. Louis, is vice chairman of the board of Monsanto. He has been a director for five years. Mr. Reding joined Monsanto in 1956 and headed the company's agricultural businesses for 14 years. He also has served as an executive vice president of Monsanto, with responsibilities for environmental, safety and health, and manufacturing operations. Mr. Reding chairs the board's special committee regarding agricultural biotech nology matters. John S. Reed, 59, of New York, is chairman and chief executive officer of Citicorp and Citibank N.A. financial service companies. He has been a Monsanto director for 12 years. Mr. Reed chairs the board's finance committee and is a member of the science and technology committee. John E. Robson, 67, of San Francisco, is an investment banker and senior adviser of BancAmerica ROBERTSON STEPHENS, an investment banking firm. He is a former president and chief executive officer of Searle before it became a subsidiary of Monsanto. He is also a former deputy secretary of the U.S. Treasury Department, chair man of the Civil Aeronautics Board, dean of the Emory University School of Business Administration, and a corporate attorney. This is Mr. Robson's second year on the board, and he is a member of the finance and science and technology committees. William D. Ruckelshaus, 65, of Seattle, is chairman of Browning-Ferris Industries Inc., a waste management firm, and a principal of the Madrona Investment Group L.L.C. He is a former administrator of the U.S. Environmental Protection Agency. Mr. Ruckelshaus has been a Monsanto director for 12 years. He chairs the board's people committee and is a member of the public policy committee and the special committee regarding agricultural biotechnology matters. Ages and years of service as of March 1, 1998. 64 1997 Monsanto Annual Report TOWOLDMONOQ16092 SHAREOWNER INFORMATION Dividend Policy The declaration and payment of quarterly dividends is made at the discretion of Monsanto's board of directors. The dividend is reviewed by the board quarterly. Monsanto has paid quarterly dividends on its common shares without interruption since 1928. Direct Deposit of Dividends and Dividend Reinvestment Plan Registered shareowners (shareowners whose stock certificates state that they are the holders of shares in Monsanto) may have their quarterly dividend check deposited directly to their bank account or may reinvest their dividends in common shares of Monsanto. For more information, or to request an enrollment form, please call or write Monsanto's agent, First Chicago Trust Company of New York. Duplicate Mailings If you receive duplicate mailings of Monsanto's annual report and would like for us to eliminate the extra copies, please send us your written permission. Duplicate mail ings can occur if shares are held in multiple accounts, are registered under different names, or are registered with slight differences in names and addresses. Please send the labels from the copies you don't want or the names of the accounts to Monsanto's agent, First Chicago Trust Company of New York. If you have the account numbers, that's also helpful. Transfer Agent and Registrar To request or send information contact: First Chicago Trust Company of New York P.O. Box 2500 Jersey City, New Jersey 07303-2500 U.S.A. Telephone: (888) 312-8333 (toll free within the United States and Canada) (201) 324-0498 (outside the United States and Canada) On the Internet: http://www.fctc.com This report is printed with vegetable-based ink on recycled paper that contains 20 percent postconsumer waste and 40 percent recycled fiber. Trademarks and service marks owned or licensed by Monsanto and its subsidiaries are indicated by special type throughout this publication. Pentium is a registered trademark of Intel Corp. EVA is a trademark of Stern Stewart & Co. Buctril and BXN are registered trademarks of Rhone Poulenc Ag Co. Page 19 photo: Sandy Creek Covered Bridge, Missouri state historic site. Additional Shareowner Information Shareowner, financial and other information about Monsanto is available to you free of charge from several sources throughout the year. These materials include quarterly earnings statements, significant news releases and Forms 10-K and 10-Q, which are filed with the U.S. Securities and Exchange Commission. There are a number of ways you can access this information: On the Internet: You can access financial and other informa tion, such as significant news releases, Forms 10-K and 10-Q, and the text of this annual report, on the Internet at http://www.monsanto.com By telephone: You can obtain the additional information listed above through our automated telephone system by dialing (314) 694-5432. By writing: You can also request these materials by writing: Monsanto Company - D2000 800 North Lindbergh Boulevard St. Louis, Missouri 63167 U.S.A. Additional Information about Monsanto Monsanto's Sustainable Development Report You can obtain a copy of Monsanto's sustainable development report on the Internet at http://www.monsanto.com or by calling (314) 694-5432. Monsanto's Diversity Report Monsanto is an equal opportunity employer. To obtain a copy of Monsanto's diversity report, visit our web site at http://www.monsanto.com or call (314) 694-5432. Annual Meeting The next annual meeting of the shareowners of Monsanto will be held at 1:30 p.m., Friday, April 24, 1998, at The Field Museum located at Roosevelt Road at Lake Shore Drive, Chicago, Illinois. A formal notice of the meeting, together with a proxy statement, is being mailed to each shareowner. MTC Monsanto's stock is traded principally |mrinj on the New York Stock Exchange. illoE Our stock symbol is MTC. 65 1997 Monsanto Annual Report TOWOLDMONO016093 MON SANTO Food Fiealth Hope TM 800 North Lindbergh Boulevard St. Louis. Missouri 63167 U.S.A. www.monsanto.uun