-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, GwZhxoqbykYC/zvpH6dLovy+gNBpNzLUcxgv3qu6TlPea1KwTWCYn3koJxHss5gA vQ7FZFs+VasWza51Ad+UYQ== 0001068800-03-000510.txt : 20030814 0001068800-03-000510.hdr.sgml : 20030814 20030814172507 ACCESSION NUMBER: 0001068800-03-000510 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 11 CONFORMED PERIOD OF REPORT: 20030630 FILED AS OF DATE: 20030814 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SOLUTIA INC CENTRAL INDEX KEY: 0001043382 STANDARD INDUSTRIAL CLASSIFICATION: CHEMICALS & ALLIED PRODUCTS [2800] IRS NUMBER: 431781797 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-13255 FILM NUMBER: 03848930 BUSINESS ADDRESS: STREET 1: 575 MARYVILLE CENTRE DRIVE STREET 2: P O BOX 66760 CITY: ST. LOUIS STATE: MO ZIP: 63166-6760 BUSINESS PHONE: 3146741000 MAIL ADDRESS: STREET 1: P O BOX 66760 CITY: ST. LOUIS STATE: MO ZIP: 63166-6760 FORMER COMPANY: FORMER CONFORMED NAME: QUEENY CHEMICAL CO DATE OF NAME CHANGE: 19970804 10-Q 1 sol10q.txt ============================================================================== - ------------------------------------------------------------------------------ - ------------------------------------------------------------------------------ FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 (MARK ONE) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 001-13255 --------- SOLUTIA INC. ------------ (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 43-1781797 -------- ---------- (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 575 MARYVILLE CENTRE DRIVE, P.O. BOX 66760, ST. LOUIS, MISSOURI 63166-6760 -------------------------------------------------------------------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (314) 674-1000 -------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS TO BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING TWELVE MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES X NO . --- --- INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS AN ACCELERATED FILER (AS DEFINED IN RULE 12b-2 OF THE EXCHANGE ACT). YES X NO . --- --- INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE. OUTSTANDING AT CLASS JUNE 30, 2003 ----- ------------- COMMON STOCK, $0.01 PAR VALUE 104,563,497 SHARES ----------------------------- ------------------ - ------------------------------------------------------------------------------ - ------------------------------------------------------------------------------ PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS SOLUTIA INC. STATEMENT OF CONSOLIDATED INCOME (LOSS) (DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS SIX MONTHS ENDED JUNE 30, ENDED JUNE 30, ------------------- -------------------- 2003 2002 2003 2002 ------ ----- ------ ------ NET SALES ......................................................... $ 611 $ 585 $1,207 $1,105 Cost of goods sold ................................................ 562 489 1,089 922 ------ ----- ------ ------ GROSS PROFIT ...................................................... 49 96 118 183 Marketing expenses ................................................ 40 36 79 71 Administrative expenses ........................................... 33 31 63 63 Technological expenses ............................................ 11 12 23 23 Amortization expense .............................................. -- -- 1 1 ------ ----- ------ ------ OPERATING INCOME (LOSS) ........................................... (35) 17 (48) 25 Equity earnings (loss) from affiliates--net of tax ................ -- 4 (2) 12 Interest expense .................................................. (25) (16) (48) (35) Other income--net ................................................. 1 2 8 9 ------ ----- ------ ------ INCOME (LOSS) BEFORE INCOME TAXES ................................. (59) 7 (90) 11 Income taxes (benefit) ............................................ (21) (4) (35) (4) ------ ----- ------ ------ INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE DISCONTINUED OPERATIONS AND CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE ....................................................... (38) 11 (55) 15 INCOME (LOSS) FROM DISCONTINUED OPERATIONS, NET OF TAX ............ -- 12 (2) 22 CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE ............... -- -- -- (167) ------ ----- ------ ------ NET INCOME (LOSS) ................................................. $ (38) $ 23 $ (57) $ (130) ====== ===== ====== ====== BASIC EARNINGS (LOSS) PER SHARE: Income (Loss) from Continuing Operations Before Discontinued Operations and Cumulative Effect of Change in Accounting Principle ....................................................... $(0.36) $0.10 $(0.52) $ 0.14 Net Income (Loss) per Share ....................................... $(0.36) $0.22 $(0.54) $(1.24) DILUTED EARNINGS (LOSS) PER SHARE: Income (Loss) from Continuing Operations Before Discontinued Operations and Cumulative Effect of Change in Accounting Principle ....................................................... $(0.36) $0.10 $(0.52) $ 0.14 Net Income (Loss) per Share ....................................... $(0.36) $0.22 $(0.54) $(1.24) WEIGHTED AVERAGE EQUIVALENT SHARES (IN MILLIONS): Basic ......................................................... 104.6 104.8 104.6 104.7 Diluted ....................................................... 104.6 105.1 104.6 105.1 STATEMENT OF CONSOLIDATED COMPREHENSIVE INCOME (LOSS) (DOLLARS IN MILLIONS) THREE MONTHS SIX MONTHS ENDED JUNE 30, ENDED JUNE 30, ------------------ ------------------ 2003 2002 2003 2002 ---- ---- ---- ---- NET INCOME (LOSS)................................................ $ (38) $ 23 $ (57) $ (130) OTHER COMPREHENSIVE INCOME (LOSS): Currency translation adjustments ................................ 6 87 43 82 Unrealized investment gain (loss), net of tax.................... -- (1) -- -- Net realized loss on derivative instruments, net of tax ......... -- -- -- 1 ------ ----- ------ ------ COMPREHENSIVE INCOME (LOSS)...................................... $ (32) $ 109 $ (14) $ (47) ====== ===== ====== ====== See accompanying Notes to Consolidated Financial Statements.
SOLUTIA INC. STATEMENT OF CONSOLIDATED FINANCIAL POSITION (DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
JUNE 30, DECEMBER 31, 2003 2002 -------- ------------ ASSETS CURRENT ASSETS: Cash and cash equivalents....................................................... $ 84 $ 17 Trade receivables, net of allowances of $17 in 2003 and $16 in 2002............. 304 270 Miscellaneous receivables....................................................... 106 97 Prepaid expenses................................................................ 14 17 Deferred income tax benefit..................................................... 142 108 Inventories..................................................................... 269 262 Assets of Discontinued Operations .............................................. -- 636 ------ ------ TOTAL CURRENT ASSETS............................................................ 919 1,407 PROPERTY, PLANT AND EQUIPMENT: Land............................................................................ 19 19 Buildings....................................................................... 380 375 Machinery and equipment......................................................... 2,997 2,946 Construction in progress........................................................ 24 26 ------ ------ Total property, plant and equipment............................................. 3,420 3,366 Less accumulated depreciation................................................... 2,496 2,436 ------ ------ NET PROPERTY, PLANT AND EQUIPMENT............................................... 924 930 INVESTMENTS IN AFFILIATES....................................................... 254 232 GOODWILL........................................................................ 146 144 IDENTIFIED INTANGIBLE ASSETS, NET............................................... 67 66 LONG-TERM DEFERRED INCOME TAX BENEFIT........................................... 305 290 OTHER ASSETS.................................................................... 335 273 ------ ------ TOTAL ASSETS.................................................................... $2,950 $3,342 ====== ====== LIABILITIES AND SHAREHOLDERS' DEFICIT CURRENT LIABILITIES: Accounts payable................................................................ $ 212 $ 234 Wages and benefits.............................................................. 29 42 Postretirement liabilities...................................................... 100 93 Miscellaneous accruals.......................................................... 343 314 Short-term debt................................................................. 120 358 Liabilities of Discontinued Operations ......................................... -- 165 ------ ------ TOTAL CURRENT LIABILITIES....................................................... 804 1,206 LONG-TERM DEBT.................................................................. 863 839 POSTRETIREMENT LIABILITIES...................................................... 1,162 1,164 OTHER LIABILITIES............................................................... 384 382 SHAREHOLDERS' DEFICIT: Common stock (authorized, 600,000,000 shares, par value $0.01) Issued: 118,400,635 shares in 2003 and 2002................................. 1 1 Additional Contributed Capital.............................................. 19 19 Treasury stock, at cost (13,837,138 shares in 2003 and 13,659,351 shares in 2002, respectively)....................................................... (251) (251) Net deficiency of assets at spinoff............................................. (113) (113) Accumulated other comprehensive loss............................................ (103) (146) Reinvested earnings............................................................. 184 241 ------ ------ TOTAL SHAREHOLDERS' DEFICIT..................................................... (263) (249) ------ ------ TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT..................................... $2,950 $3,342 ====== ====== See accompanying Notes to Consolidated Financial Statements.
SOLUTIA INC. STATEMENT OF CONSOLIDATED CASH FLOWS (DOLLARS IN MILLIONS)
SIX MONTHS ENDED JUNE 30, --------------------- 2003 2002 ----- ----- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS OPERATING ACTIVITIES: Net loss $ (57) $(130) Adjustments to reconcile to Cash Provided by (Used in) Operations: Cumulative effect of change in accounting principle .............................. -- 167 Depreciation and amortization ................................................... 68 67 (Income) Loss from discontinued operations, net of tax ........................... 2 (22) Amortization of deferred credits.................................................. (7) (7) Amortization of deferred debt issuance costs and debt discount ................... 8 4 Restructuring expenses and other charges ......................................... 50 -- Net pretax gains from asset disposals............................................. -- (6) Changes in assets and liabilities: Income and deferred taxes..................................................... (40) 64 Trade receivables............................................................. (34) (56) Inventories................................................................... (7) (15) Accounts payable.............................................................. (22) 24 Other assets and liabilities.................................................. (2) (51) ----- ----- CASH PROVIDED BY (USED IN) OPERATIONS--CONTINUING OPERATIONS ......................... (41) 39 CASH PROVIDED BY (USED IN) OPERATIONS--DISCONTINUED OPERATIONS ....................... (11) 10 ----- ----- CASH PROVIDED BY (USED IN) OPERATIONS................................................. (52) 49 ----- ----- INVESTING ACTIVITIES: Property, plant and equipment purchases............................................... (46) (27) Acquisition and investment payments, net of cash acquired ............................ (27) (17) Property disposals and investment proceeds............................................ (1) 102 ----- ----- CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES--CONTINUING OPERATIONS ............... (74) 58 CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES--DISCONTINUED OPERATIONS ............. 477 (6) ----- ----- CASH PROVIDED BY INVESTING ACTIVITIES................................................. 403 52 ----- ----- FINANCING ACTIVITIES: Net change in short-term debt obligations............................................. (239) (109) Deferred debt issuance cost .......................................................... -- (1) Common stock issued under employee stock plans........................................ -- 2 Other financing activities............................................................ (40) (3) ----- ----- CASH USED IN FINANCING ACTIVITIES--CONTINUING OPERATIONS.............................. (279) (111) CASH USED IN FINANCING ACTIVITIES--DISCONTINUED OPERATIONS............................ (5) -- ----- ----- CASH USED IN FINANCING ACTIVITIES..................................................... (284) (111) ----- ----- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ..................................... 67 (10) CASH AND CASH EQUIVALENTS: BEGINNING OF YEAR..................................................................... 17 23 ----- ----- END OF PERIOD......................................................................... $ 84 $ 13 ===== ===== See accompanying Notes to Consolidated Financial Statements.
SOLUTIA INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DOLLARS IN MILLIONS) 1. SIGNIFICANT ACCOUNTING POLICIES Nature of Operations Solutia Inc. and its subsidiaries make and sell a variety of high-performance chemical-based materials. Solutia is a world leader in performance films for laminated safety glass and after-market applications; process development and scale-up services for pharmaceutical fine chemicals; specialties such as water treatment chemicals, heat transfer fluids and aviation hydraulic fluid and an integrated family of nylon products including high-performance polymers and fibers. Prior to September 1, 1997, Solutia was a wholly-owned subsidiary of the former Monsanto Company (now known as Pharmacia Corporation). On September 1, 1997, Monsanto distributed all of the outstanding shares of common stock of the Company as a dividend to Monsanto stockholders (the spinoff). As a result of the spinoff, on September 1, 1997, Solutia became an independent publicly-held company listed on the New York Stock Exchange and its operations ceased to be owned by Monsanto. A net deficiency of assets of $113 million resulted from the spinoff. Basis of Consolidation The consolidated financial statements include the accounts of Solutia and its majority-owned subsidiaries. Other companies in which Solutia has a significant interest (20 to 50 percent) are included in "Investments in Affiliates" in the Statement of Consolidated Financial Position. Solutia's share of these companies' net earnings or losses is reflected in "Equity Earnings (Loss) from Affiliates" in the Statement of Consolidated Income (Loss). Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and that affect revenues and expenses during the period reported. Estimates are adjusted when necessary to reflect actual experience. Significant estimates were used to account for restructuring reserves, environmental reserves, self-insurance reserves, employee benefit plans, asset impairments and contingencies. Cash and Cash Equivalents Cash and cash equivalents consist of cash and temporary investments with maturities of three months or less when purchased. The effect of exchange rate changes on cash and cash equivalents was not material. Inventory Valuation Inventories are stated at lower of cost or market. Actual cost is used to value raw materials and supplies. Standard cost, which approximates actual cost, is used to value finished 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 is determined by the last-in, first-out (LIFO) method, which generally reflects the effects of inflation or deflation on cost of goods sold sooner than other inventory cost methods. The cost of other inventories generally is determined by the first-in, first-out (FIFO) method. Property, Plant and Equipment Property, plant and equipment are recorded at cost. The cost of plant and equipment is depreciated over weighted average periods of 20 years for buildings and 12 years for machinery and equipment, by the straight-line method. Intangible Assets Effective January 1, 2002, Solutia discontinued the amortization of goodwill and identifiable intangible assets that have indefinite useful lives in accordance with Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets." Intangible assets that have finite useful lives are amortized on a straight-line basis over their useful lives, generally periods ranging from 5 to 20 years. Goodwill is assessed annually for impairment. Fair value measurements of the reporting units are estimated by a third-party specialist utilizing both an income and market multiple approach. Impairment of Long-lived Assets Impairment tests of long-lived assets are made when conditions indicate a possible loss. Impairment tests are based on a comparison of undiscounted cash flows to the recorded value of the asset. If an impairment is indicated, the asset value is written down to its fair value based upon market prices or, if not available, upon discounted cash value, at an appropriate discount rate. Environmental Remediation Costs for remediation of waste disposal sites are accrued in the accounting period in which the obligation is probable and when the cost is reasonably estimable. Postclosure costs for hazardous waste facilities at certain U.S. operating locations are accrued over the estimated life of the facility as part of its anticipated closure cost. Environmental liabilities are not discounted, and they have not been reduced for any claims for recoveries from insurance or third parties. In those cases where insurance carriers or third-party indemnitors have agreed to pay any amounts and management believes that collectability of such amounts is probable, the amounts are reflected as receivables in the consolidated financial statements. Self-Insurance and Insurance Recoveries Solutia maintains self-insurance reserves to reflect its estimate of uninsured losses. Self-insured losses are accrued based upon estimates of the aggregate liability for uninsured claims incurred using certain actuarial assumptions followed in the insurance industry, the Company's historical experience and certain case specific reserves as required, including estimated legal costs. The maximum extent of the self-insurance provided by the Company is dependent upon a number of factors including the facts and circumstances of individual cases and the terms and conditions of the commercial policies. Solutia has purchased commercial insurance in order to reduce its exposure to workers' compensation, product, general, auto and property liability claims. Policies for periods prior to the spinoff are shared with Monsanto. This insurance has varying policy limits and deductibles. Insurance recoveries are estimated in consideration of expected losses, coverage limits and policy deductibles. When recovery from an insurance policy is considered probable, a receivable is recorded. Revenue Recognition The Company's primary revenue-earning activities involve producing and delivering goods. Revenues are considered to be earned when the Company has completed the process by which it is entitled to such revenues. The following criteria are used for revenue recognition: persuasive evidence of an arrangement exists, delivery has occurred, selling price is fixed or determinable and collection is reasonably assured. In the case of the pharmaceutical services businesses, revenues are primarily recorded on a percentage of completion method. Distribution Costs The Company includes inbound freight charges, purchasing and receiving costs, inspection costs, warehousing costs, internal transfer costs and the other costs of our distribution network in the cost of sales line item. Derivative Financial Instruments Currency forward contracts are used to manage currency exposures for financial instruments denominated in currencies other than the entity's functional currency. Natural gas contracts are used to manage some of the exposure for the cost of natural gas. Gains and losses on contracts that are designated and effective as hedges are included in net income (loss) and offset the exchange gain or loss of the transaction being hedged. Major currencies affecting the Company's business are the U.S. dollar, the British pound sterling, the euro, the Canadian dollar, the Australian dollar and the Brazilian real. Currency restrictions are not expected to have a significant effect on Solutia's cash flow, liquidity or capital resources. Income Taxes Solutia accounts for income taxes using the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences of temporary differences between the carrying amounts and tax bases of assets and liabilities at enacted rates. 2 Currency Translation The local currency has been used as the functional currency for nearly all worldwide locations. The financial statements for most of Solutia's ex-U.S. operations are translated into U.S. dollars at current or average exchange rates. Unrealized currency translation adjustments in the Statement of Consolidated Financial Position are accumulated as a component of Shareholders' Deficit. Earnings (Loss) per Share Basic earnings (loss) per share is a measure of operating performance that assumes no dilution from securities or contracts to issue common stock. Diluted earnings (loss) per share is a measure of operating performance by giving effect to the dilution that would occur if securities or contracts to issue common stock were exercised or converted. Stock Option Plans Effective January 1, 2003, Solutia adopted SFAS No. 148, "Accounting for Stock-Based Compensation--Transition and Disclosure," which allowed Solutia to continue following the guidance of Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees," for measurement and recognition of stock-based transactions with employees. Accordingly, no compensation cost has been recognized for Solutia's option plans in the Statement of Consolidated Income (Loss), as all options granted under the plans had an exercise price equal to the market value of the Company's stock on the date of the grant. The following table illustrates the effect on net income (loss) and earnings (loss) per share if the fair value based method had been applied to all outstanding and unvested awards in each period:
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ------------------- ------------------- 2003 2002 2003 2002 ------ ----- ------ ------ NET INCOME (LOSS): As reported ............................................ $ (38) $ 23 $ (57) $ (130) Deduct: Total stock-based employee compensation expense determined using the Black-Scholes option-pricing model for all awards, net of tax ..................... (1) (2) (3) (4) ------ ----- ------ ------ Pro forma .............................................. $ (39) $ 21 $ (60) $ (134) ====== ===== ====== ====== INCOME (LOSS) PER SHARE: Basic--as reported ..................................... $(0.36) $0.22 $(0.54) $(1.24) Basic--pro forma ....................................... $(0.37) $0.20 $(0.57) $(1.28) Diluted--as reported ................................... $(0.36) $0.22 $(0.54) $(1.24) Diluted--pro forma ..................................... $(0.37) $0.20 $(0.57) $(1.27)
Compensation expense resulting from the fair value method may not be representative of compensation expense to be incurred on a pro forma basis in future years. The fair value of each option grant is estimated on the date of grant by use of the Black-Scholes option-pricing model. New Accounting Pronouncements In January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, "Consolidation of Variable Interest Entities." This Interpretation provides guidance related to identifying variable interest entities (VIEs) and determining whether such entities should be consolidated. This Interpretation must be applied immediately to (a) VIEs created, or (b) interests in VIEs obtained, after January 31, 2003. For those VIEs created, or interests in VIEs obtained, on or before January 31, 2003, the guidance in this Interpretation must be applied in the first fiscal year or interim period beginning after June 15, 2003. The Company has one operating lease related to its corporate headquarters in St. Louis, Missouri that qualifies as a VIE. Based on the current terms of the lease agreement and the residual value guarantee the Company provides to the lessor, the Company is the primary beneficiary of the VIE. As a result, Solutia will be required to consolidate the assets and liabilities held by this VIE of approximately $38 million and approximately $43 million, respectively, and record an approximate charge of $5 million which will be reported as a cumulative effect of a change in accounting principle in the third quarter of 2003. In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with 3 Characteristics of Both Liabilities and Equity." This Statement establishes standards on how to classify and measure certain financial instruments with characteristics of both liabilities and equity. The Statement also requires financial instruments within its scope be classified as a liability (or an asset in some circumstances). This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 for financial instruments entered into or modified after May 31, 2003 did not have a material effect on the consolidated financial statements of the Company. In addition, the Company does not expect the adoption of SFAS No. 150 for financial instruments entered into or modified prior to May 31, 2003 to have a material effect on the consolidated financial statements. Reclassifications Certain reclassifications to prior year's financial information have been made to conform to the 2003 presentation. These financial statements should be read in conjunction with the audited financial statements and notes to consolidated financial statements included in Solutia's 2002 Annual Report on Form 10-K, filed with the Securities and Exchange Commission on March 6, 2003. The accompanying unaudited consolidated financial statements reflect all adjustments that, in the opinion of management, are necessary to present fairly the financial position, results of operations, comprehensive income (loss), and cash flows for the interim periods reported. Such adjustments are of a normal, recurring nature. The results of operations for the three-month and six-month periods ended June 30, 2003, are not necessarily indicative of the results to be expected for the full year. 2. DISCONTINUED OPERATIONS On December 2, 2002, Solutia signed a definitive agreement to sell its resins, additives and adhesives businesses to UCB S.A. for $500 million in cash, plus an upfront payment of $10 million for a period of exclusivity. On January 31, 2003, the sale was completed resulting in a pretax gain of $24 million. Total proceeds, including the $10 million exclusivity fee received in 2002, net of transaction costs were $494 million. The assets and liabilities of the discontinued operations have been classified as current in the Statement of Consolidated Financial Position at December 31, 2002. In addition, proceeds from this divestiture were used to pay down $405 million of borrowings under the amended credit facility in accordance with bank agreements. As a result, all borrowings under this facility have been classified as short-term at December 31, 2002. The Company retained certain tax liabilities of approximately $40 million related to the divested businesses and has excluded them from the liabilities identified below. The carrying amounts of assets and liabilities from discontinued operations at December 31, 2002, consisted of the following:
DECEMBER 31, 2002 ------------ ASSETS: Receivables and prepaids.......................................... $100 Inventories....................................................... 68 Other current assets.............................................. 36 ---- Total Current Assets..................................... 204 ---- Property, plant and equipment, net................................ 199 Intangible assets................................................. 205 Other long-term assets............................................ 28 ---- Total Assets............................................. $636 ==== LIABILITIES: Accounts payable.................................................. $ 42 Miscellaneous accruals............................................ 51 ---- Total Current Liabilities................................ 93 ---- Postretirement liabilities........................................ 21 Non-current deferred tax liability................................ 33 Other long-term liabilities....................................... 18 ---- Total Liabilities........................................ $165 ====
4 The operating results of the resins, additives and adhesives businesses have been reported separately as discontinued operations in the Consolidated Financial Statements for periods presented. The operating results for the three and six months ended June 30, 2002 exclude certain corporate expenses of $3 million and $4 million, respectively, which had previously been allocated to the resins, additives and adhesives businesses. In addition, interest expense of $24 million in 2003 and $9 million in 2002 associated with debt that was repaid with the sales proceeds was allocated to discontinued operations. The operating results for 2003 include results of operations for the month of January of 2003. Net sales and income from discontinued operations are as follows:
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ---------------------- --------------------- 2003 2002 2003 2002 ---- ---- ---- ---- Net sales.................................... $-- $151 $53 $285 Income before income tax expense (including gain on disposal of $24)........ -- 18 7 32 Income tax expense........................... -- (6) (9) (10) ---- ---- --- ---- Income (loss) from discontinued operations................................. $-- $ 12 $(2) $ 22 ==== ==== === ====
3. ACQUISITIONS On May 31, 2002, Solutia acquired Axio Research Corporation (Axio) for approximately $5 million, which was financed with cash from operations. Axio is a contract research organization providing clinical trial design and data management. Axio is included in Pharmaceutical Services within the Performance Products and Services segment. The allocation of the purchase price to assets and liabilities acquired resulted in current assets of $1 million, non-current assets of $1 million, goodwill of $4 million and current liabilities of $1 million. Axio's results of operations were included in Solutia's results of operations from the acquisition date and were not material to Solutia's consolidated results of operations for the six month period ended June 30, 2002. 4. EARNINGS (LOSS) PER SHARE
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ------------------- ------------------ 2003 2002 2003 2002 ------ ----- ------ ------ Income (Loss) from Continuing Operations Before Discontinued Operations and Cumulative Effect of Change in Accounting Principle... $ (38) $ 11 $ (55) $ 15 Income (Loss) from Discontinued Operations, net of tax................. -- 12 (2) 22 Cumulative Effect of Change in Accounting Principle.................... -- -- -- (167) ------ ----- ------ ------ Net Income (Loss)...................................................... $ (38) $ 23 $ (57) $ (130) ====== ===== ====== ====== Basic Earnings (Loss) per Share: Income (Loss) from Continuing Operations Before Discontinued Operations and Cumulative Effect of Change in Accounting Principle... $(0.36) $0.10 $(0.52) $ 0.14 Income (Loss) from Discontinued Operations, net of tax ................ -- 0.12 (0.02) 0.21 Cumulative Effect of Change in Accounting Principle.................... -- -- -- (1.59) ------ ----- ------ ------ Basic Earnings (Loss) per Share........................................ $(0.36) $0.22 $(0.54) $(1.24) ------ ----- ------ ------
5
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ------------------- ------------------ 2003 2002 2003 2002 ------ ----- ------ ------ Diluted Earnings (Loss) per Share: Income (Loss) from Continuing Operations Before Discontinued Operations and Cumulative Effect of Change in Accounting Principle... $(0.36) $0.10 $(0.52) $ 0.14 Income (Loss) from Discontinued Operations, net of tax ................ -- 0.12 (0.02) 0.21 Cumulative Effect of Change in Accounting Principle.................... -- -- -- (1.59) ------ ----- ------ ------ Diluted Earnings (Loss) per Share...................................... $(0.36) $0.22 $(0.54) $(1.24) ------ ----- ------ ------ Weighted average equivalent shares (in millions): Basic ............................................................. 104.6 104.8 104.6 104.7 Effect of dilutive securities: Common share equivalents--common shares issuable upon exercise of outstanding stock options and warrants........... -- 0.3 -- 0.4 ------ ----- ------ ------ Diluted ........................................................... 104.6 105.1 104.6 105.1 ====== ===== ====== ======
5. RESTRUCTURING RESERVES During the second quarter of 2003, Solutia recorded restructuring charges of $4 million to cost of goods sold and $4 million to marketing, administrative and technological expenses for costs associated with workforce reductions and $1 million to cost of goods sold for costs primarily associated with contract terminations of leased administrative facilities. The restructuring was part of an enterprise-wide cost reduction initiative associated with the sale of the resins, additives and adhesives businesses and other ongoing cost reduction initiatives. As a result of these actions, Solutia reduced its workforce by approximately 280 positions. Cash outlays associated with the restructuring actions were funded from divestiture proceeds and operations. Approximately 90 percent of the workforce reductions affected North American business and manufacturing operations, and approximately 10 percent affected European, Asian and Latin American operations. Management positions represented approximately 20 percent of the workforce reductions. Solutia anticipates additional severance charges of approximately $5 million for the remainder of 2003 in the Performance Products and Services segment. During the first quarter of 2003, Solutia recorded restructuring charges of $6 million to cost of goods sold and $5 million to marketing, administrative and technological expenses for costs associated with workforce reductions. The restructuring was part of an enterprise-wide cost reduction initiative associated with the sale of the resins, additives and adhesives businesses and other cost reduction initiatives. As a result of these actions, Solutia reduced its workforce by approximately 170 positions. Cash outlays associated with the restructuring actions were funded from divestiture proceeds and operations. Approximately 90 percent of the workforce reductions affected North American business and manufacturing operations, and approximately 10 percent affected European, Asian and Latin American operations. Management positions represented approximately 40 percent of the workforce reductions. 6 The following table summarizes the restructuring charges, amounts utilized to carry out those plans and amount remaining at June 30, 2003:
EMPLOYMENT REDUCTIONS OTHER COSTS TOTAL -------------------------------------- ------------ ----- PERFORMANCE PERFORMANCE PRODUCTS AND INTEGRATED CORPORATE/ PRODUCTS AND SERVICES NYLON OTHER SERVICES ------------ ---------- ---------- ------------ Balance at January 1, 2003 ............... $-- $-- $-- $-- $-- Charges taken ............................ 6 3 2 -- 11 Amounts utilized ......................... (3) (3) (1) -- (7) ---- ---- ---- ---- ---- Balance at March 31, 2003 ................ 3 -- 1 -- 4 Charges taken ............................ 4 2 2 1 9 Amounts utilized ......................... (5) -- (2) (1) (8) ---- ---- ---- ---- ---- BALANCE AT JUNE 30, 2003 ................. $ 2 $ 2 $ 1 $-- $ 5 ==== ==== ==== ==== ====
During 2000, Solutia decided to exit its resins facility at the Port Plastics site in Addyston, Ohio. An $8 million charge to cost of goods sold was recorded to carry out the exit plan. The charge included $2 million to write down plant assets to their fair value, $2 million of dismantling costs and $4 million of direct manufacturing, overhead, utilities and severance costs for which Solutia was contractually obligated under an operating agreement. Solutia was required to provide 24 months notice of intent to exit and was required to pay contractually obligated costs for an additional 18 months thereafter to a third-party operator. Solutia provided notice of intent to exit on June 30, 2000, and exited the site in June of 2002. Solutia retained the reserve pursuant to the sales agreement for the resins, additives and adhesives divestiture. The following table summarizes the restructuring charge, amounts utilized to carry out those plans and amount remaining at June 30, 2003:
SHUTDOWN OF ASSET OTHER FACILITIES WRITE-DOWNS COSTS TOTAL ---------- ----------- ----- ----- Balance at January 1, 2000 ............... $-- $-- $-- $-- Charges taken ............................ 2 2 4 8 Amounts utilized ......................... -- (2) -- (2) ---- ---- ---- ---- Balance at December 31, 2000 ............. 2 -- 4 6 Amounts utilized ......................... -- -- -- -- ---- ---- ---- ---- Balance at December 31, 2001 ............. 2 -- 4 6 Amounts utilized ......................... (2) -- -- (2) ---- ---- ---- ---- Balance at December 31, 2002 ............. -- -- 4 4 Amounts utilized ......................... -- -- -- -- ---- ---- ---- ---- Balance at March 31, 2003 ................ -- -- 4 4 Amounts utilized ......................... -- -- (2) (2) ---- ---- ---- ---- BALANCE AT JUNE 30, 2003 ................. $-- $-- $ 2 $ 2 ==== ==== ==== ====
7 6. INVENTORY VALUATION The components of inventories as of June 30, 2003, and December 31, 2002, were as follows:
JUNE 30, DECEMBER 31, 2003 2002 -------- ------------ Finished goods................................................ $ 197 $ 179 Goods in process.............................................. 103 101 Raw materials and supplies.................................... 91 83 ----- ----- Inventories, at FIFO cost..................................... 391 363 Excess of FIFO over LIFO cost................................. (122) (101) ----- ----- TOTAL......................................................... $ 269 $ 262 ===== =====
7. REVOLVING CREDIT FACILITY On June 30, 2003, the Company and its bank syndicate amended its revolving credit facility to modify the financial covenants through September 29, 2003. Without the amendment, the Company would not have been in compliance with the leverage ratio at June 30, 2003. If the amendment approval had been delayed until the first week of July, the Company would not have been able to borrow under the facility until the approval was obtained. Consequently in late June, the Company borrowed additional amounts to ensure it had sufficient liquidity to meet its obligations during the amendment approval process. The revolving credit facility matures on August 13, 2004. 8. CONTINGENCIES Because of the size and nature of its business, the Company is a party to numerous legal proceedings. In addition, at the time Solutia became an independent company, it contractually was required to assume certain liabilities related to specified legal proceedings from the former Monsanto Company (now known as Pharmacia Corporation, a wholly owned subsidiary of Pfizer Inc.). As a result, although Pharmacia remains the named defendant, the Company is required to manage this legacy litigation and indemnify Pharmacia for costs, expenses and judgments arising from such litigation. Solutia is defending a number of lawsuits pending in state and federal court relating to the alleged release of polychlorinated biphenyls (PCBs) and other materials from the Anniston, Alabama plant site, which Solutia now owns and operates and at which Pharmacia formerly produced PCBs. Following are updates of certain cases as more fully described in Solutia's 2002 Annual Report on Form 10-K, filed with the Securities and Exchange Commission on March 6, 2003. (1) Abernathy v. Monsanto: This matter involves four consolidated cases brought on behalf of approximately 3,500 plaintiffs and is currently pending in Circuit Court for Etowah County, Alabama. As of August 11, 2003, the jury had returned compensatory damage verdicts totaling approximately $101 million to the first 509 of the 907 plaintiffs who have made property damage and exposure claims, but no final appealable judgment has been entered with respect to these verdicts. No claims of personal injury have been tried or presented to the jury. Trial of this action continues. (2) Tolbert v. Monsanto: This case involves the claims of approximately 15,300 plaintiffs brought in the U.S. District Court for the Northern District of Alabama. This case is currently in pretrial mediation with the Phase I trial commencing on October 14, 2003. The Phase I trial will involve the claims of four plaintiffs, two from each of the two "disease categories" previously selected by the parties. (3) Payton v. Monsanto: This action was brought in Circuit Court for Shelby County, Alabama on behalf of a purported class of owners, lessees and licensees of property around Lay Lake. On March 19, 2003, the trial court entered an order certifying a plaintiff class. A notice of appeal was filed on April 30, 2003 seeking a reversal of the court's certification order. On August 8, 2003 the Company reached an agreement to settle this case for $5 million. A significant percentage of this amount will be 8 recovered under existing commercial insurance policies. This level of insurance recovery is not necessarily indicative of future recoveries for other litigation matters. The settlement must be approved by the court and it is anticipated this process will take at least 120 days. Solutia is also defending an action brought against Pharmacia in the Commonwealth Court of Pennsylvania relating to low levels of PCBs found in the Transportation & Safety Building owned by the Commonwealth in Harrisburg, Pennsylvania (Penndot case). Briefing on appeal in this matter was completed on July 21, 2003. The Company filed a motion on April 14, 2003 asking the Pennsylvania Supreme Court for an expedited argument of this appeal. The Court denied the motion for expedited argument on July 22, 2003, without prejudice to the Company's right to renew the motion if oral argument is ordered. As of June 30, 2003, the Company had accrued within its self-insurance reserves approximately $35 million for all Anniston related PCB cases. This accrual includes estimated legal expenses and probable losses where the Company has sufficient information to determine a loss amount. The Company has not accrued for any claims of personal injuries or the fear of future illness because based upon the advice of counsel, the Company believes it has meritorious defenses to these claims and will ultimately prevail in court. The Company has approximately $10 million accrued within its self-insurance reserves for other PCB litigation, unrelated to the Anniston cases. This accrual is primarily for estimated legal expenses. These cases are either in early stages of development, or the Company believes it has meritorious defenses against these claims. The verdicts returned as of August 11, 2003 in the Abernathy case of approximately $101 million are far in excess of amounts the Company had accrued as of June 30, 2003. Approximately 400 property claims and all of the personal injury and potential punitive damage claims have yet to be tried in the case. In addition, plaintiffs' counsel in the Tolbert case have based their valuation of the case on the Abernathy verdicts. The use of these verdicts as a basis for valuing the Tolbert case would result in a valuation in excess of $3 billion. Based upon the advice of counsel, the Company believes the Abernathy verdicts are seriously flawed and will be reversed on appeal. In connection with the external financing agreement for Astaris, which expires in September of 2005, Solutia and its equal partner in the venture, FMC Corporation, contractually agreed to provide Astaris with funding in the event the joint venture fails to meet certain financial benchmarks. The financial benchmarks were based on forecasted earnings that were developed when the financing was entered into. Astaris' earnings have fallen short of the forecast underlying its external financing agreement due to numerous factors including significantly less than planned productivity of its purified wet acid technology, lower sales volumes and lower average selling prices due to the prolonged weak U.S. economy. As a result of these earnings shortfalls versus the original expectations, Solutia and FMC have each been required to make additional investments of $26 million during the second quarter of 2003. These payments have largely been used to reduce debt outstanding within the venture. Solutia and FMC are evaluating other financing alternatives for the joint venture. If no new financing arrangements are obtained, Solutia anticipates that its share of the additional required contributions will be approximately $35 million for the remainder of 2003. In addition, the Company expects to make additional contributions in 2004, although such amounts cannot be determined at this time. Contributions are recorded in the Investments in Affiliates line on the Statement of Consolidated Financial Position. Due to the Company's contractual obligation to fund the joint venture as described above, in order to amend the Company's revolving credit facility, the Company must obtain the approval of the Astaris' bank syndicate. Also, a default by the Company of the financial covenants in its revolving credit facility constitutes an event of default under Astaris' credit facility. Solutia's access to the appellate courts in the Abernathy and Tolbert cases may be years away. Without a dramatic change in circumstances, the continuing overhang of the PCB litigation and other legacy liabilities will significantly restrict the Company's alternatives to address both short term and long term liquidity requirements with respect to the refinancing of the credit facility, bond maturities and projected contributions to its pension plans. The Company may not be successful in satisfying these future liquidity requirements on favorable terms, if at all. The Company is currently considering all available alternatives to address its legacy liabilities and future liquidity needs, including a potential reorganization under Chapter 11 of the U.S. bankruptcy code. 9 9. GOODWILL AND OTHER INTANGIBLE ASSETS Effective January 1, 2002, Solutia adopted SFAS No. 142. In accordance with SFAS No. 142, Solutia discontinued the amortization of goodwill and identifiable intangible assets that have indefinite useful lives. This statement also required certain intangible assets that did not meet the criteria for recognition apart from goodwill, to be subsumed into goodwill. During the quarter ended March 31, 2002, Solutia subsumed into goodwill $1 million of intangible assets net of related deferred tax liabilities representing assembled workforce that did not meet the separability criteria under SFAS No. 141, "Business Combinations." Identified intangible assets are as follows:
JUNE 30, 2003 ------------------------------------------------ GROSS CARRYING ACCUMULATED NET CARRYING VALUE AMORTIZATION VALUE -------------- ------------ ------------ Amortized intangible assets: Contractual customer relationships ............ $23 $ (6) $17 Employment agreements.......................... 5 (3) 2 Other ......................................... 8 (5) 3 Translation ................................... 8 -- 8 --- ---- --- TOTAL AMORTIZED INTANGIBLE ASSETS ...................... $44 $(14) $30 --- ---- --- Unamortized intangible assets: Trademarks..................................... $39 $ (4) $35 Translation.................................... 2 -- 2 --- ---- --- TOTAL UNAMORTIZED INTANGIBLE ASSETS..................... $41 $ (4) $37 --- ---- --- TOTAL IDENTIFIED INTANGIBLE ASSETS...................... $85 $(18) $67 === ==== === DECEMBER 31, 2002 ------------------------------------------------ GROSS CARRYING ACCUMULATED NET CARRYING VALUE AMORTIZATION VALUE -------------- ------------ ------------ Amortized intangible assets: Contractual customer relationships ............ $23 $ (5) $18 Employment agreements.......................... 5 (3) 2 Other.......................................... 8 (5) 3 Translation.................................... 6 -- 6 --- ---- --- TOTAL AMORTIZED INTANGIBLE ASSETS....................... $42 $(13) $29 --- ---- --- Unamortized intangible assets: Trademarks..................................... $39 $ (4) $35 Translation.................................... 2 -- 2 --- ---- --- TOTAL UNAMORTIZED INTANGIBLE ASSETS..................... $41 $ (4) $37 --- ---- --- TOTAL IDENTIFIED INTANGIBLE ASSETS ..................... $83 $(17) $66 === ==== ===
There were no material acquisitions of intangible assets and there have been no changes to amortizable lives or methods during the first half of 2003. Amortization expense for the net carrying amount of intangible assets is estimated to be $3 million in 2003, $3 million in 2004, $3 million in 2005, $3 million in 2006 and $3 million in 2007. Goodwill as allocated by reportable segment is as follows:
PERFORMANCE PRODUCTS AND SERVICES TOTAL -------------------- ----- Goodwill, December 31, 2002 ................. $144 $144 Translation ................................. 2 2 ---- ---- Goodwill, June 30, 2003 ..................... $146 $146 ---- ----
10 10. SEGMENT DATA Solutia's management is organized around two strategic business platforms: Performance Products and Services and Integrated Nylon. Solutia's reportable segments and their major products are as follows:
PERFORMANCE PRODUCTS AND SERVICES INTEGRATED NYLON --------------------------------- ---------------- SAFLEX(R) plastic interlayer Nylon intermediate "building block" chemicals Polyvinyl butyral for KEEPSAFE(R), SAFLEX Merchant polymer and nylon INSIDE(R) (in Europe only) and KEEPSAFE extrusion polymers, including MAXIMUM(R) laminated window glass VYDYNE(R) and ASCEND(R) LLUMAR(R), VISTA(R) and GILA(R) professional Carpet fibers, including the and retail window films WEAR-DATED(R) and ULTRON(R) brands VANCEVA(TM) films Industrial nylon fibers Conductive and anti-reflective coated ACRILAN(R) acrylic fibers for films and deep-dyed films apparel, upholstery fabrics, craft yarns and other applications Industrial products, including THERMINOL(R) heat transfer fluids, DEQUEST(R) water treatment chemicals, SKYDROL(R) aviation hydraulic fluids, SKYKLEEN(R) aviation solvents, and chlorobenzenes Services for process research and development, scale-up manufacturing and small volume licensed production for the pharmaceutical industry
Accounting policies of the segments are the same as those used in the preparation of Solutia's consolidated financial statements. Solutia evaluates the profitability of its operating segments based on segment earnings before interest expense and income taxes, which includes marketing, administrative, technological, and amortization expenses and other non-recurring charges such as restructuring and asset impairment charges that can be directly attributable to the operating segment. Certain expenses and other items that are managed outside of the segments are excluded. These unallocated items consist primarily of corporate expenses, equity earnings (loss) from affiliates, interest expense, other income--net and expense items, and certain non-recurring items such as gains and losses on asset dispositions and restructuring charges that are not directly attributable to the operating segments. Solutia accounts for intersegment sales at agreed upon transfer prices. Intersegment sales are eliminated in consolidation. Segment assets consist primarily of customer receivables, raw materials and finished goods inventories, fixed assets, goodwill and identified intangible assets directly associated with the production processes of the segment (direct fixed assets). Segment depreciation and amortization are based upon direct tangible and intangible assets. Unallocated assets consist primarily of deferred taxes, certain investments in equity affiliates and indirect fixed assets. 11 Segment data for the three and six months ended June 30, 2003, and 2002 are as follows:
THREE MONTHS ENDED JUNE 30, ---------------------------------------------- 2003 2002 ------------------ ------------------- NET NET SALES PROFIT SALES PROFIT ------ ------ ------ ------ SEGMENT: Performance Products and Services...................... $ 261 $ 26 $ 245 $ 23 Integrated Nylon....................................... 350 (20) 340 10 ------ ---- ------ ---- SEGMENT TOTALS......................................... 611 6 585 33 RECONCILIATION TO CONSOLIDATED TOTALS: Corporate expenses................................. (41) (15) Equity earnings (loss) from affiliates, net of tax. -- 3 Interest expense................................... (25) (16) Other income--net.................................. 1 2 CONSOLIDATED TOTALS: ------ ------ NET SALES.......................................... $ 611 $ 585 ====== ---- ====== ---- INCOME (LOSS) BEFORE INCOME TAXES ................. $(59) $ 7 ==== ==== SIX MONTHS ENDED JUNE 30, ---------------------------------------------- 2003 2002 ------------------ ------------------- NET NET SALES PROFIT SALES PROFIT ------ ------ ------ ------ SEGMENT: Performance Products and Services...................... $ 504 $ 43 $ 469 $ 44 Integrated Nylon....................................... 703 (31) 636 17 ------ ---- ------ ---- SEGMENT TOTALS......................................... 1,207 12 1,105 61 RECONCILIATION TO CONSOLIDATED TOTALS: Corporate expenses................................. (56) (32) Equity earnings (loss) from affiliates, net of tax. (3) 11 Interest expense................................... (48) (35) Other income--net ................................. 5 6 CONSOLIDATED TOTALS: ------ ------ NET SALES.......................................... $1,207 $1,105 ====== ---- ====== ---- INCOME (LOSS) BEFORE INCOME TAXES ................. $(90) $ 11 ==== ====
11. SUBSEQUENT EVENTS On August 8, 2003 the Company reached an agreement to settle the Payton v. Monsanto case for $5 million. A significant percentage of this amount will be recovered under existing commercial insurance policies. This level of insurance recovery is not necessarily indicative of future recoveries for other litigation matters. The settlement must be approved by the court and it is anticipated this process will take at least 120 days. On August 4, 2003, the U.S. District Court for the Northern District of Alabama approved a partial consent decree among Solutia, Pharmacia Corporation, the U.S. Environmental Protection Agency (EPA) and the U.S. Department of Justice with respect to the Anniston, Alabama site. Under this decree, Solutia expects to conduct an expedited residential cleanup of identified properties to achieve the EPA's cleanup standard, and perform a Remedial Investigation and Feasibility Study (RI/FS). The RI/FS performed under the partial consent decree will outline the work that will lead to a comprehensive approach to the cleanup of PCBs in waterways and commercial properties in the Anniston area. In addition, the partial consent decree provides for the establishment of an educational fund. Consistent with accounting requirements for this type of subsequent event, the Company recorded an environmental charge of approximately $27 million for the three and six months ended June 30, 2003. On August 4, 2003, Solutia and Monsanto entered into an amendment to the Penndot Protocol agreement 12 dated November 15, 2002. Pursuant to the amendment, Monsanto released Solutia from its obligation to provide Monsanto with a $39.9 million letter of credit to secure a portion of Monsanto's obligations with respect to an appeal bond in the Penndot case. As a result of the amendment on August 4, 2003, Monsanto assumed control of any settlement decision but agreed to consult with Solutia and Pharmacia before agreeing to any settlement. Solutia continues to provide a $20 million letter of credit to secure a portion of Monsanto's obligations with respect to the appeal bond. During July 2003, a purported shareholder class action, Richard Brazin v. Solutia Inc. et.al., was filed against Solutia, its chief executive officer, and its chief financial officer in the Federal District Court for the Northern District of California. The complaint alleges that from December 16, 1998, to October 10, 2002, Solutia's accounting practices regarding incorporation of Flexsys's results into Solutia's financial reports violated federal securities laws by misleading investors as to Solutia's actual results and causing inflated prices for Solutia's publicly traded securities. Solutia is aware of three other purported shareholder class actions filed in the same court against Solutia and certain of its officers and directors, which we believe are premised on substantially similar allegations. The Company believes these suits are without merit and intends to defend these actions vigorously. 12. CONSOLIDATING CONDENSED FINANCIAL STATEMENTS CPFilms, Inc., Monchem International, Inc., Monchem, Inc., and Solutia Systems, Inc., wholly-owned subsidiaries of the Company (the "Guarantors"), are guarantors of the amended credit facility and the senior secured notes (the "Notes"). The Guarantors fully and unconditionally guarantee the Notes on a joint and several basis. The following consolidating condensed financial statements present, in separate columns, financial information for: Solutia Inc. on a parent-only basis carrying its investment in subsidiaries under the equity method; Guarantors on a combined, or where appropriate, consolidated basis, carrying investments in subsidiaries who do not guarantee the debt (the "Non-Guarantors") under the equity method; Non-Guarantors on a combined, or where appropriate, consolidated basis; eliminating adjustments; and consolidated totals as of June 30, 2003 and December 31, 2002, and for the periods ended June 30, 2003 and 2002. The eliminating adjustments primarily reflect intercompany transactions, such as interest income and expense, accounts receivable and payable, advances, short and long-term debt, royalties and profit in inventory eliminations. The Company has not presented separate financial statements and other disclosures concerning the Guarantors as such information is not material and would substantially duplicate disclosures included elsewhere in this report. 13 SOLUTIA INC. CONSOLIDATING STATEMENT OF INCOME (LOSS) THREE MONTHS ENDED JUNE 30, 2003 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET SALES ................................... $458 $ 42 $195 $(84) $611 Cost of goods sold .......................... 471 19 161 (89) 562 ---- ---- ---- ---- ---- GROSS PROFIT ................................ (13) 23 34 5 49 Marketing expenses........................... 27 5 8 -- 40 Administrative expenses...................... 21 2 10 -- 33 Technological expenses....................... 10 -- 1 -- 11 Amortization expense......................... -- -- -- -- -- ---- ---- ---- ---- ---- OPERATING INCOME (LOSS) ..................... (71) 16 15 5 (35) Equity earnings (loss) from affiliates - net of tax .................................... 45 5 (1) (49) -- Interest expense ............................ (39) (1) (13) 28 (25) Other income - net .......................... 3 22 8 (32) 1 ---- ---- ---- ---- ---- INCOME (LOSS) BEFORE INCOME TAXES ........... (62) 42 9 (48) (59) Income taxes (benefit) ...................... (24) 1 2 -- (21) ---- ---- ---- ---- ---- NET INCOME (LOSS) ........................... $(38) $ 41 $ 7 $(48) $(38) ==== ==== ==== ==== ==== CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS) THREE MONTHS ENDED JUNE 30, 2003 (DOLLARS IN MILLIONS) PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET INCOME (LOSS) ........................... $(38) $ 41 $ 7 $(48) $(38) OTHER COMPREHENSIVE INCOME (LOSS): Currency translation adjustments ............ 6 6 (4) (2) 6 ---- ---- ---- ---- ---- COMPREHENSIVE INCOME (LOSS) ................. $(32) $ 47 $ 3 $(50) $(32) ==== ==== ==== ==== ====
14 SOLUTIA INC. CONSOLIDATING STATEMENT OF INCOME THREE MONTHS ENDED JUNE 30, 2002 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET SALES ................................... $451 $ 47 $165 $ (78) $585 Cost of goods sold .......................... 412 20 139 (82) 489 ---- ---- ---- ----- ---- GROSS PROFIT ................................ 39 27 26 4 96 Marketing expenses .......................... 24 4 8 -- 36 Administrative expenses ..................... 23 2 6 -- 31 Technological expenses ...................... 11 1 -- -- 12 Amortization expense ........................ -- -- -- -- -- ---- ---- ---- ----- ---- OPERATING INCOME (LOSS) ..................... (19) 20 12 4 17 Equity earnings (loss) from affiliates - net of tax .................................... 56 (2) -- (50) 4 Interest expense ............................ (32) (2) (27) 45 (16) Other income - net .......................... -- 32 18 (48) 2 ---- ---- ---- ----- ---- INCOME BEFORE INCOME TAXES .................. 5 48 3 (49) 7 Income taxes (benefit) ...................... (6) -- 2 -- (4) ---- ---- ---- ----- ---- INCOME FROM CONTINUING OPERATIONS ........... 11 48 1 (49) 11 Income from Discontinued Operations, net of tax ....................................... 12 11 11 (22) 12 ---- ---- ---- ----- ---- NET INCOME .................................. $ 23 $ 59 $ 12 $ (71) $ 23 ==== ==== ==== ===== ==== CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME THREE MONTHS ENDED JUNE 30, 2002 (DOLLARS IN MILLIONS) PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET INCOME .................................. $ 23 $ 59 $ 12 $ (71) $ 23 OTHER COMPREHENSIVE INCOME: Currency translation adjustments ............ 87 88 13 (101) 87 Unrealized investment gain, net of tax ...... (1) -- -- -- (1) ---- ---- ---- ----- ---- COMPREHENSIVE INCOME ........................ $109 $147 $ 25 $(172) $109 ==== ==== ==== ===== ====
15 SOLUTIA INC. CONSOLIDATING STATEMENT OF LOSS SIX MONTHS ENDED JUNE 30, 2003 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET SALES ................................... $ 922 $ 75 $ 376 $(166) $1,207 Cost of goods sold .......................... 915 33 317 (176) 1,089 ----- ----- ----- ----- ------ GROSS PROFIT ................................ 7 42 59 10 118 Marketing expenses .......................... 54 10 15 -- 79 Administrative expenses ..................... 42 4 17 -- 63 Technological expenses ...................... 21 1 1 -- 23 Amortization expense ........................ -- -- 1 -- 1 ----- ----- ----- ----- ------ OPERATING INCOME (LOSS) ..................... (110) 27 25 10 (48) Equity earnings (loss) from affiliates - net of tax .................................... 99 27 -- (128) (2) Interest expense ............................ (75) (4) (32) 63 (48) Other income - net .......................... 6 45 24 (67) 8 ----- ----- ----- ----- ------ INCOME (LOSS) BEFORE INCOME TAXES ........... (80) 95 17 (122) (90) Income benefit .............................. (25) -- (12) 2 (35) ----- ----- ----- ----- ------ INCOME (LOSS) FROM CONTINUING OPERATIONS .... (55) 95 29 (124) (55) Loss from Discontinued Operations, net of tax (2) (103) (103) 206 (2) ----- ----- ----- ----- ------ NET LOSS .................................... $ (57) $ (8) $ (74) $ 82 $ (57) ===== ===== ===== ===== ====== CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS) SIX MONTHS ENDED JUNE 30, 2003 (DOLLARS IN MILLIONS) PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET LOSS .................................... $ (57) $ (8) $ (74) $ 82 $ (57) OTHER COMPREHENSIVE INCOME (LOSS): Currency translation adjustments ............ 43 44 31 (75) 43 ----- ----- ----- ----- ------ COMPREHENSIVE INCOME (LOSS) ................. $ (14) $ 36 $ (43) $ 7 $ (14) ===== ===== ===== ===== ======
16 SOLUTIA INC. CONSOLIDATING STATEMENT OF LOSS SIX MONTHS ENDED JUNE 30, 2002 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET SALES ................................... $ 855 $ 83 $ 321 $(154) $1,105 Cost of goods sold .......................... 777 37 267 (159) 922 ----- ----- ----- ----- ------ GROSS PROFIT ................................ 78 46 54 5 183 Marketing expenses .......................... 50 9 12 -- 71 Administrative expenses ..................... 47 4 12 -- 63 Technological expenses ...................... 21 1 1 -- 23 Amortization expense ........................ -- -- 1 -- 1 ----- ----- ----- ----- ------ OPERATING INCOME (LOSS) ..................... (40) 32 28 5 25 Equity earnings (loss) from affiliates - net of tax .................................... (68) (160) -- 240 12 Interest expense ............................ (66) (4) (56) 91 (35) Other income - net .......................... 16 52 40 (99) 9 ----- ----- ----- ----- ------ INCOME (LOSS) BEFORE INCOME TAXES ........... (158) (80) 12 237 11 Income taxes (benefit) ...................... (7) -- 4 (1) (4) ----- ----- ----- ----- ------ INCOME (LOSS) FROM CONTINUING OPERATIONS .... (151) (80) 8 238 15 Income from Discontinued Operations, net of tax ....................................... 22 22 22 (44) 22 Cumulative Effect of Change in Accounting Principle, net of tax ..................... (1) -- (166) -- (167) ----- ----- ----- ----- ------ NET LOSS .................................... $(130) $ (58) $(136) $ 194 $ (130) ===== ===== ===== ===== ====== CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS) SIX MONTHS ENDED JUNE 30, 2002 (DOLLARS IN MILLIONS) PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ NET LOSS .................................... $(130) $ (58) $(136) $ 194 $ (130) OTHER COMPREHENSIVE INCOME (LOSS): Currency translation adjustments ............ 82 81 13 (94) 82 Net realized loss on derivative instruments, net of tax ................................ 1 -- -- -- 1 ----- ----- ----- ----- ------ COMPREHENSIVE INCOME (LOSS) ................. $ (47) $ 23 $(123) $ 100 $ (47) ===== ===== ===== ===== ======
17 SOLUTIA INC. CONSOLIDATING BALANCE SHEET JUNE 30, 2003 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ ASSETS CURRENT ASSETS: Cash and cash equivalents ................... $ 21 $ -- $ 63 $ -- $ 84 Trade receivables, net ...................... 10 164 130 -- 304 Intercompany receivables .................... 75 630 121 (826) -- Miscellaneous receivables ................... 71 (3) 38 -- 106 Prepaid expenses ............................ 11 -- 3 -- 14 Deferred income tax benefit ................. 115 -- 22 5 142 Inventories ................................. 161 24 98 (14) 269 ------ ------ ------ ------- ------ TOTAL CURRENT ASSETS ........................ 464 815 475 (835) 919 PROPERTY, PLANT AND EQUIPMENT: Land ........................................ 18 -- 1 -- 19 Buildings ................................... 265 25 90 -- 380 Machinery and equipment ..................... 2,502 71 424 -- 2,997 Construction in progress .................... 12 2 10 -- 24 ------ ------ ------ ------- ------ Total property, plant and equipment ......... 2,797 98 525 -- 3,420 Less accumulated depreciation ............... 2,105 22 369 -- 2,496 ------ ------ ------ ------- ------ NET PROPERTY, PLANT AND EQUIPMENT ........... 692 76 156 -- 924 INVESTMENTS IN AFFILIATES ................... 2,633 (16) 33 (2,396) 254 GOODWILL .................................... -- 72 74 -- 146 IDENTIFIED INTANGIBLE ASSETS, NET ........... 3 27 37 -- 67 LONG-TERM DEFERRED INCOME TAX BENEFIT ....... 290 1 14 -- 305 INTERCOMPANY ADVANCES ....................... 128 1,691 769 (2,588) -- OTHER ASSETS ................................ 307 -- 28 -- 335 ------ ------ ------ ------- ------ TOTAL ASSETS ................................ $4,517 $2,666 $1,586 $(5,819) $2,950 ====== ====== ====== ======= ====== LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) CURRENT LIABILITIES: Accounts payable ............................ $ 164 $ 13 $ 37 $ (2) $ 212 Intercompany payables ....................... 531 164 131 (826) -- Wages and benefits .......................... 18 -- 11 -- 29 Postretirement liabilities .................. 99 -- 1 -- 100 Miscellaneous accruals ...................... 223 11 109 -- 343 Short-term debt ............................. 120 -- -- -- 120 Intercompany short-term debt ................ 38 48 260 (346) -- ------ ------ ------ ------- ------ TOTAL CURRENT LIABILITIES ................... 1,193 236 549 (1,174) 804 LONG-TERM DEBT .............................. 633 -- 230 -- 863 INTERCOMPANY LONG-TERM DEBT ................. 1,521 19 702 (2,242) -- POSTRETIREMENT LIABILITIES .................. 1,132 -- 30 -- 1,162 OTHER LIABILITIES ........................... 301 -- 82 1 384 SHAREHOLDERS' EQUITY (DEFICIT): Common stock ................................ 1 -- -- -- 1 Additional contributed capital .......... 19 -- -- -- 19 Treasury stock .......................... (251) -- -- -- (251) Net (deficiency) excess of assets at spinoff and subsidiary capital ........ (113) 2,411 (7) (2,404) (113) Accumulated other comprehensive loss ........ (103) -- -- -- (103) Reinvested earnings ......................... 184 -- -- -- 184 ------ ------ ------ ------- ------ TOTAL SHAREHOLDERS' EQUITY (DEFICIT) ........ (263) 2,411 (7) (2,404) (263) ------ ------ ------ ------- ------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) ................................. $4,517 $2,666 $1,586 $(5,819) $2,950 ====== ====== ====== ======= ======
18 SOLUTIA INC. CONSOLIDATING BALANCE SHEET DECEMBER 31, 2002 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ ASSETS CURRENT ASSETS: Cash and cash equivalents.................... $ -- $ -- $ 17 $ -- $ 17 Trade receivables, net ...................... 12 146 112 -- 270 Intercompany receivables .................... 28 567 357 (952) -- Miscellaneous receivables ................... 69 -- 28 -- 97 Prepaid expenses ............................ 14 1 2 -- 17 Deferred income tax benefit ................. 82 -- 19 7 108 Inventories ................................. 167 23 92 (20) 262 Current Assets - Discontinued Operations .... 85 10 541 -- 636 ------ ------ ------ ------- ------ TOTAL CURRENT ASSETS ........................ 457 747 1,168 (965) 1,407 PROPERTY, PLANT AND EQUIPMENT: Land ........................................ 17 -- 2 -- 19 Buildings ................................... 266 25 84 -- 375 Machinery and equipment ..................... 2,482 71 393 -- 2,946 Construction in progress .................... 15 1 10 -- 26 ------ ------ ------ ------- ------ Total property, plant and equipment ......... 2,780 97 489 -- 3,366 Less accumulated depreciation ............... 2,082 19 335 -- 2,436 ------ ------ ------ ------- ------ NET PROPERTY, PLANT AND EQUIPMENT ........... 698 78 154 -- 930 INVESTMENTS IN AFFILIATES ................... 2,990 33 30 (2,821) 232 GOODWILL..................................... -- 72 72 -- 144 IDENTIFIED INTANGIBLE ASSETS, NET ........... 3 26 37 -- 66 LONG-TERM DEFERRED INCOME TAX BENEFIT ....... 278 -- 12 -- 290 INTERCOMPANY ADVANCES ....................... 128 2,126 1,461 (3,715) -- OTHER ASSETS ................................ 241 1 31 -- 273 ------ ------ ------ ------- ------ TOTAL ASSETS ................................ $4,795 $3,083 $2,965 $(7,501) $3,342 ====== ====== ====== ======= ====== LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) CURRENT LIABILITIES: Accounts payable ............................ $ 191 $ 8 $ 35 $ -- $ 234 Intercompany payables ....................... 463 152 337 (952) -- Wages and benefits .......................... 20 -- 22 -- 42 Postretirement liabilities .................. 92 -- 1 -- 93 Miscellaneous accruals ...................... 179 10 125 -- 314 Short-term debt ............................. 233 -- 125 -- 358 Intercompany short-term debt ................ 201 23 268 (492) -- Current Liabilities - Discontinued Operations 33 -- 132 -- 165 ------ ------ ------ ------- ------ TOTAL CURRENT LIABILITIES ................... 1,412 193 1,045 (1,444) 1,206 LONG-TERM DEBT .............................. 630 -- 209 -- 839 INTERCOMPANY LONG-TERM DEBT ................. 1,586 98 1,539 (3,223) -- POSTRETIREMENT LIABILITIES .................. 1,137 -- 27 -- 1,164 OTHER LIABILITIES ........................... 279 -- 104 (1) 382 SHAREHOLDERS' EQUITY (DEFICIT): Common stock ................................ 1 -- -- -- 1 Additional contributed capital ......... 19 -- -- -- 19 Treasury stock .......................... (251) -- -- -- (251) Net (deficiency) excess of assets at spinoff and subsidiary capital ........ (113) 2,792 41 (2,833) (113) Accumulated other comprehensive loss ........ (146) -- -- -- (146) Reinvested earnings ......................... 241 -- -- -- 241 ------ ------ ------ ------- ------ TOTAL SHAREHOLDERS' EQUITY (DEFICIT) ........ (249) 2,792 41 (2,833) (249) ------ ------ ------ ------- ------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) ................................. $4,795 $3,083 $2,965 $(7,501) $3,342 ====== ====== ====== ======= ======
19 SOLUTIA INC. CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS SIX MONTHS ENDED JUNE 30, 2003 (DOLLARS IN MILLIONS)
PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ CASH PROVIDED BY (USED IN) OPERATIONS $(132) $ 61 $ 19 $ -- $ (52) ----- ---- ----- ----- ----- INVESTING ACTIVITIES: Property, plant and equipment purchases ..... (41) (1) (4) -- (46) Acquisition and investment payments, net of cash acquired.............................. (27) -- -- -- (27) Property disposals and investment proceeds .. 171 -- 305 -- 476 ----- ---- ----- ----- ----- CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 103 (1) 301 -- 403 ----- ---- ----- ----- ----- FINANCING ACTIVITIES: Net change in short-term debt obligations ... (113) -- (126) -- (239) Other financing activities .................. (45) -- -- -- (45) Changes in investments and advances from (to) affiliates ................................ 208 (60) (148) -- -- ----- ---- ----- ----- ----- CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 50 (60) (274) -- (284) ----- ---- ----- ----- ----- INCREASE IN CASH AND CASH EQUIVALENTS 21 -- 46 -- 67 CASH AND CASH EQUIVALENTS: BEGINNING OF YEAR ........................... -- -- 17 -- 17 ----- ---- ----- ----- ----- END OF PERIOD ............................... $ 21 $-- $ 63 $ -- $ 84 ===== ==== ===== ===== ===== 20 SOLUTIA INC. CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS SIX MONTHS ENDED JUNE 30, 2002 (DOLLARS IN MILLIONS) PARENT ONLY NON- CONSOLIDATED SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC. ------------ ---------- ---------- ------------ ------------ CASH PROVIDED BY (USED IN) OPERATIONS $ (39) $ 63 $ 25 $ -- $ 49 ----- ---- ----- ----- ----- INVESTING ACTIVITIES: Property, plant and equipment purchases ..... (15) (4) (12) -- (31) Acquisition and investment payments, net of cash acquired.............................. (17) -- -- -- (17) Property disposals and investment proceeds .. 101 -- (1) -- 100 ----- ---- ----- ----- ----- CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES ................................ 69 (4) (13) -- 52 ----- ---- ----- ----- ----- FINANCING ACTIVITIES: Net change in short-term debt obligations ... (157) -- 48 -- (109) Common stock issued under employee stock plans ..................................... 2 -- -- -- 2 Other financing activities .................. (4) -- -- -- (4) Changes in investments and advances from (to) affiliates ................................ 128 (59) (69) -- -- ----- ---- ----- ----- ----- CASH USED IN FINANCING ACTIVITIES ........... (31) (59) (21) -- (111) ----- ---- ----- ----- ----- DECREASE IN CASH AND CASH EQUIVALENTS ....... (1) -- (9) -- (10) CASH AND CASH EQUIVALENTS: BEGINNING OF YEAR ........................... 3 1 19 -- 23 ----- ---- ----- ----- ----- END OF PERIOD ............................... $ 2 $ 1 $ 10 $ -- $ 13 ===== ==== ===== ===== =====
21 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This section includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements include all statements regarding expected future financial position, results of operations, profitability, cash flows and liquidity, as well as forward-looking statements regarding other matters. Important factors that could cause actual results to differ materially from the expectations reflected in the forward-looking statements herein include, among others, general economic, business and market conditions, customer acceptance of new products, raw material and energy costs or shortages, adverse developments in the Anniston, Alabama PCB litigation, limited access to capital resources, currency fluctuations, increased competitive and/or customer pressure, gain or loss of significant customers, ability to divest existing businesses, exposure to product liability and other litigation, environmental remediation costs, changes in accounting principles generally accepted in the United States of America, ability to implement cost reduction initiatives in a timely manner, geopolitical instability, and changes in pension assumptions. CRITICAL ACCOUNTING POLICIES AND ESTIMATES A summary of our critical accounting policies and estimates is presented on page 14 of our 2002 Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 6, 2003. RESULTS OF OPERATIONS--THREE MONTHS ENDED JUNE 30, 2003 COMPARED WITH THREE MONTHS ENDED JUNE 30, 2002 Net sales for the second quarter of 2003 were $611 million compared with net sales of $585 million for the second quarter of 2002. The net sales increase reflected higher average selling prices of approximately 5 percent, lower sales volumes of approximately 3 percent and favorable currency exchange rate fluctuations of approximately 2 percent. Performance Products and Services Performance Products and Services net sales for the second quarter of 2003 were $261 million compared with $245 million for the second quarter of 2002. The sales increase resulted from favorable currency exchange rate fluctuations of approximately 6 percent and volume gains of approximately 1 percent. Net sales were positively affected by the strengthening euro and Australian dollar in relation to the U.S. dollar. Sales volumes increases in SAFLEX(R) plastic interlayer products were partially offset by sales volume decreases in CPFilms window film and precision coated products. Moderate increases of average selling prices experienced in chlorobenzenes and THERMINOL(R) heat transfer fluids were offset by lower average selling prices experienced in SAFLEX(R) plastic interlayer products. Segment profit was $26 million for the second quarter of 2003 versus $23 million for the prior year quarter. Segment profit increased $3 million or 13 percent, primarily due to higher net sales, favorable manufacturing variances, and lower marketing, administrative and technological expenses, partially offset by increased raw material and energy costs and severance charges associated with workforce reductions. Integrated Nylon The Integrated Nylon segment had net sales of $350 million for the second quarter of 2003 compared with $340 million for the same period of the prior year. The sales increase resulted from higher average selling prices of approximately 9 percent, partially offset by lower sales volumes of approximately 6 percent. Price increases occurred in intermediate chemicals as it benefited from formula-based sales contracts tied to raw material costs and higher pricing in the merchant acrylonitrile market. In addition, carpet fibers recorded improvements in average selling prices following an April 1, 2003 price increase. Carpet fibers volumes were modestly lower compared to the prior year period and in line with industry trends. Acrylic fiber volume was down substantially reflecting continuing erosion of the U.S. textile market. 22 The Integrated Nylon segment experienced a loss of $20 million in the second quarter of 2003 compared to segment profit of $10 million in the prior year quarter. Segment profit declined because of higher raw material and energy costs of approximately $50 million, severance charges associated with workforce reductions and higher marketing expenses, partially offset by higher net sales and favorable manufacturing operations. The Company expects raw material and energy prices to remain at elevated levels for the remainder of 2003, which will have a negative impact on segment profitability. In addition, during scheduled downtime for preventative maintenance at the acrylonitrile facility at the Chocolate Bayou Intermediates site, the Company discovered conditions which will result in additional downtime for unscheduled maintenance. This unscheduled additional downtime could have a material effect on segment profitability in the third quarter. Corporate Expenses Corporate expenses were $41 million for the second quarter of 2003 compared to $15 million in the second quarter of 2002. The increase is due to an environmental charge of approximately $27 million to recognize the Company's obligations under a partial consent decree approved on August 4, 2003 related to remediation at Anniston, Alabama. Operating Income (Loss)
THREE MONTHS ENDED JUNE 30, ---------------- (dollars in millions) 2003 2002 ---- ---- Performance Products and Services Segment Profit .............. $ 26 $ 23 Integrated Nylon Segment Profit/(Loss) ........................ (20) 10 Corporate Expenses ............................................ (41) (15) Less: Equity Earnings from Affiliates included in Segment Profit/(Loss) .............................. -- (1) Less: Other Income items included in Segment Profit/(Loss) ...................................... -- -- ---- ---- Operating Income/(Loss) ....................................... $(35) $ 17 ==== ====
Solutia had an operating loss of $35 million in the second quarter of 2003 compared with operating income of $17 million in the second quarter of 2002. The decrease in operating income was primarily driven by higher raw material and energy costs, higher environmental costs, lower sales volumes, and higher severance costs associated with workforce reductions, partially offset by improvements in average selling prices, favorable currency exchange rate fluctuations and favorable manufacturing operations. Equity Earnings from Affiliates
THREE MONTHS ENDED JUNE 30, ---------------- (dollars in millions) 2003 2002 ---- ---- Equity Earnings from Affiliates ............................... $-- $4 === == Equity Earnings from Affiliates included in Reportable Segment Profit .......................................... $-- $1 === ==
Solutia records equity earnings from affiliates net of income taxes. Equity earnings from affiliates were break even for the three months ended June 30, 2003, compared to equity earnings from affiliates of $4 million for the 23 comparable quarter of 2002. Equity earnings from affiliates in 2003 were negatively affected by $2 million of restructuring charges primarily related to severance at both the Flexsys and Astaris joint ventures. In addition to the restructuring charges, Astaris' earnings decreased as a result of lower sales volumes, lower selling prices and lower revenue from an electricity sales contract. Flexsys' earnings were lower because of higher raw material and energy costs. Income Tax Benefit Solutia's income tax benefit was $21 million for the second quarter of 2003 compared to $4 million for the second quarter of 2002. The significant increase in income tax benefit is due to the decrease in income on a year over year basis The Company's effective rate, after consideration of the tax expense included in equity earnings was 36%, compared to 22% for the prior year period. The increase was due to the utilization of deferred tax liabilities for the income taxes on distributed foreign earnings. Restructuring Activities During the second quarter of 2003, Solutia recorded restructuring charges of $4 million to cost of goods sold and $4 million to marketing, administrative and technological expenses for costs associated with workforce reductions and $1 million to cost of goods sold for costs primarily associated with contract terminations of leased administrative facilities. The restructuring was part of an enterprise-wide cost reduction initiative associated with the sale of the resins, additives and adhesives businesses and other ongoing cost reduction initiatives. As a result of these actions, Solutia reduced its workforce by approximately 280 positions. Cash outlays associated with the restructuring actions were funded from operations. Approximately 90 percent of the workforce reductions affected North American business and manufacturing operations, and approximately 10 percent affected European, Asian and Latin American operations. Management positions represented approximately 20 percent of the workforce reductions. Solutia anticipates additional severance charges of approximately $5 million for the remainder of 2003 in the Performance Products and Services segment. RESULTS OF OPERATIONS--SIX MONTHS ENDED JUNE 30, 2003 COMPARED WITH SIX MONTHS ENDED JUNE 30, 2002 Net sales for the six-month period ended June 30, 2003 were $1,207 million compared with net sales of $1,105 million for the six-month period ended June 30, 2002. The net sales increase reflected higher average selling prices of approximately 7 percent, lower sales volumes of approximately 1 percent and favorable currency exchange rate fluctuations of approximately 3 percent. Performance Products and Services Performance Products and Services net sales for the first six months of 2003 were $504 million compared with $469 million for the first six months of 2002. The sales increase of approximately 7 percent resulted principally due to the strengthening of the euro and Australian dollar in relation to the U.S. dollar. Moderate increases of average selling prices experienced in chlorobenzenes and THERMINOL(R) heat transfer fluids were offset by decreases experienced in SAFLEX(R) plastic interlayer products. Slight increases of volumes experienced in SAFLEX(R) plastic interlayer products were offset by decreases in volumes experienced in CPFilms window film and precision coated products. Segment profit was $43 million for the first half of 2003 versus $44 million for the first half of 2002. Segment profit decreased $1 million or 2 percent primarily due to severance charges associated with workforce reductions and increased raw material costs, partially offset by higher net sales and lower administrative expenses. 24 Integrated Nylon The Integrated Nylon segment had net sales of $703 million for the six months ended June 30, 2003 compared with $636 million for the same period of the prior year. The sales increase resulted from higher average selling prices of approximately 12 percent partially offset by sales volume declines of approximately 1 percent. Price increases occurred in intermediate chemicals as it benefited from formula-based sales contracts tied to raw material costs and higher pricing in the merchant acrylonitrile market. In addition, modest gains in average selling prices were recorded in the remaining businesses. Acrylic fiber sales volumes declined due to weak U.S. demand in the textiles segment. Carpet fibers volumes were down slightly compare to the prior year period and in line with industry trends. The largest volume increase was in nylon plastics and polymers, which benefited from reintegrated marketing responsibilities for the nylon molding resins business which were previously performed under a marketing alliance with Dow Plastics, a business unit of Dow Chemical. The Integrated Nylon segment experienced a loss of $31 million in the first half of 2003 compared to segment profit of $17 million in the first half of 2002. Segment profit declined because of higher raw material and energy costs of approximately $110 million and severance charges associated with workforce reductions, partially offset by higher net sales, favorable manufacturing operations and lower incentive expenses. Raw material and energy costs were higher because of uncertain geopolitical factors and the declaration of force majeure for supply of propylene, a key raw material. The Company expects raw material and energy prices to remain at elevated levels for the remainder of 2003, which will have a negative impact on segment profitability. In addition, during scheduled downtime for preventative maintenance at the acrylonitrile facility at the Chocolate Bayou Intermediates site, the Company discovered conditions which will result in additional downtime for unscheduled maintenance. This unscheduled additional downtime could have a material effect on segment profitability in the third quarter. Corporate Expenses Corporate expenses were $56 million for the first half of 2003 compared to $32 million in the first half of 2002. The increase is due to an environmental charge of approximately $27 million to recognize the Company's obligation under a partial consent decree approved on August 4, 2003 related to remediation at Anniston, Alabama. Operating Income (Loss)
SIX MONTHS ENDED JUNE 30, -------------- (dollars in millions) 2003 2002 ---- ---- Performance Products and Services Segment Profit ........................... $ 43 $ 44 Integrated Nylon Segment Profit/(Loss) ..................................... (31) 17 Corporate Expenses ......................................................... (56) (32) Less: Equity Earnings from Affiliates included in Segment Profit/(Loss) (1) (1) Less: Other Income items included in Segment Profit/(Loss) ............ (3) (3) ---- ---- Operating Income/(Loss) .................................................... $(48) $ 25 ==== ====
Solutia had an operating loss of $48 million in the first half of 2003 compared with operating income of $25 million in the first half of 2002. The decrease in operating income was primarily driven by higher raw material and energy costs, higher environmental costs, lower sales volumes and higher severance costs associated with workforce reductions, partially offset by improvements in average selling prices, favorable currency exchange rate fluctuations, and favorable manufacturing operations. Equity Earnings (Loss) from Affiliates
SIX MONTHS ENDED JUNE 30, -------------- (dollars in millions) 2003 2002 ---- ---- Equity Earnings/(Loss) from Affiliates ........................................ $(2) $12 === === Equity Earnings from Affiliates included in Reportable Segment Profit ..... $ 1 $ 1 === ===
25 Solutia records equity earnings (loss) from affiliates net of income taxes. Equity loss from affiliates was $2 million for the six months ended June 30, 2003, compared to equity earnings from affiliates of $12 million for the comparable period in 2002. Equity loss from affiliates in 2003 were negatively affected by restructuring charges related to asset impairments at the Flexsys joint venture and severance charges at both the Flexsys and Astaris joint ventures. In addition to the restructuring charges, Astaris' earnings decreased as a result of lower sales volumes, lower selling prices and lower revenue from an electricity sales contract. Flexsys' earnings were negatively impacted by higher raw material and energy costs. Equity earnings from affiliates for the six months ended June 30, 2002, included $2 million of earnings from the Advanced Elastomer Systems joint venture, which was sold during the first quarter of 2002. Other Income--Net
SIX MONTHS ENDED JUNE 30, -------------- (dollars in millions) 2003 2002 ---- ---- Other Income - Net ......................................................... $8 $9 == == Other Income - Net included in Reportable Segment Profit ............... $3 $3 == ==
Other income--net for the six months ended June 30, 2003 was $8 million, compared to other income--net of $9 million for the comparable period in 2002. During the first half of 2003, Solutia realized a benefit of $4 million related to the recovery of certain receivables, established prior to 1997, which had previously been written off. During the first half of 2002, Solutia sold its 50 percent interest in the Advanced Elastomer Systems joint venture resulting in a gain of $5 million. Income Tax Benefit Solutia's income tax benefit was $35 million for the first half of 2003 compared to $4 million for the first half of 2002. The significant increase in income tax benefit is due to the decrease in income on a year-over-year basis. The effective tax rate increased because of the utilization of deferred tax liabilities for the income taxes on distributed foreign earnings. Cumulative Effect of Change in Accounting Principle Effective January 1, 2002, Solutia adopted SFAS No. 142, "Goodwill and Other Intangible Assets." In accordance with SFAS No. 142, Solutia discontinued the amortization of goodwill and identifiable intangible assets that have indefinite useful lives. This statement also required certain intangible assets that did not meet the criteria for recognition apart from goodwill, to be subsumed into goodwill. During the quarter ended March 31, 2002, Solutia subsumed into goodwill $1 million of intangible assets net of related deferred tax liabilities representing assembled workforce that did not meet the separability criteria under SFAS No. 141, "Business Combinations." Fair value measurements of the reporting units were estimated by a third-party specialist utilizing both an income and market multiple approach. Based on this analysis, Solutia recorded an impairment loss of $167 million during the first quarter of 2002 for the resins and additives business (which is presented as discontinued operations) due to declining estimates of future results given current economic and market conditions. The goodwill impairment charge is non-deductible for tax purposes and is reflected as the cumulative effect of change in accounting principle in the accompanying statement of consolidated loss. 26 Restructuring Activities During the first half of 2003, Solutia recorded restructuring charges of $10 million to cost of goods sold and $9 million to marketing, administrative and technological expenses for costs associated with workforce reductions and $1 million to cost of goods sold for costs primarily associated with contract terminations of leased administrative facilities. The restructuring was part of an enterprise-wide cost reduction initiative associated with the sale of the resins, additives and adhesives businesses and other ongoing cost reduction initiatives. As a result of these actions, Solutia reduced its workforce by approximately 450 positions. Cash outlays associated with the restructuring actions were funded from divestiture proceeds and operations. Approximately 90 percent of the workforce reductions affected North American business and manufacturing operations, and approximately 10 percent affected European, Asian and Latin American operations. Management positions represented approximately 25 percent of the workforce reductions. Solutia anticipates additional severance charges of approximately $5 million for the remainder of 2003 in the Performance Products and Services segment. Summary of Events Affecting Comparability Charges and gains recorded in the six months ended June 30, 2003 and 2002, and other events affecting comparability have been summarized in the tables below (dollars in millions).
2003 ------------------------------------------------------------ PERFORMANCE PRODUCTS AND INTEGRATED CORPORATE/ INCREASE/(DECREASE) SERVICES NYLON OTHER CONSOLIDATED - ------------------------------------------ ------------ ---------- ---------- ------------ IMPACT ON: Cost of goods sold ....................... $ 6 $ 5 $ $ 11 (a) 27 27 (b) ---- --- ---- ---- Total cost of goods sold ................. 6 5 27 38 Marketing ................................ 2 2 (a) Administrative ........................... 2 4 6 (a) Technological ............................ 1 1 (a) ---- --- ---- ---- OPERATING INCOME (LOSS) IMPACT (11) (5) (31) (47) Equity earnings (loss) from affiliates, net of tax ............................. (7) (7) (c) Other income (expense) ................... 4 4 (d) ---- --- ---- ---- PRETAX INCOME STATEMENT IMPACT $(11) $(5) $(34) (50) ==== === ==== Income tax benefit impact ................ (17) ---- AFTERTAX INCOME STATEMENT IMPACT $(33) ==== 2003 EVENTS - ----------- (a) Restructuring charges for workforce reductions of approximately 450 positions across all world areas and functions of the Company and contract termination costs ($20 million). (b) Environmental charges related to remediation in Anniston, Alabama ($27 million). (c) The Flexsys and Astaris joint ventures, in which the Company has a 50 percent joint interest, incurred restructuring charges during the first six months of 2003 related to asset impairments and severance charges ($7 million). (d) The Company recovered certain receivables, established prior to 1997, which had previously been written off ($4 million).
27
2002 ------------------------------------------------------------ PERFORMANCE PRODUCTS AND INTEGRATED CORPORATE/ INCREASE/(DECREASE) SERVICES NYLON OTHER CONSOLIDATED - ----------------------------------- ------------ ---------- ---------- ------------ IMPACT ON: Cost of goods sold ................ $ $ $ $-- --- --- --- --- Total cost of goods sold .......... -- -- -- -- Marketing, administrative, technological and amortization expenses ........................ --- --- --- --- OPERATING INCOME (LOSS) IMPACT . -- -- -- -- Equity earnings (loss) from affiliates, net of tax .......... Other income (expense) ............ 5 5 (d) --- --- --- --- PRETAX INCOME STATEMENT IMPACT . $-- $-- $ 5 5 === === === === Income tax impact ................. 2 --- AFTERTAX INCOME STATEMENT IMPACT........................ $ 3 === 2002 EVENTS - ----------- (d) Gain resulting from the sale of the Company's 50 percent interest in the Advanced Elastomer Systems joint venture ($5 million).
FINANCIAL CONDITION AND LIQUIDITY On December 2, 2002, Solutia signed a definitive agreement to sell its resins, additives and adhesives businesses to UCB S.A. for $500 million in cash, plus an upfront payment of $10 million for a period of exclusivity. On January 31, 2003, the sale was completed. Proceeds from the divestiture were used to pay down all of the borrowings under the amended credit facility, provide $39 million cash collateral for certain outstanding letters of credit and purchase the co-generation facility at Pensacola, Florida for $32 million in accordance with bank agreements. The Company retained certain tax liabilities related to the divested businesses and expects to pay approximately $29 million in the second half of 2003 related to these liabilities. Divestiture proceeds and borrowings from the amended credit facility provided the primary source of funds to finance operating needs and capital expenditures during the first half of 2003. Cash used in continuing operations was $41 million during the first half of 2003 compared to cash provided by continuing operations of $39 million for the comparable period of 2002. The decrease was primarily attributable to a $60 million income tax refund received during the first quarter of 2002, lower dividends from equity affiliates and lower consolidated earnings. Capital spending increased $19 million to $46 million in the first half of 2003, compared to $27 million in the first half of 2002. The increase resulted from the purchase of the co-generation facility in Pensacola, Florida, for approximately $32 million. The remaining expenditures were used to fund maintenance and cost reduction projects. During the first half of 2003, proceeds from the sale of the resins, additives and adhesives businesses were included in cash provided by discontinued operations. Proceeds generated in the first half of 2002 included the sale of the Company's 50 percent interest in the Advanced Elastomer Systems joint venture to ExxonMobil Chemical Company, a subsidiary of Exxon Mobil Corporation for approximately $102 million. Total debt decreased by $214 million to $983 million at June 30, 2003, compared to $1,197 million at the end of 2002 and consisted of borrowings under the amended credit facility, notes, indenture and debentures. The decrease was driven by the use of divestiture proceeds to pay down debt. 28 Solutia's working capital from continuing operations increased by $385 million to $115 million at June 30, 2003, compared to negative $270 million at December 31, 2002. The increase in the working capital position primarily resulted from lower short-term debt of $238 million and an increase in current assets of $148 million. The Company used divestiture proceeds to pay down short-term debt. The increase in current assets is primarily due to higher cash and cash equivalents and the seasonal increase in accounts receivable. Solutia had a shareholders' deficit of $263 million at June 30, 2003 compared to a shareholders' deficit of $249 million at December 31, 2002. Shareholders' deficit increased because of 2003 losses, partially offset by favorable currency translation adjustments, principally related to the increase in value of the euro in relation to the U.S. dollar. The Company's primary sources of liquidity have been and will continue to be cash from operations, divestiture proceeds, borrowings under its revolving credit facility and other external financing sources. At June 30, 2003, after consideration of $118 million of letters of credit outstanding under the credit facility, the Company had capacity to borrow up to $62 million. The Company also had $84 million of cash and cash equivalents available for general corporate purposes and debt repayment. Subsequent to the second quarter earnings announcement, the Company experienced modest credit tightening from a key supplier, which will impact the Company's ability to generate cash from operations in the second half of this year. On August 4, 2003, Solutia and Monsanto entered into an amendment to the Penndot Protocol agreement dated November 15, 2002. Pursuant to the amendment, Monsanto released Solutia from its obligation to provide Monsanto with a $39.9 million letter of credit to secure a portion of Monsanto's obligations with respect to an appeal bond in the Penndot case. As a result, letters of credit outstanding under the credit facility were $78 million on August 4, 2003. In anticipation of weaker-than-expected second quarter results, the Company sought an amendment granting relief from certain of the financial covenants in its $300 million revolving credit facility for the period June 30, 2003 through September 29, 2003. The Company did not seek an amendment beyond September 29, 2003 because it anticipated refinancing the facility within that timeframe. The Company and its bank syndicate amended the facility on June 30, 2003. If the syndicate's approval of the amendment had been delayed until the first week of July, the Company would not have been able to borrow under the facility until the approval was obtained. Consequently in late June, the Company, in consultation with the bank syndicate, borrowed additional amounts to ensure it had sufficient liquidity to meet its obligations during the amendment approval process. The Company still plans to refinance the revolving credit facility prior to September 30, 2003. If the Company is unable to refinance the facility in this timeframe, the Company would need to seek further relief from its bank syndicate in the event it determined it could not comply with its financial covenants as of September 30, 2003. On July 31, 2003, Standard & Poor's Ratings Services lowered its corporate credit rating on Solutia to B- from BB-. On August 8, 2003, Moody's Investors Service lowered its senior implied credit rating on Solutia to B3 from Ba3. The weighted average interest rate on Solutia's total debt outstanding at June 30, 2003, was approximately 7.7 percent compared to 5.7 percent at June 30, 2002. Interest expense was $48 million in the first half of 2003 compared to $35 million in the comparable period in 2002. The increase resulted from amortization of deferred debt issuance costs incurred during the second half of 2002 and higher interest rates associated with the credit facility and the senior secured notes. Contingencies Legacy Liabilities At the time Solutia was spun-off from former Monsanto Company (now known as Pharmacia Corporation) in September 1997, the Company was required to contractually assume certain liabilities from Pharmacia. These legacy liabilities primarily consist of retiree healthcare and life insurance costs, environmental compliance and remediation costs and litigation defense costs and judgments. Since the spin-off, the Company has spent, on average, approximately $100 million annually to service these legacy liabilities. The Company expects this amount of spending to continue for the foreseeable future. A significant majority of the legacy liability costs are attributable to retiree healthcare costs and environmental compliance and remediation, as opposed to litigation defense costs and judgments. 29 One of the legacy liabilities Solutia was required to assume from Pharmacia is the litigation involving the alleged discharge of PCBs from the Anniston, Alabama plant site, which Solutia now owns and operates and at which Pharmacia formerly produced PCBs. Although Pharmacia remains the named defendant in that litigation, the Company is required to manage the litigation and indemnify Pharmacia from costs, expenses and judgments arising from such litigation. The most significant of the PCB lawsuits are the Abernathy and Tolbert cases, more fully described in Solutia's 2002 Annual Report on Form 10-K, filed with the Securities and Exchange Commission on March 6, 2003. The plaintiffs in these cases are demanding substantial compensatory and punitive damages under a variety of theories of recovery. The verdicts in the property damage phase of the Abernathy case continued to mount during the second quarter and are continuing to mount during the third quarter. As of August 11, 2003, the jury in this case had returned compensatory damage verdicts totaling approximately $101 million to the first 509 of the 907 plaintiffs who have made property damage and exposure claims. Approximately 400 property claims and all of the personal injury and potential punitive damage claims have yet to be tried in the case. The Abernathy jury continues to apply a formula-based approach in determining the amount of these verdicts and, as a result, the Company believes the first 509 verdicts are typical of the verdicts that can be expected in the remaining property damage cases. Plaintiffs' counsel in the Tolbert case have based their valuation of that case upon the formula-based Abernathy verdicts. The use of the Abernathy verdicts as a basis for valuing the Tolbert case would result in a valuation in excess of $3 billion. Based upon the advice of counsel, the Company believes the Abernathy verdicts are seriously flawed and will be reversed on appeal. However, the Company will not be able to appeal those verdicts until all property damage, personal injury and punitive damage claims in the Abernathy case are tried and a final judgment is entered. The Company's access to the appellate courts in the Abernathy and Tolbert cases may be years away. During the third quarter of 2003, the Company will reach significant milestones in the Abernathy and Tolbert cases. The Company expects the property damage phase of the Abernathy trial to conclude during the third quarter of 2003. In late August of 2003, the Company expects the personal injury phase of this case to begin. In the Tolbert case, dispositive motions are due in late August of 2003, and Phase I of the personal injury case will start in October of 2003. Although the Company believes that it has meritorious defenses in these cases, the damages sought are in an amount that would far exceed its financial capacity. Due to the magnitude of the damages sought, the Company is considering all alternatives to address these cases. The Company continues to have discussions with plaintiffs' counsel to seek a comprehensive resolution of these cases. To date, those efforts have not resulted in such a resolution. Astaris Joint Venture In connection with the external financing agreement for Astaris, which expires in September of 2005, Solutia and its equal partner in the venture, FMC Corporation, contractually agreed to provide Astaris with funding in the event the joint venture fails to meet certain financial benchmarks. The financial benchmarks were based on forecasted earnings that were developed when the financing was entered into. Astaris' earnings have fallen short of the forecast underlying its external financing agreement due to numerous factors including significantly less than planned productivity of its purified wet acid technology, lower sales volumes and lower average selling prices due to the prolonged weak U.S. economy. As a result of these earnings shortfalls versus the original expectations, Solutia and FMC have each been required to make additional investments of $26 million during the second quarter of 2003. These payments have largely been used to reduce debt outstanding within the venture. Solutia and FMC are evaluating other financing alternatives for the joint venture. If no new financing arrangements are obtained, Solutia anticipates that its share of the additional required contributions will be approximately $35 million for the remainder of 2003. In addition, the Company expects to make additional contributions in 2004, although such amounts cannot be determined at this time. Contributions are recorded in the Investments in Affiliates line on the Statement of Consolidated Financial Position. Due to the Company's contractual obligation to fund the joint venture as described above, in order to amend the Company's revolving credit facility, the Company must obtain the approval of the Astaris' bank syndicate. Also, a default by the Company of the financial covenants in its revolving credit facility constitutes an event of default under Astaris' credit facility. Second Quarter Business Trends The Company's business and liquidity position was adversely impacted by several factors during the second quarter. First, the weakened state of the manufacturing sector, characterized by significant overcapacity and persistently high raw material and energy costs, resulted in a decline in the Integrated Nylon segment during the quarter. Also, 30 the segment outlook for the remainder of 2003 dramatically changed during the second quarter as it became apparent that raw material prices after the conclusion of the Iraqi conflict would remain at historically elevated levels for the foreseeable future. Overcapacity in the sector prevented the Company from passing along a significant portion of the elevated raw material costs to customers. In anticipation of weaker-than-expected second quarter results, the Company sought and received an amendment granting relief from certain of the financial covenants in its $300 million revolving credit facility for the period June 30, 2003 through September 29, 2003. The weakened manufacturing sector also adversely impacted second quarter operating results of Astaris which will require the Company to make higher keepwell payments to Astaris than previously expected. These adverse developments in the Integrated Nylon segment and Astaris negatively impacted the Company's cash generated from operations for the second quarter. Outlook The Company's $300 million credit facility expires on August 13, 2004. The holders of the 6.72% debentures have the right to put $150 million of debentures to the Company for repayment in October of 2004. The 6.25% five-year (euro)200 million notes mature in February of 2005. Additionally, the Company will be required to make quarterly contributions currently anticipated to be an aggregate of approximately $175 million to its qualified pension plan during 2005. Without a dramatic change in circumstances, the continuing overhang of the PCB litigation and other legacy liabilities will significantly restrict the Company's alternatives to address these liquidity requirements. Also, without a substantial improvement in the operating results of the business, cash flow from operations will not be a significant source of liquidity to meet these requirements. The Company may not be successful in satisfying these future liquidity requirements on favorable terms, if at all. The Company is currently considering all available alternatives to address its legacy litigation and other legacy liabilities, future liquidity needs and the recent adverse developments in its business, including, but not limited to, a potential reorganization under Chapter 11 of the U.S. bankruptcy code. RECENTLY ISSUED ACCOUNTING STANDARDS In January 2003, the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities." This Interpretation provides guidance related to identifying variable interest entities (VIEs) and determining whether such entities should be consolidated. This Interpretation must be applied immediately to (a) VIEs created, or (b) interests in VIEs obtained, after January 31, 2003. For those VIEs created, or interests in VIEs obtained, on or before January 31, 2003, the guidance in this Interpretation must be applied in the first fiscal year or interim period beginning after June 15, 2003. The Company has one operating lease related to its corporate headquarters in St. Louis, Missouri that qualifies as a VIE. Based on the current terms of the lease agreement and the residual value guarantee the Company provides to the lessor, the Company is the primary beneficiary of the VIE. As a result, Solutia will be required to consolidate the assets and liabilities held by this VIE of approximately $38 million and approximately $43 million, respectively, and record an approximate charge of $5 million which will be reported as a cumulative effect of a change in accounting principle in the third quarter of 2003. In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity." This Statement establishes standards on how to classify and measure certain financial instruments with characteristics of both liabilities and equity. The Statement also requires financial instruments within its scope be classified as a liability (or an asset in some circumstances). This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 for financial instruments entered into or modified after May 31, 2003 did not have a material effect on the consolidated financial statements of the Company. In addition, the Company does not expect the adoption of SFAS No. 150 for financial instruments entered into or modified prior to May 31, 2003 to have a material effect on the consolidated financial statements. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK FACTORS There have been no material changes in market risk exposures during the first six months of 2003 that affect the disclosures presented in the information appearing under "Derivative Financial Instruments" on pages 31 and 32 of Solutia's Annual Report on Form 10-K for the year ended December 31, 2002. 31 ITEM 4. CONTROLS AND PROCEDURES Solutia carried out an evaluation, under the supervision and with the participation of Solutia's management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of Solutia's disclosure controls and procedures as of the end of the second quarter. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that Solutia's disclosure controls and procedures are effective in timely alerting them to material information relating to Solutia and its consolidated subsidiaries that is required to be included in Solutia's periodic SEC filings. Additionally, there were no significant changes in Solutia's internal control over financial reporting or in other factors that could significantly affect this control subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Solutia's Report on Form 10-K for the year ended December 31, 2002 ("2002 Form 10-K"), and its Report on Form 10-Q for the quarter ended March 31, 2003 ("First Quarter 10-Q"), described a number of lawsuits pending in state and federal court relating to the alleged release of polychlorinated biphenyls ("PCBs") and other materials from the Anniston, Alabama plant site, which Solutia now owns and operates and at which Pharmacia formally produced PCBs. (1) Abernathy v. Monsanto: This matter involves four consolidated cases brought on behalf of approximately 3,500 plaintiffs and is currently pending in Circuit Court for Etoway County, Alabama. As of August 11, 2003, the jury had returned compensatory damage verdicts totaling approximately $101 million to the first 509 of the 907 plaintiffs who have made property damage and exposure claims, but no final appealable judgment has been entered with respect to these verdicts. No claims of personal injury have been tried or presented to the jury. Trial of this action continues. On August 6, 2003, the court issued, without providing the Company or other defendants an opportunity to respond to the motions seeking their entry. The first order severs and dismisses the Company from the suit immediately upon a filing by the Company of a petition under Chapter 11 of the U.S. bankruptcy code. The second order enjoins Pharmacia and anyone acting in concert with Pharmacia from attempting to extend the automatic stay under Chapter 11 of the U.S. bankruptcy code to Pharmacia. On August 7, 2003 the plaintiffs moved to amend the order to merely provide for the severance, but not dismissal, of the Company upon such event. The court granted this motion, again without providing an opportunity for response. The Company believes both of the original orders and the amended order are without merit and that the court's issuance of such orders without allowing a response or hearing is contrary to law. (2) Tolbert v. Monsanto: This case involves the claims of approximately 15,300 plaintiffs brought in the U.S. District Court for the Northern District of Alabama. As the court requested, plaintiffs have withdrawn two of their proposed Phase I plaintiffs. As a result, the Phase I trial, which will commence on October 14, 2003, will involve the claims of four plaintiffs, two from each of the two "disease categories" previously selected by the parties. (3) Payton v. Monsanto: This action was brought in Circuit Court for Shelby County, Alabama on behalf of a purported class of owners, lessees and licensees of property around Lay Lake. On March 19, 2003, the trial court entered an order certifying a plaintiff class. A notice of appeal was filed on April 30, 2003 seeking a reversal of the court's certification order. On August 8, 2003 the Company reached an agreement to settle this case for $5 million. A significant percentage of this amount will be recovered under existing commercial insurance policies. This level of insurance recovery is not necessarily indicative of future recoveries for other litigation matters. The settlement must be approved by the court and it is anticipated this process will take at least 120 days. Solutia's 2002 Form 10-K referred to other PCB cases pending in various jurisdictions, including one case pending in state court in West Virginia and another in federal court in New Jersey. We settled the West 32 Virginia case for a nominal amount in May 2003. In addition, on June 23, 2003 the federal judge in New Jersey granted our motion for summary judgment, dismissing us from that case. Solutia's 2002 Form 10-K and its First Quarter 10-Q described a case pending in the Commonwealth Court of Pennsylvania seeking damages allegedly resulting from PCBs found in the Transportation and Safety Building in Harrisburg, Pennsylvania, which was owned by the Commonwealth of Pennsylvania. Briefing on appeal in this matter was completed by July 21, 2003. The Company filed a motion on April 14, 2003 asking the Pennsylvania Supreme Court for an expedited argument of this appeal. The Court denied the motion for expedited argument on July 22, 2003, without prejudice to the Company's right to renew the motion if oral argument is ordered. Solutia's 2002 Form 10-K and its First Quarter 10-Q described a Partial Consent Decree lodged with the United States District Court for the Northern District of Alabama in an action captioned United States of America v. Pharmacia Corporation and Solutia Inc. On August 4, 2003, the court approved the Partial Consent Decree. Solutia's 2002 Form 10-K described (a) an investigation by authorities in the United States, Europe and Canada of past commercial practices in the rubber chemicals industry and (b) a number of purported class actions filed against producers of rubber chemicals including Flexsys, our 50/50 joint venture with Akzo Nobel N.V., each seeking actual and treble damages under state law on behalf of all retail purchasers of tires in the relevant state since 1994. Solutia's First Quarter 10-Q described two purported class actions, Rubber Engineering and Development Company and Standard Rubber Products, filed against a number of companies, including Solutia and Flexsys. The plaintiffs in those separate cases each allege price fixing and seek treble damages and injunctive relief under U.S. antitrust laws on behalf of all individuals and entities that purchased rubber chemicals in the United States from the defendants, their predecessors or their controlled subsidiaries from January 1, 1995 until October 10, 2002. On June 3, 2003, a third purported class action, Polymerics, Inc. v. Akzo Nobel N.V. et. al. was filed in the same court as the Rubber Engineering and Standard Rubber cases. This third purported class action against the same defendants, makes substantially the same allegations and seeks substantially the same relief as the first two actions. Solutia is aware of four additional cases (Schlegal Corp. v. Akzo Nobel et. al., Precision Associates v. Akzo Nobel et. al., Industrial Rubber Products L.L.C. v. Crompton Corporation et. al., and Robbins LLC v. Akzo Nobel et. al.) having been filed in the United States District Court for the Northern District of California purportedly against the same defendants and making substantially similar allegations and asking for substantially similar relief as the first three such actions. Solutia expects that these cases will all be consolidated into a single class action. In addition, a purported shareholder class action, Richard Brazin v. Solutia Inc. et.al., has been filed against Solutia, its chief executive officer, and its chief financial officer in the Federal District Court for the Northern District of California. The complaint alleges that from December 16, 1998, to October 10, 2002, Solutia's accounting practices regarding incorporation of Flexsys's results into Solutia's financial reports violated federal securities laws by misleading investors as to Solutia's actual results and causing inflated prices for Solutia's publicly traded securities. Solutia is aware of three other purported shareholder class actions filed in the same court against Solutia and certain of its officers and directors, which we believe are premised on substantially similar allegations. Solutia's 2002 Form 10-K and its First Quarter 10-Q described a legal proceeding arising from the alleged violations of the Wyoming Environmental Quality Act, the Wyoming Air Quality Standards and Regulations and a permit issued by the Wyoming Department of Environmental Quality to Solutia, the company now known as Pharmacia and P4 Production L.L.C. for a coal coking facility in Rock Springs, Wyoming. The parties settled this matter without admitting any liability or any issue of fact and filed a Stipulation and Order of Judgment with the United States District Court for the District of Wyoming on April 9, 2003. The court entered the Stipulation and Order April 23, 2003, and Solutia paid its share of the monetary penalty, $426,711, on May 27, 2003. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At Solutia's annual meeting of stockholders on April 23, 2003, two matters were submitted to a vote of stockholders. 33 1. The stockholders elected the following directors for a three-year term that will expire at the annual meeting of stockholders in 2006 (or until their respective successors are elected and qualified, or until their earlier death, resignation or removal). Votes were cast as follows: VOTES VOTES "WITHHOLD NAME "FOR" AUTHORITY" ---- ----- ---------- Robert A. Clausen 88,331,579 9,019,410 Paul Donovan 91,466,834 5,884,155 Robert H. Jenkins 91,878,375 5,472,614 Frank A. Metz, Jr. 91,624,077 5,726,912 The following directors are continuing terms expiring at the annual meeting of stockholders in 2004: John C. Hunter III, Philip R. Lochner, Jr., and John B. Slaughter. The following directors are continuing terms expiring at the annual meeting of stockholders in 2005: Paul H. Hatfield, J. Patrick Mulcahy, and Sally G. Narodick. 2. The stockholders ratified the appointment by the Audit Committee of Solutia's Board of Directors of Deloitte & Touche L.L.P. as principal independent auditors for the year 2003. A total of 91,948,139 votes were cast in favor of ratification, 4,959,905 votes were cast against it, and 442,945 votes were counted as abstentions. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits--See the Exhibit Index at page 38 of this report. (b) Reports on Form 8-K during the quarter ended June 30, 2003: On April 24, 2003, we furnished to the SEC a Form 8-K. Under Items 9 and 12, we furnished our earnings press release for the quarter ended March 31, 2003.* * We are not incorporating by reference such report into this filing or any filing under the Securities Act of 1933. 34 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SOLUTIA INC. -------------------------- (Registrant) /s/ JAMES M. SULLIVAN -------------------------- (Vice President and Controller) (On behalf of the Registrant and as Principal Accounting Officer) Date: August 14, 2003 35 EXHIBIT INDEX These Exhibits are numbered in accordance with the Exhibit Table of Item 601 of Regulation S-K. EXHIBIT NUMBER DESCRIPTION - ------ ----------- 10(a) Solutia Inc. 2003 Non-Employee Director Compensation Plan (b) Amendment No. 3, dated as of June 30, 2003, to Second Amended and Restated Credit Agreement dated as of July 25, 2002, between Solutia Inc. as Borrower, the initial lenders named therein, Bank of America, N.A., as Syndication Agent and Citibank, N.A., as Administrative Agent (c) Retention Agreement with John C. Hunter III dated June 30, 2003 (d) Retention Agreement with Robert A. Clausen dated June 30, 2003 (e) Amendment to Protocol Agreement, dated August 4, 2003, by and among Pharmacia Corporation, Monsanto Company and Solutia, Inc. 11 Omitted--Inapplicable; see "Statement of Consolidated Income (Loss)" on page 1 31(a) Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31(b) Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32(a) Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32(b) Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99 Computation of the Ratio of Earnings to Fixed Charges 36 EX-10.(A) 3 exh10pa.txt EXHIBIT 10(a) 4/17/03 MANDATORY AND ELECTIVE DEFERRALS SOLUTIA INC. 2003 NON-EMPLOYEE DIRECTOR COMPENSATION PLAN 1. NAME OF PLAN. This plan shall be known as the "Solutia Inc. 2003 Non-Employee Director Compensation Plan" and is hereinafter referred to as the "Plan." 2. PURPOSE OF PLAN. The purpose of the Plan is to provide an inducement to obtain and retain the services of qualified persons as Non-Employee Directors and to align more closely the interests of such directors with the interests of the stockholders of Solutia Inc. (the "Company") by providing a portion of the compensation provided to such directors in a form that tracks the value of the Company's Common Stock. 3. EFFECTIVE DATE AND TERM. The Plan is effective as of April 23, 2003 (the "Effective Date"). The Plan shall remain in effect until terminated by action of the Board. 4. DEFINITIONS. The following terms shall have the meanings set forth below: "Administrator" has the meaning set forth in Section 12(a). "Annual Meeting" means an annual meeting of the shareholders of the Company. "Annual Retainer" means the annual retainer established by the Board and payable to a Non-Employee Director on a periodic basis, but shall not include reimbursement for expenses, fees associated with service on any committee of the Board, the retainer payable for serving as the chairman of any committee of the Board, or fees with respect to any other services to be provided to the Company. "Board" means the Board of Directors of the Company. "Business Combination" has the meaning set forth in subparagraph (c) of the definition of "Change of Control." "Change of Control" means any of the following events: (a) The acquisition by any person, entity or "group", within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934 (the "Exchange Act") (a "Person"), of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of 20% or more of either (i) the then outstanding shares of Common Stock of the Company (the "Outstanding Company Common Stock") or (ii) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors (the "Outstanding Company Voting Securities"); provided, however, that, for purposes of this subsection (a), the following acquisitions shall not constitute a Change of Control: (i) any acquisition directly from the Company, (ii) any acquisition by the Company, (iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company or (iv) any acquisition by any corporation pursuant to a transaction which complies with clauses (i), (ii) and (iii) of subsection (c) of this definition; or (b) Individuals who, as of the date hereof, constitute the Board (as of the date hereof the "Incumbent Board") cease for any reason to constitute at least a majority of the Board; provided, however, that any individual becoming a director subsequent to the date hereof whose election, or nomination for election by the Company's shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board; or (c) Consummation of a reorganization, merger, consolidation, or sale or other disposition of all or substantially all of the assets of the Company or the acquisition of assets or stock of another entity (a "Business Combination"), in each case unless, following such Business Combination, (i) all or substantially all of the individuals and entities that were the beneficial owners of the Outstanding Company Common Stock and Outstanding Company Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, more than 60% of the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the entity resulting from such Business Combination (including, without limitation, an entity that as a result of such transaction owns the Company or all or substantially all of the Company's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership immediately prior to such Business Combination of the Outstanding Company Common Stock and Outstanding Company Voting Securities, as the case may be; (ii) no Person (excluding any entity resulting from such Business Combination or any employee benefit plan (or related trust) of the Company or such entity resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then outstanding shares of common stock of the entity resulting 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 2 from such Business Combination or the combined voting power of the then outstanding voting securities of such entity except to the extent that such ownership existed prior to the Business Combination; and (iii) at least a majority of the members of the board of directors of the entity resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement or of the action of the Board providing for such Business Combination; or (d) Approval by the shareholders of the Company of a complete liquidation or dissolution of the Company. "Committee" means the committee that supervises the Plan, as more fully defined in Section 12(a). "Common Stock" means the Company's common stock, par value $.01 per share. "Company" has the meaning set forth in Section 2. "Deferred Cash Account" means a bookkeeping account maintained by the Company for a Non-Employee Director representing the Elective Cash Amount, if any, credited to such account pursuant to Section 6. "Delivery Date" has the meaning set forth in Section 7. "Discretionary Amount" means with respect to each Plan Year, the dollar amount equal to 50% of the Annual Retainer for such Plan Year, all or any portion (in percentage increments determined by the Administration) of which the Non-Employee Director may, but is not required to, elect to have credited to his or her Stock Unit Account in the form of an Elective Stock Unit Amount and/or his or her Deferred Cash Account in the form of an Elective Cash Amount. "Dividend Equivalent" for a given dividend or distribution means a number of shares of Common Stock having a Value, as of the date such Dividend Equivalent is credited to a Stock Unit Account, equal to the amount of cash, plus the fair market value on the date of distribution of any property, that is distributed with respect to one share of Common Stock pursuant to such dividend or distribution; such fair market value to be determined by the Committee in good faith. "Effective Date" has the meaning set forth in Section 3. "Election Amount" for each Non-Employee Director who has made a Plan Year Deferral 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 3 Election pursuant to Section 5 shall be, with respect to each Plan Year, (i) the percentage that is set forth in the Non-Employee Director's Plan Year Deferral Election Notice multiplied by (ii) the Discretionary Amount. "Elective Cash Amount" means that portion of the Election Amount which the Non-Employee Director designated in his or her Plan Year Deferral Election Notice to be credited to his or her Deferred Cash Account. "Elective Stock Unit Amount" means that portion of the Election Amount which the Non-Employee Director designated in his or her Plan Year Deferral Election Notice to be credited to his or her Stock Unit Account in the form of Stock Units. "Exchange Act" has the meaning set forth in subparagraph (a) of the definition of "Change of Control." "Fraction," with respect to a person who is a Non-Employee Director during part, but not all, of a Plan Quarter, means the amount obtained by dividing (i) the number of calendar months during such Plan Quarter that such person was a Non-Employee Director by (ii) 3; provided, that for purposes of the foregoing, a partial calendar month shall be treated as a whole month. "Incumbent Board" has the meaning set forth in subparagraph (b) of the definition of "Change of Control." The "Interest Rate" means Moody's Baa Bond Index Rate, as in effect from time to time. "1997 Plan" means the Solutia Inc. Non-Employee Director Compensation Plan adopted in 1997. "Non-Employee Director" means any director of the Company who is not an employee of the Company or any subsidiary thereof on the date of any award made or granted to such person hereunder. "Outstanding Company Common Stock" has the meaning set forth in subparagraph (a) of the definition of "Change of Control." "Outstanding Company Voting Securities" has the meaning set forth in subparagraph (a) of the definition of "Change of Control." "Partial Quarter Notice Period" has the meaning set forth in Section 5. 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 4 "Partial Year Fraction," with respect to a person who is a Non-Employee Director during part, but not all of a Plan Year, means the amount obtained by dividing (i) the number of calendar months during such Plan Year that such person was a Non-Employee Director by (ii) 12; provided, that for the purposes of the foregoing, a partial calendar month shall be treated as a whole month. "Person" has the meaning set forth in subparagraph (a) of the definition of "Change of Control." "Plan" has the meaning set forth in Section 1. "Plan Quarter" means the three-month period commencing on the first Trading Day in May, August, November or February, as applicable, during a Plan Year. "Plan Year" means the year commencing on the date of an Annual Meeting and ending on the day before the next succeeding Annual Meeting; provided, that the first Plan Year shall begin on the Effective Date and end on the day before the next succeeding Annual Meeting and provided further, that the last Plan Year with respect to a Non-Employee Director who ceases to be a Non-Employee Director during a Plan Year, shall begin on the first day of such Plan Year and end on the day such Non-Employee Director ceases to be a Non-Employee Director. "Plan Year Deferral Election" means the irrevocable election to defer, for any Plan Year, all or any part (in percentage increments determined by the Administrator) of the Discretionary Amount for the next Plan Year such that the deferred portion becomes the Election Amount. Any Plan Year Deferral Election Notice shall remain in effect for that Plan Year and for all subsequent Plan Years unless and until such Non-Employee Director delivers to the Administrator, no later than the last business day prior to the commencement of the next succeeding Plan Year, a new Plan Year Deferral Election Notice setting forth a different Plan Year Deferral Election. "Plan Year Deferral Election Notice" means the notice of the Plan Year Deferral Election delivered to the Administrator. "Rule 16b-3" has the meaning set forth in Section 12(a). "Shares" means shares of Common Stock and any shares of stock or other securities resulting from an adjustment pursuant to Section 12. "Stock Unit Account" means a bookkeeping account maintained by the Company for a Non-Employee Director representing the Non-Employee Director's interest in the Stock 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 5 Unit Amount and the Elective Stock Unit Amount, if any, credited to such account pursuant to Section 6. "Stock Unit Amount" means with respect to each Plan Year, the dollar amount equal to 50% of the Annual Retainer for such Plan Year which will be automatically and mandatorily credited to the Non-Employee Director's Stock Unit Account in the form of Stock Units determined in the manner set forth in Section 6(b). "Stock Units" mean non-voting units of measurement, credited to a Non-Employee Director's Stock Unit Account pursuant to Section 6. Each Stock Unit is deemed to represent one share of Common Stock solely for purposes of this Plan. "Trading Day" means any day on which there are sales of Common Stock reported on the New York Stock Exchange composite tape, or if the Common Stock is not listed on such exchange, on any other national securities exchange on which the Common Stock is listed or the Nasdaq Stock Market. The "Value" of a share of Common Stock as of any given date (including the date a Stock Unit Account is credited or the date a Non-Employee Director ceases to be a Non-Employee Director) means the average of the highest and lowest sales prices of a share of Common Stock reported on the New York Stock Exchange Composite Transactions for such day, or, if shares of Common Stock were not traded on the New York Stock Exchange on such date, then on the next preceding date on which such shares were traded, all as reported by Yahoo! Finance or by such other source as the Committee may select. 5. ELECTION TO RECEIVE SHARES OR DEFER CASH IN LIEU OF CASH COMPENSATION. (a) In order to make a Plan Year Deferral Election pursuant to this Section 5, a person who is a Non-Employee Director on the Effective Date and who does not have a Plan Year Deferral Election Notice in effect under the 1997 Plan or who wishes to change his or her Plan Year Deferral Election for the next succeeding Plan Year, must deliver to the Administrator, no later than April 23, 2003, his or her Plan Year Deferral Election Notice. (b) Except for the Plan Year Deferral Election due by April 23, 2003, as set forth in Section 5(a), and except for persons who first become Non-Employee Directors on a date other than an Annual Meeting Date (to which Section 5(c) applies), each Non-Employee Director (and each nominee for a position on the Board who would, if elected by the Company's shareholders at the next succeeding Annual Meeting, be a Non-Employee Director) may make a Plan Year Deferral Election for the next succeeding Plan Year by delivering to the Administrator, no later than the last business day prior to the commencement of the next succeeding Plan Year, a Plan Year Deferral Election Notice. 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 6 (c) Except for the Plan Year Deferral Election due by April 23, 2003, as set forth in Section 5(a), each person who becomes a Non-Employee Director on a date other than the date of an Annual Meeting must deliver his or her Plan Year Deferral Election Notice within thirty days of the date he or she first becomes a Non-Employee Director (the "Partial Quarter Notice Period"). 6. ACCOUNTS; CREDIT OF SHARES AND CASH. (a) The Company shall maintain a Stock Unit Account and a Deferred Cash Account for each Non-Employee Director. As part of the compensation payable to each Non-Employee Director for service on the Board, the Stock Unit Account of each Non-Employee Director shall be credited with Stock Units as set forth in this Section 6 and the Deferred Cash Account of each Non-Employee Director may, at the Non-Employee Director's election, be credited with cash as set forth in this Section 6. The Stock Units credited to the Stock Unit Account pursuant to this Section 6 may represent fractional as well as whole Stock Units. (b) Except as set forth in Section 6(e), as of the first Trading Day of each Plan Quarter (or in the case of a Non-Employee Director who becomes a Non-Employee Director on a date other than on the date of an Annual Meeting, the first Trading Day in a Plan Quarter on or after the date on which he or she becomes a Non-Employee Director), the Stock Unit Account of each Non-Employee Director shall be credited with a number of Stock Units having a Value equal to 25% of the Stock Unit Amount, multiplied by the Fraction, if applicable. (c) Except as set forth in Section 6(e), as of the first Trading Day of each Plan Quarter (or in the case of a Non-Employee Director who first becomes a Non-Employee Director on a date other than on the date of an Annual Meeting, on the first Trading Day following the conclusion of the Partial Quarter Notice Period), the Stock Unit Account of each Non-Employee Director who has a Plan Year Deferral Election for Stock Units in effect on such date shall be credited with (i) a number of Stock Units having a Value equal to 25% of the Elective Stock Unit Amount, multiplied by the Fraction, if applicable. (d) Except as set forth in Section 6(f), as of the first Trading Day of each Plan Quarter (or in the case of a Non-Employee Director who first becomes a Non-Employee Director on a date other than on the date of an Annual Meeting, on the first Trading Day following the conclusion of the Partial Quarter Notice Period), the Deferred Cash Account of each Non-Employee Director who has a Plan Year Deferral Election for cash in effect on such date shall be credited with (i) an amount equal to 25% of the Elective Cash Amount, multiplied by the Fraction, if applicable. (e) On May 1, 2003, the Stock Unit Account of each Non-Employee Director who was a Non-Employee Director on the Effective Date and continued in office after the Effective 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 7 Date shall be credited with a number of Stock Units having a Value equal to 25% of the Stock Unit Amount. On May 1, 2003, the Stock Unit Account of each Non-Employee Director who was a Non-Employee Director on the Effective Date, continued in office after the Effective Date, and delivered a Plan Year Deferral Election for Stock Units by April 23, 2003, shall be credited with a number of Stock Units having a Value equal to 25% of the Elective Stock Unit Amount. (f) On May 1, 2003, the Deferred Cash Account of each Non-Employee Director who was a Non-Employee Director on the Effective Date, continued in office after the Effective Date, and delivered a Plan Year Deferral Election for cash by April 23, 2003, shall be credited with an amount equal to 25% of the Elective Cash Amount. (g) Whenever a dividend is paid or other distribution made with respect to the Common Stock, each Stock Unit Account shall be credited with a number of Stock Units equal to (i) the number of Stock Units in such Deferred Stock Account as of the record date for such dividend or other distribution, multiplied by (ii) the Dividend Equivalent for such dividend paid or other distribution made. (h) Each Deferred Cash Account shall accrue interest on the balance therein at the Interest Rate, such interest to be credited at least monthly. 7. PAYMENT OF ACCOUNT BALANCES. The Value of the Stock Units in a Non-Employee Director's Stock Unit Account and the cash balance in a Non-Employee Director's Deferred Cash Account as of the date the Non-Employee Director ceases to be a Non-Employee Director for any reason (the "Delivery Date") shall be payable in cash in accordance with this Section 7. The Value of the Stock Units and the cash balance shall be paid as soon as practicable after the Delivery Date but in no case more than 30 days after the Delivery Date. If payment is to be made after the Non-Employee Director has died or become legally incompetent, payment shall be made to the Non-Employee Director's estate, legal guardian or beneficiary designated pursuant to Section 13(a), as the case may be, as soon as practicable. References to a Non-Employee Director in this Plan shall be deemed to refer to the Non-Employee Director's estate, legal guardian or beneficiary designated pursuant to Section 13(a), where appropriate. 8. SHAREHOLDER STATUS. The Non-Employee Director shall have no rights as a stockholder with respect to the Stock Units credited to his or her Stock Unit Account. Subject to the provisions of Sections 6 and 11 hereof, no adjustment shall be made for dividends, ordinary or extraordinary (whether in cash or securities or property), or other distributions or other rights in respect of such Shares or Stock Units. 9. NO TRUST OR FUND CREATED. The Plan shall not create or be construed to create a trust or separate fund of any kind or a fiduciary relationship between the Company or any of its subsidiaries and a Non-Employee Director or any other person or entity. To the extent that any 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 8 person acquires a right to receive payments from the Company or any of its affiliates pursuant to the Plan, such right shall be no greater than the right of any unsecured general creditor of the Company or any of its subsidiaries. 10. GENERAL RESTRICTIONS. (a) Notwithstanding any other provision of the Plan, the Company shall not be required to make any payments under the Plan unless (i) all requirements under any applicable federal, state, or other law have been met, and (ii) the consent or approval of any governmental body determined by the Administrator, in his or her absolute discretion after receiving advice of counsel, to be necessary or desirable has been obtained. (b) Nothing contained in the Plan shall prevent the Company from adopting or continuing other or additional compensation arrangements for Non-Employee Directors. (c) No additional deferrals shall be made under the 1997 Plan, but deferred amounts shall continue to be credited with Dividend Equivalents and Stock Options (as defined in the 1997 Plan) shall continue to be granted, in accordance with the 1997 Plan until the earlier of (i) the date the Board orders otherwise or (ii) the date that insufficient Shares remain available under the 1997 Plan. 11. CHANGE IN CAPITAL STRUCTURE; CHANGE OF CONTROL. (a) In the event of any change in corporate capitalization, such as a stock split or a corporate transaction, such as any merger, consolidation, separation, including a spin-off, or other distribution of stock or property (without regard to the payment of any cash dividends by the Company in the ordinary course) of the Company, any reorganization (whether or not such reorganization comes within the definition of such term in Section 368 of the Internal Revenue Code of 1986, as amended) or any partial or complete liquidation of the Company, the Committee or Board may make such substitution or adjustments in the number and kind of Stock Units held in the Deferred Stock Accounts and/or such other equitable substitution or adjustments as it may determine to be appropriate in its sole discretion. Each Non-Employee Director shall be notified of any adjustment, and any adjustment, or failure to adjust, shall be final and binding upon the Company and the Non-Employee Directors. (b) If the Stock Units credited to the Deferred Stock Accounts are converted pursuant to this Section 11 into another form of property, references in the Plan to the Common Stock shall be deemed, where appropriate, to refer to such other form of property, with such other modifications as may be required for the Plan to operate in accordance with its purposes. 12. ADMINISTRATION; AMENDMENT. (a) The Board shall have the power to amend or terminate the Plan. The Executive Compensation and Development Committee or any other 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 9 committee of the Board (the "Committee") designated by the Board that will satisfy Rule 16b-3 of the Exchange Act, including any successor rule ("Rule 16b-3"), shall supervise the Plan. The Plan shall be administered by the Vice President - Human Resources, or such other person or persons designated by the Committee (the Administrator"). The Committee shall consist solely of two or more "non-employee directors" of the Company who shall be appointed by the Board. A member of the Board shall be deemed to be a "non-employee director" for the purposes of this Section 12 only if he satisfies such requirements as the Securities and Exchange Commission may establish for "non-employee directors" under Rule 16b-3. Members of the Board receive no additional compensation for their services in connection with the administration of the Plan. (b) Any act that the Committee is authorized to perform hereunder may instead be performed by the Board at its discretion, and to the extent the Board so acts, references in the Plan to the Committee shall refer to the Board as so applicable. Anything to the contrary herein notwithstanding, to the extent that any permitted action taken by the Board conflicts with action taken by the Committee, the Board action shall control. (c) The Committee may adopt such rules or guidelines as it deems appropriate to implement the Plan. All questions of interpretation of the Plan shall be determined by the Committee and such determination shall be final and binding upon all persons having an interest in the Plan. (d) Notwithstanding any other provision of the Plan, no amendment or termination of the Plan shall adversely affect the interest of any Non-Employee Director in Options granted to him or her, in Stock Units previously credited to such Non-Employee Director's Stock Unit Account, or in cash previously credited to such Non-Employee Director's Deferred Cash Account without that Non-Employee Director's express written consent. 13. TRANSFERABILITY. (a) In the event of a Non-Employee Director's death, all of such person's rights with respect to his or her Stock Unit Account and Deferred Cash Account will transfer to the maximum extent permitted by law to such person's beneficiary. Each Non-Employee Director may name, from time to time, any beneficiary or beneficiaries (which may be named contingently or successively) as his or her beneficiary for receiving payment of the Value of the Stock Units in the Deferred Stock Account and the cash from the Deferred Cash Account under this Plan. Each designation shall be on a form prescribed by the Administrator, will be effective only when delivered to the Company, and when effective will revoke all prior designations by the Non-Employee Director. If a Non-Employee Director dies with no such beneficiary designation in effect, such person's beneficiary shall be his or her estate and such person's payments will be transferable by will or pursuant to laws of descent and distribution applicable to such person. 14. MISCELLANEOUS. Nothing in the Plan shall be deemed to create any obligation on the 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 10 part of the Board to nominate any Non-Employee Director for reelection by the Company's shareholders or to limit the rights of the shareholders to remove any director. 15. GOVERNING LAW. The Plan and all actions taken thereunder shall be governed by and construed in accordance with the laws of the State of Delaware. 2003 SOLUTIA INC. NON-EMPLOYEE DIRECTOR COMPENSATION PLAN, PAGE 11 EX-10.(B) 4 exh10pb.txt EXHIBIT 10(b) EXECUTION COPY AMENDMENT NO. 3 AMENDMENT NO. 3 (this "Amendment No. 3") dated as of --------------- June 30, 2003 between: SOLUTIA INC., a Delaware corporation (the "Company"); and ------- CITIBANK, N.A., as administrative agent for the Lenders (in such capacity, together with its successors in such capacity, the "Administrative Agent"). -------------------- The Company, certain lenders (the "Lenders"), Bank of ------- America, N.A., as syndication agent (the "Syndication Agent"), and the ----------------- Administrative Agent are parties to a Second Amended and Restated Credit Agreement dated as of July 25, 2002 (as heretofore amended, the "Credit ------ Agreement"). The parties hereto desire to amend the Credit Agreement in - --------- certain respects and, in that connection, the Administrative Agent has been granted authority by the Majority Lenders (as defined in the Credit Agreement) to execute and deliver this Amendment No. 3. Accordingly, the Company, and the Administrative Agent on behalf of the Majority Lenders, hereto hereby agree as follows: Section 1. Definitions. Except as otherwise defined in ----------- this Amendment No. 3, terms defined in the Credit Agreement are used herein as defined therein. Section 2. Amendment. Subject to the conditions specified --------- in Section 4 hereof, but effective as of the date hereof, Sections 6.03(a) and 6.03(b) of the Credit Agreement is hereby amended to read in its entirety as follows: "(a) Debt to Adjusted EBITDA Ratio. The Company will not ----------------------------- permit the Debt to Adjusted EBITDA Ratio to exceed the following ratios at any time during the following respective periods: Period Ratio ------ ----- From the Restatement Date through December 30, 2002 5.00 to 1 From December 31, 2002 up to the Applicable Date 5.00 to 1 From the Applicable Date through June 29, 2003 4.00 to 1 From June 30, 2003 through September 29, 2003 5.00 to 1 Amendment No. 3 --------------- From September 30, 2003 through December 30, 2003 3.75 to 1 From December 31, 2003 through March 30, 2004 3.50 to 1 From March 31, 2004 and at all times thereafter 3.25 to 1 (b) Interest Coverage Ratio. The Company will not permit ----------------------- the Interest Coverage Ratio to be less than the following respective ratios at any time during the following respective periods: Period Ratio ------ ----- From June 30, 2002 through December 30, 2002 2.50 to 1 From December 31, 2002 through March 30, 2003 2.00 to 1 From March 31, 2003 through June 29, 2003 1.50 to 1 From June 30, 2003 through September 29, 2003 1.25 to 1 From September 30, 2003 through December 30, 2003 1.75 to 1 From December 31, 2003 through March 30, 2004 2.00 to 1 From March 31, 2004 and at all times thereafter 2.50 to 1" Section 3. Representations and Warranties. The Company ------------------------------ hereby represents and warrants to the Administrative Agent and the Lenders that: (a) the representations and warranties contained in the Credit Agreement (giving effect to all amendments thereto contemplated hereunder) are correct on and as of the date hereof, as though made on and as of such date (or, if any such representation or warranty is expressly stated to have been made as of a specific date, as of such specific date); and (b) after giving effect to this Amendment No. 3, no event has occurred and is continuing that constitutes a Default or an Event of Default. Amendment No. 3 --------------- Section 4. Conditions Precedent. As provided in Section 2, -------------------- the amendment to the Credit Agreement set forth in Section 2 are subject to, and will become effective upon, the satisfaction of the following conditions precedent (including, with respect to each document required below to be delivered, that the Administrative Agent shall have received each such document, which shall be satisfactory in form and substance to the Administrative Agent): (a) Execution. This Amendment No. 3 shall have been duly --------- executed and delivered by the Company and the Administrative Agent as provided on the signature pages hereof. (b) Certain Consents and Authorizations. The requisite ----------------------------------- lenders under the Astaris Credit Agreement, to the extent necessary under the Astaris Guaranty Agreement, shall have executed and delivered a consent to the transactions contemplated hereby pursuant to an instrument in form and substance satisfactory to the Administrative Agent. (c) Fees and Expenses. The Administrative Agent shall have ----------------- received, for the account of each Lender that has authorized the Administrative Agent to execute and deliver this Agreement on its behalf not later than 5 p.m. New York City time on June 30, 2003, an amendment fee in an amount equal to .25% of the sum of such Lender's Revolving Credit Commitments and Term Advances. (d) Other Documents. The Administrative Agent shall have --------------- received such other documents as the Administrative Agent or Milbank, Tweed, Hadley & McCloy LLP, special New York counsel to the Administrative Agent, may reasonably request. Section 5. Miscellaneous. Except as herein provided, the ------------- Credit Agreement shall remain unchanged and in full force and effect. This Amendment No. 3 may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument and any of the parties hereto may execute this Amendment No. 3 by signing any such counterpart. This Amendment No. 3 shall be governed by, and construed in accordance with, the law of the State of New York. Amendment No. 3 --------------- IN WITNESS WHEREOF, the parties hereto have caused this Amendment No. 3 to be executed by their respective officers thereunto duly authorized, as of the date first above written. SOLUTIA INC. By: /s/ C. Kevin Wilson ---------------------------- Name: C. Kevin Wilson Title: Vice President and Treasurer Solutia Inc. CITIBANK, N.A., as Administrative Agent and on behalf of the Majority Lenders By: /s/ James N. Simpson ---------------------------- Name: James N. Simpson Title: Vice President Citibank, N.A. Amendment No. 3 --------------- EX-10.(C) 5 exh10pc.txt EXHIBIT 10(c) RETENTION AGREEMENT ------------------- AGREEMENT by and between Solutia Inc., a Delaware corporation (the "Company"), and John C. Hunter III (the "Executive"), dated as of the 30th day of June, 2003 (the "Effective Date"). The Board of Directors of the Company (the "Board") has determined that it is in the best interests of the Company and its shareholders to assure that the Company will have the continued dedication of the Executive over the next 30-month period. The Board believes it is imperative to retain the Executive's services as Chief Executive Officer of the Company or else the Company would suffer substantial harm and additional costs to replace the Executive if he were to terminate his employment with the Company. To induce the Executive to continue to serve the Company over the next 30 months, the Company will provide the Executive with a cash retention payment, payable in installments. It is the Board's judgment that such a retention arrangement is in the best interest of the Company, its shareholders, and its creditors, and is consistent with the desire of the Board to maximize the value of the Company. Therefore, in order to accomplish these objectives, the Board has caused the Company to enter into this Agreement. NOW, THEREFORE, IT IS HEREBY AGREED AS FOLLOWS: 1. Retention Payment. Within 5 days of the 12-month anniversary of ----------------- the Effective Date, the Company shall pay to the Executive a cash payment equal to 100% of his base salary as of the Effective Date if he is employed by the Company on such anniversary date. Within 5 days of the 24-month anniversary of the Effective Date, the Company shall pay to the Executive a cash payment equal to 100% of his base salary as of the Effective Date if he is employed by the Company on such anniversary date. Within 5 days of the 30-month anniversary of the Effective Date, the Company shall pay to the Executive a cash payment equal to 50% of his base salary as of the Effective Date if he is employed by the Company on such anniversary date. 2. Termination of Employment. ------------------------- (a) If, prior to the 30-month anniversary of the Effective Date, the Executive's employment is terminated by the Company without Cause (as defined below) or is terminated by the Executive for Good Reason (as defined below), the Company shall continue to pay to the Executive the retention payments in accordance with Section 1 above as if the Executive's employment had not been terminated by the Company without Cause or by the Executive for Good Reason; provided, however, that such retention payments will not be made if the Executive materially violates any provision of this Agreement or any provision of any other agreement he has entered into with the Company relating to the Executive's promises with respect to confidentiality, competitive activity against the Company, solicitation of the Company's employees, or ideas, inventions or discoveries that belong to the Company. 1 (b) If, prior to the 30-month anniversary of the Effective Date, the Executive's employment is terminated due to the death or Disability of the Executive, the Company shall pay to the Executive or his estate, as applicable, within a reasonable period of time following the date of death or the termination of employment, as the case may be, a cash payment equal to (x) 250% of his base salary as of the Effective Date multiplied by (y) a fraction the numerator of which is equal to the number of full months that the Executive was employed by the Company following the Effective Date and the denominator of which is equal to 30, less (z) the amount of all payments already made under Section 1 above. (c) Definition of Cause. For purposes of this Agreement, ------------------- "Cause" shall mean: (i) the willful and continued failure of the Executive to perform substantially the Executive's duties with the Company or one of its affiliates (other than any such failure resulting from incapacity due to physical or mental illness), after a written demand for substantial performance is delivered to the Executive by the Board which specifically identifies the manner in which the Board believes that the Executive has not substantially performed the Executive's duties; or (ii) the willful engaging by the Executive in illegal conduct or gross misconduct which is materially and demonstrably injurious to the Company. For purposes of this provision, no act or failure to act, on the part of the Executive, shall be considered "willful" unless it is done, or omitted to be done, by the Executive in bad faith or without reasonable belief that the Executive's action or omission was in the best interests of the Company. Any act, or failure to act, based upon authority given pursuant to a resolution duly adopted by the Board or based upon the advice of counsel for the Company shall be conclusively presumed to be done, or omitted to be done, by the Executive in good faith and in the best interests of the Company. The cessation of employment of the Executive shall not be deemed to be for Cause unless and until there shall have been delivered to the Executive a copy of a resolution duly adopted by the affirmative vote of not less than three-quarters of the entire membership of the Board at a meeting of the Board called and held for such purpose (after reasonable notice is provided to the Executive and the Executive is given an opportunity, together with counsel, to be heard before the Board), finding that, in the good faith opinion of the Board, the Executive is guilty of the conduct described in subparagraph (i) or (ii) above, and specifying the particulars thereof in detail. (d) Definition of Good Reason. For purposes of this Agreement, ------------------------- "Good Reason" shall mean: (i) the assignment to the Executive of any duties inconsistent in any respect with the Executive's position as of the Effective Date (including status, offices, titles and reporting requirements), authority, duties or responsibilities, or any other action by the Company which results in a diminution in such position, authority, duties or responsibilities, excluding for this purpose an isolated, insubstantial and inadvertent action not taken in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive; 2 (ii) any failure by the Company to comply with any of the provisions of Section 1 above or Section 3 below, other than an isolated, insubstantial and inadvertent failure not occurring in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive; or (iii) the Company's requiring the Executive to be based at any office or location other than the office at which the Executive is based as of the Effective Date or the Company's requiring the Executive to travel on Company business to a substantially greater extent than required immediately prior to the Effective Date, unless the Executive is on international assignment on the Effective Date and the relocation is as a result of the Executive's being repatriated pursuant to the terms of his international assignment agreement as in effect before the Effective Date. For purposes of this Section 2(d), any good faith determination of Good Reason made by the Executive shall be conclusive. (e) Definition of Disability. For purposes of this ------------------------ Agreement, "Disability" shall mean a "disability" as such term is defined under the Company's long-term disability plan, program or arrangement applicable to the Executive as in effect on the date the disability first occurs. (f) Notice of Termination. Any termination by the Company --------------------- for Cause, or by the Executive for Good Reason, shall be communicated by Notice of Termination to the other party hereto given in accordance with Section 8(b) below. For purposes of this Agreement, a "Notice of Termination" means a written notice which (i) indicates the specific termination provision in this Agreement relied upon, (ii) to the extent applicable, sets forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of the Executive's employment under the provision so indicated and (iii) if the Date of Termination is other than the date of receipt of such notice, specifies the termination date (which date shall be not more than 30 days after the giving of such notice). The failure by the Executive or the Company to set forth in the Notice of Termination any fact or circumstance which contributes to a showing of Good Reason or Cause shall not waive any right of the Executive or the Company, respectively, hereunder or preclude the Executive or the Company, respectively, from asserting such fact or circumstance in enforcing the Executive's or the Company's rights hereunder. (g) Date of Termination. For purposes of this Agreement, ------------------- "Date of Termination" means if the Executive's employment is terminated by the Company for Cause, or by the Executive for Good Reason, the date of receipt of the Notice of Termination or any later date specified therein, as the case may be. 3. Letter of Credit. In order to ensure the benefits intended to ---------------- be provided to the Executive under this Agreement, the Company shall promptly use its best efforts to secure an irrevocable standby letter of credit for the benefit of the Executive issued by Commerce Bank or another bank having combined capital and surplus in excess of $500 million (the "Letter of Credit"). The Company shall pay all amounts and take all action necessary to establish and maintain the Letter of Credit during the 30-month period following the Effective Date. 3 Following the Company's complete discharge of its obligations under this Agreement, the Letter of Credit shall be terminated or not renewed. 4. Non-exclusivity of Rights. Nothing in this Agreement shall ------------------------- prevent or limit the Executive's continuing or future participation in any plan, program, policy or practice provided by the Company or any of its affiliated companies for which the Executive may qualify, nor, subject to Section 9(g) below, shall anything herein limit or otherwise affect such rights as the Executive may have under any contract or agreement with the Company or any of its affiliated companies. Amounts which are vested benefits or which the Executive is otherwise entitled to receive under any plan, policy, practice or program of or any contract or agreement with the Company or any of its affiliated companies at or subsequent to the Date of Termination shall be payable in accordance with such plan, policy, practice or program or contract or agreement except as explicitly modified by this Agreement. 5. Full Settlement; Legal Fees. The Company's obligation to make --------------------------- the payments provided for in this Agreement and otherwise to perform its obligations hereunder shall not be affected by any set-off, counterclaim, recoupment, defense or other claim, right or action which the Company may have against the Executive or others. Notwithstanding anything contained in this Agreement to the contrary, the Executive agrees that any payments made to the Executive by the Company in accordance with Section 6 of the Employment Agreement by and between the Company and the Executive dated February 28, 1998, as amended from time to time, shall be reduced by an amount equal to the difference of (A) 250% of his base salary as of the Effective Date less (B) the result of (x) 250% of his base salary as of the Effective Date multiplied by (y) a fraction the numerator of which is equal to the number of full and partial months remaining in the 30-month period following the Effective Date as of the date of the termination of the executive's employment with the Company and the denominator of which is equal to 30. The Company agrees to pay as incurred, to the full extent permitted by law, all legal fees and expenses which the Executive may reasonably incur as a result of any contest (regardless of the outcome thereof) by the Company, the Executive or others of the validity or enforceability of, or liability under, any provision of this Agreement or any guarantee of performance thereof (whether such contest is between the Company and the Executive or between either of them and any third party, and including as a result of any contest by the Executive about the amount of any payment pursuant to this Agreement), plus in each case interest on any delayed payment at the applicable Federal rate provided for in Section 7872(f)(2)(A) of the Internal Revenue Code of 1986, as amended (the "Code"). 6. Certain Additional Payments by the Company. ------------------------------------------ (a) Anything in this Agreement to the contrary notwithstanding and except as set forth below, in the event it shall be determined that any payment or distribution by the Company to or for the benefit of the Executive (whether paid or payable or distributed or distributable pursuant to the terms of this Agreement or otherwise, but determined without regard to any additional payments required under this Section 6) (a "Payment") would be subject to the excise tax imposed by Section 4999 of the Code or any interest or penalties are incurred by the Executive with respect to such excise tax (such excise tax, together with any such interest and penalties, are hereinafter collectively referred to as the "Excise Tax"), then the Executive shall be 4 entitled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by the Executive of all taxes (including any interest or penalties imposed with respect to such taxes), including, without limitation, any income taxes (and any interest and penalties imposed with respect thereto) and Excise Tax imposed upon the Gross-Up Payment, the Executive retains an amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payments. Notwithstanding the foregoing provisions of this Section 6(a), if it shall be determined that the Executive is entitled to a Gross-Up Payment, but that the Payments do not exceed 110% of the greatest amount (the "Reduced Amount") that could be paid to the Executive such that the receipt of Payments would not give rise to any Excise Tax, then no Gross-Up Payment shall be made to the Executive and the Payments, in the aggregate, shall be reduced to the Reduced Amount. (b) Subject to the provisions of Section 6(c) below, all determinations required to be made under this Section 6, including whether and when a Gross-Up Payment is required and the amount of such Gross-Up Payment and the assumptions to be utilized in arriving at such determination, shall be made by Ernst & Young LLP or such other certified public accounting firm as may be designated by the Executive (the "Accounting Firm") which shall provide detailed supporting calculations both to the Company and the Executive within 15 business days of the receipt of notice from the Executive that there has been a Payment, or such earlier time as is requested by the Company. In the event that the Accounting Firm is serving as accountant or auditor for the individual, entity or group effecting the change of control, the Executive shall appoint another nationally recognized accounting firm to make the determinations required hereunder (which accounting firm shall then be referred to as the Accounting Firm hereunder). All fees and expenses of the Accounting Firm shall be borne solely by the Company. Any Gross-Up Payment, as determined pursuant to this Section 6, shall be paid by the Company to the Executive within 5 days of the receipt of the Accounting Firm's determination. Any determination by the Accounting Firm shall be binding upon the Company and the Executive. As a result of the uncertainty in the application of Section 4999 of the Code at the time of the initial determination by the Accounting Firm hereunder, it is possible that Gross-Up Payments which will not have been made by the Company should have been made ("Underpayment"), consistent with the calculations required to be made hereunder. In the event that the Company exhausts its remedies pursuant to Section 6(c) below and the Executive thereafter is required to make a payment of any Excise Tax, the Accounting Firm shall determine the amount of the Underpayment that has occurred and any such Underpayment shall be promptly paid by the Company to or for the benefit of the Executive. (c) The Executive shall notify the Company in writing of any claim by the Internal Revenue Service that, if successful, would require the payment by the Company of the Gross-Up Payment. Such notification shall be given as soon as practicable but no later than ten business days after the Executive is informed in writing of such claim and shall apprise the Company of the nature of such claim and the date on which such claim is requested to be paid. The Executive shall not pay such claim prior to the expiration of the 30-day period following the date on which the Executive gives such notice to the Company (or such shorter period ending on the date that any payment of taxes with respect to such claim is due). If the Company notifies the Executive in writing prior to the expiration of such period that it desires to contest such claim, the Executive shall: 5 (i) give the Company any information reasonably requested by the Company relating to such claim, (ii) take such action in connection with contesting such claim as the Company shall reasonably request in writing from time to time, including, without limitation, accepting legal representation with respect to such claim by an attorney reasonably selected by the Company, (iii) cooperate with the Company in good faith in order effectively to contest such claim, and (iv) permit the Company to participate in any proceedings relating to such claim; provided, however, that the Company shall bear and pay directly all costs and expenses (including additional interest and penalties) incurred in connection with such contest and shall indemnify and hold the Executive harmless, on an after-tax basis, for any Excise Tax or income tax (including interest and penalties with respect thereto) imposed as a result of such representation and payment of costs and expenses. Without limitation on the foregoing provisions of this Section 6(c), the Company shall control all proceedings taken in connection with such contest and, at its sole option, may pursue or forgo any and all administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of such claim and may, at its sole option, either direct the Executive to pay the tax claimed and sue for a refund or contest the claim in any permissible manner, and the Executive agrees to prosecute such contest to a determination before any administrative tribunal, in a court of initial jurisdiction and in one or more appellate courts, as the Company shall determine; provided, however, that if the Company directs the Executive to pay such claim and sue for a refund, the Company shall advance the amount of such payment to the Executive, on an interest-free basis and shall indemnify and hold the Executive harmless, on an after-tax basis, from any Excise Tax or income tax (including interest or penalties with respect thereto) imposed with respect to such advance or with respect to any imputed income with respect to such advance; and further provided that any extension of the statute of limitations relating to payment of taxes for the taxable year of the Executive with respect to which such contested amount is claimed to be due is limited solely to such contested amount. Furthermore, the Company's control of the contest shall be limited to issues with respect to which a Gross-Up Payment would be payable hereunder and the Executive shall be entitled to settle or contest, as the case may be, any other issue raised by the Internal Revenue Service or any other taxing authority. (d) If, after the receipt by the Executive of an amount advanced by the Company pursuant to Section 6(c) above, the Executive becomes entitled to receive any refund with respect to such claim, the Executive shall (subject to the Company's complying with the requirements of Section 6(c) above) promptly pay to the Company the amount of such refund (together with any interest paid or credited thereon after taxes applicable thereto). If, after the receipt by the Executive of an amount advanced by the Company pursuant to Section 6(c) above, a determination is made that the Executive shall not be entitled to any refund with respect to such 6 claim and the Company does not notify the Executive in writing of its intent to contest such denial of refund prior to the expiration of 30 days after such determination, then such advance shall be forgiven and shall not be required to be repaid and the amount of such advance shall offset, to the extent thereof, the amount of Gross-Up Payment required to be paid. 7. Confidential Information. As used herein, "Confidential ------------------------ Information" means all technical and business information of the Company and its subsidiaries, whether patentable or not, which is of a confidential, trade secret and/or proprietary character and which is either developed by the Executive (alone or with others) or to which the Executive has had access during the Executive's employment. "Confidential Information" shall also include confidential evaluations of, and the confidential use or non-use by the Company or any subsidiary of, technical or business information in the public domain. The Executive shall use the Executive's best efforts and diligence both during and after employment by the Company to protect the confidential, trade secret and/or proprietary character of all Confidential Information. The Executive shall not, directly or indirectly, use (for the Executive or another) or disclose any Confidential Information, for so long as it shall remain proprietary or protectible as confidential or trade secret information, except as may be necessary for the performance of the Executive's duties with the Company. The Executive shall deliver promptly to the Company, at the termination of the Executive's employment, or at any other time at the Company's request, without retaining any copies, all documents and other material in the Executive's possession relating, directly or indirectly, to any Confidential Information. Each of the Executive's obligations in this Section 7 shall also apply to the confidential, trade secret and proprietary information learned or acquired by the Executive during the Executive's employment from others with whom the Company or any subsidiary has a business relationship. The Executive understands that the Executive is not to disclose to the Company or any subsidiary, or use for its benefit, any of the confidential, trade secret or proprietary information of others, including any of the Executive's former employers. In no event shall an asserted violation of the provisions of this Section 7 constitute a basis for deferring or withholding any amounts otherwise payable to the Executive under this Agreement. 8. Successors. ---------- (a) This Agreement is personal to the Executive and without the prior written consent of the Company shall not be assignable by the Executive otherwise than by will or the laws of descent and distribution. This Agreement shall inure to the benefit of and be enforceable by the Executive's legal representatives. (b) This Agreement shall inure to the benefit of and be binding upon the Company and its successors and assigns. (c) The Company will require any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of the Company to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place. As used in this Agreement, "Company" shall mean the Company as 7 hereinbefore defined and any successor to its business and/or assets as aforesaid which assumes and agrees to perform this Agreement by operation of law, or otherwise. 9. Miscellaneous. ------------- (a) This Agreement shall be governed by and construed in accordance with the laws of the State of Delaware, without reference to principles of conflict of laws. The captions of this Agreement are not part of the provisions hereof and shall have no force or effect. This Agreement may not be amended or modified otherwise than by a written agreement executed by the parties hereto or their respective successors and legal representatives. (b) All notices and other communications hereunder shall be in writing and shall be given by hand delivery to the other party or by registered or certified mail, return receipt requested, postage prepaid, addressed as follows: If to the Executive: John C. Hunter III 1508 Highland Valley Circle Chesterfield, Missouri 63005 If to the Company: Jeffry N. Quinn, Esq. Senior Vice President, Secretary & General Counsel Solutia Inc. P.O. Box 66760 St. Louis, Missouri 63166-6760 or to such other address as either party shall have furnished to the other in writing in accordance herewith. Notice and communications shall be effective when actually received by the addressee. (c) The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement. (d) This Agreement contains the entire understanding and agreement between the parties concerning the subject matter hereof and supersedes all prior agreements, understandings, discussions, negotiations and undertakings, whether written or oral, between the parties with respect thereto. (e) The Company may withhold from any amounts payable under this Agreement such Federal, state, local or foreign taxes as shall be required to be withheld pursuant to any applicable law or regulation. (f) The Executive's or the Company's failure to insist upon strict compliance with any provision of this Agreement or the failure to assert any right the Executive or the Company may have hereunder, shall not be deemed to be a waiver of such provision or right or any other provision or right of this Agreement. 8 (g) The Executive and the Company acknowledge that, except as may otherwise be provided under any other written agreement between the Executive and the Company, the employment of the Executive by the Company is "at will" and the Executive's employment may be terminated by either the Executive or the Company at any time. From and after the Effective Date this Agreement shall have no effect on the Executive's rights under any plan, program, policy or practice provided by the Company or any of its affiliated companies. IN WITNESS WHEREOF, the Executive has hereunto set the Executive's hand and, pursuant to the authorization from its Board of Directors, the Company has caused these presents to be executed in its name on its behalf, all as of the day and year first above written. /s/ John C. Hunter III -------------------------- John C. Hunter III SOLUTIA INC. By: /s/ Jeffry N. Quinn ----------------------- Jeffry N. Quinn Its: Senior Vice President and General Counsel 9 EX-10.(D) 6 exh10pd.txt EXHIBIT 10(d) RETENTION AGREEMENT ------------------- AGREEMENT by and between Solutia Inc., a Delaware corporation (the "Company"), and Robert A. Clausen (the "Executive"), dated as of the 30th day of June, 2003 (the "Effective Date"). The Board of Directors of the Company (the "Board") has determined that it is in the best interests of the Company and its shareholders to assure that the Company will have the continued dedication of the Executive over the next 30-month period. The Board believes it is imperative to retain the Executive's services as Chief Financial Officer of the Company or else the Company would suffer substantial harm and additional costs to replace the Executive if he were to terminate his employment with the Company. To induce the Executive to continue to serve the Company over the next 30 months, the Company will provide the Executive with a cash retention payment, payable in installments. It is the Board's judgment that such a retention arrangement is in the best interest of the Company, its shareholders, and its creditors, and is consistent with the desire of the Board to maximize the value of the Company. Therefore, in order to accomplish these objectives, the Board has caused the Company to enter into this Agreement. NOW, THEREFORE, IT IS HEREBY AGREED AS FOLLOWS: 1. Retention Payment. Within 5 days of the 12-month anniversary of ----------------- the Effective Date, the Company shall pay to the Executive a cash payment equal to 100% of his base salary as of the Effective Date if he is employed by the Company on such anniversary date. Within 5 days of the 24-month anniversary of the Effective Date, the Company shall pay to the Executive a cash payment equal to 100% of his base salary as of the Effective Date if he is employed by the Company on such anniversary date. Within 5 days of the 30-month anniversary of the Effective Date, the Company shall pay to the Executive a cash payment equal to 50% of his base salary as of the Effective Date if he is employed by the Company on such anniversary date. 2. Termination of Employment. ------------------------- (a) If, prior to the 30-month anniversary of the Effective Date, the Executive's employment is terminated by the Company without Cause (as defined below) or is terminated by the Executive for Good Reason (as defined below), the Company shall continue to pay to the Executive the retention payments in accordance with Section 1 above as if the Executive's employment had not been terminated by the Company without Cause or by the Executive for Good Reason; provided, however, that such retention payments will not be made if the Executive materially violates any provision of this Agreement or any provision of any other agreement he has entered into with the Company relating to the Executive's promises with respect to confidentiality, competitive activity against the Company, solicitation of the Company's employees, or ideas, inventions or discoveries that belong to the Company. 1 (b) If, prior to the 30-month anniversary of the Effective Date, the Executive's employment is terminated due to the death or Disability of the Executive, the Company shall pay to the Executive or his estate, as applicable, within a reasonable period of time following the date of death or the termination of employment, as the case may be, a cash payment equal to (x) 250% of his base salary as of the Effective Date multiplied by (y) a fraction the numerator of which is equal to the number of full months that the Executive was employed by the Company following the Effective Date and the denominator of which is equal to 30, less (z) the amount of all payments already made under Section 1 above. (c) Definition of Cause. For purposes of this Agreement, "Cause" ------------------- shall mean: (i) the willful and continued failure of the Executive to perform substantially the Executive's duties with the Company or one of its affiliates (other than any such failure resulting from incapacity due to physical or mental illness), after a written demand for substantial performance is delivered to the Executive by the Board which specifically identifies the manner in which the Board believes that the Executive has not substantially performed the Executive's duties; or (ii) the willful engaging by the Executive in illegal conduct or gross misconduct which is materially and demonstrably injurious to the Company. For purposes of this provision, no act or failure to act, on the part of the Executive, shall be considered "willful" unless it is done, or omitted to be done, by the Executive in bad faith or without reasonable belief that the Executive's action or omission was in the best interests of the Company. Any act, or failure to act, based upon authority given pursuant to a resolution duly adopted by the Board or based upon the advice of counsel for the Company shall be conclusively presumed to be done, or omitted to be done, by the Executive in good faith and in the best interests of the Company. The cessation of employment of the Executive shall not be deemed to be for Cause unless and until there shall have been delivered to the Executive a copy of a resolution duly adopted by the affirmative vote of not less than three-quarters of the entire membership of the Board at a meeting of the Board called and held for such purpose (after reasonable notice is provided to the Executive and the Executive is given an opportunity, together with counsel, to be heard before the Board), finding that, in the good faith opinion of the Board, the Executive is guilty of the conduct described in subparagraph (i) or (ii) above, and specifying the particulars thereof in detail. (d) Definition of Good Reason. For purposes of this Agreement, ------------------------- "Good Reason" shall mean: (i) the assignment to the Executive of any duties inconsistent in any respect with the Executive's position as of the Effective Date (including status, offices, titles and reporting requirements), authority, duties or responsibilities, or any other action by the Company which results in a diminution in such position, authority, duties or responsibilities, excluding for this purpose an isolated, insubstantial and inadvertent action not taken in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive; 2 (ii) any failure by the Company to comply with any of the provisions of Section 1 above or Section 3 below, other than an isolated, insubstantial and inadvertent failure not occurring in bad faith and which is remedied by the Company promptly after receipt of notice thereof given by the Executive; or (iii) the Company's requiring the Executive to be based at any office or location other than the office at which the Executive is based as of the Effective Date or the Company's requiring the Executive to travel on Company business to a substantially greater extent than required immediately prior to the Effective Date, unless the Executive is on international assignment on the Effective Date and the relocation is as a result of the Executive's being repatriated pursuant to the terms of his international assignment agreement as in effect before the Effective Date. For purposes of this Section 2(d), any good faith determination of Good Reason made by the Executive shall be conclusive. (e) Definition of Disability. For purposes of this Agreement, ------------------------ "Disability" shall mean a "disability" as such term is defined under the Company's long-term disability plan, program or arrangement applicable to the Executive as in effect on the date the disability first occurs. (f) Notice of Termination. Any termination by the Company --------------------- for Cause, or by the Executive for Good Reason, shall be communicated by Notice of Termination to the other party hereto given in accordance with Section 8(b) below. For purposes of this Agreement, a "Notice of Termination" means a written notice which (i) indicates the specific termination provision in this Agreement relied upon, (ii) to the extent applicable, sets forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of the Executive's employment under the provision so indicated and (iii) if the Date of Termination is other than the date of receipt of such notice, specifies the termination date (which date shall be not more than 30 days after the giving of such notice). The failure by the Executive or the Company to set forth in the Notice of Termination any fact or circumstance which contributes to a showing of Good Reason or Cause shall not waive any right of the Executive or the Company, respectively, hereunder or preclude the Executive or the Company, respectively, from asserting such fact or circumstance in enforcing the Executive's or the Company's rights hereunder. (g) Date of Termination. For purposes of this Agreement, ------------------- "Date of Termination" means if the Executive's employment is terminated by the Company for Cause, or by the Executive for Good Reason, the date of receipt of the Notice of Termination or any later date specified therein, as the case may be. 3. Letter of Credit. In order to ensure the benefits intended to ---------------- be provided to the Executive under this Agreement, the Company shall promptly use its best efforts to secure an irrevocable standby letter of credit for the benefit of the Executive issued by Commerce Bank or another bank having combined capital and surplus in excess of $500 million (the "Letter of Credit"). The Company shall pay all amounts and take all action necessary to establish and maintain the Letter of Credit during the 30-month period following the Effective Date. 3 Following the Company's complete discharge of its obligations under this Agreement, the Letter of Credit shall be terminated or not renewed. 4. Non-exclusivity of Rights. Nothing in this Agreement shall ------------------------- prevent or limit the Executive's continuing or future participation in any plan, program, policy or practice provided by the Company or any of its affiliated companies for which the Executive may qualify, nor, subject to Section 9(g) below, shall anything herein limit or otherwise affect such rights as the Executive may have under any contract or agreement with the Company or any of its affiliated companies. Amounts which are vested benefits or which the Executive is otherwise entitled to receive under any plan, policy, practice or program of or any contract or agreement with the Company or any of its affiliated companies at or subsequent to the Date of Termination shall be payable in accordance with such plan, policy, practice or program or contract or agreement except as explicitly modified by this Agreement. 5. Full Settlement; Legal Fees. The Company's obligation to make --------------------------- the payments provided for in this Agreement and otherwise to perform its obligations hereunder shall not be affected by any set-off, counterclaim, recoupment, defense or other claim, right or action which the Company may have against the Executive or others. Notwithstanding anything contained in this Agreement to the contrary, the Executive agrees that any payments made to the Executive by the Company in accordance with Section 6 of the Employment Agreement by and between the Company and the Executive dated February 28, 1998, as amended from time to time, shall be reduced by an amount equal to the difference of (A) 250% of his base salary as of the Effective Date less (B) the result of (x) 250% of his base salary as of the Effective Date multiplied by (y) a fraction the numerator of which is equal to the number of full and partial months remaining in the 30-month period following the Effective Date as of the date of the termination of the executive's employment with the Company and the denominator of which is equal to 30. The Company agrees to pay as incurred, to the full extent permitted by law, all legal fees and expenses which the Executive may reasonably incur as a result of any contest (regardless of the outcome thereof) by the Company, the Executive or others of the validity or enforceability of, or liability under, any provision of this Agreement or any guarantee of performance thereof (whether such contest is between the Company and the Executive or between either of them and any third party, and including as a result of any contest by the Executive about the amount of any payment pursuant to this Agreement), plus in each case interest on any delayed payment at the applicable Federal rate provided for in Section 7872(f)(2)(A) of the Internal Revenue Code of 1986, as amended (the "Code"). 6. Certain Additional Payments by the Company. ------------------------------------------ (a) Anything in this Agreement to the contrary notwithstanding and except as set forth below, in the event it shall be determined that any payment or distribution by the Company to or for the benefit of the Executive (whether paid or payable or distributed or distributable pursuant to the terms of this Agreement or otherwise, but determined without regard to any additional payments required under this Section 6) (a "Payment") would be subject to the excise tax imposed by Section 4999 of the Code or any interest or penalties are incurred by the Executive with respect to such excise tax (such excise tax, together with any such interest and penalties, are hereinafter collectively referred to as the "Excise Tax"), then the Executive shall be 4 entitled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by the Executive of all taxes (including any interest or penalties imposed with respect to such taxes), including, without limitation, any income taxes (and any interest and penalties imposed with respect thereto) and Excise Tax imposed upon the Gross-Up Payment, the Executive retains an amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payments. Notwithstanding the foregoing provisions of this Section 6(a), if it shall be determined that the Executive is entitled to a Gross-Up Payment, but that the Payments do not exceed 110% of the greatest amount (the "Reduced Amount") that could be paid to the Executive such that the receipt of Payments would not give rise to any Excise Tax, then no Gross-Up Payment shall be made to the Executive and the Payments, in the aggregate, shall be reduced to the Reduced Amount. (b) Subject to the provisions of Section 6(c) below, all determinations required to be made under this Section 6, including whether and when a Gross-Up Payment is required and the amount of such Gross-Up Payment and the assumptions to be utilized in arriving at such determination, shall be made by Ernst & Young LLP or such other certified public accounting firm as may be designated by the Executive (the "Accounting Firm") which shall provide detailed supporting calculations both to the Company and the Executive within 15 business days of the receipt of notice from the Executive that there has been a Payment, or such earlier time as is requested by the Company. In the event that the Accounting Firm is serving as accountant or auditor for the individual, entity or group effecting the change of control, the Executive shall appoint another nationally recognized accounting firm to make the determinations required hereunder (which accounting firm shall then be referred to as the Accounting Firm hereunder). All fees and expenses of the Accounting Firm shall be borne solely by the Company. Any Gross-Up Payment, as determined pursuant to this Section 6, shall be paid by the Company to the Executive within 5 days of the receipt of the Accounting Firm's determination. Any determination by the Accounting Firm shall be binding upon the Company and the Executive. As a result of the uncertainty in the application of Section 4999 of the Code at the time of the initial determination by the Accounting Firm hereunder, it is possible that Gross-Up Payments which will not have been made by the Company should have been made ("Underpayment"), consistent with the calculations required to be made hereunder. In the event that the Company exhausts its remedies pursuant to Section 6(c) below and the Executive thereafter is required to make a payment of any Excise Tax, the Accounting Firm shall determine the amount of the Underpayment that has occurred and any such Underpayment shall be promptly paid by the Company to or for the benefit of the Executive. (c) The Executive shall notify the Company in writing of any claim by the Internal Revenue Service that, if successful, would require the payment by the Company of the Gross-Up Payment. Such notification shall be given as soon as practicable but no later than ten business days after the Executive is informed in writing of such claim and shall apprise the Company of the nature of such claim and the date on which such claim is requested to be paid. The Executive shall not pay such claim prior to the expiration of the 30-day period following the date on which the Executive gives such notice to the Company (or such shorter period ending on the date that any payment of taxes with respect to such claim is due). If the Company notifies the Executive in writing prior to the expiration of such period that it desires to contest such claim, the Executive shall: 5 (i) give the Company any information reasonably requested by the Company relating to such claim, (ii) take such action in connection with contesting such claim as the Company shall reasonably request in writing from time to time, including, without limitation, accepting legal representation with respect to such claim by an attorney reasonably selected by the Company, (iii) cooperate with the Company in good faith in order effectively to contest such claim, and (iv) permit the Company to participate in any proceedings relating to such claim; provided, however, that the Company shall bear and pay directly all costs and expenses (including additional interest and penalties) incurred in connection with such contest and shall indemnify and hold the Executive harmless, on an after-tax basis, for any Excise Tax or income tax (including interest and penalties with respect thereto) imposed as a result of such representation and payment of costs and expenses. Without limitation on the foregoing provisions of this Section 6(c), the Company shall control all proceedings taken in connection with such contest and, at its sole option, may pursue or forgo any and all administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of such claim and may, at its sole option, either direct the Executive to pay the tax claimed and sue for a refund or contest the claim in any permissible manner, and the Executive agrees to prosecute such contest to a determination before any administrative tribunal, in a court of initial jurisdiction and in one or more appellate courts, as the Company shall determine; provided, however, that if the Company directs the Executive to pay such claim and sue for a refund, the Company shall advance the amount of such payment to the Executive, on an interest-free basis and shall indemnify and hold the Executive harmless, on an after-tax basis, from any Excise Tax or income tax (including interest or penalties with respect thereto) imposed with respect to such advance or with respect to any imputed income with respect to such advance; and further provided that any extension of the statute of limitations relating to payment of taxes for the taxable year of the Executive with respect to which such contested amount is claimed to be due is limited solely to such contested amount. Furthermore, the Company's control of the contest shall be limited to issues with respect to which a Gross-Up Payment would be payable hereunder and the Executive shall be entitled to settle or contest, as the case may be, any other issue raised by the Internal Revenue Service or any other taxing authority. (d) If, after the receipt by the Executive of an amount advanced by the Company pursuant to Section 6(c) above, the Executive becomes entitled to receive any refund with respect to such claim, the Executive shall (subject to the Company's complying with the requirements of Section 6(c) above) promptly pay to the Company the amount of such refund (together with any interest paid or credited thereon after taxes applicable thereto). If, after the receipt by the Executive of an amount advanced by the Company pursuant to Section 6(c) above, a determination is made that the Executive shall not be entitled to any refund with respect to such 6 claim and the Company does not notify the Executive in writing of its intent to contest such denial of refund prior to the expiration of 30 days after such determination, then such advance shall be forgiven and shall not be required to be repaid and the amount of such advance shall offset, to the extent thereof, the amount of Gross-Up Payment required to be paid. 7. Confidential Information. As used herein, "Confidential ------------------------ Information" means all technical and business information of the Company and its subsidiaries, whether patentable or not, which is of a confidential, trade secret and/or proprietary character and which is either developed by the Executive (alone or with others) or to which the Executive has had access during the Executive's employment. "Confidential Information" shall also include confidential evaluations of, and the confidential use or non-use by the Company or any subsidiary of, technical or business information in the public domain. The Executive shall use the Executive's best efforts and diligence both during and after employment by the Company to protect the confidential, trade secret and/or proprietary character of all Confidential Information. The Executive shall not, directly or indirectly, use (for the Executive or another) or disclose any Confidential Information, for so long as it shall remain proprietary or protectible as confidential or trade secret information, except as may be necessary for the performance of the Executive's duties with the Company. The Executive shall deliver promptly to the Company, at the termination of the Executive's employment, or at any other time at the Company's request, without retaining any copies, all documents and other material in the Executive's possession relating, directly or indirectly, to any Confidential Information. Each of the Executive's obligations in this Section 7 shall also apply to the confidential, trade secret and proprietary information learned or acquired by the Executive during the Executive's employment from others with whom the Company or any subsidiary has a business relationship. The Executive understands that the Executive is not to disclose to the Company or any subsidiary, or use for its benefit, any of the confidential, trade secret or proprietary information of others, including any of the Executive's former employers. In no event shall an asserted violation of the provisions of this Section 7 constitute a basis for deferring or withholding any amounts otherwise payable to the Executive under this Agreement. 8. Successors. ---------- (a) This Agreement is personal to the Executive and without the prior written consent of the Company shall not be assignable by the Executive otherwise than by will or the laws of descent and distribution. This Agreement shall inure to the benefit of and be enforceable by the Executive's legal representatives. (b) This Agreement shall inure to the benefit of and be binding upon the Company and its successors and assigns. (c) The Company will require any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of the Company to assume expressly and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place. As used in this Agreement, "Company" shall mean the Company as 7 hereinbefore defined and any successor to its business and/or assets as aforesaid which assumes and agrees to perform this Agreement by operation of law, or otherwise. 9. Miscellaneous. ------------- (a) This Agreement shall be governed by and construed in accordance with the laws of the State of Delaware, without reference to principles of conflict of laws. The captions of this Agreement are not part of the provisions hereof and shall have no force or effect. This Agreement may not be amended or modified otherwise than by a written agreement executed by the parties hereto or their respective successors and legal representatives. (b) All notices and other communications hereunder shall be in writing and shall be given by hand delivery to the other party or by registered or certified mail, return receipt requested, postage prepaid, addressed as follows: If to the Executive: Robert A. Clausen 16901 Pacland Ridge Drive Chesterfield, Missouri 63005 If to the Company: Jeffry N. Quinn, Esq. Senior Vice President, Secretary & General Counsel Solutia Inc. P.O. Box 66760 St. Louis, Missouri 63166-6760 or to such other address as either party shall have furnished to the other in writing in accordance herewith. Notice and communications shall be effective when actually received by the addressee. (c) The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement. (d) This Agreement contains the entire understanding and agreement between the parties concerning the subject matter hereof and supersedes all prior agreements, understandings, discussions, negotiations and undertakings, whether written or oral, between the parties with respect thereto. (e) The Company may withhold from any amounts payable under this Agreement such Federal, state, local or foreign taxes as shall be required to be withheld pursuant to any applicable law or regulation. (f) The Executive's or the Company's failure to insist upon strict compliance with any provision of this Agreement or the failure to assert any right the Executive or the Company may have hereunder, shall not be deemed to be a waiver of such provision or right or any other provision or right of this Agreement. 8 (g) The Executive and the Company acknowledge that, except as may otherwise be provided under any other written agreement between the Executive and the Company, the employment of the Executive by the Company is "at will" and the Executive's employment may be terminated by either the Executive or the Company at any time. From and after the Effective Date this Agreement shall have no effect on the Executive's rights under any plan, program, policy or practice provided by the Company or any of its affiliated companies. IN WITNESS WHEREOF, the Executive has hereunto set the Executive's hand and, pursuant to the authorization from its Board of Directors, the Company has caused these presents to be executed in its name on its behalf, all as of the day and year first above written. /s/ Robert A. Clausen -------------------------- Robert A. Clausen SOLUTIA INC. By: /s/ Jeffry N. Quinn ----------------------- Jeffry N. Quinn Its: Senior Vice President and General Counsel 9 EX-10.(E) 7 exh10pe.txt EXHIBIT 10(e) August 4, 2003 Terrell K. Crews Executive Vice President and Chief Financial Officer Monsanto Company 800 North Lindbergh Blvd. St. Louis, MO 63167 Re: Second Amendment to Pennsylvania Litigation Protocol Dear Terry: Monsanto Company, Pharmacia Corporation and Solutia Inc. entered into an Amendment to Protocol Agreement dated March 2, 2003, ("the First Amendment") a copy of which is annexed hereto. This letter agreement is an amendment to the First Amendment, and will be referred to as "the Second Amendment." Pursuant to Section 4 of the First Amendment Solutia provided Monsanto with an additional Letter of Credit in the amount of $39.9 million. Section 3 of the First Amendment provided Solutia with the Solutia Settlement Control Rights during the Extension Period, upon its timely providing the Additional Letter of Credit to Monsanto. Pursuant to this Second Amendment, we have agreed that Monsanto will immediately release the Additional Letter of Credit to Solutia. We have further agreed that the Solutia Settlement Control Rights shall be suspended, and the Monsanto Settlement Control Rights shall be reinstated, immediately upon release of the Additional Letter of Credit to Solutia, including Monsanto's rights to access any applicable insurance policies related to a resolution of the underlying matter. Sincerely, /s/ Jeffry N. Quinn Jeffry N. Quinn [SIGNATURE PAGE IS NEXT PAGE] Page 2 of 2 IN WITNESS WHEREOF, the parties have caused this Second Amendment to Protocol Agreement to be duly executed as of the date above first written. MONSANTO COMPANY a Delaware Corporation By: /s/ Robert A. Paley ------------------------- Name: Robert A. Paley Title: V.P. and Treasurer SOLUTIA INC. a Delaware Corporation By: /s/ Jeffry N. Quinn ------------------------- Name: Jeffry N. Quinn Title: Sr. V.P. PHARMACIA CORPORATION a Delaware Corporation By: ------------------------- Name: Title: EX-31.(A) 8 exh31pa.txt EXHIBIT 31(a) Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, John C. Hunter III, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Solutia Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluations; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected or is reasonably likely to materially affect, the registrant's internal control over financial reporting and; 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: August 14, 2003 /s/ John C. Hunter III ----------------------- John C. Hunter III Chairman, President and Chief Executive Officer EX-31.(B) 9 exh31pb.txt EXHIBIT 31(b) Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, Robert A. Clausen, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Solutia Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluations; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected or is reasonably likely to materially affect, the registrant's internal control over financial reporting and; 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: August 14, 2003 /s/ Robert A. Clausen ----------------------- Robert A. Clausen Vice Chairman, Chief Financial Officer and Chief Accounting Officer EX-32.(A) 10 exh32pa.txt EXHIBIT 32(a) CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, John C. Hunter III, Chief Executive Officer of Solutia Inc. (the "Company"), certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350, that to the best of my knowledge: (1) the Quarterly Report on Form 10-Q of the Company for the quarterly period ended June 30, 2003, (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: August 14, 2003 /s/ John C. Hunter III -------------------------------- John C. Hunter III Chief Executive Officer A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to Solutia Inc. and will be retained by Solutia Inc. and furnished to the Securities and Exchange Commission or its staff upon request. EX-32.(B) 11 exh32pb.txt EXHIBIT 32(b) CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Robert A. Clausen, Chief Financial Officer of Solutia Inc. (the "Company"), certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350, that to the best of my knowledge: (1) the Quarterly Report on Form 10-Q of the Company for the quarterly period ended June 30, 2003, (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: August 14, 2003 /s/ Robert A. Clausen ---------------------------------- Robert A. Clausen Chief Financial Officer A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to Solutia Inc. and will be retained by Solutia Inc. and furnished to the Securities and Exchange Commission or its staff upon request. EX-99 12 exh99.txt EXHIBIT 99 SOLUTIA INC. COMPUTATION OF THE RATIO OF EARNINGS TO FIXED CHARGES (DOLLARS IN MILLIONS)
SIX MONTHS ENDED JUNE 30, 1998 1999 2000 2001 2002 2003 ----- ----- ----- ----- ----- ------ Income (loss) from continuing operations, before income taxes and equity earnings (loss) from affiliates (1) ............ $ 352 $ 262 $ (5) $(111) $ (32) $ (88) Add: Fixed charges ................................ 58 62 85 83 98 56 Amortization of capitalized interest ......... 7 7 7 7 7 3 Dividends from affiliated companies .......... 37 60 45 30 25 -- Less: Interest capitalized ......................... (6) (13) (17) (2) (1) (1) ----- ----- ----- ----- ----- ------ Income as adjusted ....................... $ 448 $ 378 $ 115 $ 7 $ 97 $ (30) ===== ===== ===== ===== ===== ====== Fixed charges Interest expensed and capitalized ............ 49 53 73 72 85 49 Estimate of interest within rental expense .................................... 9 9 12 11 13 7 ----- ----- ----- ----- ----- ------ Fixed charges ............................ $ 58 $ 62 $ 85 $ 83 $ 98 $ 56 ===== ===== ===== ===== ===== ====== Ratio of Earnings to Fixed Charges (2) ........... 7.72 6.10 1.35 0.08 0.99 (0.54) (1) Includes restructuring and other items of $43 million for the six months ended June 30, 2003, $17 million for the year ended December 31, 2002, $86 million for the year ended December 31, 2001, $107 million for the year ended December 31, 2000 and $61 million for the year ended December 31, 1999. (2) Earnings for the six months ended June 30, 2003, and the years ended December 31, 2002, and 2001, would have to be $86 million, $1 million and $76 million higher, respectively, in order to achieve a one-to-one ratio.
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