-----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, VDBhZ3LCR9E9Go1Il6mEosB23YvZ33nF7zFZLMjrsL9PtqUD9/hZRZJy09LpDPfw 4M5VZkxe7Pl/Inr4Fn07Ww== 0000950152-98-002402.txt : 19980327 0000950152-98-002402.hdr.sgml : 19980327 ACCESSION NUMBER: 0000950152-98-002402 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980326 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: LUBRIZOL CORP CENTRAL INDEX KEY: 0000060751 STANDARD INDUSTRIAL CLASSIFICATION: INDUSTRIAL ORGANIC CHEMICALS [2860] IRS NUMBER: 340367600 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-05263 FILM NUMBER: 98573830 BUSINESS ADDRESS: STREET 1: 29400 LAKELAND BLVD CITY: WICKLIFFE STATE: OH ZIP: 44092 BUSINESS PHONE: 2169434200 MAIL ADDRESS: STREET 1: 29400 LAKELAND BLVD CITY: WICKLIFFE STATE: OH ZIP: 44092 10-K 1 THE LUBRIZOL CORPORATION FORM 10-K 1 FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1997 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES ACT OF 1934 For the transition period from ..... to ..... Commission file number 1-5263 THE LUBRIZOL CORPORATION (Exact name of registrant as specified in its charter) OHIO 34-0367600 (State of incorporation) (I.R.S. Employer Identification No.) 29400 Lakeland Boulevard Wickliffe, Ohio 44092-2298 (Address of principal executive officers, including zip code) Registrant's telephone number, including area code: (440) 943-4200 Securities registered pursuant to Section 12(b) of the Act: Name of each exchange Title of each class on which registered - ------------------------------- ----------------------- Common Shares without par value New York Stock Exchange Common Share purchase rights New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Aggregate market value (on basis of closing sale price) of voting stock held by nonaffiliates as of March 6, 1998 $2,192,961,092 Number of the registrant's Common Shares, without par value, outstanding as of March 6, 1998 56,901,269 Documents Incorporated by Reference Portions of the registrant's 1997 Annual Report to its shareholders (Incorporated into Part I and II of this Form 10-K) Portions of the registrant's Proxy Statement dated March 18, 1998 (Incorporated into Part III of this Form 10-K) -1- 2 PART I ------ ITEM 1. BUSINESS The Lubrizol Corporation was organized under the laws of Ohio in 1928. The company began business as a compounder of special-purpose lubricants, and in the early 1930's was among the first to commence research in the field of lubricant additives. Today, the company is a worldwide supplier of performance chemicals and products to diverse markets worldwide. Principally, the company develops, produces and sells specialty additive packages used in transportation and industrial finished lubricants such as gasoline and diesel engine lubricating oils, automatic transmission fluids, gear oils, marine and tractor lubricants, fuel products and industrial fluids. The company's additive packages are generally produced in shared manufacturing facilities and sold largely to a common customer base. These specialty chemical products are created through the application of advanced chemical and mechanical technologies to enhance the performance, quality and value of the products in which they are used. The company also produces and supplies coatings additives, refinery and oil field chemicals, specialty monomers, process chemicals, synthetic refrigerant compressor lubricants, fluid metering devices and particulate emission trap devices. Over the past five years the company has divested its non-strategic assets comprised primarily of its assets associated with its former Agribusiness segment, including its investments in Mycogen Corporation, and its investments in Genentech, Inc. common stock. The company had substantially liquidated its non-strategic assets as of December 31, 1996. (Please refer to Note 8 to the Financial Statements which is included in the company's 1997 Annual Report to its shareholders and is incorporated herein by reference.) PRINCIPAL PRODUCTS. The company's principal products are specialty additive systems for gasoline and diesel engine lubricating oils, automatic transmission fluids, gear oils, industrial fluids, metalworking compounds and fuels. The company also offers other specialty chemical products, fluid metering devices and particulate emission trap devices. Additives for engine lubricating oils accounted for 51% of consolidated revenues in 1997, 1996 and 1995. Additives for driveline oils accounted for 23%, 25% and 24% of consolidated revenues for these respective periods. Additives improve the lubricants and fuels used in cars, trucks, buses, off-highway equipment, marine engines and industrial applications. In lubricants, additives enable oil to withstand a broader range of temperatures, limit the buildup of sludge and varnish deposits, reduce wear, inhibit the formation of foam, rust and corrosion, and retard oxidation. In fuels, additives help maintain efficient operation of the fuel delivery system, help control deposits and corrosion, improve combustion and assist in preventing decomposition during storage. Due to the variety in the properties and applications of oils, a number of different chemicals are used to formulate the company's products. Each additive combination is designed to fit the characteristics of the customer's base oil and the level of performance specified. Engine oils for passenger cars contain a combination of chemical additives which usually includes one or more detergents, dispersants, oxidation inhibitors and wear inhibitors, pour point depressants and viscosity improvers. Other chemical combinations are used in specialty additive systems for heavy duty engine oils used by trucks and off-highway equipment and in formulations for gear oils, automatic transmission fluids, industrial oils, metalworking fluids, and gasoline, diesel and residual fuels. COMPETITION. The chemical additive field is highly competitive in terms of price, technology development, product performance and customer -2- 3 service. The company's principal competitors, both in the United States and overseas, are three major petroleum companies and one chemical company. The petroleum companies produce lubricant and fuel additives for their own use, and also sell additives to others. These competing companies are also customers of the company. Excluding viscosity improvers, management believes, based on volume sold, that the company is the largest supplier to the petroleum industry of performance additive systems for lubricants. CUSTOMERS. In the United States, the company markets its additive products through its own sales organization. The company's additive customers consist primarily of oil refiners and independent oil blenders and are located in more than 100 countries. Approximately 40% of the company's sales are made to customers in North America, 30% in Europe and 30% in Asia-Pacific, the Middle East and Latin America. Sales to Mobil Corporation and its affiliates accounted for 10% of consolidated sales in 1997, 1996 and 1995. The company's ten largest customers, most of which are international oil companies and a number of which are groups of affiliated entities, accounted for approximately 44% of consolidated sales in 1997. The loss of one or more of these customers could have a material adverse effect on the company's business. RAW MATERIALS. The company utilizes a broad variety of chemical raw materials in the manufacture of its additives and uses oil in processing and blending additives. These materials are obtainable from several sources, and for the most part are derived from petroleum. Unstable political and economic conditions in the Middle East have, in the past, caused and may continue to cause the cost of raw materials to fluctuate significantly; however, the availability of raw materials to the company has not been significantly affected when these conditions occurred. The company expects raw materials to be available in adequate quantities during 1998. RESEARCH, TESTING AND DEVELOPMENT. The company has historically emphasized research and has developed a large percentage of the additives it manufactures and sells. Technological developments in the design of engines and other automotive equipment, combined with rising demands for environmental protection and fuel economy, require increasingly sophisticated chemical additives to meet industry performance standards. The frequency of changes in industry performance standards compresses time cycles for new product development and affects the company's technical spending patterns. Research and development expenditures were $88.4 million in 1997, $93.4 million in 1996 and $104.9 million in 1995. These amounts were equivalent to 5.3%, 5.8% and 6.3% of the respective revenues for such years. These amounts include expenditures for the performance evaluation of additive developments in engines and other types of mechanical equipment as well as expenditures for the development of specialty chemicals for industrial applications. In addition, $58.2 million, $67.6 million and $74.7 million was spent in 1997, 1996 and 1995, respectively, for technical service activities, principally for evaluation in mechanical equipment of specific lubricant formulations designed for the needs of petroleum industry customers throughout the world. The company has two research facilities at Wickliffe, Ohio, one of which is principally for lubricant additive research and the other for research in the field of other specialty chemicals. The company also maintains a mechanical testing laboratory at Wickliffe, equipped with a variety of gasoline and diesel engines and other mechanical equipment to evaluate the performance of additives for lubricants and fuels. The company has similar mechanical testing laboratories in England and Japan and, in addition, makes extensive use of independent contract research firms. Extensive field testing is also conducted through various arrangements with fleet operators and others. -3- 4 Liaison offices in Detroit, Michigan; Hazelwood, England; Hamburg, Germany; Tokyo, Japan; and Paris, France maintain close contact with the principal automotive and equipment manufacturers of the world and keep the company abreast of the performance requirements for its products in the face of changing technologies. These liaison activities also serve as contacts for cooperative development and evaluation of products for future applications. Contacts with the automotive and equipment industry are important so the company may have the necessary direction and lead time to develop products for use in engines, transmissions, gear sets, and other areas of equipment that require lubricants of advanced design. PATENTS. The company owns certain United States patents relating to lubricant and fuel additives, lubricants, chemical compositions and processes, and protective coating materials and processes. It also owns similar patents in foreign countries. While such domestic and foreign patents expire from time to time, the company continues to apply for and obtain patent protection on an ongoing basis. Although the company believes that, in the aggregate, its patents constitute an important asset, it does not regard its business as being materially dependent upon any single patent or any group of related patents. The company has filed claims against Exxon Corporation and its affiliates ("Exxon") relating to various commercial matters, including alleged infringements by Exxon of certain of the company's patents. These suits are pending in the United States (in Ohio), Canada, and the United Kingdom, and are at various stages. The international suits allege infringement of patents that correspond to a United States patent admitted as valid by Exxon in a settlement in 1988. In the suit in Canada, a determination of liability has been made by the courts against Exxon and in favor of the company, and the case has been returned to the trial court for an assessment of damages, but no date has been set for a determination of such damages. In the suit in the United Kingdom, a patent trial court declared the company's patent invalid and the company is appealing that decision, which appeal is expected to be heard in March 1998. For further information regarding these cases, refer to Note 18 to the Financial Statements which is included in the company's 1997 Annual Report to its shareholders and is incorporated herein by reference. ENVIRONMENTAL MATTERS. The company is subject to federal, state and local laws and regulations designed to protect the environment and limit manufacturing wastes and emissions. The company believes that as a general matter its policies, practices and procedures are properly designed to prevent unreasonable risk of environmental damage and the consequent financial liability to the company. Compliance with the environmental laws and regulations requires continuing management effort and expenditures by the company. Capital expenditures for environmental projects approximated $7 million in 1997, and over the past three years have averaged 14% of annual capital spending. Management believes that the cost of complying with environmental laws and regulations will not have a material affect on the earnings, liquidity or competitive position of the company. The company is engaged in the handling, manufacture, use, transportation and disposal of substances that are classified as hazardous or toxic by one or more regulatory agencies. The company believes that its handling, manufacture, use, transportation and disposal of such substances generally have been in accord with environmental laws and regulations. Among other environmental laws, the company is subject to the federal "Superfund" law, under which the company has been designated as a "potentially responsible party" that may be liable for cleanup costs associated with various waste sites, some of which are on the U.S. Environmental Protection Agency Superfund priority list. The company's experience, consistent with what it believes to be the experience of others in -4- 5 similar cases, is that Superfund site liability tends to be apportioned among parties based upon contribution of materials to the Superfund site. Accordingly, the company measures its liability and carries out its financial reporting responsibilities with respect to Superfund sites based upon this standard, even though Superfund site liability is technically joint and several in nature. The company views the expense of remedial cleanup as a part of its product cost, and accrues for estimated environmental liabilities with charges to cost of sales. Management considers its environmental accrual to be adequate to provide for its portion of costs for all known environmental matters, including Superfund sites. Based upon consideration of currently available information, management believes liabilities for environmental matters will not have a material adverse affect on the company's financial position, operating results or liquidity. GENERAL EMPLOYEES. At December 31, 1997, the company and its wholly-owned subsidiaries had 4,291 employees of which approximately 62% were in the U.S. INTERNATIONAL OPERATIONS. Financial information with respect to domestic and foreign operations is contained in Note 14 to the Financial Statements which is included in the company's 1997 Annual Report to its shareholders and is incorporated herein by reference. The company supplies its additive customers abroad from overseas manufacturing plants and through export from the United States. Sales and technical service offices are maintained in more than 30 countries outside the United States. As a result, the company is subject to business risks inherent in non-U.S. activities, including political and economic uncertainty, import and export limitations, exchange controls and currency fluctuations. The company believes risks related to its foreign operations are mitigated due to the political and economic stability of the countries in which its largest foreign operations are located. While changes in the U.S. dollar value of foreign currencies will affect earnings from time to time, the longer term economic effect of these changes should not be significant given the company's net asset exposure and currency mix relative to its revenues and expenses. The company's consolidated net income will generally benefit as foreign currencies increase in value compared to the U.S. dollar and will generally decline as foreign currencies decrease in value. ITEM 2. PROPERTIES The general offices of the company are located in Wickliffe, Ohio. The company has various leases for general office space primarily located in Houston, Texas; and London, England. The company owns three additive manufacturing plants in the United States; one located in the Cleveland, Ohio area, at Painesville, and two near Houston, Texas, at Deer Park and Bayport. Outside the United States, the company owns additive manufacturing/blending plants in Australia, Brazil, Canada, England, France (three locations), Japan, South Africa and Singapore. All of these plants, other than Singapore, are owned in fee. In Singapore, the company owns the plant but leases the land on which the plant is located. The company owns in fee research, development and testing facilities in Wickliffe, Ohio; Hazelwood, England; and Atsugi, Japan. The company also owns in fee a facility in Midland, Michigan, at which air and refrigeration compressor lubricants are developed and marketed; manufacturing plants in Germany that manufacture performance chemical additives for the coatings industry and specialty additives for the metalworking fluid and industrial lubricant markets in Germany and throughout the European Union; a manufacturing plant in Atlanta, Georgia, that manufactures fluid metering devices; a manufacturing plant in Newmarket, Ontario, Canada, that manufactures particulate emission control devices; and a manufacturing plant -5- 6 in Fareham, Hampshire, England, that manufactures additive injection equipment. Additive manufacturing plants in India and Saudi Arabia, are owned and operated by joint venture companies licensed by Lubrizol. Lubrizol's ownership of each of these companies ranges from 40% to 49%. The company has entered into long-term contracts for its exclusive use of major marine terminal facilities at the Port of Houston, Texas. In addition, Lubrizol has leases for storage facilities in Australia, Chile, Ecuador, Finland, France, Holland, Singapore, Spain, South Africa, Sweden, and Turkey; Los Angeles, California; St. Paul, Minnesota; Bayonne, New Jersey; and Tacoma, Washington. In some cases, the ownership or leasing of such facilities is through certain of its subsidiaries or affiliates. Management continues to maintain a capital expenditure program to support the company's operations and believes that the company's facilities are adequate for its present operations and for the foreseeable future. ITEM 3. LEGAL PROCEEDINGS The company is a party in a case brought by Exxon Corporation and its affiliates, Exxon Chemical Patents, Inc. and Exxon Research & Engineering Company, in the Southern District of Texas, Houston Division, on September 19, 1989. The plaintiffs alleged that the company willfully infringed an Exxon patent pertaining to an oil soluble copper additive component and requested monetary damages and injunctive relief. On June 24, 1996, the U.S. Supreme Court denied Exxon's request to review a September 1995 decision of the United States Court of Appeals for the Federal Circuit in Washington, D.C., regarding this case. The Court of Appeals' decision overturned a December 1992 jury verdict that the company had infringed an Exxon patent and entered judgment in favor of the company as a matter of law. The ruling of the Court of Appeals also vacated an injunction and a significant monetary judgment against the company. The Supreme Court decision finalized the Court of Appeals' judgment. Notwithstanding the Supreme Court decision, Exxon filed a motion in the original trial court seeking a new trial in order to assert an allegedly different theory of infringement under the same patent. The motion was denied by the trial judge on the ground that he lacked the authority to consider any request for a new trial in view of the reversal of the prior trial verdict by the Appellate Court. Acting upon an appeal by Exxon, the Court of Appeals in Washington, D.C., without deciding the merits of whether Exxon was entitled to a second trial, ruled that the trial court does have the authority to consider Exxon's motion and remanded the issue to the trial court. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to the vote of the security holders during the three months ended December 31, 1997. -6- 7 EXECUTIVE OFFICERS OF THE REGISTRANT The following sets forth the name, age, recent business experience and certain other information relative to each person who is an executive officer of the company as of March 1, 1998. Name Business Experience ---- ------------------- W. G. Bares Mr. Bares, age 56, became Chairman of the Board on April 22, 1996, and Chief Executive Officer on January 1, 1996. He has been President since 1982. From 1987 through 1995, he was also Chief Operating Officer. R. A. Andreas Mr. Andreas, age 53, has been Vice President and Chief Financial Officer since June 1990. J. W. Bauer Mr. Bauer, age 44, became Vice President and General Counsel in April 1992, after serving as General Counsel from August 1991. S. A. Di Biase Dr. Di Biase, age 45, has been Vice President since September 1993. He is responsible for Research and Development. From 1990 to September 1993, he was Director of Strategic Research. G. R. Hill Dr. Hill, age 56, has been Senior Vice President since 1988. In 1996, he became responsible for Corporate Strategic Planning and has been responsible for Business Development since October 1993. Prior to October 1993, he was responsible for Research and Development. J. E. Hodge Mr. Hodge, age 55, has been Vice President since September 1993. He is responsible for Operations. During 1989 through 1993, he was General Manager - Deer Park/Bayport Plants. K. H. Hopping Mr. Hopping, age 51, has been Vice President and Secretary of the Corporation since April 1991. S. F. Kirk Mr. Kirk, age 48, has been Vice President since September 1993. In April 1996, he became responsible for Sales. From 1993 to April 1996, he was responsible for Segment Management. From January 1991 to 1993, he was Senior Vice President - Marketing and Technology for Lubrizol Petroleum Chemicals Company. Y. Le Couedic Mr. Le Couedic, age 50, has been Vice President since September 1993. He is responsible for Management Information Systems. From 1991 to 1993, he was Division Head - Corporate R&D - Administrative Services. -7- 8 Name Business Experience - ---- ------------------- G. P. Lieb Mr. Lieb, age 45, was named Controller - Accounting and Financial Reporting in November 1993, and was named Principal Accounting Officer in January 1994. From October 1991 to October 1993, he was Administrative Manager for the Hazelwood, U.K. Laboratory. M. W. Meister Mr. Meister, age 43, has been Vice President since April 1993. He is responsible for Human Resources. From November 1992 to April 1993, he was General Manager - Human Resources. D. A. Muskat Mr. Muskat, age 58, was named Operations Manager in August 1993. From September 1989 to August 1993 he was Vice President - Operations for Lubrizol Petroleum Chemicals Company. L. M. Reynolds Ms. Reynolds, age 37, was named Assistant Secretary in April 1995, and has been Counsel since February 1991. R. D. Robins Mr. Robins, age 55, became Vice President in April 1996. He is responsible for Segment Management. From October 1993 to April 1996 he was Passenger Car Segment Manager. From November 1991 to October 1993 he was Fuel Products Group Business Manager. J. A. Thomas Mr. Thomas, age 59, has been Vice President since April 1994. In 1996, he became responsible for managing Corporate Strategies in the Asia Pacific Region. From April 1994 through April 1996, he was responsible for Corporate Planning and Development. From December 1990 to April 1994, he was General Manager-Sales for Asia Pacific, Latin America and the Middle East. All executive officers serve at the pleasure of the Board. -8- 9 PART II ------- ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The common shares of the company are listed on the New York Stock Exchange under the symbol LZ. The number of shareholders of record of common shares was 5,708 as of March 6, 1998. Information relating to the recent price and dividend history of the company's common shares follows:
Common Share Price History Dividends -------------------------- 1997 1996 Per Common Share ---- ---- ---------------- High Low High Low 1997 1996 ---- --- ---- --- ---- ---- 1st quarter $36 $30 1/2 $31 $26 5/8 $ .25 $.24 2nd quarter 42 1/8 30 3/8 30 1/2 27 1/4 .25 .24 3rd quarter 44 7/8 41 15/16 30 1/2 27 7/8 .25 24 4th quarter 46 15/16 34 7/8 32 3/8 28 1/2 .26 .25 ----- ---- $1.01 $.97 ===== ====
ITEM 6. SELECTED FINANCIAL DATA. The summary of selected financial data for each of the last five years included in the Historical Summary contained on pages 38 and 39 of the company's 1997 Annual Report to its shareholders is incorporated herein by reference. Other income (charges) for 1996, 1995, 1994 and 1993 includes $53.3 million, $38.5 million, $41.2 million and $42.4 million, respectively, for gains on sale of investments; and in 1993, a special charge of $86.3 million. In addition, the company changed its method of accounting for postretirement benefits and for income taxes, effective January 1, 1993, to comply with two newly effective accounting standards, which reduced 1993 net income by $39.4 million. Total debt reported in the Historical Summary includes the following amounts classified as long-term at December 31: $182.2 in 1997, $157.6 million in 1996, $194.4 million in 1995, $114.2 million in 1994 and $55.3 million in 1993. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The Management's Discussion and Analysis of Financial Condition and Results of Operations, including the company's cautionary statement for "Safe Harbor" purposes under the Private Securities Litigation Reform Act of 1995, contained on pages 16 through 22, inclusive, of the company's 1997 Annual Report to its shareholders is incorporated herein by reference. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Not applicable. -9- 10 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The consolidated financial statements of the company and its subsidiaries, together with the independent auditors' report relating thereto, contained on pages 22 through 36, inclusive, of the company's 1997 Annual Report to its shareholders, and the Quarterly Financial Data (Unaudited) contained on page 37 of such 1997 Annual Report, are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. PART III -------- ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The information contained under the heading "Election of Directors" on pages 2 to 6, inclusive, of the company's Proxy Statement dated March 18, 1998, is incorporated herein by reference. Information relative to executive officers of the company is contained under "Executive Officers of the Registrant" in Part I of this Annual Report on Form 10-K. The information contained under the heading "Section 16(a) Beneficial Ownership Reporting Compliance" on page 22 of the company's Proxy Statement dated March 18, 1998, is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION. The information relating to executive compensation contained under the headings "Committees and Compensation of the Board of Directors" on pages 6 and 7, "Executive Compensation" on pages 12 through 14, inclusive, and under "Employee and Executive Officer Benefit Plans - Pension Plans" and "- Executive Agreements" on pages 19 through 21, inclusive, of the company's Proxy Statement dated March 18, 1998, is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The information relating to security ownership set forth under the heading "Security Ownership of Directors, Executive Officers and Certain Beneficial Owners" on pages 10 and 11 of the company's Proxy Statement dated March 18, 1998, is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Not applicable. -10- 11 PART IV ------- ITEM 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES, AND REPORTS ON FORM 8-K. (a) Documents filed as part of this Annual Report: 1. The following consolidated financial statements of The Lubrizol Corporation and its subsidiaries, together with the independent auditors' report relating thereto, contained on pages 22 through 37, inclusive, of Lubrizol's 1997 Annual Report to its shareholders and incorporated herein by reference: Independent Auditors' Report Consolidated Statements of Income for the years ended December 31, 1997, 1996 and 1995 Consolidated Balance Sheets at December 31, 1997 and 1996 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1997, 1996 and 1995 Notes to Financial Statements Quarterly Financial Data (Unaudited) 2. Schedules No financial statement schedules are required to be filed as part of this Annual Report. 3. Exhibits (3)(a) Amended Articles of Incorporation of The Lubrizol Corporation, as adopted September 23, 1991. (Reference is made to Exhibit (3)(a) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (3)(b) Regulations of The Lubrizol Corporation, as amended effective April 27, 1992. (Reference is made to Exhibit (3)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (4)(a) Amendment to Article Fourth of Amended Articles of Incorporation. (Reference is made to Exhibits (3)(a) and (4)(a) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibits are incorporated herein by reference.) -11- 12 (4)(b) The company agrees, upon request, to furnish to the Securities and Exchange Commission copies of instruments authorizing long-term debt. No one instrument authorizes debt in excess of 10% of the total assets of the company and its subsidiaries on a consolidated basis. (4)(c) Rights Agreement between The Lubrizol Corporation and American Stock Transfer & Trust Company dated as of October 13, 1997. (Reference is made to Exhibit 4.l to The Lubrizol Corporation's Registration Statement on Form 8-A dated October 1, 1997, which Exhibit is incorporated herein by reference.) (10)(a)* The Lubrizol Corporation 1985 Employee Stock Option Plan, as amended. (Reference is made to Exhibit (10)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (10)(b)* The Lubrizol Corporation Amended Deferred Compensation Plan for Directors. (Reference is made to Exhibit (10)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1994, which Exhibit is incorporated herein by reference.) (10)(c)* Form of Employment Agreement between The Lubrizol Corporation and certain of its senior executive officers. (Reference is made to Exhibit (10)(e) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (10)(d)* The Lubrizol Corporation Excess Defined Benefit Plan, as amended. (Reference is made to Exhibit (10)(d) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(e)* The Lubrizol Corporation Excess Defined Contribution Plan, as amended. (Reference is made to Exhibit (10)(e) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(f)* The Lubrizol Corporation Performance Pay Plan (formerly Variable Award Plan), as amended. (Reference is made to Exhibit (10)(f) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1996, which Exhibit is incorporated herein by reference.) -12- 13 (10)(g)* The Lubrizol Corporation Executive Death Benefit Plan, as amended. (Reference is made to Exhibit (10)(g) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(h)* The Lubrizol Corporation 1991 Stock Incentive Plan, as amended. (Reference is made to Exhibit (10)(h) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1996, which Exhibit is incorporated herein by reference.) (10)(i)* The Lubrizol Corporation Deferred Stock Compensation Plan for Outside Directors, as amended. (Reference is made to Exhibit (10)(i) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1995, which Exhibit is incorporated herein by reference.) (10)(j)* The Lubrizol Corporation Officers' Supplemental Retirement Plan, as amended. (Reference is made to Exhibit (10)(j) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(k)* The Lubrizol Corporation Deferred Compensation Plan for Officers, as amended. (Reference is made to Exhibit (10)(k) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(l)* The Lubrizol Corporation Executive Council Deferred Compensation Plan, as amended. (Reference is made to Exhibit (10)(l) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (12) Computation of Ratio of Earnings to Fixed Charges. (13) The following portions of The Lubrizol Corporation 1997 Annual Report to its shareholders: Pages 16-22 Management's Discussion and Analysis of Financial Condition and Results of Operations Page 22 Independent Auditors' Report Page 23 Consolidated Statements of Income for the years ended December 31, 1997, 1996 and 1995 Page 24 Consolidated Balance Sheets at December 31, 1997 and 1996 Page 25 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995 -13- 14 Page 26 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1997, 1996 and 1995 Pages 27-36 Notes to Financial Statements Page 37 Quarterly Financial Data (Unaudited) Pages 38-39 Historical Summary (21) List of Subsidiaries of The Lubrizol Corporation (23) Consent of Independent Auditors (27) Financial Data Schedule for the year ended December 31, 1997 (27.1) Restated Financial Data Schedules for the periods ended June 30, 1997 and September 30, 1997 (27.2) Restated Financial Data Schedules for the periods ended March 31, 1996 and June 30, 1996 (27.3) Restated Financial Data Schedule for the year ended December 31, 1995 *Indicates management contract or compensatory plan or arrangement. (b) Reports on Form 8-K No reports on Form 8-K were filed during the three months ended December 31, 1997. -14- 15 SIGNATURES Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on March 23, 1998, on its behalf by the undersigned, thereunto duly authorized. THE LUBRIZOL CORPORATION BY /s/ W. G. Bares ---------------------------------------- W. G. Bares, Chairman of the Board, President and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below on March 23, 1998, by the following persons on behalf of the Registrant and in the capacities indicated. /s/ W. G. Bares Chairman of the Board, President and Chief - -------------------------- Executive Officer W. G. Bares (Principal Executive Officer) /s/ R. A. Andreas Vice President and Chief Financial Officer - -------------------------- (Principal Financial Officer) R. A. Andreas /s/ G. P. Lieb Controller, Accounting and Financial - -------------------------- Reporting G. P. Lieb (Principal Accounting Officer) /s/ Edward F. Bell Director - -------------------------- Edward F. Bell /s/ L. E. Coleman Director - -------------------------- L. E. Coleman /s/ Peggy G. Elliott Director - -------------------------- Peggy G. Elliott /s/ Forest J. Farmer, Sr. Director - -------------------------- Forest J. Farmer, Sr. /s/ Gordon D. Harnett Director - -------------------------- Gordon D. Harnett /s/ Victoria F. Haynes Director - -------------------------- Victoria F. Haynes /s/ David H. Hoag Director - -------------------------- David H. Hoag /s/ William P. Madar Director - -------------------------- William P. Madar /s/ Ronald A. Mitsch Director - -------------------------- Ronald A. Mitsch /s/ M. Thomas Moore Director - -------------------------- M. Thomas Moore 16 EXHIBIT INDEX ------------- Exhibits (3)(a) Amended Articles of Incorporation of The Lubrizol Corporation, as adopted September 23, 1991. (Reference is made to Exhibit (3)(a) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (3)(b) Regulations of The Lubrizol Corporation, as amended effective April 27, 1992. (Reference is made to Exhibit (3)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (4)(a) Amendment to Article Fourth of Amended Articles of Incorporation. (Reference is made to Exhibits (3)(a) and (4)(a) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibits are incorporated herein by reference.) (4)(b) The company agrees, upon request, to furnish to the Securities and Exchange Commission copies of instruments authorizing long-term debt. No one instrument authorizes debt in excess of 10% of the total assets of the company and its subsidiaries on a consolidated basis. (4)(c) Rights Agreement between The Lubrizol Corporation and American Stock Transfer & Trust Company dated as of October 13, 1997. (Reference is made to Exhibit 4.l to The Lubrizol Corporation's Registration Statement on Form 8-A dated October 1, 1997, which Exhibit is incorporated herein by reference.) (10)(a)* The Lubrizol Corporation 1985 Employee Stock Option Plan, as amended. (Reference is made to Exhibit (10)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) (10)(b)* The Lubrizol Corporation Amended Deferred Compensation Plan for Directors. (Reference is made to Exhibit (10)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1994, which Exhibit is incorporated herein by reference.) (10)(c)* Form of Employment Agreement between The Lubrizol Corporation and certain of its senior executive officers. (Reference is made to Exhibit (10)(e) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1993, which Exhibit is incorporated herein by reference.) 17 (10)(d)* The Lubrizol Corporation Excess Defined Benefit Plan, as amended. (Reference is made to Exhibit (10)(d) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(e)* The Lubrizol Corporation Excess Defined Contribution Plan, as amended. (Reference is made to Exhibit (10)(e) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(f)* The Lubrizol Corporation Performance Pay Plan (formerly Variable Award Plan), as amended. (Reference is made to Exhibit (10)(f) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1996, which Exhibit is incorporated herein by reference.) (10)(g)* The Lubrizol Corporation Executive Death Benefit Plan, as amended. (Reference is made to Exhibit (10)(g) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(h)* The Lubrizol Corporation 1991 Stock Incentive Plan, as amended. (Reference is made to Exhibit (10)(h) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1996, which Exhibit is incorporated herein by reference.) (10)(i)* The Lubrizol Corporation Deferred Stock Compensation Plan for Outside Directors, as amended. (Reference is made to Exhibit (10)(i) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1995, which Exhibit is incorporated herein by reference.) (10)(j)* The Lubrizol Corporation Officers' Supplemental Retirement Plan, as amended. (Reference is made to Exhibit (10)(j) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(k)* The Lubrizol Corporation Deferred Compensation Plan for Officers, as amended. (Reference is made to Exhibit (10)(k) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) (10)(l)* The Lubrizol Corporation Executive Council Deferred Compensation Plan, as amended. (Reference is made to Exhibit (10)(l) to The Lubrizol Corporation's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1997, which Exhibit is incorporated herein by reference.) 18 (12) Computation of Ratio of Earnings to Fixed Charges. (13) The following portions of The Lubrizol Corporation 1997 Annual Report to its shareholders: Pages 16-22 Management's Discussion and Analysis of Financial Condition and Results of Operations Page 22 Independent Auditors' Report Page 23 Consolidated Statements of Income for the years ended December 31, 1997, 1996 and 1995 Page 24 Consolidated Balance Sheets at December 31, 1997 and 1996 Page 25 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995 Page 26 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1997, 1996 and 1995 Pages 27-36 Notes to Financial Statements Page 37 Quarterly Financial Data (Unaudited) Pages 38-39 Historical Summary (21) List of Subsidiaries of The Lubrizol Corporation (23) Consent of Independent Auditors (27) Financial Data Schedule for the year ended December 31, 1997 (27.1) Restated Financial Data Schedules for the periods ended June 30, 1997 and September 30, 1997 (27.2) Restated Financial Data Schedules for the periods ended March 31, 1996 and June 30, 1996 (27.3) Restated Financial Data Schedule for the year ended December 31, 1995 * Indicates management contract or compensatory plan or arrangement. EX-12 2 EXHIBIT 12 1 EXHIBIT 12 THE LUBRIZOL CORPORATION AND SUBSIDIARIES Computation of Ratio of Earnings to Fixed Charges (all amounts except ratios are shown in thousands)
1997 1996 1995 1994 1993 -------- -------- -------- -------- ------ Pretax income $231,147 $250,608 $225,574 $251,459 $119,651 Deduct earnings of less than 50% owned affiliates (net of distributed earnings) included in pretax income (3,018) (48) (1,384) (871) (2,355) Add losses of less than 50% owned affiliates included in pretax income 66 56 1,808 490 21,063 Add fixed charges net of capitalized interest 10,803 10,955 10,376 3,149 4,154 Add previously capitalized interest amortized during period 1,118 968 1,096 452 272 ------- ------- ------- ------- ------- "Earnings" $240,116 $262,539 $237,470 $254,679 $142,785 ======= ======= ======= ======= ======= Gross interest expense including capitalized interest ("Fixed Charges") $ 13,194 $ 14,010 $ 14,693 $ 6,922 $ 6,292 Ratio of earnings to fixed charges 18.2 18.7 16.2 36.8 22.7 SPECIAL ADJUSTMENTS: "Earnings" $240,116 $262,539 $237,470 $254,679 $142,785 Plus asset impairment and special charges 9,489 86,303 Less gains on investments (53,280) (38,459) (41,235) (42,443) ------- ------- ------- ------- ------- Adjusted "Earnings" $240,116 $209,259 $208,500 $213,444 $186,645 ======= ======= ======= ======= ======= Ratio of adjusted earnings to fixed charges 18.2 14.9 14.2 30.8 29.7
EX-13 3 EXHIBIT 13 1 Exhibit 13 THE LUBRIZOL CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The Lubrizol Corporation is a full-service supplier of performance chemicals and products to diverse markets worldwide. Principally, the company develops, produces and sells specialty additive packages used in transportation and industrial finished lubricants such as gasoline and diesel engine lubricating oils, automatic transmission fluids, gear oils, marine and tractor lubricants, fuel products and industrial fluids. The company's additive packages are generally produced in shared manufacturing facilities and sold largely to a common customer base. These specialty chemical products are created through the application of advanced chemical and mechanical technologies to enhance the performance, quality and value of the products in which they are used. The company also produces and supplies coatings additives, refinery and oil field chemicals, specialty monomers, process chemicals, synthetic refrigerant compressor lubricants, fluid metering devices and particulate emission trap devices. The company estimates the growth rate of the lubricant additive industry is approximately 1% per year. This aggregate growth rate includes mature markets such as North America and Europe, where the majority of the company's business is located, and faster growing markets such as Asia-Pacific and Latin America. The overall growth rate has declined in recent years due to market forces such as improved engine design, longer drain intervals and product specification changes. In addition, customers continue to search for stronger, longer-term relationships with a few key suppliers for help in improving the quality and performance of their products and services and reducing overall costs. These factors, along with excess production capacity within the lubricant additive industry, are causing a more competitive marketplace in certain product lines and continuing pressure on selling prices for the company's products. The company expects this competitive marketplace to continue in 1998. The company has been responding to these challenges. It has entered into and will continue to actively pursue strategic relationships with its customers, the finished lubricant suppliers, in order to increase its share of its customers' business, eliminate redundant costs and jointly pursue growth in developing regions of the world. The company also has various short-term and long-term initiatives relating to its cost structure, such as further consolidation of intermediate production and continuing simplification of its product lines, to further enhance its competitiveness and market leadership position. Progress on these initiatives has resulted in a more cost-efficient organization, and the company believes it is well positioned to compete in the current industry environment and gain additional market share from these opportunities. In addition to growth through market share gains in its traditional business, the company has continued to pursue growth opportunities in certain selected markets. Business growth has been achieved in these markets through acquisitions and application of technologies. 1997 RESULTS OF OPERATIONS In 1997, the company made significant progress with each of its strategies to grow its business, improve its cost structure and build its franchise. During 1997, revenues increased 5% as product shipments increased 17% over 1996 and the company's market share grew. The company continued its focus to improve its cost structure as operating expenses were flat versus 1996, even with significantly higher production throughput. Net income per share in 1997 increased 20%, after excluding from 1996 the gain on investments. This record performance was achieved despite the unfavorable effect on earnings of the stronger U.S. dollar. REVENUES (millions) [GRAPHIC]
1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- Revenues (millions) $1,525.5 $1,599.0 $1,663.6 $1,597.6 $1,673.8
In 1997, the company had record revenues of $1.67 billion, an increase of $76.2 million over 1996. Increased revenues resulted from a 17% increase in specialty chemical shipment volumes (contributing a 15% increase in consolidated revenues), partially offset by a 10% decline in the average selling price. Although the average selling price stabilized during the second half of the year, the full-year decline for 1997 was attributable approximately 50% to changing product mix, 30% to unfavorable currency effects and 20% to lower product pricing. The unfavorable product mix effect resulted from volume gains in product lines having lower than the overall average selling price. On balance, the company's acquisition/divestiture activity did not significantly affect 1997 annual revenues as recent acquisitions offset a prior year disposition. However, acquisitions contributed one-fourth, or $11.4 million, of the 13% increase in consolidated revenues for the fourth quarter of 1997 compared with the fourth quarter of 1996. A primary strategy of the company in 1997 was to grow its business. The company is having success building global and regional alliances with targeted customers and is actively pursuing additional strategic relationships with finished lubricant suppliers. As compared with 1996, sales volume increased throughout the year. Higher sales volumes were realized in all geographic zones and across a broad customer base. In 1997, sales volume increased 14% to North American customers and 18% to international customers, primarily in Asia-Pacific, Western Europe and Latin America. The growth in sales volume was derived principally from market share gains within established markets rather than overall industry growth. 16 2 The company believes the steps it has taken over the past several years have improved its competitive position and led to strong growth in sales volume during 1997. However, the market forces, competitive pressures and economic uncertainty in Asia will continue to present challenges in 1998. In late 1997, currency devaluations, market downturns and general financial uncertainties in Asia have caused economic growth forecasts for this region to be significantly revised for 1998. Although the company believes the economic fundamentals throughout most of the region remain positive for the longer-term, the still developing situation could dampen demand within the region for finished lubricant additives in 1998. The company believes all of these challenging conditions will likely reduce the rate of sales volume growth in 1998. Cost of sales reflects the higher sales volume as well as lower average raw material costs and level manufacturing costs. Compared with the respective prior year periods, average material costs, including favorable currency effects and the impact of less expensive product mix, were 10% lower in the first half of 1997, 6% lower in the second half of 1997 and 8% lower for the year. The company's manufacturing costs do not fluctuate significantly with changes in production volume. The effects of the company's ongoing manufacturing rationalization program and other cost management initiatives have improved manufacturing efficiency as the company is operating fewer manufacturing units at higher capacity levels. Manufacturing costs, aided by currency effects, were flat in 1997 compared with 1996, even though production activity was significantly higher in 1997 and the company resumed pay increases following the salary freeze in effect during 1996. GROSS PROFIT (millions) [GRAPHIC]
1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- Gross profit (millions) $485.4 $520.7 $532.4 $509.5 $545.6
Gross profit (sales less cost of sales) increased $36.2 million, or 7%, in 1997 compared with 1996. This improvement in gross profit amount was after unfavorable currency effects of $20 million, which occurred evenly over the four quarters. Acquisition/divestiture activity contributed $13.0 million to the increase in gross profit for 1997. Gross profit improved to 32.7% of sales in 1997 compared with 32.0% in 1996 as manufacturing efficiencies, lower material costs and the effect of acquisition/divestiture activities more than offset the effect of lower average selling price. Gross profit was 31.4% during the second half of 1997 due to sequentially lower average selling price, higher material costs and the effect of asset impairment losses of $4.4 million principally in the fourth quarter. The company believes the gross profit percentage for the full year 1998 will be approximately the same as the full year 1997. Selling and administrative expenses increased $12.6 million, or 8%, in 1997 compared with 1996. These expenses, which were higher in the second half of the year compared with the first half, increased primarily due to higher patent-related litigation expenses, the effect of acquisitions, incremental expenses related to the implementation of the new enterprise-wide management information system and increased variable compensation as a result of higher earnings. During 1997, research, testing and development expense (technology expense) decreased $14.3 million, or 9%, from 1996. Product standards change periodically as engine and transmission designs are improved by the equipment manufacturers to meet new emissions, efficiency, durability and other performance factors. These changes influence the timing and amount of the company's technology expense. The lower spending level in 1997 was due to the timing of testing programs particularly within the engine oil and gear oil product lines, greater internalization of testing activity that reduced outside testing requirements and workforce reductions. The company's technology expense in 1997 includes some costs related to new performance specifications for heavy-duty engine oils which are expected to become effective during 1998 and new performance specifications for passenger car engine oils expected to become effective during 2000. The company expects its technology expense in 1998 will be slightly higher than in 1997. RESEARCH TESTING & DEVELOPMENT (millions) [GRAPHIC]
1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- Research Testing & Development $171.5 $165.5 $179.6 $161.0 $146.7
As discussed in Note 17 to the financial statements, in 1997, the company provided $9.4 million for the impairment of long-lived assets. These charges related to a shutdown of an intermediate manufacturing system and the write-off of certain computer equipment and legacy software systems that will be disposed of due to the computer equipment standardization project and the new enterprise-wide management information system being implemented. Primarily as a result of these factors, consolidated revenues increased $37.7 million more than the increase in total costs and expenses in 1997. Interest income in 1997 was lower than in 1996 as proceeds from the 1996 sale of investments (discussed below) were temporarily invested in interest-bearing instruments until used in the company's share repurchase program. Interest expense in 1997 was level with 1996. The average daily balance of total debt outstanding during 1997 was $195 million as compared with $188 million in 1996. The company transacts business in over 100 countries and has a number of operating facilities in countries outside of the United States. As a result, the company is subject to business risks inherent in non-U.S. activities, including political and economic uncertainty, import and export limitations, exchange controls and currency fluctuations. The company believes risks related to its foreign operations are mitigated due to the political and economic stability of the countries in which its largest foreign operations are located. While changes in the dollar value of foreign currencies will affect earnings from time to time, the longer term economic effect of these changes should not be significant given the company's net asset exposure, currency mix and pricing flexibility. As the U.S. dollar strengthens or weakens against other international currencies in which the company transacts business, the financial results of the company will be affected. The principal currencies, other than the U.S. dollar, in which the company transacts busi- 17 3 THE LUBRIZOL CORPORATION ness are the French franc, German deutsche mark, British pound sterling and Japanese yen. The U.S. dollar continued to strengthen during 1997, causing an unfavorable effect on net income of approximately $10 million, or $.17 per share. As a result of the factors discussed above and after excluding from 1996 the gain on investments, income before income taxes increased 17%, or $33.8 million, from 1996. The company adjusted its tax provision in the third quarter of 1997 to reflect a legislated increase in the statutory tax rate applicable to its earnings in France, where the company has significant operations. This adjustment resulted in an effective tax rate of 33.0% for the full year 1997 as compared with 31.5% in 1996, after excluding the 1996 gain on investments on which a 35% tax rate applied. The higher effective tax rate reduced net income by $3.5 million, or $.06 per share in 1997. The company anticipates that the 1998 consolidated effective tax rate will increase to approximately 34.5%. Net income in 1997 was $154.9 million, or $2.68 per share. In 1996, net income was $169.8 million, or $2.80 per share, which included investment gains. After excluding from 1996 the non-recurring gains, net income in 1997 was 15% higher than the $135.2 million for 1996. On this same basis, net income per share was 20% higher than the $2.23 per share for 1996, reflecting the company's share repurchase program. 1996 RESULTS OF OPERATIONS IN 1996, management of the company took action early in the year to improve its cost structure as part of its continuing efforts to enhance its efficiency as an additive supplier. Although revenues in 1996 declined 4% from 1995, this was offset by the effects of aggressive cost management and management's focus on strengthening of customer and supplier relationships. In addition, lower working capital, significantly reduced capital expenditures and the sale of non-strategic investments resulted in improved cash flow and enabled the company to repurchase 7% of its common shares outstanding during 1996. As a result, the company was able to grow net income and net income per share, despite unfavorable currency effects. Consolidated revenues were $1.60 billion in 1996, a decrease of $66 million, or 4%, from record 1995 levels. Volume in 1996 was equal with 1995 despite the introduction of a new industry specification discussed below. Revenues decreased 2% due to price/mix effects and 1% due to unfavorable currency effects. In addition, the sale of the specialty vegetable oil business in September 1996 reduced consolidated revenues by 1% as compared with 1995. During 1996, new passenger car engine oil additives were introduced to meet a new U.S. industry specification. Most of the company's customers converted to this new specification by September 1996. This new specification required approximately 10% less additive than the prior specification, and the company estimates that it negatively impacted annual sales volume in North America by 2% in 1996 (1% worldwide). However, other volume gains, primarily in heavy duty engine oils, more than offset the impact from the new specification and overall volume in North America increased 1% over 1995. Internationally, volume declined 1%, as growth in Asia-Pacific was offset by lower volume in Western Europe. Gross profit of $509.5 million was $13.5 million, or 3%, lower in 1996 compared with 1995. Excluding the effects of the $9.5 million asset impairment in 1995 (discussed below), gross profit in 1996 was $23.0 million lower than in 1995. Unfavorable currency effects accounted for one-half of this decline with the balance attributable to lower revenues. However, the company aggressively managed its procurement costs of raw materials and continued its cost management efforts under the manufacturing rationalization initiative discussed below. These efforts lowered the cost of production to maintain 1996 gross profit as a percent of sales at 32.0%, compared to 32.1% in 1995 (excluding asset impairment). The company continued to lower its operating costs through aggressive cost management. This included a worldwide freeze on salary increases and hiring throughout all of 1996 and the manufacturing rationalization and organizational realignment initiatives that began in 1993. Employee levels, excluding acquisitions and divestitures during the year, were reduced by nearly 6% at December 31, 1996, compared with December 31, 1995, as retiring or departing employees were not replaced. The company's manufacturing costs and selling, administrative and technology expenses in 1996 were each lower than in 1995 and, in the aggregate, declined nearly 6%, or $40 million (excluding the effects of the 1995 asset impairment). Currency had a favorable effect on costs and accounted for approximately 25% of this reduction. Technology expense decreased 10% in 1996 compared with 1995. In addition to the effects of cost management strategies discussed above, the decrease was due to reduced testing requirements for product specifications primarily within driveline and engine oils. The effect of currency on technology expenses was not significant. Primarily as a result of the above factors, total costs and expenses declined $75.0 million in 1996 from 1995 ($65.5 million excluding the asset impairment), offsetting the revenue decline for the year. During 1996, the company completed the divestiture of substantially all of its agribusiness assets comprised of its equity investment in Mycogen Corporation and the assets of the company's wholly-owned subsidiary, SVO Specialty Products, Inc. (SVO). These transactions generated cash proceeds of $149.0 million and, after losses on other investment activity, resulted in the $53.3 million ($34.6 million, or $.57 per share after taxes) gain on investments. (See Note 8 to the financial statements.) The company has substantially liquidated its non-strategic investments. As discussed previously, the company conducts a significant amount of its business outside of the United States and is subject to certain related risks including currency fluctuations. The U.S. dollar strengthened during 1996 as compared with exchange rates in effect during 1995, particularly against the French franc, German deutsche mark and Japanese yen, causing an unfavorable effect on 1996 net income of $4.9 million, or $.08 per share. 18 4 THE LUBRIZOL CORPORATION Interest expense, net of interest income, declined $2.4 million in 1996 compared with 1995. Proceeds collected from the sale of investments were used to temporarily reduce commercial paper borrowings and acquire short-term investments until used in the company's share repurchase program. The average daily balance of total debt outstanding during 1996 was $188 million as compared with $203 million in 1995. As a result of the factors discussed above, 1996 net income was $169.8 million, an increase of 12% or $18.2 million from 1995. Net income per share for 1996 was $2.80, or 18% higher than in 1995 and reflected the impact of the company's share repurchase program. Excluding the gains on investments from both years and the provision for asset impairment in 1995, net income increased to $135.2 million from $132.8 million in 1995, a 2% increase. The corresponding net income per share of $2.23 in 1996 was a 7% increase from the $2.08 earnings per share in 1995. 1995 RESULTS OF OPERATIONS In 1995, the company grew revenues but, despite a strong first half, annual earnings declined compared with 1994. As discussed below, the primary factors contributing to the 1995 results were lower demand for engine oil additives particularly during the second half of 1995, the U.S. Government trade restrictions regarding sales to certain customers in the Middle East and the inability to maintain profit margins during a period of rising raw material costs. Consolidated revenues were $1.66 billion, an increase of $64.6 million, or 4%, in 1995 compared with 1994. Price increases implemented in early 1995 and a more favorable product mix increased 1995 revenues by 3% and the translation of various international currencies, which strengthened during the period when compared with the U.S. dollar, increased revenues by 3%. Volume declined 2% from the 1994 level. Sequentially, revenues in the second half of 1995 were 5% lower than the first half due to lower volume (3%) and unfavorable price/product mix (2%). For the year, sales volume declined in 1995 compared with 1994, principally in international markets. North American volume declined less than 1% from 1994. International volume declined 3% mainly because of the cessation of spot business with certain customers in the Middle East due to a U.S. Presidential Order restricting such trade. Excluding from the comparison this 1994 spot business, which occurred during the first half of the year, international volume increased 1%, and worldwide volume in 1995 was even with 1994. Sequentially, volume declined 3% in North America and 4% internationally in the second half compared with the first half of 1995 as demand for engine oil lubricants in North America and Europe weakened, causing lower additive shipment volumes. Gross profit increased slightly to $522.9 million in 1995 from $520.7 million in 1994. Cost of sales in 1995 included a provision for asset impairment of $9.5 million recorded in the fourth quarter of 1995. This charge related primarily to an intermediate processing unit that became permanently impaired due to a change in product formulation caused by a new industry-wide product specification. Excluding the effect of this asset impairment, the amount of gross profit increased in 1995, despite lower volume, as higher average selling prices, aided by favorable currency and mix, more than offset an increase in average material cost of 9%, over half of which was due to the effects of currency and mix. However, gross profit as a percent of sales declined to 32.1% (excluding the asset impairment) in 1995 from 32.7% in 1994 as raw material costs increased faster than selling prices and, combined with slightly higher manufacturing costs and lower volumes, negatively impacted margin percentage. Sequentially, gross profit percentage declined to 30.5% (excluding the asset impairment) in the second half of 1995 compared with 33.6% in the first half due to the effect of unfavorable price/mix, less favorable currency, higher raw material costs and lower volume. The company's manufacturing rationalization and organizational realignment initiatives have slowed the rate of increase in the company's cost and expenses. The company's manufacturing expenses (excluding the asset impairment), as well as its selling and administrative expenses, increased 3% in 1995 as compared with 1994. Excluding increases in expenses due to currency translation and an acquisition made during 1995, manufacturing costs and selling and administrative expenses were each level with the 1994 amounts. Technology expenses increased 9% to $179.6 million. Technology expenses increased, as anticipated, due to worldwide testing programs for the engine oils, driveline oils and fuel products areas together with a greater emphasis on longer-term strategic research. Primarily as a result of the above factors, total cost and expenses increased $16.5 million ($7.0 million excluding the asset impairment loss) more than the increase in total revenues in 1995. The company sold all of its remaining shares of Genentech, Inc. common stock during the first half of 1995 and realized a pretax gain of $38.5 million ($.39 per share after taxes). During 1994, the company had a pretax gain on the sale of Genentech common stock of $41.2 million ($.41 per share after taxes). Other income - net was $7.1 million in 1995 compared with $7.3 million in 1994 (see Note 9 to the financial statements). Other income was impacted by equity losses recognized from the company's investment in Mycogen Corporation and by other transactions involving Mycogen. The company recorded equity losses from Mycogen of $5.4 million in 1995 compared with equity losses of $.1 million in 1994. In late 1995, the company recognized a noncash gain of $4.5 million, representing an increase in the value of the company's ownership interest in the net assets of Mycogen, when Mycogen issued new common shares to another investor. Interest expense increased $7.2 million in 1995 over 1994 as a result of higher average debt outstanding to meet the requirements of the capital expenditure and share repurchase programs. The average daily balance of total debt outstanding during 1995 was $203 million as compared with $111 million in 1994. As discussed previously, the company conducts a significant amount of its business outside of the United States and is subject to certain related risks including currency fluctuations. During 1995, the U.S. dol- 19 5 THE LUBRIZOL CORPORATION lar weakened, primarily against the French franc, German deutsche mark and Japanese yen, when compared with exchange rates in effect during the year 1994. This resulted in 1995 net income being favorably impacted by approximately $.20 per share. As a result of the factors discussed above, income before income taxes decreased 10%, or $25.9 million, from 1994. The company's 1995 effective tax rate was 32.8% as compared with the 1994 rate of 30.2%, which was lower than normal due to charitable donations of appreciated securities made by the company in 1994. After application of the 1995 higher effective tax rate, net income was $151.6 million in 1995, a decrease of 14% or $24.0 million from 1994. Excluding the gains realized from sale of Genentech common stock in 1995 and 1994 and the provision for asset impairment in 1995, net income decreased 11% to $132.8 million in 1995 compared with $148.8 million in 1994. The corresponding earnings per share of $2.08 in 1995 declined 8% compared with $2.26 in 1994. RETURN ON AVERAGE SHAREHOLDERS' EQUITY Return on average shareholders' equity was 19% in 1997, 20% in 1996 (16% excluding gains on investments) and 18% in 1995. RETURN ON EQUITY* (percent) [GRAPHIC]
1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- Return on Equity* (percent) 15% 19% 16% 16% 19%
(Before investment gains, the 1995 provision for Asset Impairment and the 1993 Special Charge and Accounting Changes.) WORKING CAPITAL, LIQUIDITY AND CAPITAL RESOURCES The company's cash flows for the years 1995 through 1997 are presented in the consolidated statements of cash flows. Cash provided from operating activities during 1997 was $234.4 million, a slight increase compared with $231.0 million in 1996 and a significant improvement over the $187.4 million in 1995. This improvement was primarily attributable to the benefits of the company's programs to modify its cost structure and reduce operating costs. In 1997, cash of $13.6 million was used to fund an increase in working capital, primarily receivables and inventory, to support the company's business growth during the year. During 1997 inventory turns improved significantly as inventory quantities remained flat compared with the prior year period even with higher sales volumes. Receivable balances increased in line with the higher revenues of the fourth quarter of 1997 versus the fourth quarter of 1996. The 1997 increase in accounts payable and accrued expenses reflects the increased operating activity between the comparative fourth quarters. In 1996, working capital changes generated cash from operating activities of $16.2 million, including approximately $24 million resulting from management efforts to reduce specialty chemical inventory levels and approximately $22 million related to liquidating inventories and receivables prior to the sale of the company's former specialty vegetable oil (SVO) business in September 1996. Over the past several years the company has divested its marketable securities and its non-strategic assets, primarily agribusiness assets. The after-tax proceeds from these activities have generally been used in the company's share repurchase program discussed below. Proceeds from the sale of investments received during 1997 reflect $9.6 million from the sale of a non-strategic investment and $2.5 million collected on a promissory note from the 1996 sale of certain SVO technology rights. Proceeds from the sale of investments during 1996 were principally comprised of $126.2 million from the sale of Mycogen and $22.8 million from the sale of SVO assets. Proceeds from the sale of investments in 1995 were from the sale of Genentech common stock. (See Note 8 to the financial statements.) CASH PROVIDED FROM OPERATING ACTIVITIES (millions) [Graphic]
1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- Cash Provided from Operating Activities (millions) Cash provided $162.5 $156.8 $187.4 $231.0 $234.4
The company has begun to implement a global enterprise-wide management information system and is standardizing its computer equipment among all of its major facilities. This project supports the company's strategy to improve its cost structure by reducing complexity and increasing efficiency. The project was initiated in 1996, and the company estimates it will require approximately four years to implement the system globally. This system, when fully implemented, will provide immediate, worldwide access to information so that resources will be shared and processes will be standardized and integrated across global sites. During 1997, the principal focus was to design and configure this system for the U.S. implementation. The company expects the system to become operational in the first half of 1998 at its major U.S. facilities, in mid-1999 at its major European facilities and subsequently at its other worldwide facilities. The return on this investment is expected to be realized, beginning in 1999, by reducing costs and delivering products and services more cost-effectively to the company's customers. Capital expenditures in 1997 were $100.7 million compared with $94.3 million in 1996. Approximately 50% of 1997 (65% of 1996) capital expenditures pertained to manufacturing plants to enhance or maintain production capabilities, including maintaining facilities in compliance with environmental and safety regulations. Capital spending for environmental and safety projects totaled $7 million in 1997, $8 million in 1996 and $37 million in 1995. Approximately one-fourth of the 1997 capital expenditures pertained to the new enterprise-wide management information system being implemented by the company (as discussed above). Capital expenditures during 1995 were abnormally high as the company completed several large construction projects to enhance or maintain production and technical capabilities and expand its corporate administrative facilities. The company estimates capital expenditures for 1998 will approximate the 1997 amounts, including a similar amount for the continuation of the multi-year project to implement the new enterprise-wide management information system. CAPITALIZATION (millions) [GRAPHIC]
1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- Capitalization (millions) Equity $732.2 $832.0 $849.0 $819.4 $815.4 Total Debt 69.6 $167.9 $247.1 $198.5 $220.3
20 6 THE LUBRIZOL CORPORATION During 1997, the company invested $21.5 million in several acquisitions in the company's existing business areas of metalworking additives and performance systems. In December 1996, the company acquired a formulator of specialty synthetic lubricants used by original equipment manufacturers in air and refrigeration compressors, for $24.6 million. In addition, the company invested $2.1 million and $2.7 million in 1997 and 1996, respectively, in joint ventures in China. The company maintains an active share repurchase program, and in June 1997 the company's Board of Directors authorized an additional 4 million shares under the program. During 1997, the company repurchased 1.8 million common shares, or 3% of its common shares outstanding at the beginning of the year, for $70.1 million. There were 4.7 million common shares remaining under the company's repurchase authorization at December 31, 1997. In 1996, the share repurchase program was increased to utilize the after-tax proceeds from the sale of investments as the company repurchased 4.5 million, or 7%, of its outstanding shares for $135.2 million. The company intends to repurchase approximately $80 million of its common shares during 1998. Debt increased during 1997 primarily to finance several acquisitions and the increase in working capital. During 1996, improved cash flow and lower capital expenditures enabled the company to have net repayments of short- and long-term debt of $43.6 million. In June 1995, the company publicly issued $100 million of 7.25%, 30-year debentures and used the net proceeds to repay a portion of the commercial paper borrowings then outstanding. Debt as a percent of capitalization (shareholders' equity plus short- and long-term debt) was 21% at December 31, 1997, compared with 20% at December 31, 1996. The company believes its percentage of debt to capitalization will increase to 25% to 30% during 1998 in order to fund possible acquisitions and its share repurchase program. The company's financial position continues to be strong with a ratio of current assets to current liabilities of 2.5 to 1 at December 31, 1997, compared with 2.6 to 1 at December 31, 1996. At December 31, 1997, the company had unused revolving credit agreements and other credit lines aggregating $95 million. As described in Note 5 to the financial statements, the company has the ability to refinance up to $56.6 million of its outstanding commercial paper on a long-term basis under existing revolving credit agreements. The company believes its credit facilities, internally generated funds and ability to obtain additional financing, if desired, will be sufficient to meet its future capital needs. The company is involved in patent litigation with Exxon Corporation in various countries. Refer to Note 18 to the financial statements for further discussion regarding this litigation. The company relies on its computer-based management information systems, as well as computer-based systems used for other purposes, in conducting its normal business activities. Certain of these computer-based programs may not have been designed to function properly with respect to the application of dating systems relating to the Year 2000. The company has a global "Year 2000" compliance strategy designed so that all of its computer-based systems, including process control, testing and laboratory equipment and embedded systems, will function without disruption with respect to dating system applications relating to the Year 2000. Implementation of the new enterprise-wide management information system is a key component of the company's strategy for its operation of particular computer-based systems without disruption in the Year 2000. In addition, the company is in the process of assessing the actions to be taken with respect to all of its other systems in order to avoid Year 2000-related disruptions and is targeting completion of all remedial activities by mid-1999. The company's compliance strategy includes obtaining assurance from other entities critical to its business, such as suppliers and customers, regarding their ability to operate their systems in the Year 2000. Except for expenditures related to the new enterprise-wide management information system (as discussed above), the company is not yet able to estimate the total costs of conducting its Year 2000 remedial activities. However, based upon information developed to date, the company believes it has adequate liquidity and capital resources to fund all remediation activities, and that (except for those costs related to the new enterprise-wide management information system) the total costs of Year 2000 remediation activities will not be material to the company's results of operations or financial condition. The company expects to complete its Year 2000 activities within a time frame that will enable its computer-based systems to function without significant disruption in the Year 2000. CAUTIONARY STATEMENT FOR "SAFE HARBOR" PURPOSES UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This report, including Management's Discussion and Analysis of Financial Condition and Results of Operations and the letter "To Our Shareholders" from W. G. Bares, Chairman, President and Chief Executive Officer of the company, contains forward-looking statements within the meaning of the federal securities laws. As a general matter, forward-looking statements are those focused upon future plans, objectives or performance as opposed to historical items and include statements of anticipated events or trends and expectations and beliefs relating to matters not historical in nature. Such forward-looking statements are subject to uncertainties and factors relating to the company's operations and business environment, all of which are difficult to predict and many of which are beyond the control of the company, that could cause actual results of the company to differ materially from those matters expressed in or implied by such forward-looking statements. The company believes that the following factors, among others, could affect its future performance and cause actual results of the company to differ materially from those expressed or implied by forward-looking statements made by or on behalf of the company: - - the overall demand for lubricant additives on a worldwide basis, which has a slow growth rate in mature markets such as North America and Europe; - - the lubricant additive demand in Asia-Pacific and Latin America, which has been growing at significantly higher rates than mature markets, along with lubricant additive demand in developing regions such as China and India, which geographic areas are an announced focus of the company's activities; - - the effect on the company's business resulting from the economic uncertainty within certain countries of the Asia-Pacific region; 21 7 THE LUBRIZOL CORPORATION - - technology developments that affect longer-term trends for lubricant additives, such as: improved engine design, fuel economy, longer oil drain intervals and emission system compatibility; - - the company's success at continuing to develop proprietary technology to meet or exceed new industry performance standards and individual customer expectations; - - the frequency of change in industry performance standards, which affects the level and timing of the company's technology costs, the product life cycles and the relative quantity of additives required for new specifications; - - the rate of progress in continuing to reduce complexities and conversion costs and in modifying the company's cost structure to maintain and enhance its competitiveness; - - the success of the company in strengthening and retaining relationships with lubricant additive customers, growing sales at targeted accounts, and expanding geographically; - - the extent to which the company is successful in expanding beyond its core lubricant additives businesses; - - the recoveries, judgments, costs and future impact of legal proceedings, including those relating to intellectual property litigation with Exxon Corporation and its affiliates; - - the potential impact of consolidation among lubricant additive manufacturers; - - the relative degree of price pressure for lubricant additives; - - the cost, availability and quality of raw materials, including petroleum-based products, required for the manufacture of lubricant additives; - - the effects of fluctuations in currency exchange rates upon the company's reported results from its international operations, together with non currency risks of investing in and conducting significant operations in foreign countries, including those relating to political, social, economic, and regulatory factors; - - the ability to achieve and timing of cost efficiencies resulting from the multi-year program to implement the new enterprise-wide management information system; - - the ability of the company to operate its computer-based systems without significant disruption due to dating systems application in the Year 2000; and - - changes in significant government regulations affecting environmental compliance. - -------------------------------------------------------------------------------- INDEPENDENT AUDITORS' REPORT [DELOITTE & TOUCHE LLP LOGO] TO THE SHAREHOLDERS AND BOARD OF DIRECTORS OF THE LUBRIZOL CORPORATION We have audited the accompanying consolidated balance sheets of The Lubrizol Corporation and its subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of The Lubrizol Corporation and its subsidiaries at December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1997 in conformity with generally accepted accounting principles. /s/ Deloitte & Touche LLP Cleveland, Ohio February 5, 1998 22 8 THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF INCOME
Year Ended December 31 ----------------------------------------------- (In Thousands of Dollars Except Per Share Data) 1997 1996 1995 - ----------------------------------------------------------------------------------------------- Net sales ................................ $ 1,669,251 $ 1,592,877 $ 1,657,821 Royalties and other revenues ............. 4,531 4,685 5,773 ----------- ----------- ----------- Total revenues .................... 1,673,782 1,597,562 1,663,594 Cost of sales ............................ 1,123,602 1,083,394 1,134,875 Selling and administrative expenses ...... 171,244 158,633 163,493 Research, testing and development expenses 146,678 160,978 179,649 ----------- ----------- ----------- Total cost and expenses ........... 1,441,524 1,403,005 1,478,017 Gain on investments ...................... 53,280 38,459 Other income - net ....................... 5,104 6,012 7,150 Interest income .......................... 4,588 7,714 4,764 Interest expense ......................... (10,803) (10,955) (10,376) ----------- ----------- ----------- Income before income taxes ............... 231,147 250,608 225,574 Provision for income taxes ............... 76,278 80,806 73,959 ----------- ----------- ----------- Net income ............................... $ 154,869 $ 169,802 $ 151,615 =========== =========== =========== Net income per share ..................... $ 2.68 $ 2.80 $ 2.37 =========== =========== =========== Net income per share, diluted ............ $ 2.66 $ 2.79 $ 2.37 =========== =========== =========== Dividends per share ...................... $ 1.01 $ .97 $ .93 =========== =========== ===========
The accompanying notes to financial statements are an integral part of these statements. 23 9 THE LUBRIZOL CORPORATION CONSOLIDATED BALANCE SHEETS
December 31 ---------------------------------- (In Thousands of Dollars) 1997 1996 - -------------------------------------------------------------------------------------------------------------- ASSETS Cash and short-term investments .......................................... $ 86,504 $ 55,073 Receivables .............................................................. 273,505 238,401 Inventories .............................................................. 260,118 251,905 Other current assets ..................................................... 36,949 39,720 ----------- ----------- Total current assets .............................................. 657,076 585,099 ----------- ----------- Property and equipment - at cost ......................................... 1,513,824 1,529,187 Less accumulated depreciation ............................................ 821,147 821,873 ----------- ----------- Property and equipment - net ...................................... 692,677 707,314 ----------- ----------- Investments in nonconsolidated companies ................................. 25,904 29,821 Other assets ............................................................. 86,635 79,881 ----------- ----------- TOTAL ...................................................... $ 1,462,292 $ 1,402,115 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt .................... $ 38,095 $ 40,871 Accounts payable ......................................................... 127,347 99,676 Income taxes and other current liabilities ............................... 96,488 86,563 ----------- ----------- Total current liabilities ......................................... 261,930 227,110 ----------- ----------- Long-term debt ........................................................... 182,165 157,628 Postretirement health care obligation .................................... 105,962 105,463 Noncurrent liabilities ................................................... 42,878 47,284 Deferred income taxes .................................................... 53,909 45,254 ----------- ----------- Total liabilities ................................................. 646,844 582,739 ----------- ----------- Contingencies and commitments Preferred stock without par value - unissued Common shares without par value - outstanding 56,966,894 shares in 1997 and 58,522,676 shares in 1996 .......................... 82,669 78,534 Retained earnings ........................................................ 773,184 744,310 Accumulated other comprehensive income (loss) ............................ (40,405) (3,468) ----------- ----------- Total shareholders' equity ........................................ 815,448 819,376 ----------- ----------- TOTAL ...................................................... $ 1,462,292 $ 1,402,115 =========== ===========
The accompanying notes to financial statements are an integral part of these statements. 24 10 THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31 ------------------------------------------- (In Thousands of Dollars) 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------- CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income ............................................... $ 154,869 $ 169,802 $ 151,615 Adjustments to reconcile net income to cash provided by operating activities: Depreciation and amortization ....................... 87,217 80,964 74,247 Deferred income taxes ............................... 8,585 23,074 16,899 Provision for asset impairments ..................... 9,360 9,489 Gain on investments ................................. (53,280) (38,459) Change in current assets and liabilities, net of acquisitions and dispositions: Receivables ..................................... (47,313) 9,834 (386) Inventories ..................................... (16,919) 46,658 (7,885) Accounts payable and accrued expenses ........... 46,524 (38,693) (3,768) Other current assets ............................ 4,101 (1,610) (175) Change in noncurrent liabilities .................... (169) (1,317) (2,486) Other items - net ................................... (11,889) (4,430) (11,729) --------- --------- --------- Total operating activities ................. 234,366 231,002 187,362 INVESTING ACTIVITIES: Proceeds from sale of investments ........................ 12,117 149,603 40,160 Capital expenditures ..................................... (100,700) (94,297) (189,259) Acquisitions and investments in nonconsolidated companies (23,636) (27,309) (3,521) Other - net .............................................. 5,164 4,357 3,654 --------- --------- --------- Total investing activities ................. (107,055) 32,354 (148,966) FINANCING ACTIVITIES: Short-term borrowing (repayment) ......................... 26,772 (52,890) (18,676) Long-term borrowing ...................................... 5,572 28,425 100,064 Long-term repayment ...................................... (4,159) (19,141) (2,746) Dividends paid ........................................... (58,469) (59,033) (59,414) Common shares purchased, net of options exercised ........ (63,391) (133,926) (64,792) --------- --------- --------- Total financing activities ................. (93,675) (236,565) (45,564) Effect of exchange rate changes on cash .................. (2,205) (2,297) 1,368 --------- --------- --------- Net increase (decrease) in cash and short-term investments 31,431 24,494 (5,800) Cash and short-term investments at the beginning of year . 55,073 30,579 36,379 --------- --------- --------- Cash and short-term investments at the end of year ....... $ 86,504 $ 55,073 $ 30,579 ========= ========= =========
The accompanying notes to financial statements are an integral part of these statements. 25 11 THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Shareholders' Equity -------------------------------------------------- Number of Accumulated Other Shares Common Retained Comprehensive (Dollars in Thousands) Outstanding Shares Earnings Income (Loss) Total - --------------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1994.............................. 64,844,560 $84,059 $ 734,533 $ 13,447 $ 832,039 --------- Comprehensive income: Net income 1995...................................... 151,615 151,615 Other comprehensive income (loss).................... (10,465) (10,465) --------- Comprehensive income.................................... 141,150 Cash dividends.......................................... (59,414) (59,414) Common shares - treasury: Shares purchased..................................... (1,982,969) (2,604) (63,987) (66,591) Shares issued upon exercise of stock options......... 89,697 1,799 1,799 ---------- ------- --------- -------- --------- BALANCE, DECEMBER 31, 1995.............................. 62,951,288 83,254 762,747 2,982 848,983 --------- Comprehensive income: Net income 1996...................................... 169,802 169,802 Other comprehensive income (loss).................... (6,450) (6,450) --------- Comprehensive income.................................... 163,352 Cash dividends.......................................... (59,033) (59,033) Common shares - treasury:............................... Shares purchased..................................... (4,496,427) (5,982) (129,206) (135,188) Shares issued upon exercise of stock options......... 67,815 1,262 1,262 ---------- ------- --------- -------- --------- BALANCE, DECEMBER 31, 1996............................. 58,522,676 78,534 744,310 (3,468) 819,376 --------- Comprehensive income: Net income 1997..................................... 154,869 154,869 Other comprehensive income (loss)................... (36,937) (36,937) --------- Comprehensive income................................... 117,932 Cash dividends......................................... (58,469) (58,469) Common shares - treasury: Shares purchased................................... (1,812,841) (2,538) (67,526) (70,064) Shares issued upon exercise of stock options....... 257,059 6,673 6,673 ---------- ------- --------- -------- --------- BALANCE, DECEMBER 31, 1997............................ 56,966,894 $82,669 $ 773,184 $(40,405) $ 815,448 ========== ======= ========= ======== =========
The accompanying notes to financial statements are an integral part of these statements. 26 12 THE LUBRIZOL CORPORATION NOTES TO FINANCIAL STATEMENTS (In Thousands of Dollars Unless Otherwise Indicated) NOTE 1 - NATURE OF OPERATIONS The Lubrizol Corporation is a full-service supplier of performance chemicals and products to diverse markets worldwide. Principally, the company develops, produces and sells specialty additive packages used in transportation and industrial finished lubricants such as gasoline and diesel engine lubricating oils, automatic transmission fluids, gear oils, marine and tractor lubricants, fuel products and industrial fluids. The company's additive packages are generally produced in shared manufacturing facilities and sold largely to a common customer base. These specialty chemical products are created through the application of advanced chemical and mechanical technologies to enhance the performance, quality and value of the products in which they are used. The company also produces and supplies coatings additives, refinery and oil field chemicals, specialty monomers, process chemicals, synthetic refrigerant compressor lubricants, fluid metering devices and particulate emission trap devices. The company's sales and receivables are concentrated in the oil and chemical industries. The company's additive customers consist primarily of oil refiners and independent oil blenders and are located in more than 100 countries. Approximately 40% of the company's sales are made to customers in North America, 30% in Europe and 30% in Asia-Pacific, the Middle East and Latin America. The ten largest customers, most of which are international oil companies and a number of which are groups of affiliated entities, comprised approximately 44% of consolidated sales in 1997, 1996 and 1995. The largest single customer, including its affiliated entities, in each year accounted for 10% of sales in 1997, 1996 and 1995. NOTE 2 - ACCOUNTING POLICIES CONSOLIDATION - The consolidated financial statements include the accounts of The Lubrizol Corporation and its subsidiaries where ownership is 50% or greater and the company has effective controlling financial interest. For nonconsolidated companies (affiliates), the equity method of accounting is used when ownership, unless temporary, exceeds 20% and when the company has the ability to exercise significant influence over the policies of the investee. ESTIMATES - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions pending completion of related events. These estimates and assumptions affect the amounts reported at the date of the financial statements for assets, liabilities, revenues and expenses and the disclosure of contingencies. Actual results could differ from those estimates. CASH EQUIVALENTS - The company generally invests its excess cash in short-term investments with various banks and financial institutions. Short-term investments are cash equivalents, as they are part of the cash management activities of the company and are comprised primarily of investments having maturities of three months or less when purchased. INVENTORIES - Inventories are stated at cost which is not in excess of market. Cost of inventories is determined by the first-in, first-out (FIFO) method except for chemical inventories within the United States, which use the last-in, first-out (LIFO) method. DEPRECIATION AND AMORTIZATION - Accelerated depreciation methods are used in computing depreciation on certain machinery and equipment which comprise approximately 25% of the depreciable assets. The remaining assets are depreciated using the straight-line method. The estimated useful lives are 10 to 40 years for buildings and land improvements and range from 3 to 20 years for machinery and equipment. Amortization of intangible and other assets is on a straight-line method over periods ranging from 5 to 25 years. RESEARCH, TESTING AND DEVELOPMENT - Research, testing and development costs are expensed as incurred. Research and development expenses, excluding testing, were $88.4 million, $93.4 million and $104.9 million in 1997, 1996 and 1995, respectively. FOREIGN CURRENCY TRANSLATION - The assets and liabilities of non-U.S. subsidiaries are translated into U.S. dollars at exchange rates in effect at the balance sheet date. Operating results are translated at weighted average exchange rates in effect during the period. Net unrealized translation gains (losses) are recorded as a component of other comprehensive income. PER SHARE AMOUNTS - Net income per share is computed by dividing net income by average common shares outstanding during the period. Net income per share, diluted, includes the dilution effect resulting from outstanding stock options and stock awards. In February 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Standards (SFAS) 128 - Earnings Per Share, which became effective for the company's December 31, 1997, financial statements. Per share amounts determined in accordance with SFAS 128, which did not significantly affect previously reported amounts, are computed as follows: 27 13 THE LUBRIZOL CORPORATION
1997 1996 1995 -------- -------- -------- Numerator: Net income available to common shareholders .......... $154,869 $169,802 $151,615 ======== ======== ======== Denominator: Weighted average common shares outstanding ........... 57,843 60,694 63,840 Dilutive effect of stock options and awards .......... 386 109 221 -------- -------- -------- Denominator for net income per share, diluted ............. 58,229 60,803 64,061 ======== ======== ======== Net income per share .............. $ 2.68 $ 2.80 $ 2.37 ======== ======== ======== Net income per share, diluted ........................ $ 2.66 $ 2.79 $ 2.37 ======== ======== ========
SHARE REPURCHASES - The company has an active program to repurchase its common shares and utilizes the par value method of accounting for its treasury shares. Under this method, the cost to reacquire shares in excess of paid-in capital related to those shares is charged against retained earnings. DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION - Under currently effective accounting standards, the company operates in a single reportable segment. Information regarding the industry in which the company operates, its customers and geographic areas is presented in Notes 1 and 14. In June 1997, the FASB issued SFAS 131 - Disclosures About Segments of an Enterprise and Related Information, which becomes effective for the company in 1998. SFAS 131 redefines how operating segments are determined and requires disclosure of certain financial and descriptive information about a company's operating segments. The company has not yet completed its analysis of SFAS 131 and accordingly has not yet determined what effect, if any, it may have on future financial statement disclosures. NOTE 3 - INVENTORIES
1997 1996 -------- -------- Finished products ............................ $ 94,010 $ 88,176 Products in process .......................... 67,246 77,910 Raw materials ................................ 81,079 66,590 Supplies and engine test parts ............... 17,783 19,229 -------- -------- $260,118 $251,905 ======== ========
Inventories on the LIFO method were 29% and 25% of consolidated inventories at December 31, 1997 and 1996, respectively. The current replacement cost of these inventories exceeded the LIFO cost at December 31, 1997 and 1996, by $43.7 million and $49.1 million, respectively. NOTE 4 - INVESTMENTS IN NONCONSOLIDATED COMPANIES
1997 1996 ------- ------- Investments carried at equity ................ $25,039 $22,551 Investments available-for-sale ............... 6,234 Investments carried at cost .................. 865 1,036 ------- ------- $25,904 $29,821 ======= =======
At December 31, 1996, the company held an investment in securities of a publicly traded company which was classified as available-for-sale and whose market value approximated its costs. In early 1997, these securities were sold, and the realized pretax gain on sale of these investments of $3.4 million was included in other income. NOTE 5 - SHORT-TERM AND LONG-TERM DEBT
1997 1996 --------- --------- Long-term debt consists of: 7.25% debentures, due 2025 ................... $ 100,000 $ 100,000 Debt supported by long-term banking arrangements: Commercial paper at weighted average rates of 6.4% ................... 35,000 6.5% Marine terminal refunding revenue bonds, due 2000 ................. 18,375 18,375 Term loans: Dollar denominated, at 5.0%, due 2000 ................................ 5,544 Yen denominated, at 2.0% to 5.8%, due 1998 - 2002 ......................... 19,450 26,232 Deutsche mark denominated, at 4.9% due 1999 ........................ 14,460 16,884 Other 4.3%, due 2004 - 2008 .................. 366 403 --------- --------- 193,195 161,894 Less current portion ......................... (11,030) (4,266) --------- --------- $ 182,165 $ 157,628 ========= ========= Short-term debt consists of: Commercial paper at weighted average rates of 6.4% and 6.0% ............ $ 18,900 $ 34,200 Other short-term debt at weighted average rates of 1.4% and 3.3% ............ 8,165 2,405 Current portion of long-term debt ............ 11,030 4,266 --------- --------- $ 38,095 $ 40,871 ========= =========
The company publicly issued debentures in June 1995 in the aggregate principal amount of $100 million. These debentures are unsecured, senior obligations of the company that mature on June 15, 2025, and bear interest at an annualized rate of 7.25% payable semi-annually on June 15 and December 15 of each year. The debentures are not redeemable prior to maturity and are not subject to any sinking fund requirements. 28 14 THE LUBRIZOL CORPORATION Commercial paper debt is due within one year. The company has credit facilities, which were unused at December 31, 1997, aggregating $95 million, including $75 million in committed revolving credit agreements which would permit the company to borrow at or below the U.S. prime rate. These facilities permit the company to refinance for a period beyond one year the amount due under the Marine Terminal Refunding Revenue Bonds, whose bondholders have the right to put the bonds back to the company, and up to $56.6 million of commercial paper borrowings. Accordingly, the company classified the portion of commercial paper borrowings expected to remain outstanding throughout the following year as long-term at each balance sheet date. Amounts due on long-term debt are $11.0 million in 1998, $19.0 million in 1999, $26.2 million in 2000, $1.4 million in 2001, $35.4 million in 2002 and $100.2 million thereafter. The company has an interest rate swap agreement that effectively converts variable rate interest payable on $18.4 million of Marine Terminal Refunding Revenue Bonds due July 1, 2000, to a fixed rate of 6.5%. The company also has interest rate swap agreements, which expire in March 2005, that exchange variable rate interest obligations on a $50 million notional principal amount for a fixed payment obligation of 7.6% (see Note 15). Interest paid, net of amounts capitalized, amounted to $10.9 million, $10.4 million and $9.8 million during 1997, 1996 and 1995, respectively. The company capitalizes interest on qualifying capital projects. The amount of interest capitalized during 1997, 1996 and 1995 amounted to $2.1 million, $3.0 million and $4.3 million, respectively. NOTE 6 - OTHER BALANCE SHEET INFORMATION
Receivables: 1997 1996 -------- -------- Customers ............................ $243,232 $213,308 Affiliates ........................... 7,727 6,582 Other ................................ 22,546 18,511 -------- -------- $273,505 $238,401 ======== ========
Receivables are net of allowance for doubtful accounts of $1.4 million in 1997 and $1.2 million in 1996.
Property and Equipment: 1997 1996 ---------- ---------- Land and improvements .................... $ 102,831 $ 105,071 Buildings and improvements ............... 270,237 274,420 Machinery and equipment .................. 1,059,575 1,081,850 Construction in progress ................. 81,181 67,846 ---------- ---------- $1,513,824 $1,529,187 ========== ==========
In 1996, the company began a multi-year project to implement a new enterprise-wide management information system to support its global information processing and access needs. Costs were expensed as incurred during the assessment and preliminary project design stages of this project. Direct internal and external costs for qualifying activities during the application development and implementation stages of this project are capitalized as property and equipment. Capitalized costs relating to this project were $26.0 million in 1997 and $2.3 million in 1996. Capitalized costs will be amortized over the estimated useful life of seven years beginning when each respective site installation is complete and ready for its intended use. Depreciation and amortization of property and equipment was $82.7 million in 1997, $78.7 million in 1996 and $71.8 million in 1995.
Other Assets: 1997 1996 ------- ------- Goodwill and other intangibles ............... $58,066 $46,585 Deferred income taxes ........................ 2,061 4,149 Other ........................................ 26,508 29,147 ------- ------- $86,635 $79,881 ======= =======
During 1997, 1996 and 1995, the company made cash acquisitions of, or investments in, several companies. These acquisitions were recorded under the purchase method of accounting, including recognizing goodwill for amounts paid in excess of the fair value of identifiable assets acquired. The acquired companies have not had a material effect on the company's consolidated results of operations during 1997, 1996 or 1995. Accumulated amortization of intangible and other assets was $16.3 million and $12.2 million at December 31, 1997 and 1996, respectively.
Income Taxes and Other Current Liabilities: 1997 1996 ------- ------- Employee compensation ...................... $34,757 $35,463 Income taxes ............................... 25,509 12,914 Taxes other than income .................... 12,105 10,893 Other ...................................... 24,117 27,293 ------- ------- $96,488 $86,563 ======= ======= Noncurrent Liabilities: 1997 1996 ------- ------- Employee benefits .......................... $27,867 $33,239 Other ...................................... 15,011 14,045 ------- ------- $42,878 $47,284 ======= =======
29 15 THE LUBRIZOL CORPORATION NOTE 7 - SHAREHOLDERS' EQUITY The company has 147 million authorized shares consisting of 2 million shares of serial preferred stock, 25 million shares of serial preference shares and 120 million common shares, each of which is without par value. Common shares outstanding exclude common shares held in treasury of 29,229,000 and 27,673,218 at December 31, 1997 and 1996, respectively. The company has a shareholder rights plan under which one right to buy one-half common share has been distributed for each common share held. The rights may become exercisable under certain circumstances involving actual or potential acquisitions of 20% or more of the common shares by a person or affiliated persons who acquire such stock without complying with the requirements of the company's articles of incorporation. The rights would entitle shareholders, other than such person or affiliated persons, to purchase common shares of the company or of certain acquiring persons at 50% of then current market value. At the option of the directors, the rights may be exchanged for common shares, and may be redeemed in cash, securities or other consideration. The rights will expire in 2007 unless earlier redeemed. In June 1997, FASB issued SFAS 130 - Reporting Comprehensive Income, which becomes effective in 1998; however, earlier application is permitted. SFAS 130 requires presentation of comprehensive income (net income plus all other changes in net assets from non owner sources) and its components in the financial statements. The company elected to early adopt SFAS 130 and has changed the format of its consolidated statements of shareholders' equity to present comprehensive income. Components of other comprehensive income (loss) consists of the following:
1997 1996 1995 -------- -------- -------- Foreign currency translation adjustments .................... $(36,941) $ (6,663) $ 12,957 Change in unrealized gains on marketable securities ....... (35,645) Income tax benefit ................ 4 213 12,223 -------- -------- -------- Other comprehensive income (loss) .................. $(36,937) $ (6,450) $(10,465) ======== ======== ========
The change in unrealized gain on marketable securities during 1995 includes reclassification adjustments for $38.5 million of gains realized in income from the sale of the securities. The 1995 income tax benefit includes a benefit of $12.5 million related to the change in unrealized gain (including $13.5 million for reclassification of realized gains). Accumulated other comprehensive income or loss shown in the consolidated statements of shareholders' equity at December 31, 1997, 1996 and 1995 is solely comprised of the accumulated foreign currency translation adjustment, net of tax effects. NOTE 8 - GAIN ON INVESTMENTS In 1996, the company sold its investments in Mycogen Corporation and Agrigenetics, Inc., for cash of $126.2 million. The company also sold certain rights to its SVO oilseed technology for $8.0 million, of which $2.0 million was collected in 1996, $2.5 million collected in 1997 and $3.5 million collected in January 1998. Also, in September 1996, the company sold substantially all the remaining assets of SVO for cash of $20.8 million. These transactions resulted in pretax gains of $57.3 million. Losses on other investment activity reduced the gain on investments to $53.3 million. On an after-tax basis, these gains contributed $.57 to 1996 net income per share. During the first half of 1995, the company sold all of its remaining shares of Genentech Inc. common stock and received proceeds of $40.2 million, generating gross realized gains of $38.5 million. On an after-tax basis these gains contributed $.39 to 1995 net income per share. The company determined the gross realized gains using the average cost method. The investment in Genentech was reported at fair value in the company's balance sheets, until sold, as investments available-for-sale, with changes in unrealized gains recorded as a component of other comprehensive income in shareholders' equity. NOTE 9 - OTHER INCOME Other income - net consists of the following:
1997 1996 1995 ------- ------- ------- Equity earnings (losses) of nonconsolidated companies ........................ $ 4,804 $ 4,350 $(2,081) Gain on investee stock issuance ................... 4,530 Other - net ......................... 300 1,662 4,701 ------- ------- ------- $ 5,104 $ 6,012 $ 7,150 ======= ======= =======
Other income in 1995 reflects equity losses from Mycogen of $5.4 million and preferred dividend income of $1.5 million. Gains on investee stock issuance represents a noncash gain, from the increase in the value of the company's ownership interest in the net assets of Mycogen, due to Mycogen's issuance of new shares at a price in excess of the company's carrying value per share. 30 16 THE LUBRIZOL CORPORATION NOTE 10 - INCOME TAXES The provision for income taxes is based upon income before tax for financial reporting purposes. Deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the tax bases of assets and liabilities and their carrying values for financial reporting purposes. In estimating future tax consequences, the company considers anticipated future events, except changes in tax laws or rates, which are recognized when enacted. Income before income taxes consists of the following: 1997 1996 1995 -------- -------- -------- United States ............... $154,589 $196,390 $136,801 Foreign ..................... 76,558 54,218 88,773 -------- -------- -------- Total ....................... $231,147 $250,608 $225,574 ======== ======== ======== The provision for income taxes consists of the following:
1997 1996 1995 -------- -------- -------- Current: United States .............. $ 35,556 $ 39,688 $ 28,294 Foreign .................... 32,137 18,044 28,766 -------- -------- -------- 67,693 57,732 57,060 -------- -------- -------- Deferred: United States .............. 8,784 16,842 8,334 Foreign .................... (199) 6,232 8,565 -------- -------- -------- 8,585 23,074 16,899 -------- -------- -------- Total ...................... $ 76,278 $ 80,806 $ 73,959 ======== ======== ========
Foreign taxes include withholding taxes. The United States tax provision includes the U.S. tax on foreign income distributed to the company. The company increased its 1997 tax provision by approximately $3.5 million primarily to reflect a legislated increase in the statutory tax rate applicable to its earnings in France, where the company has significant operations. The differences between the provision for income taxes at the U.S. statutory rate and the tax shown in the consolidated statements of income are summarized as follows:
1997 1996 1995 -------- -------- -------- Tax at statutory rate of 35% ...... $ 80,901 $ 87,713 $ 78,951 Foreign sales corporation earnings ........... (4,704) (3,477) (4,389) Equity income ..................... (2,775) (1,324) (856) Other - net ....................... 2,856 (2,106) 253 -------- -------- -------- Provision for income taxes ........ $ 76,278 $ 80,806 $ 73,959 ======== ======== ========
The tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities at December 31 are as follows:
1997 1996 --------- --------- Deferred tax assets: Accrued compensation and benefits ........... $ 43,251 $ 39,522 Intercompany profit in inventory ............ 13,223 13,107 Net operating losses carried forward ........ 15,217 13,131 Other ....................................... 4,045 4,949 --------- --------- Total gross deferred tax assets ................ 75,736 70,709 Less valuation allowance ....................... (4,179) (4,239) --------- --------- Net deferred tax assets ........................ 71,557 66,470 Deferred tax liabilities: Depreciation and other basis differences ......................... 90,151 75,869 Undistributed foreign equity income ......... 3,626 4,672 Inventory basis differences ................. 2,588 3,920 Other ....................................... 4,657 3,804 --------- --------- Total gross deferred tax liabilities ........... 101,022 88,265 --------- --------- Net deferred tax assets (liabilities) .......... $ (29,465) $ (21,795) ========= =========
At December 31, 1997, certain foreign subsidiaries have net operating loss carryforwards of $40.6 million for income tax purposes, of which $8.8 million expires in years 2000 through 2004 and $31.8 million has no expiration. After evaluating tax planning strategies and historical and projected profitability, a valuation allowance has been recognized to reduce the deferred tax assets related to those carryforwards to the amount expected to be realized. The net change in the total valuation allowance for the years ended December 31, 1997, 1996 and 1995, was a decrease of $.1 million, an increase of $.7 million and an increase of $3.6 million, respectively. U.S. income taxes or foreign withholding taxes are not provided on undistributed earnings of foreign subsidiaries, which are considered to be indefinitely reinvested in the operations of such subsidiaries. The amount of such earnings was approximately $376.8 million at December 31, 1997. Determination of the net amount of unrecognized U.S. income tax with respect to these earnings is not practicable. Income taxes paid during 1997, 1996 and 1995 amounted to $53.0 million, $55.0 million and $56.9 million, respectively. NOTE 11 - PENSION AND PROFIT SHARING PLANS The company has noncontributory defined benefit pension plans covering most employees. Pension benefits under these plans are based on years of service and the employee's compensation. The company's funding policy in the United States is to contribute amounts to satisfy the Internal Revenue Service funding standards and elsewhere to fund amounts in accordance with local regulations. Several defined benefit plans are unfunded. Plan assets are invested principally in marketable equity securities and fixed income instruments. 31 17 THE LUBRIZOL CORPORATION Net periodic pension cost of defined benefit plans consists of:
1997 1996 1995 -------- -------- -------- Service cost - benefits earned during period ................... $ 10,270 $ 11,097 $ 10,089 Interest cost on projected benefit obligation .............. 17,704 17,690 17,804 Actual return on plan assets ....... (45,407) (33,585) (47,965) Net amortization and deferral ...... 23,835 14,229 31,833 -------- -------- -------- Net periodic pension cost .......... $ 6,402 $ 9,431 $ 11,761 ======== ======== ========
The weighted average assumptions used at December 31 were:
1997 1996 1995 ---- ---- ---- Discount rate for determining funded status ..................... 6.9% 7.5% 7.3% Compensation increase ................ 4.0% 4.5% 4.8% Return on plan assets ................ 8.8% 8.9% 8.8%
The funded status of such defined benefit pension plans and the amounts recognized in the consolidated balance sheets at December 31 are as follows:
1997 1996 ----------------------- ----------------------- Assets Accum. Assets Accum. Exceed Benefits Exceed Benefits Accum. Exceed Accum. Exceed Benefits Assets Benefits Assets --------- --------- --------- --------- Fair value of plan assets ......... $ 291,885 $ 6,245 $ 264,949 $ 6,431 Projected benefit obligation .......... (228,764) (25,497) (217,173) (31,448) --------- --------- --------- --------- Plan assets in excess of (less than) projected benefit obligation .......... 63,121 (19,252) 47,776 (25,017) Unrecognized net transition obligation (asset) ............. (10,093) 3,242 (11,833) 3,882 Unrecognized net loss (gain) ..... (45,239) 2,410 (28,162) 845 Unrecognized prior service cost ........ 9,022 1,792 10,091 2,689 Minimum liability adjustment .......... (54) (2,005) (1,699) --------- --------- --------- --------- Accrued pension asset (liability) ... $ 16,757 $ (13,813) $ 17,872 $ (19,300) ========= ========= ========= ========= Accumulated benefit obligation .......... $ 171,388 $ 19,104 $ 155,071 $ 24,702 ========= ========= ========= ========= Vested benefits ........ $ 164,411 $ 15,177 $ 149,318 $ 20,442 ========= ========= ========= =========
The company also has defined contribution retirement plans, principally involving profit sharing plans and a 401(k) savings plan, covering most employees in the United States and at certain non-U.S. subsidiaries. Expense for all defined contribution plans was $9.9 million in 1997, $10.2 million in 1996 and $8.9 million in 1995. NOTE 12 - POSTRETIREMENT HEALTH CARE The company provides certain postretirement benefits other than pensions, primarily health care and life insurance plans, for retired employees. Currently, substantially all of the company's full-time employees in the U.S. become eligible for these benefits after attaining specified years of service and age 55 at retirement. Participants contribute a portion of the cost of such benefits. The company's postretirement health care plans are not funded. The status of the U.S. postretirement health care and life insurance plans at December 31 is as follows:
1997 1996 -------- -------- Accumulated postretirement benefit obligations: Retirees ........................................... $ 29,709 $ 29,794 Fully eligible active plan participants ............ 12,658 14,385 Other active plan participants ..................... 16,319 19,776 -------- -------- Total accumulated postretirement benefit obligation .............................. 58,686 63,955 Unrecognized net gain .............................. 9,816 652 Unrecognized net reduction in prior service costs ............................. 33,838 37,056 -------- -------- Accrued postretirement health care costs ............................... $102,340 $101,663 ======== ========
Unrecognized net reduction in prior service costs results from plan amendments. These reductions in prior service costs do not immediately reduce the accrued postretirement liability, but are amortized as a reduction of expense over the participant's average future service period to full eligibility (remaining amortization period at December 31, 1997, of approximately 11 years). The company revised its assumed ultimate health care cost trend rate from 6% to 5% during 1997. This revision reduced the accumulated postretirement benefit obligation at December 31, 1997, by $8.9 million. This gain will be amortized beginning in 1998 over the average remaining service period of participants. 32 18 THE LUBRIZOL CORPORATION The assumed health care cost trend rate used in measuring the accumulated postretirement benefit obligation at December 31, 1997, was 8.25% (9.00% at December 31, 1996), with subsequent annual decrements of .75% to an ultimate trend rate of 5%. A one-percentage-point increase in the assumed health care cost trend rate for each year would increase the accumulated postretirement benefit obligation by approximately 15% and the aggregate of the service and interest cost components of net postretirement health care cost by approximately 19%. Discount rates of 7.25% and 7.50%, respectively, were used in determining the accumulated postretirement benefit obligations at December 31, 1997 and 1996. Net postretirement benefit cost consists of the following components for the company's U.S. plans:
1997 1996 1995 ------- ------- ------- Service cost - benefits earned during the year ......... $ 1,350 $ 1,501 $ 1,361 Interest cost on accumulated postretirement benefit obligation ..................... 4,800 4,817 6,066 Amortization of unrecognized net gains ......... (3,218) (3,218) (1,766) ------- ------- ------- Net postretirement health care cost ............... $ 2,932 $ 3,100 $ 5,661 ======= ======= =======
The company also provides postretirement health care benefits at several of its international locations. Accumulated benefits and net postretirement health care costs for these locations were not significant. NOTE 13 - LEASES The company has commitments under operating leases primarily for office space, terminal facilities, land, railroad tank cars and various computer and office equipment. Rental expense was $13.8 million in 1997, $16.9 million in 1996 and $19.5 million in 1995. Future minimum rental commitments under operating leases having initial or remaining noncancelable lease terms exceeding one year are $14.5 million in 1998, $11.1 million in 1999, $9.4 million in 2000, $5.8 million in 2001, $5.3 million in 2002 and $20.8 million thereafter. NOTE 14 - OPERATIONS IN GEOGRAPHIC AREAS Financial data by geographic area, based on the location of the subsidiary which shipped and billed the product, is as follows:
1997 1996 1995 ----------- ----------- ----------- Revenues from customers: United States ............... $ 735,315 $ 711,781 $ 722,879 Europe ...................... 462,356 480,250 533,920 Far East .................... 275,407 229,659 225,773 Other ....................... 200,704 175,872 181,022 ----------- ----------- ----------- 1,673,782 1,597,562 1,663,594 Intercompany transfers: United States ............... 343,120 318,492 319,671 Europe ...................... 34,214 26,364 37,556 Far East .................... 206 182 301 Other ....................... 21,678 22,507 30,905 ----------- ----------- ----------- 399,218 367,545 388,433 ----------- ----------- ----------- Gross revenues ................. 2,073,000 1,965,107 2,052,027 Less: Intercompany transfers ... (399,218) (367,545) (388,433) ----------- ----------- ----------- Consolidated revenues .......... $ 1,673,782 $ 1,597,562 $ 1,663,594 =========== =========== =========== Operating profit: United States ............... $ 195,177 $ 162,090 $ 128,909 Europe ...................... 23,918 27,746 51,172 Far East .................... 12,679 9,078 9,731 Other ....................... 18,243 13,178 17,476 Eliminations ................ 1,241 (671) (2,555) ----------- ----------- ----------- 251,258 211,421 204,733 General corporate expenses ..... (19,000) (16,864) (19,156) Gain on investments ............ 53,280 38,459 Other income - net ............. 5,104 6,012 7,150 Interest - net ................. (6,215) (3,241) (5,612) ----------- ----------- ----------- Income before income taxes ..... $ 231,147 $ 250,608 $ 225,574 =========== =========== =========== Identifiable assets: United States ............... $ 841,547 $ 796,154 $ 804,045 Europe ...................... 374,234 400,639 395,053 Far East .................... 151,826 151,015 154,992 Other ....................... 101,141 91,768 82,708 Eliminations ................ (111,462) (114,546) (82,310) ----------- ----------- ----------- 1,357,286 1,325,030 1,354,488 Corporate assets ............... 105,006 77,085 137,532 ----------- ----------- ----------- Total assets ................... $ 1,462,292 $ 1,402,115 $ 1,492,020 =========== =========== ===========
Notes: A. Intercompany transfers are made at prices comparable to normal unaffiliated customer sales for similar products. B. Affiliated companies are not allocated to geographic segments. C. Corporate assets consist of short-term investments and investments in affiliated companies. 33 19 THE LUBRIZOL CORPORATION Export sales from the United States to customers, primarily in Asia and Latin America, were $132 million, $144 million and $138 million during 1997, 1996 and 1995, respectively. Net assets of non-U.S. subsidiaries at December 31, 1997 and 1996, were $488 million and $487 million, respectively. Net income of these subsidiaries was $43 million in 1997, $29 million in 1996 and $52 million in 1995; and dividends received from the subsidiaries were $7 million, $18 million and $7 million, respectively. NOTE 15 - FINANCIAL INSTRUMENTS The company has various financial instruments, including cash and short-term investments, investments in nonconsolidated companies, foreign currency forward contracts, interest rate swaps and short- and long-term debt. The company has determined the estimated fair value of these financial instruments by using available market information and generally accepted valuation methodologies. The use of different market assumptions or estimation methodologies could have a material effect on the estimated fair value amounts. The estimated fair value of the company's debt instruments at December 31, 1997, approximates $227.5 million compared with the carrying value of $220.3 million. The company believes the carrying values of its other financial instruments approximate their fair values, except for certain interest rate swap agreements discussed below. The company uses derivative financial instruments only to manage well-defined foreign currency and interest rate risks. The company does not use derivative financial instruments for trading purposes. The company is exposed to the effect of changes in foreign currency rates on its earnings and cash flow as a result of doing business internationally. In addition to working capital management, pricing and sourcing, the company selectively uses foreign currency forward contracts to lessen the potential effect of currency changes. Such contracts are generally in connection with transactions with maturities of less than one year. The maximum amount of foreign currency forward contracts outstanding at any one time was $58.4 million in 1997, $41.2 million in 1996 and $16.6 million in 1995. At December 31, 1997, the company had short-term forward contracts to sell currencies at various dates during 1998 for $38.9 million. Realized and unrealized gains or losses on these contracts are recorded in the statement of income, or in the case of transactions designated as hedges of net foreign investments, in the foreign currency translation adjustment account in other comprehensive income. Additionally, foreign currency forward contract gains and losses on certain future transactions may be deferred until the future transaction is recorded. Deferred currency gains on foreign exchange contracts at December 31, 1997, were not significant. The company is exposed to market risk from changes in interest rates. The company's policy is to manage interest rate cost using a mix of fixed and variable rate debt. To manage this mix in a cost- efficient manner, the company may enter into interest rate swaps, in which the company agrees to exchange, at specified intervals, the difference between fixed and variable interest amounts calculated by reference to an agreed upon notional principal amount. The company has entered into interest rate swap agreements to convert variable rate debt to fixed rates (see Note 5). Interest payments receivable and payable under the terms of the interest rate swap agreements are accrued over the period to which the payment relates and the net difference is treated as an adjustment of interest expense related to the underlying liability. Changes in the underlying market value of the remaining swap payments are recognized in income when the underlying liability being hedged is extinguished or partially extinguished to a level less than the notional amount of the interest rate swaps. Consequently, market value losses of $1.0 million and $1.1 million were recognized in 1997 and 1996, respectively. The company would have paid approximately $6.3 million, including accrued interest of $.8 million, if it had terminated these interest rate swap agreements at December 31, 1997. NOTE 16 - STOCK COMPENSATION PLANS The 1991 Stock Incentive Plan provides for granting of restricted and unrestricted shares and options to buy common shares intended either to qualify as "incentive stock options" under the Internal Revenue Code or "non-statutory stock options" not intended to so qualify, up to an amount equal to 1% of the outstanding common shares at the beginning of any year, plus any unused amount from prior years. Under the 1991 Plan, options generally become exercisable 50% one year after grant, 75% after two years, 100% after three years, and expire up to ten years after grant. "Reload options," which are options to purchase additional shares if a grantee uses already-owned shares to pay for an option exercise, are granted automatically under the 1991 Plan and may be granted at the discretion of the administering committee under the 1985 Employee Stock Option Plan. The 1991 Plan generally supersedes the 1985 Plan, although options outstanding under the 1985 Plan remain exercisable until the expiration dates. The option price under both plans is the fair market value of the shares on the date of grant. Both plans permit or permitted the granting of stock appreciation rights in connection with the grant of options. In addition, the 1991 Plan provides to each outside director of the company an automatic annual grant of an option to purchase 2,000 common shares, with terms generally comparable to employee stock options. Under the 1991 Stock Incentive Plan, the company granted to certain executive officers 65,000 performance share stock awards in March 1997, all of which are outstanding at December 31, 1997. Common shares equal to the number of performance share stock awards granted will be issued if the market price of the company's common stock reaches $45.00 per common share for ten consecutive trading days or after six years from date of grant, whichever occurs first. The mar- 34 20 THE LUBRIZOL CORPORATION ket value of the company's common shares at date of grant of the performance hare stock awards was $33.75 per share. The company accrues compensation xpense related to performance share stock awards ratably over the projected esting period. Compensation costs accrued for performance share stock awards as $.5 million in 1997. FAS 123 encourages the fair-value based method of accounting for stock ompensation plans under which the value of stock-based compensation is stimated at the date of grant using valuation formulas, but permits the ontinuance of intrinsic-value accounting. The company accounts for its stock compensation plans using the intrinsic-value accounting method (measured as the difference between the exercise price and the market value of the stock at date of grant). If the fair value method to measure compensation cost for the company's stock compensation plans had been used, the company's net income would have been reduced by $2.6 million in 1997, $2.0 million in 1996 and $1.7 million in 1995 with a corresponding reduction in net income per share of $.05 in 1997 and $.03 for both 1996 and 1995. Disclosures under the fair value method are estimated using the Black-Scholes option-pricing model with the following weighted-average assumptions for grants of stock options in the following years:
1997 1996 1995 ---- ---- ---- 1985 Plan: Risk-free interest rate ........... 5.7% 6.6% 7.1% Dividend yield .................... 2.7% 3.4% 3.4% Volatility ........................ 20% 23% 23% Expected life (years) ............. 3.1 3.7 8.6 1991 Plan: Risk-free interest rate ........... 5.8% 6.3% 7.0% Dividend yield .................... 2.7% 3.4% 3.4% Volatility ........................ 22% 23% 23% Expected life (years) ............. 9.9 8.8 8.2
The fair value of the performance share stock awards granted in 1997 was $31.80 per share using the following assumptions: risk-free interest rate of 5.7%; volatility of 20%; and expected life of three years. Dividends do not accumulate on performance share stock awards. Information regarding these option plans, excluding the performance share stock awards, follows:
Weighted- Average Exercise Shares Price --------- ------ Outstanding, January 1, 1997 ................... 3,248,113 $30.93 Granted ........................................ 417,561 35.07 Exercised ...................................... (361,179) 25.85 Forfeited ...................................... (92,338) 35.88 --------- Outstanding, December 31, 1997 ................. 3,212,157 $31.88 ========= ====== Options exercisable, December 31, 1997 ........................... 2,590,556 $31.67 ========= ====== Weighted-average fair value of options granted during the year ..................... $ 9.37 ====== Outstanding, January 1, 1996 ................... 2,958,416 $30.70 Granted ........................................ 497,566 29.96 Exercised ...................................... (99,427) 18.25 Forfeited ...................................... (108,442) 31.86 --------- Outstanding, December 31, 1996 ................. 3,248,113 $30.93 ========= ====== Options exercisable, December 31, 1996 ........................... 2,574,762 $30.57 ========= ====== Weighted-average fair value of options granted during the year ..................... $ 8.05 ====== Outstanding, January 1, 1995 ................... 2,583,721 $29.28 Granted ........................................ 528,210 35.12 Exercised ...................................... (148,887) 21.57 Forfeited ...................................... (4,628) 34.56 --------- Outstanding, December 31, 1995 ................. 2,958,416 $30.70 ========= ====== Options exercisable, December 31, 1995 ........................... 1,975,878 $28.77 ========= ====== Weighted-average fair value of options granted during the year ..................... $10.05 ======
The following table summarizes information about stock options outstanding at December 31, 1997:
Options Outstanding Options Exercisable ------------------------------------------------ ------------------------------- Number Weighted-Average Weighted- Number Weighted- Range of Outstanding Remaining Average Exercisable Average Exercise Prices at 12/31/97 Contractual Life Exercise Price at 12/31/97 Exercise Price ----------- ---------------- -------------- ----------- -------------- $13 - $19 ................... 78,423 2.1 Years $16.66 78,423 $16.66 19 - 25 ................... 89,375 1.3 21.91 89,375 21.91 25 - 31 ................... 1,205,571 4.7 28.89 1,013,029 28.69 31 - 38 ................... 1,772,454 5.3 34.70 1,343,395 34.93 38 - 45 ................... 66,334 2.7 42.09 66,334 42.09 --------- --------- 3,212,157 4.8 $31.88 2,590,556 $31.67 ========= === ====== ========= ======
35 21 THE LUBRIZOL CORPORATION NOTE 17 - ASSET IMPAIRMENT AND SPECIAL CHARGE In 1997, the company provided $9.4 million for the impairment of long-lived assets. This included $6.3 million to reduce the carrying value of certain computer equipment and software made obsolete prior to expiration of their original estimated useful lives due to new systems being implemented. Also, during the fourth quarter the company decided to utilize a toll processor, beginning in 1998, rather than to produce an intermediate internally. This decision resulted in the permanent impairment of a production unit, and a provision of $3.1 million was recorded to reduce the asset carrying value to its estimated fair value. Fair value was determined by estimating the present value of future cash flows. These impairment losses are reflected in the consolidated statements of income for the year ended December 31, 1997, as follows: cost of sales - $4.4 million; research, testing and development expenses - $.9 million; selling and administrative expenses - $1.8 million and other income (net) - $2.3 million. During the fourth quarter of 1995, the company recorded a provision of $9.5 million for the write-down of assets to their fair value. This charge was primarily related to an intermediate processing unit that became permanently impaired due to product formulation changes caused by a new industry-wide specification. This charge, originally presented as a separate line on the 1995 consolidated statement of income, has been reclassified to cost of sales, in order to be consistent with the form of presentation used for the year ended December 31, 1997. In 1993, the company recorded an $86.3 million special charge related to its manufacturing rationalization and organizational realignment initiatives. It was originally estimated that these initiatives would take approximately three years to fully implement and would reduce the number of the company's production units by up to one-third and the number of employees by approximately 5%. Originally, 30% of the special charge was for employee reductions; 55% was for asset write-downs primarily related to manufacturing assets and Agribusiness investments; and 15% was for tank cleaning and dismantling, lease exit costs and other transitional costs. The company substantially completed its planned activities under the special charge initiatives by December 31, 1996. The total number of production units was reduced by nearly 30%, and comparable worldwide employment was reduced by approximately 9%, or over 400 employees, through early retirements, separations and attrition. Although there was no change in the aggregate amount of the special charge, certain components were revised as actual costs to implement became known. Approximately 45% of the special charge related to employee separations; 40% to asset write-downs and 15% to other areas. Costs for employee reductions were greater than originally estimated due to the greater number of employee separations. Asset write-offs decreased due to lower than originally estimated net book values of the assets removed from service. Cash outlays for the special charge were approximately $50 million, including $4 million in 1997, $9 million in 1996 and $14 million in 1995. NOTE 18 - LITIGATION The company has filed claims against Exxon Corporation and/or its affiliates relating to various commercial matters, including alleged infringements by Exxon of certain of the company's patents. These suits are pending in the United States (in Ohio), Canada and the United Kingdom. The company has prevailed in a case brought in Canada against Exxon's Canadian affiliate, Imperial Oil, Ltd., for infringement of the company's patent pertaining to dispersants, the largest additive component used in motor oils. A 1990 trial court verdict in favor of the company regarding the issue of liability was upheld by the Federal Court of Appeals of Canada in December 1992, and in October 1993, the Supreme Court of Canada dismissed Imperial Oil's appeal of the Court of Appeals' decision. The case has been returned to the trial court for an assessment of compensation damages, but no date has been set for a determination of such damages. In October 1994, the trial court judge determined that Imperial Oil had violated an earlier injunction for the manufacture or sale of the dispersant which is the subject of this case. The determination of penalty damages, if any, on account of this violation will be made after the compensation damages for patent infringement have been determined by the court. In November 1996, a patent trial court in London declared a Lubrizol United Kingdom patent invalid, which patent is the subject of litigation brought by the company against Exxon in that country. The company is appealing this decision, which appeal is expected to be heard in March 1998. Although the trial court decision does not involve any damage payments, the court awarded Exxon its recoverable legal costs in the case, as is customary under U.K. practice. Exxon has filed with the court a request for legal costs of approximately $12 million. The determination of which of those costs may be recoverable will be subject to a separate proceeding. The company has obtained a stay of this separate proceeding pending the outcome of the appeal of the trial court decision. As a court-ordered condition to obtain the stay, the company made a $3.0 million contingent payment to Exxon in July 1997. This amount was fully expensed in 1997. Management believes that the November 1996 trial court decision will not be upheld in its present form on appeal, in which case the recoverable legal costs would be reduced or eliminated, and amounts paid contingently by the company could be refunded in whole or in part. A reasonable estimation of the company's potential recovery relating to the Exxon litigation referenced above can not be made at this time, and no recovery amounts have been recorded in the company's financial statements. 36 22 THE LUBRIZOL CORPORATION QUARTERLY FINANCIAL DATA (UNAUDITED)
Three Months Ended - --------------------------------------------------------------------------------------------------------------------------- March 31 June 30 Sept. 30 Dec. 31 - --------------------------------------------------------------------------------------------------------------------------- (In Thousands of Dollars Except Per Share Data) 1997 Net sales ....................................... $387,749 $432,556 $426,824 $422,122 Gross profit .................................... 129,642 149,543 136,540 129,924 Net income ...................................... 38,861 46,900 38,652 30,456 Net income per share ............................ $.66 $.81 $.67 $.53 Net income per share - diluted .................. $.66 $.80 $.66 $.53 1996 Net sales ....................................... $405,412 $420,531 $392,114 $374,820 Gross profit .................................... 131,817 132,007 124,931 120,728 Gain on investments (net of tax) ................ 34,632 Net income ...................................... 71,236 38,070 31,733 28,763 Net income per share ............................ $1.14 $.63 $.53 $.49 Net income per share - diluted .................. $1.14 $.62 $.53 $.48
37 23 THE LUBRIZOL CORPORATION HISTORICAL SUMMARY
(In Millions, Except Shareholders, Employees and Per Share Data) 1997 1996 1995 - -------------------------------------------------------------------------------------------------------- OPERATING RESULTS: Revenues ........................................... $1,673.8 $1,597.6 $1,663.6 Total cost and expenses ............................ 1,441.5 1,403.0 1,478.0 Other income (charges) ............................. (1.1) 56.1 40.0 Net income ......................................... 154.9 169.8 151.6 - Before unusual items and accounting changes ... 154.9 135.2 132.8 Net income per share ............................... 2.68 2.80 2.37 - Before unusual items and accounting changes ... 2.68 2.23 2.08 FINANCIAL RATIOS: Gross profit percentage ............................ 32.7 32.0 31.5 Percent of revenues: Selling and administrative expenses ............. 10.2 9.9 9.8 Research and testing expenses ................... 8.8 10.1 10.8 Return on average shareholders' equity (%) ......... 19.0 20.4 18.0 - Before unusual items and accounting changes (%) 19.0 16.2 15.8 Debt to capitalization (%) ......................... 21.3 19.5 22.5 Current ratio ...................................... 2.5 2.6 2.4 OTHER INFORMATION: Dividends declared per share ....................... $ 1.01 $ .97 $ .93 Average common shares outstanding .................. 57.8 60.7 63.8 Capital expenditures ............................... $ 100.7 $ 94.3 $ 189.3 Depreciation expense ............................... 82.7 78.7 71.8 At Year End: Total assets .................................... $1,462.3 $1,402.1 $1,492.0 Total debt ...................................... 220.3 198.5 247.1 Total shareholders' equity ...................... 815.4 819.4 849.0 Shareholders' equity per share .................. 14.31 14.00 13.48 Common share price .............................. 36.88 31.00 27.75 Number of shareholders .......................... 5,661 5,764 6,304 Number of employees ............................. 4,291 4,358 4,601
38 24 THE LUBRIZOL CORPORATION
1994 1993 1992 1991 1990 1989 1988 1987 - --------------------------------------------------------------------------------------------------------------------------- $1,599.0 $1,525.5 $1,552.2 $1,476.3 $1,452.7 $1,227.9 $1,125.7 $1,022.3 1,397.0 1,362.2 1,390.5 1,308.7 1,288.4 1,109.7 1,009.9 916.4 49.4 (43.6) 15.4 10.5 106.9 19.5 69.9 23.3 175.6 45.6 124.6 123.7 190.0 94.0 140.0 81.3 148.8 113.5 124.6 123.7 133.5 94.0 88.4 73.7 2.67 .67 1.81 1.79 2.67 1.26 1.81 1.03 2.26 1.67 1.81 1.79 1.87 1.26 1.14 .94 32.7 32.0 31.7 32.4 30.3 29.2 29.9 29.6 10.0 10.4 11.7 11.7 10.9 10.8 10.5 10.8 10.3 11.2 10.0 9.8 8.5 9.2 9.6 9.1 22.5 5.9 15.4 16.2 27.2 14.2 21.8 13.6 19.0 14.6 15.4 16.2 18.0 14.2 13.7 12.0 16.8 8.7 5.6 7.9 8.3 8.5 8.4 10.1 2.5 2.5 2.9 2.7 2.7 3.0 3.1 3.0 $ .89 $ .85 $ .81 $ .77 $ .73 $ .69 $ .65 $ .61 65.7 67.7 69.0 69.3 71.1 74.7 77.4 79.1 $ 160.5 $ 127.9 $ 95.8 $ 82.4 $ 77.4 $ 64.7 $ 54.6 $ 42.0 63.9 59.6 58.4 54.6 54.0 48.7 46.6 47.2 $1,394.4 $1,182.6 $1,127.1 $1,171.7 $1,114.6 $ 960.2 $ 970.7 $ 939.4 167.9 69.6 48.4 67.8 66.6 61.2 60.8 69.7 832.0 732.2 819.4 794.5 736.2 663.3 664.3 621.6 12.83 11.00 11.97 11.51 10.61 8.96 8.74 7.98 33.88 34.13 27.25 28.25 23.63 18.75 17.75 16.44 6,494 6,616 6,822 6,767 6,692 7,370 7,782 8,335 4,520 4,613 4,609 5,299 5,169 5,030 4,781 4,817
39 EX-21 4 EXHIBIT 21 1 EXHIBIT 21 THE LUBRIZOL CORPORATION % OF STATE/COUNTRY PRINCIPAL SUBSIDIARIES OWNERSHIP OF INCORPORATION Lubrizol do Brasil Aditivos, Ltda. 100% Brazil Lubrizol Canada Limited 100% Canada Lubrizol de Chile Limitada 100% Chile Lubrizol China, Inc. 100% Ohio Lubrizol Coating Additives Company G.m.b.H. 100% Germany Lubrizol Espanola, S.A. 100% Spain Lubrizol Europe B.V. 100% The Netherlands Lubrizol France S.A. 99.995% France Lubrizol Gesellschaft m.b.H. 100% Austria Lubrizol G.m.b.H. 100% Germany Lubrizol International Inc. 100% Cayman Islands Lubrizol International Management Corporation 100% Nevada Lubrizol Italiana, S.p.A. 100% Italy Lubrizol Japan Limited 100% Japan Lubrizol Limited 100% United Kingdom Lubrizol Metalworking Additives Company, Inc. 100% Nevada Lubrizol de Mexico, S. de R.L. 100% Mexico Lubrizol de Mexico Comercial S. de R.L. de C.V. 100% Mexico Lubrizol Overseas Trading Corporation 100% Delaware Lubrizol Scandinavia AB 100% Sweden Lubrizol Servicios Tecnicos S. de R.L. 100% Mexico Lubrizol South Africa (Pty.) Limited 100% South Africa Lubrizol Southeast Asia (Pte.) Ltd. 100% Singapore Lubrizol de Venezuela C.A. 99.9% Venezuela CPI Engineering Services, Inc. 100% Michigan Engine Control Systems, Ltd. 100% Canada Gate City Equipment Company, Inc. 100% Georgia Gateway Additive Company 100% Pennsylvania Hyrolec Technical Services Limited 100% United Kingdom AFFILIATES Industrias Lubrizol S.A. de C.V. 40% Mexico Lanzhou Lubrizol - Lanlian Additive Co., Ltd. 50.05% China Lubrizol India Limited 40% India Lubrizol Transarabian Company Limited 49% Saudi Arabia Solub Limited 40% Russia Tianjin Lubrizol - Lanlian Additive Co., Ltd. 50.05% China EX-23 5 EXHIBIT 23 1 EXHIBIT 23 INDEPENDENT AUDITORS' CONSENT ----------------------------- THE LUBRIZOL CORPORATION We consent to the incorporation by reference in Registration Statement No. 2-99983 on Form S-8, in Registration Statement No. 33-61091 on Form S-8 and in Registration Statement No. 33-42211 on Form S-8 of our report dated February 5, 1998, incorporated by reference in this Annual Report on Form 10-K of The Lubrizol Corporation for the year ended December 31, 1997. /s/ Deloitte & Touche LLP - ------------------------------------ DELOITTE & TOUCHE LLP Cleveland, Ohio March 23, 1998 EX-27 6 EXHIBIT 27
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENTS OF INCOME AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 0000060751 THE LUBRIZOL CORPORATION 1,000 U.S. DOLLARS 12-MOS DEC-31-1997 JAN-01-1997 DEC-31-1997 1.0 86,504 0 244,605 1,373 260,118 657,076 1,513,824 821,147 1,462,292 261,930 182,165 0 0 82,669 732,779 1,462,292 1,669,251 1,673,782 1,123,602 1,123,602 0 337 10,803 231,147 76,278 0 0 0 0 154,869 2.68 2.66
EX-27.1 7 EXHIBIT 27.1
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENTS OF INCOME AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 0000060751 THE LUBRIZOL CORPORATION 1,000 U.S. DOLLARS 6-MOS 9-MOS DEC-31-1997 DEC-31-1997 JAN-01-1997 JAN-01-1997 JUN-30-1997 SEP-30-1997 1 1 74,764 92,196 0 0 259,034 254,186 1,247 1,237 256,306 253,698 647,179 659,442 1,526,584 1,543,127 828,662 841,246 1,454,157 1,473,568 274,883 294,838 159,694 157,291 0 0 0 0 80,399 83,055 743,350 740,635 1,454,157 1,473,568 820,305 1,247,129 822,530 1,250,266 541,120 831,404 541,120 831,404 0 0 80 132 5,033 7,873 127,054 185,691 41,293 61,278 0 0 0 0 0 0 0 0 85,761 124,413 1.47 2.14 1.46 2.13
EX-27.2 8 EXHIBIT 27.2
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENTS OF INCOME AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 0000060751 THE LUBRIZOL CORPORATION 1,000 U.S. DOLLARS 3-MOS 6-MOS DEC-31-1996 DEC-31-1996 JAN-01-1996 JAN-01-1996 MAR-31-1996 JUN-30-1996 1 1 41,294 60,690 0 0 242,124 239,082 1,212 1,262 297,364 267,814 642,507 632,578 1,457,444 1,474,658 777,615 792,572 1,429,743 1,419,177 243,664 220,716 152,358 184,947 0 0 0 0 81,618 80,365 772,321 754,494 1,429,743 1,419,177 405,412 825,943 407,101 828,470 273,595 562,119 273,595 562,119 0 0 36 62 3,094 5,408 106,717 162,293 35,481 52,987 0 0 0 0 0 0 0 0 71,236 109,306 1.14 1.77 1.14 1.77
EX-27.3 9 EXHIBIT 27.3
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF INCOME AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 0000060751 THE LUBRIZOL CORPORATION 1,000 U.S. DOLLARS YEAR DEC-31-1995 JAN-01-1995 DEC-31-1995 1 30,579 0 222,784 2,198 310,539 639,694 1,447,051 770,235 1,492,020 265,591 194,423 0 0 83,254 765,729 1,492,020 1,657,821 1,663,594 1,134,875 1,134,875 0 (372) 10,376 225,574 73,959 151,615 0 0 0 151,615 2.37 2.37
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