-----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, OZE3dk5x6UGKtGeIpXe08P3yE2qZBZz45EASgV20a9pzs5SDKA2VH/i1DFO7oaN+ JoisMxiC+E2hWITlalGgpA== 0000950152-00-002227.txt : 20000329 0000950152-00-002227.hdr.sgml : 20000329 ACCESSION NUMBER: 0000950152-00-002227 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000328 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: 580980 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, 1999 [ ] 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 10, 2000 $1,327,201,977 Number of the registrant's Common Shares, without par value, outstanding as of March 10, 2000 54,175,929 Documents Incorporated by Reference ----------------------------------- Portions of the registrant's 1999 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 22, 2000 (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 fluid technology company concentrating on high performance chemicals, systems and services to diverse markets worldwide. The company develops, produces and sells specialty additive packages and related equipment used in transportation and industrial finished lubricants. The company's products are created through the application of advanced chemical and mechanical technologies to enhance the performance, quality and value of the customer products in which they are used. The company groups its product lines into two operating segments: chemicals for transportation and chemicals for industry. PRINCIPAL PRODUCTS. Chemicals for transportation is comprised of additives for lubricating engine oils, such as those used in gasoline, diesel, marine and stationary gas engines, and additive components to its larger customers; additives for driveline oils, such as automatic transmission fluids, gear oils and tractor lubricants; and additives for fuel products and refinery and oil field chemicals. In addition, the company sells additive components and viscosity improvers within its lubricant and fuel additives product lines. Chemicals for industry includes industrial additives, such as additives for hydraulic fluids, metalworking fluids and compressor lubricants; performance chemicals, such as additives for coatings and inks and process chemicals; and performance systems, comprised principally of fluid metering devices and particulate emission trap devices. Revenues within the chemicals for transportation segment comprised 83%, 84% and 86% of consolidated revenues in 1999, 1998 and 1997, respectively. Additives for lubricating engine oils comprised 53%, 52% and 55% of consolidated revenues in 1999, 1998 and 1997, respectively. Additives for driveline oils comprised 23%, 24% and 24% of consolidated revenues for these same respective periods. Further financial information for the company's operating segments is contained in Note 12 to the Financial Statements, which is included in the company's 1999 Annual Report to its shareholders and is incorporated herein by reference. 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 of oil properties and applications, 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. -2- 3 The company's performance systems products principally involve products used in emission controls, such as catalyst, exhaust and filter systems and precision metering devices used in blending and additive injection operations. COMPETITION. The company's chemicals for transportation segment and chemicals for industry segment are highly competitive in terms of price, technology development, product performance and customer service. The company's principal competitors within its chemicals for transportation segment, both in the United States and overseas, are three major petroleum companies, and one chemical company. Two of the major petroleum companies, which previously participated in the lubricant additive industry through separate divisions, have combined their efforts by forming a separate joint venture company that began commercial operations in 1999. The petroleum companies produce lubricant and fuel additives for their own use, and also sell additives to others. These competing petroleum companies are also customers of the company and may also sell base oil to the company. The company believes, based on volume sold, that it is the largest supplier to the petroleum industry of performance additive packages for lubricants. CUSTOMERS. In the United States, the company markets its chemicals for transportation and chemicals for industry 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. In 1999, approximately 42% of the company's consolidated sales were made to customers in North America, 33% to customers in Europe and the Middle East and 25% to customers in Asia-Pacific and Latin America. 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 46% of consolidated sales in 1999. The loss of one or more of these customers could have a material adverse effect on the company's business. Mobil Corporation, together with its affiliates, has been the company's largest customer within its chemicals for transportation segment during the past three years, comprising 12% of consolidated sales in 1999, 9% in 1998 and 10% in 1997. Mobil Corporation and Exxon Corporation completed a merger during the latter part of 1999, and the 1999 percentage includes sales to Mobil, Exxon and their affiliates prior to the merger as well as sales to the combined entity, Exxon Mobil Corporation, following the consummation of the merger. The company's chemicals for industry segment is not materially dependent on a single customer or on a few customers. 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. 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 2000. 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 affects the company's technical spending patterns. -3- 4 Consolidated research and development expenditures were $78.3 million in 1999 and 1998, and $88.4 million in 1997. These amounts were equivalent to 4.5%, 4.8% and 5.3% 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, $67.7 million, $72.7 million and $58.2 million was spent in 1999, 1998 and 1997, respectively, for technical service (testing) activities, principally for evaluation in mechanical equipment of specific lubricant formulations designed for the needs of petroleum industry customers throughout the world. Research, testing and development expenditures by operating segment were as follows (in thousands of dollars): 1999 1998 1997 ---- ---- ---- Research and development expenditures: Chemicals for transportation $66,268 $67,018 $76,259 Chemicals for industry 11,984 11,265 12,185 ------- ------- ------- Total $78,252 $78,283 $88,444 ======= ======= ======= Testing expenditures: Chemicals for transportation $58,978 $64,641 $51,260 Chemicals for industry 8,697 8,056 6,974 ------- ------- ------- Total $67,675 $72,697 $58,234 ======= ======= ======= 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. 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 that 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 a variety of United States and foreign patents relating to lubricant and fuel additives, lubricants, chemical compositions and processes, and protective coating materials and processes. 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 previously 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. On March 31, 1999, the company and Exxon Corporation reached a settlement of all pending intellectual property litigation between the two companies and their affiliates, except for litigation pending in Canada. In the suit in Canada, the company is alleging infringement of a patent that corresponds to a United States patent admitted as valid by Exxon in a settlement in 1988. A -4- 5 determination of liability has been made by the Canadian courts against Exxon 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. Further information regarding litigation with Exxon is contained in Note 16 to the Financial Statements, which is included in the company's 1999 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 $3 million in 1999, which represented 4.6% of 1999 capital expenditures. The company 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 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. The company 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, the company believes liabilities for environmental matters will not have a material adverse affect on the company's financial position, operating results or liquidity. EMPLOYEES. At December 31, 1999, the company and its wholly-owned subsidiaries had 4,074 employees of which approximately 61% were in the U.S. INTERNATIONAL OPERATIONS. Financial information with respect to domestic and foreign operations is contained in Note 12 to the Financial Statements which is included in the company's 1999 Annual Report to its shareholders and is incorporated herein by reference. The company supplies its additive customers abroad through export from the United States and from overseas manufacturing plants. 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. -5- 6 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, including its use of U.S. dollar based pricing in certain countries 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 Countryside, Illinois; Mountaintop, Pennsylvania; and Germany that manufacture performance specialty chemical additives for the coatings and specialty metalworking fluid and industrial lubricant markets; a manufacturing plant in Atlanta, Georgia, that manufactures fluid metering devices; manufacturing plants in Newmarket and London, Ontario, Canada, and Reno, Nevada, that manufacture particulate emission control devices; and a manufacturing plant in Fareham, Hampshire, England, that manufactures additive injection equipment. Additive manufacturing/blending plants in India, Saudi Arabia, and China are owned and operated by joint venture companies licensed by Lubrizol. Lubrizol's ownership of each of these companies ranges from 40% to 50%. 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, Denmark, Ecuador, England, 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. The company maintains a capital expenditure program to support its operations and believes its facilities are adequate for its present operations and for the foreseeable future. ITEM 3. LEGAL PROCEEDINGS The company and its subsidiaries are not defendants in any material pending legal proceeding other than ordinary routine litigation incidental to the business. 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, 1999. -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, 2000. Name Business Experience ---- ------------------- W. G. Bares Mr. Bares, age 58, 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. J. R. Ahern Mr. Ahern, age 53, has been Controller - Accounting and Financial Reporting and Principal Accounting Officer since April 26, 1999. From 1993 to April 1999 he was Controller - Operations. J. W. Bauer Mr. Bauer, age 46, has been Vice President and General Counsel since April 1992. C. P. Cooley Mr. Cooley, age 44, joined the company and became Vice President, Treasurer and Chief Financial Officer in April 1998. In June 1998 he also became responsible for Corporate Strategic Planning. Prior to joining the company, he was Assistant Treasurer - Corporate Finance at Atlantic Richfield Company. S. A. Di Biase Dr. Di Biase, age 47, has been Vice President since September 1993. He is responsible for Research and Development. G. R. Hill Dr. Hill, age 58, has been Senior Vice President since 1988. He has been responsible for Business Development since October 1993. From 1996 to June 1998 he was also responsible for Corporate Strategic Planning. J. E. Hodge Mr. Hodge, age 57, has been Vice President since September 1993. He is responsible for Operations. K. H. Hopping Mr. Hopping, age 53, has been Vice President and Secretary of the Corporation since April 1991. S. F. Kirk Mr. Kirk, age 50, has been Vice President since September 1993. On January 1, 1999, he became responsible for Sales and Marketing. From April 1996 to January 1, 1999, he was responsible for Sales. From 1993 to April 1996, he was responsible for Segment Management. Y. Le Couedic Mr. Le Couedic, age 52, has been Vice President since September 1993. He is responsible for Management Information Systems. G. P. Lieb Mr. Lieb, age 47, has been Controller - Commercial Analysis and Support since April 26, 1999. From 1993 to April 1999 he was Controller - Accounting and Financial Reporting. From 1994 to April 1999 he was also Principal Accounting Officer. -7- 8 Name Business Experience - ---- ------------------- M. W. Meister Mr. Meister, age 45, has been Vice President since April 1993, and was named Chief Ethics Officer in April 1998. He is responsible for Human Resources. L. M. Reynolds Ms. Reynolds, age 39, was named Assistant Secretary in April 1995, and has been Counsel since February 1991. R. D. Robins Dr. Robins, age 57, became Vice President in April 1996. Since January 1, 1999, he has been responsible for Performance Systems functions. From April 1996 to January 1999, he was responsible for Segment Management. From October 1993 to April 1996 he was Passenger Car Segment Manager. J. A. Thomas Mr. Thomas, age 61, 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. 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 4,992 as of March 10, 2000. Information relating to the recent price and dividend history of the company's common shares follows: Common Share Price History -------------------------- Dividends 1999 1998 Per Common Share ---- ---- ---------------- HIGH LOW HIGH LOW 1999 1998 ---- --- ---- --- ---- ---- 1st quarter $26 7/8 $18 $40 3/16 $33 1/4 $ .26 $ .26 2nd quarter 30 3/4 21 3/8 38 3/4 30 1/4 .26 .26 3rd quarter 29 11/16 24 3/8 32 3/8 22 3/8 .26 26 4th quarter 31 3/8 23 29 9/16 23 1/2 .26 .26 ----- ----- $1.04 $1.04 ===== ===== On May 1, 1999, the company issued 5,462 common shares in private placement transactions exempt from registration under the Securities Act of 1933 pursuant to Section 4(2) of that Act. The company issued the shares to former directors pursuant to deferred compensation plans for directors. On April 22, 1999, the company issued 1,306 common shares in a transaction exempt from registration under the Securities Act of 1933 pursuant to Regulation S. The common shares were issued pursuant to an employee benefit plan to an employee of a wholly-owned UK subsidiary of the company. 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 42 and 43 of the company's 1999 Annual Report to its shareholders is incorporated herein by reference. Other income (charges) for 1999 includes litigation settlement gains of $17.6 million and special charges of $19.6 million for the second phase of the company's cost reduction program and adjustments to the first phase of the company's cost reduction program. Other income (charges) for 1998 includes litigation settlement gain of $16.2 million and special charges of $23.3 million for the first phase of the company's cost reduction program and of $13.6 million for the write-off of purchased technology under development resulting from the acquisition of Adibis. Other income (charges) for 1996 and 1995 includes $53.3 million and $38.5 million, respectively, for gains on sale of investments. Total debt reported in the Historical Summary includes the following amounts classified as long-term at December 31: $365.4 in 1999, $390.4 in 1998, $182.2 million in 1997, $157.6 million in 1996 and $194.4 million in 1995. 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 14 through 23, inclusive, of the company's 1999 Annual Report to its shareholders is incorporated herein by reference. -9- 10 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The information appearing under the caption "Quantitative and Qualitative Disclosures about Market Risk" contained on page 23 of the company's 1999 Annual Report to its shareholders is incorporated herein by reference. 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 24 through 41, inclusive, of the company's 1999 Annual Report to its shareholders, and the Quarterly Financial Data (Unaudited) contained on page 41 of such 1999 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 3 to 7, inclusive, of the company's Proxy Statement dated March 22, 2000, 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. ITEM 11. EXECUTIVE COMPENSATION. The information relating to executive compensation contained under the headings "Director Compensation" on page 8, "Executive Compensation - -Summary Compensation Table" and "- Stock Incentive Plans" on pages 11 through 13, inclusive, and under "Employee and Executive Officer Benefit Plans - Pension Plans" and "- Executive Agreements" on pages 17 through 19, inclusive, of the company's Proxy Statement dated March 22, 2000, 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 "Share Ownership of Directors, Executive Officers and Large Beneficial Owners" on pages 9 and 10 of the company's Proxy Statement dated March 22, 2000, is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information contained in footnote (1) under the heading "Share Ownership of Directors, Executive Officers and Large Beneficial Owners - Five Percent Beneficial Owners" on page 10 of the company's Proxy Statement dated March 22, 2000, is incorporated herein by reference. -10- 11 PART IV ------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT 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 24 through 41, inclusive, of Lubrizol's 1999 Annual Report to its shareholders and incorporated herein by reference: Independent Auditors' Report Consolidated Statements of Income for the years ended December 31, 1999, 1998 and 1997 Consolidated Balance Sheets at December 31, 1999 and 1998 Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1999, 1998 and 1997 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. (3)(b) Regulations of The Lubrizol Corporation, as amended effective April 27, 1992. (4)(a) Amendment to Article Fourth of Amended Articles of Incorporation. (4)(b) Indenture dated as of November 25, 1998, between The Lubrizol Corporation and The First National Bank of Chicago as Trustee. (Reference is made to Exhibit (4)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1998, which Exhibit is incorporated herein by reference). The company agrees, upon request, to furnish to the Securities and Exchange Commission a copy of any instrument authorizing long-term debt that does not authorize debt in excess of 10% of the total assets of the company and its subsidiaries on a consolidated basis. (4)(c) Amended and Restated Rights Agreement between The Lubrizol Corporation and American Stock Transfer & -11- 12 Trust Company dated as of July 26, 1999. (Reference is made to Exhibit 4.l to The Lubrizol Corporation's Registration Statement on Form 8-A/A dated August 17, 1999, 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)(a) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1998, 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 Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1999, which Exhibit is incorporated herein by reference.) (10)(c)* Form of Employment Agreement between The Lubrizol Corporation and certain of its senior executive officers. (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, 1998, 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 Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1999, 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 Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1999, which Exhibit is incorporated herein by reference.) -12- 13 (10)(j)* The Lubrizol Corporation Officers' Supplemental Retirement Plan, as amended. (Reference is made to Exhibit (10)(g) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1998, 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, 1999, 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, 1999, which Exhibit is incorporated herein by reference.) (12) Computation of Ratio of Earnings to Fixed Charges. (13) The following portions of The Lubrizol Corporation 1999 Annual Report to its shareholders: Pages 14-23 Management's Discussion and Analysis of Financial Condition and Results of Operations Page 24 Independent Auditors' Report Page 25 Consolidated Statements of Income for the years ended December 31, 1999, 1998 and 1997 Page 26 Consolidated Balance Sheets at December 31, 1999 and 1998 Page 27 Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997 Page 28 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1999, 1998 and 1997 Pages 29-41 Notes to Financial Statements Page 41 Quarterly Financial Data (Unaudited) Pages 42-43 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, 1999 *Indicates management contract or compensatory plan or arrangement. -13- 14 (b) Reports on Form 8-K No reports on Form 8-K were filed during the three months ended December 31, 1999. -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 27, 2000, 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 27, 2000, 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/C. P. Cooley Vice President, Treasurer and Chief - ------------------------------- Financial Officer C. P. Cooley (Principal Financial Officer) /s/J. R. Ahern Controller, Accounting and Financial - ------------------------------- Reporting J. R. Ahern (Principal Accounting Officer) /s/Jerald A. Blumberg Director - ------------------------------- Jerald A. Blumberg /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 /s/Daniel E Somers Director - ------------------------------- Daniel E. Somers 16 EXHIBIT INDEX ------------- Exhibits (3)(a) Amended Articles of Incorporation of The Lubrizol Corporation, as adopted September 23, 1991. (3)(b) Regulations of The Lubrizol Corporation, as amended effective April 27, 1992. (4)(a) Amendment to Article Fourth of Amended Articles of Incorporation. (4)(b) Indenture dated as of November 25, 1998, between The Lubrizol Corporation and The First National Bank of Chicago as Trustee. (Reference is made to Exhibit (4)(b) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1998, which Exhibit is incorporated herein by reference). The company agrees, upon request, to furnish to the Securities and Exchange Commission a copy of any instrument authorizing long-term debt that does not authorize debt in excess of 10% of the total assets of the company and its subsidiaries on a consolidated basis. (4)(c) Amended and Restated Rights Agreement between The Lubrizol Corporation and American Stock Transfer & Trust Company dated as of July 26, 1999. (Reference is made to Exhibit 4.l to The Lubrizol Corporation's Registration Statement on Form 8-A/A dated August 17, 1999, 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)(a) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1998, 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 Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1999, which Exhibit is incorporated herein by reference.) (10)(c)* Form of Employment Agreement between The Lubrizol Corporation and certain of its senior executive officers. (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.) 17 (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, 1998, 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 Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1999, 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 Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1999, which Exhibit is incorporated herein by reference.) (10)(j)* The Lubrizol Corporation Officers' Supplemental Retirement Plan, as amended. (Reference is made to Exhibit (10)(g) to The Lubrizol Corporation's Annual Report on Form 10-K for the year ended December 31, 1998, 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, 1999, 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, 1999, which Exhibit is incorporated herein by reference.) (12) Computation of Ratio of Earnings to Fixed Charges. 18 (13) The following portions of The Lubrizol Corporation 1998 Annual Report to its shareholders: Pages 14-23 Management's Discussion and Analysis of Financial Condition and Results of Operations Page 24 Independent Auditors' Report Page 25 Consolidated Statements of Income for the years ended December 31, 1999, 1998 and 1997 Page 26 Consolidated Balance Sheets at December 31, 1999 and 1998 Page 27 Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997 Page 28 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1999, 1998 and 1997 Pages 29-41 Notes to Financial Statements Page 41 Quarterly Financial Data (Unaudited) Pages 42-43 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, 1999 *Indicates management contract or compensatory plan or arrangement. EX-3.A 2 EXHIBIT 3(A) 1 EXHIBIT (3)(a) CERTIFICATE OF ADOPTION OF AMENDED ARTICLES OF INCORPORATION OF THE LUBRIZOL CORPORATION L. E. Coleman, Chairman of the Board of Directors, and K. H. Hopping, Vice President and Secretary, of The Lubrizol Corporation, an Ohio corporation (the "Corporation") with its principal place of business located in Wickliffe, Ohio, do hereby certify that a meeting of the Board of Directors of the Corporation was duly called and held on September 23, 1991, at which meeting a quorum of the directors of the Corporation was present, and that by the affirmative vote of the majority of such directors the following resolution was adopted for the purpose of consolidating the existing Amended Articles of Incorporation and the amendments to the existing Amended Articles of Incorporation that previously have been adopted by the shareholders of the Corporation and filed with the Secretary of State of Ohio (such consolidation being permitted by Section 1701.72(B) of the Ohio Revised Code): RESOLVED, that the Amended Articles of Incorporation attached hereto as Exhibit A be, and they hereby are, adopted to supersede the existing Amended Articles of Incorporation of the Corporation. IN WITNESS WHEREOF, L. E. Coleman, Chairman of the Board of Directors, and K. H. Hopping, Vice President and Secretary, of The Lubrizol Corporation, acting for and on behalf of the Corporation, have hereunto subscribed their names this 23rd day of September, 1991. /s/ [L. E. Coleman] L. E. Coleman Chairman of the Board /s/ [K. H. Hopping] K. H. Hopping Vice President and Secretary 2 Exhibit A AMENDED ARTICLES OF INCORPORATION OF THE LUBRIZOL CORPORATION FIRST: The name of the Corporation is The Lubrizol Corporation. SECOND: The place in the State of Ohio where its principal office is located is Wickliffe, Lake County. THIRD: The purposes of the Corporation are as follows: To manufacture, produce, process, buy, sell, develop, acquire, distribute and otherwise deal in chemicals, chemical products and compositions, including lubricants, fuels and additives for lubricants and fuels, and to do all things necessary or incidental thereto. To invest in high technology companies and in companies with substantial growth possibilities and to acquire such companies. To engage in any other lawful act or activity for which corporations may be formed under Section 1701.01 to 1701.98, inclusive, of the Revised Code of Ohio, as now in effect or hereafter amended. FOURTH: The authorized number of shares of the Corporation is 147,000,000, consisting of 2,000,000 shares of serial preferred stock without par value designated Serial Preferred Stock ("Serial Preferred Stock"); 25,000,000 shares of serial preferred stock without par value designated Serial Preference Shares ("Serial Preference Shares"); and 120,000,000 common shares without par value ("Common Shares"). No holder of any class of shares of the Corporation shall, as such holder, have any preemptive or preferential right to purchase or subscribe to any shares of any class of stock of the Corporation, whether now or hereafter authorized, whether unissued or in treasury, or to purchase any obligations convertible into shares of any class of stock of the Corporation, which at any time may be proposed to be issued by the Corporation or subjected to rights or options to purchase granted by the Corporation. No holder of shares of the Corporation shall be entitled to vote cumulatively in the election of Directors of the Corporation. The shares of such classes shall have the following express terms: DIVISION A EXPRESS TERMS OF THE SERIAL PREFERRED STOCK Section 1. The Serial Preferred Stock may be issued from time to time in one or more series. All shares of Serial Preferred Stock shall be of equal rank and shall be identical, except in respect of the matters that may be fixed by the Board of Directors as hereinafter provided, and each share of each series shall be identical with all other shares of such series, except as to the date from which dividends are cumulative. Subject to the provisions of Sections 2 to 8, both inclusive, of this Division, which provisions shall apply to all Serial Preferred Stock, the Board of Directors hereby is authorized to cause such shares to be issued in one or more series and with respect to each such series prior to the issuance thereof to fix: (a) The designation of the series, which may be by distinguishing number, letter or title; 3 (b) The number of shares of the series, which number the Board of Directors may (except where otherwise provided in the creation of the series) increase or decrease (but not below the number of shares thereof then outstanding); (c) The annual dividend rate of the series; (d) The dates at which dividends, if declared, shall be payable, and the dates from which dividends shall be cumulative; (e) The redemption rights and price or prices, if any, for shares of the series; (f) The terms and amount of any sinking fund provided for the purchase or redemption of shares of the series; (g) The amounts payable on shares of the series in the event of any voluntary or involuntary liquidation, dissolution, or winding up of the affairs of the Corporation; (h) Whether the shares of the series shall be convertible into Common Shares, and, if so, the conversion price or prices, any adjustments thereof, and all other terms and conditions upon which such conversion may be made; and (i) Restrictions (in addition to those set forth in Sections 6(b) and 6(c) of this Division) on the issuance of shares of the same series or of any other class or series; provided, however, that the aggregate amount which the holders of Serial Preferred Stock at any time outstanding shall be entitled to receive upon any voluntary or involuntary liquidation, dissolution or winding up of the Corporation shall not exceed $50,000,000, plus accrued and unpaid dividends. The Board of Directors is authorized to adopt from time to time amendments to the Articles of Incorporation fixing, with respect to each such series, the matters described in clauses (a) to (i), both inclusive, of this Section 1. Section 2. The holders of Serial Preferred Stock of each series, in preference to the holders of Common Shares and of any other class of shares ranking junior to the Serial Preferred Stock, shall be entitled to receive out of any funds legally available and when and as declared by the Board of Directors, dividends in cash at the rate for such series fixed in accordance with the provisions of Section 1 of this Division, and no more, payable quarterly on the dates fixed for such series. Such dividends shall be cumulative, in the case of shares of each particular series, from and after the date or dates fixed with respect to such series. No dividends may be paid upon or declared or set apart for any of the Serial Preferred Stock for any quarterly dividend period unless at the same time a like proportionate dividend for the same quarterly dividend period, ratably in proportion to the respective annual dividend rates fixed therefor, shall be paid upon or declared or set apart for all Serial Preferred Stock of all series then issued and outstanding and entitled to receive such dividend. Section 3. In no event so long as any Serial Preferred Stock shall be outstanding shall any dividends, except a dividend payable in Common Shares or other shares ranking junior to the Serial Preferred Stock, be paid or declared or any distribution be made except as aforesaid on the Common Shares or any other shares ranking junior to the Serial Preferred Stock, nor shall any Common Shares or any other shares ranking junior to the Serial Preferred Stock be purchased, retired or otherwise acquired by the Corporation(except out of the proceeds of the sale of Common Shares or other shares ranking junior to the Serial Preferred Stock received by the Corporation subsequent to January 1, 1969): (a) Unless all accrued and unpaid dividends on Serial Preferred Stock, including the full dividends for the current quarterly dividend period, shall have been declared and paid or a sum sufficient for payment thereof set apart; and 4 (b) Unless there shall be no arrearages with respect to the redemption of Serial Preferred Stock of any series from any sinking fund provided for shares of such series in accordance with the provisions of Section 1 of this Division. Section 4. (a) Subject to the express terms of each series and to the provisions of Section 6(b)(iii) of this Division A, the Corporation may from time to time redeem all or any part of the Serial Preferred Stock of any series at the time outstanding, (i) at the option of the Board of Directors at the applicable redemption price for such series fixed in accordance with the provisions of Section 1 of this Division, or (ii) in fulfillment of the requirements of any sinking fund provided for shares of such series at the applicable sinking fund redemption price, fixed in accordance with the provisions of Section 1 of this Division, together in each case with accrued and unpaid dividends to the redemption date. (b) Notice of every such redemption shall be mailed, postage prepaid, to the holders of record of the Serial Preferred Stock to be redeemed at their respective addresses then appearing on the books of the Corporation, not less than thirty (30) days nor more than sixty (60) days prior to the date fixed for such redemption. At any time after notice has been given as above provided, the Corporation may deposit the aggregate redemption price of the shares of Serial Preferred Stock to be redeemed with any bank or trust company in Cleveland, Ohio, or New York, New York, having capital and surplus of not less than Twenty-Five Million Dollars ($25,000,000), named in such notice, directed to be paid to the respective holders of the shares of Serial Preferred Stock so to be redeemed in amounts equal to the redemption price of all shares of Serial Preferred Stock so to be redeemed, on surrender of the stock certificate or certificates held by such holders, and upon the making of such deposit such holders shall cease to be shareholders with respect to such shares, and after such notice shall have been given and such deposit shall have been made such holders shall have no interest in or claim against the Corporation with respect to such shares except only to receive such money from such bank or trust company without interest or the right to exercise, before the redemption date, any unexpired privileges of conversion. In case less than all of the outstanding shares of Serial Preferred Stock are to be redeemed, the Corporation shall select by lot the shares so to be redeemed in such manner as shall be prescribed by its Board of Directors. If the holders of shares of Serial Preferred Stock which have been called for redemption shall not within ten years after such deposit, claim the amount deposited for the redemption thereof, any such bank or trust company shall, upon demand, pay over to the Corporation such unclaimed amounts and thereupon such bank or trust company and the Corporation shall be relieved of all responsibility in respect thereof and to such holders. (c) Any shares of Serial Preferred Stock which are redeemed by the Corporation pursuant to the provisions of this Section 4 and any shares of Serial Preferred Stock which are purchased and delivered in satisfaction of any sinking fund requirements provided for shares of such series and any shares of Serial Preferred Stock which are converted in accordance with the express terms thereof, shall be cancelled, and not reissued. Any shares of Serial Preferred Stock otherwise acquired by the Corporation shall resume the status of authorized and unissued shares of Serial Preferred Stock without serial designation. Section 5. (a) The holders of Serial Preferred Stock of any series shall, in case of voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation, be entitled to receive in full out of the assets of the Corporation, including its capital, before any amount shall be paid or distributed among the holders of the Common Shares or any other shares ranking junior to the Serial Preferred Stock, the amounts fixed with respect to shares of such series in accordance with Section 1 of this Division plus an amount equal to all dividends accrued and 5 unpaid thereon to the date of payment of the amount due pursuant to such liquidation, dissolution or winding up of the affairs of the Corporation. In case the net assets of the Corporation legally available therefor are insufficient to permit the payment upon all outstanding shares of Serial Preferred Stock of the full preferential amount to which they are respectively entitled, then such net assets shall be distributed ratably upon outstanding shares of Serial Preferred Stock in proportion to the full preferential amount to which each such share is entitled. After payment to holders of Serial Preferred Stock of the full preferential amounts as aforesaid, holders of Serial Preferred Stock as such shall have no right or claim to any of the remaining assets of the Corporation. (b) The merger or consolidation of the Corporation into or with any other corporation, or the merger of any other corporation into it, or the sale, lease or conveyance of all or substantially all the property or business of the Corporation, shall not be deemed to be a dissolution, liquidation or winding up for the purposes of this Section 5. Section 6. (a) The holders of Serial Preferred Stock shall be entitled to one vote for each share of such stock upon all matters presented to the shareholders; and, except as otherwise provided herein or required bylaw, the holders of Serial Preferred Stock and the holders of Common Shares shall vote together as one class on all matters. If, and so often as, the Corporation shall be in default in the payment of six (6) full quarterly dividends (whether or not consecutive) on any series of Serial Preferred Stock at the time outstanding, whether or not earned or declared, the holders of Serial Preferred Stock of all series, voting separately as a class and in addition to all other rights to vote for directors, shall be entitled to elect as herein provided, two members of the Board of Directors of the Corporation; provided, however, that the holders of shares of Serial Preferred Stock shall not have or exercise such special class voting rights except at meetings of the shareholders for the election of directors at which the holders of not less than thirty-five percent (35%) of the outstanding shares of Serial Preferred Stock of all series then outstanding are present in person or by proxy; and provided further that the special class voting rights provided for herein when the same shall have become vested shall remain so vested until all accrued and unpaid dividends on the Serial Preferred Stock of all series then outstanding shall have been paid, whereupon the holders of Serial Preferred Stock shall be divested of their special class voting rights in respect of subsequent elections of directors, subject to the revesting of such special class voting rights in the event hereinabove specified in this paragraph. In the event of default entitling the holders of Serial Preferred Stock to elect two directors as above specified, a special meeting of the shareholders for the purpose of electing such directors shall be called by the Secretary of the Corporation upon written request of, or may be called by, the holders of record of at least ten percent (10%) of the shares of Serial Preferred Stock of all series at the time outstanding, and notice thereof shall be given in the same manner as that required for the annual meeting of shareholders; provided, however, that the Corporation shall not be required to call such special meeting if the annual meeting of shareholders shall be held within one hundred twenty (120) days after the date of receipt of the foregoing written request from the holders of Serial Preferred Stock. At any meeting at which the holders of Serial Preferred Stock shall be entitled to elect directors, the holders of thirty-five percent (35%) of the then outstanding shares of Serial Preferred Stock of all series present in person or by proxy, shall be sufficient to constitute a quorum, and the vote of the holders of a majority of such shares so present at any such meeting at which there shall be such a quorum shall be sufficient to elect the members of the Board of Directors which the holders of Serial Preferred Stock are entitled to elect as hereinabove provided. The two directors who may be elected by the holders of Serial Preferred Stock pursuant to the foregoing provisions shall be in addition to any other directors then in office or proposed to be elected otherwise then pursuant to such provisions, and nothing 6 in such provisions shall prevent any change otherwise permitted in the total number of directors of the Corporation or require the resignation of any director elected otherwise than pursuant to such provisions. Notwithstanding any classification of the other directors of the Corporation, the two directors elected by the holders of Serial Preferred Stock shall be elected annually for terms expiring at the next succeeding annual meeting of shareholders. (b) The affirmative vote of the holders of at least two-thirds of the shares of Serial Preferred Stock at the time outstanding, given in person or by proxy at a meeting called for the purpose at which the holders of Serial Preferred Stock shall vote separately as a class shall be necessary to effect anyone or more of the following (but so far as the holders of Serial Preferred Stock are concerned, such action may be effected with such vote): (i) Any amendment, alteration or repeal of any of the provisions of the Articles of Incorporation or of the Regulations of the Corporation which affects adversely the voting powers, rights or preferences of the holders of Serial Preferred Stock; provided, however, that, for the purpose of this clause (i) only, neither the amendment of the Articles of Incorporation so as to authorize or create, or to increase the authorized or outstanding amount of Serial Preferred Stock or of any shares of any class ranking on a parity with or junior to the Serial Preferred Stock, nor the amendment of the provisions of the Regulations so as to increase the number of directors of the Corporation shall be deemed to affect adversely the voting powers, rights or preferences of the holders of Serial Preferred Stock; and provided further, that if such amendment, alteration or repeal affects adversely the rights or preferences of one or more but not all series of Serial Preferred Stock at the time outstanding only the affirmative vote of the holders of at least two-thirds of the number of the shares at the time outstanding of the series so affected shall be required; (ii) The authorization or creation of, or the increase in the authorized amount of, any shares of any class, or any security convertible into shares of any class, ranking prior to the Serial Preferred Stock; or (iii) The purchase or redemption (for sinking fund purposes or otherwise) of less than all of the Serial Preferred Stock then outstanding except in accordance with a stock purchase offer made to all holders of record of Serial Preferred Stock, unless all dividends upon all Serial Preferred Stock then outstanding for all previous quarterly dividend periods shall have been declared and paid or funds therefor set apart and all accrued sinking fund obligations applicable thereto shall have been complied with. (c) The affirmative vote of the holders of at least a majority of the shares of Serial Preferred Stock at the time outstanding, given in person or by proxy at a meeting called for the purpose at which the holders of Serial Preferred Stock shall vote separately as a class, shall be necessary to effect any one or more of the following (but so far as the holders of Serial Preferred Stock are concerned, such action may be effected with such vote): (i) The sale, lease or conveyance by the Corporation of all or substantially all of its property or business, or its consolidation with or merger into any other corporation unless the corporation resulting from such consolidation or merger will have after such consolidation or merger no class of shares either authorized or outstanding ranking prior to or on a parity with the Serial Preferred Stock except the same number of shares ranking prior to or on a parity with the Serial Preferred Stock and having the same rights and preferences as the shares of the Corporation authorized and outstanding immediately preceding such consolidation or merger, and each holder of Serial Preferred Stock immediately preceding such consolidation or merger shall receive the same number of shares, with the same rights and preferences, of the resulting corporation; or 7 (ii) The authorization of any shares ranking on a parity with the Serial Preferred Stock or an increase in the authorized number of shares of Serial Preferred Stock. Section 7. The holders of Serial Preferred Stock shall have no preemptive right to purchase or have offered to them for purchase any shares or other securities of the Corporation, whether now or hereafter authorized. Section 8. For the purpose of this Division A: Whenever reference is made to shares "ranking prior to the Serial Preferred Stock" or "on a parity with the Serial Preferred Stock," such reference shall mean and include all shares of the Corporation in respect of which the rights of the holders thereof as to the payment of dividends or as to distributions in the event of a voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation, are given preference over, or rank on an equality with (as the case may be) the rights of the holders of Serial Preferred Stock; and whenever reference is made to shares "ranking junior to the Serial Preferred Stock," such reference shall mean and include all shares of the Corporation in respect of which the rights of holders thereof as to payment of dividends and as to distributions in the event of a voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation, are junior and subordinate to the rights of the holders of Serial Preferred Stock. DIVISION B EXPRESS TERMS OF THE COMMON SHARES The Common Shares shall be subject to the express terms of (i) the Serial Preferred Stock and any series thereof and (ii) the Serial Preference Shares and any series thereof. Each Common Share shall be equal to every other Common Share and the holders thereof shall be entitled to one vote for each share of such stock on all questions presented to the shareholders. DIVISION C EXPRESS TERMS OF THE SERIAL PREFERRED STOCK, SERIES A Section 1. Designation and Amount. The shares of such series shall be designated as "Serial Preferred Stock, Series A" ("Series A Stock") and the number of shares constituting such series shall be 2,000,000. No shares of Series A Stock may be issued except upon the exercise of a Right, as defined in, and pursuant to the terms of, the Special Rights Agreement, dated as of October 31, 1988 (as from time to time amended or supplemented in accordance with the terms thereof, the "Rights Agreement"), between the Corporation and National City Bank. Section 2. Dividends and Distributions. (A) Except as provided in this Section 2, the holders of shares of Series A Stock shall not be entitled to receive dividends or other distributions with respect to any shares of Series A Stock. (B) From and after the date on which shares of Series A Stock are issued and outstanding (the "Dividend Accrual Commencement Date"), the holders of issued and outstanding shares of Series A Stock, in preference to the holders of Common Shares and of any other capital stock of the Corporation which ranks junior to the Serial Preferred Stock in respect of dividends or distributions of assets on liquidation of the Corporation (all of which classes, other than the Serial Preferred Stock, are hereinafter embraced in the term "Junior Stock"), shall be entitled to receive as and when declared by the Directors out of the assets of the Corporation which are bylaw available for the payment of dividends, cumulative cash dividends, payable quarterly on the last days of March, June, September and December, and accruing from the applicable Dividend Accrual Commencement Date, at, but not exceeding, the rate per share per annum equal to the Dividend Rate (as hereinafter defined). For purposes of this Division C, the "Dividend Rate" shall be equal to 8% of the Cash Redemption Amount (as defined in Section 5(A) of this Division C) as of the last day of the calendar month immediately preceding the applicable dividend payment date. 8 Section 3. Redemption. (A) From and after (but not before) the Earliest Redemption Date (as defined in Section 5(C) of this Division C), the Series A Stock may be redeemed in whole or in part, at any time or from time to time, at the option of the Corporation, for a cash redemption price per share equal to the sum of (x) the then-applicable Cash Redemption Amount plus$1.00 and (y) an amount equal to the sum of all dividends accrued to the date fixed for redemption and remaining unpaid, whether or not declared, together with any applicable Deferred Payment Entitlement (as defined in Section 5(D) of this Division C). (B) So long as any shares of Series A Stock shall be outstanding, but subject to Section 3(E) of this Division C, the Corporation shall, as a sinking fund applicable to the Series A Stock, commencing on the date two years after the first date on which any shares of Series A Stock are issued, and annually thereafter, redeem, for a cash redemption price per share equal to the sum of (x) the then-applicable Cash Redemption Amount plus $1.00 and (y) an amount equal to the sum of all dividends accrued to such date and remaining unpaid, whether or not declared, together with any applicable Deferred Payment Entitlement, a number of shares of Series A Stock equal to 25% of the greatest number of shares of Series A Stock at any time outstanding. The Corporation shall be permitted to satisfy in whole or in part the requirements of this Section 3(B) with respect to any year by applying in whole or in part as a credit in reduction of the obligation of the Corporation to make redemptions for the sinking fund in such year shares of Series A Stock purchased by the Corporation and shares of Series A Stock redeemed otherwise than for the sinking fund. Shares purchased by the Corporation for application as a credit as provided above may be purchased in such manner as the Directors may determine from time to time, subject to the restrictions on such purchases set forth elsewhere herein or arising under applicable law. (C) On the date five years after the first date on which any shares of Series A Stock are issued, but subject to Section 3(E) of this Division C, the Corporation shall redeem all shares of Series A Stock remaining outstanding for a cash redemption price per share equal to the sum of (x) the then-applicable Cash Redemption Amount plus $1.00 and (y) an amount equal to the sum of all dividends accrued to such date and remaining unpaid, whether or not declared, together with any applicable Deferred Payment Entitlement. (D) Notwithstanding anything contained in this Division C to the contrary, but subject to Section 3(E) of this Division C, at the option of any holder of Series A Stock, upon written notice given by such holder at any time during the 30-calendar day period following the date on which the last notice was mailed pursuant to the next sentence of this Section 3(D) the Corporation shall, prior to the filing of a certificate of dissolution or such other instrument as may then be prescribed by applicable law to effect the dissolution of the Corporation, redeem all shares of Series A Stock outstanding as to which such holder shall have made such election for a cash redemption price per share equal to the sum of (x) the then-applicable Cash Redemption Amount plus $1.00 and (y) an amount equal to the sum of all dividends accrued to such date and remaining unpaid, whether or not declared, together with any applicable Deferred Payment Entitlement. The Corporation shall give notice to all holders of Series A Stock no fewer than 45-calendar days prior to making any filing referred to in the immediately preceding sentence, which notice will be so given by first class United States mail and publication in The Wall Street Journal and any other nationally recognized publication the Corporation may elect, accompanied by an appropriate form of election and such other information as may be required to permit an informed election. (E) In addition to the limitations that may apply under applicable Ohio law, the Corporation shall be required to redeem any shares of Series A Stock under Sections 3(B), 3(C)or 3(D) of this Division C only to the extent that, after giving effect to such redemption, the consolidated retained earnings of the Corporation and the corporations with which it is consolidated for financial reporting purposes are greater than zero. For purposes of the foregoing sentence, consolidated retained earnings shall mean the sum of (1) the consolidated retained earnings as of September 30, 1988 of the Corporation and the corporations with which it was then consolidated for financial reporting purposes and (2) the consolidated retained earnings accumulated subsequent to September 30, 1988 of the Corporation and the corporations with which it is consolidated for financial reporting purposes determined in accordance with generally accepted 9 accounting principles as in effect as of such date (except as otherwise provided in this sentence) and after giving effect to dividends or other distributions on, and redemptions and other purchases of, Serial Preferred Stock, but without giving effect to dividends or other distributions on, or redemptions or other purchases of, any Junior Stock, or to any transfers from retained earnings to additional capital or capital stock accounts, and including as a credit to retained earnings, in all events (and notwithstanding any contrary treatment for financial reporting purposes or otherwise), the amount of the Recovery then collected. If the Corporation is not required to redeem shares of Series A Stock in the manner otherwise provided herein by virtue of the first sentence of this Section 3(E), or if a legal or contractual restriction prevents the Corporation form effecting the redemption of any shares of Series A Stock then outstanding in the manner otherwise provided herein, then (x) to the extent required and not restricted, payment of redemption amounts shall be made daily on a pro rata basis or in such other manner as the Directors of the Corporation may determine in good faith to be fair to the holders of Series A Stock, (y) in the case of any such legal or contractual restriction, the Corporation shall use its best efforts to remove such restriction as soon as possible, and (z)the Corporation shall give notice to each holder of shares of Series A Stock of any such restriction and the efforts by the Corporation to remove it. Postponement of payment of redemption amounts shall not in any way diminish or restrict the right or the holders of shares of Series A Stock to have their shares redeemed as provided in this Section 3. If amounts payable to retire shares of Serial Preferred Stock are not paid in full in the case of all series for which a sinking fund has been fixed, the number of shares to be retired for the sinking fund of each such series shall be in proportion to the respective amounts that would be payable if all such amounts were paid in full. Section 4. Liquidation Rights. (A) The provisions of Section 7(F) of this Division C will apply to any voluntary to involuntary dissolution, liquidation or winding up of the affairs of the Corporation and will not be limited or otherwise affected by this Section 4. (B) In the event of any voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation (all of which are hereinafter embraced in the word "liquidation") occurring on or after the Earliest Redemption Date, the holders of Series A Stock who do not exercise their rights pursuant to Section 3(D) of this Division C, shall be entitled to receive, subject to the limitations, if any, then applicable in such event pursuant to Division A, from the assets of the Corporation available for distribution to the shareholders, all amounts (including without limitation any Deferred Payment Entitlement) which they would be entitled to receive if on the date of such liquidation the shares of Series A Stock held by them had been redeemed at the option of the Corporation in accordance with the provisions of Section 3(A) of this Division C. In the event of any liquidation occurring prior to the Earliest Redemption Date, all rights of the Corporation in respect of the Covered Cases and any portion of the Recovery (as defined in Section 5(A) of this Division C) theretofore collected by the Corporation, and such additional funds or assets as may be required, shall be placed in trust for the benefit of the holders of the Series A Stock (and the holders of any other class of capital stock of the Corporation to the extent hereinafter provided) upon such terms so that (1) the holders of Series A Stock shall be entitled to receive, from the assets of the Corporation available for distribution to shareholders, units of beneficial interest in such trust which shall as nearly as practicable entitle them to receive, per share of Series A Stock held, a fractional undivided interest in the proceeds of the Recovery equal to the Per Share Allocation Factor, plus $1.00, and (2) the holders of the other classes of capital stock of the Corporation shall be entitled to receive out of such assets available for distribution units of beneficial interest in such trust which shall as nearly as practicable entitle them to receive any balance of the proceeds of the Recovery in accordance with their respective rights upon liquidation. In the event of any liquidation, the holders of the Serial Preferred Stock of the respective series shall be entitled to be paid in full the respective amounts fixed for such series before any distribution or payment or setting apart for payment shall be made to or for the holders of the Common Shares or any other Junior Stock. After such payments shall have been in full to the holders of the Serial Preferred Stock, the remaining assets and funds of the Corporation shall be distributed among the holders of the Junior Stock of the Corporation according to their respective rights. In the event that the assets of the Corporation are not sufficient to make the payments required to be made to the holders of the Serial Preferred Stock in full, such assets 10 shall be distributed to the holders of the Serial Preferred Stock of the respective series pro rata in proportion to the respective amounts fixed for such series. Section 5. Amount Payable on Redemption or Liquidation. (A) For purposes of this Division C, the following terms shall have the meanings indicated: (1) "Adjusted Value" of any "Assigned Value Assets" shall mean, initially, the value assigned thereto as provided in Section 5(B) of this Division C, and, in the event any such Assigned Value Assets shall be sold for cash within two years of the Corporation's receipt thereof, shall mean, thereafter and in lieu of the value initially assigned, the cash proceeds of the sale, increased by the amount of any revenues derived by the Corporation from, and decreased by any costs and expenses incurred by the Corporation after receipt of such Assigned Value Assets in respect of, such Assigned Value Assets during the period prior to such sale. (2) "Assigned Value Assets" shall mean any assets collected as a part of the Recovery to which a value has been assigned as provided in Section 5(B) of this Division C and shall also include the proceeds of any sale or other disposition thereof. (3) "Cash Redemption Amount" shall mean, at anytime of determination on or after the Dividend Accrual Commencement Date, the product obtained by multiplying(a) the sum of (i) the amount of the Recovery which shall have been collected in the form of cash and (ii) the Adjusted Value of any Assigned Value Assets, less (iii) all amounts which shall have been paid by the Corporation as dividends on, in redemption of, or for the repurchase (in accordance with the provisions of Section 3(B) of this Division C) of, shares of Series A Stock, and all dividends which shall have accrued but not been paid (whether or not declared),on shares of Series A Stock by (b) the Per Share Allocation Factor. (4) "Covered Cases" shall mean, collectively, the civil actions captioned The Lubrizol Corporation, an Ohio corporation vs. Exxon Corporation, a New Jersey corporation, in the United States District Court for the Southern District of Texas (Civil Action Nos. H-84-1627 and H-85-2450), and in the United States District Court for the Northern District of Ohio (Civil Action Nos. C84-1064 and C85-3135), and all civil actions, whether in or before a state, federal or foreign court or other authority, designated either specifically or generically, as Covered Cases by majority vote of the Directors of the Corporation prior to the first date on which shares of Series A Stock are issued, and all the right, title and interest of the Corporation in and under all such actions, and in and under all actions, suits or proceedings determined by majority vote of the Directors of the Corporation, prior to the first date on which shares of Series A Stock are issued, to be directly related thereto or to have arisen therefrom, and to all claims asserted therein (whether asserted in such actions or any action to enforce any judgment or order therein or otherwise). (5) "Deferred Payment Entitlement" shall have the meaning referred to in Section 5(D) of this Division C. (6) "Recovery" shall mean the collective total amount which the Corporation (or its successors and assigns to the extent permitted hereby) shall collect, whether in cash or other assets and whether collected in one of more payments or transactions, on account of favorable judgments in the Covered Cases or settlement in respect thereof, less the sum of (a) an amount equal the product of (i) such collective total amount and (ii) the Corporation's effective income tax rate disclosed by the Corporation in the notes to the financial statements of the Corporation last published and furnished to shareholders immediately prior to the first issuance of any shares of Series A Stock and (b) any amount which the Corporation (or its successors and assigns to the extent permitted hereby) shall collect in respect of any interest assigned by the Corporation as a Deferred Payment Entitlement. 11 (7) "Per Share Allocation Factor" shall mean, at any time of determination, the fraction which results from dividing 1 by the sum of (a) the total number of shares of Series A Stock then outstanding and (b) the total number of shares of Series A Stock then subject to issuance upon the proper exercise of outstanding Rights. (B) If and whenever the Corporation shall receive any proceeds of the Recovery in a form other than cash, there shall be assigned to such assets an amount equal to the fair market value thereof as determined in good faith by the Directors, unless the Directors of the Corporation shall determine that it is not possible to assign a fair market value to such assets with a reasonable level of confidence. The Directors of the Corporation shall make such determination at the time such assets are collected or, if it is determined as aforesaid that it is not possible to assign a fair market value thereto with a reasonable level of confidence, at the first opportunity thereafter when it is possible to make such a determination in good faith. The assets to which a value has been assigned in accordance with this Section 5(B) are referred to therein as "Assigned Value Assets" and the value so assigned shall be the initial Adjusted Value of such assets. If a fair market value cannot reasonably be assigned to any assets, the Corporation shall use its best efforts to dispose of such assets as promptly as practicable, subject to the judgment of the Directors as to the best interests of the holders of Series A Stock. Pending such disposition the Corporation shall keep accurate records relating to such assets. (C) The "Earliest Redemption Date" shall mean the first date on which the Corporation shall have collected, in respect of any of the Covered Cases, in the form of cash and/or assets constituting Assigned Value Assets, aggregate proceeds of the Recovery having a value (based on the amount of cash to received together with the Adjusted Value of any Assigned Value Assets) in excess of $50,000,000. (D) Whenever the Corporation shall redeem any shares of Series A Stock when either (1) the prospect remains that additional amounts will be collected in respect of the Covered Cases or (2) any portion of the Recovery then collected consists of assets other than cash or Assigned Value Assets, the Corporation shall, in connection with such redemption, assign to the holder of each share of Series A Stock then being redeemed an undivided fractional interest equal to the Per Share Allocation Factor then in effect in all the Corporation's right, title and interest in (x) such additional amounts as maybe collected in respect of the Covered Cases as provided in the foregoing clause (1) and/or the proceeds thereof and (y) the proceeds of the sale or other disposition of any assets other than cash or Assigned Value Assets plus the revenues derived by the Corporation therefrom. The form and manner of assignment shall be as determined by the Directors of the Corporation so as to best convey to the holders of the shares of Series A Stock being redeemed the benefits contemplated hereby; provided, however, that such holders shall not by reason of the assignment of the Corporation's interest in the foregoing proceeds have any right to control the prosecution of the Covered Cases, the collection of any amounts recoverable thereunder of the operation or disposition of the aforesaid assets, and provided, further, that the Corporation may provide that the interests as assigned shall be non-transferable. The interest assigned in accordance with this Section 5(D) in respect of any share of Series A Stock being redeemed is referred to herein as a "Deferred Payment Entitlement" in respect of such share. Section 6. Voting Rights. The voting rights relating to the Serial Preferred Stock set forth in Section 6 of Division A of Article Fourth are applicable to the Series A Stock. Except as so provided, and except as required by applicable law, the holders of shares of Series A Stock shall have no voting rights with respect to any action by the Corporation or its shareholders by virtue of being a holder of shares of Series A Stock. Section 7. Limitations. (A) So long as any shares of Series A Stock are outstanding, no shares of any series of Serial Preferred Stock or other capital stock of the Corporation other than Common Shares having the express terms applicable to Common Shares on the Share Acquisition Date (as defined in Section 8(B) of this Division C) or the Series A Stock, and no shares of Series A Stock not issuable pursuant to and in accordance with the Rights Agreement, may be issued by the Corporation. 12 (B) So long as any shares of Series A Stock are outstanding, the Corporation shall not invest any portion of the proceeds of the Recovery (other than any non-cash assets collected as a part thereof) in other than "Permitted Investments." For purposes of this Section 7(C), "Permitted Investments" shall include the following obligations and securities: (a) United States Treasury bonds, notes and bills; (b) certificates of deposit issued by major commercial banks; (c) Eurodollar time deposits placed with major commercial banks; (d) corporate bonds, debentures and notes (none of which shall be convertible into any equity security) rated A or better by Moody's Investors Services and by Standard & Poor's Corporation; (e) non-convertible preferred stock rated A or better by Moody's Investors Services and by Standard & Poor's Corporation; and (f) commercial paper rated Prime-2 or better by Moody's Investors Services and A-1 or better by Standard & Poor's Corporation. In no event shall any portion of the proceeds of the Recovery be invested in any obligation or other security of a Prohibited Transferee. (C) So long as any shares of Series A Stock are outstanding, the Corporation shall not settle or otherwise compromise the Covered Cases, direct counsel to make any change in the strategy for conducting the Covered Cases, fail to pay any costs or expenses of conducting the Covered Cases which might diminish the likelihood of a favorable result therein or otherwise adversely affect the conduct of the Covered Cases, except, in each case, with the approval of the Directors of the Corporation. (D) So long as any shares of Series A Stock are outstanding, the Corporation shall not sell, assign or otherwise transfer the Covered Cases or any interest therein unless the Directors of the Corporation shall have previously determined in good faith that the proceeds to be realized thereby are fair to the holders of the Series A Stock. (E) So long as any shares of Series A Stock are outstanding, the Corporation shall not (i) consolidate with, (ii) merge with or into, (iii) sell or transfer to, in one or more transactions, assets or earning power aggregating more than 50% of the assets or earning power of the Company and its subsidiaries, taken as a whole, any Prohibited Transferee or any Affiliate or Associate thereof (as such terms are defined in Section 8(B) of this Division C), or (iv) liquidate, dissolve or otherwise wind-up the affairs of the Corporation, if at the time of, after or as a result of such consolidation, merger, sale, liquidation, dissolution or winding up there would be any charter or regulation provisions, including without limitation any provisions of the Corporation's Amended Articles of Incorporation or Regulations, as from time to time amended, of any rights, options, warrants or other instruments or securities outstanding or agreements in effect or any other actions taken, which would eliminate or otherwise diminish the benefits intended to be afforded by the Rights of the Series A Stock, without proper provision being made for the redemption of the Series A Stock in accordance with Section 7(E) of this Division C. Section 8. Contributions and Transfer. (A) The Series A Stock shall not be transferable to or by a Prohibited Transferee and any attempt to transfer shares of Series A Stock to or by a Prohibited Transferee shall be null and void. The Corporation reserves the right to require (or to cause any transfer agent of the Corporation to require) any Person who submits a share of Series A Stock for transfer on the transfer books of the Corporation or for redemption pursuant to Section 3 hereof to establish to the satisfaction of the Corporation that such Person did not acquire such shares of Series A Stock while or from a Prohibited Transferee. 13 (B) As used in this Division C, the term "Prohibited Transferee" shall mean, at the time any determination is to be made, (1) any Person other than the Corporation or any Related Person (as such terms are hereinafter defined), who or which, together with all Affiliates and Associates (as such terms are defined in Rule 12b-2 of the General Rules and Regulations under the Securities Exchange Act of 1934, as amended, and in effect on the date of first issuance of any shares of Series a Stock (the "Exchange Act")) of such Person, shall be the beneficial owner of 20% or more of the Common Shares then outstanding or (2) any Person (other than the Corporation or any Related Person) who or which, together with all Affiliates or Associates of such Person (A) commences or announces its intention to commence a tender or exchange offer the consummation of which would result in beneficial ownership by such Person of 20% or more of the Common Shares then outstanding, or announces its intention otherwise to purchase or acquire (b) 20% or more of the Common Shares then outstanding. The term "Person" shall mean any individual, firm, corporation, partnership or other entity, and shall include any successor (by merger or otherwise) of such entity. The term "Related Person" shall mean (x) any subsidiary of the Corporation, (y) any employee benefit or stock ownership plan of the Corporation or any entity holding Common Shares for or pursuant to the terms of any such plan, or (z) any Person who acquires Common Shares from the Corporation or any other Related Person in one or a series of related transactions, each of which is approved by a majority of the Directors of the Corporation; provided, however, that if any Person who becomes a Related Person solely by virtue of subsection (z) above, or any Affiliate or Associate of such Person, subsequently becomes the beneficial owner of any additional Common Shares in a transaction or transactions not approved by a majority of the Directors of the Corporation, such Person shall no longer be deemed a "Related Person" with respect to all Common Shares of which it, or any of its Affiliates or Associates, is the beneficial owner. The term "Distribution Date" shall mean the close of business on the fifteenth calendar day (or such other date as any be specified by a majority vote of the Directors then in office) after the Share Acquisition Date. The term "Share Acquisition Date" shall mean the first date of public announcement by the Corporation or a Prohibited Transferee (by press release, filing made with the Securities and Exchange Commission or otherwise) that a Prohibited Transferee has become such. For the purposes of this Division C, a Person shall be deemed the "Beneficial Owner" of and shall be deemed "beneficially to own" any securities: (i) which such Person or any of such Person's Affiliates or Associates, directly or indirectly, has the right to acquire (whether such right is exercisable immediately or only after the passage of time or the occurrence or nonoccurrence of an event) pursuant to any agreement, arrangement or understanding (whether or not in writing), or upon the exercise of conversion rights, exchange rights, other rights (other than the Other Rights), warrants, options or otherwise; provided, however, that a Person shall not be deemed the Beneficial Owner of, or beneficially to own, securities tendered pursuant to a tender or exchange offer made by or on behalf of such Person or any of such Person's Affiliates or Associates until such tendered securities are accepted for purchase or exchange; or (ii) which such Person or any of such Person's Affiliates or Associates, directly or indirectly, has the right or power to vote or dispose of, or to direct the vote or disposition of, including pursuant to any agreement, arrangement or understanding (whether or not in writing); or (iii) which any other Person is the beneficial Owner if such other Person or any of the Affiliates or Associates of such other Person has any agreement, arrangement or understanding (whether or not in writing) with the first Person or the Affiliates or Associates of the first Person with respect to acquiring, holding, voting or disposing of any securities of the Company; provided, however, that a Person shall not be deemed the Beneficial Owner of, or beneficially to own, any security (A) if such Personal has a right to vote such security pursuant to an agreement, arrangement or understanding(whether or not in writing) which (i) arises solely from a revocable proxy given to such Person in response to a public proxy or consent solicitation made pursuant to, and in accordance with, the applicable rules and regulations of the Exchange Act and (2) is not also then reportable on Schedule 13D under the Exchange Act (or any comparable or successor report), or (B) if such beneficial ownership arises solely as a result of such Person's status as a "clearing agency," as defined in Section 3(a)(23) of the Exchange Act; and provided, further, however, that nothing in this paragraph shall cause a Person engaged in business as an underwriter of securities to be the Beneficial Owner of any securities acquired through such Person's participation in good faith in an underwriting syndicate pursuant to an agreement to which the Company is a party until the expiration of 40-calendar days after the date of such acquisition. The term "Rights" shall mean the rights to purchase shares of Series A Stock issued pursuant to the terms of the Rights Agreement. The term "Other Rights" shall mean the rights to purchase Common Shares of the 14 Corporation issued pursuant to the terms of the Rights Agreement, dated October 6, 1987, as from time to time amended or supplemented, between the Corporation and National City Bank. DIVISION D EXPRESS TERMS OF THE SERIAL PREFERENCE SHARES Section 1. Serial Preference Shares may be issued from time to time in one or more series. Subject to the provisions of this Division D, which apply to all Serial Preference Shares, the Directors are hereby authorized to adopt amendments to the Articles of Incorporation in respect of any unissued or treasury Serial Preference Shares and thereby fix or change any or all of the express terms of such Serial Preference Shares as from time to time may be permitted or required by law, including without limitation the following: (i) The division of such shares into series and the designation and authorized number of shares of each series; (ii) The dividend or distribution rate; (iii) The dates of payment of dividends or distributions and the dates from which they are cumulative; (iv) Liquidation price; (v) Redemption rights and price; (vi) Sinking fund requirements; (vii) Conversion rights; and (viii) Restrictions on the issuance of shares of any class or series. Section 2. The holders of Serial Preference Shares shall be entitled to one vote for each Serial Preference Share held by them upon all matters presented to the shareholders and, except as required by law, the holders of Serial Preference Shares and the holders of Common Shares (and the holders of all other shares of voting stock of the Corporation that vote together as a class with the holders of Common Shares) shall vote together as one class on all matters. Section 3. (a) The holders of Serial Preference Shares shall be entitled to receive dividends, when and as declared by the Directors, out of the assets of the Corporation which are by law available for the payment of dividends at the rate per share per annum as shall have been fixed by the Directors pursuant to Section 1 of this Division D. (b) No dividends (other than a dividend payable in Common Shares) or other distributions shall be paid or declared on any Common Shares or any other shares ranking junior to the Serial Preference Shares (such Common Shares and other shares ranking junior to the Serial Preference Shares being hereinafter referred to as "Junior Shares"), nor shall any Junior Shares be purchased, retired or otherwise acquired by the Corporation, unless: (i) all accrued and unpaid dividends on all series of Serial Preference Shares, including the full dividends for the current period, shall have been declared and paid or provision shall have been made for such payment; and (ii) there shall be no arrearages with respect to the redemption or sinking fund obligations, if any, of the Corporation for any series of Serial Preference Shares. 15 Section 4. In the event of a voluntary or involuntary dissolution, liquidation or winding up of the affairs of the Corporation, before any payment shall be made to the holders of Junior Shares, the holders of the Serial Preference Shares shall be entitled to be paid from the assets available therefor the liquidation price fixed by the Directors pursuant to Section 1 of this Division D and all accrued and unpaid dividends on the Serial Preference Shares. Section 5. All Serial Preference Shares shall be shares "ranking junior to the Serial Preferred Stock" as such phrase is defined in Division A, Section 8 of the Articles of Incorporation. FIFTH: Except as otherwise provided in these Articles of Incorporation or in the Regulations, the holders of a majority of the outstanding shares are authorized to take any action which, but for this provision, would require the vote or other action of the holders of more than a majority of such shares. SIXTH: Except as otherwise provided in these Articles of Incorporation, the Corporation, by its Board of Directors, may purchase issued shares, to the extent permitted by law. SEVENTH: Section 1. In addition to any affirmative vote required by law or these Articles of Incorporation, any Related Party Transaction shall require the affirmative vote of not less than both a majority of the Corporation's outstanding Voting Stock and a majority of the portion of the Corporation's outstanding Voting Stock excluding the Voting Stock owned by the Related Party involved in the Related Party Transaction. Section 2. The provisions of Section 1 of this Article Seventh shall not be applicable to Related Party Transactions in which (a) the aggregate amount of the cash and the fair market value of consideration other than cash received per share by holders of shares of each class or series of Voting Stock of the Corporation who receive cash or other consideration in the Related Party Transaction is not less than the highest per share price (with appropriate adjustments for recapitalizations and for stock splits, stock dividends, and like distributions) paid by the Related Party in acquiring any of its holdings of each class of series of such Voting Stock, and (b) the form of consideration received by holders of shares of each class or series of such Voting Stock is cash or the same form used by the Related Party to acquire the largest percentage of each class or series of such Voting Stock owned by the Related Party. Section 3. The provisions of Section 1 of this Article Seventh shall not be applicable if the Continuing Directors of the Corporation by a majority vote have expressly approved the Related Party Transaction. Section 4. For the purpose of this Article Seventh: (a) The term "Related Party Transaction" shall mean (i) any merger or consolidation of the Corporation or a Subsidiary with a Related Party, irrespective of which party, if either, is the surviving party, (ii) any sale, purchase, lease, exchange, transfer, or other transaction (or series of transactions) between the Corporation or a Subsidiary and a Related Party involving the acquisition or disposition of assets for consideration of $10,000,000 or more in value (except for transactions in the ordinary course of business), (iii) the issuance or transfer of any securities of the Corporation or of a Subsidiary to a Related Party (other than an issuance or transfer of securities which is effected on a pro rata basis to all shareholders of the Corporation), (iv) any reclassification of securities of the Corporation (including any reverse stock split) or any recapitalization or other transaction involving the Corporation or its Subsidiaries that would have the effect of increasing the voting power of a Related Party, except for any mandatory redemption required by the terms of outstanding securities, and (v) the adoption of any plan or proposal for the liquidation or dissolution of the Corporation in favor of which a Related Party votes its Voting Stock. 16 (b) The term "Related Party" shall mean (i) any individual, corporation, partnership, or other person, group or entity which, together with its Affiliates and Associates, is the beneficial owner of ten percent (10%) or more but less than ninety percent (90%) of the Voting Stock of the Corporation or (ii) any such Affiliate or Associate. (c) A person shall be a "beneficial owner" of any shares of Voting Stock: (i) Which such person or any of its Affiliates or Associates beneficially owns, directly or indirectly; or (ii) Which such person or any of its Affiliates or Associates has (a) the right to acquire (whether such right is exercisable immediately or only after the passage of time) pursuant to any agreement, arrangement or understanding or upon the exercise of conversion rights, exchange rights, warrants or options, or otherwise, or (b) the right to vote pursuant to any agreement, arrangement or understanding; or (iii) Which are beneficially owned, directly or indirectly, by any other person with which such person or any of its Affiliates or Associates has any agreement, arrangement or understanding for the purpose of acquiring, holding, voting or disposing of any shares of Voting Stock. (d) The terms "Affiliate" and "Associate" shall have the respective meanings ascribed to such terms in Rule 12b-2 of the General Rules and Regulations under the Securities Act of 1934, as in effect on January 1,1985 (or any subsequent provisions replacing such Act, Rules or Regulations). (e) The term "consideration other than cash" as used in Section 2(a) of this Article Seventh shall include, without limitation, Voting Stock of the Corporation retained by its existing shareholders in the event of a merger or consolidation with a Related Party in which the Corporation is the surviving corporation. (f) The term "Subsidiary" shall mean any Affiliate of the Corporation more than fifty percent (50%) of the outstanding securities of which representing the right, other than as affected by events of default, to vote for the election of directors is owned by the Corporation or by another Subsidiary (or both). (g) The term "Voting Stock" shall mean all securities of the Corporation entitled to vote generally in the election of directors. (h) The term "Continuing Director" shall mean a director who either (i) was a member of the Board of Directors of the Corporation immediately prior to the time that the Related Party involved in a Related Party Transaction became a Related Party, or (ii) was designated (before his or her initial election as a director) as a Continuing Director by a majority of the then Continuing Directors. Section 5. A majority of the Continuing Directors shall have the power and duty to determine conclusively for the purposes of this Article Seventh, on the basis of information known to them, (a) whether a person is a Related Party, (b) whether a person is an Affiliate or Associate of another, (c) whether a transaction between the Corporation or a Subsidiary and a Related Party involves the acquisition or disposition of assets for consideration of $10,000,000 or more in value, (d) the fair market value of consideration other than cash received by holders of Voting Stock in a Related Party Transaction, and (e) such other matters with respect to which a determination or interpretation is required under this Article Seventh. Section 6. Nothing contained in this Article Seventh shall be construed to relieve any related Party from any fiduciary obligation imposed by law. 17 Section 7. Notwithstanding any other provisions of these Articles of Incorporation or the Regulations of the Corporation or any provision of law which might otherwise permit a lesser vote, but in addition to any affirmative vote of the holders of any particular class or series of stock required by law or these Articles of Incorporation, the affirmative vote of the holders of at least sixty-six and two-thirds percent (66-2/3%) of the Corporation's Voting Stock, voting as a single class, shall be required to alter, amend or adopt any provision inconsistent with or repeal this Article Seventh. EIGHTH: Section 1. Any direct or indirect purchase or other acquisition by the Corporation of any shares of Voting Stock from any Selling Shareholder who has beneficially owned any of such shares of Voting Stock for less than two years prior to the date of such purchase or other acquisition, or any agreement in respect thereof, shall, except as expressly provided in Section 2 of this Article Eighth, require the affirmative vote of the holders of not less than a majority of the shares of Voting Stock represented in person or by proxy at a meeting at which a quorum is present, excluding Voting Stock beneficially owned by such Selling Shareholder, voting together as a single class. Such affirmative vote shall be required notwithstanding the fact that no vote may be required, or that a lesser percentage may be specified by law, or in any agreement with any national securities exchange or otherwise. Section 2. The provisions of Section 1 of this Article Eighth shall not be applicable (a) to any purchase or other acquisition by the Corporation from a Selling Shareholder of shares of Voting Stock owned by said Selling Shareholder which purchase or acquisition is made as part of a tender or exchange offer by the Corporation to purchase Voting Stock of the same class or series made on the same terms to all holders of such Voting Stock and complying with the applicable requirements of the Securities Exchange Act of 1934 and the rules and regulations thereunder (or any subsequent provisions replacing such Act, rules or regulations), or (b) to the purchase from any Selling Shareholder of shares of Voting Stock by the Corporation at a price not in excess of the Fair Value thereof, and any such purchase or acquisition shall require only such affirmative vote, if any, as is required by law and any other provisions of these Articles of Incorporation or otherwise. Section 3. For the purpose of this Article Eighth: (a) "Selling Shareholder" shall mean any individual, firm, partnership, corporation or other person, group or entity (other than the Corporation or any corporation of which a majority of its voting stock is owned, directly or indirectly, by the Corporation) who or which: (i) is the beneficial owner of more than five percent (5%) of the class or series of Voting Stock to be acquired; or (ii) is an Affiliate of the Corporation and at any time within the two-year period immediately prior to the date in question was the beneficial owner of more than five percent (5%) of the class or series of Voting Stock to be acquired; or (iii) is an assignee or has otherwise succeeded to any shares of the class or series of Voting Stock to be acquired which were at any time within the two-year period immediately prior to the date in question beneficially owned by a Selling Shareholder, if such assignment or succession shall have occurred in the course of a transaction or series of transactions not involving a public offering within the meaning of the Securities Act of 1933. (b) "Affiliate" or "Associate" shall have the respective meanings ascribed to such terms in Rule12b-2 of the General Rules and Regulations under the Securities Act of 1934, as in effect on January 1,1985 (or any subsequent provisions replacing such Act, Rules or Regulations). (c) A person shall be a "beneficial owner" of any shares of Voting Stock: 18 (i) Which such person or any of its Affiliates or Associates beneficially owns, directly or indirectly; or (ii) Which such person or any of its Affiliates or Associates has (a) the right to acquire (whether such right is exercisable immediately or only after the passage of time) pursuant to any agreement, arrangement or understanding or upon the exercise of conversion rights, exchange rights, warrants or options, or otherwise, or (b) the right to vote pursuant to any agreement, arrangement or understanding; or (iii) Which are beneficially owned, directly or indirectly, by any other person with which such person or any of its Affiliates or Associates has any agreement, arrangement or understanding for the purpose of acquiring, holding, voting or disposing of any shares of Voting Stock. (d) For the purpose of determining whether a person is a Selling Shareholder pursuant to paragraph (a) of this Section 3, the number of shares of Voting Stock deemed to be outstanding shall include shares deemed owned through application of paragraph (c) of this Section 3, but shall not include any other shares of Voting Stock which may be issuable pursuant to any agreement, arrangement or understanding, or upon exercise of conversion rights, warrants or options, or otherwise. (e) "Voting Stock" shall mean all securities of the Corporation entitled to vote generally in the election of directors. (f) "Fair Value" shall mean the highest closing sale price of such Voting Stock during the thirty-day period immediately preceding the date in question, on the Composite Tape for New York Stock Exchange-Listed Stocks, or, if such Voting Stock is not quoted on the Composite Tape, on the New York Stock Exchange, or, if such Voting Stock is not listed on such Exchange, on the principal United States securities exchange registered under the Securities Exchange Act of 1934 on which such Voting Stock is listed, or, if such Voting Stock is not listed on any such exchange, the highest closing bid quotation with respect to such Voting Stock, during the thirty-day period immediately preceding the date in question, on the National Association of Securities Dealers, Inc. Automated Quotations System or any system then in use, or if no such quotations are available, the Fair Value on the date in question of such Voting Stock shall be as determined by a majority of the Board of Directors of the Corporation in good faith. Section 4. A majority of the Board of Directors shall have the power and duty to determine conclusively for the purposes of this Article Eighth, on the basis of information known to them, (a) whether a person is a Selling Shareholder, (b) the Fair Value of Voting Stock owned by a Selling Shareholder, and (c) such other matters with respect to which a determination or interpretation is required under this Article Eighth. NINTH: No person shall make a Control Share Acquisition without first obtaining the prior authorization of the Corporation's shareholders at a special meeting of shareholders called by the Board of Directors in accordance with this Article Ninth. Section 1. PROCEDURE. Any Person who proposes to make a Control Share Acquisition shall deliver a notice ("Notice") to the Corporation at its principal place of business that sets forth all of the following information: (A) The identity of the Person who is giving the Notice; (B) A Statement that the Notice is given pursuant to this Article Ninth. 19 (C) The number and class of shares of the Corporation owned, directly or indirectly, by the Person who gives the Notice; (D) The range of voting power (as specified in Section 6(B)(1)) under which the proposed Control Share Acquisition would, if consummated, fall; (E) A description in reasonable detail of the terms of the proposed Control Share Acquisition; and (F) Representatives, supported by reasonable information, that the proposed Control Share Acquisition would be consummated if shareholder approval is obtained and, if consummated, would not be contrary to law and that the Person who is giving the Notice has the financial capacity to make the proposed Control Share Acquisition. Section 2. CALL OF SPECIAL MEETING OF SHAREHOLDERS. The Board of Directors of the Corporation shall, within ten (10) days after receipt by the Corporation of a Notice that complies with Section 1, call a special meeting of shareholders to be held not later than fifty (50) days after receipt of the Notice by the Corporation, unless the Person who delivered the Notice agrees to a later date, to consider the proposed Control Share Acquisition; provided that the Board of Directors shall have no obligation to call such a meeting if they make a determination with ten (10) days after receipt of the Notice that the proposed Control Share Acquisition could not be consummated for financial or legal reasons. The Board of Directors may adjourn such special meeting of shareholders if prior to such meeting the Corporation has received a Notice from any other Person and the Board of Directors has determined that the Control Share Acquisition proposed by such other Person, or a merger, consolidation or sale of assets of the Corporation, should be presented to shareholders at an adjourned meeting or at a special meeting held at a later date. For purposes of making a determination that a special meeting of shareholders should not be allowed pursuant to this Section 2, no such determination shall be deemed void or voidable with respect to the Corporation merely because one or more of its directors or officers who participated in deliberations regarding such determination may be deemed to be other than disinterested, if in any such case the material facts of the relationship giving rise to a basis for self-interest are known to the directors and the directors, in good faith reasonably justified by the facts, make such determination by the affirmative vote of a majority of the disinterested directors, even though the disinterested directors constitute less than a quorum. For purposes of this paragraph, "disinterested directors" shall mean directors whose material contacts with the Corporation are limited principally to activities as a director or shareholder. Persons who have substantial, recurring business or professional contacts with the Corporation shall not be deemed to be "disinterested directors" for purposes of this provision. A director shall not be deemed to be other than a "disinterested director" merely because he would no longer be a director if the proposed Control Share Acquisition were approved and consummated. Section 3. NOTICE OF SPECIAL MEETING. The Corporation shall, as promptly as practicable, give notice of the special meeting of shareholders called pursuant to Section 2 to all shareholders of record as of the record date set for such meeting. Such notice shall include or be accompanied by a copy of the Notice and by a statement of the Corporation, authorized by the Board of Directors, of its position or recommendation, or that it is taking no position or making no recommendation, with respect to the proposed Control Share Acquisition. Section 4. REQUIREMENTS FOR APPROVAL. The Person who delivered the Notice may make the proposed Control Share Acquisition if both of the following occur: (A) The Shareholders of the Corporation authorize such acquisition at the special meeting of shareholders called pursuant to Section 2, at which meeting a quorum is present, by the affirmative vote of a majority of the Voting Stock represented at such meeting in person or by proxy and by a majority of the portion of such Voting Stock represented at such meeting in person 20 or by proxy excluding the votes of Interested Shares. A quorum shall be deemed to be present at such special meeting if at least a majority of the issued and outstanding Voting Stock, and a majority of such Voting Stock excluding Interested Shares, are represented at such meeting in person or by proxy. (B) Such acquisition is consummated, in accordance with the terms so authorized, not later than three hundred sixty (360) days following shareholder authorization of the Control Share Acquisition. Section 5. VIOLATIONS OF RESTRICTION. Any Voting Stock issued or transferred to any Person in violation of this Article Ninth shall hereinafter be called "Excess Shares." In the event that any Person acquires Excess Shares, then, in addition to any other remedies which the Corporation may have at law or in equity as a result of such acquisition, the Corporation shall have the right to redeem, or to deny voting rights or other shareholder rights appurtenant to such Excess Shares. The Corporation additionally shall have the right to regard the Person who holds Excess Shares as having acted as an agent on behalf of the Corporation in acquiring the Excess Shares and to hold such Excess Shares on behalf of the Corporation. As the equivalent of treasury securities for such purposes, the Excess Shares shall not be entitled to any voting rights, shall not be considered to be outstanding for quorum or voting purposes, and the Person who holds Excess Shares shall not be entitled to receive dividends, interest or any other distribution with respect to the Excess Shares. Any Person who receives dividends, interest or any other distribution with respect to Excess Shares shall hold the same as agent for the Corporation and, following a permitted transfer, for the transferee thereof. Notwithstanding the foregoing, any Person who holds Excess Shares may transfer the same (together with any distributions thereon) to any Person who, following such transfer, would not own shares in violation of this Article Ninth. Upon such permitted transfer, the Corporation shall pay or distribute to the transferee any distributions on the Excess Shares not previously paid or distributed. Section 6. DEFINITIONS. As used in this Article Ninth: (A) "Person" includes, without limitation, an individual, a corporation (whether nonprofit or for profit), a partnership, an unincorporated society or association, and two or more persons having a joint or common interest. (B)(1) "Control Share Acquisition" means the acquisition, directly or indirectly, by any Person, of shares of the Corporation that, when added to all other shares of the Corporation in respect of which such Person, directly or indirectly, may exercise or direct the exercise of voting power as provided in this Section 6(B)(1), would entitle such Person, immediately after such acquisition, directly or indirectly, to exercise or direct the exercise of voting power of the Corporation in the election of directors within any of the following ranges of such voting power: (a) One-fifth or more but less than one-third of such voting power; (b) One-third or more but less than a majority of such voting power; or (c) A majority or more of such voting power. A bank, broker, nominee, trustee, or other Person who acquires shares in the ordinary course of business for the benefit of others in good faith and not for the purpose of circumventing this Article Ninth shall, however, be deemed to have voting power only of shares in respect of which such Person would be able to exercise or direct the exercise of votes at a special meeting of shareholders called pursuant to Section 2of this Article Ninth without further instruction from others. For purposes of this Article Ninth, the acquisition of securities immediately convertible into shares of the Corporation with voting power in the election of directors shall be treated as an acquisition of such shares. 21 (2) The acquisition of any shares of the Corporation does not constitute a Control Share Acquisition for the purposes of this Article Ninth if the acquisition is consummated in any of the following circumstances: (a) By underwriters in good faith and not for the purpose of circumventing this Article Ninth in connection with an offering to the public of securities of the Corporation; (b) By bequest or inheritance, by operation of law upon the death of any individual, or by any other transfer without valuable consideration, including a gift that is made in good faith and not for the purpose of circumventing this Article Ninth; (c) Pursuant to the satisfaction of a pledge or other security interest created in good faith and not for the purpose of circumventing this Article Ninth; (d) Pursuant to a merger, consolidation, combination or majority share acquisition adopted or authorized by shareholder vote in compliance with the provisions of Article Seventh of these Articles of Incorporation and Section 1701.78 or 1701.83 of the Ohio Revised Code if the Corporation is the surviving or new corporation in the merger or consolidation or is the acquiring corporation in the combination or majority share acquisition; (e) Under such circumstances that the acquisition does not result in the Person acquiring shares of the Corporation being entitled, immediately thereafter and for the first time, directly or indirectly, to exercise or direct the exercise of voting power of the Corporation in the election of directors within the range of one-fifth or more but less than one-third of such voting power, or within any of the ranges of voting power specified in Section 6(B)(1)(a), (b) or (c) which is higher than the range of voting power applicable to such Person immediately prior to such acquisition; (f) Prior to [date of the Merger]; or (g) Pursuant to a contract existing prior to [date of the Merger]. The acquisition by any Person of shares of the Corporation in a manner described under this Section 6(B)(2) shall be deemed to be a Control Share Acquisition authorized pursuant to this Article Ninth within the range of voting power specified in Section 6(B)(1)(a), (b) or (c) that such Person is entitled to exercise after such acquisition, provided that, in the case of an acquisition in a manner described under Section 6(B)(2)(b) or (c), the transferor of shares to such Person had previously obtained any authorization of shareholders required under this Article Ninth in connection with such transferor's acquisition of shares of the Corporation. (3) The acquisition of shares of the Corporation in good faith and not for the purpose of circumventing this Article Ninth from any Person whose Control Share Acquisition had previously been authorized by shareholders in compliance with this Article Ninth, or from any Person whose previous acquisition of shares would have constituted a Control Share Acquisition but for Section 6(B)(2), does not constitute a Control Share Acquisition for the purpose of this Article Ninth unless such acquisition entitles any Person, directly or indirectly, alone or with others, to exercise or direct the exercise of voting power of the Corporation in the election of directors in excess of the range of such voting power authorized pursuant to this Article Ninth, or deemed to be so authorized under Section 6(B)(2). (C) "Interested Shares" means Voting Stock with respect to which any of the following persons may exercise or direct the exercise of the voting power: (1) any Person whose Notice prompted the calling of a special meeting of shareholders pursuant to Section 2; 22 (2) any officer of the Corporation elected or appointed by the directors of the Corporation; and (3) any employee of the Corporation who is also a director of the Corporation. (D) "Voting Stock" means all securities of the Corporation entitled to vote generally in the election of directors, and, for purposes of Section 5 of this Article Ninth, shall mean securities of the Corporation immediately convertible into securities entitled to vote generally in the election of directors. Section 7. PROXIES. No proxy appointed for or in connection with the Shareholder authorization of a Control Share Acquisition pursuant to this Article Ninth is valid if it provides that it is irrevocable. No such proxy is valid unless it is sought, appointed, and received both: (A) In accordance with all applicable requirements of law; and (B) Separate and apart from the sale or purchase, contract or tender for sale or purchase, or request or invitation for tender for sale or purchase, of shares of the Corporation. Section 8. REVOCABILITY OF PROXIES. Proxies appointed for or in connection with the shareholder authorization of a Control Share Acquisition pursuant to this Article Ninth shall be revocable at all times prior to the obtaining of such shareholder authorization, whether or not coupled with an interest. Section 9. AMENDMENTS. Notwithstanding any other provisions of these Articles of Incorporation or the Regulations of the Corporation or any provision of law that might otherwise permit a lesser vote, but in addition to any affirmative vote of the holders of any particular class or series of stock required by law, the Articles of Incorporation or the Regulations of the Corporation, the affirmative vote of the holders of at least sixty-six and two-thirds percent (66-2/3%) of the Voting Stock, voting as a single class, shall be required to alter, amend or repeal this Article Ninth or adopt any provisions in the Articles of Incorporation or Regulations of the Corporation which are inconsistent with the provisions of this Article Ninth. Section 10. LEGEND ON SHARE CERTIFICATES. Each certificate representing shares of the Corporation's capital stock shall contain the following legend: Transfer of the shares represented by this Certificate is subject to the provisions of Article Ninth of the Corporation's Articles of Incorporation as the same may be in effect from time to time. Upon written request delivered to the Secretary of the Corporation at its principal place of business, the Corporation will mail to the holder of this Certificate a copy of such provisions without charge within five (5) days after receipt of written request therefor. By accepting this Certificate the holder hereof acknowledges that it is accepting same subject to the provisions of said Article Ninth as the same may be in effect from time to time and covenants with the Corporation and each shareholder thereof from time to time to comply with the provisions of said Article Ninth as the same may be in effect from time to time. TENTH: The provisions of Section 1701.831 of the Ohio Revised Code, as amended from time to time, or any successor provision or provisions to said Section, shall not apply with respect to any particular Control Share Acquisition, as such is defined in said Section, regarding this Corporation so long as Article Ninth of these Articles of Incorporation, as such Articles of Incorporation may be amended from time to time, remains an Article of these Articles of Incorporation and remains substantially in full force and effect, disregarding any renumbering of such Article Ninth resulting from any amendment of these Articles of Incorporation. 23 ELEVENTH: These Amended Articles of Incorporation supersede the existing Amended Articles of Incorporation of the Corporation. EX-3.B 3 EXHIBIT 3(B) 1 EXHIBIT (3)(b) REGULATIONS OF THE LUBRIZOL CORPORATION MEETINGS OF SHAREHOLDERS Section 1. Annual Meeting. The annual meeting of the shareholders of the Company shall be held at the principal office of the Company, or at such other place within or without the State of Ohio as the directors may determine, on the fourth Monday of April of each year, if not a legal holiday, or, if a legal holiday, then on the next succeeding business day. The directors shall be elected thereat and such other business transacted as may be specified in the notice of the meeting. Section 2. Special Meetings. Special meetings of the shareholders may be called at any time by the Chairman of the Board, the Vice Chairman of the Board, the President, or by a majority of the directors acting with or without a meeting, or by shareholders holding fifty percent (50%) or more of the outstanding shares entitled to vote thereat. Such meetings may be held within or without the State of Ohio at such time and place as may be specified in the notice thereof. Section 3. Notice of Meetings. Written or printed notice of every annual or special meeting of the shareholders stating the time and place and the purposes thereof shall be given to each shareholder entitled to vote thereat and to each shareholder entitled to notice as provided by law, by mailing the same to his last address appearing on the records of the Company at least seven days before any such meeting. Any shareholder may waive any notice required to be given by law or under these Regulations, and by attendance at any meeting, shall be deemed to have waived notice thereof. Section 4. Persons Becoming Entitled by Operation of Law of Transfer. Every person who, by operation of law transfer, or any other means whatsoever, shall become entitled to any shares, shall be bound by every notice in respect of such share or shares which previously to the entering of his name and address on the records of the Company shall have been duly given to the person from whom he derives his title to such shares. Section 5. Quorum and Adjournments. Except as may be otherwise required by law or by the Articles of Incorporation, the holders of shares entitling them to exercise a majority of the voting power of the Company shall constitute a quorum to hold a shareholders meeting; provided, however, that at any meeting, whether a quorum is present or otherwise, the holders of a majority of the voting shares represented thereat may adjourn from time to time without notice other than by announcement at such meeting. Section 6. Business to be Conducted at Meetings. At any meeting of shareholders, only such business shall be conducted as shall have been properly brought before the meeting. To be properly brought before a meeting of shareholders, business must be specified in the notice of meeting (or any supplement thereto) given by or at the direction of the Directors, otherwise properly brought before the meeting by or at the direction of the directors or otherwise properly brought before the meeting by a shareholder. For business to be properly brought before a meeting of shareholders by a shareholder, the shareholder must have given timely notice thereof in writing to the Secretary of the Company. To be timely, a shareholder's notice must be delivered to or mailed and received at the principal executive offices of the Company not less than sixty (60) days nor more than ninety (90) days prior to the meeting; provided, however, that in the event that less than seventy-five (75) days' notice or prior public disclosure of the date of the meeting is given or made to the shareholders, notice by the shareholder to be timely must be so received not later than the close of business on the fifteenth (15th) day following the earlier of the day on which such notice of the date of the meeting was mailed or such public disclosure was made. A shareholder's notice to the Secretary shall set forth as to each matter the shareholder proposes to bring before the meeting (i) a brief description of the business desired to be brought before the meeting and the reasons for conducting such business at the meeting; (ii) the name and record address of the shareholder proposing such business; 2 (iii) the class and number of shares of the Company which are beneficially owned by such shareholder; and (iv) any material interest of such shareholder in such business. Notwithstanding anything in the Regulations of the Company to the contrary, no business shall be conducted at a meeting of shareholders except in accordance with the procedures set forth in this Section 6. The Chairman of the meeting of shareholders may, if the facts warrant determine and declare to the meeting that business was not properly brought before the meeting in accordance with the provisions of this Section 6, and if he should so determine, any such business shall not be transacted. DIRECTORS Section 7. Number. The number of directors may be determined by the vote of the holders of a majority of the shares of the Company entitled to vote for the election of directors that are represented at any annual meeting or special meeting called for the purpose of electing directors or by resolution adopted by affirmative vote of a majority of the directors then in office, provided that the number of directors shall in no event be fewer than nine (9) nor more than thirteen (13). When so fixed, such number shall continue to be the authorized number of directors until changed by the shareholders or directors by vote as aforesaid. Section 8. Nominations. Only persons who are nominated in accordance with the following procedures shall be eligible for election as directors. Nominations of persons for election as directors of the Company may be made at a meeting of shareholders by or at the direction of the directors, by any nominating committee or person appointed by the directors, or by any shareholder of the Company entitled to vote for the election of directors who complies with the notice procedures set forth in this Section 8. Nominations by shareholders shall be made pursuant to timely notice in writing to the Secretary of the Company. To be timely, a shareholder's notice shall be delivered to or mailed and received at the principal executive offices of the Company not less than sixty (60) days nor more than ninety (90) days prior to the meeting; provided, however, that in the event that less than seventy-five (75) days' notice or prior public disclosure of the date of the meeting is given or made to shareholders, notice by the shareholder to be timely must be so received not later than the close of business on the fifteenth (15th) day following the earlier of the day on which such notice of the date of the meeting was mailed or such public disclosure was made. Such shareholder's notice shall set forth: (a) as to each person who is not an incumbent director whom the shareholder proposes to nominate for election as a director, (i) the name, age, business address and residence address of such person, (ii) the principal occupation or employment of such person, (iii) the class and number of shares of the Company which are beneficially owned by such person, and (iv) any other information relating to such person that is required to be disclosed in solicitations for proxies for election of directors pursuant to Regulation 14A under the Securities Exchange Act of 1934 (or any comparable successor rule or regulation under such Act);and (b) as to the shareholder giving the notice (i) the name and record address of such shareholder, and (ii) the class and number of shares of the Company which are beneficially owned by such shareholder. Such notice shall be accompanied by the written consent of each proposed nominee to serve as a director of the Company, if elected. No person shall be eligible for election as a director of the Company unless nominated in accordance with the procedures set forth in this Section 8. The Chairman of the meeting may, if the facts warrant, determine and declare to the meeting that a nomination was not made in accordance with the provisions of this Section 8, and if he should so determine the defective nomination shall be disregarded. Section 9. Classification, Election and Term of Office of Directors. The directors shall be divided into three classes, as nearly equal in number as possible. At the 1985 Annual Meeting of Shareholders, one class of directors shall be elected for a one-year term, one class for a two-year term and one class for a three-year term. At each succeeding annual meeting of shareholders, successors to the class of directors whose term expires in that year will be elected for a three-year term. At such time as the shareholders or directors fix or change the total number of directors comprising the Board of directors, they shall also fix, or determine the adjustment to be made to, the number of directors comprising the three classes of directors, provided, however, that no reduction in the number of directors shall of itself 3 result in the removal of or shorten the term of any incumbent director. In the case of any increase in the number of directors of any class, any additional directors elected to such class shall hold office for a term which shall coincide with the term of such class. A director shall hold office until the annual meeting for the year in which his term expires and until his successor shall be elected and shall qualify, subject, however, to prior death, resignation, or removal from office. Election of directors shall be by ballot whenever requested by any person entitled to vote at the meeting, but unless so requested, such election may be conducted in any way approved at such meeting. Section 10. Removal. Except as otherwise provided by law, all the directors, or all the directors of a particular class, or any individual director, may be removed from office without assigning any cause, by the affirmative vote of at least sixty-six and two-thirds percent (66-2/3%) of the shares of the Company present in person or represented by proxy and entitled to vote in respect thereof, at an annual meeting or at any special meeting duly called for such purpose. Section 11. Vacancies. Whenever any vacancy shall occur among the directors, the remaining directors shall constitute the directors of the Company until such vacancy is filled or until the number of directors is changed as above provided. The remaining directors; though less than a majority of the whole authorized number of directors, may, by a vote of a majority of their number, fill any vacancy for a term ending with the next annual meeting or until a successor is elected and qualified. Section 12. Quorum. A majority of the directors in office at the time shall constitute a quorum - provided that any meeting duly called, whether a quorum be present or otherwise, may, by note of a majority of the directors present adjourn from time to time and place to place within or without the State of Ohio without notice other than by announcement at the meeting. At any meeting of the directors at which a quorum is present, all questions and business shall be determined by the affirmative vote of not less than a majority of the directors present. Section 13. Organization Meeting. Immediately after each annual meeting of the shareholders at which directors are elected, or each special meeting held in lieu thereof, the newly elected directors, if a quorum thereof be present, shall hold an organization meeting at the same place or at such other time and place as may be fixed by the shareholders at such meeting, for the purpose of electing officers and transacting any other business. Notice of such meeting need not be given. If for any reason such organization meeting is not held at such time, a special meeting for such purpose shall be held as soon thereafter as practicable. Section 14. Regular Meetings. Regular meetings of the directors may be held at such times and places within or without the State of Ohio as may be provided for in by-laws or resolutions adopted by the directors and upon such notice, if any, shall be so provided for. Section 15. Special Meetings. Special meetings of the directors may be held at any time within or without the State of Ohio upon call by the Chairman of the Board, the Vice Chairman of the Board, the President, or any two directors. Notice of each such meeting shall be given to each director by letter or telegram or in person not less than forty-eight (48) hours prior to such meeting; provided, however, that such notice shall be deemed to have been waived by the directors attending such meeting, and may be waived in writing or by telegram by any director either before or after such meeting. Unless otherwise indicated in the notice thereof, any business may be transacted at any organization, regular or special meeting. Section 16. Compensation. The directors are authorized to fix a reasonable salary for directors or a reasonable fee for attendance at any meeting of the directors, the Executive Committee, or other committees elected under Section 18 hereof, or any combination of salary and attendance fee, provided that no compensation as director shall be paid to any director who is a full-time employee of the Company. In addition to such compensation provided for directors, they shall be reimbursed for any expenses incurred by them in traveling to and from such meetings. EXECUTIVE COMMITTEE AND OTHER COMMITTEES 4 Section 17. Membership and Organization. (a) The directors, at any time, may elect from their number an Executive Committee which shall consist of not less than three members, each of whom shall hold office during the pleasure of the directors and may be removed at any time, with or without cause by note thereof. (b) Vacancies occurring in the Committee may be filled by the directors. (c) The Committee shall appoint one of its own number as Chairman who shall preside at all meetings and may also appoint a Secretary (who need not be a member of the Committee) who shall keep its records and who shall hold office during the pleasure of the Committee. Section 18. Meetings. (a) Meeting of the Committee may be held upon notice of the time and place thereof at any place within or without the State of Ohio and until otherwise ordered by the Committee shall be held at any time and place at the call of the Chairman or any two members thereof. (b) A majority of the members of the Committee shall be necessary for the transaction of any business and at any meeting the Committee may exercise any or all of its powers and any business which shall come before any meeting maybe transacted thereat, provided a majority of the Committee is present, but in every case the affirmative vote of a majority of all of the members of the Committee shall be necessary to any action by it taken. Section 19. Powers. Except as its powers, duties and functions may be limited or prescribed by the directors, during the intervals between the meetings of the directors, the Committee shall possess and may exercise all the powers of the directors in the management and control of the business of the Company; provided that the Committee shall not be empowered to declare-dividends, elect officers, nor to fill vacancies among the directors of Executive Committee. All actions of the Committee shall be reported to the directors at their meeting next succeeding such action and shall be subject to revision or alteration by the directors provided that no rights of any third person shall be affected thereby. Section 20. Other Committees. The directors may elect other committees from among the directors in addition to or in lieu of an Executive Committee and give to them any of the powers which under the foregoing provisions could be vested in an Executive Committee. Sections 15 and 16 shall be applicable to such other committees. OFFICERS Section 21. Officers Designated. The directors at their organization meeting or at a special meeting held in lieu thereof, shall elect a President, a Secretary, a Treasurer and, in their discretion, a Chairman of the Board, a Vice Chairman of the Board, one or more Vice Presidents, an Assistant Secretary or Secretaries, an Assistant Treasurer or Treasurers, and such other officers as the directors may see fit. The President, the Chairman of the Board and the Vice Chairman of the Board shall be, but the other officers may, but need not be, chosen from among the directors. Any two or more of such offices other than that of President and Vice President, or Secretary and Assistant Secretary or Treasurer and Assistant Treasurer, may be held by the same person, but no officer shall execute, acknowledge or verify any instrument in more than one capacity. Section 22. Tenure of Office. The officers of the Company shall hold office until the next organization meeting of the directors and until their successors are chosen and qualified, except in case of resignation, death or removal. The directors may remove any officer at any time with or without cause by a majority vote of the directors in office at the time. A vacancy, however created, in any office may be filled by election by the directors. Section 23. Chairman of the Board and President. The Chairman of the Board shall preside at meetings of shareholders and at meetings of directors. The President shall, in the absence of the Chairman of the Board, preside at meetings of the shareholders and in the absence of the Chairman of 5 the Board and of the Vice Chairman of the Board shall also preside at meetings of the directors. The directors shall designate either the Chairman of the Board or the President as chief executive officer of the Company. The chief executive officer of the Company shall have general supervision over its property, business and affairs, and perform all the duties usually incident to such office, subject to the directions of the directors. He may execute all authorized deeds, mortgages, bonds, contracts and other obligations, in the name of the Company, and shall have such other powers and duties as may be prescribed by the directors. During such time as the President or Chairman of the Board, as the case may be, is not the chief executive officer, he shall have such authority and perform such duties as the directors may determine. In case of the absence or disability of the chief executive officer or when circumstances prevent the chief executive officer from acting, the President (if the Chairman of the Board is the chief executive officer) or the Chairman of the Board (if the President is the chief executive officer) shall perform the duties of the chief executive officer. Section 24. Vice Chairman of the Board. The Vice Chairman of the Board, if any, shall, in the absence of the Chairman of the Board, preside at meetings of the directors and shall have such other powers and duties as may be prescribed by the directors. Section 25. Vice Presidents. The Vice Presidents shall have such powers and duties as may be prescribed by the directors or as may be delegated by the chief executive officer. Incase of the absence or disability of the Chairman of the Board and the President or when circumstances prevent them from acting, the Vice Presidents, in the order designated by the directors, shall perform the duties of the chief executive officer, and in such case, the power of the Vice Presidents to execute all authorized deeds, mortgages, bonds, contracts and other obligations, in the name of the Company shall be coordinate with like powers of the chief executive officer and any such instrument so executed by such Vice Presidents shall be as valid and binding as though executed by the chief executive officer. In case the chief executive officer and such Vice Presidents are absent or unable to perform their duties, the directors may appoint a President pro tempore. Section 26. Secretary. The Secretary shall keep the minutes of all meetings of the shareholders and the directors. He shall keep such records as may be required by the directors, shall have charge of the seal of the Company and shall give all notices of shareholders and directors meetings required by law or by these Regulations, or otherwise, and shall have such other powers and duties as may be prescribed by the directors. Section 27. Treasurer. The Treasurer shall receive and have in charge all money, bills, notes, bonds, stocks in other corporations and similar property belonging to the Company, and shall do with the same as shall be ordered by the directors. He shall keep accurate financial accounts, and hold the same open for inspection and examination of the directors. On the expiration of this term of office, he shall turn over to his successor, or the directors, all property, books, papers and money of the Company in his hands. He shall have such other powers and duties as may be prescribed by the directors. Section 28. Other Officers. The Assistant Secretaries, Assistant Treasurers, if any, and any other officers that the directors may elect, shall have such powers and duties as the directors may prescribe. Section 29. Delegation of Duties. The directors are authorized to delegate the duties of any officers to any other officer and generally to control the action of the officers and to require the performance of duties in addition to those mentioned herein. Section 30. Compensation. The directors are authorized to determine or to provide the method of determining the compensation of all officers. Section 31. Bond. Any officer or employee, if required by the directors, shall give bond in such sum and with such security as the directors may require for the faithful performance of his duties. 6 Section 32. Signing Checks and Other Instruments. The directors are authorized to determine or provide the method of determining how checks, notes, bills of exchange and similar instruments shall be signed, countersigned or endorsed. INDEMNIFICATION OF DIRECTORS, OFFICERS AND EMPLOYEES Section 33. Indemnification. The Company shall indemnify any director or officer and any former director or officer of the Company and any such director or officer who is or has served at the request of the Company as a director, officer or trustee of another corporation, partnership, joint venture, trust or other enterprise (and his heirs, executors and administrators) against expenses, including attorney's fees, judgments, fines and amounts paid in settlement, actually and reasonably incurred by him by reason of the fact that he is or was such director, officer or trustee in connection with any threatened, pending or completed action, suitor proceeding, whether civil, criminal, administrative or investigative to the full extent permitted by applicable law. The indemnification provided for herein shall not be deemed to restrict the right of the Company (i) to indemnify employees, agents and others to the extent not prohibited by such law, (ii) to purchase and maintain insurance or furnish similar protection on behalf of or for any person who is or was a director, officer, employee or agent of the Company, or any person who is or was serving at the request of the Company as a director, officer, trustee, employee or agent of another corporation, joint venture, partnership, trust or other enterprise against any liability asserted against him or incurred by him in any such capacity or arising out of his status as such and (iii) to enter into agreements with persons of the class identified in clause (ii) above indemnifying them against any and all liabilities (or such lesser indemnification as may be provided in such agreements) asserted against or incurred by them in such capacities. CORPORATE SEAL Section 34. The corporate seal of this Company shall be circular in form and contain the name of the Company. PROVISIONS IN ARTICLES OF INCORPORATION Section 35. These Regulations are at all times subject to the provisions of the Articles of Incorporation of the Company (including in such term whenever used in these Regulations all amendments to the Articles of Incorporation in force at the time) and in case of any conflict, the provisions in the Articles of Incorporation shall govern. AMENDMENTS Section 36. Amendments. (a) These Regulations may be altered, changed or amended in any respect or superseded by new Regulations, in whole or in part, by the affirmative vote of the holders of a majority of the shares of the Company present in person or by proxy and entitled to vote thereon, at an annual or special meeting duly called for such purpose. (b) Notwithstanding the provisions of Section 36(a) hereof and notwithstanding the fact that a lesser percentage may be specified by law or in any agreement with any national securities exchange or any other provision of these Regulations, the amendment, alteration, change or repeal of, or adoption of any provisions inconsistent with, Sections 7, 9 or 10 of these Regulations shall require the affirmative vote, at an annual or special meeting duly called for such purpose, of the holders of shares representing at least sixty-six and two-thirds percent (66-2/3%) of the voting power of the Company, unless such amendment, alteration, change, repeal or adoption has been recommended by at least two-thirds of the Board of Directors of the Company then in office, in which event the provisions of Section 36(a) hereof shall apply. EX-4.A 4 EXHIBIT 4(A) 1 EXHIBIT (4)(a) CERTIFICATE OF AMENDMENT TO AMENDED ARTICLES OF INCORPORATION of THE LUBRIZOL CORPORATION L. E. Coleman, Chairman and Chief Executive Officer and K. H. Hopping, Secretary, of The Lubrizol Corporation, an Ohio corporation (the "Corporation"), DO HEREBY CERTIFY THAT: Pursuant to the authority conferred upon the Directors by the Amended Articles of Incorporation of the Corporation, the Directors at a meeting duly called and held on October 28, 1991,at which a quorum was present and acting throughout, adopted the following resolution to amend the Amended Articles of Incorporation of the Corporation pursuant to Section 1701.70(B)(1) of the Ohio Revised Code to amend the terms of a series of the Corporation's Serial Preferred Stock designated as Serial Preferred Stock, Series A: RESOLVED, that in accordance with the Special Rights Plan Amendment and pursuant to the authority vested in the Directors of this Corporation in accordance with the provisions of its Amended Articles of Incorporation (the "Articles"), Section 7(A) of Division C of Article Fourth of the Articles be and hereby is amended to read in its entirety as follows: (A) So long as any shares of Series A Stock are outstanding, no shares of any series of Serial Preferred Stock or other capital stock of the Corporation may be issued by the Corporation except for (i) Common Shares having the express terms applicable to Common Shares on the Share Acquisition Date (as defined in Section 8(B) of this Division C), (ii) shares of capital stock which are Junior Stock (as that term is defined in Section 2(B) of this Division C), and (iii) shares of Series A Stock issuable pursuant to and in accordance with the Rights Agreement. IN WITNESS WHEREOF L. E. Coleman, Chairman and Chief Executive Officer, and K. H. Hopping, Secretary, of The Lubrizol Corporation, acting for and on behalf of the Corporation, have hereunto subscribed their names this 28th day of October, 1991. /s/ L. E. Coleman /s/ K. H. Hopping L. E. Coleman, Chairman & CEO K. H. Hopping, Secretary EX-10.C 5 EXHIBIT 10(C) 1 EXHIBIT (10)(c) EMPLOYMENT AGREEMENT This EMPLOYMENT AGREEMENT (this "Agreement") dated as of by and between The Lubrizol Corporation, an Ohio corporation (the "Company"), and (the "Executive"); WITNESSETH: WHEREAS, the Executive is a senior executive of the Company and has made and is expected to continue to make major contributions to the profitability, growth and financial strength of the Company; WHEREAS, the Company recognizes that, as is the case for most publicly held companies, the possibility of a Change in Control (as that term is hereafter defined) exists; WHEREAS, the Company desires to assure itself of both present and future continuity of management in the event of a Change in Control and desires to establish certain minimum compensation rights of its key senior executive officers, including the Executive, applicable in the event of a Change in Control; WHEREAS, the Company wishes to ensure that its senior executives are not practically disabled from discharging their duties upon a Change in Control; WHEREAS, this Agreement is not intended to alter materially the compensation and benefits which the Executive could reasonably expect to receive from the Company absent a Change in Control and, accordingly, although effective and binding as of the date hereof, this Agreement shall become operative only upon the occurrence of a Change in Control; and WHEREAS, the Executive is willing to render services to the Company on the terms and subject to the conditions set forth in this Agreement; NOW, THEREFORE, the Company and the Executive agree as follows: 1. Operation of Agreement: (a) This Agreement shall be effective and binding immediately upon its execution, but, anything in this Agreement to the contrary notwithstanding, this Agreement shall not be operative unless and until there shall have occurred a Change in Control. For purposes of this Agreement, a "Change in Control" shall have occurred if at anytime during the Term (as that term is hereafter defined) any of the following events shall occur: (i) The Company is merged, consolidated or reorganized into or with another corporation or other legal person, and immediately after such merger, consolidation or reorganization less than a majority of the combined voting power of the then-outstanding securities of such corporation or person immediately after such transaction are held in the aggregate by the holders of Voting Stock (as that term is hereafter defined) of the Company immediately prior to such transaction; (ii) The Company sells all or substantially all of its assets to any other corporation or other legal person, less than a majority of the combined voting power of the then-outstanding securities of such corporation or person immediately after such sale are held in the aggregate by the holders of Voting Stock of the Company immediately prior to such sale; (iii) There is a report filed on Schedule 13D or Schedule 14D-1 (or any successor schedule, form or report), each as promulgated pursuant to the Securities Exchange Act of 1934, as amended (the "Exchange Act"), disclosing that any person (as the term "person" is used in Section 13(d)(3) or Section 14(d)(2) of the Exchange Act) has become the beneficial owner (as the term "beneficial owner, is defined under Rule 13d-3 or any successor rule or regulation promulgated under the Exchange Act) of securities representing 20% or more of the combined 2 voting power of the then-outstanding securities entitled to vote generally in the election of directors of the Company ("Voting Stock"); (iv) The Company files a report or proxy statement with the Securities and Exchange Commission pursuant to the Exchange Act disclosing in response to Form 8-K or Schedule 14A (or any successor schedule, form or report or item therein) that a change in control of the Company has or may have occurred or will or may occur in the future pursuant to any then-existing contract or transaction; or (v) If during any period of two consecutive years, individuals who at the beginning of any such period constitute the Directors of the Company cease for any reason to constitute at least a majority thereof, provided, however, that for purposes of this clause (v), each Director who is first elected, or first nominated for election by the Company's stockholders by a vote of at least two-thirds of the Directors of the Company (or a committee thereof) then still in office who were Directors of the Company at the beginning of any such period will be deemed to have been a Director of the Company at the beginning of such period. Notwithstanding the foregoing provisions of Section 1(a)(iii)or 1(a)(iv) hereof, unless otherwise determined in a specific case by majority vote of the Board of Directors of the Company (the "Board"), a "Change in Control" shall not be deemed to have occurred for purposes of this Agreement solely because(i) the Company, (ii) an entity in which the Company directly or indirectly beneficially owns 50% or more of the voting securities (a "Subsidiary"), or (iii) any Company-sponsored employee stock ownership plan or any other employee benefit plan of the Company, either files or becomes obligated to file a report or a proxy statement under or in response to Schedule 13D, Schedule 14D-1, Form 8-K or Schedule 14A (or any successor schedule, form or report or item therein) under the Exchange Act, disclosing beneficial ownership by it of shares of Voting Stock, whether in excess of 20% or otherwise, or because the Company reports that a change in control of the Company has or may have occurred or will or may occur in the future by reason of such beneficial ownership. (b) Upon the occurrence of a Change in Control at anytime during the Term, this Agreement shall become immediately operative. (c) The period during which this Agreement shall be in effect (the "Term") shall commence as of the date hereof and shall expire as of the later of (i) the close of business on and (ii) the expiration of the Period of Employment (as that term is hereinafter defined); provided, however, that (A) commencing on January 1, and each January 1 thereafter, the term of this Agreement shall automatically be extended for an additional year unless, not later than September 30 of the immediately preceding year, the Company or the Executive shall have given notice that it or he, as the case may be, does not wish to have the Term extended and (B) subject to Section 10 hereof, if, prior to a Change in Control, the Executive ceases for any reason to be an employee of the Company and any Subsidiary, thereupon the Term shall be deemed to have expired and this Agreement shall immediately terminate and be of no further effect. 2. Employment; Period of Employment: (a) Subject to the terms and conditions of this Agreement, upon the occurrence of a Change in Control, the Company shall continue the Executive in its employ and the Executive shall remain in the employ of the Company and/or a Subsidiary, as the case maybe, for the period set forth in Section 2(b) hereof (the "Period of Employment"), in the position and with substantially the same duties and responsibilities that he had immediately prior to the Change in Control, or to which the Company and the Executive may hereafter mutually agree in writing. Throughout the Period of Employment, the Executive shall devote substantially all of his time during normal business hours(subject to vacations, sick leave and other absences in accordance with the policies of the Company as in effect for senior executives immediately prior to the Change in Control)to the business and affairs of the Company, but nothing in this Agreement shall preclude the Executive from devoting reasonable periods of time during normal business hours to (i) serving as a director, trustee or member of or participant in any organization or business so long as such activity would not constitute Competitive Activity (as that term is 3 hereafter defined) if conducted by the Executive after the Executive's Termination Date (as that term is hereafter defined), (ii)engaging in charitable and community activities, or (iii)managing his personal investments. (b) The Period of Employment shall commence on the date of an occurrence of a Change in Control and, subject only to the provisions of Section 4 hereof, shall continue until the earliest of (i) the expiration of the third anniversary of the occurrence of the Change in Control, (ii) the Executive's death, or (iii) the Executive's attainment of age 65; provided, however, that commencing on each anniversary of the Change of Control, the Period of Employment shall automatically be extended for an additional year unless, not later than 90 calendar days prior to such anniversary date, either the Company or the Executive shall have given written notice to the other that the Period of Employment shall not be so extended. 3. Compensation During Period of Employment:(a) Upon the occurrence of a Change in Control, the Executive shall receive during the Period of Employment (i) annual base salary at a rate not less than the Executive's annual fixed or base compensation (payable monthly or otherwise as in effect for senior executives of the Company immediately prior to the occurrence of a Change in Control) or such higher rate as maybe determined from time to time by the Board or the Compensation Committee thereof (which base salary at such rate is herein referred to as "Base Pay") and (ii) an annual amount equal to not less than the highest aggregate annual bonus, incentive or other payments of cash compensation in addition to the amounts referred to in clause (i) above made or to be made in regard to services rendered in any calendar year during the three calendar years immediately preceding the year in which the Change in Control occurred pursuant to any bonus, incentive, profit-sharing, performance, discretionary pay or similar agreement, policy, plan, program or arrangement (whether or not funded) of the Company or any successor thereto providing benefits at least as great as the benefits payable thereunder prior to a Change in Control ("Incentive Pay");provided, however, that (A) with the prior written consent of the Executive, nothing herein shall preclude a change in the mix between Base Pay and Incentive Pay so long as that the aggregate cash compensation received by the Executive in anyone calendar year is not reduced in connection therewith or as a result thereof, (B) in no event shall any increase in the Executive's aggregate cash compensation or any portion thereof in any way diminish any other obligation of the Company under this Agreement, and (C) no duplicate payment hereunder will be made in respect of any amount actually paid to the Executive pursuant to any such agreement, policy, plan, program or arrangement. (b) For his service pursuant to Section 2(a) hereof, during the Period of Employment the Executive shall be a full participant in, and shall be entitled to the perquisites, benefits and service credit for benefits as provided under, any and all employee retirement income and welfare benefit policies, plans, programs or arrangements in which senior executives of the Company participate, including without limitation any stock option, stock purchase, stock appreciation, savings, pension, supplemental executive reimbursement and other employee benefit policies, plans, programs or arrangements that may now exist or any equivalent successor policies, plans, programs or arrangements that may be adopted hereafter by the Company providing perquisites, benefits and service credit for benefits at least as great as are payable thereunder prior to a Change in Control (collectively, "Employee Benefits"); provided, however, that except as expressly provided in, and subject to the terms of, Section 3(a) hereof, the Executive's rights thereunder shall be governed by the terms thereof and shall not be enlarged hereunder or otherwise affected hereby. If and to the extent such perquisites, benefits or service credit for benefits are not payable or provided under any such policy, plan, program or arrangement as a result of the amendment or termination thereof, then the Company shall itself pay or provide therefor. Nothing in this Agreement shall preclude improvement or enhancement of any such Employee Benefits, provided that no such improvement shall in any way diminish any other obligation of the Company under this Agreement. 4. Termination Following a Change in Control:(a) In the event of the occurrence of a Change in Control, the Executive's employment may be terminated by the Company during the Period of Employment and the Executive shall not be entitled to the benefits provided by Sections 5 and 6 hereof only upon the occurrence of one or more of the following events: (i) The Executive's death; 4 (ii) If the Executive shall become permanently disabled within the meaning of, and begins actually to receive disability benefits pursuant to, the long-term disability plan in effect for senior executives of the Company immediately prior to the Change in Control; or (iii) "Cause", which for purposes of this Agreement shall mean that, prior to any termination pursuant to Section 4(b) hereof, the Executive shall have committed: (A) an intentional act of fraud, embezzlement or theft in connection with his duties or in the course of his employment with the Company and/or any Subsidiary; (B) intentional wrongful damage to property of the Company and/or any Subsidiary; (C) intentional wrongful disclosure of secret processes or confidential information of the Company and/or any Subsidiary; or (D) intentional wrongful engagement in any Competitive Activity; and any such act shall have been materially harmful to the Company. For purposes of this Agreement, no act, or failure to act, on the part of the Executive shall be deemed "intentional" if it was due primarily to an error in judgment or negligence, but shall be deemed "intentional" only if done, or omitted to be done, by the Executive not in good faith and without reasonable belief that his action or omission was in the best interest of the Company. Notwithstanding the foregoing, the Executive shall not be deemed to have been terminated for "Cause" hereunder unless and until there shall have been delivered to the Executive a copy of a resolution duly adopted by the affirmative vote of not less than three-quarters of the Board then in office at a meeting of the Board called and held for such purpose (after reasonable notice to the Executive and an opportunity for the Executive, together with his counsel, to be heard before the Board), finding that, in the good faith opinion of the Board, the Executive had committed an act set forth above in Section 4(a)(iii) and specifying the particulars thereof in detail. Nothing herein shall limit the right of the Executive or his beneficiaries to contest the validity or propriety of any such determination. (b) In the event of the occurrence of a Change in Control, this Agreement may be terminated by the Executive during the Period of Employment with the right to severance compensation as provided in Sections 5 and 6 hereof upon the occurrence of one or more of the following events (regardless of whether any other reason, other than Cause as hereinabove provided, for such termination exists or has occurred, including without limitation other employment): (i) Any termination by the Company of the employment of the Executive prior to the date upon which the Executive shall have attained age 65, which termination shall be for any reason other than for Cause or as a result of the death of the Executive or by reason of the Executive's disability and the actual receipt of disability benefits in accordance with Section 4(a)(ii) hereof; or (ii) Termination by the Executive of his employment with the Company and any Subsidiary within three years after the Change in Control upon the occurrence of any of the following events: (A) Failure to elect or reelect or otherwise to maintain the Executive in the office or the position, or a substantially equivalent office or position, of or with the Company and/or a Subsidiary, as the case may be, which the Executive held immediately prior to a Change in Control, or the removal of the Executive as a Director of the Company (or any successor thereto) if the Executive shall have been a Director of the Company immediately prior to the Change in Control; (B) A significant adverse change in the nature or scope of the authorities, powers, functions, responsibilities or duties attached to the position with the Company and any Subsidiary which the Executive held immediately prior to the Change in Control, a 5 reduction in the aggregate of the Executive's Base Pay and Incentive Pay received from the Company and any Subsidiary, or the termination or denial of the Executive's rights to Employee Benefits as herein provided, any of which is not remedied within 10 calendar days after receipt by the Company of written notice from the Executive of such change, reduction or termination, as the case may be; (C) A determination by the Executive made in good faith that as a result of a Change in Control and a change in circumstances thereafter significantly affecting his position, including without limitation a change in the scope of the business or other activities for which he was responsible immediately prior to a Change in Control, he has been rendered substantially unable to carry out, has been substantially hindered in the performance of, or has suffered a substantial reduction in, any of the authorities, powers, functions, responsibilities or duties attached to the position held by the Executive immediately prior to the Change in Control, which situation is not remedied within 10 calendar days after written notice to the Company from the Executive of such determination; (D) The liquidation, dissolution, merger, consolidation or reorganization of the Company or transfer of all or a significant portion of its business and/or assets, unless the successor or successors (by liquidation, merger, consolidation, reorganization or otherwise) to which all or a significant portion of its business and/or assets have been transferred (directly or by operation of law) shall have assumed all duties and obligations of the Company under this Agreement pursuant to Section 12 hereof; (E) The Company shall relocate its principal executive offices, or require the Executive to have his principal location of work changed, to any location which is in excess of 25 miles from the location thereof immediately prior to the Change of Control or to travel away from his office in the course of discharging his responsibilities or duties hereunder significantly more (in terms of either consecutive days or aggregate days in any calendar year) than was required of him prior to the Change of Control without, in either case, his prior written consent; or (F) Without limiting the generality or effect of the foregoing, any material breach of this Agreement by the Company or any successor thereto. (c) A termination by the Company pursuant to Section 4(a) hereof or by the Executive pursuant to Section 4(b) hereof shall not affect any rights which the Executive may have pursuant to any agreement, policy, plan, program or arrangement of the Company providing Employee Benefits (except as provided in Section 5(a)(ii) hereof), which rights shall be governed by the terms thereof. If this Agreement or the employment of the Executive is terminated under circumstances in which the Executive is not entitled to any payments under Sections 3, 5 or 6 hereof, the Executive shall have no further obligation or liability to the Company hereunder with respect to his prior or any future employment by the Company. 5. Severance Compensation: (a) If, following the occurrence of a Change in Control, the Company shall terminate the Executive's employment during the Period of Employment other than pursuant to Section 4(a) hereof, or if the Executive shall terminate his employment pursuant to Section 4(b) hereof, the Company shall continue to provide the following benefits and shall further pay to the Executive the following amounts within five business days after the date (the "Termination Date") that the Executive's employment is terminated (the effective date of which shall be the date of termination, or such other date that may be specified by the Executive if the termination is pursuant to Section 4(b) hereof): (i) In lieu of any further payments to the Executive for periods subsequent to the Termination Date, but without affecting the rights of the Executive referred to in Section 5(b) hereof, a lump sum payment (the "Severance Payment") in an amount equal to the present value (using a discount rate required to be utilized for purposes of computations under Section 280G of the Code or any successor provision thereto, or if no such rate is so required to be used, a rate 6 equal to the then-applicable interest rate prescribed by the Pension Benefit Guarantee Corporation for benefit valuations in connection with non-multiemployer pension plan terminations assuming the immediate commencement of benefit payments (the "Discount Rate")) of the sum of (A) the aggregate Base Pay (at the highest rate in effect for any period prior to the Termination Date) for each remaining year or partial year of the Period of Employment which the Executive would have received had such termination or breach not occurred, plus (B) the aggregate Incentive Pay (determined in accordance with the standards set forth in Section 3(a)(ii) hereof), which the Executive would have received pursuant to this Agreement or any agreement, policy, plan, program or arrangement referred to therein during the remainder of the Period of Employment had his employment continued for the remainder of the Period of Employment (in which event the Executive will no longer be entitled to Incentive Pay under any such agreement, policy, plan, program or arrangement except for Incentive Pay to which he was entitled for service prior to the Termination Date). (ii) For the remainder of the Period of Employment, the Company shall arrange to provide the Executive with Employee Benefits that are welfare benefits, but not stock option, stock purchase, stock appreciation, or similar compensatory benefits, substantially similar to those which the Executive was receiving or entitled to receive immediately prior to the Termination Date (and if and to the extent that such benefits shall not or cannot be paid or provided under any policy, plan, program or arrangement of the Company or any Subsidiary, as the case may be, then the Company shall itself pay or provide for the payment to the Executive, his dependents and beneficiaries, such Employee Benefits). Without otherwise limiting the purposes or effect of Section 7 hereof, Employee Benefits otherwise receivable by the Executive pursuant to the first sentence of this Section 5(a)(ii) shall be reduced to the extent comparable welfare benefits are actually received by the Executive from another employer during such period following the Executive's Termination Date, and any such benefits actually received by the Executive shall be reported by the Executive to the Company. Notwithstanding the foregoing, the remainder of the Period of Employment shall be considered service with the Company for the purpose of determining service credits and benefits due and payable to the Executive under the Company's retirement income, supplemental executive retirement and other benefit plans of the Company applicable to the Executive or his beneficiaries immediately prior to the Termination Date. (b) Upon written notice given by the Executive to the Company prior to the occurrence of a Change in Control, the Executive, at his sole option, without reduction to reflect the present value of such amounts as aforesaid, may elect to have all or any of the Severance Payment payable pursuant to Section 5(a)(i) hereof paid to him on a quarterly or monthly basis during the remainder of the Period of Employment. (c) There shall be no right of set-off or counterclaim in respect of any claim, debt or obligation against any payment to or benefit for the Executive provided for in this Agreement, except as expressly provided in Section 5(a)(ii) hereof. (d) Without limiting the rights of the Executive at law or in equity, if the Company fails to make any payment required to be made hereunder on a timely basis, the Company shall pay interest on the amount thereof at an annualized rate of interest equal to the then-applicable Discount Rate. (e) Notwithstanding any other provision hereof, the parties' respective rights and obligations under this Section 5 will survive any termination or expiration of this Agreement or the termination of the Executive's employment for any reason whatsoever. 6. Certain Additional Payments by the Company: (a) Anything in this Agreement to the contrary notwithstanding, in the event that this Agreement shall become operative and it shall be determined (as hereafter provided) that any payment or distribution by the Company or any of its affiliates to or for the benefit of the Executive, whether paid or payable or distributed or distributable pursuant to the terms of this Agreement or otherwise pursuant to or by reason of any other agreement, policy, plan, program or arrangement, including without limitation any stock option, stock appreciation right or similar right, or the lapse or termination of any restriction on or the vesting or exercisability of any of the foregoing 7 (individually and collectively a "Payment"), would be subject to the excise tax imposed by Section 4999 of the Code(or any successor provision thereto) by reason of being considered "contingent on a change in ownership or control" of the Company, within the meaning of Section 280G of the Code (or any successor provision thereto), or any interest or penalties with respect to such excise tax (such excise tax, together with any such interest and penalties, being hereafter collectively referred to as the "Excise Tax"), then the Executive shall be entitled to receive an additional payment or payments(individually and collectively, a "Gross-Up Payment"). The Gross-Up Payment shall be in an amount such that, after payment by the Executive of all taxes (including any interest or penalties imposed with respect to such taxes), including any Excise Tax imposed upon the Gross-Up Payment, the Executive retains an amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payment. (b) Subject to the Provisions of Section 6(e) hereof, all determinations required to be made under this Section 6, including whether an Excise Tax is payable by the Executive and the amount of such Excise Tax and whether a Gross-Up Payment is required to be paid by the Company to the Executive and the amount of such Gross-Up Payment, if any, shall be made by a nationally recognized accounting firm (the "Accounting Firm") selected by the Executive in his sole discretion. The Executive shall direct the Accounting Firm to submit its determination and detailed supporting calculations to both the Company and the Executive within 30 calendar days after the Termination Date, if applicable, and any such other time or times as may be requested by the Company or the Executive. If the Accounting Firm determines that any Excise Tax is payable by the Executive, the Company shall pay the required Gross-Up Payment to the Executive within five business days after receipt of such determination and calculations with respect to any Payment to the Executive. The federal tax returns filed by the Executive shall be prepared and filed on a consistent basis with the determination of the Accounting Firm with respect to the Excise Tax payable by the Executive. If the Accounting Firm determines that no Excise Tax is payable by the Executive, it shall, at the same time as it makes such determination, furnish the Company and the Executive an opinion that the Executive has substantial authority not to report any Excise Tax on his federal income tax return. As a result of the uncertainty in the application of Section 4999 of the Code (or any successor provision thereto) at the time of any determination by the Accounting Firm hereunder, it is possible that Gross-Up Payments which will not have been made by the Company should have been made (an "Underpayment"), consistent with the calculations required to be made hereunder. In the event that the Company exhausts or fails to pursue its remedies pursuant to Section 6(e) hereof and the Executive thereafter is required to make a payment of any Excise Tax, the Executive shall direct the Accounting Firm to determine the amount of the Underpayment that has occurred and to submit its determination and detailed supporting calculations to both the Company and the Executive as promptly as possible. Any such Underpayment shall be promptly paid by the Company to, or for the benefit of, the Executive within five business days after receipt of such determination and calculations. (c) The Company and the Executive shall each provide the Accounting Firm access to and copies of any books, records and documents in the possession of the Company or the Executive, as the case may be, reasonably requested by the Accounting Firm, and otherwise cooperate with the Accounting Firm in connection with the preparation and issuance of the determinations and calculations contemplated by Section 6(b)hereof. (d) The fees and expenses of the Accounting Firm for its services in connection with the determinations and calculations contemplated by Section 6(b) hereof shall be borne by the Company. If such fees and expenses are initially paid by the Executive, the Company shall reimburse the Executive the full amount of such fees and expenses within five business days after receipt from the Executive of a statement therefor and reasonable evidence of his payment thereof. (e) The Executive shall notify the Company in writing of any claim by the Internal Revenue Service that, if successful, would require the payment by the Company of a Gross-Up Payment. Such notification shall be given as promptly as practicable but no later than 10 business days after the Executive actually receives notice of such claim and the Executive shall further apprise the Company of the nature of such claim and the date on which such claim is requested to be paid (in each case, to the extent known by the Executive). The Executive shall not pay such claim prior to the earlier of (i) the expiration of the 30-calendar-day period following the date on which he gives such notice to the Company and (ii) the date 8 that any payment of amount with respect to such claim is due. If the Company notifies the Executive in writing prior to the expiration of such period that it desires to contest such claim, the Executive shall: (i) provide the Company with any written records or documents in his possession relating to such claim reasonably requested by the Company; (ii) take such action in connection with contesting such claim as the Company shall reasonably request in writing from time to time, including without limitation accepting legal representation with respect to such claim by an attorney competent in respect of the subject matter and reasonably selected by the Company; (iii) cooperate with the Company in good faith in order effectively to contest such claim; and (iv) permit the Company to participate in any proceedings relating to such claim; provided, however, that the Company shall bear and pay directly all costs and expenses (including interest and penalties)incurred in connection with such contest and shall indemnify and hold harmless the Executive, on an after-tax basis, for and against any Excise Tax or income tax, including interest and penalties with respect thereto, imposed as a result of such representation and payment of costs and expenses. Without limiting the foregoing provisions of this Section 6(e), the Company shall control all proceedings taken in connection with the contest of any claim contemplated by this Section 6(e) and, at its sole option, may pursue or forego any and all administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of such claim (provided, however, that the Executive may participate therein at his own cost and expense) and may, at its option, either direct the Executive to pay the tax claimed and sue for a refund or contest the claim in any permissible manner, and the Executive agrees to prosecute such contest to a determination before any administrative tribunal, in a court of initial jurisdiction and in one or more appellate courts, as the Company shall determine; provided, however, that if the Company directs the Executive to pay the tax claimed and sue for a refund, the Company shall advance the amount of such payment to the Executive on an interest-free basis and shall indemnify and hold the Executive harmless, on an after-tax basis, from any Excise Tax or income tax, including interest or penalties with respect thereto, imposed with respect to such advance; and provided further, however, that any extension of the statute of limitations relating to payment of taxes for the taxable year of the Executive with respect to which the contested amount is claimed to be due is limited solely to such contested amount. Furthermore, the Company's control of any such contested claim shall be limited to issues with respect to which a Gross-Up Payment would be payable hereunder and the Executive shall be entitled to settle or contest, as the case may be, any other issue raised by the Internal Revenue Service or any other taxing authority. (f) If, after the receipt by the Executive of an amount advanced by the Company pursuant to Section 6(e) hereof, the Executive receives any refund with respect to such claim, the Executive shall (subject to the Company's complying with the requirements of Section 6(e) hereof) promptly pay to the Company the amount of such refund (together with any interest paid or credited thereon after any taxes applicable thereto).If, after the receipt by the Executive of an amount advanced by the Company pursuant to Section 6(e) hereof, a determination is made that the Executive shall not be entitled to any refund with respect to such claim and the Company does not notify the Executive in writing of its intent to contest such denial or refund prior to the expiration of 30 calendar days after such determination, then such advance shall be forgiven and shall not be required to be repaid and the amount of any such advance shall offset, to the extent thereof, the amount of Gross-Up Payment required to be paid by the Company to the Executive pursuant to this Section 6. 7. No Mitigation Obligation: The Company hereby acknowledges that it will be difficult, and may be impossible, for the Executive to find reasonably comparable employment following the Termination Date and that the noncompetition covenant contained in Section 8 hereof will further limit the employment opportunities for the Executive. In addition, the Company acknowledges that its severance pay plans applicable in general to its salaried employees do not provide for mitigation, offset or reduction of any severance payment received thereunder. Accordingly, the parties hereto expressly agree that the 9 payment of the severance compensation by the Company to the Executive in accordance with the terms of this Agreement will be liquidated damages, and that the Executive shall not be required to mitigate the amount of any payment provided for in this Agreement by seeking other employment or otherwise, nor shall any profits, income, earnings or other benefits from any source whatsoever create any mitigation, offset, reduction or any other obligation on the part of the Executive hereunder or otherwise, except as expressly provided in Section 5(a)(ii) hereof. 8. Competitive Activity: During a period ending one year following the Termination Date, if the Executive shall have received or shall be receiving benefits under Section 5 hereof and, if applicable, Section 6 hereof, the Executive shall not, without the prior written consent of the Company, which consent shall not be unreasonably withheld, engage in any Competitive Activity. For purposes of this Agreement, the term "Competitive Activity" shall mean the Executive's participation, without the written consent of an officer of the Company, in the management of any business enterprise if such enterprise engages in substantial and direct competition with the Company and such enterprise's sales of any product or service competitive with any product or service of the Company amounted to 25% of such enterprise's net sales for its most recently completed fiscal year and if the Company's net sales of said product or service amounted to 25% of the Company's net sales for its most recently completed fiscal year. "Competitive Activity" shall not include (i) the mere ownership of securities in any such enterprise and exercise of rights appurtenant thereto or (ii) participation in management of any such enterprise other than in connection with the competitive operations of such enterprise. 9. Legal Fees and Expenses: (a) It is the intent of the Company that the Executive not be required to incur legal fees and the related expenses associated with the enforcement or defense of his rights under this Agreement by litigation or other legal action because the cost and expense thereof would substantially detract from the benefits intended to be extended to the Executive hereunder. Accordingly, if it should appear to the Executive that the Company has failed to comply with any of its obligations under this Agreement or in the event that the Company or any other person takes or threatens to take any action to declare this Agreement void or unenforceable, or institutes any litigation or other action or proceeding designed to deny, or to recover from, the Executive the benefits provided or intended to be provided to the Executive hereunder, the Company irrevocably authorizes the Executive from time to time to retain counsel of his choice, at the expense of the Company as hereafter provided, to represent the Executive in connection with the initiation or defense of any litigation or other legal action, whether by or against the Company or any Director, officer, stockholder or other person affiliated with the Company, in any jurisdiction. Notwithstanding any existing or prior attorney-client relationship between the Company and such counsel, the Company irrevocably consents to the Executive's entering into an attorney-client relationship with such counsel, and in that connection the Company and the Executive agree that a confidential relationship shall exist between the Executive and such counsel. Without respect to whether the Executive prevails, in whole or in part, in connection with any of the foregoing, the Company shall pay or cause to be paid and shall be solely responsible for any and all attorneys' and related fees and expenses incurred by the Executive in connection with any of the foregoing. (b) Without limiting the generality or effect of Section 9(a) hereof, in order to ensure the benefits intended to be provided to the Executive under Section 9(a) hereof, the Company will promptly use its best efforts to secure an irrevocable standby letter of credit (the "Letter of Credit"), issued by National City Bank or another bank having combined capital and surplus in excess of $500 million (the "Bank") for the benefit of the Executive and certain other of the officers of the Company and providing that the fees and expenses of counsel selected from time to time by the Executive pursuant to this Section 9 shall be paid, or reimbursed to the Executive if paid by the Executive, on a regular, periodic basis upon presentation by the Executive to the Bank of a statement or statements prepared by such counsel in accordance with its customary practices. The Company shall pay all amounts and take all action necessary to maintain the Letter of Credit during the Period of Employment and for two years thereafter and if, notwithstanding the Company's complete discharge of such obligations, such Letter of Credit shall be terminated or not renewed, the Company shall obtain a replacement irrevocable clean letter of credit drawn upon a commercial bank selected by the Company and reasonably acceptable to the Executive, upon substantially the same terms and conditions as contained in the Letter of Credit, or any similar 10 arrangement which, in any case, assures the Executive the benefits of this Agreement without incurring any cost or expense in connection therewith. (c) Notwithstanding any other provision hereof, the parties' respective rights and obligations under this Section 9 will survive any termination or expiration of this Agreement or the termination of the Executive's employment for any reason whatsoever. 10. Employment Rights: Nothing expressed or implied in this Agreement shall create any right or duty on the part of the Company or the Executive to have the Executive remain in the employment of the Company prior to any Change in Control; provided, however, that any termination of employment of the Executive or the removal of the Executive from his office or position in the Company or any Subsidiary following the commencement of any discussion with a third person that ultimately results in a Change in Control shall be deemed to be a termination or removal of the Executive after a Change in Control for purposes of this Agreement. 11. Withholding of Taxes: The Company may withhold from any amounts payable under this Agreement all federal, state, city or other taxes as shall be required pursuant to any law or government regulation or ruling. 12. Successors and Binding Agreement: (a) The Company shall require any successor (whether direct or indirect, by purchase, merger, consolidation, reorganization or otherwise) to all or substantially all of the business and/or assets of the Company, by agreement in form and substance satisfactory to the Executive, expressly to assume and agree to perform this Agreement in the same manner and to the same extent the Company would be required to perform if no such succession had taken place. This Agreement shall be binding upon and inure to the benefit of the Company and any successor to the Company, including without limitation any persons acquiring directly or indirectly all or substantially all of the business and/or assets of the Company whether by purchase, merger, consolidation, reorganization or otherwise (and such successor shall thereafter be deemed the "Company" for the purposes of this Agreement), but shall not otherwise be assignable, transferable or delegable by the Company. (b) This Agreement shall inure to the benefit of and be enforceable by the Executive's personal or legal representatives, executors, administrators, successors, heirs, distributees and/or legatees. (c) This Agreement is personal in nature and neither of the parties hereto shall, without the consent of the other, assign, transfer or delegate this Agreement or any rights or obligations hereunder except as expressly provided in Sections 12(a) and 12(b) hereof. Without limiting the generality of the foregoing, the Executive's right to receive payments hereunder shall not be assignable, transferable or delegable, whether by pledge, creation of a security interest or otherwise, other than by a transfer by his will or by the laws of descent and distribution and, in the event of any attempted assignment or transfer contrary to this Section 12(c), the Company shall have no liability to pay any amount so attempted to be assigned, transferred or delegated. (d) The Company and the Executive recognize that each party will have no adequate remedy at law for breach by the other of any of the agreements contained herein and, in the event of any such breach, the Company and the Executive hereby agree and consent that the other shall be entitled to a decree of specific performance, mandamus or other appropriate remedy to enforce performance of this Agreement. 13. Notice: For all purposes of this Agreement, all communications including without limitation notices, consents, requests or approvals, provided for herein shall be in writing and shall be deemed to have been duly given when delivered or five business days after having been mailed by United States registered or certified mail, return receipt requested, postage prepaid, addressed to the Company (to the attention of the Secretary of the Company) at its principal executive office and to the Executive at his principal residence, or to such other address as any party may have furnished to the other in writing and in accordance herewith, except that notices of change of address shall be effective only upon receipt. 11 14. Governing Law: The validity, interpretation, construction and performance of this Agreement shall be governed by the laws of the State of Ohio, without giving effect to the principles of conflict of laws of such State. 15. Validity: If any provision of this Agreement or the application of any provision hereof to any person or circumstances is held invalid, unenforceable or otherwise illegal, the remainder of this Agreement and the application of such provision to any other person or circumstances shall not be affected, and the provision so held to be invalid, unenforceable or otherwise illegal shall be reformed to the extent (and only to the extent) necessary to make it enforceable, valid and legal. 16. Miscellaneous: No provision of this Agreement may be modified, waived or discharged unless such waiver, modification or discharge is agreed to in writing signed by the Executive and the Company. No waiver by either party hereto at any time of any breach by the other party hereto or compliance with any condition or provision of this Agreement to be performed by such other party shall be deemed a waiver of similar or dissimilar provisions or conditions at the same or at any prior or subsequent time. No agreements or representations, oral or otherwise, expressed or implied with respect to the subject matter hereof have been made by either party which are not set forth expressly in this Agreement. 17. Counterparts: This Agreement may be executed in one or more counterparts, each of which shall be deemed to bean original but all of which together will constitute one and the same agreement. IN WITNESS WHEREOF, the parties have caused this Agreement to be duly executed and delivered as of the date first above written. EXECUTIVE THE LUBRIZOL CORPORATION By: EX-12 6 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)
1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- Pretax income $ 195,350 $ 118,814 $ 231,147 $ 250,608 $ 225,574 Deduct earnings of less than 50% owned affiliates (net of distributed earnings) included in pretax income (3,195) (1,470) (3,018) (48) (1,384) Add losses of less than 50% owned affiliates included in pretax income 18 888 66 56 1,808 Add fixed charges net of capitalized interest 29,696 18,976 10,803 10,955 10,376 Add previously capitalized interest amortized during period 1,446 1,191 1,118 968 1,096 --------- --------- --------- --------- --------- "Earnings" $ 223,315 $ 138,399 $ 240,116 $ 262,539 $ 237,470 ========= ========= ========= ========= ========= Gross interest expense including capitalized interest ("Fixed Charges") 28,953 $ 20,743 $ 13,194 $ 14,010 $ 14,693 Ratio of earnings to fixed charges 13.0 6.67 18.2 18.7 16.2 Special Adjustments: - -------------------- "Earnings" $ 223,315 $ 138,399 $ 240,116 $ 262,539 $ 237,470 Plus asset impairment and special charges 19,569 36,892 9,489 Less gains on investments and litigation settlements (17,626) (16,201) (53,280) (38,459) --------- --------- --------- --------- --------- Adjusted "Earnings" $ 225,258 $ 159,090 $ 240,116 $ 209,259 $ 208,500 ========= ========= ========= ========= ========= Ratio of adjusted earnings to fixed charges 12.9 7.67 18.2 14.9 14.2
EX-13 7 EXHIBIT 13 1 The Lubrizol Corporation MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The Lubrizol Corporation is a fluid technology company concentrating on high performance chemicals, systems and services for transportation and industry. We develop, produce and sell specialty additive packages and related equipment used in transportation and industrial finished lubricants. We create our products through the application of advanced chemical and mechanical technologies to enhance the performance, quality and value of the customer products in which they are used. We group our product lines into two operating segments: chemicals for transportation and chemicals for industry. Chemicals for transportation comprised approximately 83% of our consolidated revenues and 87% of segment pre-tax operating profit in 1999. This discussion and analysis of our financial condition and results of operations is generally focused on the company as a whole since we believe this provides the most appropriate understanding of our business. Note 12 to the financial statements contains a further description of the nature of our operations, the product lines within each of the operating segments and related financial disclosures. In 1999, we continued to pursue our strategies to expand into new market areas, grow revenues and improve cost structure. We believe that the global growth rate for lubricant additives is approximately 1% per year. Due to changing industry market forces, such as improved engine design and longer drain intervals, we do not expect the annual growth rate to exceed 1% in the future. However, our 1999 shipment volume increased by 9% over 1998 due to acquisitions made during 1998, improvement in the economies in the Asia-Pacific region and new business in North America. We also have continued implementation of various short- and long-term initiatives relating to our cost structure, such as consolidation of component production and simplification of product lines, to enhance further our competitiveness and market leadership position. In response to market and industry conditions, we began an initiative in November 1998 to reduce costs and improve our worldwide operating structure. The first phase of this initiative, which was completed by December 31, 1999, included the reorganization of our commercial structure, changes in work processes using our new globally integrated management information system, the shutdown of some production units and the consolidation of some facilities and offices. We achieved savings of approximately $24 million in 1999 related to the first phase of this initiative. A second phase, which was announced in the third quarter of 1999, involves primarily the downsizing of our Painesville, Ohio manufacturing facility. These actions are discussed under the caption "Cost Reduction Program and Related Special Charges" and in Note 15 to the financial statements. Acquisitions are an important part of our strategy to strengthen our business position and expand into new markets, even though only a small acquisition was made during 1999. We continue to actively pursue acquisitions during 2000, with particular focus on our chemicals for industry business. [Bar graph of REVENUES (millions)] 95 96 97 98 99 1999 RESULTS OF OPERATIONS IN 1999, we achieved record consolidated revenues of $1.75 billion, which represented an increase of $130.1 million, or 8% (3% excluding acquisitions) as compared with 1998. The primary factor causing the increase in revenues from the prior year was a 9% increase in our shipment volume (5% excluding acquisitions). Our average selling price declined 2% as compared with 1998, all of which was due to lower product pricing and changing product mix. Chemicals for transportation revenues increased $87.7 million, or 6%, over 1998. Approximately two-thirds of the increase was due to our 1998 acquisition of Adibis. Chemicals for industry revenues increased $42.4 million, or 17%, over 1998. Approximately one-half of the increase was due to acquisitions, primarily our acquisition of Carroll Scientific, Inc. The increase in 1999 shipment volume, excluding acquisitions, was attributable to North America and Asia-Pacific. Shipment volume to North American customers increased 13% primarily due to new business awarded at the end of 1998 and in 1999. Shipments to Asia-Pacific customers in 1999, excluding acquisitions, increased 14% compared to 1998 primarily due to the economic improvement in the region. Shipments to European and Latin American customers in 1999, excluding acquisitions, decreased 4% and 10% respectively, due primarily to sluggish economies with some business loss. We believe consolidated 1999 results benefited from some advance buying in late 1999 related to Year 2000 concerns, and customer purchases in advance of an announced price increase. A number of the factors that contributed to the strong volume growth in 1999 may not be present in 2000, and we believe that volume in 2000 (excluding acquisitions) is likely to be approximately the same as 1999. Cost of sales for 1999, including acquisitions, increased 5% reflecting higher shipment levels partially offset by lower average raw material cost compared with 1998. On a sequential basis, we experienced a 4% increase in average raw material cost during the third quarter and an additional 2% increase 14 2 The Lubrizol Corporation during the fourth quarter, as a result of higher crude oil pricing and its downstream effect. In November 1999, we announced a global price increase ranging from 3% to 7% depending on the product group, to recover the increasing raw material cost. The price increase, which was effective December 15, 1999, was successful and we believe it will result in an average increase of 4% to 4.5% when fully implemented. We began to see the impact on revenues in the first quarter of 2000 and anticipate the full impact will be felt by the end of the second quarter. We continue to experience material cost increases in the first quarter of 2000, and further price increases will be necessary to enable us to maintain our margins. Manufacturing costs, included in cost of sales, increased 7% (3% excluding acquisitions) in 1999 compared to 1998. [Bar graph of GROSS PROFIT (millions)] 95 96 97 98 99 Gross profit (net sales less cost of sales) increased $67.4 million, or 14%, in 1999 compared with 1998. Excluding acquisitions, gross profit increased $50.3 million, or 10%, in 1999 compared with 1998. Most of the increase was due to higher volume and the impact of lower average raw material cost partially offset by lower average selling price. Additionally, $10 million of the increased gross profit was due to the impact on cost of sales of favorable changes in currency exchange rates. Of the total gross profit increase, $54.1 million was attributable to chemicals for transportation and $13.3 million was attributable to chemicals for industry. This represented a 14% increase for each operating segment. Acquisitions accounted for one-fourth of the chemicals for transportation increase and one-half of the chemicals for industry increase, and the remainder was due to the factors noted above. The gross profit percentage (gross profit divided by net sales) improved to 31.5% for 1999 as compared with 29.8% for 1998 for the same reasons as discussed above. In addition, the 1998 gross profit percentage was unusually low as explained in the discussion of 1998 results of operations. The gross profit percentages for chemicals for transportation and chemicals for industry were 30.6% and 35.4%, respectively, compared to 28.6% and 36.1% in 1998. Selling and administrative expenses increased by $1.5 million, or 1%, in 1999 compared with 1998. Excluding acquisitions, selling and administrative expenses decreased $4.4 million, or 2%, in 1999 due to lower legal expenses, efficiencies from the integration of Adibis, lower pension costs, reduced spending on our global enterprise-wide management information system and favorable currency effects. These factors were partially off-set by higher variable pay and costs associated with "Year 2000" compliance activities. [Bar graph of RESEARCH TESTING & DEVELOPMENT (millions)] 95 96 97 98 99 Research, testing and development expenses (technology expenses) decreased $5.1 million, or 3%, in 1999 compared with 1998. Excluding acquisitions, technology expenses decreased $8.3 million, or 6%. Product standards change periodically to meet new emissions, efficiency, durability and other performance factors as engine and transmission designs are improved by equipment manufacturers. These changes influence the timing and amount of technology expense. Approximately 80% of our technology cost is incurred in company-owned facilities and 20% is incurred at third-party testing facilities. The reduction in technology expenses was achieved, in part, by reduced spending in 1999 for engine tests conducted at third party facilities. In addition, an industry delay in the effective date of the proposed new U.S. passenger car motor oil technical standard, GF-3, has resulted in a deferral of related testing activities. This delay, along with savings generated from the first phase of our cost reduction program implemented in late 1998, also contributed to lower technical expenses in 1999 compared with 1998. We believe technical spending will increase by about 5% in 2000 because of the anticipated GF-3 testing requirements. Primarily as a result of the factors previously discussed, consolidated revenues increased $72.0 million more than the increase in total costs and expenses in 1999. We recorded special charges for the year of $19.6 million ($13.2 million after-tax or $.24 per share) relating to both phases of our cost reduction program. These special charges are discussed under the caption "Cost Reduction Program and Related Special Charges" below and in Note 15 to the financial statements. On March 31, 1999 Lubrizol and Exxon Corporation reached a settlement of all pending intellectual property litigation between the two companies and their affiliates, except for litigation pending in Canada. Under the settlement agreement, Exxon paid us cash of $16.8 million in April 1999. After deducting related expenses, this settlement increased 1999 pre-tax income by $14.5 million ($9.0 million after-tax or $.16 per share). Further information regarding our litigation with Exxon is contained in Note 16 to the financial statements. Additionally, 15 3 The Lubrizol Corporation we recorded a pre-tax gain of $3.1 million ($1.9 million after-tax or $.04 per share) in the fourth quarter for the settlement of litigation unrelated to Exxon. The change in other income (expense) unfavorably affected 1999 pre-tax income by $5.6 million compared with 1998. The change resulted primarily from higher goodwill amortization related to acquisitions made in the second half of 1998, and higher currency translation and transaction losses, principally in Brazil, partially offset by higher equity earnings of affiliated companies. Interest expense increased $8.6 million in 1999 compared with 1998, principally because of higher borrowings necessitated by the acquisitions made during the second half of 1998 and 1998 share repurchases. 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 our net asset exposure, currency mix and use of U.S. dollar-based pricing in certain countries. As the U.S. dollar strengthens or weakens against other international currencies in which we transact business, our financial results will be affected. Changes in currency exchange rates during 1999 had a favorable effect on net income per share of $.07 for the year as compared to exchange rates in effect during 1998. This was primarily a result of the weakening of the U.S. dollar against the Japanese yen, partially offset by a strengthening of the U.S. dollar against the pound sterling and other currencies. As a result of the factors discussed above, income before income taxes increased by $76.5 million, or 64%, over 1998. After excluding from both years the special charges and the gains from litigation settlements, income before income taxes increased by $57.8 million, or 41%, over 1998. Segment operating profit before tax, which excludes interest expense, increased $61.5 million, or 47%, for chemicals for transportation, and increased $4.9 million, or 22%, for chemicals for industry, as compared to 1998. The effective tax rate on 1999 income, before litigation gains and special charges, decreased to 36.5% as compared with 38.0% in 1998. This decrease, which increased 1999 earnings before these items by $.05 per share, was primarily due to improvement in the profitability of certain foreign subsidiaries with loss carryforwards, a reduction in the amount of non-deductible translation losses at certain foreign subsidiaries, and a significant increase in pre-tax profit which diluted the effect of non-deductible items. Net income in 1999 was $123.0 million, or $2.25 per share. In 1998, net income was $71.2 million, or $1.27 per share. After excluding from 1999 and 1998 the special charges and the gains from litigation settlements, net income in 1999 was $125.3 million, as compared to $86.5 million in 1998, an increase of 45%. On this same basis, 1999 net income per share was $2.30, an increase of 48% over the $1.55 per share earned in 1998. COST REDUCTION PROGRAM AND RELATED SPECIAL CHARGES We initiated a series of steps in 1998 to reduce costs and improve our worldwide operating structure and are executing these steps in two phases over a period approximating two years. The first phase, which began in the fourth quarter of 1998, resulted in the reduction of approximately 7% of our workforce, or 300 employees, at both domestic and international locations. Approximately 55% of this reduction occurred by December 31, 1998, a further 35% occurred in the first quarter of 1999 and the remainder was substantially completed by the end of the third quarter of 1999. Of the 300 employees, approximately 40% were in the manufacturing area and 60% were in the selling, administrative, research and testing areas. In addition, we permanently removed seven component production units from service during this first phase. We recorded a special charge of $23.3 million in the fourth quarter of 1998 for the cost directly associated with this first phase of the cost reduction program. In the first quarter of 1999, we recognized additional expense of $3.1 million ($2.9 million after-tax or $.05 per share) to reflect a greater amount for separation benefits, principally in Japan. In the fourth quarter of 1999, an adjustment was made to reduce the special charge by $4.3 million ($2.5 million after-tax or $.05 per share) to reflect the settlement gain recorded as a result of settling employee pension obligations and other accrual adjustments. As adjusted, first phase employee severance costs approximated $20.0 million of the total charge of $22.1 million and other exit costs approximated $2.1 million, virtually all of which related to asset impairments for component production units taken out of service. We spent approximately $5.0 million and $14.7 million in 1998 and 1999, respectively, related to this phase of the cost reduction program. We estimate annualized savings of $28 million, of which approximately $24 million was achieved in 1999. The second phase of our cost reduction program, which began in the third quarter of 1999, involves primarily the downsizing of our Painesville, Ohio manufacturing plant. This will result in the additional reduction of approximately 5% of our work- 16 4 The Lubrizol Corporation force, or 200 employees, and the shutdown of 23 of Painesville's 36 production systems. Through December 31, 1999, we have shut down 12 of the 23 targeted production systems and have completed approximately 22% of the anticipated workforce reduction. We expect the remainder of the system shut downs and workforce reduction to occur by the end of 2000. After restructuring, the Painesville plant will continue to operate as a producer of small volume specialized intermediates and as a blender of certain additive packages. We recorded a special charge of $20.8 million ($12.9 million after-tax or $.24 per share) in the third quarter of 1999 relating to this second phase of our cost reduction program. Employee severance costs are $8.5 million of the charge and other exit costs are $12.3 million, including $8.9 million related to asset impairment for component production units to be taken out of service. We spent approximately $1.3 million in 1999 related to this phase of the cost reduction program, and we expect to spend $10.6 million in 2000. Additionally, we will spend approximately $8 million of capital to transfer a portion of the Painesville capacity to our Deer Park, Texas plant. We expect to achieve annual savings of $20 million following completion of these actions in the latter part of 2000. 1998 RESULTS OF OPERATIONS IN 1998, the continuing weak business environment of the lubricant additives industry and poor economic conditions in Asia-Pacific and Latin America negatively impacted the financial results for the year, particularly during the second half of the year. Despite acquisitions contributing 5% to consolidated revenues during 1998, annual revenues declined 3% as compared with 1997. Lower average selling prices combined with relatively level material costs compressed profit margins. In addition, higher interest expense and a higher effective tax rate each contributed to 1998 earnings being significantly lower than 1997 earnings. Consolidated revenues for 1998 of $1.62 billion decreased $55.9 million, or 3%, as compared with the then-record 1997 annual revenues of $1.67 billion. The primary factors causing the decline in revenues from 1997 were lower average selling prices and lower pre-acquisition volume, which more than off-set the year-over-year incremental revenues from acquisitions. Excluding acquisitions, sales volume declined by 4% for 1998 and by 10% for the second half of 1998 as compared with the comparable 1997 periods. The 1998 average selling price declined 5% as compared with 1997, of which 75% was due to lower product pricing and changing product mix and 25% was due to currency. The year-over-year increase in revenues from acquisitions was $81.2 million, of which $38.0 million pertained to chemicals for transportation and $43.2 million pertained to chemicals for industry. The slowing of lubricant additive demand in virtually all geographic areas during 1998 and the economic conditions in Asia-Pacific caused difficult comparisons against 1997, a year in which we achieved record revenues and sales volume. Although sales volume in 1998 was flat with 1997, excluding acquisitions, sales volume declined 4%. On this same basis, sales volume to customers in North America during 1998 was level with 1997, but declined 7% to international customers. For the 1998 second half compared with the same period of 1997, sales volume (excluding acquisitions) decreased 3% to customers in North America and decreased 15% to international customers. The economic difficulties in the Asia-Pacific region had an accelerating, unfavorable effect on our 1998 results. Products shipped to customers in Asia-Pacific are manufactured primarily in production facilities in the United States and comprised approximately 16% and 19% of our revenues in 1998 and 1997, respectively. Sales volume to customers in Asia-Pacific during the first half of 1998 declined by only 1% as compared with the first half of 1997, but declined by 21% in the 1998 second half as compared with the 1997 second half. Lower sales volume into Asia-Pacific was the primary reason that overall sales volume declined in 1998. Asia-Pacific revenues declined by $53 million, or 17%, for the year 1998 and by $40 million, or 24%, for the second half of 1998 as compared with the respective 1997 periods. Some forward buying during the second half of 1997 by customers in Asia-Pacific in a reaction to worsening economic conditions exacerbated the comparison with 1998. Cost of sales for the full year 1998, including acquisitions, increased only 1% over 1997 as sales volume, average material unit costs and manufacturing costs remained relatively constant between the comparable periods. Average material unit costs declined less than 1% from 1997. Our manufacturing costs do not fluctuate significantly with changes in production volume. The effects of our ongoing manufacturing rationalization program and other cost management initiatives helped keep manufacturing costs level as compared with the prior year, despite a $12.2 million increase from acquisitions. 17 5 The Lubrizol Corporation Gross profit (net sales less cost of sales) decreased $64.4 million, or 12%, in 1998 compared with 1997. Excluding acquisitions, gross profit declined $82.3 million, or 15%, in 1998 compared with 1997. Gross profit decreased $30.2 million, or 11%, ($35.3 million, or 13%, excluding acquisitions) in the first half of 1998 and decreased $34.2 million, or 13%, ($47.0 million, or 18%, excluding acquisitions) in the second half of 1998 compared with the same 1997 periods. The decrease in gross profit for each of the respective periods was primarily due to the decline in selling prices and, in the second half of 1998, also due to the lower sales volume. The $17.9 million increase in gross profit contributed from acquisitions made in 1998 was partially offset by unfavorable currency effects of $7.4 million. The gross profit percentage (gross profit divided by net sales) was 29.8% for 1998 as compared with 32.7% for 1997. This decrease in gross profit percentage was attributable to the lower average selling price as well as the unfavorable effect on per unit manufacturing costs resulting from lower production levels, particularly in the fourth quarter of 1998. In addition, the gross profit percentage of 27.6% in the fourth quarter of 1998 reflected a $4.3 million inventory write down primarily due to a change in a customer product specification. Selling and administrative expenses increased by $8.5 million, or 5%, in 1998 compared with 1997. Excluding acquisitions, selling and administrative expenses were $1.5 million, or 1%, lower compared with 1997. Selling and administrative expenses in 1998 reflected increased spending of $11.3 million related to the implementation of the new enterprise-wide, management information system, but this was more than offset by lower variable pay expense, lower litigation expense and other cost reductions. Research, testing and development expenses (technology expenses) increased $4.3 million, or 3%, in 1998 compared with 1997. Excluding acquisitions, technology expenses declined $1.9 million, or 1%, from 1997. During 1998, approximately 80% of our technology cost was incurred in company-owned facilities and 20% was incurred at third-party testing facilities. Testing expenses incurred at third party testing facilities increased $5.5 million in 1998 over 1997 primarily due to a new performance specification for heavy-duty engine oils. Our technology expense in 1998, as well as in 1997, included costs related to new performance specifications for heavy-duty engine oils, which were introduced into the market in late 1998, and new performance specifications for passenger car engine oils expected to become effective during 2000. Primarily as a result of the factors previously discussed, the change in revenues together with the change in total costs and expenses unfavorably affected our pre-tax profits by $78.4 million for the full year 1998 and by $45.3 million for the second half of 1998 as compared with respective 1997 periods. In the fourth quarter of 1998, we recorded special charges aggregating $36.9 million. These special charges related to the first phase of our cost reduction program, which amounted to $23.3 million, and the write-off of $13.6 million of purchased technology under development originating from the Adibis acquisition. After-tax, these special charges reduced 1998 net income by $25.8 million, or $.47 per share. On April 23, 1998, we reached a settlement with Exxon Corporation of a lawsuit pending in federal court in Ohio and we received cash of $19 million from Exxon. The pre-tax gain from this litigation settlement, net of related expenses, was $16.2 million. After-tax, the litigation settlement increased net income by $10.5 million, or $.19 per share. Further information regarding our litigation with Exxon is contained in Note 16 to the financial statements. The change in other income (expense) unfavorably affected 1998 pre-tax income by $6.3 million compared with 1997. This change mostly occurred during the second half of the year and resulted primarily from higher goodwill amortization, higher currency exchange transaction losses and lower equity earnings from joint venture companies. Interest expense increased $8.2 million in 1998 compared with 1997, reflecting significantly higher borrowings that were incurred primarily to finance acquisitions during the year. As the U.S. dollar strengthens or weakens against other international currencies in which we transact business, our financial results will be affected. During 1998, the U.S. dollar strengthened and the change in currency exchange rates had an unfavorable effect on net income per share of $.07 for the year 1998 as compared with exchange rates in effect during 1997. As a result of the factors discussed above, income before income taxes decreased by $112.3 million for the full year 1998 and by $93.8 million for the second half of 1998 as compared with the respective periods of 1997. Excluding from 1998 the litigation gain and special charges, income before income taxes decreased by $91.6 million, or 40%, for the full year 1998 and by $56.9 million for the second half of 1998 as compared with the respective periods of 1997. 18 6 The Lubrizol Corporation The 1998 effective tax rate on income, before the litigation gain and special charges, increased to 38% as compared with 33% in 1997. This increase, which lowered 1998 earnings before these items by $.12 per share, was primarily a result of lower 1998 operating earnings and increased non-tax deductible 1998 translation losses incurred by our foreign subsidiaries using a U.S. dollar functional currency. Other reasons for the change in the effective tax rate included shifts in earnings among the various countries in which we operate and the tax benefits recognized during the second half of 1997 resulting from favorable tax law changes enacted by France, the United States and the United Kingdom. Taking into account the litigation gain and the fourth quarter special charges, the overall effective tax rate for 1998 was 40%. Net income in 1998 was $71.2 million, or $1.27 per share. In 1997, net income was $154.9 million, or $2.68 per share. After excluding from 1998 the litigation gain and the special charges, net income in 1998 was $86.5 million, a decrease of 44% from 1997. On this same basis, 1998 net income per share was $1.55, a decline of 42% from the $2.68 per share earned in 1997. 1997 RESULTS OF OPERATIONS IN 1997, we made significant progress with each of our strategies to grow our business, improve our cost structure and build our franchise. During 1997, revenues increased 5% as product shipments increased 17% over 1996 and our market share grew. We continued our focus to improve our 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. In 1997, we had then-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, our 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 in 1997 was to grow our business. We had success building global and regional alliances with targeted customers and continued 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. Cost of sales reflected 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. Our manufacturing costs do not fluctuate significantly with changes in production volume. The effects of our ongoing manufacturing rationalization program and other cost management initiatives have improved manufacturing efficiency as we are 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 we resumed pay increases following the salary freeze in effect during 1996. Gross profit increased $36.2 million, or 7%, in 1997 compared with 1996. This improvement in gross profit amount was after unfavorable currency effects of $20.0 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. 19 7 The Lubrizol Corporation 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. 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. Our technology expense in 1997 included some costs related to new performance specifications for heavy-duty engine oils which became effective during 1998 and new performance specifications for passenger car engine oils expected to become effective during 2000. As discussed in Note 15 to the financial statements, in 1997, we 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 were 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 were temporarily invested in interest-bearing instruments until used in our 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. We conduct a significant amount of business outside of the United States and are subject to certain related risks including currency fluctuations. The U.S. dollar continued to strengthen during 1997, causing an unfavorable effect on net income of approximately $10.0 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. We adjusted our tax provision in the third quarter of 1997 to reflect a legislated increase in the statutory tax rate applicable to our earnings in France, where we have 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. 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 our share repurchase program. [Bar graph RETURN ON EQUITY (percent) (Before investment gains, litigation gains and special charges.)] 95 96 97 98 99 RETURN ON AVERAGE SHAREHOLDERS' EQUITY Return on average shareholders' equity was 16% in 1999 (also 16% excluding the litigation gains and special charges), 9% in 1998 (11% excluding the litigation gain and the special charge) and 19% in 1997. WORKING CAPITAL, LIQUIDITY AND CAPITAL RESOURCES Our cash flows for the years 1997 through 1999 are presented in the consolidated statements of cash flows. We had strong cash flow in 1999, as cash provided from operating activities increased by $133.8 million, or 86%, over 1998, to a total of $289.0 million. This increase was primarily due to higher earnings, and a $52 million reduction in working capital in 1999 compared to $45 million growth in working capital in 1998. The reduction in working capital resulted from implementation of an initiative to reduce inventory, collection of a $15 million income tax refund receivable and an increase in current liabilities. We have been engaged in a multi-year project to implement a global enterprise-wide management information system and standardize the computer equipment among all of our major facilities. This project supports our strategy to improve our cost structure by reducing complexity and increasing efficiency and was a critical component in our "Year 2000" compliance plan for our business information systems. This system provides internal access to company information so that resources are shared and processes are standardized and integrated world- 20 8 The Lubrizol Corporation wide. We implemented the new enterprise-wide management information system in the United States during April 1998 and in Europe during April 1999, and we anticipate completing implementation in Singapore and Australia in April 2000. [Bar graph showing CASH PROVIDED FROM OPERATING ACTIVITIES (millions)] 95 96 97 98 99 Capital expenditures in 1999 were $64.9 million compared with $93.4 million in 1998. The reduction in capital spending was due to decreased expenditures related to our multi-year project to implement the enterprise-wide management information system ($7.6 million in 1999 as compared to $17.6 million in 1998) and lower spending on manufacturing projects. We estimate capital expenditures for 2000 will be approximately $80 million. We made one acquisition in 1999 for $1.9 million. In 1998, we made six acquisitions for cash of $155.4 million and one acquisition for 89,806 of our common shares valued at $2.4 million. These acquisitions were in the areas of lubricant additives, metalworking additives and coating additives and broaden our base in performance chemicals. We maintained an active share repurchase program for a number of years, but suspended repurchases at the end of 1998 because net debt as a percent of capitalization had reached our target level of 35% and we wanted to preserve cash and borrowing capacity to fund potential acquisitions. During 1998, we repurchased approximately 2.6 million common shares, or 4.6% of our common shares outstanding at the beginning of 1998, for $80 million. Because of our strong cash flow in 1999 and the completion of only one small acquisition during the year, our net debt as a percent of capitalization decreased to 25% at year-end. As a result, we resumed share repurchases late in the year. We repurchased approximately 140,000 common shares for $4.2 million in 1999, and we anticipate spending an aggregate of $20 million for share repurchases through the end of the first quarter of 2000. Net debt is the total of short and long-term debt, reduced by cash and short-term investments in excess of an assumed operating cash level of $40 million. Capitalization is shareholders' equity plus net debt. The increase in cash flow from operating activities and the minimal amount of share repurchases and acquisition activity enabled us to reduce our borrowings by $27.9 million during 1999 and to increase our cash and short-term equivalents by $131.8 million. [Bar graph showing CAPITALIZATION (millions)] 95 96 97 98 99 Our net borrowings during 1998 totaled $201.7 million. These borrowings were used primarily to finance $155 million of cash expended for acquisitions, most of which occurred in the third quarter, and our share repurchase program. As discussed in Note 4 to the financial statements, we replaced a significant portion of outstanding commercial paper borrowings by issuing $200 million of long-term debt in November 1998. We incurred debt issuance costs of $10.5 million in 1998, including a $6.5 million loss related to a hedge against changes in interest rates relative to the anticipated issuance of this debt. Debt increased during 1997 primarily to finance several acquisitions and the increase in working capital. Our financial position remains strong with a ratio of current assets to current liabilities of 2.5:1 at both December 31, 1999 and 1998. Effective July 1, 1998, we increased our committed revolving credit facilities from $75 million to $300 million. One-half of the aggregate amount of these facilities expired on June 30, 1999, and the remainder expires on June 30, 2003. We did not renew the $150 million in facilities that expired on June 30, 1999, because the November 1998 issuance of $200 million in long-term notes reduced our expected financing requirements. The remaining $150 million in facilities, which were unused at December 31, 1999, permit us to borrow at or below the U.S. prime rate. We believe that our existing credit facilities, internally generated funds and ability to obtain additional financing, if desired, will be sufficient to meet our future capital needs. 21 9 The Lubrizol Corporation YEAR 2000 MATTERS We developed a global Year 2000 strategy covering each of our facilities designed to minimize Year 2000 disruptions to our computer-based systems, including business information systems and process control, testing and laboratory equipment and embedded systems. Our Year 2000 compliance strategy incorporated the conversion of most of our business information systems from mainframe systems to compliant, client/server systems. Much of this conversion was part of our implementation of our global enterprise-wide management information system. We have not incurred any adverse impact on our operations because of Year 2000 factors, including any inability or difficulty of our suppliers or customers to operate in the Year 2000. We do not anticipate any adverse impact on our 2000 financial results due to Year 2000 issues. Through December 31, 1999, we had spent approximately $76.6 million related to the implementation of our global enterprise-wide management information system, of which approximately $53.6 million was capitalized and $23.0 million expensed. We estimate additional costs in 2000 of approximately $1.5 million to continue implementing this system. In addition, we spent approximately $6.3 million for Year 2000 remedial activities not addressed by the global enterprise-wide management information system, including $4.3 million in 1999. CAUTIONARY STATEMENT FOR "SAFE HARBOR" PURPOSES UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This 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 Lubrizol, contain 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 our operations and business environment, all of which are difficult to predict and many of which are beyond our control. Such uncertainties and factors could cause our actual results to differ materially from those matters expressed in or implied by such forward-looking statements. We believe that the following factors, among others, could affect our future performance and cause our actual results to differ materially from those expressed or implied by forward-looking statements made in this annual report: - - 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 effect on our business resulting from economic uncertainty within the Asia-Pacific and Latin American regions; - - the lubricant additive demand in developing regions such as China and India, geographic areas which are an announced focus of our activities; - - technology developments that affect longer-term trends for lubricant additives, such as: improved engine design, fuel economy, longer oil drain intervals, alternative fuel powered engines and emission system compatibility; - - our 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 our 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 our cost structure to maintain and enhance our competitiveness; - - our success in strengthening and retaining relationships with lubricant additive customers, growing sales at targeted accounts, and expanding geographically; - - the extent to which we are successful in expanding beyond our core chemicals for transportation businesses and into new areas for our chemicals for industry businesses; - - our ability to identify, complete and integrate acquisitions for profitable growth; - - 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 and finished lubricant marketers; 22 10 The Lubrizol Corporation - - the relative degree of competitive and customer price pressure on 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 our reported results from 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 new enterprise-wide management information system; - - changes in significant government regulations affecting environmental compliance. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Lubrizol operates manufacturing and blending facilities, laboratories and offices around the world and utilizes fixed and floating rate debt to finance our global operations. As a result, we are subject to business risks inherent in non-U.S. activities, including political and economic uncertainty, import and export limitations and market risk related to changes in interest rates and foreign currency exchange rates. We believe the political and economic risks related to our foreign operations are mitigated due to the stability of the countries in which our largest foreign operations are located. In the normal course of business, we use derivative financial instruments including interest rate swaps and foreign currency forward exchange contracts to manage our market risks. Additional information regarding our financial instruments is contained in Notes 4 and 13 to the financial statements. Our objective in managing our exposure to changes in interest rates is to limit the impact of such changes on earnings and cash flow and to lower our overall borrowing costs. Our objective in managing the exposure to changes in foreign currency exchange rates is to reduce volatility on earnings and cash flow associated with such changes. Our principal currency exposures are in the major European currencies, the Japanese yen and certain Latin American currencies. We do not hold derivatives for trading purposes. We measure our market risk, related to our holdings of financial instruments based on changes in interest rates and foreign currency rates utilizing a sensitivity analysis. The sensitivity analysis measures the potential loss in fair values, cash flows and income before tax based on a hypothetical 10% change (increase and decrease) in interest and currency exchange rates. We used current market rates on our debt and derivative portfolio to perform the sensitivity analysis. Certain items such as lease contracts, insurance contracts and obligations for pension and other post-retirement benefits were not included in the analysis. Our primary interest rate exposures relate to our cash and short-term investments, fixed and variable rate debt and interest rate swaps. The calculation of potential loss in fair values is based on an immediate change in the net present values of our interest rate-sensitive exposures resulting from a 10% change in interest rates. The potential loss in cash flows and income before tax is based on the change in the net interest income/ expense over a one-year period due to an immediate 10% change in rates. A hypothetical 10% change in interest rates would have a favorable/unfavorable impact on fair values of $19.9 million, cash flows of $.5 million and income before tax of $.5 million. Our primary currency rate exposures are to foreign denominated debt, intercompany debt, cash and short-term investments and foreign currency forward exchange contracts. The calculation of potential loss in fair values is based on an immediate change in the U.S. dollar equivalent balances of our currency exposures due to a 10% shift in exchange rates. The potential loss in cash flows and income before tax is based on the change in cash flow and income before tax over a one-year period resulting from an immediate 10% change in currency exchange rates. A hypothetical 10% change in currency exchange rates would have a favorable/unfavorable impact on fair values of $4.5 million, cash flows of $10.5 million and income before tax of $3.4 million. 23 11 The Lubrizol Corporation Deloitte & Touche LLP [Logo] - ----------- INDEPENDENT AUDITORS' REPORT 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, 1999 and 1998, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of the Corporation'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, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999 in conformity with generally accepted accounting principles. /s/ Deloitte & Touche LLP Cleveland, Ohio February 3, 2000 24 12 The Lubrizol Corporation CONSOLIDATED STATEMENTS OF INCOME
Year Ended December 31 -------------------------------------------- (In Thousands of Dollars Except Per Share Data) 1999 1998 1997 - -------------------------------------------------------------------------------------------- Net sales ................................ $ 1,743,541 $ 1,614,558 $ 1,669,251 Royalties and other revenues ............. 4,462 3,361 4,531 ----------- ----------- ----------- Total revenues ..................... 1,748,003 1,617,919 1,673,782 Cost of sales ............................ 1,194,945 1,133,327 1,123,602 Selling and administrative expenses ...... 181,292 179,759 171,244 Research, testing and development expenses 145,927 150,980 146,678 ----------- ----------- ----------- Total cost and expenses ............ 1,522,164 1,464,066 1,441,524 Special charges .......................... (19,569) (36,892) Gain from litigation settlements ......... 17,626 16,201 Other income (expense)-net ............... (6,704) (1,152) 5,104 Interest income .......................... 7,854 5,780 4,588 Interest expense ......................... (29,696) (18,976) (10,803) ----------- ----------- ----------- Income before income taxes ............... 195,350 118,814 231,147 Provision for income taxes ............... 72,358 47,614 76,278 ----------- ----------- ----------- Net income ............................... $ 122,992 $ 71,200 $ 154,869 =========== =========== =========== Net income per share ..................... $ 2.25 $ 1.27 $ 2.68 =========== =========== =========== Net income per share, diluted ............ $ 2.25 $ 1.27 $ 2.66 =========== =========== =========== Dividends per share ...................... $ 1.04 $ 1.04 $ 1.01 =========== =========== ===========
The accompanying notes to financial statements are an integral part of these statements. 25 13 The Lubrizol CORPORATION CONSOLIDATED BALANCE SHEETS
December 31 ---------------------------- (In Thousands of Dollars) 1999 1998 - ------------------------------------------------------------------------------------------------------------ ASSETS Cash and short-term investments ........................................... $ 185,465 $ 53,639 Receivables ............................................................... 301,256 301,644 Inventories ............................................................... 258,149 277,612 Other current assets ...................................................... 35,572 54,575 ----------- ----------- Total current assets ................................................. 780,442 687,470 ----------- ----------- Property and equipment - at cost .......................................... 1,598,264 1,608,500 Less accumulated depreciation ............................................. 927,752 889,650 ----------- ----------- Property and equipment - net ............................................. 670,512 718,850 ----------- ----------- Goodwill and intangible assets - net ...................................... 149,779 166,957 Investments in non-consolidated companies ................................. 30,441 26,490 Other assets .............................................................. 51,180 43,470 ----------- ----------- TOTAL ............................................................ $ 1,682,354 $ 1,643,237 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt ..................... $ 37,584 $ 38,926 Accounts payable .......................................................... 138,841 112,832 Accrued expenses and other current liabilities ............................ 134,875 118,270 ----------- ----------- Total current liabilities ............................................ 311,300 270,028 ----------- ----------- Long-term debt ............................................................ 365,372 390,394 Postretirement health care obligation ..................................... 108,717 106,641 Noncurrent liabilities .................................................... 45,054 48,950 Deferred income taxes ..................................................... 61,787 58,106 ----------- ----------- Total liabilities .................................................... 892,230 874,119 ----------- ----------- Contingencies and commitments Preferred stock without par value - unissued Common shares without par value - outstanding 54,477,292 shares in 1999 and 54,548,110 shares in 1998 .............................................. 85,984 84,651 Retained earnings ......................................................... 758,090 709,994 Accumulated other comprehensive loss ...................................... (53,950) (25,527) ----------- ----------- Total shareholders' equity ........................................... 790,124 769,118 ----------- ----------- TOTAL ............................................................ $ 1,682,354 $ 1,643,237 =========== ===========
The accompanying notes to financial statements are an integral part of these statements. 26 14 The Lubrizol Corporation CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31 --------------------------------------- (In Thousands of Dollars) 1999 1998 1997 - -------------------------------------------------------------------------------------------------------------------------- CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income .................................................................. $ 122,992 $ 71,200 $ 154,869 Adjustments to reconcile net income to cash provided by operating activities: Depreciation and amortization .......................................... 99,720 88,047 87,217 Deferred income taxes .................................................. 1,312 5,732 8,585 Special charges and asset impairments .................................. 19,569 36,892 9,360 Change in current assets and liabilities net of acquisitions and dispositions: Receivables ........................................................ (10,749) 3,870 (47,313) Inventories ........................................................ 13,500 9,839 (16,919) Accounts payable, accrued expenses and other current liabilities ... 28,408 (41,749) 46,524 Other current assets ............................................... 19,052 (17,012) 4,101 Change in noncurrent liabilities ....................................... 370 5,357 (169) Other items - net ...................................................... (5,153) (6,985) (11,889) --------- --------- --------- Total operating activities .................................... 289,021 155,191 234,366 INVESTING ACTIVITIES: Proceeds from sale of investments ........................................... 3,500 12,117 Capital expenditures ........................................................ (64,872) (93,421) (100,700) Acquisitions and investments in nonconsolidated companies ................... (1,923) (155,418) (23,636) Other - net ................................................................. 2,246 749 5,164 --------- --------- --------- Total investing activities .................................... (64,549) (244,590) (107,055) FINANCING ACTIVITIES: Short-term borrowing (repayment) ............................................ (8,404) 4,175 26,772 Long-term borrowing ......................................................... 5,000 203,059 5,572 Long-term repayment ......................................................... (24,447) (5,515) (4,159) Debt issuance costs ......................................................... (10,523) Dividends paid .............................................................. (56,757) (58,256) (58,469) Common shares purchased, net of options exercised ........................... (2,625) (76,542) (63,391) --------- --------- --------- Total financing activities .................................... (87,233) 56,398 (93,675) Effect of exchange rate changes on cash ..................................... (5,413) 136 (2,205) --------- --------- --------- Net increase (decrease) in cash and short-term investments .................. 131,826 (32,865) 31,431 Cash and short-term investments at the beginning of year .................... 53,639 86,504 55,073 --------- --------- --------- Cash and short-term investments at the end of year .......................... $ 185,465 $ 53,639 $ 86,504 ========= ========= =========
The accompanying notes to financial statements are an integral part of these statements. 27 15 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, 1996 ...................... 58,522,676 $ 78,534 $ 744,310 $ (3,468) $ 819,376 ----------- Comprehensive income: Net income 1997 ............................ 154,869 154,869 Other comprehensive 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 ----------- Comprehensive income: Net income 1998 ............................ 71,200 71,200 Other comprehensive income ................. 14,878 14,878 ----------- Comprehensive income ............................ 86,078 Cash dividends .................................. (58,256) (58,256) Common shares issued for subsidiary acquisition . 89,806 2,390 2,390 Common shares - treasury: Shares purchased ........................... (2,621,173) (3,944) (76,134) (80,078) Shares issued upon exercise of stock options 112,583 3,536 3,536 ---------- ----------- ----------- ----------- ----------- BALANCE, DECEMBER 31, 1998 ...................... 54,548,110 84,651 709,994 (25,527) 769,118 ----------- Comprehensive Income: Net income 1999 ............................ 122,992 122,992 Other comprehensive loss ................... (28,423) (28,423) ----------- Comprehensive income ............................ 94,569 Cash dividends .................................. (70,938)* (70,938) Common shares - treasury: Shares purchased ........................... (139,600) (220) (3,958) (4,178) Shares issued upon exercise of stock options 68,782 1,553 1,553 ---------- ----------- ----------- ----------- ----------- BALANCE, DECEMBER 31, 1999 ...................... 54,477,292 $ 85,984 $ 758,090 $ (53,950) $ 790,124 ========== =========== =========== =========== ===========
* Includes dividends declared and unpaid at December 31, 1999. The accompanying notes to financial statements are an integral part of these statements. 28 16 The Lubrizol Corporation NOTES TO FINANCIAL STATEMENTS (In Thousands of Dollars Unless Otherwise Indicated) NOTE 1 - NATURE OF OPERATIONS The Lubrizol Corporation is a fluid technology company concentrating on high performance chemicals, systems and services for transportation and industry. The company develops, produces and sells specialty additive packages and related equipment used in transportation and industrial finished lubricants. The company's 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 groups its product lines into two operating segments: chemicals for transportation and chemicals for industry. Chemicals for transportation comprise approximately 83% of the company's consolidated revenues and 87% of segment pre-tax operating profit in 1999, respectively. Refer to Note 12 for a further description of the nature of the company's operations, the product lines within chemicals for transportation and chemicals for industry and related financial disclosures. NOTE 2 - ACCOUNTING POLICIES CONSOLIDATION - The consolidated financial statements include the accounts of The Lubrizol Corporation and its subsidiaries where ownership is greater than 50% 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. The book value of investments carried at equity was $29.7 million and $25.8 million at December 31, 1999 and 1998, respectively. Investments carried at cost were $.7 million at December 31, 1999 and 1998. ESTIMATES - The preparation of consolidated 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 consolidated 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 any of 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 the lower of cost or market value. Cost of inventories is determined by either first-in, first-out (FIFO) method or moving average method, except in the United States for chemical inventories, which are primarily valued using the last-in, first-out (LIFO) method. PROPERTY AND EQUIPMENT - Property and equipment are carried at cost. Repair and maintenance costs are charged against income while renewals and betterments are capitalized as additions to the related assets. Costs incurred for computer software developed or obtained for internal use are capitalized for application development activities and immediately expensed for preliminary project activities or post-implementation activities. Accelerated depreciation methods are used in computing depreciation on certain machinery and equipment, which comprise approximately 21% 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. GOODWILL AND INTANGIBLE ASSETS - Intangibles resulting from business acquisitions including costs in excess of net assets of businesses acquired (goodwill), purchased technology and trademarks are being amortized on a straight-line method over periods ranging from 5 to 25 years. The recoverability of good-will and intangible assets is evaluated at the business unit level by analysis of operating results and consideration of other significant events or changes in the business environment. If a business unit has operating losses and based upon projections there is a likelihood that such operating losses will continue, the company will evaluate whether impairment exists on the basis of undiscounted expected future cash flows from operations before interest for the remaining amortization period. RESEARCH, TESTING AND DEVELOPMENT - Research, testing and development costs are expensed as incurred. Research and development expenses, excluding testing, were $78.3 million in 1999 and 1998, and $88.4 million in 1997. ENVIRONMENTAL LIABILITIES - The company accrues for expenses associated with environmental remediation obligations when such expenses are probable and reasonably estimable. Such accruals are adjusted as further information develops or circumstances change. Costs of future expenditures for environmental remediation obligations are not discounted to their present value. The Company's environmental reserves totaled $7.4 million and $7.9 million at December 31, 1999 and 1998, respectively. Of these amounts, $1.0 million was included in other current liabilities at December 31, 1999 and 1998. FOREIGN CURRENCY TRANSLATION - The assets and liabilities of certain of the company's international subsidiaries are translated into U.S. dollars at exchange rates in effect at the balance sheet date, and revenues and expenses are translated at weighted average exchange rates in effect during the period. Unrealized translation adjustments are recorded as a component of other comprehensive income in shareholders' equity, except for subsidiaries for which the functional currency is the 29 17 The Lubrizol Corporation NOTES CONTINUED U.S. dollar, where translation adjustments are realized in income. Transaction gains or losses that arise from exchange rate changes on transactions denominated in a currency other than the functional currency, except those transactions that function as a hedge of an identifiable foreign currency commitment or as a hedge of a foreign currency investment, are included in income as incurred. SHARE REPURCHASES - The company 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. REVENUE RECOGNITION - Substantially all revenues are recognized at the time of shipment of products to customers with appropriate provision for uncollectible accounts. PER SHARE AMOUNTS - Net income per share is computed by dividing net income by average common shares outstanding during the period. Net income per diluted share includes the dilution effect resulting from outstanding stock options and stock awards. Per share amounts are computed as follows: 1999 1998 1997 -------- -------- -------- Numerator: Net income available to common shareholders ............. $122,992 $ 71,200 $154,869 ======== ======== ======== Denominator: Weighted average common shares outstanding .............. 54,577 55,939 57,843 Dilutive effect of stock options and awards .............. 139 183 386 -------- -------- -------- Denominator for net income per share, diluted ................. 54,716 56,122 58,229 ======== ======== ======== Net income per share ................. $ 2.25 $ 1.27 $ 2.68 ======== ======== ======== Net income per share, diluted ............................ $ 2.25 $ 1.27 $ 2.66 ======== ======== ======== ACCOUNTING FOR DERIVATIVE INSTRUMENTS - In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Standards (SFAS)133, "Accounting for Derivative Instruments and Hedging Activities," which was to become effective for the company no later than January 1, 2000. In June 1999, the FASB delayed the required effective date for SFAS 133, which delayed the required effective date for the company until January 1, 2001. SFAS 133 establishes accounting and reporting standards for derivative instruments and for hedging activities. It requires that all derivatives be measured at fair value and recognized as either assets or liabilities in the balance sheet. The accounting for changes in the fair value of a derivative (that is, gains or losses) depends on the intended use of the derivative and its resulting hedge designation. 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 currently evaluating the requirements of SFAS 133 but has not yet determined the impact on its financial position and results of operations when adopted. NOTE 3 - INVENTORIES 1999 1998 -------- -------- Finished products ........................ $118,135 $112,060 Products in process ...................... 56,855 66,485 Raw materials ............................ 66,102 80,134 Supplies and engine test parts ........... 17,057 18,933 -------- -------- $258,149 $277,612 ======== ======== Inventories on the LIFO method were 28% and 27% of consolidated inventories at December 31, 1999 and 1998, respectively. The current replacement cost of these inventories exceeded the LIFO cost at December 31, 1999 and 1998, by $42.7 million and $41.1 million, respectively. NOTE 4 - SHORT-TERM AND LONG-TERM DEBT
1999 1998 --------- --------- Long-term debt consists of: 5.875% notes, due 2008 ................................. $ 200,000 $ 200,000 7.25% debentures, due 2025 ............................. 100,000 100,000 Debt supported by long-term banking arrangements: Commercial paper at weighted average rates of 6.6% and 5.6% .................... 50,000 50,000 6.5% Marine terminal refunding revenue bonds, due 2000 ........................... 18,375 18,375 Term loans: Dollar denominated, at 5.0% due 2000 .................................. 4,160 4,204 Yen denominated, at 1.6% to 2.8%, due 2000-2003 ..................................... 19,766 18,656 Deutsche mark denominated, 4.1% to 6.0% ...................................... 19,648 French franc denominated, at 3.5% to 5.0%, due 2000-2008 ............................ 495 645 --------- --------- 392,796 411,528 Less current portion ................................... (27,424) (21,134) --------- --------- $ 365,372 $ 390,394 ========= ========= Short-term debt consists of: Commercial paper at weighted average rate of 5.6% .............................. $ 5,300 Other short-term debt at weighted average rates of 2.6% and 2.8% .................... $ 10,160 12,492 Current portion of long-term debt ...................... 27,424 21,134 --------- --------- $ 37,584 $ 38,926 ========= =========
In November 1998, the company issued notes having an aggregate principal amount of $200 million. The notes are unsecured, senior obligations of the company that mature on December 1, 30 18 The Lubrizol Corporation 2008, and bear interest at 5.875% per annum, payable semiannually on June 1 and December 1 of each year. The notes have no sinking fund requirement but are redeemable, in whole or in part, at the option of the company. The company incurred debt issuance costs aggregating $10.5 million, including a loss of $6.5 million related to closed Treasury rate lock agreements originally entered into as a hedge against changes in interest rates relative to the anticipated issuance of these notes. Debt issuance costs are deferred and then amortized as a component of interest expense over the term of the notes. Including debt issuance costs, these notes have an effective annualized interest rate of 6.6% to the company. The company issued debentures in June 1995 having an 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. Effective July 1, 1999, the company decreased its committed revolving credit facilities from $300 million to $150 million. These credit facilities expire on June 30, 2003, subject to annual extension provisions. These facilities, which were unused at December 31,1999, permit the company to borrow at or below the U.S. prime rate. These facilities also permit the company to refinance beyond one year $150 million of debt, which by its terms is due within one year. As permitted by these and previously existing credit facilities, the company classified as long-term at each balance sheet date the portion of commercial paper borrowings expected to remain outstanding throughout the following year and for December 31, 1998, the amount due under the Marine Terminal Refunding Revenue Bonds, whose bondholders have the right to put the bonds back to the company. Amounts due on long-term debt are $27.4 million in 2000, $3.6 million in 2001, $1.5 million in 2002, $59.8 million in 2003, $.1 million in 2004 and $300.4 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 notional principal amount of $50 million for a fixed rate of 7.6% (see Note 13). Interest paid, net of amounts capitalized, amounted to $28.8 million, $18.3 million and $10.9 million during 1999, 1998 and 1997, respectively. The company capitalizes interest on qualifying capital projects. The amount of interest capitalized during 1999, 1998 and 1997 amounted to $.1 million, $1.2 million and $2.1 million, respectively. NOTE 5 - OTHER BALANCE SHEET INFORMATION Receivables: 1999 1998 ---------- ---------- Customers ............................... $ 273,054 $ 269,264 Affiliates .............................. 9,013 8,976 Other ................................... 19,189 23,404 ---------- ---------- $ 301,256 $ 301,644 ========== ========== Receivables are net of allowance for doubtful accounts of $4.1 million in 1999 and $2.2 million in 1998. Property and Equipment - at cost: 1999 1998 ---------- ---------- Land and improvements .................. $ 105,984 $ 107,712 Buildings and improvements ............. 305,505 299,024 Machinery and equipment ................ 1,145,936 1,145,471 Construction in progress ............... 40,839 56,293 ---------- ---------- $1,598,264 $1,608,500 ========== ========== Depreciation and amortization of property and equipment was $88.3 million in 1999, $79.7 million in 1998 and $82.7 million in 1997. Goodwill and Intangible Assets: 1999 1998 ---------- ---------- Goodwill ............................... $ 151,492 $ 157,380 Intangible assets ...................... 34,411 34,271 ---------- ---------- 185,903 191,651 Less accumulated amortization .......... 36,124 24,694 ---------- ---------- $ 149,779 $ 166,957 ========== ========== Accrued Expenses and Other Current Liabilities: 1999 1998 ---------- ---------- Employee compensation .................. $ 48,441 $ 36,094 Income taxes ........................... 25,890 16,910 Taxes other than income ................ 22,081 20,675 Special charges and acquisition assimilation costs ................... 11,526 18,738 Other .................................. 26,937 25,853 ---------- ---------- $ 134,875 $ 118,270 ========== ========== Noncurrent Liabilities: 1999 1998 ---------- ---------- Employee benefits ...................... $ 30,000 $ 33,976 Other .................................. 15,054 14,974 ---------- ---------- $ 45,054 $ 48,950 ========== ========== NOTE 6 - 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 31, 718,602 and 31,648,000 at December 31, 1999 and 1998 respectively. The company has a shareholder rights plan under which one right to buy one-half common share has been distributed for 31 19 The Lubrizol Corporation NOTES CONTINUED 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 redeemed earlier. Accumulated other comprehensive income (loss) shown in the consolidated statements of shareholders' equity at December 31, 1999, 1998 and 1997 is comprised of the following, net of tax effects: 1999 1998 1997 -------- -------- -------- Foreign currency translation adjustments ............................. $(27,923) $ 14,840 $(36,941) Pension plan minimum liability ............................... (838) Income tax benefit ........................ 338 38 4 -------- -------- -------- $(28,423) $ 14,878 $(36,937) ======== ======== ======== NOTE 7 - OTHER INCOME (EXPENSE) - NET 1999 1998 1997 -------- -------- -------- Equity earnings of nonconsolidated companies ............................... $ 5,735 $ 2,602 $ 4,804 Amortization of goodwill and intangible assets ................... (11,430) (7,512) (3,764) Currency exchange/ transaction gain (loss) ................. (3,108) (1,260) 2,398 Other - net ............................... 2,099 5,018 1,666 -------- -------- -------- $ (6,704) $ (1,152) $ 5,104 ======== ======== ======== NOTE 8 - 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: 1999 1998 1997 -------- -------- -------- United States ............................ $113,904 $ 78,305 $154,589 Foreign .................................. 81,446 40,509 76,558 -------- -------- -------- Total .................................... $195,350 $118,814 $231,147 ======== ======== ======== The provision for income taxes consists of the following: 1999 1998 1997 -------- -------- -------- Current: United States ............................ $ 46,983 $ 16,649 $ 35,556 Foreign .................................. 24,063 25,233 32,137 -------- -------- -------- 71,046 41,882 67,693 -------- -------- -------- Deferred: United States ............................ (3,467) 3,385 8,784 Foreign .................................. 4,779 2,347 (199) -------- -------- -------- 1,312 5,732 8,585 -------- -------- -------- Total .................................... $ 72,358 $ 47,614 $ 76,278 ======== ======== ======== The United States tax provision includes the U.S. tax on foreign income distributed to the company. The portion of the tax provision for taxes outside the United States includes withholding taxes. 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: 1999 1998 1997 -------- -------- -------- Tax at statutory rate of 35% .............. $ 68,373 $ 41,585 $ 80,901 State and local taxes ..................... 2,815 2,261 2,683 Foreign sales corporation earnings ................................ (1,923) (3,152) (4,704) Equity income ............................. (875) (859) (2,775) Foreign deferred tax valuation allowance ..................... (3,904) 4,878 (60) Other foreign tax differences ............. 3,954 5,995 3,523 Other - net ............................... 3,918 (3,094) (3,290) -------- -------- -------- Provision for income taxes ................ $ 72,358 $ 47,614 $ 76,278 ======== ======== ======== The tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities at December 31 are as follows: 1998 1997 -------- -------- Deferred tax assets: Accrued compensation and benefits .................. $ 48,858 $ 48,178 Intercompany profit in inventory ................... 11,322 11,131 Net operating losses carried forward ............... 12,305 18,284 Other .............................................. 8,665 8,574 -------- -------- Total gross deferred tax assets ...................... 81,150 86,167 Less valuation allowance ............................. 5,153 9,057 -------- -------- Net deferred tax assets .............................. 75,997 77,110 -------- -------- Deferred tax liabilities: Depreciation and other basis differences ............................... 99,938 101,658 Undistributed foreign equity income ................ 5,566 3,894 Inventory basis differences ........................ 1,497 3,706 Other .............................................. 3,977 2,986 -------- -------- Total gross deferred tax liabilities ................. 110,978 112,244 -------- -------- Net deferred tax liabilities ......................... $(34,981) $(35,134) ======== ======== 32 20 The Lubrizol Corporation At December 31, 1999, certain foreign subsidiaries have net operating loss carryforwards of $37.8 million for income tax purposes, of which $5.9 million expire in years 2000 through 2009 and $31.9 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 31,1999, 1998 and 1997, was a decrease of $3.9 million, an increase of $4.9 million and a decrease of $.1 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 $411.5 million at December 31, 1999. Determination of the net amount of unrecognized U.S. income tax with respect to these earnings is not practicable. Income taxes paid during 1999, 1998 and 1997 amounted to $59.1 million, $52.0 million and $53.0 million, respectively. NOTE 9 - PENSION, PROFIT SHARING AND OTHER POSTRETIREMENT BENEFIT 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 of the company's defined benefit plans are not funded. Plan assets are invested principally in marketable equity securities and fixed income instruments. The company also provides certain non-pension postretirement benefits, primarily health care and life insurance benefits, for retired employees. 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 non-pension postretirement benefit plans are not funded. Net periodic pension cost of the company's defined benefit pension plans consists of: 1999 1998 1997 -------- -------- -------- Service cost - benefits earned during period ........................... $ 11,843 $ 11,142 $ 10,269 Interest cost on projected benefit obligation ...................... 17,589 17,519 17,704 Expected return on plan assets ............ (25,873) (23,818) (21,976) Amortization of prior service costs ........................... 1,771 1,718 1,827 Amortization of initial net (asset) obligation ...................... (1,264) (753) (1,295) Recognized net actuarial (gain) loss ............................. 507 (381) (127) Settlement (gain) ......................... (5,474) -------- -------- -------- Net periodic pension cost ................. $ (901) $ 5,427 $ 6,402 ======== ======== ======== The company also has defined contribution 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 retirement plans was $9.0 million in 1999, $8.1 million in 1998 and $9.9 million in 1997. As discussed in Note 15, the company initiated a cost reduction program and recognized special termination benefits of $11.6 million in 1999, $3.1 million and $8.5 million of which were included in the special charges recognized in the first and third quarters of 1999, respectively. The company also recognized a settlement gain of $10.0 million in the fourth quarter of 1999 in the United States, $4.5 million of which was recorded as an adjustment to the special charge and $5.5 million recorded as a reduction in net periodic pension cost. The company also recognized special termination benefits of $18.3 million in 1998, which were included in the special charge recognized in the fourth quarter of 1998. Net non-pension postretirement benefit cost consists of: 1999 1998 1997 -------- -------- -------- Service cost - benefits earned during period ........................... $ 1,468 $ 1,250 $ 1,465 Interest cost on accumulated benefit obligation ...................... 4,728 4,415 4,989 Amortization of prior service costs ........................... (3,218) (3,218) (3,218) Recognized net actuarial (gain) loss ............................. 23 (252) -------- -------- -------- Net non-pension postretire- ment benefits cost ...................... $ 3,001 $ 2,195 $ 3,236 ======== ======== ======== 33 21 The Lubrizol Corporation NOTES CONTINUED The change in benefit obligation, change in plan assets of the company's defined benefit pension and non-pension postretirement plans and the amounts recognized in the consolidated balance sheets at December 31 are as follows:
Pension Plans Other Benefits ------------------------ ------------------------ 1999 1998 1999 1998 --------- --------- --------- --------- Change in benefit obligation: Benefit obligation at beginning of year ............................. $ 297,483 $ 254,263 $ 72,047 $ 61,460 Service cost ...................................................... 11,843 11,142 1,468 1,250 Interest cost ..................................................... 17,589 17,519 4,728 4,415 Plan participants' contributions .................................. 48 Actuarial (gain) loss ............................................. (23,048) 27,096 (4,281) 8,352 Currency exchange rate change ..................................... (1,104) 2,834 49 (80) Amendments ........................................................ 647 709 Curtailments ...................................................... (632) (195) Settlements ....................................................... (3,325) Special termination benefits ...................................... 1,691 4,684 Other ............................................................. 857 Benefits paid ..................................................... (37,172) (20,569) (2,511) (3,350) --------- --------- --------- --------- Benefit obligation at end of year ................................... 264,877 297,483 71,500 72,047 --------- --------- --------- --------- Change in plan assets: Fair value of plan assets at beginning of year .................... 300,573 298,130 Actual return on plan assets ................................... 54,984 16,786 Employer contributions ......................................... 6,510 4,719 2,511 3,350 Plan participants' contributions ............................... 48 Currency exchange rate change .................................. (1,003) 896 Other .......................................................... 594 Benefits paid .................................................. (37,172) (19,958) (2,511) (3,350) --------- --------- --------- --------- Fair value of plan assets at end of year .......................... 324,534 300,573 --------- --------- --------- --------- Plan assets greater (less) than the benefit obligation .............. 59,657 3,090 (71,500) (72,047) Unrecognized net loss (gain) ...................................... (52,315) (7,981) (5,521) (1,225) Unrecognized net transition obligation (asset) .................... (3,853) (5,571) Unrecognized prior service cost ................................... 8,472 9,785 (27,402) (30,620) --------- --------- --------- --------- Net amount recognized ............................................... $ 11,961 $ (677) $(104,423) $(103,892) ========= ========= ========= ========= Amount recognized in the statement of financial position consists of: Prepaid benefit cost .............................................. $ 26,027 $ 15,885 Accrued benefit liability ......................................... (16,211) (20,120) $(104,423) $(103,892) Accumulated other comprehensive income ............................ 838 Intangible asset .................................................. 1,307 3,558 --------- --------- --------- --------- Net amount recognized ............................................... $ 11,961 $ (677) $(104,423) $(103,892) ========= ========= ========= =========
Pension Plans Other Benefits ------------------------ ------------------------ 1999 1998 1999 1998 --------- --------- --------- --------- The weighted average assumptions as of December 31: Discount rate for determining funded status ....................... 6.91% 6.08% 7.70% 6.71% Expected return on plan assets .................................... 8.60% 9.01% Rate of compensation increase ..................................... 3.94% 3.78%
The projected benefit obligation and fair value of plan assets for pension plans with projected benefit obligations in excess of plan assets were $29.8 million and $10.2 million, respectively, as of December 31, 1999, and $123.1 million and $97.2 million, respectively, as of December 31, 1998. The accumulated benefit obligation and fair value of plan assets for pension plans with accumulated benefit obligations in excess of plan assets were $23.7 million and $9.5 million, respectively, as of December 31, 1999, and $31.6 million, and $13.9 million, respectively, as of December 31, 1998. 34 22 The Lubrizol Corporation The weighted average of the assumed health care cost trend rates used in measuring the accumulated postretirement benefit obligation for the company's postretirement benefit plans at December 31, 1999, was 6.73%, (7.45% at December 31, 1998), with subsequent annual decrements to an ultimate trend rate of 5.00%. The assumed health care cost trend rates have a significant effect on the amounts reported for the health care plan. A one-percentage-point change in the assumed health care cost trend rate would have the following effects as of and for the year ended December 31,1999: One-Percentage-Point -------------------- Increase Decrease -------- -------- Effect on postretirement benefit obligation ..................... $ 12,129 $ (9,344) Effect on total service and interest cost components ........................ $ 1,363 $ (1,028) NOTE 10 - 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 $18.5 million in 1999, $18.7 million in 1998 and $13.8 million in 1997. Future minimum rental commitments under operating leases having initial or remaining noncancelable lease terms exceeding one year are $13.6 million in 2000, $9.0 million in 2001, $5.0 million in 2002, $3.9 million in 2003, $3.6 million in 2004 and $13.9 million thereafter. NOTE 11 - ACQUISITIONS In 1998, the company completed six acquisitions for cash of $155.4 million and one acquisition for 89,806 of the company's common shares valued at $2.4 million. These acquisitions were in the company's existing business areas of lubricant and fuel additives, metalworking additives and coating additives and broaden the company's base in performance chemicals. These acquisitions were accounted for using the purchase method of accounting. The fair value of assets acquired and liabilities assumed in these acquisitions is as follows: Inventories .......................................... $ 20,713 Receivables .......................................... 26,424 Property and equipment ............................... 8,502 Other tangible assets ................................ 2,986 Goodwill ............................................. 97,882 Technology and other intangibles ..................... 16,173 Technology under development ......................... 13,598 Accounts payable and other liabilities assumed ....... (28,470) -------- Fair value of net assets acquired, less $2,165 of cash received ....................... $157,808 ======== These acquisitions were made at various times throughout the year; however, the two largest acquisitions were Adibis, formerly the lubricants and fuel additives business of British Petroleum Company P.L.C., which was acquired effective August 1, 1998, and Carroll Scientific, Inc., (Carroll), which was acquired in July 1998. Carroll specializes in the development and supply of varnish and wax-based performance additives to the ink market. The aggregate purchase price of these two acquisitions was $134 million, of which $111 million was assigned to good-will and intangible assets. During 1997, the annual revenues of Carroll were approximately $30 million and of Adibis were approximately $150 million. The impact of the acquisitions made in 1998 was not material in relation to the company's results of operations; consequently, pro forma information is not presented. However, these acquisitions had the following impact on revenues and expenses for 1998: Revenues .............................................. $ 71,662 Gross profit .......................................... $ 15,267 Selling and administration expenses ................... $ 7,397 Research, testing and development ..................... $ 5,591 After-tax loss, excluding write-off of technology under development and interest on acquisition debt ........ $ (1,844) In the fourth quarter of 1999, the company reduced the purchase price of the Adibis acquisition by $2.5 million for anticipated reimbursement from the seller of certain post-acquisition costs incurred by the company. The company has substantially completed the process of assimilating the Adibis additives business. The company's assimilation plan included separation of a number of Adibis employees at an estimated cost of $3.9 million and terminating certain Adibis contracts for tolling arrangements, office leases and sales agents at an estimated cost of $2.7 million. Cash expenditures of $5.7 million were made in 1999 and approximately $.9 million remains as an accrued liability at December 31, 1999. The cost of these activities was included in the allocation of the acquisition costs to the net assets acquired. The company engaged an independent appraiser to provide a basis for allocating the purchase price of Adibis to the acquired intangible assets for financial reporting purposes. The appraisal included the determination of the amount to be assigned to technology under development which, under purchase accounting, is written off against income in the period of acquisition. Technology under development comprises ongoing research and development projects that may form the basis for new products or replacements for existing products. The fair 35 23 The Lubrizol Corporation NOTES CONTINUED value assigned to the Adibis technology under development was determined by the independent appraiser applying the income approach and a valuation model, incorporating among other assumptions revenue and expense projections, probability of success and present value factors. The resulting value allocated to each of the technology projects under development represents the product of the present value of debt-free cash flows and the percent of research and development completed. The fair value of technology under development was comprised of three projects within engine oil additives aggregating $7.1 million; six projects within fuel additives aggregating $3.4 million; and two projects within marine diesel additives aggregating $3.1 million. The amount of the purchase price allocated to technology under development was $13.6 million and was charged against income in the fourth quarter of 1998 upon completion of the appraisal. NOTE 12 - BUSINESS SEGMENTS AND GEOGRAPHIC REPORTING The company aggregates its product lines into two principal operating segments: chemicals for transportation and chemicals for industry. Chemicals for transportation is comprised of additives for lubricating engine oils, such as for gasoline, diesel, marine and stationary gas engines and additive components to its larger customers; additives for driveline oils, such as automatic transmission fluids, gear oils and tractor lubricants; and additives for fuel products and refinery and oil field chemicals. In addition, the company sells additive components and viscosity improvers within its lubricant and fuel additives product lines. The company's chemicals for transportation product lines are generally produced in shared manufacturing facilities and sold largely to a common customer base. Chemicals for industry includes industrial additives, such as additives for hydraulic fluids, metalworking fluids and compressor lubricants; performance chemicals, such as additives for coatings and inks and process chemicals; and performance systems, comprised principally of fluid metering devices and particulate emission trap devices. The company's accounting policies for its operating segments are the same as those described in Note 2. The company evaluates performance and allocates resources based on segment contribution income, which is revenues less expenses directly identifiable to the product lines aggregated within each segment. In addition, the company allocates corporate research, testing, selling and administrative expenses in arriving at segment operating profit before tax. The following table presents a summary of the company's reportable segments for the years ended December 31:
1999 1998 1997 ----------- ----------- ----------- Chemicals for transportation: Revenues from external customers .......................... $ 1,448,978 $ 1,361,306 $ 1,446,342 Equity earnings ....................... 5,340 2,434 4,540 Goodwill and intangibles amortization ....................... 5,012 2,964 1,239 Segment contribution income ............................. 307,411 238,076 322,377 Operating profit before tax ........... 191,654 130,149 213,184 Segment total assets .................. 1,116,680 1,191,175 1,076,153 Capital expenditures .................. 58,123 90,369 98,482 Depreciation .......................... 82,129 74,023 76,134 Chemicals for industry: Revenues from external customers .......................... $ 299,025 $ 256,613 $ 227,440 Equity earnings ....................... 395 168 264 Goodwill and intangibles amortization ....................... 6,418 5,414 3,274 Segment contribution income ............................. 41,636 33,959 37,302 Operating profit before tax ........... 27,481 22,552 24,178 Segment total assets .................. 247,779 256,905 194,492 Capital expenditures .................. 6,749 3,052 2,218 Depreciation .......................... 6,161 5,646 6,570 Reconciliation to consolidated income before tax: Segment operating profit before tax ......................... $ 219,135 $ 152,701 $ 237,362 Gain from litigation settlements ........................ 17,626 16,201 Special charges ....................... (19,569) (36,892) Interest expense - net ................ (21,842) (13,196) (6,215) ----------- ----------- ----------- Consolidated income before tax ......................... $ 195,350 $ 118,814 $ 231,147 =========== =========== =========== Revenues from external customers by product group: Engine oil additives .................. $ 916,755 $ 844,614 $ 920,971 Driveline oil additives ............... 408,488 384,880 400,154 Fuel additives and refinery oil additives ...................... 103,271 78,023 69,904 Additive components ................... 20,464 53,789 55,313 ----------- ----------- ----------- Chemicals for transportation ................. 1,448,978 1,361,306 1,446,342 ----------- ----------- ----------- Industrial additives .................. 156,996 149,087 133,200 Performance chemicals ................. 108,189 84,478 73,702 Performance systems ................... 33,840 23,048 20,538 ----------- ----------- ----------- Chemicals for industry ........... 299,025 256,613 227,440 ----------- ----------- ----------- Total revenues from external customers .................... $ 1,748,003 $ 1,617,919 $ 1,673,782 =========== =========== ===========
36 24 The Lubrizol Corporation Prior-year revenues from external customers by product group within the chemicals for transportation segment have been restated to reflect a change in the way the company reports these revenues for internal management reporting. Revenues are attributable to countries based on the location of the customer. The United States is the only country where sales to external customers comprise in excess of 10% of the company's consolidated revenues. Revenues from external customers by geographic area are as follows: 1999 1998 1997 ---------- ---------- ---------- United States ............................ $ 673,579 $ 605,145 $ 602,918 Other North American ..................... 60,775 50,685 53,030 Europe, Middle East ...................... 572,854 551,633 539,654 Asia-Pacific ............................. 314,715 262,341 315,426 Latin America ............................ 126,080 148,115 162,754 ---------- ---------- ---------- Total revenues from external customers ..................... $1,748,003 $1,617,919 $1,673,782 ========== ========== ========== The company's sales and receivables are concentrated in the oil and chemical industries. The company's lubricant and fuel additive customers consist primarily of oil refiners and independent oil blenders and are located in more than 100 countries. The ten largest customers, most of which are international oil companies and a number of which are groups of affiliated entities, comprised approximately 46% of consolidated sales in 1999, 42% of consolidated sales in 1998 and 44% of consolidated sales in 1997. The company's largest single customer, including its affiliated entities, accounted for revenues of $210.4 million in 1999, predominately within chemicals for transportation segment, less than 10% in 1998 and revenues of $161.2 million in 1997, predominately within chemicals for transportation segment. The table below presents a reconciliation of segment total assets to consolidated total assets for the years ended December 31: 1999 1998 1997 ---------- ---------- ---------- Total segment assets ..................... $1,364,459 $1,448,080 $1,270,645 Corporate assets ......................... 317,895 195,157 191,647 ---------- ---------- ---------- Total consolidated assets ................ $1,682,354 $1,643,237 $1,462,292 ========== ========== ========== Segment assets include receivables, inventories and long-lived assets including goodwill and intangible assets. Corporate assets include cash and short-term investments, investments accounted for on the cost basis and other current and noncurrent assets. The company's principal long-lived assets are located in the following countries at December 31: 1999 1998 ---------- ---------- United States ............................ $ 519,050 $ 554,983 France ................................... 91,413 109,990 England .................................. 124,138 134,127 All other ................................ 85,690 86,707 ---------- ---------- Total long-lived assets $ 820,291 $ 885,807 ========== ========== Net income of non-U.S. subsidiaries was $53 million in 1999, $13 million in 1998 and $43 million in 1997; and dividends received from these subsidiaries were $22 million, $15 million and $7 million, respectively. NOTE 13 - 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, 1999, approximates $375.5 million compared with the carrying value of $403.0 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. 37 25 The Lubrizol Corporation NOTES CONTINUED The maximum amount of foreign currency forward contracts outstanding at any one time was $18.9 million in 1999, $65.0 million in 1998 and $58.4 million in 1997. At December 31, 1999, the company had short-term forward contracts to sell currencies at various dates during 2000 for $7.5 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. There were no deferred currency losses on foreign exchange contracts at December 31, 1999. 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 4). 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 were accrued in 1997 and no amounts were accrued in 1998 or 1999. The company would have paid approximately $2.4 million, including accrued interest of $.9 million, if it had terminated these interest rate swap agreements at December 31, 1999. NOTE 14 - STOCK COMPENSATION PLANS The 1991 Stock Incentive Plan provides for granting of restricted and unrestricted shares and options to buy common shares 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. Options are intended either to qualify as "incentive stock options" under the Internal Revenue Code or "non-statutory stock options" not intended to so qualify. 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 the 1985 Plan is the fair market value of the shares on the date of grant. The option price under the 1991 Plan is not less than 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 3,000 and 65,000 performance share stock awards in 1998 and 1997, respectively and none in 1999. 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 per common share for ten consecutive trading days or after six years from date of grant, whichever occurs first. Under certain conditions such as retirement, a grantee of performance share stock awards may be issued a pro-rata number of common shares. The market value of the company's common shares at date of grant of the performance share stock awards was $38.25 per share in 1998 and $33.75 per share in 1997. The company recognizes compensation expense related to performance share stock awards ratably over the estimated period of vesting. Compensation costs recognized for performance share stock awards were $.8 million in 1999 and 1998, and $.5 million in 1997. At December 31, 1999, 67,000 performance share stock awards were outstanding. Generally accepted accounting principles encourage the fair-value based method of accounting for stock compensation plans, under which the value of stock-based compensation is estimated at the date of grant using valuation formulas, but permit the continuance of intrinsic-value accounting. The com- 38 26 The Lubrizol Corporation pany 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 $2.5 million in 1999, $1.6 million in 1998 and $2.6 million in 1997 with a corresponding reduction in net income per share of $.05 in 1999, $.03 in 1998 and $.05 in 1997. 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: 1999 1998 1997 ---- ---- ---- 1985 Plan: Risk-free interest rate .................. 6.5% 4.6% 5.7% Dividend yield ........................... 3.4% 4.0% 2.7% Volatility ............................... 23% 21% 20% Expected life (years) .................... .5 2.8 3.1 1991 Plan: Risk-free interest rate .................. 6.4% 4.7% 5.8% Dividend yield ........................... 3.4% 4.0% 2.7% Volatility ............................... 24% 23% 22% Expected life (years) .................... 9.9 9.5 9.9 The fair value per share of the performance share stock awards granted in 1998 and 1997 was $33.94 and $31.80, respectively, using the following assumptions in 1998 and 1997, respectively: risk-free interest rate of 4.58% and 5.7%; volatility of 21% and 20%; and an 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, 1999 ................. 3,483,316 $ 32.64 Granted ...................................... 730,516 22.99 Exercised .................................... (79,675) 20.31 Forfeited .................................... (165,415) 33.98 --------- Outstanding, December 31, 1999 ............... 3,968,742 $ 31.06 ========= ======= Options exercisable, December 31, 1999 ....... 2,993,380 $ 32.51 ========= ======= Weighted-average fair value of options granted during the year ............ $ 5.87 ======= Outstanding, January 1, 1998 ................. 3,212,157 $ 31.88 Granted ...................................... 410,248 37.69 Exercised .................................... (125,463) 29.38 Forfeited .................................... (13,626) 31.23 --------- Outstanding, December 31, 1998 ............... 3,483,316 $ 32.64 ========= ======= Options exercisable, December 31, 1998 ....... 2,842,719 $ 31.97 ========= ======= Weighted-average fair value of options granted during the year ............ $ 7.74 ======= 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 ======= The following table summarizes information about stock options outstanding, excluding the performance share stock awards, at December 31, 1999:
Options Outstanding Options Exercisable -------------------------------------------------- ----------------------------- Number Weighted-Average Weighted- Number Weighted- Range of Outstanding Remaining Average Exercisable Average Exercise Prices at 12/31/99 Contractual Life Exercise Price at 12/31/99 Exercise Price ----------- ---------------- -------------- ----------- -------------- $13 - $19 ................... 52,088 .2 Years $16.66 52,088 $16.66 19 - 25 .................... 553,619 8.9 21.42 25,369 22.94 25 - 31 .................... 1,286,224 4.3 28.68 1,097,224 28.86 31 - 38 .................... 2,016,393 4.8 35.28 1,761,281 35.09 38 - 45 .................... 60,418 1.8 41.63 57,418 41.76 --------- --- ------ --------- ------ 3,968,742 5.1 $31.06 2,993,380 $32.51 ========= === ====== ========= ======
39 27 NOTES CONTINUED NOTE 15 - SPECIAL CHARGES AND ASSET IMPAIRMENTS The company initiated a series of steps to reduce costs and improve its worldwide operating structure and has been executing these steps in two phases over a period of approximately two years. The first phase, which began in the fourth quarter of 1998, resulted in the reduction of approximately 7% of the company's workforce, or 300 employees worldwide. Approximately 55% of this reduction occurred prior to December 31, 1998, a further 35% occurred in the first quarter of 1999, and the remainder has been substantially completed by the third quarter of 1999. Of the 300 employees, approximately 40% were in the manufacturing area and 60% were in the selling, administrative, research and testing areas. In addition, the company permanently removed seven component production units from service during this first phase. In the fourth quarter of 1998, the company recognized special charges of $36.9 million, comprised of $23.3 million related to the first phase of the company's cost reduction program and $13.6 million for the write-off of purchased technology under development resulting from the acquisition of Adibis (see Note 11). After-tax, these charges reduced net income by $25.8 million, or by $.47 per share. These special charges related predominately to the company's chemicals for transportation segment. In the first quarter of 1999, the company recognized an additional expense of $3.1 million, related to the first phase of its cost reduction program to reflect a greater amount for separation benefits, principally in Japan. After-tax, this charge reduced net income by $2.9 million or $.05 per share. In the third quarter of 1999, the company recognized special charges of $20.8 million related to the second phase of the company's cost reduction program. After-tax, this special charge reduced net income by $12.9 million, or $.24 per share. In the fourth quarter of 1999, the company recorded an adjustment of $4.3 million to reduce the special charge related to the first phase of the company's cost reduction program, principally to reflect a gain related to the settlement of pension obligations for work force reductions in the first phase of the company's cost reduction program (see Note 9). After-tax, this adjustment increased net income by $2.5 million or $.05 per share. As adjusted, the first phase of the company's cost reduction program included workforce reduction cost estimated at $20.0 million and other exit costs estimated at $2.1 million, including $2.0 million related to asset impairments for production units to be taken out of service. Cash expenditures of approximately $5.0 million were made in 1998, and $14.7 million in 1999 related to the cost reduction program. Approximately $.4 million remains as an accrued liability at December 31, 1999, representing payments that will be made in 2000 relating to employees separated prior to December 31, 1999. The second phase of the company's cost reduction program began in the third quarter of 1999 and involves primarily the downsizing of the company's Painesville, Ohio, manufacturing plant. This will result in the additional reduction of approximately 5% of the company's workforce, or 200 employees, and the shutdown of 23 of Painesville's 36 production systems. Through December 31, 1999, the company has shut down 12 of the 23 targeted production systems and has completed approximately 22% of the workforce reduction. The second phase of the company's cost reduction program included workforce reduction cost estimated at $8.5 million and other exit costs estimated at $12.3 million, including $8.9 million related to asset impairments for production units to be taken out of service. Cash expenditures of approximately $1.3 million were made in 1999 related to the cost reduction program. Approximately $10.6 million remains as an accrued liability at December 31, 1999. 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 certain manufacturing equipment, 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. NOTE 16 - LITIGATION The company previously 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. On March 31, 1999, the company and Exxon Corporation reached a settlement of all pending intellectual property litigation between the two companies and their affiliates, except for litigation pending in Canada. Under the settlement agreement, Exxon paid the company cash of $16.8 million in April 1999. After deducting related expenses, this settlement increased pre-tax income by $14.5 million in 1999. 40 28 On April 23, 1998, the company reached a settlement with Exxon of a lawsuit pending in federal court in Ohio and received cash of $19.0 million. After deducting related expenses, this settlement increased pre-tax income by $16.2 million in 1998. 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 that is the subject of this case. The determination of penalty damages, if any, on account of this violation will be made after the court has determined the compensation damages for patent infringement. A reasonable estimation of the company's potential recovery relating to this litigation cannot be made at this time, and no amounts that may be recovered in the future have been recorded in the company's financial statements as of December 31, 1999. QUARTERLY FINANCIAL DATA (UNAUDITED)
Three Months Ended -------------------------------------------------- March 31 June 30 Sept. 30 Dec. 31 - ------------------------------------------------------------------------------------------ (In Thousands of Dollars Except Per Share Data) 1999 Net sales ......................... $ 446,627 $ 433,129 $ 431,978 $ 431,807 Gross profit ...................... 143,453 136,144 136,612 132,387 Net income ........................ 39,094 30,028 20,412 33,458 Net income per share .............. $ .72 $ .55 $ .37 $ .61 Net income per share, diluted ..... $ .72 $ .55 $ .37 $ .61 1998 Net sales ......................... $ 399,900 $ 405,160 $ 403,262 $ 406,236 Gross profit ...................... 122,865 126,143 120,252 111,971 Net income (loss) ................. 29,668 39,963 16,614 (15,045) Net income (loss)per share ........ $ .52 $ .71 $ .30 $ (.27) Net income (loss)per share, diluted $ .52 $ .71 $ .30 $ (.27)
In the first quarter of 1999, the company recorded a pre-tax special charge of $3.1 million ($.05 per share) to reflect an additional amount for separation benefits, principally in Japan, under its cost reduction program. In the first quarter of 1999, the company recorded a pre-tax gain from litigation settlement of $14.5 million ($.16) share. In the third quarter of 1999, the company recorded a pre-tax special charge of $20.8 million ($.24 per share) primarily related to the restructuring of its Painesville, Ohio, manufacturing plant. In the fourth quarter of 1999, the company recorded a pre-tax adjustment of $4.3 million ($.05 per share) to reduce the amount of the special charge principally to reflect a gain related to the settlement of pension obligations for work force reductions in the first phase of the company's cost reduction program. In the fourth quarter of 1999, the company recorded a pre-tax gain from litigation settlement of $3.1 million ($.04) share. In the second quarter of 1998, the company recorded a pre-tax gain from litigation settlement of $16.2 million ($.19 per share). In the fourth quarter of 1998, the company recorded pre-tax special charges of $23.3 million ($.30 per share) related to a cost reduction program and $13.6 million ($.17 per share) related to the write-off of purchased technology under development resulting from the company's acquisition of Adibis. 41 29 The Lubrizol Corporation HISTORICAL SUMMARY
(In Millions, Except Shareholders, Employees and Per Share Data) 1999 1998 1997 - -------------------------------------------------------------------------------------------------------- OPERATING RESULTS: Revenues ....................................................... $ 1,748.0 $ 1,617.9 $ 1,673.8 Total cost and expenses ........................................ 1,522.2 1,464.1 1,441.5 Other income (charges) ......................................... (30.5) (35.0) (1.1) Net income ..................................................... 123.0 71.2 154.9 - Before unusual items and accounting changes ................ 125.3 86.5 154.9 Net income per share ........................................... 2.25 1.27 2.68 - Before unusual items and accounting changes ................ 2.30 1.55 2.68 FINANCIAL RATIOS: Gross profit percentage ........................................ 31.5 29.8 32.7 Percent of revenues: Selling and administrative expenses .......................... 10.4 11.1 10.2 Research and testing expenses ................................ 8.3 9.3 8.8 Return on average shareholders' equity (%) ..................... 15.8 9.0 19.0 - Before unusual items and accounting changes (%) ............ 16.1 10.9 19.0 Debt to capitalization (%) ..................................... 33.8 35.8 21.3 Current ratio .................................................. 2.5 2.5 2.5 OTHER INFORMATION: Dividends declared per share ................................... $ 1.04 $ 1.04 $ 1.01 Average common shares outstanding .............................. 54.6 55.9 57.8 Capital expenditures ........................................... $ 64.9 $ 93.4 $ 100.7 Depreciation expense ........................................... 88.3 79.7 82.7 At Year End: Total assets ................................................. $ 1,682.4 $ 1,643.2 $ 1,462.3 Total debt ................................................... 403.0 429.3 220.3 Total shareholders' equity ................................... 790.1 769.1 815.4 Shareholders' equity per share ............................... 14.50 14.10 14.31 Common share price ........................................... 30.88 25.69 36.88 Number of shareholders ....................................... 5,126 5,609 5,661 Number of employees .......................................... 4,074 4,324 4,291
42 30 The Lubrizol Corporation
1996 1995 1994 1993 1992 1991 1990 1989 - ---------------------------------------------------------------------------------------------- $ 1,597.6 $ 1,663.6 $ 1,599.0 $ 1,525.5 $ 1,552.2 $ 1,476.3 $ 1,452.7 $ 1,227.9 1,403.0 1,478.0 1,397.0 1,362.2 1,390.5 1,308.7 1,288.4 1,109.7 56.1 40.0 49.4 (43.6) 15.4 10.5 106.9 19.5 169.8 151.6 175.6 45.6 124.6 123.7 190.0 94.0 135.2 126.6 148.8 113.5 124.6 123.7 133.5 94.0 2.80 2.37 2.67 .67 1.81 1.79 2.67 1.26 2.23 1.98 2.26 1.67 1.81 1.79 1.87 1.26 32.0 31.5 32.7 32.0 31.7 32.4 30.3 29.2 9.9 9.8 10.0 10.4 11.7 11.7 10.9 10.8 10.1 10.8 10.3 11.2 10.0 9.8 8.5 9.2 20.4 18.0 22.5 5.9 15.4 16.2 27.2 14.2 16.2 15.1 19.0 14.6 15.4 16.2 18.0 14.2 19.5 22.5 16.8 8.7 5.6 7.9 8.3 8.5 2.6 2.4 2.5 2.5 2.9 2.7 2.7 3.0 $ .97 $ .93 $ .89 $ .85 $ .81 $ .77 $ .73 $ .69 60.7 63.8 65.7 67.7 69.0 69.3 71.1 74.7 $ 94.3 $ 189.3 $ 160.5 $ 127.9 $ 95.8 $ 82.4 $ 77.4 $ 64.7 78.7 71.8 63.9 59.6 58.4 54.6 54.0 48.7 $ 1,402.1 $ 1,492.0 $ 1,394.4 $ 1,182.6 $ 1,127.1 $ 1,171.7 $ 1,114.6 $ 960.2 198.5 247.1 167.9 69.6 48.4 67.8 66.6 61.2 819.4 849.0 832.0 732.2 819.4 794.5 736.2 663.3 14.00 13.48 12.83 11.00 11.97 11.51 10.61 8.96 31.00 27.75 33.88 34.13 27.25 28.25 23.63 18.75 5,764 6,304 6,494 6,616 6,822 6,767 6,692 7,370 4,358 4,601 4,520 4,613 4,609 5,299 5,169 5,030
43 EX-21 8 EXHIBIT 21 1 EXHIBIT 21 THE LUBRIZOL CORPORATION % OF STATE/COUNTRY PRINCIPAL SUBSIDIARIES OWNERSHIP OF INCORPORATION Lubrizol Adibis (UK) Limited 100% United Kingdom 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 G.m.b.H. 100% Germany Lubrizol Espanola, S.A. 100% Spain Lubrizol Europe B.V. 100% The Netherlands Lubrizol France, S.A.R.L. 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 Lubrizol Performance Systems Inc. 100% Georgia Lubrizol Performance Systems Limited 100% United Kingdom Carroll Scientific, Inc. 100% Illinois CPI Engineering Services, Inc. 100% Michigan Gateway Additive Company 100% Nevada 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 Tianjin Lubrizol - Lanlian Additive Co., Ltd. 50.05% China EX-23 9 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 3, 2000, incorporated by reference in this Annual Report on Form 10-K of The Lubrizol Corporation for the year ended December 31, 1999. /s/Deloitte & Touche LLP - ---------------------------------- DELOITTE & TOUCHE LLP Cleveland, Ohio March 27, 2000 EX-27 10 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 12-MOS DEC-31-1999 JAN-01-1999 DEC-31-1999 185,465 0 277,109 4,055 258,149 780,442 1,598,264 927,752 1,682,354 311,300 365,372 0 0 85,984 704,140 1,682,354 1,743,541 1,748,003 1,194,945 1,194,945 0 1,176 29,696 195,350 72,358 0 0 0 0 122,992 2.25 2.25
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