The Lubrizol Corporation 8-K

-----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, PM+j6b2p6j4H1YP5DeqTYYo+Ddjnglny3sU6mw4WaB2RsWErlJPSd61UmwKr6QFD k6xYDPjyhaJsWSpPkBZwqw== 0000950152-04-005869.txt : 20040804 0000950152-04-005869.hdr.sgml : 20040804 20040804135556 ACCESSION NUMBER: 0000950152-04-005869 CONFORMED SUBMISSION TYPE: 8-K PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 20040804 ITEM INFORMATION: Other events ITEM INFORMATION: Financial statements and exhibits FILED AS OF DATE: 20040804 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: 8-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-05263 FILM NUMBER: 04950995 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 8-K 1 l07565ae8vk.htm THE LUBRIZOL CORPORATION 8-K The Lubrizol Corporation 8-K

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 8-K

CURRENT REPORT
Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934

Date of Report (Date of earliest event reported): August 4, 2004

THE LUBRIZOL CORPORATION

(Exact Name of Registrant as Specified in its Charter)


Ohio	1-5263	34-0367600

(State or Other Jurisdiction of Incorporation)	(Commission File Number)	(IRS Employer Identification No.)

29400 Lakeland Boulevard, Wickliffe, Ohio		44092-2298

(Address of Principal Executive Offices)		(Zip Code)

Registrant’s telephone number, including area code (440) 943-4200

Not Applicable

(Former Name or Former Address, if Changed Since Last Report)

ITEM 5. Other Events and Regulation FD Disclosure.

The Lubrizol Corporation (the “Company”) is filing Exhibits 99.1 through 99.4 to this report to provide the consolidated financial statements, including guarantor footnote information required under Rule 3-10 of Regulation S-X as the Company is in the process of registering debt securities using Form S-3 to provide funds to repay a portion of the temporary bridge loan which was utilized to acquire all of the outstanding common stock of Noveon International, Inc. (“Noveon”) on June 3, 2004. The repayment of the debt securities is expected to be fully and unconditionally guaranteed on a joint and several basis by all direct and indirect, 100 percent owned, domestic subsidiaries of the Company, unless specifically agreed otherwise.

ITEM 7. Financial Statements, and Exhibits.


23.1		Consent of Deloitte & Touche LLP

23.2		Consent of Ernst & Young LLP

99.1		Consolidated financial statements of The Lubrizol Corporation as of December 31, 2003 and 2002 and the years ended December 31, 2003, 2002 and 2001 and report of independent registered public accounting firm.

99.2		Consolidated financial statements of The Lubrizol Corporation as of March 31, 2004 and December 31, 2003 and for the three-month periods ended March 31, 2004 and 2003.

99.3		Consolidated financial statements of Noveon International, Inc. as of December 31, 2003 and for the year then ended and report of independent registered public accounting firm.

99.4		Consolidated financial statements of Noveon International, Inc. as of March 31, 2004 and for the three-month period then ended.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.

THE LUBRIZOL CORPORATION

By:   /s/ Leslie M. Reynolds
Name:  Leslie M. Reynolds
Title:  Corporate Secretary and Counsel

Date: August 4, 2004

EXHIBIT INDEX


Exhibit No.		Exhibit Description
23.1		Consent of Deloitte & Touche LLP

23.2		Consent of Ernst & Young LLP

99.1		Consolidated financial statements of The Lubrizol Corporation as of December 31, 2003 and 2002 and for the years ended December 31, 2003, 2002 and 2001 and report of independent registered public accounting firm.

99.2		Consolidated financial statements of The Lubrizol Corporation as of March 31, 2004 and December 31, 2003 and for the three-month periods ended March 31, 2004 and 2003.

99.3		Consolidated financial statements of Noveon International, Inc. as of December 31, 2003 and for the year then ended and report of independent registered public accounting firm.

99.4		Consolidated financial statements of Noveon International, Inc. as of March 31, 2004 and for the three month-period then ended.

EX-23.1 2 l07565aexv23w1.txt EXHIBIT 23.1 CONSENT OF DELOITTE & TOUCH LLP EXHIBIT 23.1 CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We consent to the incorporation by reference in Registration Statement Nos. 2-99983, 33-61091, 33-42211, and 333-42338 on Form S-8 of The Lubrizol Corporation of our report dated February 6, 2004 (except for Note 18, as to which the date is July 19, 2004) (which report expresses an unqualified opinion and includes an explanatory paragraph related to the adoption of Statement of Financial Accounting Standards No. 142 in 2002), appearing in this Current Report on Form 8-K of The Lubrizol Corporation. /s/Deloitte & Touche LLP ________________________ DELOITTE & TOUCHE LLP Cleveland, Ohio August 4, 2004 EX-23.2 3 l07565aexv23w2.txt EXHIBIT 23.2 Exhibit 23.2 CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We consent to the incorporation by reference in the following Registration Statements and related Prospectuses of The Lubrizol Corporation of our report dated February 17, 2004 (except for Note W as to which the date is July 29, 2004), with respect to the consolidated financial statements of Noveon International, Inc. included in this Current Report (Form 8-K): Registration Number Description Filing Date - ------ ----------- ----------- 2-99983 1985 Stock Option Plan August 30, 1985 33-61091 Employees' Profit Sharing July 19, 1995 and Savings Plan (401(k)) 33-42211 1991 Stock Incentive Plan August 19, 1991 333-42338 1991 Stock Incentive Plan July 27, 2000 333-115662 Registration of $2,000,000,000 May 20, 2004 of Common Shares and Debt Securities /s/ Ernst & Young LLP Cleveland, Ohio July 29, 2004 EX-99.1 4 l07565aexv99w1.txt EXHIBIT 99.1 CONSOLIDATED FIN STMTS OF LUBRIZOL FOR THE YEAR ENDED DECEMBER 31.2003 Exhibit 99.1 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM 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, 2003 and 2002 and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2003. 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 standards of the Public Company Accounting Oversight Board (United States). 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, 2003 and 2002, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2003 in conformity with accounting principles generally accepted in the United States of America. As discussed in Notes 2 and 4 to the consolidated financial statements, in 2002 the Corporation changed its method of accounting for goodwill and other intangible assets to conform to Statement of Financial Accounting Standards No. 142. /s/ Deloitte & Touche LLP Cleveland, Ohio February 6, 2004, except for Note 18, as to which the date is July 19, 2004 THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF INCOME

The accompanying notes to the financial statements are an integral part of these statements. THE LUBRIZOL CORPORATION CONSOLIDATED BALANCE SHEETS

The accompanying notes to the financial statements are an integral part of these statements. THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS

The accompanying notes to the financial statements are an integral part of these statements. THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

The accompanying notes to the financial statements are an integral part of these statements. THE LUBRIZOL CORPORATION NOTES TO FINANCIAL STATEMENTS (In Thousands of Dollars Unless Otherwise Indicated) NOTE 1 -- NATURE OF OPERATIONS The Lubrizol Corporation is a global fluid technology company that develops, produces and sells high-performance chemicals, systems and services for transportation and industry. The company creates these products by applying advanced chemical and mechanical technologies to enhance the performance, quality and value and reduce the environmental impact of the customer products in which our products are used. The company groups its product lines into three reportable segments: fluid technologies for transportation, fluid technologies for industry and all other, which is comprised of the advanced fluid systems and emulsified products operating segments. Fluid technologies for transportation comprise approximately 76% of the company's consolidated revenues and 81% of the company's segment contribution income. Refer to Note 13 for a further description of the nature of the company's operations, the product lines within each of the operating segments, segment contribution income and related financial disclosures for the reportable segments. NOTE 2 -- ACCOUNTING POLICIES CONSOLIDATION -- The consolidated financial statements include the accounts of The Lubrizol Corporation and its subsidiaries where ownership is 50% or greater and the company has effective management control. For nonconsolidated companies (affiliates), the equity method of accounting is used when ownership 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 on the equity method was $5.6 million and $5.9 million at December 31, 2003 and 2002, respectively. Investments carried at cost were $.7 million and $.8 million at December 31, 2003 and December 31, 2002, respectively. CONSOLIDATION OF VARIABLE INTEREST ENTITIES -- In January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. (FIN) 46, "Consolidation of Variable Interest Entities." FIN 46 provides guidance on how to identify a variable interest entity (VIE) and determine when the assets, liabilities, non-controlling interests and results of operations of a VIE need to be included in a company's consolidated financial statements. FIN 46 also requires additional disclosures by primary beneficiaries and other significant variable interest holders. In December 2003, the FASB issued a revision to FIN 46 (FIN 46R), which provided additional guidance on the definition of a variable interest entity and delayed the effective date until the first reporting period ending after March 15, 2004, except for special-purpose entities, which must be accounted for under FIN 46 or FIN 46R no later than the end of the first reporting period ending after December 15, 2003. The adoption of FIN 46R did not have a material impact on the company's consolidated financial position or results of operations. ESTIMATES -- The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America 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 invests its excess cash in short-term investments with various banks and financial institutions. Short-term investments are cash equivalents, as they are part of the cash management activities of the company and are comprised of investments having maturities of three months or fewer when purchased. INVENTORIES -- Inventories are stated at the lower of cost or market value. Cost of inventories is determined by either the first-in, first-out (FIFO) method or the moving average method, except in the United States for chemical inventories, which are primarily valued using the last-in, first-out (LIFO) method. The company accrues volume discounts on purchases from vendors where it is probable that the required volume will be attained and the amount can be reasonably estimated. The company records the discount as a reduction in the cost of the purchase (generally raw materials), based on projected purchases over the purchase agreement period. 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 12% of the depreciable assets in both 2003 and 2002. The remaining assets are depreciated using the straight-line method. The estimated useful lives are 10 to 40 years for buildings and land and building improvements and range from 3 to 20 years for machinery and equipment. IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS -- The company reviews the carrying value of its long-lived assets, including property and equipment, whenever events or changes in circumstances indicate that the carrying value of the assets may not be recoverable. An impairment loss may be recognized when estimated undiscounted future cash flows expected to result from the use of the asset, including disposition, are less than the carrying value of the asset. The measurement of the impairment loss to be recognized is based on the difference between the fair value and the carrying amounts of the assets. Fair value is generally determined based on a discounted cash flow analysis. In order to determine if an asset has been impaired, assets are grouped and tested at the lowest level for which identifiable, independent, cash flows are available. GOODWILL AND INTANGIBLE ASSETS -- In June 2001, the FASB issued Statement of Financial Accounting Standards (SFAS) 142, "Goodwill and Other Intangible Assets," which became effective for the company on January 1, 2002. Intangibles resulting from business acquisitions, including purchased technology, land use rights, non-compete agreements, distributor networks, trademarks and patents, are amortized on a straight-line method over periods ranging from 5 to 40 years. Under SFAS 142, goodwill and other intangibles determined to have indefinite lives are no longer amortized, but are tested for impairment at least annually. The company has elected to perform its annual tests for potential impairment of goodwill and indefinite life intangibles as of October 1 of each year (see Note 4). The company had goodwill amortization expense of approximately $11.0 million in 2001. As part of the annual impairment test required under SFAS 142, the useful lives of the non-amortized trademarks are reviewed to determine if the indefinite status remains appropriate. After considering the expected use of the trademarks and reviewing any legal, regulatory, contractual, obsolescence, demand, competitive or other economic factors that could limit the useful lives of the trademarks, in accordance with SFAS 142, the company determined that the trademarks had indefinite lives. RESEARCH, TESTING AND DEVELOPMENT -- Research, testing and development costs are expensed as incurred. Research and development expenses, excluding testing, were $93.9 million in 2003, $93.5 million in 2002 and $87.6 million in 2001. ENVIRONMENTAL LIABILITIES -- The company accrues for expenses associated with environmental remediation obligations when such expenses are probable and reasonably estimable. These 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 $9.8 million and $9.9 million at December 31, 2003 and 2002, respectively. Of these amounts, $1.2 million and $1.1 million was included in other current liabilities at December 31, 2003 and 2002, respectively. FOREIGN CURRENCY TRANSLATION -- The assets and liabilities 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 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 uses 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 -- Revenues are recognized at the time of shipment of products to customers, or at the time of transfer of title if later, with appropriate provision for uncollectible accounts. All amounts in a sales transaction billed to a customer related to shipping and handling are reported as revenues. Provisions for sales discounts and rebates to customers are recorded based upon the terms of sales contracts in the same period the related sales are recorded, as a deduction to the sale. Sales discounts and rebates are offered to certain customers to promote customer loyalty and to encourage greater product sales. These rebate programs provide that upon the attainment of pre-established volumes or the attainment of revenue milestones for a specified period, the customer receives credits against purchases. The company estimates the provision for rebates based on the specific terms in each agreement at the time of shipment. COMPONENTS OF COST OF SALES -- Cost of sales is comprised of raw material costs including freight and duty, inbound handling costs associated with the receipt of raw materials, direct production, maintenance and utility costs, plant and engineering overhead, terminals and warehousing costs, and outbound shipping and handling costs. PER SHARE AMOUNTS -- Net income per share is computed by dividing net income by average common shares outstanding during the period, including contingently issuable shares. Net income per diluted share includes the dilution effect resulting from outstanding stock options and stock awards. Per share amounts are computed as follows:

Weighted-average shares issuable upon the exercise of stock options which were excluded from the diluted earnings per share calculations because they were antidilutive were 2.5 million in 2003, 2.4 million in 2002 and 1.8 million in 2001. ACCOUNTING FOR DERIVATIVE INSTRUMENTS -- Derivative financial instruments are recognized on the balance sheet as either assets or liabilities and are measured at fair value. Derivatives that are not hedges are adjusted to fair value through income. Depending upon the nature of the hedge, changes in fair value of the derivative are either offset against the change in fair value of assets, liabilities or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in value is immediately recognized in earnings. The company uses derivative financial instruments only to manage well-defined interest rate, foreign currency and commodity price risks. The company does not use derivatives for trading purposes. ASSET RETIREMENT OBLIGATIONS -- In June 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement Obligations," which became effective for the company on January 1, 2003. This statement requires entities to record the fair value of a liability for an asset retirement obligation in the period in which it is incurred. The amount recorded as a liability is capitalized by increasing the carrying amount of the related long-lived asset. Subsequent to initial measurement, the liability is accreted to the ultimate amount anticipated to be paid and is also adjusted for revisions to the timing or amount of estimated cash flows. The capitalized cost is depreciated over the useful life of the related asset. Upon settlement of the liability, an entity either settles the obligation for its recorded amount or incurs a gain or loss upon settlement. The adoption of this statement did not have a material impact on the company's consolidated financial position or results of operations. COSTS ASSOCIATED WITH EXIT OR DISPOSAL ACTIVITIES -- In June 2002, the FASB issued SFAS 146, "Accounting for Costs Associated with Exit or Disposal Activities," which became effective for the company for exit or disposal activities initiated after December 31, 2002. This statement requires that a liability for a cost associated with an exit or disposal activity be recognized and measured initially at fair value when the liability is incurred and is effective for exit or disposal activities initiated after December 31, 2002. GUARANTEES -- In December 2002, the FASB issued FIN 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." FIN 45 requires the disclosure of any guarantees beginning December 31, 2002, and the recognition of a liability for any guarantees entered into or modified after that date. STOCK-BASED COMPENSATION -- The company uses the intrinsic value method to account for employee stock options. The following table shows the pro forma effect on net income and earnings per share if the company had applied the fair value recognition provisions of SFAS 123, "Accounting for Stock-Based Compensation," to stock-based employee compensation.

FINANCIAL INSTRUMENTS WITH CHARACTERISTICS OF BOTH LIABILITIES AND EQUITY -- As of July 1, 2003, the company adopted the provisions of SFAS 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity," including the deferral of certain effective dates as a result of the provisions of FASB Staff Position (FSP) SFAS 150-3, "Effective Date, Disclosures, and Transition for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests Under FASB Statement No. 150, Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity." The company does not currently utilize these types of financial instruments and the adoption of this statement had no impact on the company's consolidated financial position or results of operation. ACCOUNTING FOR THE MEDICARE PRESCRIPTION DRUG IMPROVEMENT AND MODERNIZATION ACT - -- In December 2003, the Medicare Prescription Drug, Improvement and Modernization Act was enacted, which introduced a Medicare prescription drug benefit and a federal subsidy to sponsors of retiree health care plans that provide a benefit at least actuarially equivalent to the Medicare benefit. In accordance with FSP SFAS 106-1, the company has elected to defer recognition of the effects of the new Medicare Act. The accumulated postretirement benefit obligation and net periodic postretirement benefit cost do not reflect the provisions of the Act. Specific authoritative guidance on accounting for the federal subsidy is pending and may require changes to previously reported information. The company estimates the annual cash flows from the federal subsidy to be in the range of $.6 million to $.8 million, beginning in 2006, although the accounting treatment for the federal subsidy has not been resolved by the FASB. RECLASSIFICATIONS -- Certain prior period amounts have been reclassified to conform to the current year presentation. NOTE 3 -- INVENTORIES

Inventories on the LIFO method were 24% and 26% of consolidated inventories at December 31, 2003 and 2002, respectively. The current replacement cost of these inventories exceeded the LIFO cost at December 31, 2003 and 2002, by $57.2 million and $50.1 million, respectively. During 2003, some inventory quantities were reduced, resulting in a liquidation of certain LIFO inventory quantities carried at lower costs in prior years as compared with costs at December 31, 2003. The effect of this liquidation increased income before income taxes by $.6 million. NOTE 4 -- GOODWILL & INTANGIBLE ASSETS Effective January 1, 2002, the company adopted SFAS 142, "Goodwill and Other Intangible Assets." Under SFAS 142, goodwill and other intangibles determined to have indefinite lives are no longer amortized but are tested for impairment upon adoption and at least annually thereafter. SFAS 142 provided for a six-month period from the date of adoption for the company to perform an assessment of potential impairment of goodwill. Any impairment identified upon adoption was recognized as a cumulative effect of a change in accounting principle effective as of January 1, 2002. Goodwill is tested for impairment at the reporting unit level. The company has determined the reporting units were the same as its four operating segments, since the component businesses have similar economic characteristics and can thus be combined under the aggregation rules. The company determined the carrying value of each operating segment by assigning the company's assets and liabilities to them, including existing goodwill, as of January 1, 2002. The company then determined the implied fair value of each operating segment by using a combination of discounted cash flow analysis and terminal value calculations. The fair value of each operating segment was compared to its carrying value to determine if there was an indication of impairment. This evaluation indicated that goodwill recorded in the advanced fluid systems operating segment was impaired as of January 1, 2002. The economic conditions at the time of impairment testing, including declining revenues, reduced the estimated future expected performance of this operating segment, which includes the equipment businesses the company acquired in fluid metering and particulate traps. Accordingly, the company recognized a transitional impairment charge of $7.8 million retroactive to January 1, 2002 in the all other reporting segment, which includes advanced fluid systems. This was a non-cash charge and was recorded as a cumulative effect of a change in accounting principle on the consolidated statement of income in 2002. There was no tax benefit associated with this charge. In connection with adopting SFAS 142, the company also reassessed the useful lives and the classification of its intangible assets. Excluding the non-amortized trademarks, which are indefinite and are not amortized, the intangible assets will continue to be amortized over the lives of the agreements or other periods of value, which range between 5 and 40 years. The following table shows the components of identifiable intangible assets as of December 31, 2003 and 2002:

Amortization expense for intangible assets was $5 million in 2003, $4 million in 2002 and $3 million in 2001. Excluding the impact of further acquisitions, estimated annual intangible amortization expense for the next five years will approximate $6 million in 2004 and 2005, $5 million in 2006 and 2007 and $3 million in 2008. The fair value of intangible assets acquired in acquisitions in 2003 and 2002 are shown below by major asset class. The intangible assets will be amortized over a period ranging from 5 to 20 years.

SFAS 142 also requires goodwill to be tested annually, and between annual tests if events occur or circumstances change that would more likely than not reduce the fair value of a reporting segment below its carrying amount. The company has elected to perform its annual tests for potential goodwill impairment as of October 1 of each year. No impairment of goodwill was identified in the fourth quarter of 2003 or 2002. The carrying amount of goodwill by reporting segment is as follows:

In accordance with SFAS 142, the company discontinued the amortization of goodwill and certain trademarks effective January 1, 2002. The following table reconciles the company's net income and earnings per share for 2003, 2002 and 2001. The pro forma results for 2001 have been adjusted to exclude goodwill amortization expense. 2002 results include an adjustment for the cumulative effect of a change in accounting principle for the transitional impairment loss under SFAS 142 and are presented for comparative purposes.

NOTE 5 -- SHORT-TERM AND LONG-TERM DEBT

In May 2000, the company borrowed $18,375,000 through the issuance of marine terminal refunding revenue bonds, the proceeds of which were used to repay previously issued marine terminal refunding revenue bonds. The bonds have a stated maturity of July 1, 2018, and bear interest at a variable rate which is determined weekly by the remarketing agent. The bonds may be put to the company by the bond holders at each weekly interest reset date; however, the company expects that these bonds would then be remarketed. 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, 2008, and bear interest at 5.875% per annum, payable semi-annually 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 and the remaining unrealized gain on termination of interest rate swaps (see Note 6), these notes have an effective annualized interest rate of 5.0%. The company has debentures outstanding, issued in June 1995, in 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. As of December 31, 2003, the company had committed revolving credit facilities of $350 million that expire on July 17, 2006. These facilities, which were unused at December 31, 2003, permit the company to borrow at or below the U.S. prime rate. These facilities also permit the company to refinance beyond one year $350 million of debt, which by its terms is due within one year. As a result, 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 the amount due under the marine terminal refunding revenue bonds, whose bondholders have the right to put the bonds back to the company. The company had an additional $175 million of committed revolving credit facilities that expired in July 2003, which the company chose not to renew. In January 2004, the company obtained a committed revolving credit facility of Euro 50 million for the purpose of financing acquisitions. This facility expires on January 24, 2005. On January 30, 2004, the company borrowed Euro 43 million to finance a portion of the acquisition of the additives business of Avecia. Amounts due on long-term debt are $.1 million in 2004, $54.7 million in 2006, $.1 million in 2008 and $331.9 million thereafter. In July 2002, the company terminated its interest rate swap agreements expiring December 2008, which converted fixed rate interest on $100 million of its 5.875% debentures to a variable rate. In terminating the swaps, the company received cash of $18.1 million, which is being amortized as a reduction of interest expense through December 1, 2008, the due date of the underlying debt. Gains and losses on terminations of interest rate swap agreements designated as fair value hedges are deferred as an adjustment to the carrying amount of the outstanding obligation and amortized as an adjustment to interest expense related to the obligation over the remaining term of the original contract life of the terminated swap agreement. In the event of early extinguishment of the outstanding obligation, any unamortized gain or loss from the swaps would be recognized in the consolidated statement of income at the time of such extinguishment. The company recorded a $17.3 million unrealized gain, net of accrued interest, on the termination of the interest rate swaps as an increase in the underlying long-term debt. The remaining unrealized gain is $13.4 million and $16.2 million at December 31, 2003 and 2002, respectively. The company 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%. The company also has an interest rate swap agreement that expires in October 2006, that exchanges variable rate interest obligations on a notional principal amount of Japanese yen 500 million for a fixed rate of 2.0% (see Note 6). Interest paid, net of amounts capitalized, amounted to $26.1 million, $23.8 million and $23.3 million during 2003, 2002 and 2001, respectively. The company capitalizes interest on qualifying capital projects. The amount of interest capitalized during 2003, 2002 and 2001 amounted to $.2 million, zero and $.2 million, respectively. NOTE 6 -- FINANCIAL INSTRUMENTS The company has various financial instruments, including cash and short-term investments, investments in nonconsolidated companies, foreign currency forward contracts, commodity 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, 2003 and 2002 approximated $424.9 million and $441.0 million, compared with the carrying value of $389.6 million and $401.9 million, respectively. The company uses derivative financial instruments only to manage well-defined foreign currency, commodity price and interest rate risks. The company does not use derivative financial instruments for trading purposes. Effective January 1, 2001, the company adopted SFAS 133, "Accounting for Derivative Instruments and Hedging Activities," as amended. SFAS 133 requires the company to recognize all derivatives on the balance sheet at fair value and establishes criteria for designation and effectiveness of hedging relationships. Derivatives that are not designated as hedges must be adjusted to fair value through earnings. Depending upon the nature of the hedge, changes in fair value of the derivative are either offset against the change in fair value of assets, liabilities or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in value is immediately recognized in earnings. The adoption of SFAS 133 did not have a material cumulative effect on net income as of January 1, 2001, but did result in a $2.0 million reduction ($1.3 million net of tax) of other comprehensive income. 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. These contracts relate to transactions with maturities of less than one year. The maximum amount of foreign currency forward contracts outstanding at any one time was $130.9 million in 2003, $14.8 million in 2002 and $17.9 million in 2001. At December 31, 2003, the company had short-term forward contracts to buy or sell currencies at various dates during the first quarter of 2004 for $128.0 million, most of which relate to the company's acquisition of the additives business of Avecia. At December 31, 2002, the company had short-term forward contracts to sell currencies at various dates during 2003 for $3.1 million. These forward contracts are not designated as hedges. Any changes in the fair value of these contracts are either recorded in other income, or deferred as an acquisition purchase price adjustment. The fair value of these instruments at December 31, 2003 and 2002, and the related adjustments recorded in other income or deferred as an acquisition purchase price adjustment were an unrealized gain of $1.6 million and an unrealized loss of $.1 million, respectively. The company is exposed to market risk from changes in interest rates. The company's policy is to manage interest expense 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. 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. In July 2002, the company terminated its interest rate swap agreements expiring December 2008, which converted fixed rate interest on $100 million of 5.875% debentures to a variable rate (see Note 5). At December 31, 2003 and 2002, the company had interest rate swap agreements to convert the interest on existing variable rate debt to fixed rates on a notional principal amount of $50 million. The fair values of these swaps at December 31, 2003 and 2002, were an unrealized loss of $3.5 million and $6.0 million, respectively. These swaps are designated as cash flow hedges of underlying variable rate debt obligations and are recorded as a noncurrent liability. The adjustments to record the net changes in fair value during 2003 of $2.2 million ($1.4 million net of tax) and 2002 of $1.2 million ($.8 million net of tax) were recorded in other comprehensive income. Ineffectiveness was determined to be immaterial in 2003 and 2002. The company does not expect any significant portion of these existing losses to be reclassified into earnings within the next 12 months. At December 31, 2003, the company also had an interest rate swap agreement that exchanges variable rate interest obligations for a fixed rate on a notional principal amount of Japanese yen 500 million. This interest rate swap is not designated as a hedge. Accordingly, the decrease in the fair value of this contract of $.1 million was recorded in other expense at December 31, 2003. The company is exposed to market risk from changes in commodity prices. In 2003, the company modified its commodity hedging program policy to include the use of financial instruments to manage the cost of natural gas and electricity purchases. These contracts have been designated as cash flow hedges and, accordingly, any effective unrealized gains or losses on open contracts are recorded in other comprehensive income, net of related tax effects. At December 31, 2003, open contracts totaled $5.4 million. A hedge asset of $.1 million ($.1 million net of tax) was recorded on December 31, 2003, which represents the net unrealized gain based upon current futures prices at that date. Ineffectiveness was determined to be immaterial in 2003. Contract maturities are less than 12 months. As such, the company expects that all of these gains will be reclassified into earnings within the next 12 months. NOTE 7 -- OTHER BALANCE SHEET INFORMATION

Receivables are net of allowance for doubtful accounts of $4.2 million in 2003 and $4.4 million in 2002. Property and Equipment - at cost: 2003 2002 - --------------------------------- ---------- ---------- Land and improvements ........... $ 121,568 $ 113,698 Buildings and improvements ...... 363,951 343,241 Machinery and equipment ......... 1,420,169 1,311,060 Construction in progress ........ 54,911 41,072 ---------- ---------- $1,960,599 $1,809,071 ========== ==========

Depreciation and amortization of property and equipment were $95.5 million in 2003, $91.6 million in 2002 and $84.7 million in 2001.
Accrued Expenses and Other Current Liabilities: 2003 2002 - -------------------------- -------- -------- Employee compensation.... $ 59,800 $ 61,334 Income taxes ............ 18,707 32,496 Taxes other than income.. 15,519 16,606 Sales allowances ........ 11,937 9,766 Restructuring charge .... 12,385 Other ................... 35,110 30,069 -------- -------- $153,458 $150,271 ======== ========
Dividends payable at the end of 2003 and 2002 was $13.4 million and is included in accounts payable.
Noncurrent Liabilities: 2003 2002 - ----------------------- -------- -------- Pensions ..................................... $ 48,602 $ 49,444 Employee benefits ............................ 32,828 25,223 Other ........................................ 18,900 17,988 -------- -------- $100,330 $ 92,655 ======== ========
NOTE 8 -- 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 34,607,704 and 34,738,252 at December 31, 2003 and 2002, respectively. The company has a shareholder rights plan under which one right to buy one-half common share has been distributed for each common share held. The rights may become exercisable under certain circumstances involving actual or potential acquisitions of 20% or more of the common shares by a person or affiliated persons who acquire stock without complying with the requirements of the company's articles of incorporation. The rights would entitle shareholders, other than this 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, 2003, 2002 and 2001 is comprised of the following:
Foreign Unrealized Accumulated Currency Losses Pension Plan Other Translation on Interest Minimum Comprehensive Adjustment Rate Swaps Liability Income (Loss) ----------- ----------- ------------ ------------- December 31, 2000 ............................................ $(79,648) $ (978) $(80,626) Other comprehensive income (loss): Pre-tax cumulative effect of accounting change - SFAS 133 $ (2,021) (2,021) Pre-tax ................................................. (17,022) (1,715) (538) (19,275) Tax benefit (provision) ................................. 528 1,308 274 2,110 -------- -------- -------- -------- Total ................................................... (16,494) (2,428) (264) (19,186) -------- -------- -------- -------- December 31, 2001 ............................................ (96,142) (2,428) (1,242) (99,812) Other comprehensive income (loss): Pre-tax ................................................. 44,179 (1,181) (29,331) 13,667 Tax benefit (provision) ................................. (1,236) 413 8,917 8,094 -------- -------- -------- -------- Total ................................................... 42,943 (768) (20,414) 21,761 -------- -------- -------- -------- December 31, 2002 ............................................ (53,199) (3,196) (21,656) (78,051) Other comprehensive income (loss): Pre-tax ................................................. 51,536 2,216 (12,038) 41,714 Tax benefit (provision) ................................. (2,435) (776) 3,595 384 -------- -------- -------- -------- Total ................................................... 49,101 1,440 (8,443) 42,098 -------- -------- -------- -------- December 31, 2003 ............................................ $ (4,098) $ (1,756) $(30,099) $(35,953) ======== ======== ======== ========
NOTE 9 -- OTHER INCOME (EXPENSE) - NET
2003 2002 2001 -------- -------- -------- Equity earnings of nonconsolidated companies $ 133 $ 986 $ 2,196 Amortization of goodwill and intangible assets ....... (4,938) (4,206) (14,118) Currency exchange/transaction gain (loss) ............. 3,544 (427) (3,041) Other - net .................. (304) (1,733) (113) -------- -------- -------- $ (1,565) $ (5,380) $(15,076) ======== ======== ========
Dividends received from the nonconsolidated companies were $1.0 million in 2003, $2.7 million in 2002 and $3.8 million in 2001. NOTE 10 -- INCOME TAXES The provision for income taxes is based upon income before tax for financial reporting purposes. Deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the tax bases of assets and liabilities and their carrying values for financial reporting purposes. In estimating future tax consequences, the company considers anticipated future events, except changes in tax laws or rates, which are recognized when enacted. Income before income taxes and cumulative effect of change in accounting principle consists of the following:
2003 2002 2001 -------- -------- -------- United States $ 39,244 $ 95,482 $ 79,576 Foreign ..... 89,827 84,906 60,373 -------- -------- -------- Total ....... $129,071 $180,388 $139,949 ======== ======== ========
The provision for income taxes consists of the following:
2003 2002 2001 -------- -------- -------- Current: United States ........................... $ 6,089 $ 14,791 $ 25,891 Foreign ................................. 30,717 36,167 22,334 -------- -------- -------- 36,806 50,958 48,225 -------- -------- -------- Deferred: United States ........................... 3,019 1,208 (4,992) Foreign ................................. (1,528) 1,950 2,600 -------- -------- -------- 1,491 3,158 (2,392) -------- -------- -------- Total ........................................ $ 38,297 $ 54,116 $ 45,833 ======== ======== ========
The United States tax provision includes the U.S. tax on foreign income distributed to the company. The 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:
2003 2002 2001 -------- -------- -------- Tax at statutory rate of 35% $ 45,175 $ 63,136 $ 48,982 U.S. tax on foreign dividends 3,574 (946) 369 U.S. tax benefit on exports . (3,715) (4,114) (4,223) Technology donation ......... (5,163) Untaxed translation (gains)/losses ......... (5,422) 1,625 2,940 Other - net ................. (1,315) (422) (2,235) -------- -------- -------- Provision for income taxes .. $ 38,297 $ 54,116 $ 45,833 ======== ======== ========
The tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities at December 31 are as follows:
2003 2002 --------- --------- Deferred tax assets: Accrued compensation and benefits .. $ 65,528 $ 56,362 Intercompany profit in inventory ... 8,733 10,554 Net operating losses carried forward 2,737 5,722 Other .............................. 2,373 6,184 --------- --------- Total gross deferred tax assets ......... 79,371 78,822 Less valuation allowance ................ (1,910) (3,602) --------- --------- Net deferred tax assets ................. 77,461 75,220 --------- --------- Deferred tax liabilities: Depreciation and other basis differences ............... 101,901 101,475 Undistributed foreign equity income 2,870 3,199 Inventory basis differences ........ 2,729 1,659 Other .............................. 7,445 3,132 --------- --------- Total gross deferred tax liabilities .... 114,945 109,465 --------- --------- Net deferred tax liabilities ............ $ 37,484 $ 34,245 ========= =========
At December 31, 2003, certain foreign subsidiaries had net operating loss carryforwards of $9.1 million for income tax purposes, all of which have 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, 2003, 2002 and 2001, was a decrease of $1.7 million, a decrease of $.7 million and an increase of $.1 million, respectively. U.S. income taxes and 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 these earnings was approximately $500.6 million at December 31, 2003. Determination of the net amount of unrecognized U.S. income tax with respect to these earnings is not practicable. Income taxes paid during 2003, 2002 and 2001 were $50.8 million, $48.8 million and $49.7 million, respectively. NOTE 11 -- 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 smaller defined benefit plans are not funded. The investment objective of the funded U.S. pension plan is to assure payment of benefits at a minimum cost consistent with prudent standards of investment, given the strength of the company and its earnings record, the adequacy of the plan's funding and the age of the company's work force. The plan utilizes a diversified portfolio of investments and seeks to earn returns consistent with a reasonable level of risk. The expected return on plan assets is based upon the company's long term experience and return targets for specific investment classes. During 2003, the company maintained the expected long-term rate of return assumption for the U.S. plan of 9%. As long-term asset allocation is recognized as the primary determinant of performance, the company has established the following allocation targets to achieve the U.S. pension plan objectives: 70% equity securities, 25% debt securities and 5% real estate. As appropriate, allocation targets and ranges have been established for various subcategories. Allocations are reviewed quarterly and adjusted as necessary. Approved U.S. pension plan investments include: equities, fixed-income securities, real estate, venture capital, cash and cash equivalent instruments and such other instruments (including mutual fund investments), as the company may approve. Investments in tax-exempt securities, commodities and options, other than covered calls, and the use of leverage are prohibited. Plan investment managers may use derivatives to hedge currency risk and to keep fully invested. Any other use of derivative instruments must be approved by the company. The market values of U.S. pension plan assets are compared annually to the value of plan benefit obligations. The future value of assets, as calculated based on the expected long-term rate of return, are also compared to expected future plan benefit distributions and contributions to determine the sufficiency of expected plan funding levels. Investment asset allocations are revised as appropriate. Plan assets are invested principally in marketable equity securities and fixed income instruments. The allocation of U.S. pension plan assets by major asset class is shown below:
Percentage of Plan Assets at December 31 2003 2002 - ---------------------------------------- ---- ---- Asset Category Equity securities .................................... 72% 73% Debt securities ...................................... 23% 21% Real estate .......................................... 5% 6% --- --- Total ................................................ 100% 100% === ===
Equity securities included no company common stock in the asset percentages reported above for 2003 and 2002, respectively. The company also provides certain non-pension postretirement benefits, primarily health care and life insurance benefits, for retired employees. Most of the company's full-time employees in the United States become eligible for health care benefits after attaining specified years of service and age 55 at retirement. Full-time employees who retired before January 1, 2003, are also eligible for life insurance benefits. Participants contribute a portion of the cost of these benefits. The company's non-pension postretirement benefit plans are not funded. The change in the projected benefit obligation and plan assets for 2003 and 2002 and the amounts recognized in the consolidated balance sheets at December 31 of the company's defined benefit pension and non-pension postretirement plans are as follows:
Pension Plans Other Benefits ------------------------ ------------------------- 2003 2002 2003 2002 --------- --------- --------- --------- Change in projected benefit obligation: Projected benefit obligation at beginning of year .............. $ 355,898 $ 311,959 $ 106,524 $ 91,746 Service cost .............................................. 14,454 12,648 2,028 1,636 Interest cost ............................................. 22,351 20,467 6,959 6,509 Plan participants' contributions .......................... 286 249 2,515 1,879 Actuarial loss ............................................ 26,758 15,694 6,514 11,181 Currency exchange rate change ............................. 16,965 11,589 721 233 Amendments ................................................ 869 2,126 (5,440) Divestitures .............................................. (107) (5) Benefits paid ............................................. (18,164) (18,829) (6,625) (6,660) --------- --------- --------- --------- Projected benefit obligation at end of year .................... 419,310 355,898 113,196 106,524 --------- --------- --------- --------- Change in plan assets: Fair value of plan assets at beginning of year ................. 249,100 273,714 Actual return on plan assets .............................. 53,690 (19,267) Divestitures .............................................. (107) (5) Employer contributions .................................... 10,604 5,218 4,110 4,781 Plan participants' contribution ........................... 286 249 2,515 1,879 Currency exchange rate change ............................. 11,113 8,020 Benefits paid ............................................. (18,164) (18,829) (6,625) (6,660) --------- --------- --------- --------- Fair value of plan assets at end of year ....................... 306,522 249,100 --------- --------- --------- --------- Plan assets greater (less) than the projected benefit obligation (112,788) (106,798) (113,196) (106,524) Unrecognized net loss ..................................... 89,457 89,510 49,193 44,809 Unrecognized net transition obligation (asset) ............ (82) (957) Unrecognized prior service cost ........................... 24,160 26,100 (39,813) (39,965) --------- --------- --------- --------- Net amount recognized .......................................... $ 747 $ 7,855 $(103,816) $(101,680) ========= ========= ========= ========= Amount recognized in the consolidated balance sheets: Prepaid benefit cost ...................................... $ 5,458 $ 27,778 Accrued benefit liability ................................. (53,070) (55,798) $(103,816) $(101,680) Accumulated other comprehensive income .................... 43,483 31,445 Intangible asset .......................................... 4,876 4,430 --------- --------- --------- --------- Net amount recognized .......................................... $ 747 $ 7,855 $(103,816) $(101,680) ========= ========= ========= ========= Accumulated benefit obligation at end of year .................. $ 329,451 $ 272,006 $ 113,196 $ 106,524 The weighted-average assumptions used to determine benefit obligations at December 31: Measurement date .......................................... 12/31/2003 12/31/2002 12/31/2003 12/31/2002 Discount rate ............................................. 5.88% 6.34% 6.2% 6.7% Expected long-term return on plan assets................... 8.32% 8.34% Rate of compensation increase ............................. 3.87% 3.78% The weighted-average assumptions used to determine net periodic benefit cost for years ended December 31: Discount rate ............................................. 6.34% 6.67% 6.7% 7.3% Expected long-term return on plan assets................... 8.34% 8.45% Rate of compensation increase ............................. 3.78% 3.82% --------- --------- --------- ---------
The projected benefit obligation and fair value of plan assets for pension plans with projected benefit obligations in excess of plan assets were $414.5 million and $301.5 million, respectively, as of December 31, 2003, and $355.2 million and $248.4 million, respectively, as of December 31, 2002. The accumulated benefit obligation and fair value of plan assets for pension plans with accumulated benefit obligations in excess of plan assets were $149.8 million and $98.5 million, respectively, as of December 31, 2003, and $121.9 million and $85.6 million, respectively, as of December 31, 2002. The following table shows the amounts the company contributed to its U.S. pension plans in 2003 and 2002 and the expected contribution for 2004:
Pension Other Total Employer Contributions Benefits Benefits Benefits - ---------------------- -------- -------- -------- 2002 ................................... $ 221 $4,618 $4,839 2003 ................................... $4,315 $3,949 $8,264 2004 (expected) ........................ $5,196 $4,147 $9,343
Expected employer contributions for pension benefits in 2004 consist of $2.7 million to the U.S. qualified plan and $2.5 million to the U.S. non-qualified plan. The expected contribution to the non-qualified plan, which is unfunded, represents an actuarial estimate of future assumed payments based on historic retirement and payment patterns. Actual amounts paid could differ from this estimate. Contributions by participants to the other benefit plans were $2.5 million and $1.9 million for the years ending December 31, 2003 and 2002, respectively. Net periodic pension cost of the company's defined benefit pension plans consists of:
2003 2002 2001 -------- -------- -------- Service cost - benefits earned during period .............. $ 14,453 $ 12,648 $ 11,673 Interest cost on projected benefit obligation ......... 22,351 20,467 20,425 Expected return on plan assets .. (26,416) (26,685) (26,860) Amortization of prior service costs .............. 3,287 3,208 3,127 Amortization of initial net asset (688) (703) (1,218) Recognized net actuarial (gain) loss ...... 814 (543) (1,045) Settlement loss ................. 274 142 -------- -------- -------- Net non-pension postretirement benefit cost $ 14,075 $ 8,392 $ 6,244 ======== ======== ========
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 $9.5 million in 2003, $10.0 million in 2002 and $9.6 million in 2001. Net non-pension postretirement benefit cost consists of:
2003 2002 2001 ------- ------- ------- Service cost - benefits earned during period ........... $ 2,028 $ 1,636 $ 1,569 Interest cost on projected benefit obligation ...... 6,959 6,509 6,387 Amortization of prior service costs ........... (5,592) (5,180) (4,501) Recognized net actuarial loss 2,230 1,723 944 Curtailment gain ............. (1,358) Settlement loss .............. 853 ------- ------- ------- Net periodic pension cost .... $ 5,625 $ 4,688 $ 3,894 ======= ======= =======
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, 2003, was 7.98%, (8.77% at December 31, 2002), with subsequent annual decrements to an ultimate trend rate of 4.9% by 2009. The assumed health care cost trend rates have a significant effect on the amounts reported for the health care plans. 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, 2003:
One-Percentage-Point ------------------------------- Increase Decrease -------- -------- Effect on postretirement benefit obligation $ 17,700 $(14,244) Effect on total service and interest cost components ...................... $ 1,648 $ (1,287)
NOTE 12 -- 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 $15.8 million in 2003, $15.6 million in 2002 and $14.0 million in 2001. Future minimum rental commitments under operating leases having initial or remaining non-cancelable lease terms exceeding one year are $15.0 million in 2004, $10.0 million in 2005, $6.5 million in 2006, $5.1 million in 2007, $3.4 million in 2008 and $11.6 million thereafter. Minimum rental commitments are net of estimated credits for railroad usage of $1.1 million in 2004, $1.0 million in 2005, $.6 million in 2006, $.3 million in 2007, $.2 million in 2008 and $.2 million thereafter. NOTE 13 -- BUSINESS SEGMENTS AND GEOGRAPHIC REPORTING Beginning in 2002, the company reorganized its product lines into four principal operating segments: fluid technologies for transportation, fluid technologies for industry, advanced fluid systems and emulsified products. The segment information for prior years has been restated to conform to the current operating structure. Fluid technologies for transportation (FTT) is comprised of additives for lubricating engine oils, such as gasoline, diesel, marine and stationary gas engines and additive components; 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, this segment sells additive components and viscosity improvers within its lubricant and fuel additives product lines. The company's fluid technologies for transportation product lines are generally produced in shared company manufacturing facilities and sold largely to a common customer base. Fluid technologies for industry (FTI) includes industrial additives, such as additives for hydraulic, grease and metalworking fluids and compressor lubricants; and performance chemicals, such as additives for coatings and inks, defoamers, process chemicals and surfactants for personal care and industrial cleaners. The advanced fluid systems and emulsified products operating segments do not constitute reportable business segments. The results of these two operating segments have been aggregated into the all other segment. Advanced fluid systems is comprised of fluid metering devices, particulate emission trap devices, and FluiPak(TM) sensor systems. Emulsified products is comprised of PuriNOx(TM) low-emissions diesel fuel. 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, as well as projected future returns. Segment contribution income reflects the exclusion for internal management reporting purposes of excess production capacity from product costs. The following table presents a summary of the company's reportable segments for the years ended December 31:
2003 2002 2001 ----------- ----------- ----------- Fluid technologies for transportation: Revenues from external customers............................... $ 1,554,733 $ 1,575,998 $ 1,520,766 Equity earnings................................................ 107 923 4,078 Goodwill and intangibles amortization.......................... 2,552 2,924 5,593 Segment contribution income.................................... 286,880 312,033 283,449 Segment total assets........................................... 1,101,343 1,121,387 1,079,903 Capital expenditures........................................... 73,858 56,965 60,304 Depreciation................................................... 85,986 83,624 78,208 Fluid technologies for industry: Revenues from external customers............................... $ 464,085 $ 382,427 $ 300,191 Equity earnings................................................ 26 62 280 Goodwill and intangibles amortization.......................... 2,386 1,282 7,410 Segment contribution income.................................... 73,276 70,335 46,486 Segment total assets........................................... 448,328 326,728 212,137 Capital expenditures........................................... 14,347 8,043 5,586 Depreciation................................................... 8,687 7,019 5,570 All Other: Revenues from external customers............................... $ 33,305 $ 25,442 $ 23,687 Equity earnings (loss)......................................... (2,162) Goodwill and intangibles amortization.......................... 1,115 Segment contribution income (loss)............................. (7,658) (10,247) (18,175) Segment total assets........................................... 22,045 22,278 29,303 Capital expenditures........................................... 248 277 426 Depreciation................................................... 812 982 936 Reconciliation to consolidated income before income taxes and cumulative effect of change in accounting principle: Segment contribution income.................................... $ 352,498 $ 372,121 $ 311,760 Corporate expenses............................................. (183,878) (172,927) (150,217) Corporate other income (loss).................................. 4,300 (2,205) (3,340) Restructuring charge........................................... (22,534) Interest expense - net......................................... (21,315) (16,601) (18,254) ----------- ----------- ----------- Income before income taxes and cumulative effect of change in accounting principle........................................ $ 129,071 $ 180,388 $ 139,949 =========== =========== =========== Revenues from external customers by product group: Engine oil additives........................................... $ 1,053,671 $ 1,070,394 $ 1,018,999 Driveline oil additives........................................ 413,787 412,086 396,808 Fuel additives and refinery oil additives...................... 64,035 67,871 75,596 Additive components............................................ 23,240 25,647 29,363 ----------- ----------- ----------- Fluid technologies for transportation.......................... 1,554,733 1,575,998 1,520,766 ----------- ----------- ----------- Industrial additives........................................... 208,096 195,159 182,249 Performance chemicals.......................................... 255,989 187,268 117,942 ----------- ----------- ----------- Fluid technologies for industry................................ 464,085 382,427 300,191 ----------- ----------- ----------- All Other...................................................... 33,305 25,442 23,687 ----------- ----------- ----------- Total revenues from external customers.......................... $ 2,052,123 $ 1,983,867 $ 1,844,644 =========== =========== ===========
In order to conform to current-year classifications, prior-year 2002 and 2001 amounts have been restated to reflect reclassifications of products between fluid technologies for transportation and fluid technologies for industry operating segments. Revenues are attributable to countries based on the location of the customer. The United States of America 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 zone are as follows:
2003 2002 2001 ---------- ---------- ---------- United States............................. $ 829,554 $ 810,991 $ 738,384 Other North America....................... 86,506 87,763 85,722 Europe.................................... 601,942 552,278 511,697 Asia-Pacific/Middle East.................. 403,345 405,469 376,652 Latin America............................. 130,776 127,366 132,189 ---------- ---------- ---------- Total revenues from external customers.... $2,052,123 $1,983,867 $1,844,644 ========== ========== ==========
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 10 largest customers, most of which are international oil companies and a number of which are groups of affiliated entities, comprised approximately 52% of consolidated sales in 2003, 55% of consolidated sales in 2002 and 53% of consolidated sales in 2001. In 2003, the company had one customer, including its affiliated entities, predominantly within fluid technologies for transportation segment, with revenues of $217.6 million that represented more than 10% of consolidated revenues. In 2002, the company had two customers with revenues of $229.7 million and $195.2 million, respectively, that individually accounted for more than 10% of consolidated revenues. In 2001, there was no single customer that accounted for more than 10% of revenues. The table below presents a reconciliation of segment total assets to consolidated total assets for the years ended December 31:
2003 2002 2001 ---------- ---------- ---------- Total segment assets........... $1,571,716 $1,470,393 $1,321,343 Corporate assets............... 370,600 389,744 340,976 ---------- ---------- ---------- Total consolidated assets...... $1,942,316 $1,860,137 $1,662,319 ========== ========== ==========
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:
2003 2002 2001 -------- -------- -------- United States............... $670,668 $617,410 $532,827 France...................... 77,941 69,421 66,638 England..................... 80,243 81,267 106,008 All other................... 132,270 122,571 105,366 -------- -------- -------- Total long-lived assets..... $961,122 $890,669 $810,839 ======== ======== ========
Net income of non-U.S. subsidiaries was $61 million in 2003, $41 million in 2002 and $35 million in 2001; dividends received from these subsidiaries were $28 million, $12 million and $55 million, respectively. NOTE 14 -- STOCK COMPENSATION PLANS The 1991 Stock Incentive Plan provides for the 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 to be "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 10 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 once per year for options granted prior to March 28, 2000, under the 1991 Plan; may be granted at the discretion of the administering committee under the 1985 Employee Stock Option Plan and for options granted on or after March 28, 2000, under the 1991 Plan; and have been eliminated under the 1991 Plan for grants of options occurring on or after November 11, 2002. The 1991 Plan generally supersedes the 1985 Plan, although options outstanding under the 1985 Plan remain exercisable until their expiration dates. The option price for stock options under the 1985 Plan is the fair market value of the shares on the date of grant. The option price for stock options 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 2,500 common shares, with terms generally comparable to employee stock options. In 2001, the 1991 Plan provided for the grant to each outside director of a one-time additional option to purchase 2,500 common shares as an incentive relating to Lubrizol's five-year strategic initiatives. Under the 1991 Stock Incentive Plan, the company has granted performance share stock awards to certain executive officers. Common shares equal to the number of performance share stock awards granted were to be issued if the market price of the company's common stock reached $45 per common share for 10 consecutive trading days, or on March 24, 2003, whichever occurred first. Under certain conditions such as retirement, a grantee of performance share stock awards could have been 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 $33.45 per share (for 500 awards) in 2002, $30.40 per share (for 750 awards) in 2001, $28.06 per share (for 3,000 awards) and $25.38 (for 1,500 awards) in 2000. The company recognized compensation expense related to performance share stock awards ratably over the estimated period of vesting. Compensation costs recognized for performance share stock awards were approximately $15 thousand in 2003, $56 thousand in 2002 and $50 thousand in 2001. 3,500 shares were issued on March 24, 2003, and 57,250 shares were deferred to the deferred compensation plan for officers. The company has allocated 1,415 share units under this plan in 2003, which represent quarterly dividends paid on the company's shares. At December 31, 2003, 58,665 share units were outstanding. Compensation expense recognized for the dividend on the deferred shares was less than $50 thousand in 2003. Under a supplemental retirement plan, an account for the participant is credited with 500 share units each year and is credited with additional share units for quarterly dividends paid on the company's shares. When the participant retires, the company will issue shares equal to the number of share units in the participant's account or the cash equivalent. The company has allocated 567, 546 and 528 share units under this plan in 2003, 2002 and 2001, respectively. At December 31, 2003, 2,159 share units were outstanding. Compensation costs recognized for this plan were less than $20 thousand per year in 2003, 2002 and 2001. For share units attributable to grants credited after January 1, 2004, the payment will be in cash. Under the deferred stock compensation plan for outside directors, each nonemployee director receives 500 share units on each October 1 and is credited with additional share units for quarterly dividends paid on the company's shares. When a participant ceases to be a director, the company issues shares equal to the number of share units in the director's account. The company has allocated to nonemployee directors, 6,048, 6,208 and 6,028 share units under this plan in 2003, 2002 and 2001, respectively. Director fee expense recognized for share units was approximately $.2 million in 2003, 2002 and 2001. At December 31, 2003, 46,552 share units for nonemployee directors were outstanding. No new grants will be made under this plan after January 1, 2004. In addition, under a separate deferred compensation plan for outside directors, the company has allocated to nonemployee directors 620, 573 and 547 share units under this plan in 2003, 2002 and 2001, respectively. These share units continue to accrue quarterly dividends paid on the company's shares. When a participant ceases to be a director, the company issues shares equal to the number of share units in the director's account. At December 31, 2003, 18,607 share units for nonemployee directors were outstanding. Director fee expense recognized for share units for this plan was less than $20 thousand per year in 2003, 2002 and 2001. Under the deferred compensation plan for executive officers, participants may elect to defer any amount of their variable pay. Deferred amounts are converted into share units based on the current market price of the company's shares. There is a 25% company match. Additional share units are credited for quarterly dividends paid on the company's shares. At the end of the deferral period, which is at least three years, the company issues shares equal to the number of share units in the participant's account. The company has allocated to executive officers 23,060, 8,010 and 16,628 share units under this plan in 2003, 2002 and 2001, respectively. Compensation costs recognized for share units were approximately $.7 million in 2003, $.3 million in 2002 and $.5 million in 2001. At December 31, 2003, 68,315 share units for executive officers were outstanding. For share units attributable to company match credited after January 1, 2004, distributions will be made in cash. Under the 1991 Stock Incentive Plan, effective January 1, 2003, the company granted 15,000 restricted shares to each of three executive officers and 5,000 restricted shares to one executive officer. The shares will be issued only if the executive remains an employee until January 1, 2008. There are no voting or dividend rights on these shares unless and until they are issued. The restricted shares stock awards had a fair value of $25.83 at the date of grant. The company recognizes compensation expense related to restricted shares ratably over the estimated period of vesting. Compensation costs recognized for restricted share stock awards were approximately $.3 million in 2003. Under the Long-Term Incentive Plan, dollar-based target awards were determined by the organization and compensation committee in December 2002 for the three-year performance period of 2003-2005. A portion of the award was converted into a number of share units based on the price of Lubrizol stock on the date of the award. There are no voting or dividend rights associated with the share units until the end of the performance period and a distribution of shares, if any, is made. The target awards correspond to a pre-determined three-year earnings per share growth rate target. Based on the awards granted for the 2003-2005 performance period the company does not believe it is probable that shares will be issued under this plan and as a result no expense has been recorded. Accounting principles generally accepted in the United States 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 use of intrinsic-value accounting. The company accounts for its stock compensation plans using the intrinsic-value accounting method (measured as the difference between the exercise price and the market value of the stock at the measurement date). 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:
2003 2002 2001 ---- ---- ---- 1991 Plan: Risk-free interest rate......... 3.9% 5.2% 5.1% Dividend yield.................. 3.4% 3.1% 2.9% Volatility...................... 24.0% 24.0% 25.0% Expected life (years)........... 10.0 8.4 9.7 Performance Share Plan: Risk-free interest rate......... n/a 2.4% 3.2% Dividend yield.................. n/a 3.1% 2.9% Volatility...................... n/a 24.0% 25.0% Expected life (years)........... n/a 1.0 2.0 Restricted Share Plan: Risk-free interest rate......... 2.7% n/a n/a Dividend yield.................. 3.3% n/a n/a Volatility...................... 24.0% n/a n/a Expected life (years)........... 5.0 n/a n/a
If the fair value method to measure compensation cost for the company's stock compensation plans had been used, including the performance share stock awards and the restricted share stock awards, the company's net income would have been reduced by $4.4 million in 2003, $6.1 million in 2002 and $6.0 million in 2001 with a corresponding reduction in net income per share of $.08, in 2003, $.12 in 2002 and $.12 in 2001. Information regarding these option plans, excluding the performance share stock awards, the restricted share stock awards and the long- term incentive plan stock awards, follows:
Weighted- Average Shares Exercise Price ------ -------------- Outstanding, January 1, 2003............. 5,272,723 $31.38 Granted.................................. 525,401 30.35 Exercised................................ (151,112) 27.87 Forfeited................................ (253,970) 33.60 -------- Outstanding, December 31, 2003........... 5,393,042 $31.28 ========= ====== Options exercisable, December 31, 2003....................... 4,173,632 $31.18 ========= ====== Weighted-average fair value of options granted during the year......... $ 6.78 ====== Outstanding, January 1, 2002............. 4,827,266 $30.74 Granted.................................. 949,102 34.06 Exercised................................ (396,420) 29.25 Forfeited................................ (107,225) 34.11 -------- Outstanding, December 31, 2002........... 5,272,723 $31.38 ========= ====== Options exercisable, December 31, 2002....................... 3,560,650 $31.10 ========= ====== Weighted-average fair value of options granted during the year......... $ 8.99 ====== Outstanding, January 1, 2001............. 4,624,135 $30.68 Granted.................................. 1,461,945 30.39 Exercised................................ (911,696) 28.05 Forfeited................................ (347,118) 35.64 -------- Outstanding, December 31, 2001........... 4,827,266 $30.74 ========= ====== Options exercisable, December 31, 2001....................... 2,850,184 $31.73 ========= ====== Weighted-average fair value of options granted during the year......... $ 8.69 ======
Information regarding the performance share stock awards follows:
Shares ------ Outstanding, January 1, 2003............... 60,750 Granted.................................... 0 Forfeited.................................. 0 Common Shares Issued / Deferred............ (60,750) ------ Outstanding, December 31, 2003............. 0 ====== Outstanding, January 1, 2002............... 66,250 Granted.................................... 500 Forfeited.................................. (918) Common Shares Issued....................... (5,082) ------ Outstanding, December 31, 2002............. 60,750 ====== Outstanding, January 1, 2001............... 65,500 Granted.................................... 750 ------ Outstanding, December 31, 2001............. 66,250 ======
The weighted-average fair value per share was $32.16 in 2002 and $28.69 in 2001. The following table summarizes information about stock options outstanding, excluding the performance share stock awards, restricted share stock awards and long-term incentive plan awards at December 31, 2003:
Options Outstanding Options Exercisable -------------------------------------------------- ---------------------------- Number Weighted-Average Weighted- Number Weighted- Range of Outstanding Remaining Average Exercisable Average exercise prices at 12/31/03 Contractual Life Exercise Price at 12/31/03 Exercise Price - --------------- ------------ ---------------- -------------- ----------- -------------- $19- $25 295,519 4.8 Years $21.35 295,519 $21.35 25- 31 3,076,880 6.6 29.68 2,267,895 29.44 31- 38 2,014,643 4.8 35.15 1,604,218 35.43 38- 45 6,000 4.3 38.25 6,000 38.25 --------- --------- 5,393,042 5.8 31.28 4,173,632 31.18 ========= =========
NOTE 15 -- ACQUISITIONS AND INVESTMENTS IN NONCONSOLIDATED SUBSIDIARIES In the third quarter of 2003, the company completed two acquisitions in the fluid technologies for industry segment, for cash of $68.6 million. In July 2003, the company purchased the product lines of a silicones business from BASF, which expanded the foam control additives business to approximately $40 million in annual revenues. Assets acquired from BASF included customer lists, certain trademarks, manufacturing technology and other related intellectual property specifically developed for silicone products in the North America region and finished goods inventory. Silicones are used in the manufacture of sealants, caulks and water proofing products. Historical annual revenues for these silicone products approximate $6 million. In September 2003, the company completed an acquisition of selected personal care ingredients business from Amerchol Corporation, a subsidiary of The Dow Chemical Company. Products from this business go into a wide range of end uses, including skin care and hair conditioners. Products include methyl glucoside derivatives, lanolin derivatives and Promulgen(TM) personal care ingredients. Annualized revenues of the acquisition are approximately $30 million. The fair value of assets acquired and liabilities assumed in 2003 acquisitions is as follows:
Assets and Liabilities Acquired in 2003 -------------------- Receivables................................... $ 400 Inventories................................... 7,715 Property...................................... 1,804 Goodwill...................................... 36,219 Intangibles................................... 23,441 Other assets.................................. 223 ------ Total assets.................................. 69,802 ------ Accrued expenses.............................. 1,019 Deferred taxes-non current.................... 186 ------ Total liabilities............................. 1,205 ------ Increase in net assets from acquisitions...... $68,597 =======
In 2002, the company completed several acquisitions in the fluid technologies for industry segment for cash of $86.7 million. In the first quarter, the company acquired Kabo Unlimited, Inc., which specializes in the development, manufacture and sale of antifoam and defoaming agents to the food, fermentation, mining and wastewater industries. Kabo's product lines expand the company's defoamer business. In the second quarter, the company acquired Chemron Corpo- ration, which formulates, produces and supplies specialty surfactants used in personal care products, industrial cleaners and a wide range of other consumer and industrial products. The acquisition extends the company's existing surfactants business into growth markets where the company had not previously competed. In October 2002, the company acquired Dock Resins Corporation, which develops, manufactures and sells proprietary polymers including acrylic, methacrylic, alkyd and polyester resins to customers in the paint and coatings, printing ink, laminating, adhesives and sealants and grease markets. In October 2002, the company also acquired Intermountain Specialties, Inc., known as Brose Chemical Company, which has product lines that complement the company's integrated defoamer business that are now manufactured in the Kabo foam control facility. Annualized 2002 revenues for these acquisitions in the aggregate are approximately $85 million. Effective January 1, 2002, the company began accounting for the investment in its India joint venture, Lubrizol India Private Limited (Lubrizol India), through consolidation because an amendment to the joint venture agreement gave the company control as of that date. The company has ownership of 50% of the voting shares. The amended joint venture agreement grants the company the authority to appoint three of Lubrizol India's six board directors and the unilateral and perpetual ability to appoint its managing director. Further, the amended joint venture agreement delegates to the managing director the authority to make all significant decisions to run the day-to-day business of Lubrizol India. The company had previously accounted for its investment under the equity method of accounting because the company's joint venture partner held certain substantive participating rights, which were eliminated with the amendment to the joint venture agreement. The change to consolidate Lubrizol India had the effect of increasing revenues and total cost and expenses by $50.4 million and $41.1 million, respectively, for the year ended 2002. The change had no impact on net income, but resulted in the recording of 100% of Lubrizol India's assets and liabilities, which is offset by our partner's minority interest. The fair value of assets acquired and liabilities assumed in the 2002 acquisitions and the impact on the balance sheet from the consolidation of Lubrizol India is as follows:
Assets and Liabilities Acquired in 2002 -------------------- Cash........................................... $ 2,762 Receivables.................................... 23,463 Inventories.................................... 25,816 Prepaid assets................................. 767 Property....................................... 43,752 Investment in equity affiliates (Lubrizol...... (22,911) India) Goodwill....................................... 32,672 Intangibles.................................... 17,185 Other assets................................... 482 ------- Total assets................................... 123,988 ------- Short-term debt................................ 1,006 Accounts payable............................... 10,984 Accrued expenses............................... 1,495 Long-term debt................................. 1,248 Minority interest.............................. 22,584 ------- Total liabilities.............................. 37,317 ------- Increase in net assets from acquisitions and consolidation of LZ India................. $ 86,671 =========
In 2001, the company spent $14.7 million on an acquisition to purchase ROSS Chem, Inc., a manufacturer and supplier of antifoam and defoaming agents, with annual revenues of $10.0 million, that expanded the company's product lines in metalworking and paints, coatings and inks. Also in 2001, the company dissolved the joint venture with GE Transportation Systems and replaced the joint venture with separate cross-licensing agreements. On January 30, 2004, the company acquired the additives business of Avecia for approximately $125 million. The additives business of Avecia has annualized revenues of approximately $50 million and develops, manufactures and markets high-value additives used in coatings and inks. NOTE 16 -- RESTRUCTURING CHARGE In 2003, the company recorded a restructuring charge of $22.5 million, or $.29 per share, related to the separation of 252 employees in the United States, Europe and India, comprising 5% of our worldwide workforce. The workforce reductions are estimated to result in annual pretax savings of approximately $20 million beginning in 2004. The company began to realize savings in 2003 of approximately $5 million. In February 2003, the company initiated a restructuring at its Bromborough, England, facility by consolidating various operational activities to achieve greater efficiency through improved business processes. There was a workforce reduction of 45 employees, or approximately 41% of the facility's headcount, by the end of January 2004. As a result of these changes, the company recorded a restructuring charge for Bromborough of $7.0 million in 2003 comprised of $3.5 million in severance costs, $3.3 million in asset impairments and $.2 million in other miscellaneous costs. Cash expenditures in 2003 were $3.5 million and an accrued liability of $.2 million remained at December 31, 2003, relating to employee severance costs. The restructuring charge also included $1.5 million for a voluntary separation program for approximately 55 employees at the company's India joint venture, Lubrizol India Private Limited, which is accounted for using the consolidated method. The workforce reduction occurred primarily in the second quarter of 2003. Cash expenditures for India were $1.4 million in 2003 and an accrued liability of $.1 million remained at December 31, 2003. Lastly, in November 2003, the company announced workforce reductions of approximately 150 employees at its headquarters in Wickliffe, Ohio, its Deer Park and Bayport, Texas, manufacturing facilities and its Hazelwood, England, technical facility. All of the workforce reductions occurred prior to December 31, 2003. This resulted in a restructuring charge in the United States of $12.8 million, comprised of $11.2 million in severance costs and $1.6 million in outplacement and other miscellaneous costs and a restructuring charge in Europe for $1.2 million, primarily for employee severance costs. The charge for Europe included $.8 million for the Hazelwood, England, testing facility and $.4 million for the closing of a sales office in Scandinavia. Cash expenditures in 2003 were $.7 million in the United States and $1.2 million in Europe with an accrued liability as of December 31, 2003, of $12.1 million in the United States. Most of the accrued liability will be paid during the first quarter of 2004. The charge for these cost reduction initiatives are reported as a separate line item in the consolidated income statement, entitled "Restructuring charge" and are included in the "Total cost and expenses" subtotal on the consolidated income statement. The charge related primarily to the fluid technologies for transportation segment. The following table shows the reconciliation of the December 31, 2003 liability balance:
Year Ended December 31, 2003 ----------------- December 31, 2002 balance $ -- Restructuring charge................. 22,534 Less cash paid....................... (6,857) Less asset impairments............... (3,327) Translation adjustments.............. 35 -------- December 31, 2003 balance............ $ 12,385 ========
NOTE 17 -- LITIGATION The company is party to lawsuits, threatened lawsuits and other claims arising out of the normal course of business. Management is of the opinion that any liabilities that may result were adequately covered by insurance, or to the extent not covered by insurance, are adequately accrued for at December 31, 2003, or would not be significant in relation to the company's financial position at December 31, 2003, or its results of operations for the year then ended. 18. SUBSEQUENT EVENTS On June 3, 2004, the company consummated its acquisition of Noveon International, Inc. ("Noveon") for cash of $0.9 billion and the assumption of approximately $1.1 billion of long-term indebtedness. Similar to Lubrizol, Noveon is a global producer and marketer of high-performance, specialty chemicals. The acquisition and related costs were financed with the proceeds of a $2.45 billion 364 day temporary bridge loan which bears interest at LIBOR plus 1.25%. Shortly after the acquisition, the company repaid substantially all of Noveon's long-term indebtedness with proceeds of the temporary bridge loan, which is expected to be replaced with the proceeds of permanent financing to be obtained in the future in the form of a term loan, debt securities and an equity issuance. The repayment of the debt securities is expected to be fully and unconditionally guaranteed on a joint and several basis by all direct and indirect, 100 percent owned, domestic subsidiaries of Noveon and the company. The following supplemental condensed consolidating financial information presents the balance sheets of the company as of December 31, 2003 and 2002 and its statements of income and cash flows for the years ended December 31, 2003, 2002, and 2001 and provides information regarding The Lubrizol Corporation (the "Parent Company" and anticipated issuer of the debt securities) and its guarantor and non-guarantor ("Other") subsidiaries. THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF INCOME YEAR ENDED DECEMBER 31, 2003 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ------------ ------------ ------------ Net sales $1,044,413 $212,042 $1,110,666 $(318,020) $2,049,101 Royalties and other revenues 2,695 291 36 3,022 ---------- -------- ---------- --------- ---------- TOTAL REVENUES 1,047,108 212,333 1,110,702 (318,020) 2,052,123 ---------- -------- ---------- --------- ---------- Cost of sales 768,418 167,769 893,879 (322,274) 1,507,792 Selling and administrative expenses 135,283 23,078 44,543 202,904 Research, testing and development expenses 114,019 6,773 46,150 166,942 Restructuring charge 12,615 158 9,761 22,534 ---------- -------- ---------- --------- ---------- TOTAL COST AND EXPENSES 1,030,335 197,778 994,333 (322,274) 1,900,172 Other income (expense) - net 13,520 14,639 (28,681) (1,043) (1,565) Interest income (expense) - net (31,990) 9,831 844 (21,315) Equity in income of subsidiaries 84,452 8,911 (93,363) ---------- -------- ---------- --------- ---------- Income before income taxes 82,755 47,936 88,532 (90,152) 129,071 Provision for (benefit from) income taxes (5,257) 14,478 27,584 1,492 38,297 ---------- -------- ---------- --------- ---------- NET INCOME $88,012 $33,458 $60,948 $(91,644) $90,774 ========== ======== ========== ========= ==========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF INCOME YEAR ENDED DECEMBER 31, 2002 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ------------ ------------ ------------ Net sales $1,080,215 $171,711 $1,067,498 $(339,135) $1,980,289 Royalties and other revenues 2,392 232 954 3,578 ---------- -------- ---------- --------- ---------- TOTAL REVENUES 1,082,607 171,943 1,068,452 (339,135) 1,983,867 ---------- -------- ---------- --------- ---------- Cost of sales 757,097 128,538 866,134 (335,514) 1,416,255 Selling and administrative expenses 132,726 22,293 41,921 196,940 Research, testing and development expenses 119,343 5,353 43,607 168,303 ---------- -------- ---------- --------- ---------- TOTAL COST AND EXPENSES 1,009,166 156,184 951,662 (335,514) 1,781,498 Other income (expense) - net 26,349 4,118 (35,568) (279) (5,380) Interest income (expense) - net (28,978) 10,687 1,690 (16,601) Equity in income of subsidiaries 57,059 3,217 (60,276) ---------- -------- ---------- --------- ---------- Income before income taxes and cumulative effect of change in accounting principle 127,871 33,781 82,912 (64,176) 180,388 Provision for (benefit from) income taxes 6,931 12,281 36,072 (1,168) 54,116 ---------- -------- ---------- --------- ---------- Income before cumulative effect of change in accounting principle 120,940 21,500 46,840 (63,008) 126,272 Cumulative effect of change in accounting principle (2,061) (5,724) (7,785) ---------- -------- ---------- --------- ---------- NET INCOME $120,940 $19,439 $41,116 $(63,008) $118,487 ========== ======== ========== ========= ==========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF INCOME YEAR ENDED DECEMBER 31, 2001 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ------------ ------------ ------------ Net sales $1,043,077 $112,376 $994,466 $(310,675) $1,839,244 Royalties and other revenues 4,862 10 528 5,400 ---------- -------- -------- --------- ---------- TOTAL REVENUES 1,047,939 112,386 994,994 (310,675) 1,844,644 ---------- -------- -------- --------- ---------- Cost of sales 740,911 82,478 824,200 (312,128) 1,335,461 Selling and administrative expenses 116,546 18,377 42,508 177,431 Research, testing and development expenses 114,848 4,608 39,017 158,473 ---------- -------- -------- --------- ---------- TOTAL COST AND EXPENSES 972,305 105,463 905,725 (312,128) 1,671,365 Other income (expense) - net 1,629 21,257 (37,855) (107) (15,076) Interest income (expense) - net (35,273) 14,666 2,353 (18,254) Equity in income of subsidiaries 63,568 8,317 (71,885) ---------- -------- -------- --------- ---------- Income before income taxes 105,558 51,163 53,767 (70,539) 139,949 Provision for income taxes 12,133 10,781 22,157 762 45,833 ---------- -------- -------- --------- ---------- NET INCOME $93,425 $40,382 $31,610 $ (71,301) $94,116 ========== ======== ======== ========= ==========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING BALANCE SHEET DECEMBER 31, 2003 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ---=-------- ------------ ------------ ASSETS Cash and short-term investments $ 56,254 $ (1,008) $203,453 $258,699 Receivables 100,857 39,225 184,485 324,567 Inventories 76,824 44,316 216,583 $ (25,804) 311,919 Other current assets 26,357 663 6,612 9,031 42,663 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT ASSETS 260,292 83,196 611,133 (16,773) 937,848 ---------- ---------- -------- ----------- ---------- Property and equipment - at cost 1,156,725 71,539 732,335 1,960,599 Less accumulated depreciation 757,117 14,241 499,247 1,270,605 ---------- ---------- -------- ----------- ---------- PROPERTY AND EQUIPMENT - NET 399,608 57,298 233,088 689,994 ---------- ---------- -------- ----------- ---------- Goodwill 24,992 124,776 58,958 208,726 Intangible assets - net 12,169 32,784 17,449 62,402 Investments in subsidiaries and intercompany balances 934,147 811,027 (96,914) (1,648,260) Investments in non-consolidated companies 5,609 687 6,296 Other assets 20,528 3,427 13,095 37,050 ---------- ---------- -------- ----------- ---------- TOTAL $1,657,345 $1,113,195 $836,809 $(1,665,033) $1,942,316 ========== ========== ======== =========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt $ 2,899 $ 2,899 Accounts payable $ 63,967 $ 17,418 61,735 143,120 Accrued expenses and other current liabilities 79,922 20,728 52,808 153,458 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT LIABILITIES 143,889 38,146 117,442 299,477 ---------- ---------- -------- ----------- ---------- Long-term debt 381,801 4,925 386,726 Postretirement health care obligations 92,865 5,522 98,387 Noncurrent liabilities 44,662 44 55,624 100,330 Deferred income taxes 24,050 6,894 21,866 52,810 ---------- ---------- -------- ----------- ---------- TOTAL LIABILITIES 687,267 45,084 205,379 937,730 ---------- ---------- -------- ----------- ---------- Minority interest in consolidated companies $ 51,281 51,281 TOTAL SHAREHOLDERS' EQUITY 970,078 1,068,111 631,430 (1,716,314) 953,305 ---------- ---------- -------- ----------- ---------- TOTAL $1,657,345 $1,113,195 $836,809 $(1,665,033) $1,942,316 ========== ========== ======== =========== ==========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING BALANCE SHEET DECEMBER 31, 2002 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ------------ ------------ ------------ ASSETS Cash and short-term investments $ 116,478 $ (1,882) $151,832 $ 266,428 Receivables 99,289 30,384 165,835 295,508 Inventories 81,660 35,797 215,614 $ (30,103) 302,968 Other current assets 25,704 1,135 7,513 10,523 44,875 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT ASSETS 323,131 65,434 540,794 (19,580) 909,779 ---------- ---------- -------- ----------- ---------- Property and equipment - at cost 1,118,959 62,185 627,927 1,809,071 Less accumulated depreciation 709,496 10,320 410,100 1,129,916 ---------- ---------- -------- ----------- ---------- PROPERTY AND EQUIPMENT - NET 409,463 51,865 217,827 679,155 ---------- ---------- -------- ----------- ---------- Goodwill 24,992 88,743 54,617 168,352 Intangible assets - net 8,724 16,102 18,336 43,162 Investments in subsidiaries and intercompany balances 785,069 817,832 (49,971) (1,552,930) Investments in non-consolidated companies 5,924 766 6,690 Other assets 22,858 1,672 28,469 52,999 ---------- ---------- -------- ----------- ---------- TOTAL $1,580,161 $1,042,414 $810,072 $(1,572,510) $1,860,137 ========== ========== ======== ============ ========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt $ 163 $ 16,883 $ 17,046 Accounts payable $ 70,723 11,606 58,095 140,424 Accrued expenses and other current liabilities 76,657 16,839 56,775 150,271 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT LIABILITIES 147,380 28,608 131,753 307,741 ---------- ---------- -------- ----------- ---------- Long-term debt 384,537 19 289 384,845 Postretirement health care obligations 91,897 - 4,598 96,495 Noncurrent liabilities 39,366 55 53,234 92,655 Deferred income taxes 28,149 4,108 23,504 55,761 ---------- ---------- -------- ----------- ---------- TOTAL LIABILITIES 691,329 32,790 213,378 937,497 ---------- ---------- -------- ----------- ---------- Minority interest in consolidated companies $ 53,388 53,388 SHAREHOLDERS' EQUITY 888,832 1,009,624 596,694 (1,625,898) 869,252 ---------- ---------- -------- ----------- ---------- TOTAL $1,580,161 $1,042,414 $810,072 $(1,572,510) $1,860,137 ========== ========== ======== ============ ==========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 2003 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ------- ---------- ------------ ------------ ------------ CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income $ 88,012 $ 33,458 $60,948 $ (91,644) $ 90,774 Adjustments to reconcile net income to cash provided (used) by operating activities 10,533 92,205 (90,402) 91,644 103,980 --------- -------- -------- --------- -------- Total operating activities 98,545 125,663 (29,454) 194,754 INVESTING ACTIVITIES: Capital expenditures (45,760) (12,252) (30,441) (88,453) Acquisitions and investments in nonconsolidated companies (4,218) (62,825) (1,554) (68,597) Other - net 885 (343) 604 1,146 --------- -------- -------- --------- -------- Total investing activities (49,093) (75,420) (31,391) (155,904) FINANCING ACTIVITIES: Short-term repayment (164) (5,590) (5,754) Long-term borrowing 4,515 4,515 Long-term repayment (36) (9,194) (9,230) Dividends paid (53,571) (53,571) Changes in intercompany activities (60,674) (49,342) 110,016 Common shares issued upon exercise of stock options 4,569 4,569 --------- -------- -------- --------- -------- Total financing activities (109,676) (49,542) 99,747 (59,471) Effect of exchange rate changes on cash 173 12,719 12,892 --------- -------- -------- --------- -------- Net increase (decrease) in cash and short-term investments (60,224) 874 51,621 (7,729) Cash and short-term investments at the beginning of year 116,478 (1,882) 151,832 266,428 --------- -------- -------- --------- -------- Cash and short-term investments at the end of year $ 56,254 $ (1,008) $203,453 $ $258,699 ========= ======== ======== ========= ========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 2002 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED -------- ---------- ------------ ------------ ------------ CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income $120,940 $ 19,439 $ 41,116 $(63,008) $ 118,487 Adjustments to reconcile net income to cash provided (used) by operating activities 41,991 95,502 (74,120) 63,008 126,381 -------- -------- -------- -------- --------- Total operating activities 162,931 114,941 (33,004) 244,868 INVESTING ACTIVITIES: Capital expenditures (35,489) (6,339) (23,457) (65,285) Acquisitions and investments in nonconsolidated companies (323) (86,348) (86,671) Other - net 573 (91) 2,938 3,420 -------- -------- -------- -------- --------- Total investing activities (35,239) (92,778) (20,519) (148,536) FINANCING ACTIVITIES: Short-term repayment (843) (556) (1,399) Long-term repayment (1,247) (1,061) (2,308) Dividends paid (53,430) (53,430) Changes in intercompany activities (71,631) (24,541) 96,172 Proceeds from termination of interest rate swaps 18,134 18,134 Common shares issued upon exercise of stock options 8,569 8,569 -------- -------- -------- -------- --------- Total financing activities (98,358) (26,631) 94,555 (30,434) Effect of exchange rate changes on cash 3 19 11,413 11,435 -------- -------- -------- -------- --------- Net increase (decrease) in cash and short-term investments 29,337 (4,449) 52,445 77,333 Cash and short-term investments at the beginning of year 87,141 2,567 99,387 189,095 -------- -------- -------- -------- --------- Cash and short-term investments at the end of year $116,478 $ (1,882) $151,832 $ $ 266,428 ======== ======== ======== ======== =========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 2001 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ------- ---------- ------------ ------------ ------------ CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income $ 93,425 $ 40,382 $ 31,610 $ (71,301) $ 94,116 Adjustments to reconcile net income to cash provided by operating activities 20,448 38,484 (28,511) 71,301 101,722 -------- -------- -------- --------- -------- Total operating activities 113,873 78,866 3,099 195,838 INVESTING ACTIVITIES: Capital expenditures (42,888) (3,970) (19,458) (66,316) Acquisitions and investments in nonconsolidated companies (14,989) (14,989) Other - net 1,032 (998) (374) (340) -------- -------- ------- --------- -------- Total investing activities (56,845) (4,968) (19,832) (81,645) FINANCING ACTIVITIES: Short-term repayment (1,300) (3,279) (4,579) Long-term repayment (3,120) (3,120) Dividends paid (53,218) (53,218) Changes in intercompany activities 56,649 (69,963) 13,314 Common shares purchased (30,039) (30,039) Common shares issued upon exercise of stock options 27,768 (5,474) 22,294 -------- -------- -------- --------- -------- Total financing activities (140) (75,437) 6,915 (68,662) Effect of exchange rate changes on cash (3) 1 (2,371) (2,373) -------- -------- -------- --------- -------- Net increase (decrease) in cash and short-term investments 56,885 (1,538) (12,189) 43,158 Cash and short-term investments at the beginning of year 30,256 4,105 111,576 145,937 -------- -------- -------- --------- -------- Cash and short-term investments at the end of year $ 87,141 $ 2,567 $ 99,387 $ $189,095 ======== ======== ======== ========= ========
EX-99.2 5 l07565aexv99w2.txt EXHIBIT 99.2 CONSOLIDATED FIN STMTS OF LUBRIZOL FOR THE THREE MONTH PERIOD ENDED MARCH 31, 2004 . . . Exhibit 99.2 THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF INCOME
- ------------------------------------------------------------------------------------------------- Three Month Period Ended March 31 -------------------------------- (In Thousands Except Per Share Data) 2004 2003 - ------------------------------------------------------------------------------------------------- Net sales $577,920 $507,000 Royalties and other revenues 784 1,213 --------- -------- Total revenues 578,704 508,213 Cost of sales 426,316 368,263 Selling and administrative expenses 51,880 50,815 Research, testing and development expenses 40,724 41,633 Restructuring charge - 3,506 --------- -------- Total cost and expenses 518,920 464,217 Other income (expense) - net 2,399 (309) Interest income 851 1,041 Interest expense (6,178) (5,888) --------- -------- Income before income taxes 56,856 38,840 Provision for income taxes 19,331 12,817 --------- -------- Net income $ 37,525 $ 26,023 ========= ======== Net income per share $ 0.72 $ 0.50 ========= ======== Net income per share, diluted $ 0.72 $ 0.50 ========= ======== Dividends per share $ 0.26 $ 0.26 ========= ======== Weighted average common shares outstanding 51,799 51,643 ========= ========
Amounts shown are unaudited. See accompanying notes to the financial statements. 1 THE LUBRIZOL CORPORATION CONSOLIDATED BALANCE SHEETS
- ------------------------------------------------------------------------------------------------------------------ March 31 December 31 (In Thousands of Dollars) 2004 2003 - ------------------------------------------------------------------------------------------------------------------ ASSETS Cash and short-term investments $ 178,015 $ 258,699 Receivables 386,039 324,567 Inventories: Finished products 158,022 150,711 Products in process 71,863 62,306 Raw materials 74,039 78,856 Supplies and engine test parts 20,436 20,046 ---------- ---------- 324,360 311,919 ---------- ---------- Other current assets 44,343 42,663 ---------- ---------- Total current assets 932,757 937,848 Property and equipment - net 689,332 689,994 Goodwill 281,054 208,726 Intangible assets - net 102,948 62,402 Investments in non-consolidated companies 6,067 6,296 Other assets 33,025 37,050 ---------- ---------- TOTAL $2,045,183 $1,942,316 ========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt $ 59,934 $ 2,899 Accounts payable 156,040 143,120 Accrued expenses and other current liabilities 147,552 153,458 ---------- ---------- Total current liabilities 363,526 299,477 ---------- ---------- Long-term debt 386,105 386,726 Postretirement health care obligations 98,814 98,387 Noncurrent liabilities 101,695 100,330 Deferred income taxes 52,202 52,810 ---------- ---------- Total liabilities 1,002,342 937,730 ---------- ---------- Minority interest in consolidated companies 52,513 51,281 Contingencies and commitments Shareholders' equity: Preferred stock without par value - authorized and unissued: Serial Preferred Stock - 2,000,000 shares Serial Preference Shares - 25,000,000 shares Common shares without par value: Authorized 120,000,000 shares Outstanding - 51,618,086 shares as of March 31, 2004 after deducting 34,577,808 treasury shares, 51,588,190 shares as of December 31, 2003 after deducting 34,607,704 treasury shares 125,198 123,770 Retained earnings 903,009 865,488 Accumulated other comprehensive loss (37,879) (35,953) ---------- ---------- Total shareholders' equity 990,328 953,305 ---------- ---------- TOTAL $2,045,183 $1,942,316 ========== ==========
Amounts shown are unaudited. See accompanying notes to the financial statements. 2 THE LUBRIZOL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
- ------------------------------------------------------------------------------------------------------------------ Three Month Period Ended March 31 ---------------------------------- (In Thousands of Dollars) 2004 2003 - ------------------------------------------------------------------------------------------------------------------ Cash provided from (used for): Operating activities: Net income $ 37,525 $ 26,023 Adjustments to reconcile net income to cash provided by operating activities: Depreciation and amortization 26,465 24,452 Deferred income taxes (3,702) 1,535 Restructuring charge 3,506 Change in current assets and liabilities: Receivables (58,231) (34,228) Inventories (4,186) (10,566) Accounts payable, accrued expenses and other 21,310 (13,558) current liabilities Other current assets 178 (1,002) Other items - net 525 (1,947) --------- --------- Total operating activities 19,884 (5,785) Investing activities: Capital expenditures (19,948) (15,331) Acquisitions (133,041) Other - net 147 (235) --------- --------- Total investing activities (152,842) (15,566) Financing activities: Short-term borrowings(repayments)- net 58,663 (4,225) Long-term repayments (21) (103) Long-term borrowings 11 Dividends paid (13,415) (13,379) Stock options exercised 1,428 1,190 --------- --------- Total financing activities 46,655 (16,506) Effect of exchange rate changes on cash 5,619 (1,425) --------- --------- Net decrease in cash and short-term investments (80,684) (39,282) Cash and short-term investments at beginning of period 258,699 266,428 --------- --------- Cash and short-term investments at end of period $ 178,015 $ 227,146 ========= =========
Amounts shown are unaudited. See accompanying notes to the financial statements. 3 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data) March 31, 2004 1. The accompanying unaudited consolidated financial statements contain all adjustments (consisting only of normal recurring accruals) necessary to present fairly the financial position as of March 31, 2004 and December 31, 2003, and the results of operations and cash flows for the applicable periods ended March 31, 2004 and 2003. 2. Net income per share is computed by dividing net income by average common shares outstanding during the period, including contingently issuable shares. Net income per diluted share includes the dilutive effect resulting from outstanding stock options and stock awards. Per share amounts are computed as follows:
Three Month Period Ended March 31 ---------------------------- 2004 2003 --------- --------- Numerator: Net income $ 37,525 $ 26,023 ======== ======== Denominator: Weighted average common shares outstanding 51,799 51,643 Dilutive effect of stock options and awards 188 89 -------- -------- Denominator for net income per share, diluted 51,987 51,732 ======== ======== Net income per share $ 0.72 $ 0.50 ======== ======== Net income per share, diluted $ 0.72 $ 0.50 ======== ========
Weighted average shares issuable upon the exercise of stock options which were excluded from the diluted earnings per share calculations because they were antidilutive were 1.9 million in 2004 and 4.0 million in 2003. 3. The company has elected the intrinsic value method to account for employee stock options. The following table shows the pro forma effect on net income per share if the company had applied the fair value recognition provisions of SFAS 123, "Accounting for Stock-Based Compensation," to stock-based employee compensation.
Three Month Period Ended March 31 ----------------------------- 2004 2003 --------- --------- Reported net income $ 37,525 $ 26,023 Plus: Stock-based employee compensation (net of tax) included in net income 181 181 Less: Stock-based employee compensation (net of tax) using the fair value method (943) (1,400) --------- -------- Pro forma net income $ 36,763 $ 24,804 ========= ======== Reported net income per share $ 0.72 $ 0.50 ========= ======== Pro forma net income per share $ 0.70 $ 0.47 ========= ======== Reported net income per share, diluted $ 0.72 $ 0.50 ========= ======== Pro forma net income per share, diluted $ 0.70 $ 0.47 ========= ========
4. Total comprehensive income for the three-month periods ended March 31, 2004 and 2003 is comprised as follows: 4 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data)
Three Month Period Ended March 31 ---------------------------- 2004 2003 -------- -------- Net income $ 37,525 $ 26,023 Foreign currency translation adjustment (989) 872 Change in pension plan minimum liability (320) - Unrealized gains(losses) - natural gas hedges (247) - Unrealized gains(losses) - interest rate swaps (370) 278 --------- -------- Total comprehensive income $ 35,599 $ 27,173 ========= ========
5. The company aggregates its product lines into three principal operating segments: fluid technologies for transportation, fluid technologies for industry and fluid technologies for advanced systems. The fluid technologies for advanced systems segment does not constitute a reportable business segment and has been classified as the all other reporting segment. Fluid technologies for transportation (FTT) is comprised of additives for lubricating engine oils, such as for gasoline, diesel, marine and stationary gas engines and additive components; 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, this segment sells additive components and viscosity improvers within its lubricant and fuel additives product lines. The company's fluid technologies for transportation product lines are generally produced in shared manufacturing facilities and sold largely to a common customer base. Fluid technologies for industry (FTI) includes industrial additives, such as additives for hydraulic, grease and metalworking fluids and compressor lubricants; and performance chemicals, such as additives for coatings and inks, defoamers, process chemicals and surfactants for personal care and industrial cleaners. Fluid technologies for advanced systems is comprised of fluid metering devices, particulate emission trap devices, FluiPak(TM) sensor systems, and PuriNOx(TM) low-emissions diesel fuel. The company primarily evaluates performance and allocates resources based on segment contribution income, defined as revenues less expenses directly identifiable to the product lines aggregated within each segment, as well as projected future returns. Segment contribution income reflects the exclusion for internal management reporting purposes of excess production capacity from product costs. In addition, in calculating segment operating profit before tax, the company allocates corporate research, testing, selling and administrative expenses, primarily based upon revenues, and assigns excess capacity costs to the segments to which it applies. The following table presents a summary of the company's reportable segments for the three months ended March 31, 2004 and 2003 based on the current reporting structure. Prior-year amounts have been restated to reflect reclassifications of products between reporting segments and changes in allocation methodology of corporate expenses. 5 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data)
Three Month Period Ended March 31 ----------------------------- 2004 2003 --------- --------- Revenues from external customers: Fluid technologies for transportation (FTT) $421,051 $390,505 Fluid technologies for industry (FTI) 148,499 110,513 All other 9,154 7,195 --------- --------- Total revenues $578,704 $508,213 ========= ========= Segment contribution income(loss): Fluid technologies for transportation (FTT) $ 75,706 $ 75,404 Fluid technologies for industry (FTI) 25,713 20,566 All other (1,002) (2,064) --------- --------- Total segment contribution income 100,417 93,906 Corporate expenses (42,036) (47,781) Corporate other income 3,802 1,068 Restructuring charges - (3,506) Interest expense - net (5,327) (4,847) --------- --------- Income before income taxes $ 56,856 $ 38,840 ========= ========= Segment operating profit(loss): Fluid technologies for transportation (FTT) $ 44,670 $ 38,464 Fluid technologies for industry (FTI) 20,046 12,087 All other (2,533) (3,358) --------- --------- Total segment operating profit 62,183 47,193 Restructuring charges - (3,506) Interest expense - net (5,327) (4,847) --------- --------- Income before income taxes $ 56,856 $ 38,840 ========= =========
6. The major components of our identifiable intangible assets are technology, land use rights, non-compete arrangements, distributor networks, trademarks, customer lists and patents. Excluding the non-amortized trademarks, which are indefinite and will not be amortized, the intangible assets are amortized over the lives of the agreements or other periods of value, which range between five and forty years. The following table shows the components of our identifiable intangible assets as of March 31, 2004 and December 31, 2003. 6 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data)
As of March 31, 2004 As of December 31, 2003 ------------------------- -------------------------- Gross Gross Carrying Accumulated Carrying Accumulated Amount Amortization Amount Amortization ---------- ------------ -------- ------------ Amortized intangible assets: Technology $ 38,720 $ 19,009 $ 38,720 $ 18,266 Land use rights 7,069 650 7,069 605 Non-compete agreements 6,892 2,332 6,892 1,989 Distributor networks 3,350 315 3,350 282 Trademarks 2,211 1,203 2,211 1,116 Customer lists 23,564 232 - - Patents 12,634 506 1,038 279 Other 10,742 543 10,554 427 -------- --------- -------- --------- Total amortized intangible assets 105,182 24,790 69,834 22,964 Non-amortized trademarks 22,556 - 15,532 - -------- --------- -------- --------- Total $127,738 $ 24,790 $ 85,366 $ 22,964 ======== ========= ======== =========
Amortization expense for intangible assets during the first quarter of 2004 and 2003 was $1.8 million and $1.2 million, respectively. Excluding the impact of further acquisitions, annual intangible amortization expense for the next five years will approximate $8.6 million in 2004 and 2005, $8.3 million in 2006, $7.7 million in 2007 and $6.2 million in 2008. The fair value of intangible assets acquired at the date of acquisition in the first quarter of 2004 is shown below by major asset class. The intangible assets will be amortized over periods ranging from 4 to 15 years. The company is currently in the process of finalizing the allocation of the purchase price for the hyperdispersants business purchased from Avecia, so it is possible the amount of amortization or the purchase price allocation may change. Fair Value of Assets 2004 ---------- Amortized intangible assets: Customer lists $ 23,976 Patents 11,627 Other 102 -------- Total amortized intangible assets 35,705 Non-amortized trademarks 7,024 -------- Total $ 42,729 ======== 7 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data) The carrying amount of goodwill by reporting segment is as follows:
FTT FTI Total -------- --------- -------- Balance, December 31, 2002 $ 44,887 $123,465 $168,352 Goodwill acquired 36,219 36,219 Translation & other adjustments 2,091 2,064 4,155 -------- --------- -------- Balance, December 31, 2003 46,978 161,748 208,726 Goodwill acquired 74,355 74,355 Translation & other adjustments (208) (1,819) (2,027) -------- --------- -------- Balance, March 31, 2004 $ 46,770 $234,284 $281,054 ======== ========= ========
7. The components of net periodic pension cost and post-employment benefits costs consisted of the following:
Three Month Period Three Month Period Ended March 31 Ended March 31 ----------------------- ------------------------ Pension Benefits Other Benefits ----------------------- ------------------------ 2004 2003 2004 2003 ----------- ---------- ----------- ---------- Service cost - benefits earned during period $ 3,512 $ 3,615 $ 661 $ 507 Interest cost on projected benefit obligation 4,763 5,590 1,724 1,740 Expected return on plan assets (5,294) (6,605) - - Amortization of prior service costs 440 822 (1,521) (1,398) Amortization of initial net asset obligation (172) (172) - - Settlement (gain) loss - 69 - - Recognized net actuarial (gain) loss 246 203 628 557 ------- ------- ------- -------- Net periodic benefit cost $ 3,495 $ 3,522 $ 1,492 $ 1,406 ======= ======= ======= ========
Expected employer contributions for pension benefits in 2004 consist of $2.7 million to the United States plan, $2.5 million to the United States non-qualified plan and a range of $5.0 million to $6.0 million for the United Kingdom plan. The expected contribution to the non-qualified U.S. plan, which is unfunded, represents an actuarial estimate of future assumed payments based on historic retirement and payment patterns. Actual amounts paid could differ from this estimate. In the first quarter of 2004, no contributions were made to the U.S. plans and payments of $.8 million were made to the U.K. plan. 8 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data) 8. In January, 2004, the company completed the acquisition of the coatings hyperdispersants business of Avecia for cash totaling $133.0 million. This additives business is headquartered in Blackley, United Kingdom, and develops, manufactures and markets high-value additives that are based on polymeric dispersion technology and used in coatings and inks. These products enrich and strengthen color while reducing production costs and solvent emissions, and are marketed under the brand names Solsperse(TM), Solplus(TM) and Solthix(TM). Historical annualized revenues of this business are approximately $50 million. The company is currently in the process of finalizing the allocation of the purchase price for the hyperdispersants business purchased from Avecia, so it is possible the amount of amortization or the purchase price allocation may change. The fair value of assets acquired and liabilities assumed in 2004 acquisitions is as follows: Fair Value of Assets Acquired in 2004 -------------- Receivables $ 7,981 Inventories 9,864 Prepaid assets 106 Property 5,402 Goodwill 74,817 Intangibles 42,729 --------------- Total assets acquired $ 140,899 --------------- Accounts payable 2,762 Accrued expenses 107 Noncurrent liabilities 4,989 --------------- Total liabilities assumed $ 7,858 --------------- Increase in net assets from acquisitions $ 133,041 =============== 9. On April 16, 2004, the company signed a definitive agreement to purchase Noveon International, Inc. in a transaction valued at $1.84 billion. The acquisition, which has been approved by the board of directors of both companies, is subject to regulatory approval and is expected to close within three months of signing the definitive agreement. Noveon is a privately held Cleveland-based specialty chemical company with 2003 revenues of $1.1 billion. The transaction value includes a cash payment of approximately $920 million for equity and the assumption of net debt, which was approximately $920 million as of December 31, 2003. In April 2004, the company received a commitment letter from a bank for a $2.45 billion 364-day revolving credit facility to bridge finance the pending Noveon acquisition. The company plans to implement a permanent capital structure in the near-term that will replace the bridge financing and it is expected to include approximately $400 million in new common equity, with the remainder being financed through public bonds and bank loans. The company is working to amend its existing credit facility agreements to revise the financial covenant restrictions until the permanent capital structure is in place. After the announcement of the Noveon acquisition, the company's long-term and commercial paper credit ratings were reduced by one rating agency and put on review by another rating agency. The credit rating change eliminated the company's access to the commercial paper market. As a result, the company terminated its existing floating-to-fixed rate interest rate swaps with a notional value of $50 million effective April 29, 2004 and will repay its outstanding commercial paper upon maturity. The termination of the swap agreements resulted in a $3 million dollar pre-tax charge that will be recognized in the second quarter of 2004. In addition, the company decided to call the outstanding $18.4 million Marine Terminal Revenue Bonds, at par, effective June 1, 2004. To fund these actions, the company will borrow under its existing revolving credit facility. 9 THE LUBRIZOL CORPORATION Notes to Consolidated Financial Statements Amounts in thousands (except per share data) 10. On June 3, 2004, the company consummated its acquisition of Noveon International, Inc. ("Noveon") for cash of $0.9 billion and the assumption of approximately $1.1 billion of long-term indebtedness. Similar to Lubrizol, Noveon is a global producer and marketer of high-performance, specialty chemicals. The acquisition and related costs were financed with the proceeds of a $2.45 billion 364 day temporary bridge loan which bears interest at LIBOR plus 1.25%. Shortly after the acquisition, the company repaid substantially all of Noveon's long-term indebtedness with proceeds of the temporary bridge loan, which is expected to be replaced with the proceeds of permanent financing to be obtained in the future in the form of a term loan, debt securities and an equity issuance. The repayment of the debt securities is expected to be fully and unconditionally guaranteed on a joint and several basis by all direct and indirect, 100 percent owned, domestic subsidiaries of Noveon and the company. The following supplemental condensed consolidating financial information presents the balance sheets of the company as of March 31, 2004 and December 31, 2003 and its statements of income and cash flows for the three month periods ended March 31, 2004 and 2003 and provides information regarding The Lubrizol Corporation (the "Parent Company" and anticipated issuer of the debt securities) and its guarantor and non-guarantor ("Other") subsidiaries. 10 THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF INCOME THREE MONTH PERIOD ENDED MARCH 31, 2004 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED -------- ---------- ------------ ------------ ------------ Net sales $296,769 $62,675 $313,334 $(94,858) $577,920 Royalties and other revenues 674 85 25 784 -------- ------- -------- -------- -------- TOTAL REVENUES 297,443 62,760 313,359 (94,858) 578,704 -------- ------- -------- -------- -------- Cost of sales 215,937 47,794 257,459 (94,874) 426,316 Selling and administrative expenses 32,636 5,836 13,408 51,880 Research, testing and development expenses 27,392 1,561 11,771 40,724 -------- ------- -------- -------- -------- TOTAL COST AND EXPENSES 275,965 55,191 282,638 (94,874) 518,920 Other income (expense) - net 11,890 2,553 (11,582) (462) 2,399 Interest income (expense) - net (5,671) 344 (5,327) Equity in income of subsidiaries 18,307 1,561 (19,868) -------- ------- -------- -------- -------- Income before income taxes 46,004 11,683 19,483 (20,314) 56,856 Provision for income taxes 8,496 3,612 7,224 (1) 19,331 -------- ------- -------- -------- -------- NET INCOME $ 37,508 $ 8,071 $ 12,259 $(20,313) $ 37,525 ======== ======= ======== ======== ========
11 THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF INCOME THREE MONTH PERIOD ENDED MARCH 31, 2003 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ------- ---------- ------------ ------------ ------------ Net sales $257,235 $47,307 $278,274 $(75,816) $507,000 Royalties and other revenues 777 77 359 1,213 -------- ------- -------- -------- -------- TOTAL REVENUES 258,012 47,384 278,633 (75,816) 508,213 Cost of sales 190,485 36,083 220,367 (78,672) 368,263 Selling and administrative expenses 34,310 5,597 10,908 50,815 Research, testing and development expenses 28,887 1,424 11,322 41,633 Restructuring charge 3,506 3,506 -------- ------- -------- -------- -------- TOTAL COST AND EXPENSES 253,682 43,104 246,103 (78,672) 464,217 Other income (expense) - net 4,101 3,126 (6,888) (648) (309) Interest income (expense) - net (5,290) (12) 455 (4,847) Equity in income of subsidiaries 21,516 1,853 (23,369) -------- ------- -------- -------- -------- Income before income taxes 24,657 9,247 26,097 (21,161) 38,840 Provision for income taxes 461 2,396 8,931 1,029 12,817 -------- ------- -------- -------- -------- NET INCOME $ 24,196 $ 6,851 $ 17,166 $(22,190) $ 26,023 ======== ======= ======== ======== ========
12 THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING BALANCE SHEET MARCH 31, 2004 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ------------ ------------ ------------ ASSETS Cash and short-term investments $1,314 $(1,111) $177,812 $178,015 Receivables 129,305 39,435 217,299 386,039 Inventories 92,317 42,062 218,079 $(28,098) 324,360 Other current assets 26,890 777 7,644 9,032 44,343 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT ASSETS 249,826 81,163 620,834 (19,066) 932,757 ---------- ---------- -------- ----------- ---------- Property and equipment - at cost 1,175,312 64,268 735,298 1,974,878 Less accumulated depreciation 769,834 14,421 501,291 1,285,546 ---------- ---------- -------- ----------- ---------- PROPERTY AND EQUIPMENT - NET 405,478 49,847 234,007 689,332 ---------- ---------- -------- ----------- ---------- Goodwill 26,638 122,245 132,171 281,054 Intangible assets - net 31,116 31,379 40,453 102,948 Investments in subsidiaries and intercompany balances 954,180 814,056 (129,712) (1,638,524) Investments in non-consolidated companies 5,379 688 6,067 Other assets 16,616 2,976 13,433 33,025 ---------- ---------- -------- ----------- ---------- TOTAL $1,689,233 $1,102,354 $911,186 $(1,657,590) $2,045,183 ========== ========== ======== =========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt $59,934 $59,934 Accounts payable $69,097 $ 13,784 73,159 156,040 Accrued expenses and other current liabilities 73,824 21,902 51,826 147,552 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT LIABILITIES 142,921 35,686 184,919 363,526 ---------- ---------- -------- ----------- ---------- Long-term debt 381,122 4,983 386,105 Postretirement health care obligations 93,180 5,634 98,814 Noncurrent liabilities 40,708 42 60,945 101,695 Deferred income taxes 24,208 6,207 21,787 52,202 ---------- ---------- -------- ----------- ---------- TOTAL LIABILITIES 682,139 41,935 278,268 1,002,342 ---------- ---------- -------- ----------- ---------- Minority interest in consolidated companies $52,513 52,513 TOTAL SHAREHOLDERS' EQUITY 1,007,094 1,060,419 632,918 (1,710,103) 990,328 ---------- ---------- -------- ----------- ---------- TOTAL $1,689,233 $1,102,354 $911,186 $(1,657,590) $2,045,183 ========== ========== ======== =========== ==========
THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING BALANCE SHEET DECEMBER 31, 2003 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ---------- ---------- ------------ ------------ ------------ ASSETS Cash and short-term investments $56,254 $(1,008) $203,453 $258,699 Receivables 100,857 39,225 184,485 324,567 Inventories 76,824 44,316 216,583 $ (25,804) 311,919 Other current assets 26,357 663 6,612 9,031 42,663 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT ASSETS 260,292 83,196 611,133 (16,773) 937,848 ---------- ---------- -------- ----------- ---------- Property and equipment - at cost 1,156,725 71,539 732,335 1,960,599 Less accumulated depreciation 757,117 14,241 499,247 1,270,605 ---------- ---------- -------- ----------- ---------- PROPERTY AND EQUIPMENT - NET 399,608 57,298 233,088 689,994 ---------- ---------- -------- ----------- ---------- Goodwill 24,992 124,776 58,958 208,726 Intangible assets - net 12,169 32,784 17,449 62,402 Investments in subsidiaries and intercompany balances 934,147 811,027 (96,914) (1,648,260) Investments in non-consolidated companies 5,609 687 6,296 Other assets 20,528 3,427 13,095 37,050 ---------- ---------- -------- ----------- ---------- TOTAL $1,657,345 $1,113,195 $836,809 $(1,665,033) $1,942,316 ========== ========== ======== =========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY Short-term debt and current portion of long-term debt $ 2,899 $ 2,899 Accounts payable $ 63,967 $ 17,418 61,735 143,120 Accrued expenses and other current liabilities 79,922 20,728 52,808 153,458 ---------- ---------- -------- ----------- ---------- TOTAL CURRENT LIABILITIES 143,889 38,146 117,442 299,477 ---------- ---------- -------- ----------- ---------- Long-term debt 381,801 4,925 386,726 Postretirement health care obligations 92,865 5,522 98,387 Noncurrent liabilities 44,662 44 55,624 100,330 Deferred income taxes 24,050 6,894 21,866 52,810 ---------- ---------- -------- ----------- ---------- TOTAL LIABILITIES 687,267 45,084 205,379 937,730 ---------- ---------- -------- ----------- ---------- Minority interest in consolidated companies $ 51,281 51,281 TOTAL SHAREHOLDERS' EQUITY 970,078 1,068,111 631,430 (1,716,314) 953,305 ---------- ---------- -------- ----------- ---------- TOTAL $1,657,345 $1,113,195 $836,809 $(1,665,033) $1,942,316 ========== ========== ======== =========== ==========
14 THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS THREE MONTH PERIOD ENDED MARCH 31, 2004 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ------- ---------- ------------ ------------ ------------ CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income $37,508 $8,071 $12,259 $(20,313) $37,525 Adjustments to reconcile net income to cash provided (used) by operating activities (33,942) 61,474 (65,486) 20,313 (17,641) ------- ------ ------- -------- ------- Total operating activities 3,566 69,545 (53,227) 19,884 INVESTING ACTIVITIES: Capital expenditures (12,278) (1,371) (6,299) (19,948) Acquisitions (20,328) (112,713) (133,041) Other - net 140 (141) 148 147 ------- ------ ------- -------- ------- Total investing activities (32,466) (1,512) (118,864) (152,842) FINANCING ACTIVITIES: Short-term borrowings 58,663 58,663 Long-term repayments (21) (21) Dividends paid (13,415) (13,415) Changes in intercompany activities (20,450) (68,145) 88,595 Stock options exercised 1,428 1,428 ------- ------ ------- -------- ------- Total financing activities (32,437) (68,145) 147,237 46,655 Effect of exchange rate changes on cash 6,397 9 (787) 5,619 ------- ------ ------- -------- ------- Net decrease in cash and short-term investments (54,940) (103) (25,641) (80,684) Cash and short-term investments at the beginning of period 56,254 (1,008) 203,453 258,699 ------- ------ ------- -------- ------- Cash and short-term investments at the end of period $1,314 $(1,111) $177,812 $ $178,015 ======= ======== ======== ======== ========
15 THE LUBRIZOL CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS THREE MONTH PERIOD ENDED MARCH 31, 2003 (IN THOUSANDS OF DOLLARS)
PARENT SUBSIDIARY OTHER TOTAL COMPANY GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED -------- ---------- ------------ ------------ ------------ CASH PROVIDED FROM (USED FOR): OPERATING ACTIVITIES: Net income $24,196 $6,851 $17,166 $(22,190) $26,023 Adjustments to reconcile net income to cash provided (used) by operating activities (47,876) 100,220 (106,342) 22,190 (31,808) -------- ------- --------- --------- -------- Total operating activities (23,680) 107,071 (89,176) (5,785) INVESTING ACTIVITIES: Capital expenditures (8,616) (1,200) (5,515) (15,331) Other - net 110 (272) (73) (235) -------- ------- --------- --------- -------- Total investing activities (8,506) (1,472) (5,588) (15,566) FINANCING ACTIVITIES: Short-term repayments (103) (4,122) (4,225) Long-term repayments (103) (103) Long-term borrowings 11 11 Dividends paid (13,379) (13,379) Changes in intercompany activities (1,710) (104,310) 106,020 Stock options exercised 1,190 1,190 -------- ------- --------- --------- -------- Total financing activities (13,899) (104,413) 101,806 (16,506) Effect of exchange rate changes on cash (1) 26 (1,450) (1,425) -------- ------- --------- --------- -------- Net increase (decrease) in cash and short-term investments (46,086) 1,212 5,592 (39,282) Cash and short-term investments at the beginning of period 116,478 (1,882) 151,832 266,428 -------- ------- --------- --------- -------- Cash and short-term investments at the end of period $70,392 $(670) $157,424 $ $227,146 ======== ======= ========= ========= ========
16 EX-99.3 6 l07565aexv99w3.txt EXHIBIT 99.3 CONSOLIDATED FIN STMTS OF NOVEON FORM THE YEAR ENDED DECEMBER 31, 2003 Exhibit 99.3 NOVEON INTERNATIONAL, INC. YEAR ENDED DECEMBER 31, 2003 CONSOLIDATED FINANCIAL STATEMENTS INDEX Report of Independent Registered Public Accounting Firm . . . . . . . . . . .F-2 Consolidated Financial Statements Consolidated Statement of Operations for the year ended December 31, 2003 . .F-3 Consolidated Balance Sheet as of December 31, 2003 . . . . . . . . . . . . . .F-4 Consolidated Statement of Cash Flows for the year ended December 31, 2003 . .F-5 Consolidated Statement of Stockholders' Equity for the year ended December 31, 2003 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-6 Notes to Consolidated Financial Statements. . . . . . . . . . . . . . . . . . F-7

F-1 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Board of Directors of Noveon International, Inc. We have audited the accompanying consolidated balance sheet of Noveon International, Inc. as of December 31, 2003, and the related consolidated statements of operations, stockholders' equity, and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). 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, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Noveon International, Inc. at December 31, 2003 and the consolidated results of their operations and their cash flows for the year then ended in conformity with U.S. generally accepted accounting principles. /s/ ERNST & YOUNG LLP Cleveland, Ohio February 17, 2004, except for Note W, as to which the date is July 29, 2004. F-2 NOVEON INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF OPERATIONS YEAR ENDED DECEMBER 31, 2003 (DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
SALES $ 1,135.9 Cost of sales 809.4 --------- GROSS PROFIT 326.5 Selling and administrative expenses 204.8 Amortization expense 14.7 Restructuring and severance costs 13.2 --------- OPERATING INCOME 93.8 Interest expense 92.2 Interest (income) (1.3) Other expense--net 1.1 --------- Income before income taxes and cumulative effect of accounting change 1.8 Income tax expense 9.2 --------- Loss before cumulative effect of accounting change (7.4) Cumulative effect of accounting change--net of tax (0.5) --------- NET LOSS $ (7.9) ========= Net loss per basic and diluted share: Loss before cumulative effect of accounting change $ (2.05) Cumulative effect of accounting change-net of tax (0.14) --------- Net loss per basic and diluted share $ (2.19) =========
See notes to consolidated financial statements. F-3 NOVEON INTERNATIONAL, INC. CONSOLIDATED BALANCE SHEET DECEMBER 31, 2003 (DOLLARS IN MILLIONS, EXCEPT SHARE AMOUNTS)
ASSETS CURRENT ASSETS Cash and cash equivalents $ 116.8 Accounts and notes receivable, net of allowances ($7.5 at December 31, 2003) 149.8 Inventories 161.7 Deferred income taxes 9.5 Prepaid expenses and other current assets 7.9 -------- TOTAL CURRENT ASSETS 445.7 Property, plant and equipment--net 682.9 Goodwill 416.0 Technology intangible assets--net 131.7 Other identifiable intangible assets--net 41.2 Other assets 40.1 -------- TOTAL ASSETS $1,757.6 ======== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable $ 130.1 Accrued expenses 80.3 Income taxes payable 6.7 Current maturities of long-term debt 15.8 -------- TOTAL CURRENT LIABILITIES 232.9 Long-term debt 1,014.5 Postretirement benefits other than pensions 5.7 Accrued pensions 31.0 Deferred income taxes 27.6 Accrued environmental 18.2 Other non-current liabilities 15.4 STOCKHOLDERS' EQUITY Common stock ($.01 par value, 4,100,000 shares authorized, 3,606,133 shares issued and outstanding at December 31, 2003) -- Paid in capital 361.0 Retained deficit (23.9) Accumulated other comprehensive income 76.4 Other (1.2) -------- Total stockholders' equity 412.3 -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,757.6 ========
See notes to consolidated financial statements. F-4 NOVEON INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 2003 (DOLLARS IN MILLIONS)
OPERATING ACTIVITIES Net loss $ (7.9) Adjustments to reconcile net loss to net cash provided by operating activities: Restructuring and severance costs: Expenses 13.2 Payments (6.0) Depreciation and amortization 91.4 Deferred income taxes (1.7) Debt issuance cost amortization in interest expense 5.3 Interest on seller note not paid in cash 20.4 Cumulative effect of accounting change--net of tax 0.5 Change in assets and liabilities, net of effects of acquisitions of businesses: Receivables (4.3) Inventories (5.7) Other current assets (0.2) Accounts payable 12.0 Accrued expenses (0.1) Income taxes payable 2.3 Other non-current assets and liabilities (1.2) -------- Net cash provided by operating activities 118.0 INVESTING ACTIVITIES Purchases of property, plant and equipment (56.6) Payments made in connection with acquisitions, net of cash acquired (32.1) -------- Net cash (used) by investing activities (88.7)
F-5 NOVEON INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF CASH FLOWS (continued) YEAR ENDED DECEMBER 31, 2003 (DOLLARS IN MILLIONS)
FINANCING ACTIVITIES Decrease in short-term debt (0.4) Debt issuance costs (1.8) Issuance of common stock to employees 1.2 Redemption of common stock (0.2) -------- Net cash (used) by financing activities (1.2) Effect of exchange rate changes on cash and cash equivalents 9.2 -------- Net increase in cash and cash equivalents 37.3 Cash and cash equivalents at beginning of year 79.5 -------- CASH AND CASH EQUIVALENTS AT END OF YEAR $ 116.8 ========
See notes to consolidated financial statements. F-6 NOVEON INTERNATIONAL, INC. CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (DOLLARS IN MILLIONS)
ACCUMULATED COMMON PAID IN RETAINED COMPREHENSIVE STOCK CAPITAL DEFICIT INCOME OTHER TOTAL ----- ------- ------- ------------- ----- ----- BALANCE AT JANUARY 1, 2003 $ -- $360.0 $(16.0) $ 3.6 $ (1.1) $346.5 Issuance of common stock to employees, net -- 1.0 -- -- -- 1.0 Other -- -- -- -- (0.1) (0.1) Comprehensive income: Net loss -- -- (7.9) -- -- (7.9) Net change in fair value of cash flow hedges -- -- -- 4.5 -- 4.5 Cumulative translation adjustment -- -- -- 68.3 -- 68.3 ------ Total comprehensive income 64.9 ------ ------ ------ ------ ------ ------ BALANCE AT DECEMBER 31, 2003 $ -- $361.0 $(23.9) $ 76.4 $ (1.2) $412.3 ====== ======= ====== ====== ====== ======
See notes to consolidated financial statements. F-7 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS A. ORGANIZATION AND ACQUISITION In these notes, "Noveon International, Inc.," "Noveon" or the "Company" refer to Noveon International, Inc., and its subsidiaries, except where the context makes clear that the reference is only to Noveon International, Inc. itself and not its subsidiaries. Any references to "Noveon, Inc." are to Noveon, Inc., our wholly owned operating subsidiary. Noveon International, Inc. owns 100% of Noveon, Inc. The Company and Noveon, Inc. commenced operations on March 1, 2001 through the acquisition on February 28, 2001 of certain assets and common stock of certain subsidiaries of the Performance Materials Segment (the "Predecessor Company" or "Performance Materials") of The BFGoodrich Company ("Goodrich"), now known as Goodrich Corporation (the "Acquisition"). Noveon International, Inc. was organized for the purpose of owning all of the common stock of Noveon, Inc. and was capitalized through an equity contribution of $355.0 million from PMD Investors I LLC and PMD Investors II LLC (collectively, "PMD"), DLJ Merchant Banking Partners III, LP and affiliates ("DLJ Merchant Banking") and MidOcean Capital/PMD Investors, LLC ("MidOcean"). PMD is owned by investor groups led by AEA Investors LLC ("AEA"). The Company has no independent operations or investments other than its investment in Noveon, Inc. The Company made an equity contribution of $527.0 million to Noveon, Inc. comprised of $355.0 million in cash and $172.0 million from the seller note that the Company issued to a subsidiary of Goodrich in connection with the Company's Acquisition of the Predecessor Company. The seller note, which was subsequently sold by Goodrich, bears interest at an initial rate of 13% payable semi-annually in cash or additional notes at the option of the Company and increases to a rate of 15% after 5 years. If the interest is paid in cash, the interest rate remains at 13%. The Company may be dependent on the cash flows of Noveon, Inc. to repay the seller note upon maturity in 2011. See Note K for additional discussion of the Company's indebtedness and related restrictions on distributions from Noveon, Inc. At December 31, 2003, there was $165.9 million outstanding on the seller note. F-8 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements reflect the accounts of the Company and its majority-owned subsidiaries. Intercompany accounts and transactions are eliminated. REVENUE AND INCOME RECOGNITION Revenue from the sale of products is recognized at the point of passage of title, which is at the time of shipment or consumption by the customer for inventory on consignment. The Company requires that persuasive evidence of a revenue arrangement exists, delivery of product has occurred, the price to the customer is fixed and determinable and collectibility is reasonably assured before revenue is realized and earned. Rebates, customer claims, allowances, returns and discounts are reflected as reductions from gross sales in determining net sales. Rebates are accrued based on contractual relationships with customers as shipments are made. Customer claims, returns and allowances and discounts are accrued based on our history of claims and sales returns and allowances. Allowances for doubtful accounts are maintained for estimated losses resulting from the inability of customers to make required payments. CASH EQUIVALENTS Cash equivalents consist of highly liquid investments with a maturity of three months or less at the time of purchase. INVENTORIES Inventories are stated at the lower of cost or market. The elements of inventory cost include raw materials and labor and manufacturing overhead costs attributed to the production process. Most domestic inventories are valued by the last-in, first-out (LIFO) cost method. Inventories not valued by the LIFO method are valued principally by the average cost method. The Company provides for allowances for excess and obsolete inventory based on the age and quality of the Company's products. F-9 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES (Continued) LONG-LIVED ASSETS Property, plant and equipment of the Predecessor Company and property, plant and equipment purchased subsequent to the Acquisition, including amounts recorded under capital leases, are recorded at cost. Appraisals of fair value were obtained for property, plant and equipment acquired in the Acquisition. Depreciation and amortization are computed principally using the straight-line method over the following estimated useful lives: buildings and improvements, 15 to 40 years; machinery and equipment, 5 to 15 years. Repairs and maintenance costs are expensed as incurred. Identifiable intangible assets are recorded at cost, or when acquired as a part of a business combination, at estimated fair value. These assets include principally patents and other technology agreements and trademarks. Appraisals of fair value were obtained for identifiable intangibles acquired in the Acquisition. They are amortized using the straight-line method over estimated useful lives of primarily 15 years. Goodwill represents the excess of the purchase price over the fair value of the net assets of acquired businesses and was amortized by the straight-line method over 20 years through December 31, 2001. See Note H for an additional discussion of the impairment tests performed in 2003 related to goodwill. Impairment of long-lived assets, other than goodwill, is recognized when events or changes in circumstances indicate that the carrying amount of the asset, or related groups of assets, may not be recoverable and the estimate of undiscounted cash flows over the remaining estimated useful life of the assets are less than the carrying value of the assets. Measurement of the amount of impairment may be based on appraisal, market values of similar assets or estimated discounted future cash flows resulting from the use and ultimate disposition of the asset. See Note D for an additional discussion of the impairment test performed in 2003 related to fixed assets. DEBT ISSUANCE COSTS Costs associated with the issuance of Noveon, Inc.'s credit facilities and senior subordinated notes have been capitalized in other assets in the consolidated balance sheet and are being amortized using the interest method over the life of the related agreements ranging in periods of six through ten years. FREIGHT-OUT COSTS The Company includes costs of shipping and handling within cost of goods sold in the statement of operations. FINANCIAL INSTRUMENTS Financial instruments recorded on the balance sheet include cash and cash equivalents, accounts and notes receivable, accounts payable and debt. Because of their short maturity, the carrying value of cash and cash equivalents, accounts and notes receivable, accounts payable and short-term bank debt approximates fair value. Fair value of long-term debt is based on quoted market prices. F-10 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES (Continued) The fair value of foreign currency forward contracts and interest rate swap agreements is based on quoted market prices. DERIVATIVE AND HEDGING ACTIVITIES The Company recognizes its derivative instruments as either assets or liabilities in the statement of financial position at fair value. The accounting for changes in the fair value (i.e., gains or losses) of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship and, further, on the type of hedging relationship. For those derivative instruments that are designated and qualify as hedging instruments, the Company designates the hedging instrument, based upon the exposure being hedged, as either a fair value hedge, cash flow hedge or a hedge of a net investment in a foreign operation. For derivative instruments that are designated and qualify as a fair value hedge (i.e., hedging the exposure to changes in the fair value of an asset or a liability or an identified portion thereof that is attributable to a particular risk), the gain or loss on the derivative instrument as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in current earnings during the period of the change in fair values. For derivative instruments that are designated and qualify as a cash flow hedge (i.e., hedging the exposure to variability in expected future cash flows that is attributable to a particular risk), the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. The remaining gain or loss on the derivative instrument in excess of the cumulative change in the present value of future cash flows of the hedged item, if any, is recognized in current earnings during the period of change. For derivative instruments that are designated and qualify as a hedge of a net investment in a foreign currency, the gain or loss is reported in other comprehensive income as part of the cumulative transaction adjustment to the extent it is effective. For derivative instruments not designated as hedging instruments, the gain or loss is recognized in current earnings during the period of change. As required by the credit agreement, Noveon, Inc. has entered into interest rate swap agreements (cash flow hedges) to limit its exposure to interest rate fluctuations on $180.0 million of the outstanding principal of Noveon, Inc.'s Term Loans through 2005. In 2003, Noveon, Inc. entered into an additional interest rate swap agreement with a notional amount of $25.0 million on its Term Loan B through 2007. These agreements require Noveon, Inc. to pay a fixed rate of interest while receiving a variable rate. The net payments or receipts under these agreements are recognized as an adjustment to interest expense in the Company's results of operations. For the year ended December 31, 2003, the Company recorded $8.0 million of interest expense as a result of these swap agreements. At December 31, 2003, the fair value of these swap arrangements, included in other non-current liabilities, totaled approximately $10.2 million. The offsetting impact of this hedge transaction is included in accumulated other comprehensive income. The Company has entered into forward foreign currency exchange contracts, totaling $19.2 million at December 31, 2003 to hedge certain firm commitments F-11 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES (Continued) denominated in foreign currencies. The purpose of the Company's foreign currency hedging activities is to protect the Company from risk that the eventual cash flows from the purchase or sale of products to international customers will be adversely affected by changes in the exchange rates. As of December 31, 2003, the fair value of these forward exchange contracts was not material to the Company's consolidated financial position, results of operations or cash flow. The Company has foreign denominated floating rate debt to protect the value of its investments in its foreign subsidiaries in Europe. Realized and unrealized gains and losses from these hedges are not included in the income statement, but are shown in the cumulative translation adjustment account included in other comprehensive income. During the year ended December 31, 2003, $17.3 million of net losses are included in the cumulative translation adjustment related to the foreign denominated floating rate debt. STOCK-BASED COMPENSATION As more fully described in Note R, the Company has a stock option plan in which certain eligible employees of the Company participate. The Company accounts for stock-based employee compensation using the intrinsic value method in accordance with the provisions of Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees," and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under the plan had an exercise price greater than the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income if the Company had applied the fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," to stock-based employee compensation.
Net loss as reported $ (7.9) Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (3.1) ------- Pro forma net loss $ (11.0) ======= Reported net loss per basic and diluted share $ (2.19) ======= Pro forma net loss per basic and diluted share $ (3.05) =======
The effects of applying SFAS No. 123 may not be representative of the effects on reportable net income (loss) in future years. F-12 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES (Continued) EARNINGS (LOSS) PER COMMON SHARE Basic earnings per common share ("EPS") is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. The weighted-average number of common shares outstanding for computing basic EPS was 3,602,062 shares for the year ended December 31, 2003. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. There were no dilutive securities or contracts in 2003. No adjustments were made to reported net income in the computation of EPS. INCOME TAXES The provision for income taxes is calculated in accordance with SFAS No. 109, "Accounting for Income Taxes," which requires the recognition of deferred income taxes using the liability method. RESEARCH AND DEVELOPMENT EXPENSE The Company performs research and development under Company-funded programs for commercial products. Total research and development expenditures for the year ended December 31, 2003 were $44.8 million. USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. NEW ACCOUNTING STANDARDS In July 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations," that requires the recognition of the fair value of the liability for closure and removal costs associated with F-13 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES (Continued) the resulting legal obligations upon retirement or removal of any tangible long-lived assets be recognized in the period in which it is incurred. The initial recognition of the liability will be capitalized as part of the asset cost and depreciated over its estimated useful life. The Company adopted this statement effective January 1, 2003. Under this standard, the Company recognizes asset retirement obligations in the period in which they are incurred if a reasonable estimate of fair value can be determined. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset. The cumulative effect of this change in accounting principle resulted in a charge of $0.5 million (net of income taxes of $0.2 million) in 2003. The impact on the Company's consolidated financial position at December 31, 2003 was not material. In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 requires recording costs associated with exit or disposal activities at their fair values when a liability has been incurred. Under previous guidance, certain exit costs were accrued upon management's commitment to an exit plan, which is generally before an actual liability has been incurred. The provisions of SFAS No. 146 are effective for exit or disposal activities that are initiated after December 31, 2002. The Company adopted this statement effective January 1, 2003. Upon adoption, this statement had no impact on the Company's consolidated financial position or results of operations. In November 2002, the Emerging Issues Task Force ("EITF") reached a consensus on Issue No. 00-21 ("Issue 00-21"), "Revenue Arrangements with Multiple Deliverables." Issue 00-21 provides F-14 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) B. SIGNIFICANT ACCOUNTING POLICIES (Continued) guidance on how to account for arrangements that involve delivery or performance of multiple products, services and/or rights to use assets. The adoption of Issue 00-21 in July 2003 had no impact on the Company's consolidated financial position or results of operations. In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." FIN No. 45 requires guarantors to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee for those guarantees initiated or modified after December 31, 2002. However, certain guarantees, including product warranties and guarantees between parties under common control (i.e., parent and subsidiary), are not required to be recognized at fair value at inception. FIN No. 45 also requires additional disclosures of guarantees, including product warranties and guarantees between parties under common control, beginning with interim or annual periods ending after December 15, 2002. Guarantees initiated prior to December 31, 2002 are not recognized as a liability measured at fair value per FIN No. 45, but are subject to the disclosure requirements. The effect of adoption had no impact on the Company's consolidated financial position or results of operations. In January 2003, the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities." Interpretation No. 46 clarifies the application of Accounting Research Bulletin ("ARB") No. 51, "Consolidated Financial Statements" for certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. Interpretation No. 46 requires that variable interest entities, as defined, be consolidated by the primary beneficiary, which is defined as the entity that is expected to absorb the majority of the expected losses, receive a majority of the expected residual returns, or both. The Company adopted this statement in 2003. The effect of adoption had no impact on the Company's consolidated financial position or results of operations. In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities." SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities under SFAS No. 133. SFAS No. 149 is effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. The adoption of this statement had no impact on the Company's consolidated financial position or results of operations. In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 also requires that an issuer classify a financial instrument that is within its scope as a liability, many of which were previously classified as equity. SFAS No. 150 was effective for financial instruments entered into or modified after May 31, 2003, and otherwise was effective on July 1, 2003. The Company's adoption of this statement had no impact on its consolidated financial statements. F-15 C. ACQUISITIONS The following acquisitions by the Company were recorded using the purchase method of accounting. The results of operations of these acquired businesses have been included in the Company's results since the respective dates of acquisition. The pro forma effect of these acquisitions was not material to the Company's consolidated financial position or results of operations. During 2003, the Company purchased select assets and technology from a European extruder of electrostatic dissipative sheet; acquired a 5% equity investment in a company that produces TPU-based cushion technology; and purchased select assets of Thermedics Polymer Products, LLC, a manufacturer of aliphatic thermoplastic polyurethane, from VIASYS Healthcare, Inc., all of which are included in the Company's Specialty Materials segment. The Company purchased the remaining minority shares of its joint venture company, Indiamalt Private Ltd., and acquired a controlling interest in Specialty Natural Products Co., Ltd. ("SNP"), a manufacturer of botanical extracts used in personal care product formulations based in Thailand, for its Consumer Specialties segment. The Company purchased certain water-based overprint coatings technology and manufacturing assets for its Performance Coatings segment. Final determinations of the fair value of certain assets are in process. Accordingly, the preliminary purchase price allocations are subject to revision. The aggregate purchase price of $32.1 million paid for these acquisitions and investment was allocated to the assets acquired and liabilities assumed and resulted in goodwill of $13.9 million. D. RESTRUCTURING AND SEVERANCE COSTS In 2003, the Company announced the relocation of the Sancure(R) polyurethane dispersions line, part of the Company's Performance Coatings segment, to its Avon Lake, Ohio facility and the closing of the Leominster, Massachusetts facility. Production is expected to be completely shifted to the Avon Lake site by the end of 2004. In conjunction with the announced closing of the Leominster facility, the Company performed an evaluation of the ongoing value of the long-lived assets at that facility. The Company determined that the long-lived assets were impaired and no longer recoverable. As a result, the long-lived asset carrying value was written down to its estimated fair value of $1.4 million, which was determined by an independent appraisal, and an impairment charge of $5.7 million was recorded. F-16 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) D. RESTRUCTURING AND SEVERANCE COSTS (Continued) Additionally, in 2003, in order to increase efficiency and productivity and to reduce costs, the Company reduced headcount at various administrative and manufacturing facilities. Through these various restructuring efforts, the Company planned to eliminate approximately 80 positions across all segments. Approximately 50% of the affected employees have left their positions as of December 31, 2003. In conjunction with these restructuring plans, the Company recorded severance costs of $6.2 million pursuant to its existing severance plan. During 2002, the Company consolidated its static control manufacturing facilities into its Malaysia facility and closed the Twinsburg, Ohio leased facility in order to improve productivity in the electronics industry-related product lines. In conjunction with this consolidation, the Company incurred personnel-related charges as well as closure costs related to this leased facility. In June 2001, in order to increase efficiency and productivity, reduce costs and support the Company's global growth strategy, the Company reduced headcount at facilities throughout its global operations, restructured its colorants business in Cincinnati, Ohio, and discontinued its flush pigments and colorformers product lines. Through these restructuring efforts, the Company planned to eliminate approximately 440 positions. All of the affected employees have left their positions as of December 31, 2003 and the remaining personnel-related costs are anticipated to be paid by 2007. In 2003, the Company recorded $1.1 million of consolidation costs in conjunction with this restructuring plan, which consisted primarily of personnel-related costs. The restructuring accrual is summarized below:
BALANCE BALANCE JANUARY 1 DECEMBER 31 2003 PROVISION ACTIVITY 2003 ---------- --------- -------- ----------- PERSONNEL-RELATED COSTS 2003 Restructurings $-- $ 6.1 $ (3.4) $ 2.7 2001 Restructurings 2.1 0.7 (1.5) 1.3 RELOCATION AND RESTRUCTURING EXPENSE 2003 Restructurings -- 0.1 (0.1) -- 2001 Restructurings -- 0.3 (0.3) -- FACILITY CLOSURE COSTS 2002 Restructurings 0.2 0.2 (0.3) 0.1 2001 Restructurings 0.6 0.1 (0.4) 0.3 ASSET IMPAIRMENT 2003 Restructurings -- 5.7 (5.7) -- ----- ----- ------ ----- $ 2.9 $13.2 $(11.7) $ 4.4 ===== ===== ====== =====
F-17 E. ACCOUNTS RECEIVABLE The following table summarizes the activity in allowances for accounts receivable:
BALANCE AT BALANCE BEGINNING COSTS AND AT END (IN MILLIONS) OF YEAR EXPENSES DEDUCTIONS OF YEAR - ------------- --------- -------- ---------- --------- ~~Year ended December 31, 2003 $ 9.0 $20.9 $22.4 $ 7.5~~
Costs and expenses relate to allowances for returns, sales credits and provisions for bad debts. Deductions include sales credits issued and write-offs of doubtful accounts, net of recoveries. Write-offs of doubtful accounts, net of recoveries, were $0.8 million, for the year ended December 31, 2003. F. INVENTORIES Inventories consisted of the following at December 31, 2003:
(IN MILLIONS) - ------------ Finished products $ 120.8 In process 5.0 Raw materials 35.9 ------- Total $ 161.7 =======
Approximately 45% of inventory was valued by the LIFO method in 2003. At December 31, 2003, LIFO inventory approximated first-in, first-out (FIFO) cost. F-18 G. PROPERTY, PLANT AND EQUIPMENT--NET Property, plant and equipment--net consisted of the following at December 31, 2003:
(IN MILLIONS) - ------------- Land $ 44.1 Buildings and improvements 160.2 Machinery and equipment 663.1 Construction in progress 23.2 ------- 890.6 Less allowances for depreciation (207.7) ------- Total $ 682.9 =======
Amounts charged to expense for depreciation were $76.7 million, for the year ended December 31, 2003. H. GOODWILL AND IDENTIFIABLE INTANGIBLE ASSETS The FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets," in July 2001. The statement addressed financial accounting and reporting for acquired goodwill and other intangible assets and supersedes Accounting Principles Board ("APB") Opinion No. 17, "Intangible Assets." SFAS No. 142 applied to all goodwill and other intangible assets recognized in an entity's statement of financial position at that date, regardless of when those assets were initially recognized. Under these rules, goodwill and intangible assets deemed to have indefinite lives are no longer amortized but are subject to annual impairment tests. Other intangible assets continue to be amortized over their useful lives. The Company adopted SFAS No. 142 effective January 1, 2002. During the second quarter of 2002, the Company performed the first of the required impairment tests of goodwill as of January 1, 2002. During the fourth quarter of 2003 and 2002, the annual impairment test of goodwill was performed. The Company determined that no goodwill impairment had occurred. F-19 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) H. GOODWILL AND IDENTIFIABLE INTANGIBLE ASSETS (Continued) The changes in the carrying amount of goodwill by reporting segment during the year ended December 31, 2003 are as follows:
CONSUMER SPECIALTY PERFORMANCE (IN MILLIONS) SPECIALTIES MATERIALS COATINGS TOTAL - ------------- ----------- --------- -------- ----- Goodwill balance at January 1, 2003 $111.1 $151.2 $105.0 $367.3 Effect of acquisitions in 2003 2.2 2.9 8.8 13.9 Impact of foreign currency and other 8.2 11.7 14.9 34.8 ------ ------ ------ ------ Goodwill balance at December 31, 2003 $121.5 $165.8 $128.7 $416.0 ====== ====== ====== ======
Intangible assets that continue to be subject to amortization were comprised of the following at December 31, 2003:
WEIGHTED GROSS NET AVERAGE CARRYING ACCUMULATED CARRYING AMORTIZATION (DOLLARS IN MILLIONS) AMOUNT AMORTIZATION AMOUNT PERIOD - --------------------- ------ ------------ ----- ---------- Technology $162.4 $ 30.7 $131.7 15.0 years Trademarks 47.3 8.8 38.5 15.1 years Non-compete agreements 3.4 0.7 2.7 4.6 years ------ ------ ------ Total $213.1 $ 40.2 $172.9 15.0 years ====== ====== ======
F-20 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) H. GOODWILL AND IDENTIFIABLE INTANGIBLE ASSETS (Continued) Amortization expense for intangible assets subject to amortization was $14.7 million, for the year ended December 31, 2003. Estimated annual amortization expense for intangible assets subject to amortization approximates $14.5 million for each of the next five years. I. ACCRUED EXPENSES Accrued expenses consisted of the following at December 31, 2003:
(IN MILLIONS) - ------------- Wages, vacations, pensions and $ 36.0 other employment costs Accrued interest 17.9 Accrued rebates 11.7 Taxes, other than federal and 5.0 foreign taxes on income Restructuring and severance costs 4.4 Accrued environmental liabilities 0.8 Other 4.5 ------- Total $ 80.3 =======
J. FINANCING ARRANGEMENTS Short-term Bank Debt At December 31, 2003, the Company had no short-term bank debt outstanding. Long-term Debt In connection with the Acquisition, Noveon, Inc. entered into credit facilities and issued subordinated notes. In July 2003, Noveon, Inc. amended and refinanced the term loans within these credit facilities. The amendment and refinancing were not deemed to be a substantial modification of the credit facilities, and accordingly, were not accounted for as a debt extinguishment. F-21 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) J. FINANCING ARRANGEMENTS (Continued) The credit facilities, as amended, include (1) a Term Loan A facility that matures on March 31, 2007, (2) a Term Loan B facility that matures on December 31, 2009 and (3) a revolving credit facility in the amount of $125.0 million that expires on March 31, 2007. A portion of the revolving credit facility is made available in various foreign currencies. At December 31, 2003, all of Term Loan A, or $37.9 million, and $82.6 million of Term Loan B were denominated in euros. While borrowings under Term Loans A and B were used to finance the Acquisition, borrowings under the revolving credit facility may be used for working capital and for general corporate purposes. At December 31, 2003, there was $37.9 million outstanding on Term Loan A and $551.2 million outstanding on Term Loan B. Borrowings under the credit facilities bear interest in an amount equal, at Noveon, Inc.'s option, to either (1) the reserve adjusted eurocurrency rate plus an applicable borrowing margin or (2) the base rate plus an applicable borrowing margin. The reserve adjusted eurocurrency rate is the average of the offered quotation in the interbank eurodollar market for U.S. dollar deposits, approximately equal to the outstanding principal amount of Noveon, Inc.'s eurocurrency rate loans. The base rate is the greater of (1) the prime rate or (2) the federal funds rate plus 50 basis points. The applicable borrowing margins for eurocurrency and base rate loans are based upon the most recent leverage ratio submitted by Noveon, Inc. to the administrative agent. Applicable borrowing margins at December 31, 2003 are as follows:
Eurocurrency rate loans: Revolving loans 2.75% Term A euro loans 2.75% Term B dollar loans 2.75% Term B euro loans 3.00% Base rate loans: Revolving loans 1.75% Term A dollar loans 1.75% Term B dollar loans 2.00%
Interest periods for eurocurrency rate loans are one, two, three or six months, subject to availability. Interest on eurocurrency rate loans is payable at the end of the applicable interest period, except for six-month interest periods in which case interest is payable every three months. Interest on base rate loans is payable quarterly in arrears. Upon an event of default, all loans will bear an additional 2.0% of interest for as long as the event of default is continuing. At December 31, 2003, the average interest rates for Term Loans A and B were 4.76% and 4.51%, respectively, exclusive of the effects of the swap agreements disclosed in Note C. At December 31, 2003, the average interest rate for Term Loan B was 6.03%, inclusive of the effects of the swap agreements. F-22 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) J. FINANCING ARRANGEMENTS (Continued) The credit facilities are secured by a first priority security interest in substantially all of Noveon, Inc.'s assets and the assets of its domestic subsidiaries. In addition, the credit facilities are secured by Noveon, Inc.'s stock, the stock of its domestic subsidiaries and 65% of the stock of its first tier foreign subsidiaries. The credit facilities do require prepayments of portions of principal for certain asset dispositions, other equity or debt issuances and excess cash positions. The credit facilities require Noveon, Inc. to pay commitment fees of 0.5% on the unused portion of the revolving line of credit. At December 31, 2003, Noveon, Inc. had no amounts outstanding on the revolving credit facility and $119.2 million was available for borrowing, net of $5.8 million on outstanding letters of credit. The credit facilities contain customary covenants that restrict Noveon, Inc.'s and its restricted subsidiaries' ability to: - incur liens, except specified liens, including liens incurred in the ordinary course of business, liens on property we acquire, and other liens of up to $5.0 million; - incur additional indebtedness, except specified indebtedness, including indebtedness of our foreign subsidiaries for working capital purposes of up to $25.0 million, unsecured indebtedness of up to $20.0 million, other indebtedness of up to $5.0 million, and other unsecured subordinated indebtedness; - sell assets, except specified asset sales, including asset sales in the ordinary course of business and other asset sales so long as 80% of the sales price from such asset sales is paid in cash and the total amount of such asset sales does not exceed 15% of our total assets; - enter into any business combination, except certain business combinations of our subsidiaries that do not constitute an event of default under the credit facilities; - pay dividends and make other restricted payments, except certain payments, including payments to purchase up to $7.0 million of our common stock per fiscal year from our employees whose employment has terminated and payments in an amount not to exceed 25% of Noveon, Inc.'s consolidated net income arising from and after June 30, 2003, provided the pro forma leverage ratio would be no more than 3.25 to 1.0; - issue stock, unless there is no event of default under the credit facilities, the administrative agent under the credit facilities consents to the issuance and the proceeds from the issuance are applied as provided in the credit facilities; - enter into sale and leaseback transactions, except sale and leaseback transactions in an aggregate amount of up to $5.0 million; - make loans and investments, except certain loans and investments, including loans and investments made in the ordinary course of business and other investments of up to $5.0 million; - enter into new lines of business; F-23 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) J. FINANCING ARRANGEMENTS (Continued) - make accounting changes, unless any change is required by generally accepted accounting principles, the change is disclosed to the lenders under the credit facilities and prior financial statements that are affected by the change are restated as required; and - engage in various transactions with affiliates, unless such transactions are on terms as favorable as could be obtained in an arm's-length transaction and in the ordinary course of business. In addition, the credit facilities require Noveon, Inc. to comply with specified financial covenants, including maintenance of net worth, limitations on capital expenditures, minimum interest coverage ratios and maximum leverage ratios. The net worth covenant requires that Noveon, Inc.'s net worth on the last day of any fiscal quarter exceed 80% of its consolidated net worth on February 28, 2001 plus 50% of its net income since December 31, 2000. The capital expenditures covenant generally prohibits Noveon, Inc. from spending more than $75.0 million per fiscal year on capital expenditures. The capital expenditures covenant permits Noveon, Inc. to carry forward any unused capital expenditures amount from one fiscal year to the next fiscal year. The capital expenditures covenant also permits Noveon, Inc. to make additional capital expenditures in an aggregate amount of up to $20.0 million. The interest coverage ratio requires that, as of the last day of each fiscal quarter, Noveon, Inc.'s ratio of EBITDA, as defined in the credit facilities, to its interest expense, exceed 2.35 to 1.0 through December 31, 2004. The interest coverage ratio increases on June 30 of each year thereafter. The maximum leverage ratio requires that, as of the last day of each fiscal quarter, Noveon, Inc.'s ratio of its indebtedness minus its cash and cash equivalents to EBITDA, as defined in the credit facilities, not exceed 4.25 to 1.0 through December 31, 2004. The maximum leverage ratio decreases on June 30 of each year thereafter. Noveon, Inc. was in compliance with all covenants at December 31, 2003. The $275.0 million senior subordinated notes mature on February 28, 2011 and interest accrues at 11% per year. Interest payments on the notes occur on March 15 and September 15 of each year. The notes contain customary provisions for events of default. Noveon, Inc. was in compliance with all terms and conditions of the senior subordinated notes at December 31, 2003. The senior subordinated notes contain customary covenants that restrict Noveon, Inc. and its restricted subsidiaries' ability to: - incur additional indebtedness, except specified indebtedness, including indebtedness under our credit facilities, existing indebtedness, permitted indebtedness and indebtedness incurred by a foreign subsidiary; - incur liens, except specified liens, including liens that secure obligations that are not senior to the senior subordinated notes; - enter into sale and leaseback transactions, except specified sale and leaseback transactions, including sale and leaseback transactions having a fair market value at least equal to the value of the property that is the subject of the sale and leaseback transaction; - pay dividends and make other equity distributions subject to certain baskets and provisions, including the ability to pay dividends in an amount equal to 50% of aggregate net income earned since the date of the indenture, provided that Noveon, Inc. would be able to satisfy its F-24 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) J. FINANCING ARRANGEMENTS (Continued) debt incurrence test, except for dividends or equity distributions payable in capital stock or dividends or distributions payable to Noveon, Inc. or any of its subsidiaries; - purchase or redeem capital stock, except for the purchase of capital stock owned by Noveon, Inc. or any of its subsidiaries and the redemption of the senior subordinated notes; - make investments, except specified investments, including investments in Noveon, Inc. or any of its subsidiaries, investments in cash and cash equivalents, investments in prepaid expenses and loans made to employees in the ordinary course of business and not in excess of $5.0 million and investments in a subsidiary of Noveon, Inc.; - sell assets, except specified sales of assets, including sales of assets in which the consideration received is at least equal to the fair market value of the asset, sales in which 75% of the consideration received is in cash and sales of assets, the proceeds of which will be used to pay off certain other indebtedness; - engage in transactions with affiliates, unless those transactions are on terms as favorable as could be obtained in an arm's-length transaction and in the ordinary course of business; and - effect a consolidation or merger, unless Noveon, Inc. is the surviving entity, the surviving entity assumes the obligations of Noveon, Inc. under the senior subordinated notes or if the merger or consolidation does not result in an event of default under the indenture governing the senior subordinated notes. The original $172.0 million seller note issued to Goodrich matures in 2011 and bears interest at an initial rate of 13% payable semi-annually in cash or additional notes at our option and increases to 15% after February 26, 2006; however if interest is paid in cash, the interest rate remains at 13%. As of December 31, 2003, the principal amount outstanding was $165.9 million and accrued interest was $7.2 million. As of December 31, 2003, $56.2 million of accrued interest has been converted to additional notes payable in lieu of cash payments of interest. Terms of the credit facilities and 11% senior subordinated notes of Noveon, Inc. contain provisions that significantly restrict the ability of Noveon, Inc. or its subsidiaries to make distributions in cash and F-25 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) J. FINANCING ARRANGEMENTS (Continued) other assets to Noveon International, Inc. At December 31, 2003 substantially all of Noveon, Inc.'s net assets are so restricted. Maturities of these long-term financing arrangements are as follows:
SENIOR TERM TERM SUBORDINATED SELLER (IN MILLIONS) LOAN A LOAN B NOTES NOTE OTHER TOTAL - ------------- ------ ------ ------------ ------ ----- -------- 2004 $ 10.3 $ 5.5 $ -- $ -- $ -- $ 15.8 2005 11.6 5.5 -- -- -- 17.1 2006 12.8 5.5 -- -- 0.1 18.4 2007 3.2 5.5 -- -- 0.1 8.8 2008 -- 5.5 -- -- 0.1 5.6 Thereafter -- 523.7 275.0 165.9 -- 964.6 ------ ------ ------ ------ ----- -------- $ 37.9 $551.2 $275.0 $165.9 $ 0.3 $1,030.3 ------ ------ ------ ------ ----- --------
K. LEASE COMMITMENTS Future minimum lease payments, by year and in the aggregate, under noncancelable operating leases with initial or remaining noncancelable lease terms in excess of one year, consisted of the following at December 31, 2003:
(IN MILLIONS) - ------------------------------------------------------------------ 2004 $ 5.4 2005 3.8 2006 2.9 2007 1.8 2008 1.5 Thereafter 1.1 ------- Total minimum payments $ 16.5 =======
Net rent expense was $10.7 million for the year ended December 31, 2003. F-26 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) L. PENSIONS AND POSTRETIREMENT BENEFITS Overview As an operating segment of Goodrich, Performance Materials did not have its own pension and postretirement benefit plans. Employees of Performance Materials were eligible to participate in Goodrich's salary and wage pension plans, non-qualified plans and postretirement benefit plans. As part of the terms of the Acquisition, Goodrich retained the pension benefit obligations for all retirees and the vested portion of the pension obligations for active employees for service prior to the Acquisition, as well as the plan assets of the domestic pension plans. Furthermore, Goodrich retained the postretirement benefit obligations of retirees and those eligible to retire through December 31, 2002. The Company has recorded the pension and postretirement benefit obligations for active employees covered by collective bargaining agreements that remained with the Company after the Acquisition. Salaried employees' benefit payments are generally determined using a formula that is based on an employees' compensation and length of service. Hourly employees' benefit payments are generally determined using stated amounts for each year of service. Employees also participate in unfunded defined benefit postretirement plans that provide certain health-care and life insurance benefits to eligible employees. The health-care plans are contributory, with retiree contributions adjusted periodically, and contain other cost-sharing features, such as deductibles and coinsurance. The life insurance plans are generally noncontributory. The following table summarizes information regarding the Company's defined benefit pension plans and defined benefit postretirement plans as of December 31, 2003 and the amounts recorded in the consolidated balance sheet at that date. F-27 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) L. PENSIONS AND POSTRETIREMENT BENEFITS (Continued)
UNITED STATES UNITED STATES EUROPEAN OTHER PENSION BENEFITS PENSION BENEFITS BENEFITS ----------------- ----------------- ---------------- (IN MILLIONS) - ------------------------------------------------------- Change in projected benefit obligations: Projected benefit obligation at beginning of period $38.8 $17.6 $5.1 Service cost 3.4 1.5 0.1 Interest cost 2.6 1.0 0.3 Actuarial losses 4.9 0.9 0.2 Acquisitions and other -- (0.2) -- Foreign currency impact -- 3.7 -- Benefits paid (0.2) (1.0) -- ----- ----- ---- Projected benefit obligation at end of period $49.5 $23.5 $5.7 ===== ===== ==== Change in plan assets: Fair value of plan assets at beginning of period $ 5.2 $ 9.1 $ -- Actual return on plan assets 0.1 1.0 -- Acquisitions and other -- 0.1 -- Foreign currency impact -- 1.9 -- Company contributions 2.5 0.9 -- Benefits paid (0.2) (1.0) -- ----- ----- ---- Fair value of plan assets at end of period $ 7.6 $12.0 $ -- ===== ===== ====
F-28 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) L. PENSIONS AND POSTRETIREMENT BENEFITS (Continued)
UNITED STATES UNITED STATES EUROPEAN OTHER PENSION BENEFITS PENSION BENEFITS BENEFITS ------------------ ------------------ ---------------- (IN MILLIONS) - ------------------------------------------------------- Funded status (underfunded): Funded status $(41.9) $(11.5) $(5.7) Unrecognized net actuarial loss 9.6 2.5 0.5 Unrecognized prior service cost 0.2 -- (0.6) Fourth quarter employer contributions 0.2 -- -- ------ ------ ----- Accrued benefit cost $(31.9) $ (9.0) $(5.8) ====== ====== =====
The accumulated benefit obligation for all defined benefit pension plans was $29.3 million at December 31, 2003. The components of net periodic benefit cost are reflected below for the year ended December 31, 2003.
UNITED STATES EUROPEAN UNITED STATES PENSION BENEFITS PENSION BENEFITS OTHER BENEFITS ------------------------ ------------------------ ------------------------ (IN MILLIONS) Components of net periodic benefit cost: Service cost $3.4 $1.5 $0.1 Interest cost 2.6 1.0 0.3 Expected return on plan assets (0.7) (0.5) -- Amortization of prior service cost 0.1 -- (0.1) ---- ---- ---- Total net periodic benefit cost $5.4 $2.0 $0.3 ==== ==== ====
Weighted Average Assumptions Weighted-average assumptions used to determine benefit obligations are summarized as follows:
UNITED STATES EUROPEAN UNITED STATES PENSION BENEFITS PENSION BENEFITS BENEFITS OTHER ---------------- ---------------- ---------------- ~~Discount rate 6.36% 5.20% 6.36% Rate of compensation increase 3.75% 4.58% --~~
F-29 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) L. PENSIONS AND POSTRETIREMENT BENEFITS (Continued) Weighted-average assumptions used to determine net periodic benefit costs are summarized as follows:
UNITED STATES EUROPEAN UNITED STATES PENSION BENEFITS PENSION BENEFITS OTHER BENEFITS ---------------------------- ---------------------------- -------------------- Discount rate 6.75% 5.82% 6.75% Expected return on plan assets 8.50% 5.37% -- Rate of compensation increase 4.00% 4.45% --
For measurement purposes, an 11.9% annual rate of increase in the per capita cost of covered health care benefits was assumed for 2003. The rate was assumed to decrease gradually to 5.6% for 2014 and remain at that level thereafter. For post-Medicare measurement purposes, a 12.9% annual rate of increase in the per capita cost of covered health care benefits was assumed for 2003. The rate was assumed to decrease gradually to 5.7% for 2014 and remain at that level thereafter. The table below quantifies the impact of a one percentage point change in the assumed health care cost trend rate.
1 PERCENTAGE 1 PERCENTAGE POINT POINT (IN MILLIONS) INCREASE DECREASE - ------------------------------------------------------------------- ------------ ------------ ~~Effect on total of service and interest cost components in 2003 $ -- $ -- Effect on postretirement benefit obligation as of December 31, 2003 $ 0.4 $ (0.4)~~
Description of Plan Assets and Expected Long Term Rate of Return on Assets Assumption The Company uses a September 30 measurement date for its pension and postretirement benefit plans. At September 30, 2003, the Company had 100% of the assets in its pension plans invested in cash. This allowed preservation of capital in early plan years when funded ratios were low and benefit payments certain. In the fourth quarter of 2003, the Company started the process of migrating plan assets towards long-term target allocations. The weighted-average asset allocations for their two U.S. pension plans at December 31, 2003 by asset category are as follows:
UNITED STATES PENSION BENEFITS ---------------- Equity securities 60.0% Debt securities 40.0% Other -- ---------------- Total 100.0% ================
To develop the expected long-term rate of return on assets assumption, the Company considered the future expectations for returns for each asset class, as well as the target asset allocation of the F-30 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) L. PENSIONS AND POSTRETIREMENT BENEFITS (Continued) pension portfolio. This resulted in the selection of the 8.50% long-term rate of return on assets assumption for 2003. This rate has been reduced to 7.50% for the year ending December 31, 2004. Investment Policies and Strategies The investments of the U.S. pension plans are managed with the primary focus of preservation of capital. Emphasis will be placed on participation with broad market movements during rising markets and preservation of capital during market contractions for investments in both debt and equity securities. The assets in the U.S. pension plans will be primarily invested in passively managed index funds. The portfolio will be re-balanced at least on an annual basis. The following assets and strategies are not used: private placements, venture capital, securities not publicly traded, options, commodities, future contracts, margin or leverage. Equity investments in any one company are limited to a maximum of 5% at the time of purchase and on a cost basis for each investment advisor. No foreign securities will be allowed in the portfolio unless available in American Depository Receipts (ADR's) on a U.S. exchange. No holding will represent more than 5% of the outstanding stock of the issuing company. Corporate bonds purchased will not be rated lower than Baa3 by Moody's or BBB- by Standard and Poor's. At no time will the lowest investment grade ratings make up more than 20% of the portfolio. No fixed income investment in any one issuer will comprise more than 3% of the total fixed income allocation at time of purchase. This limitation does not apply to U.S. Government securities or direct obligations of the U.S. Treasury. The maximum modified duration of the fixed income portfolio will not exceed 120% of the modified duration of the Lehman Intermediate Aggregate Bond Index. The following debt securities are prohibited: companion tranches or support bonds, floaters, inverse floaters, income only, principal only collateralized mortgage obligations (CMO's) and structured notes unless specifically allowed in writing. Contributions and Estimated Future Benefit Payments The Company expects to contribute $9.9 million to its U.S. pension plan and $0.1 million to its U.S. other benefit plans during 2004. F-31 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) L. PENSIONS AND POSTRETIREMENT BENEFITS (Continued) The following summarizes benefits expected to be paid by plan in each of the next five fiscal years, and in the aggregate for the five fiscal years thereafter:
UNITED STATES UNITED STATES (IN MILLIONS) PENSION PLAN OTHER BENEFIT PLANS ------------- ------------ ------------------- 2004 $ 0.2 $ 0.1 2005 0.3 0.2 2006 0.6 0.2 2007 0.9 0.3 2008 1.3 0.3 2009-2013 13.6 2.3
The Company's employees also participate in voluntary retirement savings plans for salaried and wage employees. Under provisions of these plans, eligible employees can receive a 50% matching on contributions up to the first 6% of their eligible earnings. Expense for defined contribution plans totaled $6.3 million, for the year ended December 31, 2003. Medicare Prescription Drug Act In January 2004, the FASB issued Financial Staff Position ("FSP") No. 106-1 "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act 2003." FSP 106-1 addresses the accounting and disclosure implications that are expected to arise as a result of the Medicare Prescription Drug, Improvement and Modernization Act (the "Act"). The Act introduced a prescription drug benefit under Medicare (Medicare Part D) as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. Under FSP No. 106-1, a plan sponsor may elect to defer recognizing the effects of the Act until authoritative guidance on the accounting for the federal subsidy is issued. The Company has not adopted the provisions of the Act and, accordingly, any measures of accumulated postretirement benefit obligation or net periodic postretirement benefit cost in the financial statements or accompanying notes do not reflect the Act. Specific authoritative guidance, when issued, could require the Company to change previously reported information. F-32 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) M. INCOME TAXES The provision for income taxes is calculated in accordance with SFAS No. 109, "Accounting for Income Taxes," which requires the recognition of deferred income taxes using the liability method. Tax valuation allowances were recorded in 2003. Income (loss) before income taxes as shown in the consolidated statement of operations consisted of the following:
(IN MILLIONS) - ---------------------- ~~Domestic $(31.5) Foreign 33.3 ------ Total $ 1.8 ======~~
A summary of income tax expense (benefit) in the consolidated statement of operations was as follows:
(IN MILLIONS) - ---------------------- Current: Federal $ -- Foreign 10.9 State -- ----- 10.9 Deferred: Federal -- State -- Foreign (1.7) ----- (1.7) ----- Total $ 9.2 =====
Deferred income taxes reflect the net tax effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and certain changes in valuation allowances. During 2003, we incurred losses for our domestic operations and for certain of our foreign operations. These cumulative losses and lack of prior earnings history provide substantial evidence regarding our inability to realize certain deferred tax assets. Accordingly, tax valuation allowances of $26.3 million have been recorded in 2003. F-33 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) M. INCOME TAXES (Continued) The significant components of deferred income tax assets and liabilities at December 31, 2003, are as follows:
(IN MILLIONS) - ---------------------------------------------------------- Deferred income tax assets: Pension accruals $ 11.6 Accrual for postretirement benefits other than pensions 1.8 Other nondeductible accruals 16.0 Reserve for environmental liabilities 7.2 Inventory 5.4 Hedging activities 3.9 Net operating loss carryovers and credits 97.9 Interest 19.6 Other 1.0 ------- Total deferred income tax assets 164.4 Less valuation allowance (70.8) ------- Net deferred income tax assets 93.6 Deferred income tax liabilities: Property, plant and equipment (109.7) Intangible amortization (2.0) ------- Total deferred income tax liabilities (111.7) ------- Net deferred income taxes $ (18.1) =======
At December 31, 2003, the Company had domestic net operating loss carryforwards of $195.7 million and tax credits of $6.4 million, which expire in 2021 through 2023. These domestic net operating loss and tax credit carryforwards may be used to offset a portion of future taxable income and thereby reduce our U.S. federal income taxes otherwise payable. The Internal Revenue Code of 1986, as amended, (the "Code"), imposes significant limitations on the utilization of net operating loss and tax credit carryforwards in the event of an "ownership change," as defined in Sections 382 and 383 of the Code. Our net operating loss carryforwards may be subject to limitation by virtue of these rules should a future ownership change occur. Additionally, the Company had foreign net operating loss carryforwards of $55.6 million at December 31, 2003 of which $16.4 million expires in years 2006 through 2018, and $39.2 million that have an indefinite carryforward period. Management has determined, based on the Company's cumulative losses and lack of prior earnings history, that it is uncertain that future taxable income of the Company will be sufficient to recognize certain of these net deferred tax assets. As a result, a valuation allowance of $70.8 million at December 31, 2003 has been recorded. This valuation allowance relates to net domestic deferred tax assets recorded in purchase accounting, acquired foreign net deferred tax assets associated with net operating losses and credits and deferred tax assets resulting from domestic and foreign tax net operating losses and credits generated subsequent to the Acquisition date. A significant portion of the F-34 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) M. INCOME TAXES (Continued) valuation allowance is associated with deferred tax assets established in purchase accounting. Any reversal of the valuation allowance that was recorded in purchase accounting would reduce goodwill. In the current year, a reduction of the valuation allowance of $9.2 million was allocated to goodwill as a result of changes in estimated deferred taxes recorded in purchase accounting. In determining the adequacy of the $70.8 million valuation allowance, management assessed the Company's profitability taking into account the present and anticipated amounts of domestic and international earnings as well as the anticipated taxable income as a result of the reversal of future taxable temporary differences. The Company will maintain tax valuation allowances for the balance of deferred tax assets until sufficient positive evidence (for example, cumulative positive domestic earnings and future taxable income) exists to support the reversal of the tax valuation allowances. The following table reconciles income taxes based on the statutory federal income tax rate to the Company's income tax expense:
(DOLLARS IN MILLIONS) - ---------------------------------------------- Income tax expense based on the statutory federal income tax rate $ 0.6 State and local taxes, net of federal benefit (0.9) Tax exempt income from foreign sales (0.3) Impact of foreign operations (12.5) Nondeductible interest 1.3 Domestic tax credits (5.9) Nondeductible business operating expenses 0.4 Other items 0.2 Valuation allowance 26.3 ------ Total income tax expense $ 9.2 ====== Effective income tax rate 511.1% ======
The Company has not provided for U.S. income and foreign withholding taxes on approximately $91.1 million of foreign subsidiaries' undistributed earnings as of December 31, 2003, because such earnings are intended to be reinvested indefinitely. Accordingly, no provision has been made for U.S. or foreign withholding taxes that may become payable if undistributed earnings of foreign subsidiaries were paid as dividends to the Company. The additional taxes that would result had such earnings actually been repatriated are not practically determinable. F-35 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) N. FAIR VALUES OF FINANCIAL INSTRUMENTS The estimated fair values of the financial instruments at December 31, 2003 are provided in the following table.
CARRYING FAIR AMOUNT VALUE -------- -------- (IN MILLIONS) Term Loan A $ 37.9 $ 38.3 Term Loan B 551.2 556.7 Subordinated notes 275.0 316.3 Seller note 165.9 165.9 Other 0.3 0.3
O. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS) Total accumulated other comprehensive income (loss) for the year ended December 31, 2003 consisted of the following:
NET CHANGE ACCUMULATED IN CASH CUMULATIVE OTHER FLOW TRANSLATION COMPREHENSIVE HEDGES ADJUSTMENT INCOME ------ ---------- ------------- (IN MILLIONS) BALANCE AT JANUARY 1, 2003 (14.7) 18.3 3.6 Net comprehensive income changes during the year 4.5 68.3 72.8 ------- ------- ------- BALANCE AT DECEMBER 31, 2003 $ (10.2) $ 86.6 $ 76.4 ======= ======= =======
P. BUSINESS SEGMENT INFORMATION The Company's operations are classified into three reportable business segments: Consumer Specialties, Specialty Materials and Performance Coatings. The accounting policies of the segments are the same as those described in Note B. The Consumer Specialties segment is a global producer of acrylic thickeners, film formers, fixatives, emollients, silicones, botanicals, active pharmaceutical ingredients and intermediates, benzoate preservatives, fragrances, synthetic food dyes and natural colorants. The Company markets products from the Consumer Specialties segment to the following primary end-use industries: personal care, pharmaceuticals, and food and beverage. The Consumer Specialties segment products are sold to customers worldwide. These customers include major manufacturers of cosmetics, personal care products, household products, soft drinks and food products. F-36 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) P. BUSINESS SEGMENT INFORMATION (Continued) The Specialty Materials segment is the largest global supplier of chlorinated polyvinyl chloride ("CPVC") resins and compounds and reactive liquid polymers ("RLP"), and is a leading North American producer of rubber and lubricant antioxidants and rubber accelerators. The Specialty Materials segment is also a leading producer of thermoplastic polyurethane ("TPU") and cross-linked polyethylene compounds ("PEX"). The Company markets Specialty Materials segment products through the primary product categories of specialty plastics and polymer additives. The Specialty Materials segment products are sold to a diverse customer base comprised of major manufacturers in the construction, automotive, telecommunications, electronics, recreation and aerospace industries. The Performance Coatings segment is a leading global producer of high-performance polymers for specialty paper, printing and packaging, industrial and architectural specialty coatings and textile applications. The Company markets the Performance Coatings segment through the primary product categories of performance polymers and coatings and textile performance chemicals. The Performance Coatings segment serves major companies in the specialty paper, printing and packaging, paint and coatings, and textile industries. Segment operating income is total segment revenue reduced by operating expenses identifiable with that business segment. Restructuring and severance costs are presented separately and corporate costs include general corporate administrative expenses that are not specifically identifiable with just one of the reportable business segments. The Company conducts business on a global basis with manufacturing and sales undertaken in various locations throughout the world. The Company's products are principally sold to customers in North America and Europe. Sales are attributed to geographic areas based on the country to which the product was shipped. The following tables summarize business segment information (in millions):
Sales: Consumer Specialties $ 328.7 Specialty Materials 428.6 Performance Coatings 378.6 ---------- Total sales $ 1,135.9 ==========
F-37 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) P. BUSINESS SEGMENT INFORMATION (Continued)
Operating income: Consumer Specialties $ 47.0 Specialty Materials 75.8 Performance Coatings 43.3 -------- Total segment operations income 166.1 Corporate costs (59.1) Restructuring and severance costs (13.2) -------- Total operating income $ 93.8 ======== Capital expenditures: Consumer Specialties $ 24.4 Specialty Materials 14.4 Performance Coatings 8.8 Corporate 9.0 -------- Total capital expenditures $ 56.6 ======== Depreciation and amortization expense: Consumer Specialties $ 26.1 Specialty Materials 34.8 Performance Coatings 20.1 Corporate 10.4 -------- Total depreciation and amortization $ 91.4 ======== Net sales: United States $ 674.2 Europe 231.7 Other foreign 230.0 -------- Total $1,135.9 ======== Assets: Consumer Specialties $ 493.7 Specialty Materials 606.0 Performance Coatings 420.9 Corporate 237.0 -------- Total assets $1,757.6 ======== Property: United States $ 483.1 Europe 182.0 Other foreign 17.8 -------- Total $ 682.9 ========
F-38 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) Q. SUPPLEMENTAL CASH FLOW INFORMATION The following table sets forth supplemental cash flow information, including information related to acquisitions accounted for under the purchase method (in millions):
Estimated fair value of tangible assets acquired $ 16.8 Liabilities assumed (0.7) Goodwill and identifiable intangible assets acquired 16.0 -------- Net cash paid, including fees and expenses $ 32.1 ======== Interest paid $ 66.7 ======== Income taxes paid $ 6.2 ======== Issuance of notes payable for interest payable $ 20.8 ========
R. STOCK OPTIONS Certain eligible employees of the Company participate in the Company's Amended and Restated Stock Option Plan (the "Plan"). Options granted by the Company vest on each of the first five anniversaries of the grant date at 20% per year subject to continued employment. The term of each option cannot exceed 10 years from the date of grant. All options granted under the Plan have been granted at not less than 100% of market value, as determined by the board of directors of the Company, on the date of grant. Pro forma information regarding net income is required by SFAS No. 123, "Accounting for Stock-Based Compensation," and has been determined as if the Company had accounted for its employee stock options under the fair value method described within that statement. The fair value for these options was estimated using the Black-Scholes pricing method with the following weighted-average assumptions:
Risk-free rate 3.6% Dividend yield 0.0% Expected volatility percentage 41.7% Expected life of options 7 years
The option pricing method requires the input of highly subjective assumptions that can materially affect the fair value estimate. The weighted-average fair value of stock options granted by the Company during 2003 was $72.02. F-39 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) R. STOCK OPTIONS (Continued) Stock option activity relating to the Company was as follows for the year ended December 31, 2003:
WEIGHTED AVERAGE (OPTIONS IN THOUSANDS) OPTIONS EXERCISE PRICE - ------------------------------------------ ------- -------------- Outstanding at January 1, 2003 316.9 128.57 Granted 47.0 147.00 Forfeited (13.3) 128.57 ------ Outstanding at December 31, 2003 350.6 $131.04 ======
There were 119,224 options exercisable at December 31, 2003. S. RELATED PARTY TRANSACTIONS The Company entered into a management agreement with each of AEA, Deutsche Bank Securities Inc., which was an affiliate of MidOcean through February 20, 2003, and DLJ Merchant Banking. Under the management agreements, the Company will pay AEA, DLJ Merchant Banking and Mid Ocean an annual fee of $1.9 million, $1.1 million and $0.5 million, respectively, plus reasonable out-of-pocket expenses as compensation for the appointed directors, various advisory and consulting services and for monitoring and management costs, as applicable. In addition, the Company F-40 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) S. RELATED PARTY TRANSACTIONS (Continued) agreed to indemnify AEA, DLJ Merchant Banking and MidOcean and their respective affiliates for liabilities arising from their actions under the management agreements. The management agreements will remain in effect for as long as the stockholders agreement among the Company, AEA, DLJ Merchant Banking and MidOcean is in effect. The Company entered into an advisory services agreement, dated as of February 5, 2001, with Credit Suisse First Boston LLC. Under the advisory services agreement, the Company pays Credit Suisse First Boston LLC an annual fee of $0.5 million plus reasonable out-of-pocket expenses as compensation for strategic and financial planning advisory services. In addition, the Company agreed to indemnify Credit Suisse First Boston LLC and its respective affiliates for liabilities arising from their actions under the advisory services agreement. For the year ended December 31, 2003, the Company recognized management fee expense of $4.0 million. The Company sponsors an employee stock purchase plan which provides for certain employees of the Company to purchase shares of the Company's common stock as a purchase price determined by the board of directors. The Company's CEO purchased $1.0 million of common stock under the plan in exchange for a full recourse note during 2001. The note carries interest at 7% and is due on November 30, 2011. The note, amounting to $1.2 million, including accrued interest, is included as a separate component of stockholders' equity on the consolidated balance sheet at December 31, 2003. During the year ended December 31, 2003, directors and employees purchased 8,018 shares for an aggregate price of $1.2 million, which was equal to the fair value of the shares as determined by the board of directors. T. COMMITMENTS AND CONTINGENCIES CONTINGENCIES The Company and its subsidiaries have numerous purchase commitments for materials, supplies and energy in the ordinary course of business. The Company and its subsidiaries have numerous sales commitments for product supply contracts in the ordinary course of business. GENERAL There are pending or threatened against the Company or our subsidiaries various claims, lawsuits and administrative proceedings, all arising from the ordinary course of business with respect to commercial, product liability, and environmental matters, which seek remedies or damages. The Company believes that any liability that may finally be determined with respect to commercial and product liability claims should not have a material adverse effect on our consolidated financial position, results of operations or cash flows. From time to time, we are also involved in legal proceedings as a F-41 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) T. COMMITMENTS AND CONTINGENCIES (Continued) plaintiff involving contract, patent protection, environmental and other matters. Gain contingencies, if any, are recognized when they are realized. ENVIRONMENTAL The Company and its subsidiaries are generators of both hazardous and non-hazardous wastes, the treatment, storage, transportation and disposal of which are regulated by various laws and governmental regulations. Although the Company believes past operations were in substantial compliance with the then-applicable regulations, either the Company or the Performance Materials Segment of Goodrich have been designated as a potentially responsible party ("PRP") by the U.S. Environmental Protection Agency ("EPA"), or similar state agencies, in connection with several disposal sites. These laws and regulations, including the Comprehensive Environmental Response, Compensation and Liability Act of 1980 and similar state laws, generally impose liability for costs to investigate and remediate contamination without regard to fault and under certain circumstances liability may be joint and several resulting in one responsible party being held responsible for the entire obligation. Liability may also include damages to natural resources. The Company initiates corrective and/or preventive environmental projects to ensure environmental compliance and safe and lawful activities at its current operations. The Company also conducts a compliance and management systems audit program. The Company's environmental engineers and consultants review and monitor environmental issues at past and existing operating sites, as well as off-site disposal sites at which the Company has been identified as a PRP. This process includes investigation and remedial action selection and implementation, as well as negotiations with other PRPs and governmental agencies. Our estimates of environmental liabilities are based on the results of this process. Goodrich provided the Company with an indemnity for various environmental liabilities. The Company estimates Goodrich's share of such currently identified liabilities under the indemnity, which extends to 2011, to be about $8.1 million. In addition to Goodrich's indemnity, several other indemnities from third parties such as past owners relate to specific environmental liabilities. Goodrich and other third party indemnitors are currently indemnifying the Company for several environmental remediation projects. Goodrich's share of all of these liabilities may increase to the extent such third parties fail to honor their indemnity obligations through 2011. The Company's December 31, 2003 balance sheet includes liabilities, measured on an undiscounted basis, of $19.0 million to cover future environmental expenditures either payable by the Company or indemnifiable by Goodrich. Accordingly, the current portion of the environmental obligations of $0.8 million is recorded in accrued expenses and $1.4 million of the recovery due from Goodrich is recorded in accounts receivable. Non-current liabilities include $18.2 million and other non-current assets include $6.7 million reflecting the recovery due from Goodrich. F-42 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) T. COMMITMENTS AND CONTINGENCIES (Continued) The following table summarizes the activity in the environmental liability from January 1, 2003 to December 31, 2003 (in millions):
BALANCE AT JANUARY 1, 2003 19.1 Payments in 2003 (0.1) ------- BALANCE AT DECEMBER 31, 2003 $ 19.0 =======
The Company believes that its environmental accruals are adequate based on currently available information. The Company believes that it is reasonably possible that additional costs may be incurred beyond the amounts accrued as a result of new information, newly discovered conditions or a change in the law. Additionally, as the indemnification from Goodrich extends through 2011, changes in assumptions regarding when costs will be incurred may result in additional expenses to the Company. However, the additional costs, if any, cannot currently be estimated. F-43 U. PARENT COMPANY FINANCIAL STATEMENTS As disclosed in Note J, substantially all of the net assets of Noveon, Inc. are restricted from transfer, subject to certain restricted payment provisions, to Noveon International, Inc. As a result, the Company has presented the following condensed financial statements of Noveon International, Inc., the parent company, at December 31, 2003 and for the year then ended (in millions):
INCOME STATEMENT DATA - ---------------------------------------------------------- Interest expense 20.4 ----- Loss before income taxes (20.4) Income tax benefit -- ----- Loss before equity earnings of Subsidiary (20.4) Earnings of subsidiary 12.5 ----- NET LOSS $(7.9) =====

BALANCE SHEET DATA - ------------------------------------------------- ASSETS CURRENT ASSETS Cash and cash equivalents $ 1.2 ------ Total current assets 1.2 Investment in Subsidiary 585.0 Other assets 3.8 ------ Total assets $590.0 ====== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accrued expenses and other current liabilities $ 9.2 ------ TOTAL CURRENT LIABILITIES 9.2 Long-term debt 165.9 Payable to Subsidiary 2.6 TOTAL STOCKHOLDERS' EQUITY 412.3 ------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $590.0 ======
F-44 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) U. PARENT COMPANY FINANCIAL STATEMENTS (Continued)
CASH FLOW DATA - ------------------------------------------------------------ OPERATING ACTIVITIES Net cash provided by operating activities $ 0.2 INVESTING ACTIVITIES Net cash (used) by investing activities -- FINANCING ACTIVITIES Issuance of common stock 1.2 Redemption of common stock (0.2) ----- Net cash provided by financing activities 1.0 ----- Net increase in cash and cash equivalents 1.2 Cash and cash equivalents at beginning of period -- ----- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 1.2 =====
F-45 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) V. QUARTERLY FINANCIAL DATA (UNAUDITED) Summary data relating to the results of operations for each quarter of the year ended December 31, 2003 follows:
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER --------- --------- --------- --------- IN MILLIONS, EXCEPT PER SHARE AMOUNTS) Net sales $ 282.3 $ 294.0 $ 278.8 $ 280.8 Gross profit 81.8 85.8 79.3 79.6 Restructuring and severance costs 2.0 1.1 0.5 9.6 Operating income 25.8 30.7 25.3 12.0 Income (loss) before cumulative effect of accounting change 1.0 5.6 0.5 (14.5) Cumulative effect of accounting change--net of tax (0.5) -- -- -- Net income (loss) 0.5 5.6 0.5 (14.5) Net income (loss) per share--basic $ 0.14 $ 1.56 $ 0.14 $ (4.02) Net income (loss) per share--diluted $ 0.14 $ 1.54 $ 0.14 $ (4.02)
F-46 W. SUBSEQUENT EVENTS On June 3, 2004, all of the Company's outstanding common stock was acquired by a wholly-owned subsidiary of The Lubrizol Corporation ("Lubrizol") for cash of $0.9 billion and the assumption of approximately $1.1 billion of long-term indebtedness. Immediately after the acquisition, the acquiring subsidiary was merged into the Company and the Company became a wholly-owned subsidiary of Lubrizol. Similar to the Company, Lubrizol is a global producer and marketer of high-performance, specialty chemicals. The acquisition and related costs were financed with the proceeds of a $2.45 billion 364 day temporary bridge loan which bears interest at LIBOR plus 1.25%. Shortly after the acquisition, Lubrizol repaid substantially all of the Company's long-term indebtedness with proceeds of the temporary bridge loan, which is expected to be replaced with the proceeds of permanent financing to be obtained in the future in the form of a term loan, debt securities and an equity issuance. The repayment of the debt securities is expected to be fully and unconditionally guaranteed on a joint and several basis by all direct and indirect, 100 percent owned, domestic subsidiaries of Lubrizol, including the Company and its domestic subsidiaries. The following supplemental condensed consolidating financial information presents the balance sheet of the Company as of December 31, 2003 and its statements of operations and cash flows for the year then ended and provides information regarding Noveon International, Inc. (the "Parent Company") and its guarantor and non-guarantor subsidiaries (in millions).
Guarantor Non-Guarantor Income Statement Data Parent Subsidiaries Subsidiaries Eliminations Total - --------------------- ---------- ------------ ------------- ------------ -------- Sales $ -- $ 860.2 $ 409.9 $ (134.2) $ 1,135.9 Cost of sales -- 639.2 304.4 (134.2) 809.4 ---------- ---------- ---------- ---------- ---------- Gross profit -- 221.0 105.5 -- 326.5 Selling and administrative expenses -- 142.9 61.9 -- 204.8 Amortization of intangibles -- 9.9 4.8 -- 14.7 Restructuring and severance costs -- 7.9 5.3 -- 13.2 ---------- ---------- ---------- ---------- ---------- Operating income -- 60.3 33.5 -- 93.8 Interest expense-net 20.4 70.0 0.5 -- 90.9 Other expense-net -- -- 1.1 -- 1.1 Equity In income of subsidiaries 12.5 22.2 -- (34.7) -- ---------- ---------- ---------- ---------- ---------- Income (loss) before income taxes (7.9) 12.5 31.9 (34.7) 1.8 Income tax expense -- -- 9.2 -- 9.2 ---------- ---------- ---------- ---------- ---------- Net income (loss) before cumulative effect of accounting change (7.9) 12.5 22.7 (34.7) (7.4) Cumulative effect of accounting change - net of tax -- -- 0.5 -- 0.5 ---------- ---------- ---------- ---------- ---------- Net income (loss) $ (7.9) $ 12.5 $ 22.2 $ (34.7) $ (7.9) ========== ========== ========== ========== ==========
F-47 W. SUBSEQUENT EVENTS (CONTINUED)
Guarantor Non-Guarantor Balance Sheet Data Parent Subsidiaries Subsidiaries Eliminations Total - ------------------ ---------- ------------ ------------- ------------ ---------- CURRENT ASSETS Cash and cash equivalents $ 1.2 $ 22.6 $ 93.0 $ -- $ 116.8 Accounts and notes receivable -- 81.1 68.7 -- 149.8 Inventories -- 105.0 62.3 (5.6) 161.7 Deferred income taxes -- 11.5 -- (2.0) 9.5 Prepaid expenses and other current assets -- 5.9 2.0 -- 7.9 ---------- ---------- ---------- ---------- ---------- TOTAL CURRENT ASSETS 1.2 226.1 226.0 (7.6) 445.7 Property, plant and equipment-net -- 483.1 199.8 -- 682.9 Goodwill - net -- 245.8 170.2 -- 416.0 Technology intangible assets - net -- 86.7 45.0 -- 131.7 Identifiable intangible assets - net -- 29.3 11.9 -- 41.2 Receivable from Parent -- 1.4 -- (1.4) -- Investment in subsidiaries and intercompany balances 582.4 558.2 (72.0) (1,068.6) -- Other assets 3.8 38.5 1.0 (3.2) 40.1 ---------- ---------- ---------- ---------- ---------- TOTAL ASSETS $ 587.4 $ 1,669.1 $ 581.9 $ (1,080.8) $ 1,757.6 ========== ========== ========== ========== ========== CURRENT LIABILITIES Accounts payable $ -- $ 84.6 $ 45.5 $ -- $ 130.1 Accrued expenses 9.2 65.8 7.3 (2.0) 80.3 Income taxes payable -- -- 6.7 -- 6.7 Current maturities of debt -- 15.8 -- -- 15.8 ---------- ---------- ---------- ---------- ---------- TOTAL CURRENT LIABILITIES 9.2 166.2 59.5 (2.0) 232.9 Long-term debt 165.9 848.3 0.3 -- 1,014.5 Accrued pensions -- 22.0 9.0 -- 31.0 Postretirement benefits other than pensions -- 5.7 -- -- 5.7 Accrued environmental -- 18.2 -- -- 18.2 Deferred income taxes -- 11.5 18.1 (2.0) 27.6 Other non-current liabilities -- 12.2 3.2 -- 15.4 ---------- ---------- ---------- ---------- ---------- TOTAL LIABILITIES 175.1 1,084.1 90.1 (4.0) 1,345.3 ---------- ---------- ---------- ---------- ---------- Total stockholders' equity 412.3 585.0 491.8 (1,076.8) 412.3 ---------- ---------- ---------- ---------- ---------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 587.4 $ 1,669.1 $ 581.9 $ (1,080.8) $ 1,757.6 ========== ========== ========== ========== ==========
F-48 W. SUBSEQUENT EVENTS (CONTINUED)
Guarantor Non-Guarantor Cash Flow Data Parent Subsidiaries Subsidiaries Eliminations Total - -------------- ---------- ------------ ------------- ------------ ---------- Net income (loss) $ (7.9) $ 12.5 $ 22.2 $ (34.7) $ (7.9) Adjustments to reconcile net income (loss) to net cash provided by operating activities 8.1 54.2 28.9 34.7 125.9 ---------- ---------- ---------- ---------- ---------- Net cash provided by operating activities 0.2 66.7 51.1 -- 118.0 Investing activities: Purchases of property, plant and equipment -- (40.9) (15.7) -- (56.6) Payments made in connection with acquisitions, net of cash acquired -- (29.2) (2.9) -- (32.1) ---------- ---------- ---------- ---------- ---------- Net cash (used) by investing activities -- (70.1) (18.6) -- (88.7) Financing activities: Decrease in short-term debt -- -- (0.4) -- (0.4) Debt issuance costs -- (1.8) -- -- (1.8) Issuance of common stock to employees 1.2 -- -- -- 1.2 Redemption of common stock (0.2) -- -- -- (0.2) ---------- ---------- ---------- ---------- ---------- Net cash (used) provided by financing activities 1.0 (1.8) (0.4) -- (1.2) Effect of exchange rate on cash -- -- 9.2 -- 9.2 ---------- ---------- ---------- ---------- ---------- Net increase (decrease) in cash and cash equivalents 1.2 (5.2) 41.3 -- 37.3 Cash and cash equivalents at beginning of period -- 27.8 51.7 -- 79.5 ---------- ---------- ---------- ---------- ---------- Cash and cash equivalents at end of period $ 1.2 $ 22.6 $ 93.0 $ -- $ 116.8 ========== ========== ========== ========== ==========
F-49 EX-99.4 7 l07565aexv99w4.txt EXHIBIT 99.4 CONSOLIDATED FIN STMTS OF NOVEON FORM THE THREE MONTH PERIOD ENDED MARCH 31, 2004 Exhibit 99.4 NOVEON INTERNATIONAL, INC. Condensed Consolidated Income Statement Three Months Ended March 31, 2004 (dollars in millions)
(unaudited) Sales $ 321.6 Cost of sales 227.6 ----------------- Gross profit 94.0 Selling and administrative expenses 55.7 Amortization expense 3.8 Restructuring and severance costs 2.8 ----------------- Operating income 31.7 Interest expense 23.0 Interest(income) (0.4) Gain on sale of assets (0.7) Other expense--net 0.1 ----------------- Income before income taxes 9.7 Income tax expense 2.5 ----------------- Net income $ 7.2 =================
Net income per basic share $ 2.01 ================= Net income per dilutive share $ 1.99 =================

See notes to condensed consolidated financial statements. F-1 NOVEON INTERNATIONAL, INC. Condensed Consolidated Balance Sheet March 31, 2004 (dollars in millions)
------------------- (unaudited) ASSETS CURRENT ASSETS Cash and cash equivalents $ 94.8 Accounts and notes receivable, net of allowances ($7.7 at March 31, 2004) 180.9 Inventories 164.7 Deferred income taxes 9.5 Prepaid expenses and other current assets 12.2 ------------------- TOTAL CURRENT ASSETS 462.1 Property, plant and equipment--net 671.7 Goodwill 422.9 Identifiable intangible assets--net 170.2 Other assets 39.2 ------------------- TOTAL ASSETS $ 1,766.1 =================== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable $ 134.2 Accrued expenses 65.0 Income taxes payable 8.8 Current maturities of long-term debt 16.2 ------------------- TOTAL CURRENT LIABILITIES 224.2 Long-term debt 1,030.5 Postretirement benefits other than pensions 5.8 Accrued pensions 32.5 Deferred income taxes 27.6 Accrued environmental 18.6 Other non-current liabilities 14.5 STOCKHOLDERS' EQUITY Common stock - Paid in capital 361.0 Retained deficit (16.7) Accumulated other comprehensive income 69.3 Other (1.2) ------------------- TOTAL STOCKHOLDERS' EQUITY 412.4 ------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,766.1 ===================
See notes to condensed consolidated financial statements. F-2 NOVEON INTERNATIONAL, INC. Condensed Consolidated Statement of Cash Flows Three Months Ended March 31, 2004 (dollars in millions)
(unaudited) OPERATING ACTIVITIES Net income $ 7.2 Adjustments to reconcile net income to net cash (used) provided by operating activities: Depreciation and amortization 23.6 Gain on sale of assets (0.7) Debt issuance cost amortization in interest expense 1.3 Interest on seller note not paid in cash 5.5 Change in operating assets and liabilities, net of effects of acquisitions of businesses (41.6) --------------------- NET CASH (USED) BY OPERATING ACTIVITIES (4.7) INVESTING ACTIVITIES Purchases of property, plant and equipment (11.8) Payments made in connection with acquisitions, net of cash acquired (13.3) Proceeds from sale of assets 0.8 --------------------- NET CASH (USED) BY INVESTING ACTIVITIES (24.3) FINANCING ACTIVITIES Net proceeds from borrowings on revolving credit facility 13.3 Payments on long-term borrowings (4.8) --------------------- NET CASH PROVIDED BY FINANCING ACTIVITIES 8.5 Effect of exchange rate changes on cash and cash equivalents (1.5) --------------------- Net decrease in cash and cash equivalents (22.0) Cash and cash equivalents at beginning of period 116.8 --------------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 94.8 =====================
See notes to condensed consolidated financial statements. F-3 NOVEON INTERNATIONAL, INC. Three Months Ended March 31, 2004 Notes to Condensed Consolidated Financial Statements (unaudited) A. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004. Noveon International, Inc. (the "Company") owns 100% of Noveon, Inc. (the "Subsidiary"). B. ACQUISITIONS In January 2004, the Company purchased Scher Chemicals, Inc., a manufacturer of emollient and surfactant specialty chemicals used in cosmetic and other personal care formulations for the Consumer Specialties segment. Final determinations of the fair value of certain assets and liabilities are in process. Accordingly, the preliminary purchase price allocations are subject to revision. The aggregate purchase price of $13.3 million paid for this acquisition was allocated to the assets acquired and liabilities assumed and resulted in goodwill of $11.2 million. F-4 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) C. EARNINGS PER SHARE Basic earnings per common share ("EPS") is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. The weighted-average number of common shares outstanding for computing basic EPS was 3,606,133 for the three months ended March 31, 2004. Diluted EPS reflects the potential dilution that could occur if stock options were exercised or converted into common stock. The dilutive effect of the stock options increases the weighted average number of common shares outstanding for the three months ended March 31, 2004 by 38,066. The basic and diluted net income per common share for the three months ended March 31, 2004 is as follows:
Net income per basic share $ 2.01 =================== Net income per dilutive share $ 1.99 ===================
F-5 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) D. INVENTORIES The components of inventory consist of the following at March 31, 2004 (in millions):
Finished products $ 119.7 Work in process 3.4 Raw materials 41.6 -------------------- $ 164.7 ====================
At March 31, 2004, LIFO inventory approximated first-in, first-out (FIFO) cost. E. INCOME TAXES The provision for income taxes is calculated in accordance with SFAS No. 109, "Accounting for Income Taxes," which requires the recognition of deferred income taxes using the liability method. For the three months ended March 31, 2004, the effective tax rate differed from the federal statutory rate principally due to decreases in the income tax rate as a result of certain income tax credits. In addition, decreases in the income tax rate resulted from the reversal of tax F-6 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) E. INCOME TAXES (CONTINUED) valuation allowances previously recorded for the Company's domestic operations. The decreases in the effective tax rate from the federal statutory rate were partially offset by higher tax valuation allowance amounts associated with losses incurred by the Company's foreign businesses, the impact of foreign operations, nondeductible interest expense and other nondeductible business operating expenses. As of March 31, 2004, management has determined that it is uncertain that future taxable income of the Company will be sufficient to recognize certain of these net deferred tax assets. As a result, under the provisions of SFAS No. 109, a valuation allowance of $71.4 million has been recorded at March 31, 2004. This valuation allowance relates to net domestic deferred tax assets established in purchase accounting, acquired foreign net deferred tax assets associated with net operating losses and credits and deferred tax assets from domestic and foreign tax net operating losses and credits arising subsequent to March 1, 2001. Any reversal of the valuation allowance that was established in purchase accounting would reduce goodwill. For the three months ended March 31, 2004, a reduction of the valuation allowance of $0.2 million has been allocated to goodwill. In determining the adequacy of the $71.4 million valuation allowance, management assessed the Company's profitability taking into account cumulative and anticipated amounts of domestic and international earnings as well as the anticipated taxable income as a result of the reversal of future taxable temporary differences. The Company will maintain the tax valuation allowances for the balance of deferred tax assets until sufficient positive evidence (for example, cumulative positive earnings and future taxable income) exists to support a reversal of the tax valuation allowances. F. SEGMENT INFORMATION Consistent with the Company's focus on industries and end-use applications, its operations are organized into three reportable business segments: Consumer Specialties, Specialty Materials and Performance Coatings. Segment operating income is total segment revenue reduced by operating expenses identifiable within that business segment. Restructuring and severance costs are presented separately and corporate costs include general corporate administrative expenses that are not specifically identifiable with just one of the reportable business segments. F-7 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) F. SEGMENT INFORMATION (CONTINUED) The following tables summarize business segment information (in millions):
Sales Consumer Specialties $ 95.4 29.7% Specialty Materials 126.2 39.2 Performance Coatings 100.0 31.1 --------------------------- Total sales $ 321.6 100.0% =========================== Gross profit Consumer Specialties $ 27.1 28.4% Specialty Materials 42.7 33.8 Performance Coatings 24.2 24.2 ---------------- Total gross profit $ 94.0 29.2% ================ Operating income Consumer Specialties $ 14.2 14.9% Specialty Materials 23.7 18.8 Performance Coatings 11.9 11.9 ---------------- Total segment operating income $ 49.8 15.5% Corporate costs (15.3) (4.8) Restructuring and severance costs (2.8) (0.9) --------------------------- Total operating income $ 31.7 9.8% ===========================
G. COMPREHENSIVE INCOME Total comprehensive income consists of the following (in millions):
Net income $ 7.2 Net change related to cash flow hedges 0.6 Cumulative translation adjustment (7.7) -------------------- Total comprehensive income $ 0.1 ====================
F-8 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) H. STOCK-BASED COMPENSATION The Company has a stock option plan in which certain eligible employees of the Company participate. The Company accounts for stock-based employee compensation using the intrinsic value method in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under the plan had an exercise price at or greater than the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income if the Company had applied the fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," to stock-based employee compensation (in millions).
Net income as reported $ 7.2 Deduct: total stock-based employee compensation expense determined under the fair value based method for all awards, net of related tax effects (0.7) ------- Pro forma net income $ 6.5 ======= Reported net income per basic share $ 2.01 ======= Pro forma net income per basic share $ 1.82 ======= Reported net income per diluted share $ 1.99 ======= Pro forma net income per diluted share $ 1.80 =======
The effects of applying SFAS No. 123 may not be representative of the effects on reportable net income in future years. I. RESTRUCTURING AND SEVERANCE COSTS In 2003, the Company announced the relocation of the Sancure(R) polyurethane dispersions line, part of the Company's Performance Coatings segment, to its Avon Lake, Ohio facility and the closing of the Leominster, Massachusetts facility. Production is expected to be completely shifted to the Avon Lake site by the end of 2004. In conjunction with the announced closing of the Leominster facility, the Company performed an evaluation of the ongoing value of the long-lived assets at that facility. The Company determined that the long-lived assets were impaired and no longer recoverable. As a result, the long-lived asset carrying value was written down to its estimated fair value of $1.4 million, which was determined by an independent appraisal, and an impairment charge of $5.7 million was recorded. Additionally, in 2003, in order to increase efficiency and productivity and to reduce costs, the Company reduced headcount at various administrative and manufacturing facilities. F-9 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) I. RESTRUCTURING AND SEVERANCE COSTS (CONTINUED) Through these restructuring efforts, the Company planned to eliminate approximately 80 positions across all segments. Approximately 70% of the affected employees have left their positions as of March 31, 2004. In conjunction with these restructuring plans, the Company recorded severance costs of $6.6 million pursuant to its existing severance plan. As of March 31, 2004, $2.4 million remains accrued related to these restructurings with substantially all of the remaining costs anticipated to be paid by the end of 2004. In June 2001, in order to increase efficiency and productivity, reduce costs and support the Company's global growth strategy, the Company reduced headcount at facilities throughout its global operations, restructured its colorants business in Cincinnati, Ohio, and discontinued its flush pigments and colorformers product lines. Through these restructuring efforts, the Company planned to eliminate approximately 440 positions. All of the affected employees have left their positions as of March 31, 2004 and the remaining personnel-related costs are anticipated to be paid by 2007. In the first quarter of 2004, the Company recorded $2.4 million of restructuring and severance costs in conjunction with this restructuring plan, which consisted of expenses related to the buy-out of a foreign pension plan associated with a closed facility as mandated by a change in local employment laws. The restructuring accrual is summarized below:
BALANCE BALANCE JANUARY 1, MARCH 31, 2004 PROVISION ACTIVITY 2004 --------------- --------------- --------------- --------------- (IN MILLIONS) PERSONNEL-RELATED COSTS 2003 Restructurings.......................... $ 2.7 $ 0.4 $ (0.7) $ 2.4 2001 Restructurings......................... 1.3 2.4 (0.2) 3.5 FACILITY CLOSURE COSTS 2002 Restructurings.......................... 0.1 - - 0.1 2001 Restructurings.......................... 0.3 - (0.1) 0.2 --------------- --------------- --------------- --------------- $ 4.4 $ 2.8 $ (1.0) $ 6.2 =============== =============== =============== ================
F-10 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) J. PENSIONS AND POSTRETIREMENT BENEFITS Components of Net Periodic Benefit Cost The components of net periodic benefit cost for the three months ended March 31, 2004 consist of the following (in millions):
UNITED STATES EUROPEAN UNITED STATES PENSION BENEFITS PENSION BENEFITS OTHER BENEFITS -------------------------------------------------------------------- Components of net periodic benefit cost: Service cost.............................. $ 1.0 $ 0.5 $ - Interest cost............................. 0.8 0.3 0.1 Expected return on plan assets............ (0.2) (0.1) - Amortization of prior service cost........ 0.1 - - ------------ ------------ ------------ Total net periodic benefit cost.............. $ 1.7 $ 0.7 $ 0.1 ============ ============ ============
Medicare Prescription Drug Act In March 2004, the FASB issued Financial Staff Position ("FSP") No. 106-b "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act 2003." FSP 106-b addresses the accounting and disclosure implications that are required as a result of the Medicare Prescription Drug, Improvement and Modernization Act (the "Act"). The Act introduced a prescription drug benefit under Medicare (Medicare Part D) as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. Under FSP No. 106-b, a plan sponsor may elect to defer recognizing the effects of the Act until authoritative guidance on the accounting for the federal subsidy is issued. The Company has not adopted the provisions of the Act and, accordingly, any measures of accumulated postretirement benefit obligation or net periodic postretirement benefit cost in the financial statements or accompanying notes do not reflect the Act. The adoption of this FSP could require the Company to change previously reported information. K. CONTINGENCIES The Company and its subsidiaries have numerous purchase commitments for materials, supplies and energy in the ordinary course of business. The Company and its subsidiaries have numerous sales commitments for product supply contracts in the ordinary course of business. F-11 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) K. CONTINGENCIES (CONTINUED) GENERAL. There are pending or threatened claims, lawsuits and administrative proceedings against the Company or its subsidiaries, all arising from the ordinary course of business with respect to commercial, product liability and environmental matters, which seek remedies or damages. The Company believes that any liability that may finally be determined with respect to commercial and product liability claims should not have a material adverse effect on the Company's consolidated financial position, results of operations or cash flows. From time to time, the Company is also involved in legal proceedings as a plaintiff involving contract, patent protection, environmental and other matters. Gain contingencies, if any, are recognized when they are realized. ENVIRONMENTAL. The Company and its subsidiaries are generators of both hazardous and non-hazardous wastes, the treatment, storage, transportation and disposal of which are regulated by various laws and governmental regulations. Although the Company believes past operations were in substantial compliance with the then-applicable regulations, either the Company or the Performance Materials Segment of Goodrich have been designated as a potentially responsible party ("PRP") by the U.S. Environmental Protection Agency ("EPA"), or similar state agencies, in connection with several disposal sites. These laws and regulations, including the Comprehensive Environmental Response, Compensation and Liability Act of 1980 and similar state laws, generally impose liability for costs to investigate and remediate contamination without regard to fault and under certain circumstances liability may be joint and several resulting in one responsible party being held responsible for the entire obligation. Liability may also include damages to natural resources. The Company initiates corrective and/or preventive environmental projects to ensure environmental compliance and safe and lawful activities at its current operations. The Company also conducts a compliance and management systems audit program. The Company's environmental engineers and consultants review and monitor environmental issues at past and existing operating sites, as well as off-site disposal sites at which the Company has been identified as a PRP. This process includes investigation and remedial action selection and implementation, as well as negotiations with other PRPs and governmental agencies. Our estimates of environmental liabilities are based on the results of this process. Goodrich provided the Company with an indemnity for various environmental liabilities. The Company estimates Goodrich's share of such currently identified liabilities under the indemnity, which extends to 2011, to be about $8.1 million. In addition to Goodrich's indemnity, several other indemnities from third parties such as past owners relate to specific environmental liabilities. Goodrich and other third party indemnitors are currently indemnifying the Company for several environmental remediation projects. Goodrich's share of all of these liabilities may increase to the extent such third parties fail to honor their indemnity obligations through 2011. F-12 NOVEON INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) K. CONTINGENCIES (CONTINUED) The Company's March 31, 2004 balance sheet includes liabilities, measured on an undiscounted basis, of $19.4 million to cover future environmental expenditures either payable by the Company or indemnifiable by Goodrich. Accordingly, the current portion of the environmental obligations of $0.8 million is recorded in accrued expenses and $1.4 million of the recovery due from Goodrich is recorded in accounts receivable. Non-current liabilities include $18.6 million and other non-current assets include $6.7 million reflecting the recovery due from Goodrich. The Company believes that its environmental accruals are adequate based on currently available information. The Company believes that it is reasonably possible that additional costs may be incurred beyond the amounts accrued as a result of new information, newly discovered conditions or a change in the law. Additionally, as the indemnification from Goodrich extends through 2011, changes in assumptions regarding when costs will be incurred may result in additional expenses to the Company. However, the additional costs, if any, cannot currently be estimated. L. PARENT COMPANY FINANCIAL STATEMENTS Substantially all of the net assets of Noveon, Inc. are restricted from transfer, subject to certain restricted payment provisions, to the Company. As a result, the Company has presented the following condensed financial statements of Noveon International, Inc., the parent company, at March 31, 2004 and the three months ended March 31, 2004 as follows (in millions):
INCOME STATEMENT DATA Interest expense--net $ 5.5 ------------------- Loss before income taxes (5.5) Income tax benefit (0.4) ------------------- Loss before equity in earnings of subsidiary (5.1) Earnings of subsidiary 12.3 ------------------- Net income $ 7.2 ===================
F-13 NOVEON INTERNATIONAL, INC. Notes to Condensed Consolidated Financial Statements (unaudited) (continued) L. PARENT COMPANY FINANCIAL STATEMENTS (CONTINUED)
BALANCE SHEET DATA ASSETS CURRENT ASSETS: Cash and cash equivalents $ 1.2 ----------------- TOTAL CURRENT ASSETS 1.2 Investment in subsidiary 590.2 Other assets 2.2 ----------------- TOTAL ASSETS $ 593.6 ================= LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Accrued expenses and other current liabilities $ 1.9 ----------------- TOTAL CURRENT LIABILITIES 1.9 Long-term debt 176.7 Payable to subsidiary 2.6 TOTAL STOCKHOLDERS' EQUITY 412.4 ----------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 593.6 =================
M. SUBSEQUENT EVENTS On June 3, 2004, all of the Company's outstanding common stock was acquired by a wholly-owned subsidiary of The Lubrizol Corporation ("Lubrizol") for cash of $0.9 billion and the assumption of approximately $1.1 billion of long-term indebtedness. Immediately after the acquisition, the acquiring subsidiary was merged into the Company and the Company became a wholly-owned subsidiary of Lubrizol. Similar to the Company, Lubrizol is a global producer and marketer of high-performance, specialty chemicals. The acquisition and related costs were financed with the proceeds of a $2.45 billion 364 day temporary bridge loan which bears interest at LIBIOR plus 1.25%. Shortly after the acquisition, Lubrizol repaid substantially all of the Company's long-term indebtedness with proceeds of the temporary bridge loan, which is expected to be replaced with the proceeds of permanent financing to be obtained in the future in the form of a term loan, debt securities and an equity issuance. The repayment of the debt securities is expected to be fully and unconditionally guaranteed on a joint and several basis by all direct and indirect, 100 percent owned, domestic subsidiaries of Lubrizol, including the Company and its domestic subsidiaries. The following supplemental consolidating condensed financial information presents the balance sheet of the Company as of March 31, 2004 and its statements of income and cash flows for the three month period then ended and provides information regarding Noveon International, Inc. (the "Parent Company") and its guarantor and non-guarantor ("Other") subsidiaries (in millions). F-14 M. SUBSEQUENT EVENTS (CONTINUED)
Guarantor Non-Guarantor Income Statement Data Parent Subsidiaries Subsidiaries Eliminations Total - --------------------- ---------- ---------- ---------- ---------- ---------- Sales $ -- $ 232.4 $ 118.5 $ (29.3) $ 321.6 Cost of sales -- 167.9 89.0 (29.3) 227.6 ---------- ---------- ---------- ---------- ---------- Gross profit -- 64.5 29.5 -- 94.0 Selling and administrative expenses -- 39.2 16.5 -- 55.7 Amortization expenses -- 2.5 1.3 -- 3.8 Restructuring and severance costs -- 0.1 2.7 -- 2.8 ---------- ---------- ---------- ---------- ---------- Operating income -- 22.7 9.0 -- 31.7 Interest expense-net 5.5 17.0 0.1 -- 22.6 Other (income) expense-net -- (0.7) 0.1 -- (0.6) Equity in income of subsidiaries 12.3 6.6 -- (18.9) -- ---------- ---------- ---------- ---------- ---------- Income (loss) before income taxes 6.8 13.0 8.8 (18.9) 9.7 Income tax expense (benefit) (0.4) 0.7 2.2 -- 2.5 ---------- ---------- ---------- ---------- ---------- Net income (loss) $ 7.2 $ 12.3 $ 6.6 $ (18.9) $ 7.2 ========== ========== ========== ========== ==========
F-15 M. SUBSEQUENT EVENTS (CONTINUED)
Guarantor Non-Guarantor Balance Sheet Data Parent Subsidiaries Subsidiaries Eliminations Total - ------------------ ---------- ------------ ------------- ------------ ---------- CURRENT ASSETS Cash and cash equivalents $ 1.2 $ 7.9 $ 85.7 $ -- $ 94.8 Accounts and notes receivable -- 102.8 78.1 -- 180.9 Inventories -- 109.9 59.2 (4.4) 164.7 Deferred income taxes -- 11.5 -- (2.0) 9.5 Prepaid expenses and other current assets -- 9.3 2.9 -- 12.2 ---------- ---------- ---------- ---------- ---------- TOTAL CURRENT ASSETS 1.2 241.4 225.9 (6.4) 462.1 Property, plant and equipment-net -- 479.6 192.1 -- 671.7 Goodwill - net -- 256.5 166.4 -- 422.9 Identifiable intangible assets - net -- 114.5 55.7 -- 170.2 Receivable from Parent -- 1.4 -- (1.4) -- Investment in subsidiaries and intercompany balances 587.6 546.7 (60.9) (1,073.4) -- Other assets 2.2 37.2 1.0 (1.2) 39.2 ---------- ---------- ---------- ---------- ---------- TOTAL ASSETS $ 591.0 $ 1,677.3 $ 580.2 $ (1,082.4) $ 1,766.1 ========== ========== ========== ========== ========== CURRENT LIABILITIES Accounts payable $ -- $ 92.8 $ 41.4 $ -- $ 134.2 Accrued expenses 1.9 53.4 9.7 -- 65.0 Income taxes payable -- -- 8.8 -- 8.8 Current maturities of debt -- 16.2 -- -- 16.2 ---------- ---------- ---------- ---------- ---------- TOTAL CURRENT LIABILITIES 1.9 162.4 59.9 -- 224.2 Long-term debt 176.7 853.5 0.3 -- 1,030.5 Accrued pensions -- 23.5 9.0 -- 32.5 Postretirement benefits other than pensions -- 5.8 -- -- 5.8 Accrued environmental -- 18.6 -- -- 18.6 Deferred income taxes -- 11.4 18.1 (1.9) 27.6 Other non-current liabilities -- 11.9 2.6 -- 14.5 ---------- ---------- ---------- ---------- ---------- TOTAL LIABILITIES 178.6 1,087.1 89.9 (1.9) 1,353.7 Total stockholders' equity 412.4 590.2 490.3 (1,080.5) 412.4 ---------- ---------- ---------- ---------- ---------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 591.0 $ 1,677.3 $ 580.2 $ (1,082.4) $ 1,766.1 ========== ========== ========== ========== ==========
F-16 M. SUBSEQUENT EVENTS (CONTINUED)
Guarantor Non-Guarantor Cash Flow Data Parent Subsidiaries Subsidiaries Eliminations Total - -------------- ---------- ------------ ------------- ------------ ---------- Net income (loss) $ 7.2 $ (12.3) $ 6.6 $ (18.9) $ 7.2 Adjustments to reconcile net income (loss) to net cash (used) by operating activities (7.2) (15.8) (7.8) 18.9 (11.9) ---------- ---------- ---------- ---------- ---------- Net cash (used) by operating activities -- (3.5) (1.2) -- (4.7) Investing activities: Purchases of property, plant and equipment -- (9.6) (2.2) -- (11.8) Proceeds from sale of assets -- 0.8 -- -- 0.8 Payments made in connection with acquisitions, net of cash acquired -- (13.3) -- -- (13.3) ---------- ---------- ---------- ---------- ---------- Net cash (used) by investing activities -- (22.1) (2.2) -- (24.3) Financing activities: Repayments of long-term debt -- (2.4) (2.4) -- (4.8) Net proceeds from borrowings on revolving credit facility -- 13.3 -- -- 13.3 ---------- ---------- ---------- ---------- ---------- Net cash provided (used) by financing activities -- 10.9 (2.4) -- 8.5 Effect of exchange rate on cash -- -- (1.5) -- (1.5) ---------- ---------- ---------- ---------- ---------- Net decrease in cash and cash equivalents -- (14.7) (7.3) -- (22.0) Cash and cash equivalents at beginning of period 1.2 22.6 93.0 -- 116.8 ---------- ---------- ---------- ---------- ---------- Cash and cash equivalents at end of period $ 1.2 $ 7.9 $ 85.7 $ -- $ 94.8 ========== ========== ========== ========== ==========
F-17 ~~-----END PRIVACY-ENHANCED MESSAGE-----~~


	THE LUBRIZOL CORPORATION
	By:	/s/ Leslie M. Reynolds
	Name: Leslie M. Reynolds
	Title: Corporate Secretary and Counsel