==============================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2005
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________ to ___________
Commission file number 1-2918
ASHLAND INC.
(a Kentucky corporation)
I.R.S. No. 61-0122250
50 E. RiverCenter Boulevard
P.O. Box 391
Covington, Kentucky 41012-0391
Telephone Number (859) 815-3333
Indicate by check mark whether the Registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the Registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days. Yes |X| No
|_|
Indicate by checkmark whether the Registrant is an accelerated filer
(as defined in Rule 12b-2 of the Act). Yes |X| No |_|
At March 31, 2005, there were 72,870,259 shares of Registrant's Common
Stock outstanding. One Right to purchase one-thousandth of a share of
Series A Participating Cumulative Preferred Stock accompanies each
outstanding share of Registrant's Common Stock.
============================================================================
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
STATEMENTS OF CONSOLIDATED INCOME
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Three months ended Six months ended
March 31 March 31
----------------------- ------------------------
(In millions except per share data) 2005 2004 2005 2004
- ------------------------------------------------------------------------------------------------------ ------------------------
REVENUES
Sales and operating revenues $ 2,062 $ 1,825 $ 4,239 $ 3,761
Equity income 69 18 215 56
Other income 18 9 35 22
---------- ---------- ---------- -----------
2,149 1,852 4,489 3,839
COSTS AND EXPENSES
Cost of sales and operating expenses 1,754 1,547 3,603 3,158
Selling, general and administrative expenses 309 295 620 579
---------- ---------- ---------- -----------
2,063 1,842 4,223 3,737
---------- ---------- ---------- -----------
OPERATING INCOME 86 10 266 102
Net interest and other financial costs (29) (29) (61) (59)
---------- ---------- ---------- -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES 57 (19) 205 43
Income taxes (24) 8 (79) (16)
---------- ---------- ---------- -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS 33 (11) 126 27
Results from discontinued operations (net of income taxes) - Note B - (5) - (10)
---------- ---------- ---------- -----------
NET INCOME (LOSS) $ 33 $ (16) $ 126 $ 17
========== ========== ========== ===========
BASIC EARNINGS (LOSS) PER SHARE - Note A
Income (loss) from continuing operations $ .45 $ (.16) $ 1.75 $ .39
Results from discontinued operations - (.07) - (.14)
---------- ---------- ---------- ----------
Net income (loss) $ .45 $ (.23) $ 1.75 $ .25
========== ========== ========== ===========
DILUTED EARNINGS (LOSS) PER SHARE - Note A
Income from continuing operations $ .44 $ (.16) $ 1.72 $ .39
Results from discontinued operations - (.07) - (.14)
---------- ---------- ---------- -----------
Net income (loss) $ .44 $ (.23) $ 1.72 $ .25
========== ========== ========== ===========
DIVIDENDS PAID PER COMMON SHARE $ .275 $ .275 $ .55 $ .55
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
2
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
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March 31 September 30 March 31
(In millions) 2005 2004 2004
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ASSETS
------
CURRENT ASSETS
Cash and cash equivalents $ 74 $ 243 $ 180
Accounts receivable 1,352 1,331 1,180
Allowance for doubtful accounts (42) (41) (39)
Inventories - Note A 546 458 475
Deferred income taxes 95 103 114
Refundable income taxes 125 72 6
Other current assets 83 136 131
-------------- -------------- --------------
2,233 2,302 2,047
INVESTMENTS AND OTHER ASSETS
Investment in Marathon Ashland Petroleum LLC (MAP) 2,926 2,713 2,349
Goodwill 560 513 524
Asbestos insurance receivable (noncurrent portion) 381 399 396
Other noncurrent assets 413 319 333
-------------- -------------- --------------
4,280 3,944 3,602
PROPERTY, PLANT AND EQUIPMENT
Cost 3,196 3,104 3,076
Accumulated depreciation, depletion and amortization (1,894) (1,848) (1,823)
-------------- -------------- --------------
1,302 1,256 1,253
-------------- -------------- --------------
$ 7,815 $ 7,502 $ 6,902
============== ============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES
Debt due within one year
Revolving credit facility $ 228 $ 40 $ -
Commercial paper 73 - 17
Short-term borrrowing from MAP 177 - -
Current portion of long-term debt 248 399 189
Trade and other payables 1,254 1,362 1,262
Income taxes 30 14 17
-------------- -------------- --------------
2,010 1,815 1,485
NONCURRENT LIABILITIES
Long-term debt (less current portion) 1,086 1,109 1,353
Employee benefit obligations 436 428 402
Deferred income taxes 264 367 221
Reserves of captive insurance companies 201 179 192
Asbestos litigation reserve (noncurrent portion) 545 568 565
Other long-term liabilities and deferred credits 374 330 354
Commitments and contingencies - Notes D and G
-------------- -------------- --------------
2,906 2,981 3,087
COMMON STOCKHOLDERS' EQUITY 2,899 2,706 2,330
-------------- -------------- --------------
$ 7,815 $ 7,502 $ 6,902
============== ============== ==============
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
3
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
STATEMENTS OF CONSOLIDATED COMMON STOCKHOLDERS' EQUITY
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Accumulated
other
Common Paid-in Retained comprehensive
(In millions) stock capital earnings loss Total
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BALANCE AT OCTOBER 1, 2003 $ 68 $ 350 $ 1,961 $ (126) $ 2,253
Total comprehensive income (1) 17 35 52
Cash dividends (38) (38)
Issued 1,808,419 common shares under
stock incentive and other plans 2 61 63
-------------- -------------- ------------- -------------- --------------
BALANCE AT MARCH 31, 2004 $ 70 $ 411 $ 1,940 $ (91) $ 2,330
============== ============== ============= ============== ==============
BALANCE AT OCTOBER 1, 2004 $ 72 $ 478 $ 2,262 $ (106) $ 2,706
Total comprehensive income (1) 126 40 166
Cash dividends (40) (40)
Issued 1,291,096 common shares under
stock incentive and other plans 1 66 67
-------------- -------------- ------------- -------------- --------------
BALANCE AT MARCH 31, 2005 $ 73 $ 544 $ 2,348 $ (66) $ 2,899
============== ============== ============= ============== ==============
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(1) Reconciliations of net income (loss) to total comprehensive income follow.
Three months ended Six months ended
March 31 March 31
-------------------------------- ---------------------------------
(In millions) 2005 2004 2005 2004
---------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ 33 $ (16) $ 126 $ 17
Unrealized translation adjustments 2 4 37 34
Related tax expense - - 2 1
Net unrealized gains (losses) on cash flow hedges (1) - 1 -
------------ ----------- ------------ ------------
Total comprehensive income $ 34 $ (12) $ 166 $ 52
============ =========== ============ ============
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At March 31, 2005, the accumulated other comprehensive loss of $66 million (after tax) was comprised of net unrealized translation
gains of $62 million, a minimum pension liability of $129 million and net unrealized gains on cash flow hedges of $1 million.
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
4
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
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Six months ended
March 31
-----------------------
(In millions) 2005 2004
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CASH FLOWS FROM OPERATIONS
Income from continuing operations $ 126 $ 27
Expense (income) not affecting cash
Depreciation, depletion and amortization 93 97
Deferred income taxes (11) (1)
Equity income from affiliates (215) (56)
Distributions from equity affiliates 4 153
Other items 1 1
Change in operating assets and liabilities (1) (236) (163)
---------- -----------
(238) 58
CASH FLOWS FROM FINANCING
Proceeds from issuance of common stock 51 54
Repayment of long-term debt (174) (70)
Increase in short-term debt 438 17
Dividends paid (40) (38)
---------- -----------
275 (37)
CASH FLOWS FROM INVESTMENT
Additions to property, plant and equipment (127) (86)
Purchase of operations - net of cash acquired (101) (4)
Proceeds from sale of operations 16 10
Other - net 6 21
---------- -----------
(206) (59)
---------- -----------
CASH USED BY CONTINUING OPERATIONS (169) (38)
Cash used by discontinued operations - (5)
---------- -----------
DECREASE IN CASH AND CASH EQUIVALENTS (169) (43)
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD 243 223
---------- -----------
CASH AND CASH EQUIVALENTS - END OF PERIOD $ 74 $ 180
========== ===========
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(1) Excludes changes resulting from operations acquired or sold.
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
5
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ASHLAND INC. CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
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NOTE A - SIGNIFICANT ACCOUNTING POLICIES
Interim financial reporting
The accompanying unaudited condensed consolidated financial
statements have been prepared in accordance with generally
accepted accounting principles for interim financial reporting and
Securities and Exchange Commission regulations. Although such
statements are subject to any year-end audit adjustments which may
be necessary, in the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for
a fair presentation have been included. These financial statements
should be read in conjunction with Ashland's Annual Report on Form
10-K, as amended, for the fiscal year ended September 30, 2004.
Results of operations for the periods ended March 31, 2005, are
not necessarily indicative of results to be expected for the year
ending September 30, 2005.
Inventories
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March 31 September 30 March 31
(In millions) 2005 2004 2004
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Chemicals and plastics $ 442 $ 370 $ 366
Construction materials 84 71 70
Petroleum products 72 61 67
Other products 59 45 48
Supplies 8 6 5
Excess of replacement costs over LIFO carrying values (119) (95) (81)
------------- -------------- --------------
$ 546 $ 458 $ 475
============= ============== ==============
Earnings (loss) per share
The following table sets forth the computation of basic and
diluted earnings (loss) per share (EPS) from continuing
operations.
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Three months ended Six months ended
March 31 March 31
------------------------ ------------------------
(In millions except per share data) 2005 2004 2005 2004
---------------------------------------------------------------------------------------------------------------
Numerator
Numerator for basic and diluted EPS - Income (loss)
from continuing operations $ 33 $ (11) $ 126 $ 27
========== =========== ========== ==========
Denominator
Denominator for basic EPS - Weighted average
common shares outstanding 73 69 72 69
Common shares issuable upon exercise of stock options 1 - 1 1
---------- ----------- ---------- ----------
Denominator for diluted EPS - Adjusted weighted
average shares and assumed conversions 74 69 73 70
========== =========== ========== ==========
Earnings (loss) per share from continuing operations
Basic $ .45 $ (.16) $ 1.75 $ .39
Diluted $ .44 $ (.16) $ 1.72 $ .39
6
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
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NOTE B - DISCONTINUED OPERATIONS
Ashland is subject to liabilities from claims alleging personal
injury caused by exposure to asbestos. Such claims result
primarily from indemnification obligations undertaken in 1990 in
connection with the sale of Riley Stoker Corporation, a former
subsidiary. During the six months ended March 31, 2004, Ashland
recorded charges of $29 million to increase its reserve for
asbestos claims, the effect of which was partially offset by
credits of $14 million to increase its asbestos insurance
receivable. The resulting $15 million pretax charge to income, net
of deferred income tax benefits of $6 million, was reflected as an
after-tax loss from discontinued operations of $9 million in the
Statement of Consolidated Income for the six months ended
March 31, 2004. No increases to the asbestos reserve or insurance
receivable were recorded in the six months ended March 31, 2005.
See Note G for further discussion of Ashland's asbestos-related
litigation. Also during the six months ended March 31, 2004,
Ashland recorded a $1 million decrease to the gain recorded in
2003 on the sale of its Electronic Chemicals business.
Components of amounts reflected in the income statements related
to discontinued operations are presented in the following table.
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Three months ended Six months ended
March 31 March 31
------------------------ -----------------------
(In millions) 2005 2004 2005 2004
- ------------------------------------------------------------------------------------------------------------------------
Pretax income (loss) from discontinued operations
Reserves for asbestos-related litigation $ - $ (7) $ - $ (15)
Loss on disposal of Electronic Chemicals - - - (1)
Income taxes
Reserves for asbestos-related litigation - 2 - 6
Loss on disposal of Electronic Chemicals - - - -
----------- ----------- ---------- ----------
Results from discontinued operations (net of income taxes) $ - $ (5) $ - $ (10)
=========== =========== ========== ==========
NOTE C - UNCONSOLIDATED AFFILIATES
Under Rule 3-09 of Regulation S-X, Ashland filed audited financial
statements for Marathon Ashland Petroleum LLC (MAP) for the year
ended December 31, 2004, on a Form 10-K/A on March 15, 2005.
Unaudited income statement information for MAP is shown below.
MAP is organized as a limited liability company that has elected
to be taxed as a partnership. Therefore, the parents are
responsible for income taxes applicable to their share of MAP's
taxable income. The net income reflected below for MAP does not
include any provision for income taxes that will be incurred by
its parents.
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Three months ended Six months ended
March 31 March 31
------------------------ ------------------------
(In millions) 2005 2004 2005 2004
- -----------------------------------------------------------------------------------------------------------------------
Sales and operating revenues $ 11,397 $ 9,060 $ 23,913 $ 18,618
Income from operations 204 49 584 149
Net income 188 46 573 142
Ashland's equity income 66 13 208 45
7
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
NOTE C - UNCONSOLIDATED AFFILIATES (continued)
On April 28, 2005, Ashland announced that it had amended its
agreement to transfer its 38-percent interest in MAP and two other
businesses to Marathon Oil Corporation. Under the amended
agreement, Ashland's interest in these businesses is valued at
approximately $3.7 billion compared to approximately $3 billion in
the earlier agreement, with substantially all the increase in
value going directly to Ashland's shareholders in the form of
Marathon stock. In addition, Marathon has agreed to pay the first
$200 million of any Section 355(e) tax, if any, as compared to the
prior agreement where Ashland bore full responsibility for any
Section 355(e) tax. The transaction is expected to be tax free to
Ashland's shareholders and tax efficient to Ashland. The two other
businesses are Ashland's maleic anhydride business and 60
Valvoline Instant Oil Change (VIOC) centers in Michigan and
northwest Ohio, which are valued at $94 million.
Under the terms of the amended agreement, Ashland's shareholders
will receive Marathon common stock with an aggregate value of $915
million. Based on the number of shares outstanding on March 31,
2005, shareholders would receive $12.56 in Marathon stock per
Ashland share. Ashland will receive cash and MAP accounts
receivable totaling $2.8 billion. In addition, MAP has not made
quarterly cash distributions to Ashland and Marathon since March
18, 2004, and such distributions will continue to be suspended
until the closing of the transaction. As a result, the final
amount of cash to be received by Ashland will be increased by an
amount equal to 38 percent of the cash accumulated from operations
during the period prior to closing. At March 31, 2005, Ashland's
share of this accumulated cash was $560 million.
The transaction is subject to, among other things, approval by
Ashland's shareholders, consent from public debt holders,
finalization of the closing agreement with the Internal Revenue
Service and customary antitrust review. Ashland and Marathon have
agreed to use their reasonable best efforts to complete the
transaction by June 30, 2005, with the termination date for the
transaction extended to September 30, 2005.
NOTE D - LEASES AND OTHER COMMITMENTS
Leases
Under various operating leases, Ashland has made guarantees with
respect to the residual value of the underlying property. If
Ashland had canceled those leases at March 31, 2005, its maximum
obligations under the residual value guarantees would have
amounted to $91 million. Ashland does not expect to incur any
significant charge to earnings under these guarantees, $24 million
of which relates to real estate. These lease agreements are with
unrelated third party lessors and Ashland has no additional
contractual or other commitments to any party to the leases.
Other commitments
Ashland has guaranteed 38% of MAP's payments for certain crude oil
purchases, up to a maximum guarantee of $95 million. At March 31,
2005, Ashland's contingent liability under this guarantee amounted
to the full $95 million. Although Ashland has not made and does
not expect to make any payments under this guarantee, it has
recorded the fair value of the guarantee obligation, which is not
significant.
NOTE E - EMPLOYEE BENEFIT PLANS
On December 8, 2003, the Medicare Prescription Drug, Improvement
and Modernization Act of 2003 (the Act) was signed into law. Among
other things, the Act will expand Medicare to include an
outpatient prescription drug benefit beginning in 2006, as well as
provide a subsidy for sponsors of retiree health care
8
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
NOTE E - EMPLOYEE BENEFIT PLANS (continued)
plans that provide a benefit that is at least actuarially
equivalent to the Medicare Act benefits. In May 2004, the
Financial Accounting Standards Board issued Staff Position No. FAS
106-2, "Accounting and Disclosure Requirements Related to the
Medicare Prescription Drug, Improvement and Modernization Act of
2003." Regulations implementing major provisions of the Act,
including the determination of actuarial equivalency, were issued
in January 2005. Effective May 1, 2005, Ashland amended its health
care plan for retirees age 65 or older so that the company will
always qualify for the subsidy and remeasured its postretirement
benefit obligation as of that date. The remeasurement reduced the
obligation by $58 million and will reduce postretirement benefit
costs by $3 million over the last five months of the fiscal year
2005.
Presently, Ashland anticipates contributing $86 million to its
U.S. pension plans and $12 million to its non-U.S. pension plans
during fiscal 2005. In addition, upon the closing of the proposed
MAP transaction, Ashland plans to make an additional $100 million
contribution to its U.S. pension plans. As of March 31, 2005,
contributions of $15 million have been made to the U.S. plans and
$7 million to the non-U.S. plans.
The following table details the components of pension and other
postretirement benefit costs.
- -----------------------------------------------------------------------------------------------------------------------
Other postretirement
Pension benefits benefits
------------------------- -------------------------
(In millions) 2005 2004 2005 2004
- -----------------------------------------------------------------------------------------------------------------------
Three months ended March 31
Service cost $ 13 $ 13 $ 2 $ 3
Interest cost 19 17 4 6
Expected return on plan assets (19) (16) - -
Amortization of prior service credit - - (2) (5)
Amortization of net actuarial loss 8 8 2 1
----------- ----------- ----------- -----------
$ 21 $ 22 $ 6 $ 5
=========== =========== =========== ===========
Six months ended March 31
Service cost $ 26 $ 25 $ 4 $ 7
Interest cost 39 35 9 12
Expected return on plan assets (38) (31) - -
Amortization of prior service credit - - (4) (11)
Amortization of net actuarial loss 16 15 3 3
----------- ----------- ----------- -----------
$ 43 $ 44 $ 12 $ 11
=========== =========== =========== ===========
NOTE F - ACQUISITIONS AND DIVESTITURES
During the six months ended March 31, 2005, Ashland Specialty
Chemical acquired Dow Chemical's DERAKANE(R) epoxy vinyl ester
resins business for approximately $90 million. With this
acquisition, Ashland Specialty Chemical's composite polymers
business continues to build its innovative line of resin
chemistries for composite manufacturing. The purchase included all
technology and intellectual property assets associated with the
DERAKANE resin business. No physical assets were transferred to
Ashland. Also during the period, Ashland Distribution sold its
ingestibles business and APAC made three small acquisitions and
one small divestiture. Following is a progression of goodwill by
segment for the six months ended March 31, 2005.
9
- ------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- ------------------------------------------------------------------------------
NOTE F - ACQUISITIONS AND DIVESTITURES (continued)
- -----------------------------------------------------------------------------------------------------------------------
Ashland
Specialty
(In millions) APAC Chemical Valvoline Total
- -----------------------------------------------------------------------------------------------------------------------
Balance at October 1, 2004 $ 411 $ 96 $ 6 $ 513
Goodwill acquired - 43 - 43
Currency translation adjustments - 4 - 4
---------- --------- ---------- ----------
Balance at March 31, 2005 $ 411 $ 143 $ 6 $ 560
========== ========= ========== ==========
NOTE G - LITIGATION, CLAIMS AND CONTINGENCIES
Asbestos-related litigation
Ashland is subject to liabilities from claims alleging personal
injury caused by exposure to asbestos. Such claims result
primarily from indemnification obligations undertaken in 1990 in
connection with the sale of Riley Stoker Corporation (Riley), a
former subsidiary. Although Riley was neither a producer nor a
manufacturer of asbestos, its industrial boilers contained some
asbestos-containing components provided by other companies.
A summary of asbestos claims activity follows. Because claims are
frequently filed and settled in large groups, the amount and
timing of settlements and number of open claims can fluctuate
significantly from period to period.
- ----------------------------------------------------------------------------------------------------------------------
Six months ended
March 31 Years ended September 30
--------------------------- ------------------------------------------
(In thousands) 2005 2004 2004 2003 2002
- ----------------------------------------------------------------------------------------------------------------------
Open claims - beginning of period 196 198 198 160 167
New claims filed 6 16 29 66 45
Claims settled (3) (3) (7) (7) (15)
Claims dismissed (10) (11) (24) (21) (37)
----------- ----------- ----------- ----------- -----------
Open claims - end of period 189 200 196 198 160
=========== =========== =========== =========== ===========
Since October 1, 2001, Riley has been dismissed as a defendant in
73% of the resolved claims. Amounts spent on litigation defense
and claim settlements averaged $1,812 per claim resolved in the
six months ended March 31, 2005, compared to $1,730 in the six
months ended March 31, 2004, and annual averages of $1,655 in
2004, $1,610 in 2003 and $723 in 2002. A progression of activity
in the asbestos reserve is presented in the following table.
- -----------------------------------------------------------------------------------------------------------------------
Six months ended
March 31 Years ended September 30
--------------------------- -------------------------------------------
(In millions) 2005 2004 2004 2003 2002
- -----------------------------------------------------------------------------------------------------------------------
Asbestos reserve - beginning of period $ 618 $ 610 $ 610 $ 202 $ 199
Expense incurred - 29 59 453 41
Amounts paid (23) (24) (51) (45) (38)
----------- ----------- ----------- ----------- ------------
Asbestos reserve - end of period $ 595 $ 615 $ 618 $ 610 $ 202
=========== =========== =========== =========== ============
10
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- ------------------------------------------------------------------------------
NOTE G - LITIGATION, CLAIMS AND CONTINGENCIES (continued)
During the December 2002 quarter, Ashland increased its reserve
for asbestos claims by $390 million to cover the litigation
defense and claim settlement costs for probable and reasonably
estimable future payments related to existing open claims, as well
as an estimate of those that may be filed in the future. Prior to
December 31, 2002, the asbestos reserve was based on the estimated
costs that would be incurred to settle existing open claims. A
range of estimates of future asbestos claims and related costs
using various assumptions was developed with the assistance of
Hamilton, Rabinovitz & Alschuler, Inc. (HR&A). The methodology
used by HR&A to project future asbestos costs was based largely on
Ashland's recent experience, including claim-filing and settlement
rates, disease mix, open claims, and litigation defense and claim
settlement costs. Ashland's claim experience was compared to the
results of previously conducted epidemiological studies estimating
the number of people likely to develop asbestos-related diseases.
Those studies were undertaken in connection with national analyses
of the population expected to have been exposed to asbestos. Using
that information, HR&A estimated a range of the number of future
claims that may be filed, as well as the related costs that may be
incurred in resolving those claims.
From the range of estimates, Ashland recorded the amount it
believed to be the best estimate, which represented the expected
payments for litigation defense and claim settlement costs during
the next ten years. Subsequent updates to this estimate have been
made, with the assistance of HR&A, based on a combination of a
number of factors including the actual volume of new claims,
recent settlement costs, changes in the mix of alleged disease,
enacted legislative changes and other developments impacting
Ashland's estimate of future payments. Ashland's reserve for
asbestos claims on an undiscounted basis amounted to $595 million
at March 31, 2005, compared to $618 million at September 30, 2004
and $615 million at March 31, 2004.
Projecting future asbestos costs is subject to numerous variables
that are extremely difficult to predict. In addition to the
significant uncertainties surrounding the number of claims that
might be received, other variables include the type and severity
of the disease alleged by each claimant, the long latency period
associated with asbestos exposure, dismissal rates, costs of
medical treatment, the impact of bankruptcies of other companies
that are co-defendants in claims, uncertainties surrounding the
litigation process from jurisdiction to jurisdiction and from case
to case, and the impact of potential changes in legislative or
judicial standards. Furthermore, any predictions with respect to
these variables are subject to even greater uncertainty as the
projection period lengthens. In light of these inherent
uncertainties, Ashland believes its asbestos reserve represents
the best estimate within a range of possible outcomes. As a part
of the process to develop Ashland's estimates of future asbestos
costs, a range of long-term cost models is developed that assumes
a run-out of claims through 2055. These models are based on
national studies that predict the number of people likely to
develop asbestos-related diseases and are heavily influenced by
assumptions regarding long-term inflation rates for indemnity
payments and legal defense costs, as well as other variables
mentioned previously. The total future litigation defense and
claim settlement costs on an undiscounted basis has been estimated
within a reasonably possible range of $400 million to $2.0
billion, depending on the number of years those costs extend and
other combinations of assumptions selected. Ashland's reserve
represents between 10 and 29 years of future costs, depending on
the model selected. If actual experience is worse than projected
relative to the number of claims filed, the severity of alleged
disease associated with those claims or costs incurred to resolve
those claims, Ashland may need to increase further the estimates
of the costs associated with asbestos claims and these increases
could potentially be material over time.
11
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
NOTE G - LITIGATION, CLAIMS AND CONTINGENCIES (continued)
Ashland has insurance coverage for most of the litigation defense
and claim settlement costs incurred in connection with its
asbestos claims, and coverage-in-place agreements exist with the
insurance companies that provide substantially all of the coverage
currently being accessed. As a result, increases in the asbestos
reserve have been largely offset by probable insurance recoveries.
The amounts not recoverable generally are due from insurers that
are insolvent, rather than as a result of uninsured claims or the
exhaustion of Ashland's insurance coverage.
Ashland retained the services of Tillinghast-Towers Perrin to
assist management in estimating the value of probable insurance
recoveries associated with Ashland's estimate of its asbestos
liabilities. Such recoveries are based on management's assumptions
and estimates surrounding the available or applicable insurance
coverage. One such assumption is that all solvent insurance
carriers remain solvent. Although coverage limits are resolved in
the coverage-in-place agreement with Equitas Limited (Equitas) and
other London companies, which collectively provide a significant
portion of Ashland's insurance coverage for asbestos claims, there
is a disagreement with these companies over the timing of
recoveries. The resolution of this disagreement could have a
material effect on the value of insurance recoveries from those
companies. In estimating the value of future recoveries, Ashland
has used the least favorable interpretation of this agreement
under which the ultimate recoveries are extended for many years,
resulting in a significant discount being applied to value those
recoveries. Ashland will continue to apply this methodology until
such time as the disagreement is resolved. On July 21, 2004,
Ashland filed a demand for arbitration to resolve the dispute
concerning the interpretation of this agreement.
At March 31, 2005, Ashland's receivable for recoveries of
litigation defense and claim settlement costs from its insurers
amounted to $411 million, of which $53 million relates to costs
previously paid. Receivables from insurance companies amounted to
$435 million at September 30, 2004 and $426 million at March 31,
2004. About 35% of the estimated receivables from insurance
companies at March 31, 2005, are expected to be due from Equitas
and other London companies. Of the remainder, approximately 90% is
expected to come from companies or groups that are rated A or
higher by A.M. Best.
Environmental proceedings
Ashland is subject to various federal, state and local
environmental laws and regulations that require environmental
assessment or remediation efforts (collectively environmental
remediation) at multiple locations. At March 31, 2005, such
locations included 91 waste treatment or disposal sites where
Ashland has been identified as a potentially responsible party
under Superfund or similar state laws, approximately 130 current
and former operating facilities (including certain operating
facilities conveyed to MAP) and about 1,220 service station
properties. Ashland's reserves for environmental remediation
amounted to $157 million at March 31, 2005, compared to $152
million at September 30, 2004 and $169 million at March 31, 2004.
Such amounts reflect Ashland's estimates of the most likely costs
that will be incurred over an extended period to remediate
identified conditions for which the costs are reasonably
estimable, without regard to any third-party recoveries.
Engineering studies, probability techniques, historical experience
and other factors are used to identify and evaluate remediation
alternatives and their related costs in determining the estimated
reserves for environmental remediation.
Environmental remediation reserves are subject to numerous
inherent uncertainties that affect Ashland's ability to estimate
its share of the costs. Such uncertainties involve the nature and
extent of contamination at each site, the extent of required
cleanup efforts under existing environmental regulations, widely
varying
12
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
NOTE G - LITIGATION, CLAIMS AND CONTINGENCIES (continued)
costs of alternate cleanup methods, changes in environmental
regulations, the potential effect of continuing improvements in
remediation technology, and the number and financial strength of
other potentially responsible parties at multiparty sites. Ashland
regularly adjusts its reserves as environmental remediation
continues. Environmental remediation expense amounted to $13
million for the six months ended March 31, 2005, compared to $9
million for the six months ended March 31, 2004, and annual
expense of $2 million in 2004, $22 million in 2003 and $30 million
in 2002.
No individual remediation location is material to Ashland, as its
largest reserve for any site is less than 10% of the remediation
reserve. As a result, Ashland's exposure to adverse developments
with respect to any individual site is not expected to be
material, and these sites are in various stages of ongoing
remediation. Although environmental remediation could have a
material effect on results of operations if a series of adverse
developments occurs in a particular quarter or fiscal year,
Ashland believes that the chance of such developments occurring in
the same quarter or fiscal year is remote.
Other legal proceedings
In addition to the matters described above, there are various
claims, lawsuits and administrative proceedings pending or
threatened against Ashland and its current and former
subsidiaries. Such actions are with respect to commercial matters,
product liability, toxic tort liability, and other environmental
matters, which seek remedies or damages, some of which are for
substantial amounts. While these actions are being contested,
their outcome is not predictable.
13
- ----------------------------------------------------------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
INFORMATION BY INDUSTRY SEGMENT
- ----------------------------------------------------------------------------------------------------------------------------------
Three months ended Six months ended
March 31 March 31
----------------------- ------------------------
(In millions) 2005 2004 2005 2004
- ----------------------------------------------------------------------------------------------------------------------------------
REVENUES
Sales and operating revenues
APAC $ 388 $ 408 $ 1,000 $ 1,058
Ashland Distribution 956 788 1,851 1,485
Ashland Specialty Chemical 434 329 833 652
Valvoline 323 324 633 614
Intersegment sales
Ashland Distribution (5) (4) (11) (9)
Ashland Specialty Chemical (33) (19) (66) (38)
Valvoline (1) (1) (1) (1)
---------- ---------- ---------- -----------
2,062 1,825 4,239 3,761
Equity income
APAC 1 3 3 8
Ashland Specialty Chemical 2 2 4 4
Valvoline - - - (1)
Refining and Marketing 66 13 208 45
---------- ---------- ---------- -----------
69 18 215 56
Other income
APAC 3 7 5 11
Ashland Distribution 3 2 5 7
Ashland Specialty Chemical 9 3 18 5
Valvoline 2 - 3 1
Refining and Marketing - (4) 2 (5)
Corporate 1 1 2 3
---------- ---------- ---------- -----------
18 9 35 22
---------- ---------- ---------- -----------
$ 2,149 $ 1,852 $ 4,489 $ 3,839
========== ========== ========== ===========
OPERATING INCOME
APAC $ (46) $ (33) $ (40) $ (2)
Ashland Distribution 34 19 59 32
Ashland Specialty Chemical 39 19 61 42
Valvoline 24 24 42 45
Refining and Marketing (1) 61 2 197 27
Corporate (26) (21) (53) (42)
---------- ---------- ---------- -----------
$ 86 $ 10 $ 266 $ 102
========== ========== ========== ===========
- ----------------------------------------------------------------------------------------------------------------------------------
(1) Includes Ashland's equity income from MAP, amortization related to Ashland's excess investment in MAP, and other activities
associated with refining and marketing.
14
- -----------------------------------------------------------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
INFORMATION BY INDUSTRY SEGMENT
- -----------------------------------------------------------------------------------------------------------------------------------
Three months ended Six months ended
March 31 March 31
----------------------- ------------------------
2005 2004 2005 2004
- -----------------------------------------------------------------------------------------------------------------------------------
OPERATING INFORMATION
APAC
Construction backlog at March 31 (millions) (1) $ 2,135 $ 1,897
Net construction job revenues (millions) (2) $ 198 $ 207 $ 542 $ 573
Hot-mix asphalt production (million tons) 3.7 4.4 11.5 12.9
Aggregate production (million tons) 6.5 6.1 14.3 12.9
Ashland Distribution (3)
Sales per shipping day (millions) $ 15.4 $ 12.3 $ 14.9 $ 11.8
Gross profit as a percent of sales 9.8% 9.7% 9.7% 9.7%
Ashland Specialty Chemical (3)
Sales per shipping day (millions) $ 7.0 $ 4.8 $ 6.7 $ 5.0
Gross profit as a percent of sales 26.7% 29.5% 25.5% 29.7%
Valvoline
Lubricant sales (million gallons) 42.2 47.5 83.3 91.3
Premium lubricants (percent of U.S. branded volumes) 24.1% 21.4% 23.0% 20.4%
Refining and Marketing (4)
Refinery runs (thousand barrels per day)
Crude oil refined 922 789 949 844
Other charge and blend stocks 171 196 186 190
Refined product yields (thousand barrels per day)
Gasoline 576 552 611 582
Distillates 292 235 310 266
Asphalt 72 57 76 63
Other 168 155 154 135
-------- -------- ------- --------
Total 1,108 999 1,151 1,046
Refined product sales (thousand barrels per day) (5) 1,370 1,307 1,392 1,331
Refining and wholesale marketing margin (per barrel) (6) $ 2.88 $ 1.44 $ 3.47 $ 1.58
Speedway SuperAmerica (SSA)
Retail outlets at March 31 1,659 1,773
Gasoline and distillate sales (million gallons) 745 763 1,538 1,569
Gross margin - gasoline and distillates (per gallon) $ .1058 $ .1145 $ .1141 $ .1145
Merchandise sales (millions) $ 560 $ 521 $ 1,141 $ 1,068
Merchandise margin (as a percent of sales) 25.6% 25.3% 25.2% 25.1%
- ----------------------------------------------------------------------------------------------------------------------------------
(1) Includes APAC's proportionate share of the backlog of unconsolidated joint ventures.
(2) Total construction job revenues, less subcontract costs.
(3) Sales are defined as sales and operating revenues. Gross profit is defined as sales and operating revenues, less
cost of sales and operating expenses.
(4) Amounts represent 100% of MAP's operations, in which Ashland owns a 38% interest.
(5) Total average daily volume of all refined product sales to MAP's wholesale, branded and retail (SSA) customers.
(6) Sales revenue less cost of refinery inputs, purchased products and manufacturing expenses, including depreciation.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
- -------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
- -------------------------------------------------------------------------------
RESULTS OF OPERATIONS
CURRENT QUARTER - Ashland reported net income of $33 million for
the quarter ended March 31, 2005, compared to a net loss of $16
million for the quarter ended March 31, 2004. Ashland's income
from continuing operations amounted to $33 million for the quarter
ended March 31, 2005, compared to a loss of $11 million for the
quarter ended March 31, 2004. Results from discontinued
operations, consisting of charges for asbestos liabilities,
accounted for the difference in net income and income from
continuing operations for the 2004 period.
Normal seasonality makes the March quarter Ashland's most
difficult earnings period. The improved results reflect a sharp
increase in operating income from refining and marketing and a 56%
increase in operating income from the Chemical Sector, which
consists of the Ashland Distribution, Ashland Specialty Chemical,
and Valvoline divisions. However, the Transportation Construction
Sector, which consists of Ashland Paving And Construction, Inc.
(commercially known as APAC), experienced a larger operating loss
due to lower production resulting from poor weather conditions.
YEAR-TO-DATE - Ashland reported net income of $126 million for the
six months ended March 31, 2005, compared to $17 million for the
six months ended March 31, 2004. Ashland's income from continuing
operations amounted to $126 million for the six months ended March
31, 2005, compared to $27 million for the six months ended March
31, 2004. Results from discontinued operations, consisting
primarily of charges for asbestos liabilities, accounted for the
difference in net income and income from continuing operations for
the 2004 period.
Ashland's record income from continuing operations for the six
months ended March 31, 2005, resulted primarily from the dramatic
improvement from refining and marketing and a 36% increase in
operating income from the Chemical Sector. However, the
Transportation Construction Sector experienced a larger operating
loss due to lower production resulting from poor weather
conditions. An analysis of operating income by industry segment
follows.
APAC
CURRENT QUARTER - APAC reported an operating loss of $46 million
for the March 2005 quarter, compared to a loss of $33 million for
the March 2004 quarter. The March quarter is typically the most
difficult for APAC. The increased loss reflects lower production,
driven primarily by poor weather conditions in APAC's operating
area, and higher hydrocarbon costs. Net construction job revenues
(total construction job revenues less subcontract costs) decreased
4% from the prior year period. Production of hot-mix asphalt
decreased 16%, while liquid asphalt costs increased 12%. Higher
equipment and plant fuel costs contributed $4 million to the
decline in operating results. Equity income from APAC's joint
venture project at Atlanta's Hartsfield Airport declined $2
million as that project nears completion. On the positive side,
aggregate production, which is less affected by weather, increased
7%, due in part to the opening of a new quarry in Naples, Florida.
During the quarter, APAC won two major highway construction jobs
in Tennessee and Florida totaling $135 million. At March 31,
APAC's construction backlog, which consists of work awarded and
funded but not yet performed, was a record $2.1 billion.
16
- -------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
- -------------------------------------------------------------------------------
APAC (continued)
YEAR-TO-DATE - APAC reported an operating loss of $40 million for
the six months ended March 31, 2005, compared to a loss of $2
million for the six months ended March 31, 2004. The decline was
due to the same factors described in the current quarter
comparison. Net construction job revenues decreased 5% from the
prior year period. Production of hot-mix asphalt decreased 11%,
while liquid asphalt costs increased 10%. Higher equipment and
plant fuel costs contributed $8 million to the decline in
operating results. Equity income from APAC's joint venture project
at Atlanta's Hartsfield Airport declined $5 million as that
project nears completion. On the positive side, aggregate
production, which is less affected by weather, increased 11%, due
in part to the opening of a new quarry in Naples, Florida.
Ashland Distribution
CURRENT QUARTER - Ashland Distribution achieved its second
consecutive all-time record quarter, with operating income of $34
million for the March 2005 quarter, up 79% over the $19 million
reported for the March 2004 quarter. Sales revenues were up 21%
due to the division's ability to pass through price increases.
Gross profit as a percent of sales improved to 9.8%, compared to
9.7% in the prior year quarter. Ashland Distribution is building
solid momentum for continued growth by creating consistent
processes, sustaining a low-cost model and delivering value to its
customers.
YEAR-TO-DATE - Ashland Distribution achieved all-time record
operating income of $59 million for the six months ended March 31,
2004, up 84% over the $32 million reported for the same period a
year ago. The increase reflects the same factors described in the
current quarter comparison. Sales revenues increased 25% and gross
profit as a percent of sales remained constant at 9.7%.
Ashland Specialty Chemical
CURRENT QUARTER - Ashland Specialty Chemical achieved an all-time
record quarter, with operating income of $39 million for the March
2005 quarter, up 105% over the $19 million reported for the March
2004 quarter. The improvement reflects increased operating income
from both the thermoset resins and water technologies businesses.
Sales revenues grew by 32% due in part to an 8% increase in
thermoset resin volumes. Partial recovery of margins during the
quarter and the sale of an idle plant in Plaquemine, La., which
resulted in a pre-tax gain of $7 million, also contributed to the
division's record performance. Results of the domestic thermoset
businesses included four additional shipping days in the March
2004 quarter, reflecting a move to a calendar month end for
revenue recognition, which increased revenues by $9 million and
operating income by $4 million for that period.
YEAR-TO-DATE - Ashland Specialty Chemical reported operating
income of $61 million for the six months ended March 31, 2005,
compared to $42 million for the six months ended March 31, 2004,
reflecting improvements in both the thermoset resins and water
technologies businesses. The 2005 period included approximately $4
million in net, non-recurring gains principally related to the
termination of a product supply contract in the December 2004
quarter, in addition to the $7 million pre-tax gain on the sale of
the idle plant in the March 2005 quarter. Although sales and
operating revenues were up 28%, reflecting in part an 8% increase
in sales volumes for the thermoset resins businesses, gross profit
as a percent of sales declined from 29.7% to 25.5%. Tightness in
certain petrochemical markets caused raw material costs to
escalate at a faster pace than could be recovered through
increased selling prices.
17
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ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
- -------------------------------------------------------------------------------
Valvoline
CURRENT QUARTER - Operating income from the Valvoline division was
$24 million in the March 2005 quarter, essentially even with the
record achieved in the March 2004 quarter. Price increases enabled
Valvoline to maintain profits despite softer volumes and high raw
material costs. While U.S.-branded lubricant sales volumes
declined 7%, premium lubricant sales volumes increased by 5%.
YEAR-TO-DATE - Operating income from the Valvoline division was
$42 million for the six months ended March 31, 2005, compared to
$45 million for the six months ended March 31, 2004. The decline
was primarily due to a 7% decrease in branded lubricant sales
volumes. Partially offsetting this decrease was a 4% increase in
premium lubricant sales volumes and a 26% improvement in
international results, primarily in Europe and Latin America.
Refining and Marketing
CURRENT QUARTER - Operating income from Refining and Marketing,
which consists primarily of equity income from Ashland's 38%
ownership interest in MAP, amounted to $61 million for the quarter
ended March 31, 2005, compared to $2 million for the March 2004
quarter. Equity income from MAP's refining and wholesale marketing
operations increased $51 million, reflecting greater discounts on
high-sulfur crude oil and increased refinery throughputs due to
less planned maintenance. Crude oil throughput was 17% higher than
during the March 2004 quarter. MAP's refining and wholesale
marketing margin increased to $2.88 per barrel, compared to $1.44
in the March 2004 quarter. During the March 2005 quarter, MAP
realized a $12 million loss and recorded a $61 million
mark-to-market charge for crack spread derivative contracts. MAP
also recorded a $73 million in-transit crude oil charge during the
March 2005 quarter. These items reduced Ashland's equity income
from MAP's refining and wholesale marketing operations by $55
million. Equity income from MAP's retail operations (Speedway
SuperAmerica and a 50% interest in the Pilot Travel Centers joint
venture) increased $3 million, reflecting higher merchandise sales
volumes and margins. Equity income from MAP's transportation
operations increased $5 million, reflecting increased revenues.
YEAR-TO-DATE - Operating income from Refining and Marketing
amounted to $197 million for the six months ended March 31, 2005,
compared to $27 million for the six months ended March 31, 2004.
Equity income from MAP's refining and wholesale marketing
operations increased $153 million, reflecting the same factors
described in the current quarter comparison. MAP's refining and
wholesale marketing margin increased $1.89 per barrel and crude
oil throughput increased 12% compared to the prior year period.
Equity income from MAP's retail operations increased $14 million,
reflecting higher merchandise sales and margins for SSA, and
higher product volumes and margins and higher merchandise volumes
for PTC. Equity income from MAP's transportation operations
increased $4 million, reflecting increased revenues.
On April 28, 2005, Ashland announced that it had amended its
agreement to transfer its 38-percent interest in MAP and two other
businesses to Marathon Oil Corporation. Under the amended
agreement, Ashland's interest in these businesses is valued at
approximately $3.7 billion compared to approximately $3 billion in
the earlier agreement, with substantially all the increase in
value going directly to Ashland's shareholders in the form of
Marathon stock. In addition, Marathon has agreed to pay the first
$200 million of any Section 355(e) tax, if any, as compared to the
prior agreement where Ashland bore full responsibility for any
Section 355(e) tax. The transaction is expected to be tax free to
Ashland's shareholders and tax efficient to Ashland. The two other
businesses are Ashland's maleic anhydride business and 60
Valvoline Instant Oil Change (VIOC) centers in Michigan and
northwest Ohio, which are valued at $94 million.
18
- -------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
- -------------------------------------------------------------------------------
Refining and Marketing (continued)
Under the terms of the amended agreement, Ashland's shareholders
will receive Marathon common stock with an aggregate value of $915
million. Based on the number of shares outstanding on March 31,
2005, shareholders would receive $12.56 in Marathon stock per
Ashland share. Ashland will receive cash and MAP accounts
receivable totaling $2.8 billion. In addition, MAP has not made
quarterly cash distributions to Ashland and Marathon since March
18, 2004, and such distributions will continue to be suspended
until the closing of the transaction. As a result, the final
amount of cash to be received by Ashland will be increased by an
amount equal to 38 percent of the cash accumulated from operations
during the period prior to closing. At March 31, 2005, Ashland's
share of this accumulated cash was $560 million.
The transaction is subject to, among other things, approval by
Ashland's shareholders, consent from public debt holders,
finalization of the closing agreement with the Internal Revenue
Service and customary antitrust review. Ashland and Marathon have
agreed to use their reasonable best efforts to complete the
transaction by June 30, 2005, with the termination date for the
transaction extended to September 30, 2005.
Corporate
Corporate expenses amounted to $26 million in the quarter ended
March 31, 2005, compared to $21 million in the March 2004 quarter.
The increase reflects a $5 million loss recognized on a
foreign-currency-denominated prepaid royalty payment received in
2002. Corporate expenses amounted to $53 million for the six
months ended March 31, 2005, compared to $42 million for the six
months ended March 31, 2004. In addition to the loss on the
prepaid royalty, the December 2004 quarter included a $7 million
charge for estimated future obligations to make certain insurance
premium payments related to past loss experience.
Net interest and other financial costs
Net interest and other financial costs amounted to $29 million in
both the March 2005 and March 2004 quarters. For the six months
ended March 31, 2005, net interest and other financial costs
amounted to $61 million, compared to $59 million for the six
months ended March 31, 2004. The increase reflects a $2 million
loss in the December 2004 quarter on the early retirement of a
capitalized lease obligation.
Discontinued operations
As described in Notes B and G to the Condensed Consolidated
Financial Statements, Ashland's results from discontinued
operations include charges associated with estimated future
asbestos liabilities less probable insurance recoveries. Such
amounts are summarized below.
- ------------------------------------------------------------------------------------------------------------------------
Three months ended Six months ended
March 31 March 31
------------------------ -----------------------
(In millions) 2005 2004 2005 2004
- ------------------------------------------------------------------------------------------------------------------------
Pretax income (loss) from discontinued operations
Reserves for asbestos-related litigation $ - $ (7) $ - $ (15)
Loss on disposal of Electronic Chemicals - - - (1)
Income taxes
Reserves for asbestos-related litigation - 2 - 6
Loss on disposal of Electronic Chemicals - - - -
---------- ----------- ---------- ----------
Results from discontinued operations (net of income taxes) $ - $ (5) $ - $ (10)
========== =========== ========== ==========
19
- -------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
- -------------------------------------------------------------------------------
FINANCIAL POSITION
Liquidity
Cash flows from operations, a major source of Ashland's liquidity,
amounted to a deficit of $238 million for the six months ended
March 31, 2005, compared to positive cash flows of $58 million for
the six months ended March 31, 2004. Ashland received no cash
distributions from MAP in the 2005 period, compared to
distributions of $146 million in the 2004 period. Pursuant to the
terms of the agreement entered into between Ashland and Marathon,
MAP has not made quarterly cash distributions to Ashland and
Marathon since March 18, 2004, and such distributions will
continue to be suspended until the closing of the transaction. As
a result, the final amount of cash to be received by Ashland will
be increased by an amount equal to 38 percent of the cash
accumulated from operations during the period prior to closing. At
March 31, 2005, Ashland's share of this accumulated cash was $560
million. Also impacting cash flows from operations, Ashland has
made $173 million in net federal tax payments in the 2005 period,
compared to $30 million in the 2004 period.
Ashland's financial position has enabled it to obtain capital for
its financing needs and to maintain investment grade ratings on
its senior debt of Baa2 from Moody's and BBB from Standard &
Poor's (S&P). On April 29, 2005, following the announcement of the
amendment to the agreement whereby Ashland would transfer its
interest in MAP to Marathon, Moody's announced it would likely cut
Ashland's senior debt rating to Ba1, the highest non-investment
grade rating. Ratings downgrades below investment grade can
significantly increase a company's borrowing costs. In December
2004, S&P raised Ashland's commercial paper rating to A-2 from
A-3, increasing the availability of the commercial paper market to
Ashland. Moody's continues to rate Ashland's commercial paper at
P-3. Ashland has two revolving credit agreements providing for up
to $650 million in borrowings. The agreement providing for up to
$350 million in borrowings expires on March 21, 2010. The
agreement providing for up to $300 million in borrowings expires
on March 20, 2006. Ashland has utilized the latter facility to
fund currently maturing long-term debt, the early retirement of a
capital lease, and certain other lease payments, and had $228
million outstanding under this facility at March 31, 2005. While
the revolving credit agreements contain covenants limiting new
borrowings based on Ashland's stockholders' equity, these
agreements would have permitted an additional $2.4 billion of
borrowings at March 31, 2005. Additional permissible borrowings
are increased (decreased) by 150% of any increase (decrease) in
stockholders' equity.
At March 31, 2005, working capital (excluding debt due within one
year) amounted to $949 million, compared to $926 million at
September 30, 2004, and $768 million at March 31, 2004. Ashland's
working capital is affected by its use of the LIFO method of
inventory valuation. That method valued inventories below their
replacement costs by $119 million at March 31, 2005, compared to
$95 million at September 30, 2004, and $81 million at March 31,
2004. Liquid assets (cash, cash equivalents and accounts
receivable) amounted to 69% of current liabilities at March 31,
2005, compared to 84% at September 30, 2004, and 89% at March 31,
2004.
Capital resources
For the six months ended March 31, 2005, property additions
amounted to $127 million, compared to $86 million for the same
period last year. Ashland anticipates meeting its remaining 2005
capital requirements for property additions of approximately $150
million, excluding any buyouts of current leases, and dividends of
approximately $40 million, from internally generated funds,
supplemented by short-term borrowings or proceeds from the MAP
transaction as necessary.
20
- -------------------------------------------------------------------------------
ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
- -------------------------------------------------------------------------------
Capital resources (continued)
In 2004, Ashland initiated a multi-year SAP enterprise resource
planning (ERP) project that is expected to be implemented
world-wide across Ashland's Chemical Sector to achieve increased
efficiency and effectiveness in supply chain, financial, and
environmental, health and safety processes. Overall costs for this
project through 2007 are expected to total approximately $90
million, of which approximately $80 million will be capitalized,
including $25 million of capitalized costs expected to be spent in
2005. While extensive planning is underway to support a smooth
implementation of the ERP system, such implementations carry
substantial project risk, including the potential for business
interruption and associated adverse impacts on operating results.
Ashland's debt level amounted to $1.81 billion at March 31, 2005,
compared to $1.55 billion at September 30, 2004, and $1.56 billion
at March 31, 2004. Debt as a percent of capital employed amounted
to 38.5% at March 31, 2005, compared to 36.4% at September 30,
2004, and 40.1% at March 31, 2004. At March 31, 2005, Ashland's
debt included $507 million of floating-rate obligations, including
$478 million of short-term debt and $29 million of long-term debt,
and the interest rates on an additional $122 million of
fixed-rate, medium-term notes were effectively converted to
floating rates through interest rate swap agreements. In addition,
Ashland's costs under its sale of receivables program and various
operating leases are based on the floating-rate interest costs on
$186 million of third-party debt underlying those transactions. As
a result, Ashland was exposed to short-term interest rate
fluctuations on $815 million of debt obligations at March 31,
2005.
ASBESTOS-RELATED LITIGATION AND ENVIRONMENTAL REMEDIATION
For a discussion of Ashland's asbestos-related litigation and
environmental remediation matters, see Note G to the Condensed
Consolidated Financial Statements.
FORWARD LOOKING STATEMENTS
Management's Discussion and Analysis contains forward-looking
statements, within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of
1934. These statements include those that refer to Ashland's
operating performance, earnings, benefits expected to be obtained
through the SAP ERP implementation and expectations about the MAP
transaction. Although Ashland believes its expectations are based
on reasonable assumptions, it cannot assure the expectations
reflected herein will be achieved. These forward-looking
statements are based upon internal forecasts and analyses of
current and future market conditions and trends, management plans
and strategies, weather, operating efficiencies and economic
conditions, such as prices, supply and demand, cost of raw
materials, and legal proceedings and claims (including
environmental and asbestos matters) and are subject to a number of
risks, uncertainties, and assumptions that could cause actual
results to differ materially from those we describe in the
forward-looking statements. The risks, uncertainties, and
assumptions include the risks associated with the ERP
implementation, including the potential for business interruption
and associated adverse impacts on operating results; the
possibility that Ashland will be unable to fully realize the
benefits anticipated from the MAP transaction; the possibility the
transaction may not close including as a result of failure to
finalize the closing agreement with the Internal Revenue Service
or failure of Ashland to obtain the approval of its shareholders;
the possibility that Ashland may be required to modify some aspect
of the transaction to obtain regulatory approvals; and other risks
that are described from time to time in the Securities and
Exchange Commission (SEC) reports of Ashland. Other factors and
risks affecting Ashland are contained in Risks and Uncertainties
in Note A to the Consolidated Financial Statements in Ashland's
annual report on Form 10-K, as amended, for the fiscal year ended
September 30, 2004. Ashland undertakes no obligation to
subsequently update or revise these forward-looking statements.
21
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Ashland's market risk exposure at March 31, 2005 is generally
consistent with the types and amounts of market risk exposures
presented in Ashland's Annual Report on Form 10-K, as amended, for
the fiscal year ended September 30, 2004.
ITEM 4. CONTROLS AND PROCEDURES
(a) As of the end of the period covered by this quarterly
report, Ashland, under the supervision and with the
participation of its management, including Ashland's
Chief Executive Officer and its Chief Financial Officer,
evaluated the effectiveness of Ashland's disclosure
controls and procedures pursuant to Rule 13a-15(b) and
15d-15(b) promulgated under the Securities Exchange Act
of 1934, as amended. Based upon that evaluation, the
Chief Executive Officer and Chief Financial Officer have
concluded that the disclosure controls and procedures
were effective.
(b) There were no significant changes in Ashland's internal
control over financial reporting, or in other factors,
that occurred during the period covered by this quarterly
report that have materially affected, or are reasonably
likely to materially affect, Ashland's internal control
over financial reporting.
22
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Asbestos-Related Litigation - Ashland is subject to liabilities from
claims alleging personal injury caused by exposure to asbestos. Such claims
result primarily from indemnification obligations undertaken in 1990 in
connection with the sale of Riley Stoker Corporation ("Riley"), a former
subsidiary. Although Riley was neither a producer nor a manufacturer of
asbestos, its industrial boilers contained some asbestos-containing
components provided by other companies.
The majority of lawsuits filed involve multiple plaintiffs and
multiple defendants, with the number of defendants in many cases exceeding
100. The monetary damages sought in the asbestos-related complaints that
have been filed in state or federal courts vary as a result of
jurisdictional requirements and practices, though the vast majority of
these complaints either do not specify monetary damages sought or merely
recite that the monetary damages sought meet or exceed the required
jurisdictional minimum in which the complaint was filed. Plaintiffs have
asserted specific dollar claims for damages in approximately 5% of the
50,900 active lawsuits pending as of March 31, 2005. In these active
lawsuits, less than 0.2% of the active lawsuits involve claims between $0
and $100,000; approximately 1.6% of the active lawsuits involve claims
between $100,000 and $1 million; less than 1% of the active lawsuits
involve claims between $1 million and $5 million; less than 0.2% of the
active lawsuits involve claims between $5 million and $10 million;
approximately 2% of the active lawsuits involve claims between $10 million
and $15 million; and less than 0.02% of the active lawsuits involve claims
between $15 million and $100 million. The variability of requested damages,
coupled with the actual experience of resolving claims over an extended
period, demonstrates that damages requested in any particular lawsuit or
complaint bear little or no relevance to the merits or disposition value of
a particular case. Rather, the amount potentially recoverable by a specific
plaintiff or group of plaintiffs is determined by other factors such as
product identification or lack thereof, the type and severity of the
disease alleged, the number and culpability of other defendants, the impact
of bankruptcies of other companies that are co-defendants in claims,
specific defenses available to certain defendants, other potential
causative factors and the specific jurisdiction in which the claim is made.
For additional information regarding liabilities arising from
asbestos-related litigation, see Note G of "Notes to Condensed Consolidated
Financial Statements" in this quarterly report on Form 10-Q.
U.S. Department of Justice ("USDOJ") Antitrust Division Investigation
- - In November 2003, Ashland received a subpoena from the USDOJ relating to
a foundry resins grand jury investigation. Ashland has provided responsive
records to the subpoena. As is frequently the case when such investigations
are in progress, a number of civil actions have since been filed in
multiple jurisdictions, most of which are seeking class action status for
classes of customers of foundry resins. These cases have been consolidated
for pretrial purposes in the United States District Court, Southern
District of Ohio. Ashland will vigorously defend the actions.
Environmental Proceedings - (1) Under the federal Comprehensive
Environmental Response Compensation and Liability Act (as amended) and
similar state laws, Ashland may be subject to joint and several liability
for clean-up costs in connection with alleged releases of hazardous
substances at sites where it has been identified as a "potentially
responsible party" ("PRP"). As of March 31, 2005, Ashland had been named a
PRP at 91 waste treatment or disposal sites. These sites are currently
subject to ongoing investigation and remedial activities, overseen by the
United States Environmental Protection Agency (the "USEPA") or a state
agency, in which Ashland is typically participating as a member of a PRP
group. Generally, the type of relief sought includes remediation of
contaminated soil and/or groundwater, reimbursement for past costs of site
clean-up and administrative oversight, and/or long-term monitoring of
environmental conditions at the sites. The ultimate costs are not
predictable with assurance.
For additional information regarding environmental matters and
reserves, see Note G of "Notes to Condensed Consolidated Financial
Statements" in this quarterly report on Form 10-Q.
(2) On May 13, 2002, Ashland entered into a plea agreement with the
U.S. Attorney's Office for the District of Minnesota and the U.S.
Department of Justice regarding a May 16, 1997, sewer fire at the St. Paul
Park, Minnesota refinery, which is now owned by MAP. As part of the plea
agreement, Ashland entered guilty pleas to two misdemeanors, paid a $3.5
million fine related to violations of the Clean Air Act ("CAA"), paid $3.55
million as restitution to the employees injured in the fire, and paid
$200,000 as restitution to the responding rescue units. Ashland also agreed
to complete certain upgrades to the St. Paul Park refinery's process
sewers, junction boxes and
23
drains to meet standards established by Subpart QQQ of the New Source
Performance Standards of the CAA (the "Refinery Upgrades"). The Refinery
Upgrades, completed before 2004, have been acknowledged and accepted by the
appropriate agencies.
In addition, as part of the plea agreement, Ashland entered into a
deferred prosecution agreement, wherein prosecution of a separate count of
the indictment charging Ashland with violating Subpart QQQ was deferred for
four years. The deferred prosecution agreement provided that if Ashland
satisfied the terms and conditions of the plea agreement and completed the
Refinery Upgrades, the deferred prosecution agreement would terminate and
the United States would dismiss that count with prejudice. Ashland
satisfied these terms and conditions and the deferred prosecution was
dismissed by the court on February 22, 2005.
As part of its sentence, Ashland was placed on probation for five
years. The primary condition of probation is an obligation not to commit
future federal, state, or local crimes. If Ashland were to commit such a
crime, it would be subject not only to prosecution for that new violation,
but the government could also seek to revoke Ashland's probation. The
probation office has retained an independent environmental consultant to
review and monitor Ashland's compliance with applicable environmental
requirements and the terms and conditions of probation. The court also
included other customary terms and restrictions of probation in its
probation order.
(3) In 1990, contamination of groundwater at Ashland's former Canton,
Ohio, refinery (now owned and operated by MAP) was first identified and
reported to Ohio's Environmental Protection Agency ("OEPA"). Since that
time, Ashland has voluntarily conducted investigation and remediation
activities and regularly communicated with OEPA regarding this matter.
Ashland and the state of Ohio have exchanged Consent Order drafts and have
met to negotiate the terms of such an order. The state filed a complaint in
February 2004, but simultaneously expressed an interest in continuing
Consent Order settlement discussions. Following the filing of the
complaint, Ashland, OEPA and Ohio's Office of the Attorney General have
continued to work to finalize a Consent Order. The state has advised that
it will assess a penalty as part of the overall settlement and has made an
initial request for $650,000.
Class Action Lawsuit Related to MAP Transaction - On April 8, 2005,
Shiva Singh filed a complaint in the Supreme Court of the State of New
York in New York County on behalf of himself and others similarly situated
against Ashland, and the individual members of Ashland's Board of
Directors. The complaint also names Marathon Oil Corporation ("Marathon"),
MAP and Credit Suisse First Boston LLC ("CSFB") as defendants. The action
arises out of the proposed transaction announced on March 19, 2004 in which
Ashland would transfer its entire 38% interest in MAP as well as certain
other businesses to Marathon (the "proposed transaction"). The complaint
also alleges breach of fiduciary duty as well as aiding and abetting breach
of fiduciary duty and negligence against Ashland, its directors, Marathon
and MAP. The complaint also alleges breach of fiduciary duty and negligence
as well as aiding and abetting breach of fiduciary duty and negligence
against CSFB.
The complaint seeks to recover from defendants an unstated sum of
damages. The complaint also seeks to enjoin the proposed transaction (and
any related shareholder vote) between Ashland and Marathon to require
defendants to fully disclose all material facts before completion of any
such transaction; and to require defendants to obtain a current,
independent fairness opinion concerning the proposed transaction. To the
extent that the proposed transaction is consummated prior to the entry of
the court's final judgment, the complaint asks the court to rescind such
transaction(s) and award damages. The complaint also seeks reasonable
attorneys' fees, costs and expenses. Ashland believes the lawsuit is
without merit.
Other Legal Proceedings - In addition to the matters described above,
there are various claims, lawsuits and administrative proceedings pending
or threatened against Ashland and its current and former subsidiaries. Such
actions are with respect to commercial matters, product liability, toxic
tort liability, and other environmental matters, which seek remedies or
damages, some of which are for substantial amounts. While these actions are
being contested, their outcome is not predictable.
ITEM 5. OTHER INFORMATION
On April 28, 2005, Ashland announced that it has amended its agreement
to transfer its 38-percent interest in MAP and two other businesses to
Marathon. Under the amended agreement, Ashland's interest in these
businesses is valued at approximately $3.7 billion compared to
approximately $3 billion in the earlier agreement, with substantially all
the increase in value going directly to Ashland's shareholders in the form
of Marathon stock. In addition, Marathon has agreed to pay the first $200
million of any Section 355(e) tax, if any, as compared to the prior
agreement where Ashland bore full responsibility for any Section 355(e)
tax. The transaction is expected to be
24
tax free to Ashland's shareholders and tax efficient to Ashland. The two
other businesses are Ashland's maleic anhydride business and 60 Valvoline
Instant Oil Change ("VIOC") centers in Michigan and northwest Ohio, which
are valued at $94 million.
Under the terms of the amended agreement, Ashland's shareholders will
receive Marathon common stock with an aggregate value of $915 million.
Based on the number of shares outstanding on March 31, 2005, shareholders
would receive $12.56 in Marathon stock per Ashland share. Ashland will
receive cash and MAP accounts receivable totaling $2.8 billion. In
addition, MAP has not made quarterly cash distributions to Ashland and
Marathon since March 18, 2004, and such distributions will continue to be
suspended until the closing of the transaction. As a result, the final
amount of cash to be received by Ashland will be increased by an amount
equal to 38 percent of the cash accumulated from operations during the
period prior to closing. At March 31, 2005, Ashland's share of this
accumulated cash was $560 million.
Under the terms of the earlier agreement, the closing was conditioned
on receipt of private letter rulings from the Internal Revenue Service
("IRS") with respect to certain tax issues. Under the terms of the amended
agreement, Ashland and Marathon expect to enter into a closing agreement
with the IRS that will resolve these tax issues. Under the closing
agreement, the retention by Ashland of certain contingent liabilities
related to previously-owned businesses will reduce Ashland's tax basis.
Ashland estimates this basis reduction may increase any Section 355(e) tax
on the transaction by approximately $66 million. Marathon has agreed to pay
the first $200 million of any Section 355(e) tax. Ashland would pay up to
the next $175 million of Section 355(e) tax, if required. Any remaining
Section 355(e) tax would be shared equally by Ashland and Marathon. Based
on the number of Ashland shares outstanding as of March 31, 2005, and
Ashland's current estimate of Ashland's tax basis, Ashland expects that it
would be required to pay Section 355(e) tax only if Ashland's stock price
on the closing date exceeds approximately $74.50 per share.
Ashland intends to use a substantial portion of the transaction
proceeds to retire all or most of its outstanding debt and certain other
financial obligations. After payment of these obligations and including
Ashland's current estimate of MAP's final cash distribution, Ashland
expects to have a net cash position of roughly $1.1 billion.
The transaction is subject to, among other things, approval by
Ashland's shareholders, consent from public debt holders, finalization of
the closing agreement with the IRS and customary antitrust review. Ashland
and Marathon have agreed to use their reasonable best efforts to complete
the transaction by June 30, 2005, with the termination date for the
transaction extended to September 30, 2005.
ITEM 6. EXHIBITS
(a) Exhibits
4 Amendment No. 2 dated as of April 27, 2005, to the Rights
Agreement, dated as of May 16, 1996, between Ashland Inc.
and the Rights Agent.
10 Ashland Inc. Deferred Compensation Plan for Employees
(2005), as amended.
12 Computation of Ratio of Earnings to Fixed Charges.
31.1 Certificate of James J. O'Brien, Chief Executive Officer
of Ashland pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
31.2 Certificate of J. Marvin Quin, Chief Financial Officer of
Ashland pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
32 Certificate of James J. O'Brien, Chief Executive Officer
of Ashland, and J. Marvin Quin, Chief Financial Officer
of Ashland, pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
25
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
Ashland Inc.
---------------------------
(Registrant)
Date: May 9, 2005 /s/ J. Marvin Quin
----------------------------
J. Marvin Quin
Senior Vice President and
Chief Financial Officer (on
behalf of the Registrant and
as principal financial
officer)
26
EXHIBIT INDEX
Exhibit
No. Description
------- ---------------------------------------------------------
4 Amendment No. 2 dated as of April 27, 2005, to the
Rights Agreement, dated as of May 16, 1996, between
Ashland Inc. and the Rights Agent.
10 Ashland Inc. Deferred Compensation Plan for Employees
(2005), as amended.
12 Computation of Ratio of Earnings to Fixed Charges.
31.1 Certificate of James J. O'Brien, Chief Executive
Officer of Ashland pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certificate of J. Marvin Quin, Chief Financial
Officer of Ashland pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32 Certificate of James J. O'Brien, Chief Executive
Officer of Ashland, and J. Marvin Quin, Chief
Financial Officer of Ashland, pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
27