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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
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 1-10145
LYONDELL CHEMICAL COMPANY
(Exact name of registrant as specified in its charter)
Delaware 95-4160558
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1221 McKinney Street, 77010
Suite 700, Houston, Texas (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (713) 652-7200
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 __
Number of shares of Common Stock, $1.00 par value,
outstanding as of July 1, 2002: 125,844,920
PART I. FINANCIAL INFORMATION
LYONDELL CHEMICAL COMPANY
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
CONSOLIDATED STATEMENTS OF INCOME
For the three months For the six months
ended June 30, ended June 30,
-------------------- ------------------
Millions of dollars, except per share data 2002 2001 2002 2001
------------------------------------------ ------ ------ ------ ------
Sales and other operating revenues $ 843 $ 893 $ 1,517 $ 1,742
Operating costs and expenses:
Cost of sales 724 770 1,313 1,531
Selling, general and administrative expenses 46 42 86 83
Research and development expense 8 8 15 16
Amortization of goodwill -- 7 -- 15
------- ------- ------- -------
778 827 1,414 1,645
------- ------- ------- -------
Operating income 65 66 103 97
Interest expense (94) (98) (187) (197)
Interest income 3 4 5 11
Other income (expense), net (4) (1) (3) 2
------- ------- ------- -------
Loss before equity investments
and income taxes (30) (29) (82) (87)
------- ------- ------- -------
Income (loss) from equity investments:
Equistar Chemicals, LP (5) (2) (50) (24)
LYONDELL-CITGO Refining LP 39 41 66 68
Other (2) 3 (5) --
------- ------- ------- -------
32 42 11 44
------- ------- ------- -------
Income (loss) before income taxes 2 13 (71) (43)
Provision for (benefit from) income taxes -- 9 (18) (13)
------- ------- ------- -------
Net income (loss) $ 2 $ 4 $ (53) $ (30)
======= ======= ======= =======
Basic and diluted earnings (loss) per share $ .02 $ .04 $ (.45) $ (.25)
======= ======= ======= =======
See Notes to Consolidated Financial Statements.
1
LYONDELL CHEMICAL COMPANY
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
Millions of dollars, except par value data 2002 2001
- ------------------------------------------ -------- ------------
ASSETS
Current assets:
Cash and cash equivalents $ 215 $ 146
Accounts receivable, net 360 352
Inventories 312 316
Prepaid expenses and other current assets 57 116
Deferred tax assets 23 277
------- -------
Total current assets 967 1,207
------- -------
Property, plant and equipment, net 2,382 2,293
Investments and long-term receivables:
Investment in PO joint ventures 740 717
Investment in Equistar Chemicals, LP 472 522
Receivable from LYONDELL-CITGO Refining LP 229 229
Investment in LYONDELL-CITGO Refining LP 71 29
Other investments and long-term receivables 88 122
Goodwill, net 1,120 1,102
Other assets, net 437 482
------- -------
Total assets $ 6,506 $ 6,703
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 341 $ 319
Current maturities of long-term debt 6 7
Other accrued liabilities 232 233
------- -------
Total current liabilities 579 559
------- -------
Long-term debt 3,831 3,846
Other liabilities 589 583
Deferred income taxes 578 790
Commitments and contingencies
Minority interest 158 176
Stockholders' equity:
Common stock, $1.00 par value, 250,000,000 shares
authorized, 120,250,000 shares issued 120 120
Additional paid-in capital 854 854
Retained earnings 141 247
Accumulated other comprehensive loss (269) (397)
Treasury stock, at cost, 2,685,080 and 2,687,080 shares, respectively (75) (75)
------- -------
Total stockholders' equity 771 749
------- -------
Total liabilities and stockholders' equity $ 6,506 $ 6,703
======= =======
See Notes to Consolidated Financial Statements.
2
LYONDELL CHEMICAL COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the six months
ended June 30,
------------------
Millions of dollars 2002 2001
- ------------------- ----- -----
Cash flows from operating activities:
Net loss $ (53) $ (30)
Adjustments to reconcile net loss to
net cash provided by (used in) operating activities:
Depreciation and amortization 123 132
Losses from equity investments 55 25
Deferred income taxes 16 (23)
Changes in assets and liabilities that provided (used) cash:
Accounts receivable 23 75
Inventories 11 (6)
Accounts payable (2) (106)
Prepaid expenses and other current assets 60 (46)
Other assets and liabilities (28) (45)
----- -----
Net cash provided by (used in) operating activities 205 (24)
----- -----
Cash flows from investing activities:
Expenditures for property, plant and equipment (12) (40)
Contributions and advances to affiliates (57) (40)
Distributions from affiliates in excess of earnings -- 11
----- -----
Net cash used in investing activities (69) (69)
----- -----
Cash flows from financing activities:
Dividends paid (53) (53)
Repayment of long-term debt (16) (5)
Other -- (3)
----- -----
Net cash used in financing activities (69) (61)
----- -----
Effect of exchange rate changes on cash 2 (1)
----- -----
Increase (decrease) in cash and cash equivalents 69 (155)
Cash and cash equivalents at beginning of period 146 260
----- -----
Cash and cash equivalents at end of period $ 215 $ 105
===== =====
See Notes to Consolidated Financial Statements.
3
LYONDELL CHEMICAL COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. Basis of Preparation
The accompanying consolidated financial statements are unaudited and have been
prepared from the books and records of Lyondell Chemical Company ("Lyondell") in
accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X
for interim financial information. Accordingly, they do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments,
consisting only of normal recurring adjustments, considered necessary for a fair
presentation have been included. For further information, refer to the
consolidated financial statements and notes thereto for the year ended December
31, 2001 included in the Lyondell 2001 Annual Report on Form 10-K. Certain
amounts from prior periods have been reclassified to conform to the current
period presentation.
2. Accounting Changes
Effective January 1, 2002, Lyondell implemented Statement of Financial
Accounting Standards ("SFAS") No. 141, Business Combinations, SFAS No. 142,
Goodwill and Other Intangible Assets, and SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. Implementation of SFAS No. 141 and
SFAS No. 144 did not have a material effect on the consolidated financial
statements of Lyondell.
Upon implementation of SFAS No. 142, Lyondell reviewed its goodwill for
impairment and concluded that goodwill is not impaired. However, Equistar
Chemicals, LP ("Equistar") (see Note 3) reviewed its goodwill for impairment and
concluded that the entire balance was impaired, resulting in a $1.1 billion
charge to Equistar's earnings. The conclusion was based on a comparison to
Equistar's indicated fair value, using multiples of EBITDA (earnings before
interest, taxes, depreciation and amortization) for comparable companies as an
indicator of fair value. Lyondell's 41% share of the Equistar charge was offset
by a corresponding reduction in the excess of Lyondell's 41% share of Equistar's
partners' capital over the carrying value of Lyondell's investment in Equistar.
Consequently, there was no net effect of the impairment on Lyondell's earnings
or investment in Equistar.
As a result of implementing SFAS No. 142, Lyondell's pretax earnings in 2002 and
subsequent years will be favorably affected by $30 million annually because of
the elimination of Lyondell's goodwill amortization. The following table
presents Lyondell's reported net income (loss) for all periods presented as
adjusted to eliminate goodwill amortization expense.
For the three months ended For the six months ended
June 30, June 30,
------------------------------- -------------------------------
Millions of dollars 2002 2001 2002 2001
- ------------------- -------------- -------------- -------------- --------------
Reported net income (loss) $ 2 $ 4 $ (53) $ (30)
Add back: goodwill amortization, net of tax - - 5 - - 11
------ ------ -------- --------
Adjusted net income (loss) $ 2 $ 9 $ (53) $ (19)
====== ====== ======== ========
Basic and diluted earnings per share:
Reported net income (loss) $ .02 $ .04 $ (.45) $ (.25)
Add back: goodwill amortization, net of tax - - .04 - - .09
------ ------ -------- --------
Adjusted net income (loss) $ .02 $ .08 $ (.45) $ (.16)
====== ====== ======== ========
In April 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No.
145, Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections. The primary impact of the statement
on Lyondell will be the classification of losses that result from the early
extinguishment of debt as a charge to income before extraordinary items.
Reclassification of prior period losses that were originally reported as
extraordinary items also will be required. Application of the statement will be
required in 2003. See Note 16.
4
In July 2002, the FASB issued SFAS No. 146, Accounting for Exit or Disposal
Activities. SFAS No. 146 addresses the recognition, measurement, and reporting
of costs associated with exit and disposal activities, including restructuring
activities, essentially codifying prior accounting guidance on these matters.
SFAS No. 146 will be effective for activities initiated after December 31, 2002.
Early application is permitted. Lyondell does not expect adoption of SFAS No.
146 to have any impact on the consolidated financial statements of Lyondell,
Equistar or LYONDELL-CITGO Refining LP ("LCR").
3. Equity Interest in Equistar Chemicals, LP
Lyondell's operations in the petrochemicals and polymers segments are conducted
through its joint venture ownership interest in Equistar. Lyondell currently has
a 41% interest in Equistar, while Millennium Chemicals Inc. ("Millennium") and
Occidental Petroleum Corporation ("Occidental") each have a 29.5% interest.
Because the partners jointly control certain management decisions, Lyondell
accounts for its investment in Equistar using the equity method of accounting.
Lyondell has entered into an agreement to purchase Occidental's interest in
Equistar (see Note 15). As a partnership, Equistar is not subject to federal
income taxes. Summarized financial information for Equistar follows:
June 30, December 31,
Millions of dollars 2002 2001
- -------------------- -------- ------------
BALANCE SHEETS
Total current assets $ 1,188 $ 1,226
Property, plant and equipment, net 3,615 3,705
Goodwill, net - - 1,053
Other assets 347 324
------- --------
Total assets $ 5,150 $ 6,308
======= ========
Current maturities of long-term debt $ 4 $ 104
Other current liabilities 598 557
Long-term debt 2,331 2,233
Other liabilities 187 177
Partners' capital 2,030 3,237
------- --------
Total liabilities and partners' capital $ 5,150 $ 6,308
======= ========
For the three months ended For the six months ended
June 30, June 30,
----------------------------- ------------------------------
2002 2001 2002 2001
------------- -------------- ------------- -------------
STATEMENTS OF INCOME
Sales and other operating revenues $ 1,462 $ 1,600 $ 2,598 $ 3,373
Cost of sales 1,390 1,522 2,552 3,245
Selling, general and administrative expenses 50 55 99 111
Amortization of goodwill - - 9 - - 17
Unusual charges - - - - - - 22
------- ------- --------- --------
Operating income (loss) 22 14 (53) (22)
Interest expense, net (50) (45) (102) (91)
Other income, net - - 1 1 6
------- ------- --------- --------
Loss before cumulative effect of accounting change (28) (30) (154) (107)
Cumulative effect of accounting change - - - - (1,053) - -
------- ------- --------- --------
Net loss $ (28) $ (30) $ (1,207) $ (107)
======= ======= ========= =========
SELECTED CASH FLOW INFORMATION
Depreciation and amortization $ 75 $ 81 $ 150 $ 159
Expenditures for property, plant and equipment 14 29 29 53
5
As of January 1, 2002, as part of the implementation of SFAS No. 142, the entire
unamortized balance of Equistar's goodwill was determined to be impaired.
Accordingly, Equistar's earnings in the first quarter 2002 were reduced by $1.1
billion. Lyondell's 41% share of the charge for impairment of Equistar's
goodwill was offset by a corresponding reduction in the difference between
Lyondell's investment in Equistar and its underlying equity in Equistar's net
assets (see Note 2).
Lyondell's loss from its investment in Equistar as presented in the Consolidated
Statements of Income consists of Lyondell's share of Equistar's loss before the
cumulative effect of the accounting change and the accretion of the remaining
difference between Lyondell's investment and its underlying equity in Equistar's
net assets.
4. Equity Interest in LYONDELL-CITGO Refining LP
Lyondell's refining segment operations are conducted through its joint venture
ownership interest in LCR. Lyondell has a 58.75% interest in LCR, while CITGO
Petroleum Corporation ("CITGO") has a 41.25% interest. Because the partners
jointly control certain management decisions, Lyondell accounts for its
investment in LCR using the equity method of accounting. As a partnership, LCR
is not subject to federal income taxes. Summarized financial information for LCR
follows:
June 30, December 31,
Millions of dollars 2002 2001
- ------------------- ------ ------
BALANCE SHEETS
Total current assets $ 283 $ 230
Property, plant and equipment, net 1,332 1,343
Other assets 91 97
------ ------
Total assets $1,706 $1,670
====== ======
Notes payable $ 10 $ 50
Current maturities of long-term debt 450 --
Other current liabilities 388 335
Long-term debt -- 450
Loans payable to partners 264 264
Other liabilities 81 79
Partners' capital 513 492
------ ------
Total liabilities and partners' capital $1,706 $1,670
====== ======
For the three months ended For the six months ended
June 30, June 30,
-------------------------------- ------------------------------
2002 2001 2002 2001
--------------- --------------- --------------- -------------
STATEMENTS OF INCOME
Sales and other operating revenues $ 838 $ 932 $ 1,545 $ 1,842
Cost of sales 754 837 1,400 1,675
Selling, general and administrative expenses 14 14 26 28
------- ------- ------- -------
Operating income 70 81 119 139
Interest expense, net (7) (15) (15) (31)
------- ------- ------- -------
Net income $ 63 $ 66 $ 104 $ 108
======= ======= ======= =======
SELECTED CASH FLOW INFORMATION
Depreciation and amortization $ 30 $ 27 $ 59 $ 55
Expenditures for property, plant and equipment 20 18 42 29
LCR's $450 million term loan and $70 million revolving credit facility mature in
January 2003. Management has initiated the refinancing process and, based on
previous experience in refinancing LCR's debt and the current conditions of the
financial markets, anticipates that this debt can be refinanced prior to its
maturity.
6
Lyondell's income from its investment in LCR as presented in the Consolidated
Statements of Income consists of Lyondell's share of LCR's net income and the
accretion of the difference between Lyondell's investment and its underlying
equity in LCR's net assets.
5. Unusual Charges
During the second half of 2001, Lyondell recorded a pretax charge of $63 million
associated with its decision to exit the aliphatic diisocyanates ("ADI")
business. The $63 million charge included $45 million to adjust the carrying
values of the ADI assets to their net realizable value and accrued liabilities
of $15 million for exit costs and $3 million for severance and other
employee-related costs for nearly 100 employee positions that were eliminated.
Payments of $5 million for exit costs and $2 million for severance and other
employee-related costs were made through June 30, 2002, resulting in a remaining
accrued liability of $11 million.
6. Inventories
Inventories consisted of the following components at:
June 30, December 31,
Millions of dollars 2002 2001
- ------------------- -------- ------------
Finished goods $ 236 $ 262
Work-in-process 6 5
Raw materials 37 19
Materials and supplies 33 30
----- -----
Total inventories $ 312 $ 316
===== =====
7. Property, Plant and Equipment, Net
The components of property, plant and equipment, at cost, and the related
accumulated depreciation were as follows at:
June 30, December 31,
Millions of dollars 2002 2001
- ------------------- -------- ------------
Land $ 12 $ 10
Manufacturing facilities and equipment 2,801 2,529
Construction in progress 123 113
------- -------
Total property, plant and equipment 2,936 2,652
Less accumulated depreciation 554 359
------- -------
Property, plant and equipment, net $ 2,382 $ 2,293
======= =======
Depreciation and amortization are summarized as follows:
For the three months ended For the six months ended
June 30, June 30,
----------------------------- ------------------------------
2002 2001 2002 2001
------------ --------------- --------------- -------------
Millions of dollars
- --------------------
Property, plant and equipment $ 32 $ 30 $ 63 $ 60
Investment in PO joint venture 7 7 15 15
Goodwill - - 7 - - 15
Debt issuance costs 4 4 8 7
Turnaround expense 5 4 8 8
Software costs 3 3 5 3
Other intangibles 12 12 24 24
------- ------- ------ ------
$ 63 $ 67 $ 123 $ 132
======= ======= ====== ======
7
8. Long-Term Debt
Long-term debt consisted of the following at:
June 30, December 31,
Millions of dollars 2002 2001
- ------------------- -------- ------------
Term Loan E due 2006 $ 619 $ 634
Senior Secured Notes, Series A due 2007, 9.625% 900 900
Senior Secured Notes, Series B due 2007, 9.875% 1,000 1,000
Senior Secured Notes due 2008, 9.5% 393 393
Senior Subordinated Notes due 2009, 10.875% 500 500
Debentures due 2005, 9.375% 100 100
Debentures due 2010, 10.25% 100 100
Debentures due 2020, 9.8% 224 224
Other 1 2
------- -------
Total long-term debt 3,837 3,853
Less current maturities 6 7
------- -------
Long-term debt, net $ 3,831 $ 3,846
======= =======
See Note 16 for a discussion of Lyondell's debt offering and amendments to its
credit facility, the indentures related to its senior notes and related
documents, occurring subsequent to June 30, 2002.
9. Lease Commitments
Lyondell's operating lease commitments as of December 31, 2001 are described in
Note 15 to the Consolidated Financial Statements included in the
Lyondell 2001 Annual Report on Form 10-K. In addition, in July 2002, Lyondell
began leasing a new butanediol ("BDO") production facility in Europe, known as
BDO-2, under an operating lease with an initial term of 5 years. Construction of
the facility was completed in June 2002 and was financed by an unaffiliated
entity that had been established for the purpose of serving as lessor with
respect to this facility. Future minimum annual lease payments under the
operating lease, amounting to $16 million per year using June 30, 2002 exchange
rates and interest rates, are equivalent to interest on the final construction
costs, including interest incurred on the construction costs during
construction. The interest rate specified in the lease is based on EURIBOR plus
3.75%.
Lyondell may, at its option, renew the lease for four additional five-year terms
or may purchase the facility at any time during the lease terms at the lessor's
cost of construction. If Lyondell does not exercise the purchase option before
the end of the last renewal period, the facility will be sold. In the event the
sales proceeds are less than the lessor's construction costs, Lyondell will pay
the difference to the lessor, but not more than the guaranteed residual value.
The guaranteed residual value currently is estimated at 172 million euros, or
$170 million, using June 30, 2002 exchange rates. Under the transaction
documents related to BDO-2, Lyondell is subject to certain financial and other
covenants that are substantially the same as those contained in Lyondell's
credit facility. See Note 16.
8
10. Derivative Financial Instruments
The following table summarizes activity included in accumulated other
comprehensive loss ("AOCL") related to the after-tax impact of the effective
portion of the fair value of derivative instruments used as cash flow hedges:
For the three months ended For the six months ended
June 30, June 30,
------------------------- ------------------------
Millions of dollars 2002 2001 2002 2001
- ------------------- ----------- ---------- ---------- ----------
Gain (loss):
Beginning balance $ (3) $ (4) $ (2) $ - -
Net gains (losses) 3 - - 2 (4)
Reclassification of net (gains) losses
to earnings - - - - - - - -
------ ------ ------ ------
Net change in AOCL for the period 3 - - 2 (4)
------ ------ ------ ------
Net accumulated loss at June 30 $ - - $ (4) $ - - $ (4)
====== ====== ====== ======
The transition adjustment resulting from the adoption of SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, as of January 1,
2001 was insignificant.
11. Commitments and Contingencies
Bayer Claim--On April 30, 2002, Lyondell and Bayer settled the claims of Bayer
in relation to its March 2000 purchase of Lyondell's polyols business. Lyondell
had received notice of these claims in June 2001, which had alleged various
breaches of representations and warranties related to the condition of the
business and assets and which had sought damages in excess of $100 million. The
settlement included new or amended commercial agreements between the parties,
generally relating to the existing propylene oxide ("PO") partnership between
Bayer and Lyondell. As a whole, the new or amended agreements provide new
business opportunities and value for both parties over the next five to ten
years. Concurrent with the settlement, Lyondell made a $5 million
indemnification payment to Bayer. The settlement, including the indemnification
payment, had no net effect on Lyondell's financial position or results of
operations.
Capital Commitments--Lyondell has various commitments related to capital
expenditures, all made in the normal course of business. At June 30, 2002, major
capital commitments primarily consisted of Lyondell's 50% share of those related
to the construction of a world-scale PO facility, known as PO-11, in The
Netherlands. Lyondell's share of the outstanding commitments, which are funded
through contributions and advances to affiliates, totaled $104 million as of
June 30, 2002.
Construction Lease--During the third quarter 2000, construction began on the
BDO-2 production facility in Europe. Construction was completed in June 2002 and
Lyondell leased the facility under an operating lease, beginning in July 2002.
See Note 9.
Crude Supply Agreement--Under the Crude Supply Agreement ("CSA"), PDVSA
Petroleo, S.A. ("PDVSA Oil") is required to sell, and LCR is required to
purchase, 230,000 barrels per day of extra heavy crude oil. This constitutes
approximately 86% of LCR's refinery capacity of 268,000 barrels per day of crude
oil. In April 1998, PDVSA Oil informed LCR that the Venezuelan government,
through the Ministry of Energy and Mines, had instructed that production of
certain grades of crude oil be reduced. PDVSA Oil declared itself in a force
majeure situation and subsequently reduced deliveries of crude oil. Such
reductions in deliveries were purportedly based on announced OPEC production
cuts. LCR began receiving reduced deliveries of crude oil from PDVSA Oil in
August 1998.
On several occasions since then, PDVSA Oil further reduced crude oil deliveries,
although it made payments under a different provision of the CSA in partial
compensation for such further reductions. Subsequently, PDVSA Oil unilaterally
began increasing deliveries of crude oil to LCR in April 2000, and ultimately
returned to the contract level of 230,000 barrels per day effective October
2000.
9
During 2001, PDVSA Oil declared itself in a force majeure situation, but did not
reduce crude oil deliveries to LCR in 2001. In January 2002, PDVSA Oil again
declared itself in a force majeure situation and stated that crude oil
deliveries could be reduced by up to 20.3% beginning March 1, 2002. Beginning in
March 2002, deliveries of crude oil to LCR were reduced to approximately 198,000
barrels per day, reaching a level of 190,000 barrels per day during the second
quarter 2002. The recent political uncertainty in Venezuela has not affected
crude oil deliveries, the CSA or related matters to date, and the long-term
effects of these events, if any, are not yet clear.
LCR has consistently contested the validity of the reductions in deliveries
under the CSA. The parties have different interpretations of the provisions of
the contracts concerning the delivery of crude oil. The contracts do not contain
dispute resolution procedures, and the parties have been unable to resolve their
commercial dispute. As a result, on February 1, 2002, LCR filed a lawsuit
against PDVSA Oil and its parent company, Petroleos de Venezuela, S.A.
("PDVSA"), in connection with the January 2002 force majeure declaration, as
well as the claimed force majeure from April 1998 to September 2000.
In 1999, PDVSA announced its intention to renegotiate its crude supply
agreements with all third parties, including LCR. In light of PDVSA's announced
intent, there can be no assurance that PDVSA Oil will continue to perform its
obligations under the CSA. However, it has confirmed that it expects to honor
its commitments if a mutually acceptable restructuring of the CSA is not
achieved. From time to time, the Company and PDVSA have had discussions covering
both a restructuring of the CSA and a broader restructuring of the LCR
partnership. Lyondell is unable to predict whether changes in either arrangement
will occur. The breach or termination of the CSA, or reduction in supply
thereunder, would require LCR to purchase all or a portion of its crude oil
feedstocks in the merchant market, could subject LCR to significant volatility
and price fluctuations and could adversely affect LCR and, therefore, Lyondell.
Cross Indemnity Agreement--In connection with the transfer of assets and
liabilities from Atlantic Richfield Company ("ARCO"), now wholly owned by BP
p.l.c., Lyondell agreed to assume certain liabilities arising out of the
operation of Lyondell's integrated petrochemicals and refining business prior to
July 1, 1988. In connection with the transfer of such liabilities, Lyondell and
ARCO entered into an agreement, updated in 1997 ("Revised Cross-Indemnity
Agreement"), whereby Lyondell agreed to defend and indemnify ARCO against
certain uninsured claims and liabilities which ARCO may incur relating to the
operation of Lyondell prior to July 1, 1988, including certain liabilities which
may arise out of pending and future lawsuits. For current and future cases
related to Lyondell's products and operations, ARCO and Lyondell bear a
proportionate share of judgment and settlement costs according to a formula that
allocates responsibility based upon years of ownership during the relevant time
period. Under the Revised Cross-Indemnity Agreement, Lyondell will assume
responsibility for its proportionate share of future costs for waste site
matters not covered by ARCO insurance.
In connection with the acquisition of ARCO Chemical Company ("ARCO Chemical"),
Lyondell succeeded, indirectly, to a cross indemnity agreement with ARCO whereby
ARCO Chemical indemnified ARCO against certain claims or liabilities that ARCO
may incur relating to ARCO's former ownership and operation of the businesses of
ARCO Chemical, including liabilities under laws relating to the protection of
the environment and the workplace, and liabilities arising out of certain
litigation. As part of the agreement, ARCO indemnified ARCO Chemical with
respect to claims or liabilities and other matters of litigation not related to
the ARCO Chemical business.
Indemnification Arrangements Relating to Equistar--Lyondell, Millennium
Petrochemicals and certain subsidiaries of Occidental have each agreed to
provide certain indemnifications to Equistar with respect to the petrochemicals
and polymers businesses contributed by the partners. In addition, Equistar
agreed to assume third party claims that are related to certain pre-closing
contingent liabilities that are asserted prior to December 1, 2004 as to
Lyondell and Millennium Petrochemicals, and May 15, 2005 as to certain
Occidental subsidiaries, to the extent the aggregate thereof does not exceed $7
million to each partner, subject to certain terms of the respective asset
contribution agreements. As of June 30, 2002, Equistar had expensed nearly all
of the $7 million indemnification basket with respect to the business
contributed by Lyondell. Equistar also agreed to assume third party claims that
are related to certain pre-closing contingent liabilities that are asserted for
the first time after December 1, 2004 as to Lyondell and Millennium
Petrochemicals, and for the first time after May 15, 2005 as to certain
subsidiaries of Occidental.
10
Environmental Remediation--As of June 30, 2002, Lyondell's environmental
liability for future remediation costs at its plant sites and a limited number
of Superfund sites totaled $22 million. The liabilities per site range from less
than $1 million to $11 million and are expected to be incurred over the next two
to seven years. In the opinion of management, there is currently no material
estimable range of loss in excess of the amount recorded for these sites.
However, it is possible that new information about the sites for which the
accrual has been established, new technology or future developments such as
involvement in investigations by regulatory agencies, could require Lyondell to
reassess its potential exposure related to environmental matters.
Clean Air Act--The eight-county Houston/Galveston region has been designated a
severe non-attainment area for ozone by the U.S. Environmental Protection Agency
("EPA"). Emission reduction controls for nitrogen oxides ("NOx") must be
installed at LCR's refinery and each of Lyondell's two facilities and Equistar's
six facilities in the Houston/Galveston region during the next several years.
Lyondell estimates that aggregate related capital expenditures could total
between $400 million and $500 million for Lyondell, Equistar and LCR before the
2007 deadline. Lyondell's direct share of such expenditures could total between
$65 million and $80 million. Lyondell's current proportionate share of
Equistar's expenditures could total between $85 million and $105 million, and
Lyondell's proportionate share of LCR's expenditures could total between $75
million and $95 million. The timing and amount of these expenditures are subject
to regulatory and other uncertainties, as well as obtaining the necessary
permits and approvals. In January 2001, Lyondell and an organization composed of
industry participants filed a lawsuit to encourage adoption of an alternative
plan to achieve the same air quality improvement with less negative economic
impact on the region. Adoption of the alternative plan, as sought by the
lawsuit, would be expected to reduce the estimated capital investments for NOx
reductions required by Lyondell, Equistar and LCR to comply with the standards.
Recently proposed revisions by the regulatory agencies would change the required
NOx reduction levels from 90% to 80%. However, any potential resulting savings
from this proposed revision could be offset by the costs of stricter proposed
controls over volatile organic compounds, or VOCs. Lyondell, Equistar and LCR
are still assessing the impact of these proposed revisions and there can be no
guarantee as to the ultimate capital cost of implementing any final plan
developed to ensure ozone attainment by the 2007 deadline.
In the United States, the Clean Air Act Amendments of 1990 set minimum levels
for oxygenates, such as methyl tertiary butyl ether ("MTBE"), in gasoline sold
in areas not meeting specified air quality standards. The presence of MTBE in
some water supplies in California and other states due to gasoline leaking from
underground storage tanks and in surface water from recreational water craft has
led to public concern about the use of MTBE. Certain federal and state
governmental initiatives in the U.S. have sought either to rescind the oxygen
requirement for reformulated gasoline or to restrict or ban the use of MTBE. On
April 25, 2002, the U.S. Senate passed its version of an omnibus energy bill,
which, among other things, would ban the use of MTBE as a fuel oxygenate. The
Senate bill is not law and needs to be reconciled with the U.S. House of
Representatives' omnibus energy bill, which was passed in July 2001 and which
would not ban the use of MTBE. Lyondell's North American MTBE sales represented
approximately 27% of its total 2001 revenues. Lyondell does not expect these
initiatives to have a significant impact on MTBE margins or volumes in 2002.
Should it become necessary or desirable to significantly reduce MTBE production,
Lyondell would need to make capital expenditures to add the flexibility to
produce alternative gasoline blending components at its U.S.-based MTBE plants.
The profit margins on such alternative gasoline blending components could be
lower than those historically realized on MTBE.
The Clean Air Act specified certain emissions standards for vehicles beginning
in the 1994 model year and required the EPA to study whether further emissions
reductions from vehicles were necessary. In 1998, the EPA concluded that
additional controls on gasoline and diesel fuel were necessary to meet these
emission standards. New standards for gasoline were finalized in 1999 and will
require refiners to produce a low sulfur gasoline by 2004, with final compliance
by 2006. A new "on-road" diesel standard was adopted in January 2001 and will
require refiners to produce ultra low sulfur diesel by June 2006, with some
allowance for a conditional phase-in period that could extend final compliance
until 2009. Lyondell estimates that these standards will result in increased
capital investment for LCR, totaling between $175 million and $225 million for
the new gasoline standards and between $250 million and $300 million for the new
diesel standard, between now and the implementation dates. Lyondell's
proportionate share of LCR's capital expenditures would be between $250 million
and $300 million. In addition, these standards could result in higher operating
costs for LCR. Equistar's business may also be impacted if these standards
increase the cost for processing fuel components.
11
General--Lyondell is involved in various lawsuits and proceedings. Subject to
the uncertainty inherent in all litigation, management believes the resolution
of these proceedings will not have a material adverse effect on the financial
position, liquidity or results of operations of Lyondell.
In the opinion of management, any liability arising from the matters discussed
in this note is not expected to have a material adverse effect on the financial
position or liquidity of Lyondell. However, the adverse resolution in any
reporting period of one or more of the matters discussed in this note could have
a material impact on Lyondell's results of operations for that period without
giving effect to contribution or indemnification obligations of co-defendants or
others, or to the effect of any insurance coverage that may be available to
offset the effects of any such award.
12. Earnings Per Share
Basic earnings per share for the periods presented are computed based upon the
weighted average number of shares outstanding for the periods. Diluted earnings
per share include the effect of outstanding stock options issued under the 1999
Long-Term Incentive Plan and the Executive Long-Term Incentive Plan. These stock
options were antidilutive in the six-month periods ended June 30, 2002 and 2001.
Net income (loss) per share ("EPS") data is as follows:
For the three months ended
June 30,
-------------------------------------------------
2002 2001
---------------------- -----------------------
Thousands of shares Shares EPS Shares EPS
- ------------------- --------- --------- ---------- ---------
Basic 117,565 $ .02 117,563 $ .04
Dilutive effect of options 764 - - 398 - -
------- ------- ------- -------
Diluted 118,329 $ .02 117,961 $ .04
======= ======= ======= =======
For the six months ended
June 30,
-------------------------------------------------
2002 2001
---------------------- -----------------------
Thousands of shares Shares EPS Shares EPS
- ------------------- --------- --------- ---------- ---------
Basic 117,565 $ (.45) 117,563 $ (.25)
Dilutive effect of options - - - - - - - -
------- ------- ------- -------
Diluted 117,565 $ (.45) 117,563 $ (.25)
======= ======= ======= =======
See Note 16 for discussion of common stock issued subsequent to June 30, 2002
and Note 15 for discussion of additional common stock expected to be issued.
13. Comprehensive Income (Loss)
The components of the comprehensive income (loss) were as follows:
For the three months ended For the six months ended
June 30, June 30,
----------------------------- ---------------------------
Millions of dollars 2002 2001 2002 2001
- ------------------- ------------ ------------- ------------ ------------
Net income (loss) $ 2 $ 4 $ (53) $ (30)
------ -------- -------- --------
Other comprehensive income (loss):
Foreign currency translation 139 (48) 122 (98)
Derivative instruments 3 - - 2 (4)
Minimum pension liability - - - - 4 - -
------ -------- -------- --------
Total other comprehensive income (loss) 142 (48) 128 (102)
------ -------- -------- --------
Comprehensive income (loss) $ 144 $ (44) $ 75 $ (132)
====== ======== ======== ========
12
14. Segment and Related Information
Lyondell operates in four reportable segments: (i) intermediate chemicals and
derivatives; (ii) petrochemicals; (iii) polymers; and (iv) refining. Lyondell's
entire $1.1 billion balance of goodwill is allocated to the intermediate
chemicals and derivatives segment. Summarized financial information concerning
reportable segments is shown in the following table:
Intermediate
Chemicals
and
Millions of dollars Derivatives Petrochemicals Polymers Refining Other Total
- ------------------- ------------ -------------- -------- -------- ----- -----
For the three months ended June 30, 2002:
Sales and other operating revenues $ 843 $ - - $ - - $ - - $ - - $ 843
Operating income 65 65
Interest expense (94) (94)
Interest income 3 3
Other expense, net (4) (4)
Income (loss) from equity investments -- 32 (11) 39 (28) 32
Income before income taxes 2
For the three months ended June 30, 2001:
Sales and other operating revenues $ 893 $ - - $ - - $ - - $ - - $ 893
Operating income 66 66
Interest expense (98) (98)
Interest income 4 4
Other expense, net (1) (1)
Income (loss) from equity investments -- 33 (9) 41 (23) 42
Income before income taxes 13
For the six months ended June 30, 2002:
Sales and other operating revenues $ 1,517 $ - - $ - - $ - - $ - - $ 1,517
Operating income 103 103
Interest expense (187) (187)
Interest income 5 5
Other expense, net (3) (3)
Income (loss) from equity investments -- 23 (19) 66 (59) 11
Loss before income taxes (71)
For the six months ended June 30, 2001:
Sales and other operating revenues $ 1,742 $ - - $ - - $ - - $ - - $ 1,742
Operating income 97 97
Interest expense (197) (197)
Interest income 11 11
Other income, net 2 2
Income (loss) from equity investments 1 80 (46) 68 (59) 44
Loss before income taxes (43)
13
The following table presents the details of "Income (loss) from equity
investments" as presented above in the "Other" column for the periods indicated:
For the three months ended For the six months ended
June 30, June 30,
------------------------------- ----------------------------
Millions of dollars 2002 2001 2002 2001
- ------------------- -------------- ------------- ------------ ------------
Equistar items not allocated to segments:
Principally general and administrative
expenses and interest expense, net $ (26) $ (26) $ (54) $ (49)
Unusual charges - - - - - - (9)
Other (2) 3 (5) (1)
--------- ------- -------- --------
Total--Other $ (28) $ (23) $ (59) $ (59)
========= ======= ======== ========
The methanol operations of Lyondell Methanol Company, L.P. ("LMC") are not a
reportable segment and, through April 30, 2002, were included in the "Other"
column. Effective May 1, 2002, LMC became a wholly owned subsidiary of Lyondell
and the methanol results are included in the intermediate chemicals and
derivatives segment from that date. The effect of consolidating the LMC
operations, which previously had been accounted for using the equity method, was
not material.
15. Proposed Transactions with Occidental
Early in 2002, Lyondell and Occidental agreed in principle to Lyondell's
acquisition of Occidental's 29.5% interest in Equistar and to Occidental's
acquisition of an equity interest in Lyondell. On June 3, 2002, Millennium
advised Lyondell and Occidental that it would not participate, under its formal
right of first offer, in the acquisition of Occidental's Equistar interest and,
accordingly, Occidental and Lyondell signed definitive documentation on July 8,
2002. Closing of the transactions is subject to certain conditions, including
approval by Lyondell's shareholders. Lyondell's special shareholder meeting is
scheduled for August 21, 2002. Lyondell anticipates that these transactions will
close by September 1, 2002. However, there can be no assurance that the proposed
transactions will be completed.
16. Subsequent Events
In early July 2002, Lyondell completed debt and equity offerings, as well as
amendments to its credit facility, to the transaction documents related to the
BDO-2 facility and to the indentures related to its senior notes.
Lyondell issued $278 million principal amount of 11.125% senior secured notes
due 2012, using proceeds of $204 million to prepay $200 million of the principal
amount outstanding under Term Loan E of the credit facility and a $4 million
prepayment premium. The remaining net proceeds, after discount and fees, of
approximately $65 million will be used for working capital and general corporate
purposes. Lyondell also issued 8.28 million shares of common stock, receiving
net proceeds of $110 million that will be used for working capital and general
corporate purposes.
The amended and restated credit facility extended the maturity of the revolving
credit facility from July 2003 to June 2005, reduced the size of the revolving
credit facility from $500 million to $350 million, made certain financial ratio
requirements less restrictive, made the covenant limiting acquisitions more
restrictive and added a covenant limiting certain non-regulatory capital
expenditures. The BDO-2 transaction documents were also amended to incorporate
the revised covenants from the credit facility. Also, after receiving consents
from the holders of the senior secured and senior subordinated notes, Lyondell
amended the indentures related to those notes. The principal indenture amendment
removed a limitation that restricted payment of Lyondell's current $0.90 per
share annual dividend to a specified number of shares. As a result of the
amendment, the $0.90 per share annual dividend can be paid on all current and
future common shares outstanding. Lyondell paid fees totaling $17 million
related to the amendments.
14
As a result of the early retirement of a portion of Term Loan E, and the
amendment and restatement of the credit facility, Lyondell will recognize the $4
million prepayment premium and the writeoff of unamortized debt issuance costs
of $7 million, or a total of $7 million after tax, as an extraordinary charge on
early debt retirement in the third quarter 2002. See also Note 2.
17. Deferred Tax Assets
The deferred tax assets classified as current assets decreased by $254 million
during the first half of 2002. The reduction primarily represented a change in
the timing of anticipated realization of the tax benefits of domestic net
operating loss carryforwards. These benefits, which are expected to be realized
within the next few years, have been reclassified from current assets to net
long-term liabilities on the consolidated balance sheet. There was no change in
management's expectation that these deferred tax assets will be fully realized.
18. Supplemental Guarantor Information
ARCO Chemical Technology Inc. ("ACTI"), ARCO Chemical Technology L.P. ("ACTLP")
and Lyondell Chemical Nederland, Ltd. ("LCNL") are guarantors, jointly and
severally, (collectively "Guarantors") of the $278 million senior secured notes
issued in July 2002 (see Note 16), the $393 million senior secured notes, the
$500 million senior subordinated notes and the $1.9 billion senior secured
notes. LCNL, a Delaware corporation, is a wholly owned subsidiary of Lyondell
that owns a Dutch subsidiary that operates a chemical production facility near
Rotterdam, The Netherlands. ACTI is a Delaware corporation, which holds the
investment in ACTLP. ACTLP is a Delaware limited partnership, which holds and
licenses technology to other Lyondell affiliates and to third parties. Separate
financial statements of the Guarantors are not considered to be material to the
holders of the senior secured notes and senior subordinated notes. The following
condensed consolidating financial information present supplemental information
for the Guarantors as of June 30, 2002 and December 31, 2001 and for the
three-month and six-month periods ended June 30, 2002 and 2001.
15
CONDENSED CONSOLIDATING FINANCIAL INFORMATION (UNAUDITED)
BALANCE SHEET
As of June 30, 2002
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- -------------- -------------- -------------- --------------
Total current assets $ 520 $ 180 $ 267 $ -- $ 967
Property, plant and equipment, net 897 567 918 -- 2,382
Investments and
long-term receivables 7,338 472 1,481 (7,691) 1,600
Goodwill, net 453 420 247 -- 1,120
Other assets 334 90 13 -- 437
------- ------- ------- ------- -------
Total assets $ 9,542 $ 1,729 $ 2,926 $(7,691) $ 6,506
======= ======= ======= ======= =======
Current maturities of long-term debt $ 6 $ -- $ -- $ -- $ 6
Other current liabilities 375 101 97 -- 573
Long-term debt,
less current maturities 3,830 -- 1 -- 3,831
Other liabilities 524 46 19 -- 589
Deferred income taxes 359 153 66 -- 578
Intercompany liabilities (assets) 3,677 (1,125) (2,550) (2) --
Minority interest -- -- 158 -- 158
Stockholders' equity 771 2,554 5,135 (7,689) 771
------- ------- ------- ------- -------
Total liabilities and
stockholders' equity $ 9,542 $ 1,729 $ 2,926 $(7,691) $ 6,506
======= ======= ======= ======= =======
BALANCE SHEET
As of December 31, 2001
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- -------------- -------------- -------------- --------------
Total current assets $ 781 $ 132 $ 294 $ -- $ 1,207
Property, plant and equipment, net 915 516 862 -- 2,293
Investments and
long-term receivables 7,007 461 1,537 (7,386) 1,619
Goodwill, net 453 389 260 -- 1,102
Other assets 344 88 50 -- 482
------- ------- ------- ------- -------
Total assets $ 9,500 $ 1,586 $ 3,003 $(7,386) $ 6,703
======= ======= ======= ======= =======
Current maturities of long-term debt $ 7 $ -- $ -- $ -- $ 7
Other current liabilities 391 73 88 -- 552
Long-term debt 3,844 -- 2 -- 3,846
Other liabilities 515 55 13 -- 583
Deferred income taxes 611 133 46 -- 790
Intercompany liabilities (assets) 3,383 (1,101) (2,282) -- --
Minority interest -- -- 176 -- 176
Stockholders' equity 749 2,426 4,960 (7,386) 749
------- ------- ------- ------- -------
Total liabilities and
stockholders' equity $ 9,500 $ 1,586 $ 3,003 $(7,386) $ 6,703
======= ======= ======= ======= =======
16
CONDENSED CONSOLIDATING FINANCIAL INFORMATION (UNAUDITED)--(Continued)
STATEMENTS OF INCOME
For the Three Months Ended June 30, 2002
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- -------------- -------------- -------------- --------------
Sales and other operating revenues $ 584 $ 210 $ 462 $(413) $ 843
Cost of sales 599 188 350 (413) 724
Selling, general and
administrative expenses 29 5 12 -- 46
Research and development expense 8 -- -- -- 8
----- ----- ----- ----- -----
Operating income (loss) (52) 17 100 -- 65
Interest income (expense), net (94) 2 1 -- (91)
Other income (expense), net (18) 15 (1) -- (4)
Income from equity investments 153 -- 32 (153) 32
Intercompany income (expense) (37) 8 31 (2) --
Provision for (benefit from) income
taxes (12) 10 42 (40) --
----- ----- ----- ----- -----
Net income (loss) $ (36) $ 32 $ 121 $(115) $ 2
===== ===== ===== ===== =====
STATEMENTS OF INCOME
For the Three Months Ended June 30, 2001
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- -------------- -------------- -------------- --------------
Sales and other operating revenues $ 618 $ 200 $ 435 $(360) $ 893
Cost of sales 618 141 371 (360) 770
Selling, general and
administrative expenses 26 5 11 -- 42
Research and development expense 8 -- -- -- 8
Amortization of goodwill
and other intangible assets 2 3 2 -- 7
----- ----- ----- ----- -----
Operating income (loss) (36) 51 51 -- 66
Interest income (expense), net (97) -- 3 -- (94)
Other income (expense), net (23) (44) 66 -- (1)
Income from equity investments 160 -- 42 (160) 42
Intercompany income (expense) (43) 16 32 (5) --
Provision for (benefit from) income
taxes (6) 4 53 (42) 9
----- ----- ----- ----- -----
Net income (loss) $ (33) $ 19 $ 141 $(123) $ 4
===== ===== ===== ===== =====
17
CONDENSED CONSOLIDATING FINANCIAL INFORMATION (UNAUDITED)--(Continued)
STATEMENTS OF INCOME
For the Six Months Ended June 30, 2002
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- -------------- -------------- -------------- --------------
Sales and other operating revenues $ 1,053 $ 375 $ 813 $ (724) $ 1,517
Cost of sales 1,059 336 642 (724) 1,313
Selling, general and
administrative expenses 55 8 23 - - 86
Research and development expense 15 - - - - - - 15
------- -------- -------- --------- -------
Operating income (loss) (76) 31 148 - - 103
Interest income (expense), net (189) 4 3 - - (182)
Other income (expense), net (28) 19 6 - - (3)
Income from equity investments 218 - - 11 (218) 11
Intercompany income (expense) (29) 20 49 (40) - -
Provision for (benefit from) income
taxes (26) 18 55 (65) (18)
------- -------- -------- --------- -------
Net income (loss) $ (78) $ 56 $ 162 $ (193) $ (53)
======== ========= ======== ========= ========
STATEMENTS OF INCOME
For the Six Months Ended June 30, 2001
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- -------------- -------------- -------------- --------------
Sales and other operating revenues $ 1,212 $ 437 $ 841 $ (748) $ 1,742
Cost of sales 1,187 290 802 (748) 1,531
Selling, general and
administrative expenses 51 7 25 - - 83
Research and development expense 16 - - - - - - 16
Amortization of goodwill
and other intangible assets 6 5 4 - - 15
------- -------- -------- ------- -------
Operating income (loss) (48) 135 10 - - 97
Interest income (expense), net (194) 1 7 - - (186)
Other income (expense), net (40) (105) 147 - - 2
Income from equity investments 242 - - 44 (242) 44
Intercompany income (expense) (73) 44 69 (40) - -
Provision for (benefit from) income
taxes (35) 24 86 (88) (13)
------- -------- -------- ------- -------
Net income (loss) $ (78) $ 51 $ 191 $ (194) $ (30)
======= ======== ======== ======= =======
18
CONDENSED CONSOLIDATING FINANCIAL INFORMATION (UNAUDITED)--(Continued)
STATEMENTS OF CASH FLOWS
For the Six Months Ended June 30, 2002
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- ------------- -------------- -------------- --------------
Net income (loss) $ (78) $ 56 $ 162 $(193) $ (53)
Adjustments to reconcile net
income (loss) to net cash
provided by (used in)
operating activities:
Depreciation and amortization 62 18 43 -- 123
Net changes in working
capital and other 151 (8) (161) 153 135
----- ----- ----- ----- -----
Net cash provided by
operating activities 135 66 44 (40) 205
----- ----- ----- ----- -----
Expenditures for property,
plant and equipment (8) (1) (3) -- (12)
Contributions and advances
to affiliates (3) (21) (33) -- (57)
----- ----- ----- ----- -----
Net cash used in
investing activities (11) (22) (36) -- (69)
----- ----- ----- ----- -----
Dividends paid (53) (1) (39) 40 (53)
Repayment of long-term debt (15) -- (1) -- (16)
----- ----- ----- ----- -----
Net cash used in
financing activities (68) (1) (40) 40 (69)
----- ----- ----- ----- -----
Effect of exchange rate
changes on cash -- (8) 10 -- 2
----- ----- ----- ----- -----
Increase (decrease) in cash
and cash equivalents $ 56 $ 35 $ (22) $-- $ 69
===== ===== ===== ===== =====
19
CONDENSED CONSOLIDATING FINANCIAL INFORMATION (UNAUDITED)--(Continued)
STATEMENTS OF CASH FLOWS
For the Six Months Ended June 30, 2001
Non- Consolidated
Millions of dollars Lyondell Guarantors Guarantors Eliminations Lyondell
- ------------------- -------------- ------------- -------------- -------------- --------------
Net income (loss) $ (78) $ 51 $ 191 $ (194) $ (30)
Adjustments to reconcile net
income (loss) to net cash provided
by (used in) operating activities:
Depreciation and amortization 68 23 41 - - 132
Net changes in working
capital and other 32 (56) (256) 154 (126)
-------- -------- --------- --------- --------
Net cash provided by
(used in) operating
activities 22 18 (24) (40) (24)
-------- -------- --------- --------- --------
Expenditures for property,
plant and equipment (14) (4) (22) - - (40)
Contributions and advances
to affiliates - - (30) (10) - - (40)
Distributions from affiliates
in excess of earnings - - - - 11 - - 11
-------- -------- --------- --------- --------
Net cash used in
investing activities (14) (34) (21) - - (69)
-------- -------- --------- --------- --------
Dividends paid (53) - - (40) 40 (53)
Repayments of long-term debt (5) - - - - - - (5)
Other (3) - - - - - - (3)
-------- -------- --------- --------- --------
Net cash used in
financing activities (61) - - (40) 40 (61)
-------- -------- --------- --------- --------
Effect of exchange rate
changes on cash - - (1) - - - - (1)
-------- -------- --------- --------- --------
Increase (decrease) in
cash and cash equivalents $ (53) $ (17) $ (85) $ - - $ (155)
======== ======== ========= ========= ========
20
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
Industrial production in the U.S. continued to grow in the second quarter 2002,
contributing to an estimated 4% annual growth rate in the first six months of
2002 compared to a 6% contraction in the first six months of 2001. This growth
rate was reflected in increased demand for most products at Lyondell and
Equistar during the second quarter and first six months of 2002, leading to
generally higher sales volumes. Nonetheless, the 2002 demand growth has not been
sufficient to fully offset the effects of industry capacity additions during
2001 combined with a 3.7% contraction of U.S. industrial production from 2000 to
2001.
Raw material and energy costs, which had trended downward since the beginning of
2001, began to increase late in the first quarter 2002, partly in response to
political uncertainties in the Middle East and Venezuela. During the second
quarter 2002, crude oil and natural gas costs stabilized at the higher levels.
Second quarter 2002 benchmark crude oil prices averaged 22% higher than in the
first quarter 2002, while second quarter 2002 natural gas prices averaged 45%
higher than in the first quarter 2002.
Nonetheless, raw material and energy costs were still lower in the second
quarter and the first six months of 2002 than in the comparable 2001 periods.
The benchmark price of crude oil averaged 5% lower in the second quarter 2002
and 15% lower in the first six months of 2002 than in the comparable 2001
periods. Natural gas prices, which spiked to historically high levels in January
2001, averaged 28% lower in the second quarter 2002 and 51% lower in the first
six months of 2002 than in the comparable 2001 periods, resulting in lower
energy costs.
Continuing demand growth in the second quarter 2002 provided support for
increases in product sales prices. As a result, product margins began to improve
during the second quarter 2002. However, the ongoing industry overcapacity and
decreases in raw material costs during 2001 and most of the first quarter 2002
combined to put downward pressure on product sales prices, resulting in lower
product sales prices in the first six months of 2002 compared to the first six
months of 2001. Compared to the first six months of 2001, sales prices decreased
more than the costs of raw materials. As a result, product margins in the first
six months of 2002 were generally lower, particularly for Equistar, compared to
the first six months of 2001.
RESULTS OF OPERATIONS
Lyondell Chemical Company
Revenues, Operating Costs and Expenses--Lyondell's operating results are
reviewed below in the discussion of the intermediate chemicals and derivatives
segment.
Loss from Equity Investment in Equistar--Lyondell's equity investment in
Equistar resulted in a loss of $5 million in the second quarter 2002, which was
comparable to a loss of $2 million in the second quarter 2001. Operating results
for both the petrochemicals and the polymers segments for the second quarter
2002 were comparable to the second quarter 2001.
Lyondell's equity loss was $50 million for the first six months of 2002, an
increase of $26 million compared to a loss of $24 million for the comparable
2001 period. The $26 million increase in the loss was due to lower margins in
Equistar's petrochemicals segment, primarily in the first quarter 2002 compared
to the first quarter 2001. The lower margins were primarily attributable to the
negative effects of certain above-market, fixed-price purchase contracts, which
are discussed further below, as well as the ongoing industry overcapacity. The
increased petrochemicals segment loss was only partly offset by improved
operating results in Equistar's polymers segment, primarily reflecting higher
polymers margins in the first six months of 2002 compared to the first six
months of 2001. In addition, the first six months of 2001 included Lyondell's $9
million share of shutdown costs for Equistar's Port Arthur polymer facility,
which was permanently closed in February 2001.
21
Income from Equity Investment in LCR--Lyondell's income from its equity
investment in LCR was $39 million in the second quarter 2002, which was
comparable to income of $41 million in the second quarter 2001. Lyondell's
equity income was $66 million in the first six months of 2002 and was comparable
to income of $68 million for the first six months of 2001. In the second quarter
and first six months of 2002, LCR's net income was negatively impacted by lower
crude oil deliveries under the Crude Supply Agreement ("CSA") compared to the
2001 periods. LCR maintained crude oil processing levels through increased
purchases of spot market crude oil, which had significantly lower margins in the
2002 periods compared to the 2001 periods and compared to CSA crude oil margins.
LCR benefited from lower energy costs and lower interest costs in the second
quarter and the first six months of 2002 compared to the 2001 periods.
Income Tax--The estimated annual effective tax rate for 2002 is a benefit of
25%, compared to a benefit of 31% in the first six months of 2001. Both rates
reflected a tax benefit from domestic operating losses expected for the year.
The lower 2002 rate reflects the effect of taxes on foreign income.
Net Income (Loss)--Net income for the second quarter 2002 was $2 million, which
was comparable to net income of $4 million in the second quarter 2001. Net
income in the second quarter 2001 included after-tax goodwill amortization of $5
million and a $4 million negative effect from a change in the estimated annual
effective tax rate. Excluding these items, net income in 2002 would have
decreased $11 million from an adjusted second quarter 2001 net income of $13
million. The decrease was spread relatively evenly across Lyondell, Equistar and
LCR, and reflected generally lower margins in the second quarter 2002 compared
to the second quarter 2001.
The net loss of $53 million for the first six months of 2002 increased $23
million from a net loss of $30 million for the first six months of 2001, which
included goodwill amortization of $11 million after tax. Excluding the goodwill
amortization, the $34 million increase in the first six months of 2002 net loss
was primarily attributable to Lyondell's equity investment in Equistar. Equistar
experienced a higher net loss in the first six months of 2002 due to lower
prices, margins and volumes in its petrochemicals segment, primarily in the
first quarter 2002, compared to the first six months of 2001. The higher
petrochemicals segment losses in the first six months of 2002 were only partly
offset by improved operating results in Equistar's polymers segment. Lyondell's
operating results and its income from its equity investment in LCR in the first
six months of 2002 were generally comparable to the first six months of 2001.
Second Quarter 2002 versus First Quarter 2002
Lyondell had net income of $2 million in the second quarter 2002 compared to a
$55 million loss in the first quarter 2002. The improved second quarter 2002
results primarily reflected seasonally higher MTBE volumes and higher styrene
monomer ("SM") margins at Lyondell, reduced losses at Equistar and improved
performance at LCR. The reduction in Equistar's loss was due to higher
petrochemicals segment prices and margins, partly offset by lower polymers
segment margins. Both segments benefited from higher volumes. The improvement at
LCR was the result of strong operating performance, higher aromatics margins and
opportunities within the fuel markets, partly offset by lower deliveries
of crude oil under the CSA.
Intermediate Chemicals and Derivatives Segment
Overview--The intermediate chemicals and derivatives ("IC&D") segment benefited
from stronger domestic demand during the first six months of 2002, including
increased demand in urethanes end-use markets such as automotive, housing, and
home furnishings. This resulted in generally higher sales volumes in the second
quarter and first six months of 2002 compared to the second quarter and first
six months of 2001.
In the U.S., the cost of propylene, a key raw material, which had trended
downward since the beginning of 2001, began to increase late in the first
quarter 2002, putting pressure on margins. The benchmark cost of propylene
averaged 28% higher in the second quarter 2002 than in the first quarter 2002
and 10% higher than in the second quarter 2001. However, for the first six
months of 2002, the benchmark cost of propylene still averaged 12% lower than in
the first six months of 2001. Lyondell benefited from lower energy costs in the
first six months of 2002
22
compared to the 2001 period due to the significant decrease in natural gas costs
in the U.S., especially compared to the first quarter 2001 when these natural
gas costs spiked to historically high levels.
While the increased demand in the second quarter and the first six months of
2002 supported increases in sales prices during these periods, some industry
overcapacity and the decreases in raw material costs during 2001 and most of the
first quarter 2002 combined to put downward pressure on product sales prices,
resulting in lower average sales prices in the second quarter and the first six
months of 2002 compared to the 2001 periods. During the first six months of
2002, sales prices decreased more than the costs of raw materials when compared
to the first six months of 2001. As a result, product margins were generally
lower in the second quarter and first six months of 2002 compared to the 2001
periods. In addition, raw material costs continued to increase in the second
quarter 2002 putting further downward pressure on second quarter 2002 margins.
During June 2002, construction was completed on a new butanediol ("BDO")
production facility in Europe, known as BDO-2. Production of BDO commenced
in July 2002.
The following table sets forth volumes, including processing volumes, included
in sales and other operating revenues for this segment. Tertiary butyl alcohol
("TBA") is principally used to produce the derivative MTBE. Bayer's ownership
interest in the U.S. PO manufacturing joint venture ("PO Joint Venture"),
entered into by Lyondell and Bayer as part of a March 31, 2000 asset sale
transaction, represents ownership of an in-kind portion of the PO production of
the PO Joint Venture. Lyondell takes in kind the remaining PO production and all
SM and TBA co-product production from the PO Joint Venture. Bayer's PO volumes
are not included in sales and are excluded from the table.
For the three months ended For the six months ended
June 30, June 30,
----------------------------- -----------------------------
In millions 2002 2001 2002 2001
- ----------- ------------ ------------ ------------ ------------
PO, PO derivatives, TDI (pounds) 732 648 1,517 1,370
Co-products:
SM (pounds) 864 790 1,650 1,579
MTBE and other TBA derivatives (gallons) 329 321 596 566
See "Item 3. Disclosure of Market and Regulatory Risk" for discussion of the
potential impact of market and regulatory factors on MTBE volumes and margins.
Revenues--Revenues of $843 million in the second quarter 2002 decreased almost
6% compared to revenues of $893 million in the second quarter 2001 as lower
sales prices were partly offset by higher sales volumes. MTBE and PO and
derivatives sales prices were lower in the second quarter 2002, whereas SM sales
prices were comparable to the second quarter 2001. MTBE sales prices were down
significantly due to lower costs of raw materials, primarily butane and
methanol, as well as a weaker gasoline market in 2002. Lower PO and derivatives
sales prices reflected some industry overcapacity. Sales volumes for PO and
derivatives, which includes toluene diisocyanate ("TDI"), increased 13%
primarily due to higher demand for PO and higher BDO volumes as new contracts
were initiated in support of BDO-2. SM sales volumes increased 9% due to a
combination of higher demand and industry outages. TBA and derivatives sales
volumes, primarily MTBE, increased 2%.
Revenues of $1.5 billion in the first six months of 2002 decreased 13% from
revenues of $1.7 billion in the first six months of 2001 as lower sales prices
were only partly offset by higher sales volumes. The lower sales prices in the
first six months of 2002, to a large extent, reflected significantly lower raw
material costs compared to the first six months of 2001. Sales volumes for PO
and derivatives increased 11% primarily due to higher demand for PO and TDI in
urethanes end-use markets and higher BDO volumes. These higher volumes were
partly offset by lower deicer sales volumes due to the relatively mild 2001/2002
winter. Sales volumes also increased 5% for TBA and derivatives, primarily MTBE,
and 4% for SM in the first six months of 2002 compared to the first six months
of 2001.
23
Operating Income--Operating income was $65 million in the second quarter 2002
compared to operating income of $66 million in the second quarter 2001, which
included $7 million of goodwill amortization. Excluding goodwill amortization,
operating income would have decreased $8 million. Higher prices and margins for
SM and TDI in the second quarter 2002 were more than offset by lower second
quarter 2002 margins for MTBE. The seasonal increase in MTBE profitability was
not as pronounced in the second quarter 2002 compared to the second quarter
2001, when MTBE profitability benefited from a strong seasonal upsurge in
product margins.
Operating income was $103 million for the first six months of 2002, an increase
of $6 million from operating income of $97 million in the first six months of
2001, which included $15 million of goodwill amortization. Excluding goodwill
amortization, operating income would have decreased $9 million. The decrease
reflected the negative effect of lower margins for MTBE and PO and derivatives
due primarily to sales prices decreasing more than raw material costs. This was
partly offset by the benefit from higher MTBE sales volumes and higher SM
margins and sales volumes. SM margins and volumes improved on increased demand,
primarily in the second quarter 2002. Operating income in the first six months
of 2002 also benefited from the sale of the unprofitable aliphatic diisocyanates
business in the third quarter 2001.
Second Quarter 2002 versus First Quarter 2002
Operating income in the second quarter 2002 was $65 million, a $27 million
increase compared to $38 million in the first quarter 2002. The improvement was
largely due to higher profitability from MTBE and SM. Second quarter 2002 MTBE
margins were unusually low compared to those experienced in the past two years,
as the margins did not experience their typical second quarter peak. This was
attributed to a gasoline market that was depressed by high levels of inventories
and imports in 2002. Industry spot MTBE raw material margins were reported to be
8 cents per gallon below the first quarter 2002, although Lyondell's margins
were approximately equal to first quarter 2002 levels. However, due to a 30%
increase in MTBE sales volumes, MTBE profit increased in the second quarter 2002
compared to the first quarter 2002. Lyondell's MTBE profitability for the first
six months of 2002 was comparable to the first six months of 2001.
During the second quarter 2002, the SM industry experienced supply shortages due
to a combination of demand growth and operating problems at some of Lyondell's
competitors. To take advantage of this situation, Lyondell increased its SM
sales volumes by 9% compared to the first quarter 2001. The sales volume
increases were accompanied by higher industry prices. Benchmark SM prices
increased by approximately 7 cents per pound compared to the first quarter 2002
average. However, the costs of raw materials for SM also increased and, as a
result, industry raw material margins only grew by 1.4 cents per pound in the
second quarter 2002. Lyondell's overall SM margin increase was somewhat less,
due to its portfolio of SM contracts.
Second quarter 2002 profitability for PO and derivatives was comparable to the
first quarter 2002. The normal seasonal decline in deicer sales volumes largely
offset margin gains. As a result of sales price increases and changes in sales
mix, second quarter 2002 PO and derivatives margins increased slightly despite
price increases of approximately 4 cents per pound for propylene, the key raw
material.
Equistar Chemicals, LP
Overview
U.S. demand for ethylene in the second quarter 2002 was approximately 7% higher
than in the second quarter 2001 and 1.5% higher than in the first quarter 2002.
For the first six months 2002, U.S. ethylene demand was an estimated 4.4% higher
compared to the first six months of 2001. Nonetheless, the demand growth failed
to absorb the effects of increases in worldwide ethylene industry capacity
during 2001 or to offset the effects of a 10% contraction in U.S. ethylene
demand from 2000 to 2001.
Partly in response to political uncertainties in the Middle East and
Venezuela, raw material and energy costs, which had trended downward since the
beginning of 2001, rose rapidly toward the end of the first quarter 2002.
24
During the second quarter 2002, these costs stabilized at the higher
levels. Second quarter 2002 benchmark crude oil prices averaged 22% higher than
in the first quarter 2002, while second quarter 2002 natural gas prices averaged
45% higher than in the first quarter 2002.
Nonetheless, raw material and energy costs were still lower in the second
quarter and the first six months of 2002 than in the comparable 2001 periods.
The benchmark price of crude oil averaged 5% lower in the second quarter 2002
and 15% lower in the first six months of 2002 than in the comparable 2001
periods. Natural gas prices, which spiked to historically high levels in January
2001, averaged 28% lower in the second quarter 2002 and 51% lower in the first
six months of 2002 than in the comparable 2001 periods, resulting in lower
energy costs.
The increased demand for ethylene in the first six months of 2002 as well as the
higher raw material costs and industry outages in the second quarter 2002
provided support for sales price increases in the second quarter 2002. Average
benchmark sales prices for ethylene were 17% higher in the second quarter 2002
compared to the first quarter 2002, while average benchmark prices for
co-product propylene were 28% higher in the second quarter 2002 compared to the
first quarter 2002. As a result, Equistar's second quarter 2002 operating
margins approached the levels experienced in the second quarter 2001. However,
on a six-month basis, 2002 margins were considerably below the comparable 2001
period.
For the first six months of 2002, the ongoing industry overcapacity and the
decreases in raw material costs during 2001 and most of the first quarter 2002
resulted in lower product sales prices compared to the first six months of 2001.
Average benchmark sales prices for ethylene were 31% lower in the first six
months of 2002 compared to the first six months of 2001, while average benchmark
prices for co-product propylene were 12% lower. Compared to the first six months
of 2001, sales prices decreased more than the costs of raw materials. As a
result, Equistar's product margins in the first six months of 2002 were
generally lower compared to the first six months of 2001.
RESULTS OF OPERATIONS
Net Loss--Equistar's net loss of $28 million in the second quarter 2002 was
comparable to a net loss of $30 million in the second quarter 2001, which
included goodwill amortization of $9 million. Excluding the effect of the second
quarter 2001 goodwill amortization, the net loss would have increased by $7
million in the second quarter 2002. Petrochemicals and polymers segment
operating results in the second quarter 2002 were roughly comparable to the
second quarter 2001, while interest expense increased by $6 million in the
second quarter 2002 compared to the second quarter 2001. The increase in
interest expense was due to the August 2001 refinancing of Equistar's debt,
which included the issuance of fixed rate debt with higher rates of interest.
Equistar's net loss before cumulative effect of accounting change was $154
million in the first six months of 2002 compared to a net loss of $107 million
in the first six months of 2001. The first six months of 2001 included $17
million of goodwill amortization and $22 million of shutdown costs for
Equistar's Port Arthur polyethylene facility. Excluding the effects of the
goodwill amortization and shutdown costs, the net loss for the first six months
of 2001 would have been $68 million. Compared to the adjusted net loss of $68
million for the first six months of 2001, the net loss for the first six months
of 2002 increased by $86 million. The increased net loss reflected lower margins
in the petrochemicals segment as sales prices decreased more than raw material
costs. In addition, certain fixed-price natural gas and natural gas liquid
("NGL") supply contracts negatively impacted the first quarter 2002 by
approximately $33 million. These fixed-price contracts largely expired by the
end of the first quarter 2002. The petrochemicals segment margin decreases were
only partly offset by the benefit of higher polymers segment margins and higher
sales volumes in both segments.
Second Quarter 2002 versus First Quarter 2002
Equistar had a net loss of $28 million in the second quarter 2002 or an
improvement of $98 million compared to a net loss before cumulative effect of
accounting change of $126 million in the first quarter 2002. The petrochemicals
segment reported operating income of $79 million in the second quarter 2002
compared to an operating loss of $24 million in the first quarter 2002, a $103
million improvement. The polymers segment had an operating loss of $26 million
in the second quarter 2002 compared to an operating loss of $21 million in the
first quarter 2002.
25
Improvement in the petrochemicals segment was driven by sales price increases
across the entire product line, while Equistar's net cost of ethylene production
remained relatively stable. Benchmark ethylene prices increased 3.25 cents per
pound, or 17%, in the second quarter 2002 compared to the first quarter 2002.
The average cost of ethylene production for the industry increased by
approximately 1.2 cents per pound. However, Equistar's cost of ethylene
production, which was aided by Equistar's higher proportionate utilization of
heavy liquid raw materials, did not experience the same increase. The heavy
liquid raw material utilization provided benefits from higher co-product prices
as propylene, benzene and butadiene sales price increases offset heavy liquid
raw material cost increases. Also contributing to the sequential improvement was
the expiration of certain fixed-price natural gas and NGL supply contracts,
which negatively impacted the first quarter 2002 by approximately $33 million.
Petrochemicals segment sales volumes increased 5% in the second quarter 2002
compared to the first quarter 2002.
Sales price increases in Equistar's polymers segment kept pace with price
increases in ethylene and propylene, the key raw materials for polymers. Sales
volumes for the polymers segment increased by 6% in the second quarter 2002
compared to the first quarter 2002. Overall, performance in this segment
remained relatively unchanged. The sales volume increases for both segments of
5% to 6% were in line with industry trends.
26
Segment Data
The following tables reflect selected actual sales volume data, including
intersegment sales volumes, and summarized financial information for Equistar's
business segments.
For the three months ended For the six months ended
June 30, June 30,
----------------------------- -----------------------------
In millions 2002 2001 2002 2001
----------- ------------- ------------ ------------ -------------
Selected petrochemicals products:
Olefins (pounds) 4,393 4,072 8,530 8,313
Aromatics (gallons) 103 98 189 188
Polymers products (pounds) 1,593 1,396 3,101 2,837
Millions of dollars
-------------------
Sales and other operating revenues:
Petrochemicals segment $ 1,318 $ 1,475 $ 2,311 $ 3,164
Polymers segment 479 516 889 1,058
Intersegment eliminations (335) (391) (602) (849)
-------- -------- -------- --------
Total $ 1,462 $ 1,600 $ 2,598 $ 3,373
======== ======== ======== ========
Cost of sales:
Petrochemicals segment $ 1,236 $ 1,393 $ 2,251 $ 2,961
Polymers segment 489 520 903 1,133
Intersegment eliminations (335) (391) (602) (849)
-------- -------- -------- --------
Total $ 1,390 $ 1,522 $ 2,552 $ 3,245
======== ======== ======== ========
Other operating expenses:
Petrochemicals segment $ 3 $ 1 $ 5 $ 7
Polymers segment 16 19 33 37
Unallocated 31 44 61 84
Unusual charges - - - - - - 22
-------- -------- -------- --------
Total $ 50 $ 64 $ 99 $ 150
======== ======== ======== ========
Operating income (loss):
Petrochemicals segment $ 79 $ 81 $ 55 $ 196
Polymers segment (26) (23) (47) (112)
Unallocated (31) (44) (61) (84)
Unusual charges - - - - - - (22)
-------- -------- -------- --------
Total $ 22 $ 14 $ (53) $ (22)
======== ======== ======== ========
Petrochemicals Segment
Revenues--Revenues of $1.3 billion in the second quarter 2002 decreased 11%
compared to second quarter 2001 revenues of $1.5 billion as a result of lower
average sales prices, which were partly offset by 5% higher sales volumes. The
lower sales prices in the second quarter 2002 reflect the effects of lower raw
material costs and excess industry capacity. Benchmark quoted ethylene prices
averaged 22.6 cents per pound in the second quarter 2002, a 21% decrease
compared to the second quarter 2001. However, average benchmark prices of
co-product propylene increased 10% compared to the second quarter 2001, partly
offsetting the ethylene decrease. Sales volumes increased due to demand growth
in the second quarter 2002.
Revenues of $2.3 billion for the first six months of 2002 decreased 27% compared
to the first six months of 2001 as lower 2002 average sales prices were only
partly offset by a 2% increase in sales volumes. Sales prices in the first six
months of 2002 averaged 29% lower than in the first six months of 2001 as a
result of the effects of lower raw material costs and excess industry capacity.
27
Operating Income--The petrochemicals segment had operating income of $79 million
in the second quarter 2002 compared to $81 million in the second quarter 2001.
Operating margins in the second quarter 2002 were slightly lower than in the
second quarter 2001. This was offset by the benefit from a 5% increase in sales
volumes in the second quarter 2002 compared to the second quarter 2001.
Operating income of $55 million for the first six months of 2002 decreased from
$196 million in the first six months of 2001. The decrease was primarily due to
lower margins as sales prices decreased more than raw material costs in the
first six months of 2002 compared to the first six months of 2001. Costs were
also higher in the first quarter 2002 due to certain fixed price natural gas and
NGL supply contracts entered into in early 2001. In the first quarter 2002,
Equistar's costs under these fixed-price contracts were approximately $33
million higher than market-based contracts would have been, whereas these
contracts benefited the first six months of 2001 by approximately $10 million.
These fixed-price contracts largely expired by the end of the first quarter
2002.
Polymers Segment
Revenues--Revenues of $479 million in the second quarter 2002 decreased 7%
compared to $516 million in the second quarter 2001, reflecting a 19% decrease
in average sales prices offset by a 14% increase in sales volumes. Second
quarter 2002 average sales prices decreased in response to lower raw material
costs, primarily ethylene. The higher sales volumes reflected improvement in
demand.
Revenues of $889 million for the first six months of 2002 decreased 16% compared
to $1,058 million in the first six months of 2001 due to a 23% decrease in
average sales prices offset by a 9% increase in sales volumes.
Operating Income--The polymers segment had an operating loss of $26 million in
the second quarter 2002 compared to a $23 million operating loss in the second
quarter 2001. Operating margins in the second quarter 2002 were comparable to
the second quarter 2001.
For the first six months of 2002, the operating loss was $47 million compared to
an operating loss of $112 million in the comparable 2001 period. The reduced
operating loss was due to improvement in polymer margins and, to a lesser
extent, higher sales volumes. Margins improved in the first six months of 2002
compared to the first six months of 2001 as decreases in sales prices were less
than the decreases in polymer raw material costs.
Unallocated Items
The following discusses expenses that were not allocated to the petrochemicals
or polymers segments.
Other Operating Expenses--Other operating expenses not allocated to the
petrochemicals and polymers segments were $31 million in the second quarter 2002
compared to $44 million in the second quarter 2001 and $61 million in the first
six months of 2002 compared to $84 million in the first six months of 2001. The
decreases were primarily due to goodwill amortization of $9 million and $17
million included in the second quarter 2001 and the first six months of 2001,
respectively, as well as cost reduction efforts. Goodwill amortization ceased
effective January 1, 2002. See Note 2 of Notes to Consolidated Financial
Statements.
Unusual Charges--Equistar discontinued production at its higher-cost Port
Arthur, Texas polyethylene facility on February 28, 2001 and shut down the
facility. During the first quarter 2001, Equistar recorded a $22 million charge,
which included environmental remediation liabilities of $7 million, other exit
costs of $3 million and severance and pension benefits of $7 million for
approximately 125 people employed at the Port Arthur facility. The remaining $5
million balance primarily related to the write down of certain assets.
28
LYONDELL-CITGO Refining LP
Refining Segment
Overview--Beginning in March 2002, PDVSA Petroleo, S.A. ("PDVSA Oil") reduced
deliveries of extra heavy Venezuelan crude oil to LCR under the CSA based on a
declared force majeure. See Note 11 of Notes to Consolidated Financial
Statements. As a result, processing of CSA crude oil averaged 201,000 barrels
per day in the second quarter 2002 compared to 236,000 barrels per day in the
second quarter 2001. Processing of CSA crude oil averaged 215,000 barrels per
day in the first six months of 2002 compared to 233,000 barrels per day in the
first six months of 2001. In the first six months of 2001, LCR benefited from
the acceleration of CSA crude oil deliveries in anticipation of a major fourth
quarter 2001 turnaround. This resulted in higher than contract level CSA crude
oil processing rates during the first six months of 2001, allowing LCR to attain
the 230,000 barrels per day contract processing rate for the full year 2001. As
a result of the fourth quarter 2001 turnaround, CSA crude oil inventory was also
carried over into 2002, which permitted higher CSA crude processing rates in the
first six months of 2002 than would have been possible based on the reduced
delivery levels resulting from the PDVSA Oil declared force majeure.
LCR was favorably affected in the second quarter and first six months of 2002 by
the significant decrease in natural gas costs, compared to the 2001 periods,
particularly the first quarter 2001, when natural gas costs spiked to
historically high levels. Compared to the second quarter 2001, LCR's operating
costs decreased approximately $10 million in the second quarter 2002 due to
lower natural gas costs. For the first six months of 2002, LCR's operating costs
were approximately $33 million lower due to lower natural gas costs. A weaker
gasoline market during the first six months of 2002 reduced the margins that LCR
realized on its spot purchases of crude oil compared to the first six months of
2001 when the gasoline market and margins on spot purchases were relatively
higher.
The following table sets forth, in thousands of barrels per day, sales volumes
for LCR's refined products and processing rates for the periods indicated:
For the three months ended For the six months ended
June 30, June 30,
----------------------------- -----------------------------
Thousand barrels per day 2002 2001 2002 2001
- ------------------------ ------------- ------------ ------------ ------------
Refined products:
Gasoline 120 113 113 110
Diesel and heating oil 83 70 82 70
Jet fuel 14 21 18 20
Aromatics 9 7 9 8
Other refined products 100 105 105 106
---- ---- ---- ----
Total refined products volumes 326 316 327 314
==== ==== ==== ====
Crude oil processing rates:
Crude Supply Agreement 201 236 215 233
Other crude oil 58 20 45 24
---- ---- ---- ----
Total crude oil processing rates 259 256 260 257
==== ==== ==== ====
Revenues--LCR's revenues, including sales to affiliates, were $838 million in
the second quarter 2002, a 10% decrease from second quarter 2001 revenues of
$932 million. The decrease was primarily due to lower sales prices for refined
products, partly offset by a 3% increase in sales volumes. The lower sales
prices reflected generally lower gasoline and other fuels prices in the second
quarter 2002 compared to the second quarter 2001. Total crude processing rates
were comparable, averaging 259,000 barrels per day in the second quarter 2002
and 256,000 barrels per day in the second quarter 2001. However, spot market
crude processing rates averaged 58,000 barrels per day in the second quarter
2002 compared to only 20,000 barrels per day in the second quarter 2001.
Revenues for the first six months of 2002 were $1.55 billion, a decrease of 16%
from revenues of $1.84 billion for the 2001 period. The decrease was primarily
due to lower sales prices for refined products, partly offset by a 4%
29
increase in sales volumes. Total crude processing rates were comparable,
averaging 260,000 barrels per day in the first six months of 2002 and 257,000
barrels per day in the first six months of 2001. Spot market crude processing
rates averaged 45,000 barrels per day in the first six months of 2002 compared
to only 24,000 barrels per day in the first six months of 2001.
Interest Expense--LCR's interest expense was $7 million in the second quarter
2002 compared to $15 million in the second quarter 2001 and $15 million in the
first six months of 2002 compared to $31 million in the first six months of
2001. Debt issuance cost amortization and interest rates were higher in the 2001
periods as a result of the refinancing of LCR's debt in May and September 2000.
LCR's debt was refinanced again in July 2001 on a more favorable basis.
Net Income--LCR had net income of $63 million in the second quarter 2002
compared to $66 million in the second quarter 2001 and net income of $104
million for the first six months of 2002 compared to $108 million for the first
six months of 2001. In both the second quarter and first six months of 2002,
LCR's net income was negatively impacted by lower CSA crude oil deliveries
compared to the 2001 periods. LCR maintained crude oil processing levels through
increased purchases of spot market crude oil, which had significantly lower
margins in the 2002 periods compared to the 2001 periods and compared to CSA
crude oil margins. The second quarter and first six months of 2002 benefited
from lower energy costs and lower interest costs compared to the 2001 periods.
During the second quarter 2001, LCR benefited from a favorable impact due to the
timing of CSA pricing escalation clauses related to natural gas prices. However,
these benefits were substantially offset by the negative effect of an outage
related to Tropical Storm Allison, which also occurred in the second quarter
2001.
Second Quarter 2002 versus First Quarter 2002
LCR had net income of $63 million in the second quarter 2002 compared to net
income of $41 million in the first quarter 2002. The second quarter 2002 was
negatively impacted by a reduction in CSA deliveries. However, the second
quarter 2002 benefited from LCR taking advantage of strong operating
performance, higher aromatics margins and opportunities within the fuels
markets.
Throughout the second quarter 2002, CSA crude oil deliveries remained
constrained by the force majeure declared by PDVSA Oil in January 2002. As a
result, deliveries to LCR were reduced to 190,000 barrels per day during the
second quarter 2002. LCR processed 201,000 barrels per day of CSA crude oil out
of a total of 259,000 barrels per day processed in the second quarter 2002.
Compared to the first quarter 2002, CSA processing volumes were down 28,000
barrels per day in the second quarter 2002, while spot market volumes increased
by 26,000 barrels per day.
FINANCIAL CONDITION
Operating Activities--Lyondell's operating activities provided cash of $205
million in the first six months of 2002 compared to the first six months of 2001
when operations used cash of $24 million. The significant improvement in the
first six months of 2002 compared to the first six months of 2001 was primarily
due to a federal income tax refund and working capital reduction.
During the first six months of 2002, Lyondell received a $97 million federal
income tax refund related to income tax benefits recorded in 2001. The income
tax benefit was reflected in prepaid expenses and other current assets at
December 31, 2001.
Lyondell's working capital decreased during the first six months of 2002
compared to an increase during the first six months of 2001. The major
components of working capital - receivables, inventory and payables - decreased
by a net $32 million in the first six months of 2002, primarily due to decreases
in receivables and inventory. The decrease in receivables was due to improved
collection efficiency and an increase in the amount of receivables sold under a
receivable sales agreement, while the inventory reduction reflected higher sales
volumes. By contrast, in the first six months of 2001, these major components of
working capital increased by a net $37 million.
30
Investing Activities--The following table summarizes the capital expenditures of
Lyondell and its affiliates as well as their 2002 budgeted capital spending.
For the six months Capital Budget
ended June 30, 2002 2002
------------------------- -------------------------
100% Lyondell 100% Lyondell
Millions of dollars Basis Share Basis Share
- ------------------- ---------- ---------- ---------- -----------
Capital expenditures by:
Lyondell $ 12 $ 12 $ 55 $ 55
Equistar 29 12 94 39
LCR 42 25 104 61
------ ------
Total capital expenditures 49 155
Contributions to PO-11 Joint Venture 21 75
------ ------
Total 2002 capital budget $ 70 $ 230
====== ======
The 2002 capital budgets of Lyondell and its affiliates include spending for
regulatory compliance, maintenance and cost reduction projects. Lyondell
currently estimates that 2002 capital expenditures, including contributions to
the PO-11 Joint Venture, will be 5% to 10% below the annual budget amounts.
The following table summarizes Lyondell's distributions from and contributions
to its affiliates for the six months ended June 30, 2002.
Distributions
Millions of dollars from Contributions
- -------------------- Affiliates to Affiliates
--------------- ---------------
Affiliate:
Equistar $ - - $ - -
LCR 51 27
PO-11 Joint Venture - - 21
PO Joint Venture - - 2
LMC - - 4
Other - - 3
-------- --------
Total $ 51 $ 57
======== ========
In the first six months of 2002, there were no distributions from affiliates in
excess of earnings. LCR made cash distributions of $51 million, which were less
than Lyondell's $66 million share of LCR's net income for the first six months
of 2002. In addition, Lyondell contributed $27 million to LCR for capital
projects.
Effective May 1, 2002, LMC became a wholly owned subsidiary of Lyondell. The
impact of consolidating the LMC methanol operations, which had previously been
accounted for using the equity method, was not material.
During the second quarter 2002, Lyondell contributed $3 million to a mutual
insurance company formed by Lyondell and other companies in the industry,
including Equistar and LCR, to provide catastrophic business interruption and
excess property damage insurance coverage for its members.
Financing Activities--Lyondell paid a regular quarterly dividend of $0.225 per
share of common stock in the first two quarters of 2002, totaling $53 million.
On July 11, 2002, the board of directors of Lyondell declared a regular
quarterly dividend of $0.225 per share of common stock, payable September 16,
2002.
Lyondell also made debt payments of $16 million during the first half of 2002
primarily using proceeds of certain asset sales as required by the terms of the
credit facility.
See "Liquidity and Capital Resources" section below for a discussion of
Lyondell's debt and equity offerings and amendments to its credit facility, to
the BDO-2 transaction documents and to the indentures related to its senior
notes, occurring subsequent to June 30, 2002.
31
Deferred Tax Assets--The deferred tax assets classified as current assets
decreased by $254 million during the first six months of 2002. The reduction
primarily represented a change in the timing of anticipated realization of the
tax benefits of domestic net operating loss ("NOL") carryforwards. These
benefits, which are expected to be realized within the next few years, have been
reclassified from current assets to net long-term liabilities on the
consolidated balance sheet. Entering 2002, based on preliminary evidence of
increasing demand, management believed that 2002 operating results sufficient to
permit utilization of these NOLs were achievable. However, the rapid escalation
of raw material costs late in the first quarter 2002 had a significant negative
effect on Lyondell's first quarter 2002 operating results, particularly on the
earnings from its equity investment in Equistar. The uncertainties created by
the escalation of raw material costs and the political unrest in the Middle
East, as well as Venezuela, compounded the uncertainty as to the timing and
extent of the anticipated upturn in world economic activity. Accordingly, the
increased demand could be short lived and not representative of a robust
improvement in the economy. Based on the above factors, management concluded in
the first quarter 2002 that it was appropriate to classify the deferred tax
assets related to the NOL carryforwards as long term. There was no change in
management's expectation that these deferred tax assets will be fully realized.
Liquidity and Capital Resources--At June 30, 2002, Lyondell had cash on hand of
$215 million. In early July 2002, Lyondell completed debt and equity offerings,
as well as amendments to its credit facility, to the BDO-2 transaction documents
and to the indentures related to its senior notes, increasing cash by
approximately $150 million. See "Subsequent Events" below.
Lyondell believes that conditions will be such that cash balances, cash
generated from operating activities, and funds from lines of credit will be
adequate to meet anticipated future cash requirements, including scheduled debt
repayments, necessary capital expenditures, ongoing operations and dividends.
Subsequent Events--In early July 2002, Lyondell issued $278 million principal
amount of 11.125% senior secured notes due 2012, using proceeds of $204 million
to prepay $200 million of the principal amount outstanding under Term Loan E of
the credit facility and a $4 million prepayment premium. The remaining net
proceeds, after discount and fees, of approximately $65 million will be used for
working capital and general corporate purposes. Lyondell also issued 8.28
million shares of common stock, receiving net proceeds of $110 million that will
be used for working capital and general corporate purposes.
The amended and restated credit facility extended the maturity of the revolving
credit facility from July 2003 to June 2005, reduced the size of the revolving
credit facility from $500 million to $350 million, made certain financial ratio
requirements less restrictive, made the covenant limiting acquisitions more
restrictive and added a covenant limiting certain non-regulatory capital
expenditures. Also, after receiving consents from the holders of the senior
secured and senior subordinated notes, Lyondell amended the indentures related
to those notes. The principal indenture amendment removed a limitation that had
restricted payment of Lyondell's current $0.90 per share annual dividend to a
specified number of shares. As a result of the amendment, the $0.90 per share
annual dividend may be paid on all current and future common shares outstanding.
Lyondell paid fees totaling $17 million related to the amendments.
The availability of the revolving credit facility is reduced to the extent of
certain outstanding letters of credit issued under the credit facility, which
totaled $47 million as of June 30, 2002.
As a result of the early retirement of a portion of Term Loan E, and the
amendment and restatement of the credit facility, Lyondell will recognize the $4
million prepayment premium and the writeoff of unamortized debt issuance costs
of $7 million, or a total of $7 million after tax, as an extraordinary charge on
early debt retirement in the third quarter 2002.
Long-Term Debt--The amended and restated credit facility and the amended
indentures pertaining to Lyondell's senior secured notes and senior subordinated
notes contain covenants that, subject to exceptions, restrict sale and leaseback
transactions, lien incurrence, debt incurrence, dividends, investments,
non-regulatory capital expenditures, certain payments, sales of assets and
mergers and consolidations. In addition, the credit facility requires Lyondell
to maintain specified financial ratios and consolidated net worth, as defined in
the credit facility. The breach of these covenants could permit the lenders to
declare the loans immediately payable and could permit the lenders under
32
Lyondell's credit facility to terminate future lending commitments. Lyondell was
in compliance with all such covenants as of June 30, 2002.
Construction Lease--Construction of the new BDO-2 production facility in Europe
was completed in June 2002 and was financed by an unaffiliated entity that had
been established for the purpose of serving as lessor with respect to this
facility. Lyondell leased the facility under an operating lease for an initial
term of five years, beginning in July 2002. Future minimum annual lease payments
under the operating lease, amounting to $16 million per year using June 30, 2002
exchange rates and interest rates, are equivalent to interest on the final
construction costs, including interest incurred on the construction costs during
construction. The interest rate specified in the lease is based on EURIBOR plus
3.75%.
Lyondell may, at its option, renew the lease for four additional five-year terms
or may purchase the facility at any time during the lease terms at the lessor's
cost of construction. If Lyondell does not exercise the purchase option before
the end of the last renewal period, the facility will be sold. In the event the
sales proceeds are less than the lessor's construction costs, Lyondell will pay
the difference to the lessor, but not more than the guaranteed residual value.
The guaranteed residual value currently is estimated at 172 million euros, or
$170 million, using June 30, 2002 exchange rates. The decrease in the guaranteed
residual value from the 206 million euros estimated at December 31, 2001
resulted from construction costs being lower than the original estimate. Under
the transaction documents related to BDO-2, Lyondell is subject to certain
financial and other covenants that are substantially the same as those contained
in Lyondell's credit facility. In early July 2002, the BDO-2 transaction
documents were amended to incorporate the revised covenants from the amended and
restated credit facility.
Guarantees of Equistar Debt--Lyondell is guarantor of $300 million of Equistar
debt and a co-obligor with Equistar for $31 million of debt.
Joint Venture Debt--At June 30, 2002, the outstanding debt of Lyondell's joint
ventures to parties other than Lyondell was $2.3 billion for Equistar and $495
million for LCR. This debt is not carried on Lyondell's balance sheet because,
with the exception of the amounts described in the preceding section, Lyondell
has no obligation with respect to that debt. The ability of the joint ventures
to distribute cash to Lyondell is reduced by current weak business conditions
and their respective debt service obligations.
Equistar Liquidity and Capital Resources--Equistar's credit facility and the
indenture governing Equistar's senior unsecured notes contain covenants that,
subject to exceptions, restrict sale and leaseback transactions, investments,
non-regulatory capital expenditures, certain payments, lien incurrence, debt
incurrence, sales of assets and mergers and consolidations. In addition, the
credit facility requires Equistar to maintain certain specified financial
ratios. The breach of these covenants could permit the lenders to declare the
loans immediately payable and could permit the lenders under Equistar's credit
facility to terminate future lending commitments. Furthermore, a default under
Equistar's debt instruments which results in, or permits, the acceleration of
more than $50 million of indebtedness would constitute a cross-default under
Lyondell's credit facility.
Equistar amended its credit facility in late March 2002, making certain
financial ratio requirements less restrictive, making the covenant limiting
acquisitions more restrictive and adding a covenant limiting certain
non-regulatory capital expenditures. The amendment increased the interest rate
on the credit facility by 0.5% per annum. Equistar was in compliance with all
covenants under its debt instruments as of June 30, 2002.
Railcar Leases--Equistar leases railcars, under operating leases, from
unaffiliated entities established for the purpose of serving as lessors with
respect to these leases. The leases include options for Equistar to purchase the
railcars covered by the leases during a lease term. If Equistar does not
exercise a purchase option, the affected railcars will be sold upon termination
of the lease. In the event the sales proceeds are less than the lessor's
unrecovered investment, Equistar will pay the difference to the lessor, but no
more than the guaranteed residual value.
Early in 2002, Equistar's credit rating was lowered by two major rating
agencies, which permitted the early termination of one of Equistar's railcar
leases by the lessor. As a result, Equistar renegotiated the lease during the
first quarter 2002, resulting in a payment of additional fees and a $17 million
prepayment, which is being amortized
33
over the remaining lease term. The prepayment reduced the guaranteed residual
value and reduced future lease payments. The guaranteed residual value at June
30, 2002 was $85 million.
Two of the three Equistar railcar operating leases contain financial and other
covenants that are substantially the same as those contained in Equistar's
credit facility. A breach of these covenants could permit the early termination
of these railcar leases by the lessors. Under one of the leases, the covenants
were automatically updated with the March 2002 amendment to the credit facility.
Under the other lease, Equistar amended the covenants to incorporate the March
2002 amendment to the credit facility. The amendment, which was completed in the
second quarter 2002, required the payment of additional fees and a $16 million
prepayment, which is being amortized over the remaining lease term. The $16
million prepayment reduced the guaranteed residual value and the future lease
payments. The guaranteed residual value at June 30, 2002 was $72 million.
Equistar plans either to exercise the purchase option under this lease or to
enter into a new lease arrangement with another lessor covering the subject
railcars, prior to December 31, 2002.
The third railcar lease, with a guaranteed residual value of $34 million at June
30, 2002, terminates in December 2002. Equistar plans either to exercise its
option to purchase the railcars covered by this lease or to enter into another
lease arrangement with a new lessor covering the subject railcars.
The total guaranteed residual value under these leases at June 30, 2002, after
considering the prepayments noted above, was approximately $191 million. Based
on indications of lower current market values, Equistar has estimated a
potential loss on two of these leases and is accruing this amount ratably over
the remaining terms of the respective leases.
LCR Liquidity and Capital Resources--In July 2001, LCR obtained new credit
facilities, consisting of a $450 million term loan and a $70 million revolving
credit facility, both of which mature in January 2003. Management has initiated
the refinancing process and, based on previous experience in refinancing LCR's
debt and the current conditions of the financial markets, anticipates that this
debt can be refinanced prior to its maturity.
PROPOSED TRANSACTIONS WITH OCCIDENTAL
Early in 2002, Lyondell and Occidental agreed in principle to Lyondell's
acquisition of Occidental's 29.5% interest in Equistar and to Occidental's
acquisition of an equity interest in Lyondell. On June 3, 2002, Millennium
advised Lyondell and Occidental that it would not participate, under its formal
right of first offer, in the acquisition of Occidental's Equistar interest and,
accordingly, Occidental and Lyondell signed definitive documents on July 8,
2002. Closing of the transactions is subject to certain conditions, including
approval by Lyondell's shareholders. A special meeting of Lyondell's
shareholders is scheduled for August 21, 2002. Lyondell anticipates that these
transactions will close by September 1, 2002. However, there can be no assurance
that the proposed transactions will be completed.
CURRENT BUSINESS OUTLOOK
Third quarter 2002 operating results will largely depend on the strength of the
global economy. However, the near-term volatility of product markets as well as
the energy market are difficult to forecast. While there is optimism that the
global economic recovery will continue, management also believes that it is
prudent to remain cautious. As a result of the recent financing, Lyondell is
better positioned financially should there be disruptions or delays in the
recovery. Barring such delays, Lyondell expects the IC&D segment to perform at
slightly lower levels in the third quarter 2002 compared to the second quarter
2002. During the third quarter 2002, Lyondell anticipates that the IC&D business
segment will feel the full impact of recent propylene price increases, and MTBE
profit levels will experience some seasonal decline.
The same propylene price increase is expected to benefit Equistar, where some
continued financial improvement is expected based on momentum in prices for
polymers and co-products such as propylene. LCR's performance is expected to
decrease slightly in the third quarter 2002 from the second quarter 2002 due to
the contractual resetting
34
of certain formula-based costs within the CSA contract. Barring any significant
actions by PDVSA, CSA processing rates for the first two months of the third
quarter 2002 are expected to average 215,000 barrels per day.
RECENT ACCOUNTING STANDARDS
Effective January 1, 2002, Lyondell implemented Statement of Financial
Accounting Standards ("SFAS") No. 141, Business Combinations, SFAS No. 142,
Goodwill and Other Intangible Assets, and SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets.
In April 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No.
145, Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections. The primary impact of the statement
on Lyondell will be the classification of losses that result from the early
extinguishment of debt as a charge to income before extraordinary items.
Reclassification of prior period losses that were originally reported as
extraordinary items also will be required. Application of the statement will be
required in 2003.
In July 2002, the FASB issued SFAS No. 146, Accounting for Exit or Disposal
Activities. SFAS No. 146 addresses the recognition, measurement, and reporting
of costs associated with exit and disposal activities, including restructuring
activities, essentially codifying prior accounting guidance on these matters.
SFAS No. 146 will be effective for activities initiated after December 31, 2002.
Early application is permitted. Lyondell does not expect adoption of SFAS No.
146 to have any impact on the consolidated financial statements of Lyondell,
Equistar or LCR.
See "Results of Operations" and Notes 2 and 16 of Notes to Consolidated
Financial Statements.
Item 3. Disclosure of Market and Regulatory Risk.
Lyondell's exposure to market and regulatory risks is described in Item 7a of
its Annual Report on Form 10-K for the year ended December 31, 2001. Lyondell's
exposure to market and regulatory risks has not changed materially in the six
months ended June 30, 2002, except as noted below.
Certain federal and state governmental initiatives in the U.S. have sought
either to rescind the oxygen requirement for reformulated gasoline or to
restrict or ban the use of MTBE. On April 25, 2002, the U.S. Senate passed its
version of an omnibus energy bill, which, among other things, would ban the use
of MTBE as a fuel oxygenate. The Senate bill is not law and needs to be
reconciled with the U.S. House of Representatives' omnibus energy bill, which
was passed in July 2001 and which would not ban the use of MTBE. Lyondell's
North American MTBE sales represented approximately 27% of its total 2001
revenues.
Lyondell does not expect these initiatives to have a significant impact on MTBE
margins or volumes in 2002. However, beginning in 2003, several major oil
companies have announced plans to discontinue the use of MTBE in gasoline
produced for California markets. Currently, the California-market MTBE volumes
of these companies account for an estimated 15% of U.S. MTBE industry demand and
10% of worldwide MTBE industry demand. Lyondell intends to continue marketing
MTBE in the U.S. However, should it become necessary or desirable to
significantly reduce MTBE production, Lyondell would need to make capital
expenditures to add the flexibility to produce alternative gasoline blending
components at its U.S.-based MTBE plants. The profit margins on such alternative
gasoline blending components could be lower than those historically realized on
MTBE.
Additionally, Lyondell has an MTBE sales contract with BP p.l.c. ("BP"), which
expires December 31, 2002 and represents approximately 15% of Lyondell's
worldwide MTBE sales volumes. The contract provides for formula-based prices
that, historically, have been higher than market prices. If sales under the MTBE
sales contract with BP had been priced at then prevailing MTBE market prices,
Lyondell's 2001 net income would have been reduced by approximately $16 million.
Lyondell anticipates that the MTBE production previously sold under this
contract will be sold under market-based sales agreements and in the spot
market.
New air pollution standards promulgated by federal and state regulatory agencies
in the U.S., including those specifically targeting the eight-county
Houston/Galveston region, will affect a substantial portion of the operating
facilities of Lyondell, Equistar and LCR. Compliance with these standards will
result in increased capital investment during the next several years and higher
annual operating costs for Lyondell, Equistar and LCR. Recently proposed
revisions by the regulatory agencies would change the required nitrogen oxides,
or NOx, reduction levels from 90% to 80%. However, any potential resulting
savings from this proposed revision could be offset by the costs of stricter
proposed controls over volatile organic compounds, or VOCs. Lyondell is still
assessing the impact of these proposed regulations and there can be no guarantee
as to the ultimate capital cost of implementing any final plan developed to
ensure ozone attainment by the 2007 deadline. See Note 11 of Notes to
Consolidated Financial Statements.
35
FORWARD-LOOKING STATEMENTS
Certain of the statements contained in this report are "forward-looking
statements" within the meaning of the federal securities laws. Although Lyondell
believes the expectations reflected in such forward-looking statements are
reasonable, they do involve certain assumptions, risks and uncertainties, and
Lyondell can give no assurance that such expectations will prove to have been
correct. Lyondell's actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including:
o the cyclical nature of the chemical and refining industries,
o uncertainties associated with the United States and worldwide economies,
o substantial chemical and refinery capacity additions resulting in
oversupply and declining prices and margins,
o the availability and cost of raw materials and utilities,
o access to capital markets,
o technological developments,
o current and potential governmental regulatory actions in the United States
and in other countries,
o potential terrorist acts,
o operating interruptions (including leaks, explosions, fires, mechanical
failure, unscheduled downtime, labor difficulties, transportation
interruptions, spills and releases and other environmental risks), and
o Lyondell's ability to implement its business strategies, including cost
reductions.
Many of such factors are beyond Lyondell's or its joint ventures' ability to
control or predict. Any of these factors, or a combination of these factors,
could materially affect Lyondell's or its joint ventures' future results of
operations and the ultimate accuracy of the forward-looking statements. These
forward-looking statements are not guarantees of Lyondell's or its joint
ventures' future performance, and Lyondell's or its joint ventures' actual
results and future developments may differ materially from those projected in
the forward-looking statements. Management cautions against putting undue
reliance on forward-looking statements or projecting any future results based on
such statements or present or prior earnings levels.
All forward-looking statements in this Form 10-Q are qualified in their entirety
by the cautionary statements contained in this section and in Lyondell's Annual
Report on Form 10-K for the year ended December 31, 2001.
36
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
There have been no material developments with respect to Lyondell's
legal proceedings previously reported in the Annual Report on Form 10-K
for the year ended December 31, 2001, except as described below.
On April 30, 2002, Lyondell and Bayer settled the claims of Bayer in
relation to its March 2000 purchase of Lyondell's polyols business.
Lyondell had received notice of these claims in June 2001, which had
alleged various breaches of representations and warranties related to
the condition of the business and assets and which had sought damages
in excess of $100 million. The settlement included new or amended
commercial agreements between the parties, generally relating to the
existing PO partnership between Bayer and Lyondell. As a whole, the new
or amended agreements provide new business opportunities and value for
both parties over the next five to ten years. Concurrent with the
settlement, Lyondell made a $5 million indemnification payment to
Bayer. The settlement, including the indemnification payment, had no
net effect on Lyondell's financial position or results of operations.
Item 2. Changes in Securities and Use of Proceeds
In early July 2002, Lyondell received the consent of the holders of its
9.50% senior secured notes due 2008, its 9.625% senior secured notes,
series A, due 2007, its 9.875% senior secured notes, series B, due 2007
and its 10.875% senior subordinated notes due 2009 to amend certain
provisions of the indentures governing those notes.
The indentures were amended to revise an existing exception to the
"Restricted Payments" limitation in the indentures. Prior to the
amendment, the exception permitted Lyondell to pay its current $0.90
per share annual dividend on all shares of its common stock that were
outstanding prior to the amendment plus a limited number of additional
shares. The amendment permits Lyondell to pay that dividend on all of
those shares and on all additional shares that may be issued from time
to time in the future.
In addition, the amendments revised:
o in the senior secured notes indentures, provisions to allow the
proceeds from certain asset sales by certain Lyondell
subsidiaries that are not guarantors of the senior secured notes
to be used to repay indebtedness of those subsidiaries, rather
than indebtedness of Lyondell or subsidiaries of Lyondell that
are guarantors of the senior secured notes; and
o provisions in the indentures that would delay any designation of
Equistar or any other specified joint venture, as defined in the
indentures, as a subsidiary until that designation would not
result in a default under the restrictive covenants of the
indentures.
These changes give Lyondell increased flexibility to cause Equistar to
become a restricted subsidiary as defined in the indentures.
None of the amendments altered the interest rate or maturity date of
the notes, Lyondell's obligation to make principal and interest
payments on the notes nor the substantive effect of any other covenant
or provision designed to afford protection to the holders of the notes.
The supplemental indentures containing these amendments are filed as
exhibits to this Quarterly Report on Form 10-Q.
37
Item 4. Submission of Matters to a Vote of Security Holders
Lyondell held its annual meeting of stockholders on May 2, 2002. Please
refer to Lyondell's Quarterly Report on Form 10-Q for the quarter ended
March 31, 2002 for a description of the matters voted upon at the
annual meeting and the votes cast.
On June 19, 2002, Lyondell commenced a consent solicitation of the
holders of its 9.50% senior secured notes due 2008, its 9.625% senior
secured notes, series A, due 2007, its 9.875% senior secured notes,
series B, due 2007 and its 10.875% senior subordinated notes due 2009.
In July 2002, Lyondell received the consent of the holders to amend
certain provisions of the indentures governing those notes, as
described in "Item 2. Changes in Securities and Use of Proceeds."
The affirmative vote by the holders of not less than a majority of the
aggregate principal amount of each series of the debt securities was
required for the amendments to become effective. The votes in favor of
the amendments by the holders of each series of the debt securities
were as follows:
Aggregate Percentage of
Principal Amount Principal
Voted in Favor Outstanding
9.50% senior secured notes due 2008 $352,530,000 89.702%
9.625% senior secured notes, series A, due 2007 $807,822,000 89.758%
9.875% senior secured notes, series B, due 2007 $870,710,500 87.071%
10.875% senior subordinated notes due 2009 $423,443,000 84.689%
38
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
4.8 Amended and Restated Credit Agreement dated as of June 27, 2002
among Lyondell Chemical Company, the lenders party thereto,
JPMorgan Chase Bank, as Administrative Agent, Bank of America,
N.A. and Citibank, N. A., as Co-Syndication Agents and Societe
Generale and UBS Warburg LLC, as Co-Documentation Agents
4.11(a) Supplemental Indenture dated as of July 3, 2002 among Lyondell
Chemical Company, the Subsidiary Guarantors party thereto and
The Bank of New York, as Trustee
4.12(a) Supplemental Indenture dated as of July 3, 2002 among Lyondell
Chemical Company, the Subsidiary Guarantors party thereto and
The Bank of New York, as Trustee
4.13(a) Supplemental Indenture dated as of July 3, 2002 among Lyondell
Chemical Company, the Subsidiary Guarantors party thereto and
The Bank of New York, as Trustee
4.16(b) First Supplemental Indenture dated as of July 3, 2002 among
Lyondell Chemical Company, the Subsidiary Guarantors party
thereto and The Bank of New York, as Trustee
4.17 Indenture among Lyondell Chemical Company, the Subsidiary
Guarantors party thereto and the Bank of New York, as Trustee,
dated as of July 2, 2002
4.17(a) Form of Note dated as of July 2, 2002 (attached as Exhibit A to
the Indenture dated as of July 2, 2002 among Lyondell Chemical
Company, the Subsidiary Guarantors party thereto and The Bank of
New York, as Trustee, filed herewith as Exhibit 4.17)
99.1 Certificate of Chief Executive Officer pursuant to
Section 906 of Sarbanes-Oxley Act of 2002
99.2 Certificate of Chief Financial Officer pursuant to
Section 906 of Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K
The following Current Reports on Form 8-K were filed during the
quarter ended June 30, 2002 and prior to the date hereof:
Date of Report Item No. Financial Statements
-------------- -------- --------------------
June 21, 2002 5 and 7 No
June 25, 2002 5 and 7 No
July 8, 2002 5 and 7 No
39
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 thereunto duly authorized.
Lyondell Chemical Company
Dated: August 13, 2002 /s/ CHARLES L. HALL
----------------------------------------
Charles L. Hall
Vice President
and Controller
(Duly Authorized and
Principal Accounting Officer)
40